Was it a failed investment thesis or a foolish capital structure? I’ve concluded the answer is a resounding “Both.”
Avista Capital Partners paid $530 million for Minnesota’s Star Tribune in 2006. On paper (ha), the demographics of Star Tribune’s readership look strong: above average income, high literacy rates, high homeownership, growing population. But in reality, strong demographics don’t mean sh*t in an industry that’s weakening beyond repair.
Ads, subscriptions, and classified ads, the lifeblood of a newspaper, have migrated away from print since Al Gore invented the Internet in 1999. So how could a private equity firm expect a newspaper to service five turns of leverage?
Especially with no magical plan in place, and upon inspection, Avista’s strategy looks pretty weak. That’s proven to be the case, as the firm wrote down $75 million of its $100 million equity slab earlier this year. Today we learned it has defaulted on a quarterly debt payment and may be headed toward Chapter 11.
I tried to pin down the exact thesis of Avista’s investment in the Star Tribune. The firm didn’t want to comment. A press release from the deal paints it as if it’s not even a turnaround situation. A Buyouts interview called it a “contrarian play,” which fancies the market will somehow magically return. I think even in 2006, media professionals knew deep down that every newspaper deal requires a deeply transformative strategy. Avista reps were quoted hailing the Trib’s “leading market position,” but fail to point out that it’s leading a failing market.
But even is Avista did have a winning internet makeover plan, it wouldn’t have addressed the essential lost revenue stream that will surely not bounce back. I’m talking about classifieds,the most profitable part of the paper. Even if a newspaper develops its own help wanted and used automotive classified web sites, they can’t compete with the host of specialty sites already out there offering the same thing.
This mindset is what I believe led to Star Trib’s suffocating capital structure. I understand Avista paid around 7x to 8x cash flow for the company, which looked like a deal when the major newspapers were trading at 10-13x. But now big regional daily papers are being valued at around 5-6x. Furthermore, Avista threw in 18% equity for a company that was already hurting from advertising migration. Online development aside, what kind of investor piles debt on an ailing operation?
To be fair, there’s the belief that, with decreased cash flow a sure bet, the amount of leverage doesn’t even matter. Either way debt will become too heavy a burden at some point, and the more equity in the mix, the more there is to lose. The guys at Avista are very smart (and having no problem raising their second fund). But at the end of the day, that’s all PE in newspapers is—a losing battle.