The implosion in the enterprise value of Reader’s Digest is astonishing — from $3.8 billion two years ago to somewhat less than $1 billion now, depending on how much the equity of the new company will be valued at when it emerges from bankruptcy, and assuming, generously, that the new debt is valued at par. Chelsea Emery talked to lawyer Richard Mikels:
“One way to deleverage is by turning debt into equity. That will happen more and more throughout the economy over the next several years,” said Mikels.
That’s true. On the other hand, when private-equity shop Ripplewood bought the magazine company for $1.6 billion in 2007, layering on $2.2 billion in debt, the simple debt-to-equity ratio was 1.375 — not enormous. The new Reader’s Digest will have $550 million in debt, which means that if the equity is worth less than $400 million, it will actually be more levered than the old, height-of-the-credit-bubble deal.
So what is the enterprise value of Reader’s Digest? In the 12 months to March 31, it had Ebitda of $280 million, which sounds impressive until you notice that the number is made up of a $995 million net loss, plus $1.24 billion in “adjustments”. In other words, it’s useless. If you look at the slideshow for the most recent quarter, you’ll see some more useful numbers. Revenues were $479 million — down 17% year-on-year. “Product, Distribution & Editorial Expenses” were $207 million, down 15%; “Promotion, Marketing & Administrative Expenses” were $270 million, down 19%; and the operating loss for the quarter was stable at $7 million.
In other words, Reader’s Digest isn’t making money even with zero debt, let alone $550 million, and it wasn’t making any money a year ago, either. How much money would you pay for the privilege of losing $7 million a quarter before interest payments?
It’ll be interesting to see where the market values that $550 million in new debt: I suspect it’ll be somewhere less than par, depending on what kind of coupon it carries. And I suspect too that the value of the equity will be rather less than $400 million. Nothing’s really changing at this company: there’s no talk of layoffs, or closing unprofitable properties, or anything like that. The owners have an interest in keeping the company big, because that’s the only way it’ll ever be able to pay off $550 million in debt. Essentially, they’re keeping the company’s embedded leverage, and buying themselves an option: if the advertising market takes off, then the new, leaner Reader’s Digest could become very profitable very quickly.
But that’s not the base-case scenario: print media is hardly a growth industry these days. So don’t be too surprised if this isn’t the last we hear about this particular company’s troubles.