Mecom Group is a newspaper publisher I’ve been looking at over the last couple of days. It is an interesting special situation which looks appealing. A cash offer has been made for the shares at 155p and the shares currently trade at 140p. The takeover has already been approved by shareholders, but the deal has been delayed while a regulator conducts an investigation into whether it will impede competition. Their preliminary findings were that it does which is why the market is pricing in a big discount.

Regardless of whether the takeover happens, the company currently trades at an EV/EBITDA (adjusted) of just 2.5 and will surely be an acquisition target for other companies if this deal falls through. If the takeover fails you will be left holding a cheap company and can probably buy more shares even cheaper after it is announced. Alternatively if it happens you’ll net an 11% gain, probably in around 2-3 months.

The business

Mecom publishes 20 paid for titles and boasts one million subscribers. Revenue is split 60:40 between the Netherlands and Denmark respectively. Its revenue is derived from newspaper sales (48%), advertising (36%) and other sources (16%).

Netherlands

Mecom has a 63% share of the regional newspaper market and a 23% share of the national newspaper market. It seems to operate the kind of local newspapers that Warren Buffett has been investing in recently. Over 95% of its ‘daily’ readers are subscribers, leading to fairly stable, though still declining, sales.

Denmark

Mecom’s revenue is split 55:45 between national and regional titles respectively. It is one of only 2 big operators in Denmark, having 25% market share and JPPol having 29%. No other publishers have a market share greater than 10%.

It is no secret that newspaper sales are in terminal decline, so at the end of 2013 Mecom launched a paid for model for their online presence, but offering free access for existing subscribers. This has led to an increase in ‘other revenue’ for H1 2014 of 13%. Of the other two revenue streams, newspaper sales are in a slow decline of around 2-5% a year and advertising revenues are quickly deteriorating at a rate of 10-20% a year. Overall revenue has hence been declining.

H1 2014 2013 2012 2011 2010 Revenue decline (excluding disposals) -8% -11% -9% -2% -2%

Management however have done well in managing this period of decline. In 2010 EBITDA margin was 10.8% and fell to 9.7% in 2011 but recovered to 10.9% (adjusted) in 2013. The company has been cutting and managing costs to keep margins in tact.

Over the last few years management has also acted to reduce the company’s debt load. Through a series of disposals and cash generation, net debt has been reduced from €300m in 2011 to just €46m currently, leaving it in a much stronger position.

Risks

This company isn’t without its risks. The biggest will be how it continues to manage revenue declines and whether it can try to stem this somewhat with the new paid website subscription model. This has worked well for titles such as the Wall St Journal and Financial Times, but those subscribers tend to be less price sensitive than tabloid and local news readers.

Another risk I see is the large volume of trade payables on its balance sheet, standing at €208m currently. Its current ratio is just 0.3 which means it could be heavily reliant on debt to fund working capital changes. It has operated with this high trade leverage for many years so seems able to manage it. But in the last few years has been slowly paying this down. This adds more cash costs to working capital and hence reduces free cash flows. Dividends aren’t expected to be paid in the short term.

Conclusion

Mecom strikes me as a distressed company, but that is to be expected when selling at an EV/EBITDA of just 2.5. The new online subscription model seems to have added some much needed revenues, however declines in advertising continue to bring total revenue down. Over time, as advertising becomes a smaller proportion of total revenue, it should see overall declines reduce in size. The trade payables on the balance sheet are a worry to me, and why I haven’t put my own money into this, but as I’m extremely cautious by nature I’m sure some readers will be interested despite this. Overall the cheapness of the company and the chance of a quick short term gain make this a company worth looking at in my opinion.

Disclosure: Author has no position in MEC.L