Morgan Stanley Fires A Shot Across the New York Times’ Bow And Basically Tells Management to Shape Up Or Ship Out, But this Is No Knight-Ridder, There Are Two Classes of Shares And The Sulzberger Family Owns The Shares That Really Count

Philip M. Stone April 20, 2006

The financial geniuses who have long invested in newspaper companies because of their 20% plus operating margins, but who apparently held on too long and didn’t sell when shares were high, are growing increasingly weary of seeing newspaper stock market values at multi-year lows, and after their victory in forcing Knight-Ridder to sell itself they now have their sites on the New York Times Company.

But unless the US courts rule that dual-class shares are not legal, the Sulzberger family will sleep easy. They may own less than 1% of the company’s total value, but through a family trust they posses 88.7% of the controlling B shares and that means no one is going to force the family to sell.

Even so, Morgan Stanley Investment Management Limited went public this week in voicing its displeasure at the Times financial performance  -- the shares have dropped 52% since they peaked in June, 2002 -- and it said it has privately told Times’ management of its displeasure at the company’s performance but “the Board and management have failed to take the actions necessary to improve operational and financial performance.”

That’s pretty strong language from the company’s fourth largest shareholder with  5.8% of the class A shares – class A shares get to elect only four members of the Times’ Board whereas the Class B shares elect nine members.

The largest shareholder is Private Capital Management (PCM) with 14% of the class A shares, and if that names strikes a bell it is because it was that company that was also the largest shareholder in Knight-Ridder and with the help of the second and third largest shareholders they insisted that Knight-Ridder sell itself.

The difference there was that Knight-Ridder had only one class of shares – there were no controlling B shares held by the Knight or Ridder families – and thus it was open season on the newspaper company. The Sulzbergers don’t have that particular worry, but on the other hand they don’t really need Wall Street turning against them, either.

In an effort to console investors the Times this week raised its quarterly dividend by one cent, to 17.5 cents -- the last thing one would have expected the company to do when its financial results are about 1-2% growth and with as high a debt load as it carries. The company said, however, it was an indication of its faith in the future growth – basically an investment to be paid from future profits to keep shareholders quiet today -- but staff at the various Times properties shouldn’t be surprised if a new round of cost cuts are on the way to pay for that extra penny’s dividend.

That it was Morgan Stanley that went public with its unhappiness is unusual. The company is known as one that strongly supports the management of companies that it invests in; obviously it felt its private talks were getting it nowhere and it fired the first public shot.

Morgan Stanley refused also to vote in the election of Class A Board members and it said that other shareholders also refused to vote, about 31% of the votes withheld. The Times Company says the figure was more like 28%, but whatever, that is a high percentage of voters who did not take part – another clear message to Times’ management that all is not well vis a vis their financial performance and the investment community.

The problem for newspaper companies is that they have tried just about everything one could do to get their share prices up – they’ve spent millions in share buybacks, increased dividends, cut costs into the bone, invested in the Internet – but the markets still look at them as newspaper companies with little real growth potential except from their Internet properties, and the only time their shares seem to go up is when there appears a possibility the property might be put up for sale.

Indeed the Times’ shares actually rose 32 cents because of the Morgan Stanley rebuke for some people thought this might be very beginning of a campaign to get the Sulzbergers to do more to improve profitability including selling the company, but hardly a soul on Wall Street believes the Sulzbergers will ever go voluntarily, and that means unless dual-class shares are ruled by courts as unfair and illegal there’s nothing the investors can really do.

Hassan Elmasry, a Morgan Stanley managing director, said he wanted to see the two classes of stock go. He was not interested in selling the company, he said, but that ordinary shareholders needed more input at board level to improve management performance.

And pushing the buttons he knows gets shareholder attention, he said, “Despite significant underperformance, management’s total compensation is substantial and has increased considerably over this period (the June, 2002 peak until today).”

In setting up dual voting shares newspaper owners hid very successfully behind freedom of the press cries. Two classes of shares were necessary to ensure that no investor could be powerful enough to influence editorial integrity, the families would argue as they went public, and who would argue with that? Family control of the majority board voting shares would ensure editorial’s safety. It also conveniently allowed the family to continue running the company.

Knight-Ridder actually showed that such protections were not necessary. After it went public with just the one class of voting shares, it earned a reputation within the American media for a high quality editorial product – indeed one investor complaint was that Knight-Ridder did not cut editorial back as much as some thought they should to increase profits.

Morgan Stanley noted what it sees as the major bug in the two-class share system. Although the dual-class voting structure “may have at one time been designed to protect the editorial independence and integrity of the news franchise it creates special privileges as well as responsibilities that the company has failed to meet,” the company said.

Investment companies, particularly those with investment banking arms, don’t usually go public with such assertions even if Chinese Walls exist. But with the Knight-Ridder sale nearly under their belts, and seeing no real growth out of newspaper companies except in what they could be worth to someone else, the pressures on investment firms to at least try and get back the money they have invested let alone make a profit, is enormous. And that pressure translates into pressure on company senior officials to do the necessary to get the share price up, including putting the company up for sale.

The fact is the Sulzbergers aren’t going anywhere, some senior management heads could roll depending how far loyalty goes, costs will be tightened as never before, the Internet properties will be called upon to provide more and more profit, something will have to be done with the Boston Globe in particular that is seriously dragging down the corporate numbers, but at the end of the day those dual shares will prevail.

But the negative public squabbles between investors and management will only drive the shares lower – and that is surely the last thing Morgan Stanley and Times management want.

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