Business Models – The Great Refactoring

The reports of the death of the news business have been greatly exaggerated.

In fact, the COVID pandemic has helped demonstrate which news business models will succeed in the coming years. It has separated winners and losers with ruthless efficiency.

Think about all the successful news businesses this summer.

Subscription News. The New York Times now has 5.7mm digital subscriptions, generationing more than $500mm in annualized digital revenue. Similarly, Dow Jones passed 2mm digital subscribers to the Wall Street Journal. While COVID hurt ad revenues, the long term outlook for premium news products are strong, as digital subscriptions create a long term, durable recurring revenue model that scales, as incremental costs are minimal.
Cable News. The number one TV network in America this past summer? Fox News. Fox News beat all the broadcast networks and all the cable networks, even with the return of sports. While the pandemic and the election drove ratings for news networks, the dual revenue model delivered by cable retrans fees and advertising makes cable news networks valuable businesses.
Local TV News. Station groups, which run significant local news organizations, continue to be attractive businesses. Leading independent station group, Nexstar threw off nearly $300mm in free cash flow in a COVID depressed second quarter. While many stations are privately held, or buried in media conglomerates, they continue to be cash machines. Again, retrans fees, largely due to local news and sports, when added to local and political advertising, make TV stations a solid business.
Documentary Filmmaking: Netflix, Hulu, Amazon, HBO, Showtime, and PBS are all making significant investments in documentaries – both feature length and series. Streaming services are booming, and original documentaries are a cost effective way for them to differentiate themselves.
Podcasting. The media day is expanding, as audio news eats up time that can’t be spent on screens. There are now more than 750,000 podcasts, with podcasting advertising forecast to top $800mm in 2020, despite having growth slow by the pandemic.

COVID is generating a massive amount of news to cover, and an audience that needs to understand it with plenty of time on its hands.

In terms of impact, mobile video has dramatically changed how we hold the authorities to account. Videos of police brutality have captured the attention of Americans, hopefully leading to meaningful criminal justice reforms. As many have written, the news media’s coverage of Jim Crow in the 1960s helped garner broad based support for the Civil Rights movement.

While the big companies with quality content are succeeding, there are opportunities for independent voices as well. New distribution mechanisms are making it possible for anyone with an internet connection, a microphone, and a camera, to compete as a journalist.

So why is the outlook for journalism so grim? The answer is the dying newspaper business. Pew reports that newspapers employed 71K newsroom personnel in 2008. Newspaper newsrooms are down to 35K people in 2019, and likely even lower during the pandemic. Other newsrooms have grown from 43K to 53K, but the net result is 25K fewer journalists in the past 10 years. That’s a lot on percentage basis, especially since so many of those folks are, by nature, loud.

Moreover, making a living as an independent blogger or podcaster is hard – when you try to cover the news. On the flip side, if you are a good Tik Tok dancer, Instagram personal trainer, or Twitch video gamer – you can make bank on the web as an independent influencer.

Newspapers are dying for a simple reason – they have been unbundled. Historically, news had a monopoly on distribution of classified and retail advertising. When combined with subscription fees, the newspaper was a cash machine. The internet took away the ad dollars – vertical specialists like Zillow, Indeed, and Autotrader took away classifieds, while retail advertisers migrated to Google, Facebook, and now Amazon.

In the meantime, consumers stopped reading the print paper. They still want news, but not on paper 24 hours late, and not on a website that replicates the newspaper. They want TV, or a podcast, or perhaps from a high end subscription service.

Private equity swooped in and harvested what’s left. In trying to maintain high margins, they defunded the newsroom and created an inferior product. Subscribers and readers moved on, and mid-sized papers went into the death spiral. COVID undoubtedly will accelerate this trend, and the debt piled on these assets will likely make them even shakier.

The loss of newspapers is felt at the local level. There is plenty of coverage of Washington D.C. Major metros like New York get covered both by general interest newspapers and specialist verticals like Politico for politics and Chalkbeat for education. There are plenty of new voices being heard on digital platforms from Instagram, to Twitter, to YouTube, to TikTok.

But mid-sized and small towns are becoming news deserts, as reported by UNC. More than 2000 newspapers have disappeared in the last 15 years. Half of US counties only have one newspaper (usually a weekly). Pure play digital sites, especially in smaller regions, have struggles. And the quality of “news” content on social media ranges from extraordinary to thought provoking to silly to mundane to flawed to in some cases, dangerous.

Back when I was in college, the alumni of my college paper would come in and talk about the golden age of news and how the industry was in decline. That was in the mid 1990s. I suspect there were similar conversations in other eras. Journalists are often a grumpy bunch. It is tough to get a job in newspapers now.

But we’re making a mistake getting hung up on national news. Sure, publishers that chased clicks on social media to support an ad model have struggled. COVID has proven that arbitraging Facebook and Youtube traffic is simply not a sustainable strategy. Still, society can easily survive the loss of many click farms and the death of traditional media titles that ruined their brands in the name of cheap traffic and ad dollars.

There are plenty of examples of national news organizations making money. Those that have bet on a high quality product, supported by dual revenue stream business models (subscriptions/ retrans fees and ads), are doing best. A healthy NY Times, Wall Street Journal, and Washington Post, and not to mention strong subscription titles like the Atlantic, the Economist, the New Yorker should do a fine job holding the federal government accountable.

We would all be better suited honing in on the problem of local news – which is the big problem right now, and acknowledge that national news creation has arguably never been better in terms of breadth, depth, and scope. News deserts are destined to get worse, allowing local governments to run without much accountability.

Innovative non profits like the Texas Tribune have come up with an interesting model. Without the profit motive, institutions can reinvest all their proceeds into news coverage. This might be particularly well suited to local news, which is tough to support – especially for important, non-clicky content about school textbooks, budget debates, and underserved communities.

Getting that content to a broad audience remains a challenge. The more insidious problem is distribution (what gets read or viewed by whom on what platform), but that’s for another blog post.

No one ever runs the sensitivity case for pandemics.

Now that we’re here, I think anyone who operates in physical space should be very afraid to see what happens when they put the assumptions around the “Pandemic Case” into the model.

All public spaces – restaurants, offices, theme parks, hotels, condos – drive revenues and profitability around density and throughput. For years, we’ve typically optimized these environments to service the most people in the minimum amount of time.

Indeed, business schools teach how to optimize a restaurant’s throughput as part of the core curriculum to demonstrate the importance of throughput to the business model.

Now those models need to be refactored, and I suspect when more realistic assumptions go in around density and throughput, business cases will suffer.

A big part of the problem is how we value assets and greenlight projects. All projects have hurdle rates to get approved, tied to their sponsor’s cost of capital.

Analysts plug assumptions into the model and say, here is “what you have to believe” to justify a valuation. Since everyone wants the deal to get done, “What you have to believe” becomes what everyone believes. Models are built, deals are done, projects are approved.

Analysts everywhere can quickly see which variables can be tweaked to get to make the model work and generate enough profits to get approved. Increasing utilization is always the killer way to increase a model’s return.

For public space, utilization is measured from throughput. If you can service 30 parties an hour, with a bit more work and a bit tighter tables, maybe you can service 36. Cash flow increased by 20%, which could be the difference between a 10% loss and a 10% profit.

Even entrepreneurs, who may have an army of young analysts to vet their business plans, will fall prey to the same temptation. People are optimistic and want to pursue their projects.

What started as a theoretical exercise has real world consequences. The net result is that we’ve been crowding more and more people into smaller and smaller spaces.

COVID blows that up. Physical spaces will need to be refactored, reducing throughput and density. Many assumptions may have been unsustainable pre-COVID. Under social distancing – with 50% reduction of capacity and six feet distances – they definitely don’t work. Moreover, even after the pandemic, consumers may not want to go back to crowded spaces for a long time.

In some cases, restaurants will move to grab and go, increasing throughput. Retailers who survive can shift to pickup to try and maintain sales per square foot.

But it is really hard to make work. And companies that make the transition will be in a very strong position to renegotiate with landlords, since not everyone will make it.

At the end of the day, the rent might simply have to go down, leading to reduced asset prices.

The market appears to be already reflecting this, as Retail REITs are down more than 40% YTD through April. Some of that is probably bankruptcy risk given the current liquidity challenges, some of that is the continuing secular decline in retail, but I also suspect folks who understand this stuff better than I do are running their pandemic and post pandemic cases.

As a postscript to New Yorkers everywhere, the alternative to lower rents will be even more empty storefronts – a blight that was hurting New York City even before the pandemic.

Getting the city up and running again will likely depend on rebalancing rent and space.

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