YP CEO David Krantz wanted to dispel a widely held notion when we spoke with him late last week about the company he now runs, newly acquired from AT&T by the private equity firm Cerberus Capital Management.

“This is not a cash-flow, harvest the business approach,” he said, perhaps referring to the reputation of YP’s new owner as a hard-nosed operator. He insists that Cerberus sees its latest acquisition not as an old line business with cash to extract, but as a billion dollar digital platform with lots of upside.

Krantz was very direct in saying that the YP business was starved for investment under AT&T, which has other investment priorities like its wireless network, among others.

Now, he has money set aside for investment, and plenty of financial maneuverability, despite a debt load of about $1 billion, which he describes as very light for a company with $3.3 billion in revenue. The company’s debt works out to roughly 1X EBITDA, which is low compared with most of YP’s peer companies.

We will share more from our conversation next week in a The Kelsey Report Advisory.

Take a look at our previous blog coverage of this deal:

AT&T Completes YP Sale

For Better or Worse, AT&T Deal Sets Bar for Yellow Pages

Is It a Done Deal for AT&T’s YP Business?

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AT&T has finalized the sale of 53 percent of its Yellow Pages operation to the private equity firm Cerberus Capital, which has launched YP Holdings LLC. The new company will be led by newly appointed CEO David Krantz, who had been running AT&T Interactive, the digital arm of AT&T’s directories business.

The remainder of the leadership team was not announced but is said to include executives from the Directory Operations and Interactive wings of the business, as well as representatives of the buyer.

YP remains the world’s largest directory organization with revenues of $3.3 billion in 2011, about 30 percent of which come from digital.

The new company has a number of decisions to make, including whether to merge the Advertising Solutions and Interactive business units. The common branding YP suggests that decision may already have been made. Cerberus is likely to take its time with any big decisions on the organization, but it will probably move quickly to focus on costs.

More long term, the company needs to decide if it wants to continue investing in product development or focus more on establishing a “trusted advisor” relationship with its mainly small-business advertisers and help them acquire new customers and manage existing ones.

The deal’s completion follows AT&T’s Q1 earnings release, which showed some signs of improvement in the Yellow Pages revenue picture.

In the current environment, improvement comes in the form of a lower rate of decline. AT&T’s Q1 Yellow Pages results were revenues of $744 million, down from $868 million in Q1 2011. This works out to a 14.3 percent decline. In Q1 2011, the decline was 16.6 percent. In Q4 2011, AT&T shed from 15.7 percent from the Advertising Solutions business and 16.3 percent for the full year.

AT&T didn’t offer any color on the Q1 results nor did it disclose digital revenues, as it did in all quarters through 2011. We can expect much less transparency on the former AT&T directories business going forward.

The slowing of revenue loss seems to have come at the expense of margin. Q1 EBITDA for the directories business was $197 million, down a whopping 33.4 percent. The publisher’s EBITDA margin fell to 26.5 percent, from 34.1 percent in Q1 2011.

We’ve been following the adventures of AT&T pretty closely. Take a look at some of our recent posts on this topic:

For Better or Worse, AT&T Deal Sets Bar for Yellow Pages

Is It a Done Deal for AT&T’s YP Business?

AT&T Opens Door to YP Sale

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AT&T has sold a 53 percent stake in its Yellow Pages business to the private equity firm Cerberus Capital for $950 million. This works out to a valuation of $1.8 billion. The deal involves both the Advertising Solutions and AT&T Interactive operations.

Significantly, AT&T has elected to hang onto 47 percent of the business. AT&T may be reasoning that a private equity firm would be more willing and able to make the substantial changes to the business needed to unlock value. If it works, AT&T will see the value of its sizable remaining stake grow, perhaps substantially.

AT&T Advertising Solutions produced EBITDA of $1.03 billion in 2011 (2011 revenues were $3.3 billion), so the deal works out to about a 1.75X EBITDA multiple. In historic terms, that is awfully, awfully low, but it reflects how investors view the directory business today. The intensely negative view of the legacy Yellow Pages business (somewhat overdone in our view, given the residual value in the print product) will lead some companies to consider shutting down their print operations just so they can be valued as an online rather than a legacy business. This is why so many companies are telling investors that within a few years, print will not account for more than a quarter of revenues.

We think this deal is a steal for Cerberus. As we wrote when reports of this deal first surfaced, had AT&T sold its directory business at peak multiples back in 2007, the business could easily have fetched more than $10 billion. It’s been a tough road for directories since then, but the AT&T business is better than this fire sale price suggests. The company has a huge sales force, strong brands and deep executive talent, and it still produces $1 billion in EBITDA. If Cerberus is wise, it will retain AT&T’s top talent, people like Mike Fordyce, David Krantz and many others.

The AT&T deal is likely to have repercussions around the global industry, as investors in other directory companies will be dismayed that the largest company in the industry has just sold at such a low multiple. This could compel debtholders at other publishers (Dex One, SuperMedia) to find a deal while they think they still can. Another perhaps more likely scenario is that investors will sit tight and see how this deal plays out. As long as the businesses are generating cash and servicing their debt, why do a fire sale? Longer term, we think consolidation is inevitable among the major U.S. directory companies.

The only reliable prediction is that Cerberus will not stand pat but will take some dramatic action with AT&T, either to strip out costs or reposition the business (probably some combination of both). Will it combine the Ad Solutions and Interactive businesses? What about a roll-up scenario? Will it rationalize its print footprint, culling under-performing markets? These and other options are likely on the table.

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Bloomberg News is reporting today that AT&T is close to a deal to sell a majority stake in its Yellow Pages operation (AT&T Advertising Solutions, the world’s largest directory company, in a deal that prices the business at US$1.5 billion. This price works out to a multiple of 1.5X EBITDA. AT&T is expected to hang on to a large minority stake in the business.

In 2011, AT&T Advertising Solutions generated topline revenues of US$3.3 billion and EBITDA of US$1.0 billion, representing declines of 16 percent and 24 percent, respectively. AT&T indicated on its Q4 earnings call that it was open to selling its directories business, and since then there have been persistent rumors of an imminent deal.

To put matters in perspective, when a consortium of private equity players acquired Yellow Pages Group (new Zealand) in early 2007, the multiple was 14X EBITDA. That deal was considered the last hurrah of high-multiple directory deals. Had AT&T sold its directory business at the same time at just half of New Zealand’s gaudy 14X multiple, the take would have been US$13.6 billion.

Following the New Zealand deal (which was recently converted to equity), what had been manageable top-line declines accelerated to the point where leverage became burdensome. Bankruptcies and huge write downs soon followed, and many directory companies continue to struggle with too much debt.

With that history and the uncertain future of Yellow Pages revenues and margins, it’s no surprise that the multiple has been squeezed to such a modest level. Cerberus Capital is the reported suitor for AT&T’s Yellow Pages business. According to the private equity firm’s website, it focuses on investing in under-valued assets, emphasizing long-term value creation. At a sufficiently low multiple, AT&T should be cash generative enough to pay its buyers back in short order. The question is whether Cerberus will see an opportunity for long-term value creation or just choose to cash out quickly.

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On yesterday’s AT&T earnings call, CEO Randall Stephenson opened the door to the possibility that the telecom giant would sell off its directories business.

Here is what Stephenson said on yesterday’s earnings call: “That’s one area that we’re going to obviously take a very hard look at, and while I don’t want to give any indication on M&A activity, it’s one of these areas that we’re going to have to decide, do we keep it, do we restructure it, as we move forward.” The quote is from an article in the St. Louis Post-Dispatch.

In our annual Picks and Predictions Advisory released earlier this month, The Kelsey Report predicted that at least one of the few remaining telecoms owning a directories business would divest it this year.

Here is what we said: “2012 could end with zero publishers of any significant size under telecom ownership. The most likely scenario is that one of the two biggest operators still under telecom control, AT&T or Sensis, will be sold. AT&T seems to be the most likely candidate.”

AT&T Advertising Solutions, the Yellow Pages operation, ended the year down 16.3 percent, to $3.6 billion. BIA/Kelsey estimates the company had print revenues totaling $2.3 billion, down almost 23 percent over 2010. Online revenue growth was just 3.3 percent, to 997 million. Online growth declined throughout 2011, from 6.8 percent growth in Q1 to a 1.2 percent decline in Q4. Since 2006, BIA/Kelsey estimates the Advertising Solutions business has lost about US$2.6 billion in top-line revenues.

AT&T’s directories operation is a two-headed monster that comprises the St. Louis-based Advertising Solutions business, which includes print directories and the sales force, and California-based AT&T Interactive, which operates the YP.com platform and develops digital products. Advertising Solutions is led by Jose Gutierrez, and the interactive business is led by David Krantz. Both units report to Ray Wilkins, who is CEO of AT&T Diversified Businesses.

Wilkins and Forrest Miller, who runs strategy and M&A activity for AT&T Diversified Businesses, have recently announced their retirements from AT&T. These departures will leave the organization short two senior leaders with ties to AT&T’s directories business. Miller led the directories business when it was under the SBC corporate brand.

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AT&T Interactive announced this week the launch of in-app ads on its mobile ad network, an extension of YP Local Ad Network. In-app local ads are served within mobile apps based on a user’s location. Earlier this year, AT&T Interactive piloted in-app advertising and reported generating more than 750 million local ad impressions in three months. The goal of in-app local ads is two-fold: offer participating mobile publishers an enhanced way to generate revenues and help advertisers increase potential reach.

“We’re taking advantage of the power of local advertising and the proliferation of location-aware mobile handsets,” said AT&T Interactive President and CEO David Krantz in a statement. Krantz briefed BIA/Kelsey that mobile now makes up a third of AT&T’s local search.

Last month we predicted in our mobile local forecast that local mobile advertising will grow from 51 percent of total mobile advertising to 70 percent by 2015.

Mobile ad networks will be in the spotlight at BIA/Kelsey’s DMS ’11: The Summit for Small-Business Advertising Solutions, Sept. 21-23, in Denver. We’ve got the following session on deck, with BIA/Kelsey’s Mike Boland moderating:

Mobile Ad Networks: The Stakes for SMBs
Mobile brings new customers in different parts of the purchase funnel. How should SMBs engage? The emergence of local mobile ad networks is a major step in bringing volume and engagement to SMBs. We’ll hear from industry leaders.

Dan Gilmartin, VP Marketing, Where
Craig Hagopian, COO, xAd
Greg Hallinan, CMO, Verve Wireless

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First-quarter 2011 earnings reports are trickling in across the global Yellow Pages industry, and while the results are still largely negative, there are some signs that the rate of revenue decline is leveling off. This is consistent with what BIA/Kelsey has forecast for the Yellow Pages industry — a leveling off of print declines leading to a return to very modest growth by 2013.

SuperMedia, for example, reported that its advertising sales for the first quarter were down 17.8 percent this year, compared with a 20.4 percent drop in Q1 last year. Operating revenues were also down 17.8 percent, compared with 20.9 percent in Q1 last year. These are not monumental improvements, but they suggest some progress in stemming the flow of red ink.

At Dex One, ad sales declined roughly 17 percent vs. 19 percent a year ago. CFO Steve Blondy noted that were it not for the impact of TMP’s failure to pay money owed the publisher (TMP is currently winding down its operations) the ad sales decline would have been 14.7 percent, a more substantial improvement over Q1 2010.

Similarly, SuperMedia’s CFO Samuel Jones said factoring out the TMP impact would have given the company a Q1 ad sales decline of 15.9 percent, which amounts to a 450 bps improvement over Q1 2010.

AT&T’s results were essentially the same, down 16.6 percent in Q1 vs. 16.7 percent a year earlier. However, online growth continued to slow down, to a 6.8 percent increase vs. 12.9 percent last year. This suggests the rate of decline in print has settled a bit, otherwise the overall revenue decline would have accelerated.

AT&T has been arguably the most aggressive U.S. publisher online, and has recently added a number of new digital products, including reputation management and, most recently, deals. The slowdown in digital growth is likely a combination of the economy and the law of large numbers, since AT&T has roughly a billion in digital revenues. However, the slowdown might also suggest that IYP is maturing and new products are taking on greater importance as sources of new growth.

Across the pond in France, PagesJaunes reports its group revenues declined by just 1 percent for the first quarter, while its print decline was 7.5 percent, an improvement over a 10.2 percent drop in Q1 2010.

Collectively, these results seem to point to stabilization, defined as a leveling off of the rate of decline. This is probably the result of improving economic conditions, which includes steady improvement in bad debt ratios. This is consistent with the view that the decline in print revenues was the result of a combination of economic and transformational factors. The degee to which growth rates improve this year may be a pretty good indication of which portion of the recent declines have been cyclical vs. secular.  

None of these Q1 numbers is going to lead to any champagne being uncorked, but they do suggest that after a couple of very rough years, the worst may be over, at least for now.

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Mobile now accounts for a third of AT&T’s local search, according to AT&T President and CEO David Krantz, who was speaking at the Borrell show last week in New York. “We truly believe that mobile is bigger than the Web,” said Krantz, noting that AT&T has some significant head starts over rivals as a vertically integrated company. For instance, the YP.com app is preloaded on many of AT&T’s phones.

Krantz also noted that AT&T has made big strides in behavioral targeting. It started with Yahoo’s APT system, and quickly sold tens of millions of dollars worth. “We had been very skeptical selling APT to customers,” he acknowledged.

But the APT product with Yahoo was priced at a high CPM and eventually hit a wall. The company has now developed a lower CPM product, which he calls “Display 2.0.” They are ad networks for targeted display,” said Krantz. “We’ve had an initial runup like we did with Yahoo, but it has kept going.”

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The Wall Street Journal reported this week that AT&T Interactive will join the growing list of directory companies to launch a daily deal site. AT&T Interactive CEO David Krantz told The Journal that he believes AT&T could be “fast followers” and that there is still ample opportunity in the daily deals space, initially popularized by Chicago-based Groupon. AT&T plans to offer a daily deal in each of its local markets. AT&T is reportedly developing the service with the help of a third party it has not disclosed.

Once it launches, AT&T will join Yellowbook, Yellow Pages Group (Canada), PagesJaunes, Direct West and Sensis on the list of Yellow Pages companies with group buying products. Directory publishers see group buying as an opportunity to increase sales volume, sell off cycle and appeal to businesses that are not core Yellow Pages advertisers, like specialty retail, higher end personal services and dining establishments.

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It’s Yellow Pages earnings season again. AT&T is usually among the first out with its results, and the latest numbers show a worsening picture for its Advertising Solutions business, which includes print Yellow Pages and yp.com. The results are compounded by very modest growth in Internet revenues, an area that AT&T is counting on to stabilize the AS business.

Advertising Solutions’ third-quarter results, posted today, show that through nine months, revenues dropped 16.9 percent, from US$3.6 billion to US$3.0 billion. For the third quarter, results were down 17.3 percent over the prior year. This represents an acceleration of last year’s pace, when overall results decreased 11.8 percent for the nine months ended Sept. 30.

AT&T’s Internet revenues grew a modest 5.8 percent in Q3 to US$239 million. At this time last year, AT&T posted a 20.7 percent Q3 2009 online growth rate.

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