Growing pains for Time Warner's latest spinoff

After setting free both AOL and Time Warner Cable, it appeared Time Warner was a master of spinoffs. Unfortunately, Time Inc. is proving a more difficult child to send on its way.

On Tuesday, Time Inc. slashed its 2014 revenue outlook for the second time since becoming a separately listed company in early June. Time Inc. now expects revenue to decline between 1.6 percent and 2.5 percent this year, versus an original projection of revenue between a flat level and a 2 percent gain.

The culprit: Print advertising has continued to weaken as companies rein in budgets or switch to digital alternatives. The company, whose largest titles include Time, People and Sports Illustrated, said advertising trends had weakened late in the third quarter and have remained soft into the fourth quarter. The weakness was seen across entertainment, news, and sports titles, said Time Inc. CEO Joseph Ripp.

Meanwhile, digital advertising, while growing at a healthy clip, accounts for just 15 percent of advertising revenue and 8 percent of total revenue. The company acknowledged digital advertising remains too small to offset the bigger trouble in print advertising.

The upshot is that Time may struggle to generate profit growth for some time. While the company has taken steps to cut costs, it will need to be more aggressive if the revenue declines continue. Time projects adjusted operating profit of $510 million to $535 million in 2014 versus $587 million in 2013.

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Joseph Ripp
Jin Lee | Bloomberg | Getty Images
Joseph Ripp

Time Inc. shares have fallen 11 percent since being distributed on June 6. Over the same period, shares of Time Warner have risen a healthy 12 percent. By comparison, Time Warner Cable has outperformed Time Warner since its spinoff in 2007. And while AOL has lagged, it has still posted a healthy gain of nearly 90 percent since its 2009 spinoff.

It's hard to predict when Time will see better days. The company pointed out on its call that visibility in the fourth quarter was still limited. Since Time focuses on weekly print magazines, advertisers may only make deals at the last minute, leading to high levels of volatility.

And while it's encouraging to see digital revenue grow, the company still needs to spend money to grow that business. Editorial costs, for instance, continued to rise in the third quarter.

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One positive development on Tuesday's investor call is Time is conducting a portfolio review to determine if it should be selling or acquiring businesses. Without a doubt, some of the company's major magazines such as InStyle and Sports Illustrated remain extremely popular and could fetch healthy prices.

Even so, it's not clear which buyers might take interest. Before the spinoff, Time Warner explored a deal where magazine publisher Meredith Corp. would have bought some or all of the Time magazine assets. There are probably plenty of cost savings to achieve by combining two sizable magazine operations.

Unfortunately, such a deal is unlikely to materialize for some time. According to an M&A attorney at a major firm, Time and Meredith aren't allowed to have talks for a full year after the spinoff. If they do talk and wind up doing a deal, it could trigger an unwanted tax bill. That would put any negotiations off until next summer. Time declined to comment.

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Other public companies may hesitate to acquire Time while its profits are in decline. Shareholders of acquiring companies tend to be skeptical of such deals and Time isn't exactly cheap. The stock trades around seven times 2014 earnings before interest, taxes, depreciation, and amortization.

One wildcard: a private buyer seeking some of Time's magazines as trophy assets. Amazon founder Jeff Bezos, for instance, surprised Wall Street when he personally bought The Washington Post in 2013. But it's hard to see such a buyer wanting to acquire the entire Time portfolio.

Barring a surprise bid for a bundle of Time assets or a dramatic surge in digital advertising, the stock could be tough to watch for some time.