10-Q 1 mni3q200710q.htm MCCLATCHY 3RD QUARTER 2007 FORM 10-Q mni3q200710q.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.  20549
 

FORM 10-Q

 
(Mark One)
   [X]   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
   For the quarterly period ended:   September 30, 2007
 
or
   
   [  ]    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
 
For the transition period from __________________ to __________________
   
Commission file number:  1-9824 
 
mni logo
(Exact name of registrant as specified in its charter)


Delaware
 
52-2080478
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
2100 "Q" Street, Sacramento, CA
 
95816
(Address of principal executive offices)
 
(Zip Code)

916-321-1846
      Registrant's telephone number, including area code


Indicate by check mark whether the registrant has (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days (check one):   [X] Yes      [  ]  No
                                                                                                                                                                                                                            
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act (check one):
Large accelerated filer [X]
Accelerated filer [  ]
Non-accelerated filer [  ]
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12-b of the Exchange Act).
[  ]
 Yes
[X]
 No
 
As of November 5, 2007, the registrant had shares of common stock as listed below outstanding:
 
 
 Class A Common Stock
57,105,279
 
 
 Class B Common Stock
25,050,962
 




THE McCLATCHY COMPANY

INDEX TO FORM 10-Q



Part I - FINANCIAL INFORMATION
Page
   
Item 1 - Financial Statements (unaudited):
 
     
 
Consolidated Balance Sheet – September 30, 2007 and December 31, 2006
1
   
 
Consolidated Statement of Income for the three and nine months ended September 30, 2007 and September 24, 2006
3
   
 
Consolidated Statement of Cash Flows for the nine months ended September 30, 2007 and September 24, 2006
4
   
 
Consolidated Statement of Stockholders' Equity for the period December 31, 2006 to September 30, 2007
6
   
 
Notes to Consolidated Financial Statements
7
   
Item 2 - Management's Discussion and Analysis of Financial Condition and Results of  Operations
22
   
Item 3 - Quantitative and Qualitative Disclosures About Market Risk
35
   
Item 4 - Controls and Procedures
36
   
Part II - OTHER INFORMATION
 
   
Item 1A - Risk Factors
37
   
Item 6 - Exhibits
37
   
Signatures
38
   
Index of Exhibits
39



PART I - FINANCIAL INFORMATION

Item 1 - FINANCIAL STATEMENTS

THE MCCLATCHY COMPANY
 
CONSOLIDATED BALANCE SHEET (UNAUDITED)
 
(In thousands)
 
             
   
September 30,
   
December 31,
 
   
2007
   
2006
 
ASSETS
           
CURRENT ASSETS:
           
   Cash and cash equivalents
  $
24,996
    $
19,581
 
   Trade receivables (less allowance of
               
     $11,096 in 2007 and $12,732 in 2006)
   
256,380
     
311,785
 
   Other receivables
   
20,591
     
36,477
 
   Newsprint, ink and other inventories
   
36,522
     
52,097
 
   Deferred income taxes
   
47,055
     
248,753
 
   Prepaid income taxes
   
88,405
     
88,836
 
   Income tax refund
   
200,998
     
-
 
   Land and other assets held for sale
   
178,448
     
231,029
 
   Other current assets
   
20,079
     
23,192
 
   Newspaper assets held for sale
   
-
     
563,589
 
     
873,474
     
1,575,339
 
PROPERTY, PLANT AND EQUIPMENT:
               
   Land
   
205,042
     
204,692
 
   Building and improvements
   
391,661
     
382,206
 
   Equipment
   
837,611
     
811,173
 
   Construction in progress
   
22,356
     
36,401
 
     
1,456,670
     
1,434,472
 
   Less accumulated depreciation
    (512,140 )     (458,496 )
     
944,530
     
975,976
 
INTANGIBLE ASSETS:
               
   Identifiable intangibles -net
   
1,073,729
     
1,369,046
 
   Goodwill
   
2,536,787
     
3,559,828
 
     
3,610,516
     
4,928,874
 
INVESTMENTS AND OTHER ASSETS:
               
   Investments in unconsolidated companies
   
411,876
     
520,213
 
   Prepaid pension assets
   
27,770
     
32,457
 
   Other
   
19,262
     
21,851
 
     
458,908
     
574,521
 
                 
TOTAL ASSETS
  $
5,887,428
    $
8,054,710
 
                 
See notes to consolidated financial statements.
               


1


THE MCCLATCHY COMPANY
 
CONSOLIDATED BALANCE SHEET (UNAUDITED)
 
(In thousands, except share and per share amounts)
 
             
   
September 30,
   
December 31,
 
   
2007
   
2006
 
LIABILITIES AND STOCKHOLDERS' EQUITY
           
CURRENT LIABILITIES:
           
   Current portion of bank debt
  $
-
    $
530,000
 
   Accounts payable
   
89,166
     
139,501
 
   Accrued compensation
   
99,307
     
135,363
 
   Income taxes
   
-
     
47,330
 
   Unearned revenue
   
86,230
     
82,524
 
   Accrued interest
   
38,353
     
33,697
 
   Accrued dividends
   
14,778
     
14,727
 
   Other accrued liabilities
   
50,023
     
45,166
 
   Newspaper liabilities held for sale
   
-
     
83,806
 
     
377,857
     
1,112,114
 
NON-CURRENT LIABILITIES:
               
   Long-term debt
   
2,579,413
     
2,746,669
 
   Deferred income taxes
   
691,537
     
706,893
 
   Pension and postretirement obligations
   
315,234
     
311,127
 
   Other long-term obligations
   
107,390
     
74,283
 
     
3,693,574
     
3,838,972
 
                 
COMMITMENTS AND CONTINGENCIES
               
                 
STOCKHOLDERS' EQUITY:
               
   Common stock $.01 par value:
               
     Class A - authorized 200,000,000 shares,
               
        issued 57,103,913 in 2007 and 55,795,162 in 2006
   
571
     
557
 
     Class B - authorized 60,000,000 shares,
               
        issued 25,054,430 in 2007 and 26,116,397 in 2006
   
251
     
261
 
     Additional paid-in capital
   
2,195,755
     
2,182,544
 
     Retained earnings (accumulated deficit)
    (332,964 )    
1,016,023
 
     Treasury stock, 3,029 shares at cost
    (122 )    
-
 
     Accumulated other comprehensive loss
    (47,494 )     (95,761 )
     
1,815,997
     
3,103,624
 
                 
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
  $
5,887,428
    $
8,054,710
 
                 
See notes to consolidated financial statements.
               



2


THE McCLATCHY COMPANY
 
CONSOLIDATED STATEMENT OF INCOME (UNAUDITED)
 
(In thousands, except per share amounts)
 
                         
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 24,
   
September 30,
   
September 24,
 
   
2007
   
2006
   
2007
   
2006
 
REVENUES - NET:
                       
   Advertising
  $
457,017
    $
506,774
    $
1,422,317
    $
856,791
 
   Circulation
   
67,995
     
70,637
     
209,582
     
117,905
 
   Other
   
15,332
     
17,717
     
55,030
     
26,895
 
     
540,344
     
595,128
     
1,686,929
     
1,001,591
 
OPERATING EXPENSES:
                               
   Compensation
   
224,309
     
232,611
     
689,592
     
402,453
 
   Newsprint and supplements
   
63,600
     
83,171
     
211,203
     
136,702
 
   Depreciation and amortization
   
36,250
     
36,662
     
112,440
     
56,522
 
   Other operating expenses
   
118,440
     
129,001
     
371,180
     
204,691
 
   Goodwill and newspaper masthead impairment
   
1,434,590
     
-
     
1,434,590
     
-
 
     
1,877,189
     
481,445
     
2,819,005
     
800,368
 
                                 
OPERATING INCOME (LOSS)
    (1,336,845 )    
113,683
      (1,132,076 )    
201,223
 
                                 
NON-OPERATING (EXPENSES) INCOME:
                               
   Interest expense
    (48,264 )     (46,689 )     (151,605 )     (46,679 )
   Interest income
   
23
     
2,007
     
129
     
2,035
 
   Equity income (losses) in unconsolidated companies, net
    (7,652 )     (811 )     (28,599 )    
81
 
   Write-down of investments and land held for sale
    (84,568 )    
-
      (84,568 )    
-
 
   Other - net
   
700
     
8,445
     
1,443
     
8,390
 
      (139,761 )     (37,048 )     (263,200 )     (36,173 )
INCOME (LOSS) FROM CONTINUING OPERATIONS
                               
   BEFORE INCOME TAX PROVISION (BENEFIT)
    (1,476,606 )    
76,635
      (1,395,276 )    
165,050
 
                                 
INCOME TAX PROVISION (BENEFIT)
    (131,419 )    
24,025
      (99,133 )    
58,470
 
                                 
INCOME (LOSS) FROM CONTINUING OPERATIONS
    (1,345,187 )    
52,610
      (1,296,143 )    
106,580
 
                                 
INCOME (LOSS) FROM DISCONTINUED OPERATIONS -
                         
   NET OF INCOME TAXES
    (1,546 )     (779 )     (6,324 )    
17,114
 
                                 
NET INCOME (LOSS)
  $ (1,346,733 )   $
51,831
    $ (1,302,467 )   $
123,694
 
                                 
NET INCOME (LOSS) PER COMMON SHARE:
                               
   Basic:
                               
     Income (loss) from continuing operations
  $ (16.40 )   $
0.65
    $ (15.81 )   $
1.83
 
     Income (loss) from discontinued operations
    (0.02 )     (0.01 )     (0.08 )    
0.30
 
     Net income (loss) per share
  $ (16.42 )   $
0.64
    $ (15.89 )   $
2.13
 
                                 
   Diluted:
                               
     Income (loss) from continuing operations
  $ (16.40 )   $
0.65
    $ (15.81 )   $
1.82
 
     Income (loss) from discontinued operations
    (0.02 )     (0.01 )     (0.08 )    
0.30
 
     Net income (loss) per share
  $ (16.42 )   $
0.64
    $ (15.89 )   $
2.12
 
                                 
WEIGHTED AVERAGE NUMBER OF COMMON SHARES:
                         
   Basic
   
82,040
     
81,013
     
81,967
     
58,173
 
   Diluted
   
82,040
     
81,191
     
81,967
     
58,416
 
                                 
See notes to consolidated financial statements.
                               

3

 
CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED)
 
(In thousands)
 
   
Nine Months Ended
 
   
September 30,
   
September 24,
 
   
2007
   
2006
 
CASH FLOWS FROM OPERATING ACTIVITIES:
           
   Income (loss) from continuing operations
  $ (1,296,143 )   $
106,580
 
   Reconciliation to net cash provided of continuing operations:
               
     Depreciation and amortization
   
112,440
     
56,522
 
     Goodwill and newspaper masthead impairment
   
1,434,590
     
-
 
     Write-down of investments and land held for sale
   
84,568
     
-
 
     Contribution to pension plans
   
-
      (31,545 )
     Employee benefit expense
   
25,435
     
14,762
 
     Stock compensation expense
   
5,895
     
5,198
 
     Deferred income taxes
    (150,481 )     (16,514 )
     Gain on sale of land
   
-
      (9,047 )
     Equity (income) loss in unconsolidated companies
   
28,599
      (81 )
     Write off and amortization of debt issuance costs
   
-
     
11,270
 
     Other
   
3,090
      (203 )
     Changes in certain assets and liabilities:
               
       Trade receivables
   
55,405
     
4,880
 
       Inventories
   
15,570
      (2,717 )
       Other assets
   
21,796
      (23,625 )
       Accounts payable
    (42,793 )     (13,540 )
       Accrued compensation
    (35,326 )     (4,395 )
       Income taxes
    (44,580 )     (9,244 )
       Other liabilities
   
1,342
     
22,123
 
       Net cash provided by operating activities of continuing operations
   
219,407
     
110,424
 
       Net cash provided by operating activities of discontinued operations
   
2,007
     
30,603
 
       Net cash provided by operating activities
   
221,414
     
141,027
 
                 
CASH FLOWS FROM INVESTING ACTIVITIES:
               
   Proceeds from sale of equipment
   
24,441
     
-
 
   Proceeds from sale of investments
   
24,288
     
320,328
 
   Acquisition of Knight Ridder - net of cash received
   
-
      (2,771,290 )
   Purchases of property, plant and equipment
    (43,222 )     (41,932 )
   Equity investments
    (3,231 )     (405 )
   Other - net
    (25 )    
325
 
       Net cash provided (used) by investing activities of continuing operations
   
2,251
      (2,492,974 )
                 
   Proceeds from sale of newspapers
   
522,922
     
1,990,147
 
   Purchases of property, plant and equipment of discontinued operations
    (4,837 )     (8,327 )
       Net cash provided by investing activities of discontinued operations
   
518,085
     
1,981,820
 
       Net cash provided (used) by investing activities
   
520,336
      (511,154 )
                 
CASH FLOWS FROM FINANCING ACTIVITIES:
               
   Borrowings from term bank debt
   
-
     
2,200,000
 
   Repayments of term bank debt
    (550,000 )     (1,100,000 )
   Net repayments of revolving bank debt
    (149,022 )     (152 )
   Repayment of Knight Ridder debt
   
-
      (389,261 )
   Net repayments of commercial paper
   
-
      (154,200 )
   Payment of cash dividends
    (44,263 )     (25,273 )
   Payment of debt issuance costs
   
-
      (26,762 )
   Other - principally stock issuances
   
6,950
     
3,638
 
       Net cash (used) provided by financing activities
    (736,335 )    
507,990
 
                 
NET CHANGE IN CASH AND CASH EQUIVALENTS
   
5,415
     
137,863
 
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR
   
19,581
     
3,052
 
CASH AND CASH EQUIVALENTS, END OF PERIOD
  $
24,996
    $
140,915
 
                 
See notes to consolidated financial statements.
               

4

 
THE McCLATCHY COMPANY
 
CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED) Continued
 
(In thousands)
 
   
Nine Months Ended
 
   
September 30,
 
 
September 24,
 
   
2007 
   
 2006
 
NON-CASH INVESTING AND FINANCING ACTIVITIES:
 
 
   
 
 
     Acquisition of Knight Ridder:
           
        Class A common stock issued
  $
-
    $
1,821,476
 
        Assumption of long-term debt
  $
-
    $
1,899,700
 
OTHER CASH FLOW INFORMATION:
               
   Cash paid during the period for:
               
     Income taxes (net of refunds)
  $
97,417
    $
83,821
 
     Interest (net of capitalized interest)
  $
138,130
    $
27,836
 
                 
See notes to consolidated financial statements.
               

5


THE McCLATCHY COMPANY
 
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (UNAUDITED)
 
(In thousands, except share and per share amounts)
 
                                           
                     
Retained
   
Accumulated
             
               
Additional
   
Earnings
   
Other
             
   
Par Value
   
Paid-In
   
(Accumulated
   
Comprehensive
   
Treasury
       
   
Class A
   
Class B
   
Capital
   
Deficit)
   
Loss
   
Stock
   
Total
 
                                           
BALANCES, DECEMBER 31, 2006
  $
557
    $
261
    $
2,182,544
    $
1,016,023
    $ (95,761 )   $
-
    $
3,103,624
 
Adoption of FIN 48
                            (2,218 )                     (2,218 )
ADJUSTED BALANCES,
   JANUARY 1, 2007
   
557
     
261
     
2,182,544
     
1,013,805
      (95,761 )    
-
     
3,101,406
 
Net loss
                            (1,302,467 )                     (1,302,467 )
Pension amortization from other
   comprehensive income
             
3,197
             
3,197
 
Total comprehensive loss
                                                    (1,299,270 )
Adjustment to eliminate minimum pension
   liability related to Star Tribune
     
45,070
             
45,070
 
Dividends declared ($.54 per share)
                            (44,302 )                     (44,302 )
Conversion of 1,061,967
   Class B shares to Class A
   
10
      (10 )                                    
-
 
Issuance of 246,784 Class A shares
                                                       
   under stock plans
   
4
             
6,767
                             
6,771
 
Stock compensation expense
                   
6,144
                             
6,144
 
Tax benefit from stock plans
                   
300
                             
300
 
Purchase of treasury stock
                                            (122 )     (122 )
BALANCES, SEPTEMBER 30,
   2007
  $
571
    $
251
    $
2,195,755
    $ (332,964 )   $ (47,494 )   $ (122 )   $
1,815,997
 
                           
See notes to consolidated financial statements.
                         

6



THE McCLATCHY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

NOTE 1.
SIGNIFICANT ACCOUNTING POLICIES

The McClatchy Company (the "Company") is the third largest newspaper company in the United States, with 31 daily newspapers and approximately 50 non-dailies. Twenty of its daily newspapers were acquired on June 27, 2006 in the Knight Ridder acquisition (the "Acquisition") – see Note 2.  McClatchy also operates leading local websites and direct marketing operations in each of its markets which complement its newspapers and extend its audience reach in each market.  McClatchy-owned newspapers include The Miami Herald, The Sacramento Bee, TheFort Worth Star-Telegram, The Kansas City Star, The Charlotte Observer, and The (Raleigh) News & Observer.

McClatchy also has a portfolio of premium digital assets. Its leading local websites offer users information, comprehensive news, advertising, e-commerce and other services.  The Company owns and operates McClatchy Interactive, an interactive operation that provides websites with content, publishing tools and software development.  McClatchy operates Real Cities, the largest national advertising network of local news websites and owns 14.4% of CareerBuilder, the nation’s largest online job site.  McClatchy also owns 25.6% of Classified Ventures, a newspaper industry partnership that offers classified websites such as the nation’s number two online auto website, cars.com, and the number one rental site, apartments.com.

The consolidated financial statements include the Company and its subsidiaries.  Significant intercompany items and transactions are eliminated.  In preparing the financial statements, management makes estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates.

In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary (consisting of normal recurring items, except as discussed in Notes 3 and 4) to present fairly the Company's financial position, results of operations, and cash flows for the interim periods presented.  The financial statements contained in this report are not necessarily indicative of the results to be expected for the full year.

Discontinued operations - On March 5, 2007, the Company sold the (Minneapolis) Star Tribune newspaper and other publications and websites related to the newspaper.  In the third quarter of 2006, the Company sold 12 newspapers acquired on June 27, 2006 (see Note 2).  The results of all sold newspaper operations, including interest expense directly attributable to them, have been recorded as discontinued operations in all periods presented.
  
Revenue recognition - The Company recognizes revenues from advertising placed in a newspaper and/or on a website over the advertising contract period or as services are delivered, as appropriate, and recognizes circulation revenues as newspapers are delivered over the applicable subscription term.  Circulation revenues are recorded net of direct delivery costs.  Other revenue is recognized when the related product or service has been delivered.  Revenues are recorded net of estimated incentive offerings including special pricing agreements, promotions and other volume-based incentives.  Revisions to these estimates are charged to income in the period in which the facts that give rise to the revision become known.

7

Cash equivalents are highly liquid debt investments with original maturities of three months or less.
 
Concentrations of credit risk - Financial instruments, which potentially subject the Company to concentrations of credit risk, are principally cash and cash equivalents and trade accounts receivables.  Cash and cash equivalents are placed with major financial institutions.  The Company routinely assesses the financial strength of significant customers and this assessment, combined with the large number and geographic diversity of its customers, limits the Company's concentration of risk with respect to trade accounts receivable.

Inventories are stated at the lower of cost (based principally on the first-in, first-out method) or current market value.

Property, plant and equipment is stated at cost.  Major improvements, as well as interest incurred during construction, are capitalized.  Expenditures for maintenance and repairs are charged to expense as incurred.

Depreciation is computed generally on a straight-line basis over estimated useful lives of:
                        5 to 60 years for buildings and improvements
                        9 to 25 years for presses
                        2 to 15 years for other equipment

Segment reporting - The Company's primary business is the publication of newspapers and related websites.  The Company has four operating segments which it aggregates into a single reportable segment because each has similar economic characteristics, products, customers and distribution methods.

Goodwill and intangible impairment - The Company accounts for goodwill in accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets.  As required by SFAS No. 142, the Company tests for goodwill annually (at year-end) or whenever events occur or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.  The required two-step approach uses accounting judgments and estimates of future operating results.  Changes in estimates or the application of alternative assumptions could produce significantly different results.  Impairment testing is done at a reporting unit level. The Company performs this testing at its four newspaper operating segments, which are also considered reporting units under SFAS 142. An impairment loss generally is recognized when the carrying amount of the reporting unit’s net assets exceeds the estimated fair value of the reporting unit. The estimates and judgments that most significantly affect the fair value calculation are assumptions related to revenue growth, newsprint prices, compensation levels, discount rate and private and public market trading multiples for newspaper assets.  The Company determined that it should perform its impairment testing of goodwill as of September 30, 2007, due to the continuing challenging business conditions and the resulting weakness in the Company’s stock price as of the end of its third quarter. See Note 3.

Newspaper mastheads (newspaper titles and website domain names) are not subject to amortization and are tested for impairment annually (at year-end), or more frequently if events or changes in circumstances indicate that the asset might be impaired.  The impairment test consists of a comparison of the fair value of each newspaper masthead with its carrying amount.  The Company performed impairment tests on newspaper mastheads as of September 30, 2007.  See Note 3.

8

Intangible assets subject to amortization (primarily advertiser and subscriber lists) are tested for recoverability whenever events or change in circumstances indicate that their carrying amounts may not be recoverable.  The carrying amount of each asset group is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use of such asset group.  The Company performed impairment tests on its long lived assets (including intangible assets subject to amortization) as of September 30, 2007.  No impairment loss was recognized on intangible assets subject to amortization.

Stock-based compensation - All share-based payments to employees, including grants of employee stock options, stock appreciation rights, restricted stock and purchases under the employee stock purchase plan ("ESPP"), are recognized in the financial statements based on their fair values.  At September 30, 2007, the Company had six stock-based compensation plans.  Total stock-based compensation expense from continuing operations was $1.6 million and $5.9 million for the three months and nine months ended September 30, 2007, respectively and was $1.6 million and $5.2 million for the three months and nine months ended September 24, 2006, respectively.

The Company has issued a total of 65,000 shares of restricted Class A Common Stock to its Chief Executive Officer: (1) 40,000 shares on January 25, 2005, valued at the Company's closing stock price on that date of $70.55, which vest on January 25, 2009, subject to certain performance criteria and (2) 25,000 shares on January 24, 2006, valued at the Company's closing stock price on that date of $58.05, which vest over four annual installments, subject to certain performance criteria, beginning on January 24, 2007.  On January 24, 2007, 6,250 shares vested.  At this time, the Company expects such performance criteria to be met and is expensing the related stock-based compensation over the respective four-year periods based on the grant date fair values.

Deferred income taxes result from temporary differences between amounts of assets and liabilities reported for financial and income tax reporting purposes.

Comprehensive income (loss) - The Company records changes in its net assets from non-owner sources in its statement of stockholders’ equity.  These changes arise primarily from minimum pension liability adjustments.

The following table summarizes the composition of total comprehensive income (in thousands):

   
For the three
months ended
   
For the nine
months ended
 
   
September 30,
2007
   
September 24,
2006
   
September 30,
2007
   
September 24,
2006
 
Net income (loss)
  $ (1,346,733 )   $
51,831
    $ (1,302,467 )   $
123,694
 
Pension amortization from other
   comprehensive income, net of tax
   
1,065
     
-
     
3,197
     
-
 
Total comprehensive income (loss)
  $ (1,345,668 )   $
51,831
    $ (1,299,270 )   $
123,694
 

Treasury stock - The Company accounts for treasury stock under the cost method.

Earnings (loss) per share ("EPS") - Basic EPS excludes dilution from common stock equivalents and reflects income (loss) divided by the weighted average number of common shares outstanding for the period.  Diluted EPS is based upon the weighted average number of outstanding shares of common stock and dilutive common stock equivalents in the period.  Common stock equivalents arise from dilutive stock options and are computed using the treasury stock method.  For the three and nine months ended September 30, 2007, the Company incurred a net loss and therefore the impact of the common stock equivalents were excluded from the computation of diluted net loss per share as their effect would have been anti-dilutive.  The anti-dilutive common stock equivalents that could potentially dilute basic EPS in the future, but were not included in the weighted average share calculation for the three months and nine months ended September 30, 2007 were 3,764,161 and 3,911,733, respectively and were 2,562,949 and 2,118,374 for the three months and nine months ended September 24, 2006, respectively.

9

Reclassifications- Certain prior period amounts have been reclassified to conform to the 2007 presentation and relate primarily to accounting for the (Minneapolis) Star Tribune as a discontinued operation.

Income Taxes - On July 13, 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes – An Interpretation of FASB Statement No. 109 (“FIN 48”).  FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes and prescribes a recognition threshold and measurement attributes for financial statement disclosure of tax positions taken or expected to be taken on a tax return.  Under FIN 48, the impact of an uncertain income tax position on the income tax return must be recognized at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing authority.  An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained.  Additionally, FIN 48 provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.  FIN 48 is effective for fiscal years beginning after December 15, 2006.

  The Company adopted the provisions of FIN 48 on January 1, 2007.  The total amount of unrecognized tax benefits as of the date of adoption was $66.7 million.  Of the $66.7 million of unrecognized tax benefits at January 1, 2007, $8.5 million are tax benefits that, if recognized, would favorably affect the effective income tax rate in future periods.  The other $58.2 million of unrecognized tax benefits would, if recognized, result in a decrease to goodwill previously recorded related to acquisitions.  There were no material changes to these amounts through September 30, 2007.

With few exceptions, the Company is no longer subject to examination by U.S. federal, state, or foreign tax authorities for years before 2002.

NOTE 2.   ACQUISITION AND DIVESTITURES

Acquisition Transaction:

On June 27, 2006 (the third day of the Company's third fiscal quarter), the Company completed the purchase of Knight-Ridder, Inc. ("Knight Ridder") pursuant to a definitive merger agreement entered into on March 12, 2006, under which the Company paid Knight Ridder shareholders a per share price consisting of $40.00 in cash and .5118 of a Class A McClatchy common share (the "Acquisition").  The Company issued approximately 35 million Class A common shares in connection with the Acquisition.  The total purchase price was approximately $4.6 billion.  In addition, the Company assumed $1.9 billion in Knight Ridder long-term debt at closing.
 
Prior to the Acquisition, Knight Ridder published 32 daily newspapers in 29 U.S. markets, operated websites in all of its markets and owned a variety of internet and other investments which consisted of: 33.3% of each of CareerBuilder LLC ("CareerBuilder") and ShopLocal LLC ("ShopLocal"), 25.0% of Topix.net ("Topix"), 21.5% of Classified Ventures LLC ("Classified Ventures"), 33.3% interest in SP Newsprint Company ("SP"), 13.5% interest in the Ponderay Newsprint Company ("Ponderay") and 49.5% of The Seattle Times Company which owns The Seattle Times newspaper and weekly newspapers in the Puget Sound area, and daily newspapers located in Walla Walla and Yakima, Washington and in Portland, Maine and various other smaller investments.  Knight Ridder was the founder and operator of Real Cities, the largest national advertising network of local news websites.

10

To consummate the Acquisition, the Company borrowed $3.1 billion under a new bank debt facility (see Note 6) and used the proceeds from the sales of four Knight Ridder newspapers in order to pay Knight Ridder shareholders ($2.7 billion) and refinance its and Knight Ridder's bank debt ($498.0 million).  The after-tax proceeds from the sales of eight Knight Ridder newspapers sold after the Acquisition closed were used to reduce debt.

Acquisition Accounting:

Pursuant to Emerging Issues Task Force No. 99-12, Determination of the Measurement Date for the Market Price of Acquirer Securities Issued in a Purchase Business Combination, the McClatchy common stock issued on June 27, 2006 was valued based upon the average closing price of McClatchy common stock from March 8, 2006 through March 14, 2006 (two business days before and after the terms of the Acquisition were agreed to and announced), or $52.06 per share.   As a result, the fair value of the 35.0 million shares of McClatchy common stock issued in the Acquisition was recorded at $1.8 billion, which was included in the total Acquisition purchase price of approximately $4.6 billion.  The fair value of such shares declined to approximately $1.4 billion as of the Acquisition closing date (June 27, 2006), however the decline of $423.0 million in valuation had no effect on the total Acquisition purchase price recorded.  The difference is included in goodwill in the allocation of the purchase price below.

The Acquisition was accounted for as a purchase.  Pursuant to SFAS 141, Business Combinations, the purchase price was allocated to the assets acquired and liabilities assumed based upon their estimated fair values as of June 27, 2006, the date of the Acquisition.  The purchase price allocation, while substantially complete, is subject to further adjustments based upon completion of analyses of deferred income tax assets and liabilities.  See Note 5 for adjustments made in the first nine months of fiscal 2007.
 
                The following table summarizes, on an unaudited pro forma basis, the combined results of continuing operations of the Company for the nine months ended September 24, 2006 as though the Acquisition had taken place on the first day of the fiscal quarter (in thousands):
   
Nine Months Ended
 
   
September 24,
2006
 
       
    Revenues
  $
1,823,854
 
    Income from continuing operations (1)
  $
158,753
 
    Income from continuing operations per diluted share
  $
1.18
 
   
(1) Excludes $18.1 million of income tax benefits related to the Company’s recalculation of its deferred tax liabilities and assets.
 
 

11

Disposition Transactions:

In conjunction with the Acquisition, the Company divested 12 Knight Ridder newspapers for strategic and antitrust reasons.  The divested newspapers were the Philadelphia Inquirer;Philadelphia Daily News;San Jose Mercury News; St. Paul Pioneer Press; Akron Beacon Journal (OH); Wilkes Barre Times Leader (PA); Aberdeen American News (SD); Grand Forks Herald (ND); Ft. Wayne News-Sentinel (IN); Contra Costa Times (CA); Monterey Herald (CA); and Duluth News Tribune (MN).  The Company received cash proceeds of approximately $2.0 billion (net of transaction costs) from these divestitures.  In addition, the buyers assumed approximately $77 million of Knight Ridder retirement obligations related to certain newspapers (see Note 7).  Four of the 12 newspapers were sold concurrently with the closing of the Acquisition.  The remaining eight newspapers were owned for periods ranging from two days to 36 days following the closing of the Acquisition.  The operating results of these eight divested newspapers for the periods they were owned by the Company, including interest expense and debt issuance costs related to bank debt incurred until their respective sales, are included in discontinued operations in the Company's consolidated statement of income for the period from June 27, 2006 to December 31, 2006.  No accounting gain or loss was recognized on the sale of the 12 newspapers.

In July 2006, the Company sold 18.3% of its interest in each of CareerBuilder and ShopLocal, and 13.8% of its interest in Topix for an aggregate of $309.7 million in cash and used the after-tax proceeds to reduce debt.  No accounting gain or loss was recognized on the sale of these investments.  The Company retained a 15.0% interest in each of CareerBuilder and ShopLocal, and an 11.3% interest in Topix.  Effective May 11, 2007, the Company's interest in CareerBuilder declined to 14.4%.

On March 5, 2007, the Company sold the (Minneapolis) Star Tribune newspaper and other publications and websites related to the newspaper to an entity affiliated with Avista Capital Partners for $530.0 million.  The Company expects to receive an income tax refund of approximately $201.0 million related to the sale in 2008.  This amount has been recorded as a current asset on the consolidated balance sheet.

The results of Star Tribune's operations, including interest on debt incurred to purchase it, have been recorded as discontinued operations in all periods presented. The Company used the proceeds from the sale of the Star Tribune to reduce debt.
 
                Revenues and loss from all discontinued operations, net of income taxes, for the three months and nine months ended September 30, 2007 and September 24, 2006 were as follows (in thousands):
 
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
2007
   
September 24,
2006
   
September 30,
2007
   
September 24,
2006
 
Revenues
  $ (73 )   $
146,995
    $
52,921
    $
326,770
 
                                 
Income (loss) from discontinued operations
   before income taxes (1)
    (2,553 )     (2,397 )     (7,190 )    
28,233
 
Income tax expense (benefit)
    (1,007 )     (1,618 )     (866 )    
11,119
 
Income (loss) from discontinued operations
  $ (1,546 )   $ (779 )   $ (6,324 )   $
17,114
 
 
(1) Includes interest expense allocated to discontinued operations of $1.2 million for the nine months ended September 30, 2007, and $18.6 million and $22.4 million for the three months and nine months ended September 24, 2006 respectively.
 
 

NOTE 3.  GOODWILL AND NEWSPAPER MASTHEAD IMPAIRMENT

Management performed its testing of impairment of goodwill and newspaper mastheads as of September 30, 2007, due to the continuing challenging business conditions and the resulting weakness in the Company's stock price as of the end of its third quarter.  The fair values of the Company's reporting units for goodwill impairment testing and individual newspaper mastheads were estimated using the expected present value of future cash flows, using estimates, judgments and assumptions (see Note 1) that management believes were appropriate in the circumstances.  As a result, the Company recorded an impairment charge related to goodwill of $1.2 billion and a newspaper masthead impairment charge of $250.4 million in the third quarter of 2007.  About a third of the goodwill impairment charge resulted from the accounting treatment of the value of common stock issued in the Acquisition (see Note 2), which resulted in additional goodwill being recorded.

12

NOTE 4.   INVESTMENTS IN UNCONSOLIDATED COMPANIES AND LAND HELD FOR SALE
  
The following is the Company's ownership interest and carrying value of investments in unconsolidated companies and joint ventures (dollars in thousands):

Company
 
% Ownership Interest
   
September 30,
2007
   
December 31,
2006
 
CareerBuilder
   
14.4
    $
225,230
    $
230,506
 
Seattle Times Company
   
49.5
     
19,057
     
102,228
 
Classified Ventures
   
25.6
     
99,360
     
98,259
 
SP Newsprint
   
33.3
     
29,561
     
40,666
 
Ponderay Newsprint
   
27.0
     
16,576
     
26,162
 
ShopLocal
   
15.0
     
10,974
     
10,993
 
Topix
   
11.3
     
9,283
     
9,956
 
McClatchy Tribune Information Services
   
50.0
     
1,078
     
773
 
Other
 
Various
     
757
     
670
 
            $
411,876
    $
520,213
 

The Company primarily uses the equity method of accounting for these investments.

During the second fiscal quarter of 2007, the Company expensed $7.8 million as its share of a payment made by The Seattle Times Company ("STC") to settle certain outstanding legal issues and amend the Joint Operating Agreement relating to STC and The Hearst Corporation's Seattle newspaper.

As of September 30, 2007, management performed a review of its investments in unconsolidated subsidiaries and joint ventures.  Due to continuing challenging business conditions,management determined that a loss in value of its investments in STC and Ponderay, which are other than temporary declines, should be recognized.  As a result, the Company recorded a write down of $69.1 million and $6.0 million to reduce its investment in STC and Ponderay, respectively, to their fair value as of September 30, 2007.  No write downs were required for the Company's other investments in unconsolidated subsidiaries and joint ventures.

As part of the Acquisition, the Company acquired 10 acres of land in Miami.  Such land was under contract to be sold for gross proceeds of $190.0 million pursuant to a March 2005 sale agreement, the closing of which was subject to resolution of certain environmental and other contingencies.  On August 10, 2007, the sale agreement was amended.  As of September 30, 2007, the Company expects to consummate the sale of the Miami land prior to December 31, 2008 for gross proceeds of approximately $180.0 million.  As a result, the Company recorded a write-down of $9.5 million in the third quarter of 2007.

13




                     
Intangible assets and goodwill, along with their weighted-average amortization periods consisted of the following (in thousands):
     
   
September 30, 2007
                   
Weighted
                   
Average
   
Gross
   
Accumulated
   
Net
 
Amortization
   
Amount
   
Amortization
   
Amount
 
Period
Intangible assets subject to amortization:
                   
   Advertiser and subscriber lists
  $
817,701
    $ (191,591 )   $
626,110
 
14 years
   Other
   
26,261
      (11,234 )    
15,027
 
  8 years
   Total
  $
843,962
    $ (202,825 )    
641,137
   
                           
Other intangible assets not subject to amortization:
                   
   Newspaper mastheads
                   
432,592
   
   Total
                   
1,073,729
   
   Goodwill
                   
2,536,787
   
   Total intangible assets and goodwill
                  $
3,610,516
   
                           
     
   
December 31, 2006
                         
Weighted
                         
Average
   
Gross
   
Accumulated
   
Net
 
Amortization
   
Amount
   
Amortization
   
Amount
 
Period
Intangible assets subject to amortization:
                         
   Advertiser and subscriber lists
  $
817,701
    $ (148,427 )   $
669,274
 
14 years
   Other
   
26,261
      (9,389 )    
16,772
 
  8 years
   Total
  $
843,962
    $ (157,816 )    
686,046
   
                           
Other intangible assets not subject to amortization:
                   
   Newspaper mastheads
                   
683,000
   
   Total
                   
1,369,046
   
   Goodwill
                   
3,559,828
   
   Total intangible assets and goodwill
                  $
4,928,874
   
 

14

 

 
The following is a summary of the changes in the identifiable intangible assets and goodwill from December 31, 2006 to September 30, 2007 (in thousands):
 
                                     
   
 
   
 December 31,
         
Impairment loss/
   
Amortization
   
September 30,
 
   
 
   
2006
   
Additions
   
Adjustments
   
Expense
   
2007
 
Intangible assets subject
                                   
  to amortization
   
 
    $ 843,862    
 $
25
    $
75
    $
-
    $
843,962
 
Accumulated amortization
           
(157,816
 
-
      (9 )     (45,000 )     (202,825 )
     
 
      686,046    
 25
     
66
      (45,000 )    
641,137
 
Newspaper mastheads
   
 
     
683,000
   
 -
      (250,408 )    
-
     
432,592
 
Goodwill
   
 
     
3,559,828
 
 
  161,141  (1
)
  (1,184,182 )    
-
     
2,536,787
 
   Total
   
 
    $
4,928,874
   
 $
      161,166
    $ (1,434,524 )   $ (45,000 )   $
3,610,516
 
                                                 
(1) Relates primarily to revised estimates of deferred income tax assets and liabilities and acquired income tax reserves.
 
 
Amortization expense for continuing operations was $15.0 million and $14.2 million in the third fiscal quarters of 2007 and 2006, respectively and was $45.0 million and $16.6 million for the first nine months of fiscal 2007 and 2006, respectively.
   
The estimated amortization expense for the remainder of fiscal 2007 and the five succeeding fiscal years is as follows (in thousands):
             
       
Amortization
   
   
Year
 
Expense
   
             
   
2007
 
 $     14,950
   
   
2008
 
59,941
   
   
2009
 
59,910
   
   
2010
 
59,232
   
   
2011
 
57,837
   
   
2012
 
57,368
   


15

 
NOTE 6.    LONG-TERM DEBT
 
As of September 30, 2007 and December 31, 2006, long-term debt consisted of the following (in thousands):
 
   
September 30,
2007
   
December 31,
2006
 
Term A bank debt, weighted average interest of 6.11% at September 30, 2007 and
   6.12% at December 31, 2006
  $
550,000
    $
1,100,000
 
Revolving bank debt, interest of 6.07% at September 30, 2007 and 6.10% at
   December 31, 2006
   
516,773
     
665,795
 
Publicly-traded notes:
               
   $100 million 6.625% debentures due in 2007
   
100,006
     
100,025
 
   $200 million 9.875% debentures due in 2009
   
208,734
     
212,950
 
   $300 million 7.125% debentures due in 2011
   
303,751
     
304,512
 
   $200 million 4.625% debentures due in 2014
   
175,312
     
172,705
 
   $400 million 5.750% debentures due in 2017
   
362,661
     
359,848
 
   $100 million 7.150% debentures due in 2027
   
91,051
     
90,717
 
   $300 million 6.875% debentures due in 2029
   
271,125
     
270,117
 
   Total debt
   
2,579,413
     
3,276,669
 
   Less current portion
   
-
     
530,000
 
   Long term debt
  $
2,579,413
    $
2,746,669
 

The publicly-traded notes are stated net of unamortized discounts and premiums resulting from recording such assumed liabilities at fair value as of the June 27, 2006 acquisition date. The notes due in 2007 were refinanced on a long-term basis by drawing on the Company's revolving credit facility on November 1, 2007 and accordingly, are included in long-term debt.

The Company's credit facility entered into on June 27, 2006 provided for a $3.2 billion senior unsecured credit facility ("Credit Agreement") and was established in connection with the Acquisition.  At the closing of the Acquisition, the Company’s new Credit Agreement consisted of a $1.0 billion five-year revolving credit facility and $2.2 billion five-year Term A loan. Both the Term A loan and the revolving credit facility are due on June 27, 2011.

The Company has repaid $699.0 million of bank debt in the first nine months of fiscal 2007 from the sale of the Star Tribune newspaper, sales of other assets and cash generated from operations. A total of $429.4 million of funds were available under the revolving credit facility at September 30, 2007.

Debt under the Credit Agreement bears interest at the London Interbank Offered Rate ("LIBOR") plus a spread ranging from 37.5 basis points to 125.0 basis points.  Applicable rates are based upon the Company’s ratings on its long-term debt from Moody’s Investor Services ("Moody’s") and Standard & Poor’s.  A commitment fee for the unused revolving credit ranges from 10.0 basis points to 20.0 basis points depending on the Company’s ratings.  Standard & Poor’s has rated the facility "BB+" and Moody’s has rated the facility “Baa3”.  According to the Credit Agreement, the Company will pay interest at LIBOR plus 75.0 basis points on outstanding debt and its commitment fees are currently at 15.0 basis points.  On October 17, 2007 Standard & Poor’s put the Company’s corporate credit rating on credit watch with negative implications citing faster-than-expected revenue declines.
 
16

The Credit Agreement contains financial covenants including a minimum interest coverage ratio (as defined in the Credit Agreement) of 2.75 to 1.00 from September 30, 2007 through September 28, 2008 and 3.00 to 1.00 from December 28, 2008 and thereafter; and a maximum leverage ratio (as defined in the Credit Agreement) of 5.00 to 1.00 from September 30, 2007 through March 30, 2008; 4.75 to 1.00 from June 29, 2008 through September 28, 2008; 4.25 to 1.00 from December 28, 2008 to September 27, 2009; and declining to 4.00 to 1.00 on December 27, 2009 and thereafter.  At September 30, 2007, the Company was in compliance with all debt covenants.

 In addition, the Company’s Material Subsidiaries (as defined in the Credit Agreement) have guaranteed the Company’s obligations under the Credit Agreement.  These guarantees were effected on May 4, 2007, and continue in effect upon the earlier of the termination of the Credit Agreement or the date which is one year after the date both ratings agencies have rated the Company’s bank debt as investment grade.

At September 30, 2007, the Company had outstanding letters of credit totaling $53.8 million securing estimated obligations stemming from workers’ compensation claims and other contingent claims.

The following table presents the approximate annual maturities of debt, based upon the Company's required payments (adjusted for management’s expectations regarding the notes due in fiscal 2007 as discussed above), for the next five years and thereafter (in thousands):
 
 
                              Year 
 
Payments
 
 
                               2008
  $
-
 
 
                               2009
    200,000  
 
                               2010
   
-
 
 
                               2011
   
1,466,775
 
 
                               2012
   
-
 
 
 Thereafter
   
1,000,000
 
       
2,666,775
 
   Less net discount     (87,362 )
   Total debt   $
2,579,413
 
 
NOTE 7.  EMPLOYEE BENEFITS

The Company sponsors defined benefit pension plans (“retirement plans”), which cover a majority of its employees.  Benefits are based on years of service and compensation.  Contributions to the retirement plans are made by the Company in amounts deemed necessary to provide the required benefits.  The Company made $40.0 million in voluntary contributions to its retirement plans in early fiscal 2006 (including $8.5 million to Star Tribune plans).  No contributions to the Company's retirement plans are currently planned during fiscal 2007.

The Company also has a limited number of supplemental retirement plans to provide key employees with additional retirement benefits.  The terms of the plans are generally the same as those of the retirement plans, except that the supplemental retirement plans are limited to key employees and provide an enhanced pension benefit.  These plans are funded on a pay-as-you-go basis and the accrued pension obligation is largely included in other long-term obligations.

 
17

The elements of pension costs for continuing operations are as follows (in thousands):

   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
2007
   
September 24,
2006
   
September 30,
2007
   
September 24,
2006
 
                         
Service cost
  $
9,405
    $
4,921
    $
28,216
    $
12,949
 
Interest cost
   
23,494
     
23,114
     
70,482
     
35,372
 
Expected return on plan assets
    (27,125 )     (25,476 )     (81,375 )     (41,744 )
Prior service cost amortization
   
52
     
46
     
157
     
140
 
Loss amortization
   
1,727
     
2,217
     
5,180
     
6,708
 
Net pension expense
  $
7,553
    $
4,822
    $
22,660
    $
13,425
 

No material contributions were made to the Company's multi-employer plans for continuing operations for the three months and nine months ended September 30, 2007 and September 24, 2006.

The Company also provides for or subsidizes post-retirement healthcare and certain life insurance benefits for employees.  The elements of post-retirement benefits for continuing operations are as follows (in thousands):
             
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
2007
   
September 24,
2006
   
September 30,
2007
   
September 24,
2006
 
Service cost
  $
211
    $
233
    $
632
    $
234
 
Interest cost
   
717
     
997
     
2,151
     
1,103
 
(Gain) amortization
    (3 )    
-
      (8 )    
-
 
Net post-retirement expense
  $
925
    $
1,230
    $
2,775
    $
1,337
 

In the third quarter of 2007, the Company entered into an agreement with the Pension Benefit Guaranty Corporation (“PBGC”) to guarantee certain potential pension plan termination liabilities associated with the plans maintained by certain divested Knight Ridder newspapers (see Note 2). The guarantee covers any of the plans terminating prior to September 1, 2009 on account of financial distress. The maximum guarantee under each plan is no greater than the termination liability at the time of the divestiture of the plan sponsor, and the liability amount is reduced by contributions made by the plan sponsor going forward and by additional amounts recovered from the plan sponsor in connection with any such termination.  PBGC may only seek payment under the guarantee if it has exhausted all reasonable efforts to obtain payment from the current sponsors of the plans. The Company believes the likelihood of its being required to perform under this guarantee is remote given the short duration of the guarantee, and the number of pension plans and plan sponsors involved. The gross amount of potential termination liabilities subject to the guarantee is $126.3 million spread among a number of different plan sponsors and pension plans. The Company recorded an expense in discontinued operations and a corresponding liability of $2.5 million for the fair value of the guarantee.  Such liability will be amortized into income of discontinued operations over the remaining two years of the guarantee.

18



NOTE 8.  COMMON STOCK AND STOCK PLANS

On June 27, 2006, in connection with the Acquisition, the Company increased the authorized number of its Class A Common shares from 100,000,000 to 200,000,000 shares and issued 34,988,009 new Class A Common shares in connection with the Acquisition (see Note 2).

The Company's Class A and Class B Common Stock participate equally in dividends.  Holders of Class B are entitled to one vote per share and to elect as a class 75% of the Board of Directors, rounded down to the nearest whole number.  Holders of Class A Common Stock are entitled to one-tenth of a vote per share and to elect as a class 25% of the Board of Directors, rounded up to the nearest whole number.  Class B Common Stock is convertible at the option of the holder into Class A Common Stock on a share-for-share basis.

The holders of shares of Class B Common Stock are parties to an agreement, the intent of which is to preserve control of the Company by the McClatchy family.  Under the terms of the agreement, the Class B shareholders have agreed to restrict the transfer of any shares of Class B Common Stock to one or more "Permitted Transferees," subject to certain exceptions.  A "Permitted Transferee" is any current holder of shares of Class B Common Stock of the Company; any lineal descendant of Charles K. McClatchy (1858 to 1936); or a trust for the exclusive benefit of, or in which all of the remainder beneficial interests are owned by, one or more lineal descendants of Charles K. McClatchy.

Generally, Class B shares can be converted into shares of Class A Common Stock and then transferred freely (unless, following conversion, the outstanding shares of Class B Common Stock would constitute less than 25% of the total number of all outstanding shares of common stock of the Company).  In the event that a Class B shareholder attempts to transfer any shares of Class B Common Stock in violation of the agreement, or upon the happening of certain other events enumerated in the agreement as "Option Events," each of the remaining Class B shareholders has an option to purchase a percentage of the total number of shares of Class B Common Stock proposed to be transferred equal to such remaining Class B shareholder's ownership percentage of the total number of outstanding shares of Class B Common Stock.  If all the shares proposed to be transferred are not purchased by the remaining Class B shareholders, the Company has the option of purchasing the remaining shares.  The agreement can be terminated by the vote of the holders of 80% of the outstanding shares of Class B Common Stock who are subject to the agreement.  The agreement will terminate on September 17, 2047, unless terminated earlier in accordance with its terms.

At September 30, 2007, the Company had six stock-based compensation plans.  The Company applied APB Opinion 25 and related interpretations in accounting for its plans in fiscal 2005 and prior years.  The Company has adopted SFAS No. 123R for its stock plans effective December 26, 2005, the first day of fiscal 2006.

Beginning in fiscal 2005, the Company awarded stock-settled stock appreciation rights ("SARs") in lieu of stock options to its employees.  The SARs were granted at fair market value, have a ten-year term and vest in four equal annual installments beginning on March 1 following the year for which the award was made.
 
19

                Outstanding options and SARs are summarized as follows:
   
Options/ SARs
   
Weighted Average Exercise
Price
   
Aggregate Intrinsic
Value
(in thousands)
 
Outstanding December 31, 2006
   
4,064,075
    $
52.78
    $
4,857
 
   Granted
   
37,250
     
39.45
         
   Exercised
    (69,625 )    
26.55
         
   Forfeited
    (100,000 )    
63.41
         
   Expired
    (238,000 )    
56.65
         
Outstanding September 30, 2007
   
3,693,700
     
52.61
   
nil
 
Options and SARs exercisable:
                       
     September 30, 2007
   
2,119,825
                 
 
            As of September 30, 2007, there were $10.1 million of unrecognized compensation costs related to non-vested stock-based compensation arrangements granted under the Company's plans.  The cost is expected to be recognized over a weighted average period of 1.7 years.

The following tables summarize information about stock options and SARs outstanding in the stock plans at September 30, 2007:

 
   
Range of Exercise
Prices
   
Options/
SARs Outstanding
   
Average Remaining
Contractual Life
   
Weighted Average
Exercise
Price
   
Options/
SARs Exercisable
   
Weighted Average
Exercise
Price
 
   $
26.19-$42.50
     
1,483,625
     
6.54
    $
40.81
     
588,125
    $
38.43
 
   $
45.98-$59.09
     
1,250,575
     
6.08
    $
54.38
     
892,825
    $
52.86
 
 
 $
59.58-$73.36
     
959,500
     
6.58
    $
68.53
     
638,875
    $
67.92
 
   $
26.19-$73.36
     
3,693,700
     
6.40
    $
52.61
     
2,119,825
    $
53.39
 

The weighted average remaining contractual life on options exercisable at September 30, 2007 was 4.8 years.  The fair value of the stock options and SARs granted was estimated on the date of grant using a Black-Scholes option valuation model that uses the assumptions noted in the following table. The expected life of the options represents the period of time that options granted are expected to be outstanding using the historical exercise behavior of employees.  Expected volatility was based on historical volatility for a period equal to the stock option's expected life for shares granted in the third fiscal quarters of 2007 and 2006, and for a one-year look back period for shares granted prior to fiscal 2006. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant.
   
Nine Months Ended
 
   
September 30,
2007
   
September 24,
2006
 
Dividend yield
   
1.96
     
1.57
 
Expected life in years
   
5.41
     
5.27
 
Volatility
   
.19
     
.19
 
Risk-free interest rate
    4.74 %     5.00 %
Weighted average fair value of options/SARs granted
  $
8.40
    $
11.01
 
 
20

 
 
The Company also offers eligible employees the option to purchase common stock under its ESPP.  The expense associated with the plan is computed using a Black-Scholes option valuation model with similar assumptions to those described for stock options, except that volatility is computed using a one-year look back given the short-term nature of this option.  Expense associated with the ESPP is included in the stock-related compensation discussed in Note 1.



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ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
Overview
 
                The McClatchy Company (the "Company") is the third largest newspaper company in the United States, with 31 daily newspapers and approximately 50 non-dailies. Twenty of its daily newspapers were acquired on June 27, 2006 in the Knight Ridder acquisition (the "Acquisition") – see Note 2 to the consolidated financial statements.  McClatchy also operates leading local websites and direct marketing operations in each of its markets which complement its newspapers and extend its audience reach in each market.  McClatchy-owned newspapers include The Miami Herald, The Sacramento Bee, The Fort Worth Star-Telegram, The Kansas City Star, The Charlotte Observer, and The (Raleigh) News & Observer.
 
            McClatchy also has a portfolio of premium digital assets. Its leading local websites offer users information, comprehensive news, advertising, e-commerce and other services.  The Company owns and operates McClatchy Interactive, an interactive operation that provides websites with content, publishing tools and software development.  McClatchy operates Real Cities, the largest national advertising network of local news websites and owns 14.4% of CareerBuilder, the nation’s largest online job site.  McClatchy also owns 25.6% of Classified Ventures, a newspaper industry partnership that offers classified websites such as the nation’s number two online auto website, cars.com, and the number one rental site, apartments.com.
 
                The Company's primary source of revenue is advertising, which accounted for roughly 84% of the Company's revenue through September 30, 2007.  While percentages vary from year to year and from newspaper to newspaper, retail advertising carried as a part of newspapers ("run-of-press" or "ROP" advertising) or in advertising inserts placed in newspapers (preprint advertising) contributed roughly 44% of advertising revenues at the Company's newspapers.  Recent trends have been for certain national or regional retailers to use greater preprint and online advertising and less ROP advertising, although that trend shifts from time to time.  Nonetheless, ROP advertising still currently makes up the majority of retail advertising.  Classified advertising (including online classified advertising), primarily in automotive, employment and real estate categories, contributed about 39% of advertising revenue and national advertising contributed about 9% of total advertising revenue.  Direct marketing and other advertising make up the remainder of the Company's advertising revenues.  Circulation revenues contributed roughly 12% of the Company's newspaper revenues.  Most newspapers are delivered by independent contractors.  Circulation revenues are recorded net of direct delivery costs.
 
                See the following "Results of Operations" for a discussion of the Company's revenue performance and contribution by category for the three months and nine months ended September 30, 2007 and September 24, 2006.
 
22

Critical Accounting Policies

Critical accounting policies are those accounting policies that management believes are important to the portrayal of the Company's financial condition and results and require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.  The Company's 2006 Annual Report on Form 10-K includes a description of certain critical accounting policies, including those with respect to revenue recognition, allowance for uncollectible accounts, acquisition accounting, goodwill and intangible impairment, discontinued operations, pension and post-retirement benefits, income taxes, insurance and stock-based employee compensation.
 
Goodwill and Intangible Impairment:
 
                The Company accounts for goodwill in accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets.  As required by SFAS No. 142, the Company tests for goodwill annually (at year-end) or whenever events occur or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.  The required two-step approach uses accounting judgments and estimates of future operating results.  Changes in estimates or the application of alternative assumptions could produce significantly different results.  Impairment testing is done at a reporting unit level.  The Company performs this testing at its four newspaper operating segments, which are also considered reporting units under SFAS 142. An impairment loss generally is recognized when the carrying amount of the reporting unit’s net assets exceeds the estimated fair value of the reporting unit. The estimates and judgments that most significantly affect the fair value calculation are assumptions related to revenue growth, newsprint prices, compensation levels, discount rate and private and public market trading multiples for newspaper assets.  The Company determined that it should perform its impairment testing of goodwill as of September 30, 2007, due to the continuing challenging business conditions and the resulting weakness in the Company’s stock price as of the end of its third quarter. See Note 3 to the consolidated financial statements.
 
                Newspaper mastheads (newspaper titles and website domain names) are not subject to amortization and are tested for impairment annually (at year-end), or more frequently if events or changes in circumstances indicate that the asset might be impaired.  The impairment test consists of a comparison of the fair value of each newspaper masthead with its carrying amount.  The Company performed impairment tests on newspaper mastheads as of September 30, 2007.  See Note 3 to the consolidated financial statements.
 
                Intangible assets subject to amortization (primarily advertiser and subscriber lists) are tested for recoverability whenever events or change in circumstances indicate that their carrying amounts may not be recoverable.  The carrying amount of each asset group is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use of such asset group.  The Company performed impairment tests on its long lived assets (including intangible assets subject to amortization) as of September 30, 2007.  No impairment loss was recognized on intangible assets subject to amortization.
 
Income Tax Contingencies:
 
                The Company is subject to periodic audits by the Internal Revenue Service and other state and local taxing authorities.  These audits may challenge certain aspects of the Company's tax positions such as the timing and amount of deductions and allocation of taxable income to the various tax jurisdictions.  Income tax contingencies are accounted for in accordance with FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes ("FIN 48"), and may require significant management judgment in estimating final outcomes.  Actual results could materially differ from these estimates and could significantly affect the effective tax rate and cash flows in future periods.

23


Recent Events and Trends
 
Acquisition Transaction:
 
               On June 27, 2006 (the third day of the Company’s third fiscal quarter), the Company completed the purchase of Knight-Ridder, Inc. ("Knight Ridder") pursuant to a definitive merger agreement entered into on March 12, 2006, under which the Company paid Knight Ridder shareholders a per share price consisting of $40.00 in cash and .5118 of a Class A McClatchy common share (the "Acquisition").  The Company issued approximately 35 million Class A common shares in connection with the Acquisition.  The total purchase price was approximately $4.6 billion.  In addition, the Company assumed $1.9 billion of Knight Ridder's long-term debt at the closing of the Acquisition.
 
                Prior to the Acquisition, Knight Ridder published 32 daily newspapers in 29 U.S. markets, operated websites in all of its markets and owned a variety of internet and other investments which consisted of:  33.3% of each of CareerBuilder LLC ("CareerBuilder") and ShopLocal LLC ("ShopLocal"), 25.0% of Topix.net ("Topix"), 21.5% of Classified Ventures LLC ("Classified Ventures"), 33.3% interest in SP Newsprint Company ("SP"), 13.5% interest in the Ponderay Newsprint Company ("Ponderay") and 49.5% of The Seattle Times Company which owns The Seattle Times newspaper and weekly newspapers in the Puget Sound area, and daily newspapers located in Walla Walla and Yakima, Washington and in Portland, Maine and various other smaller investments.  Knight Ridder was the founder and operator of Real Cities, the largest national advertising network of local news websites.

To consummate the Acquisition, the Company borrowed $3.1 billion under a new bank debt facility (see Note 6 to the consolidated financial statements) and used the proceeds from the sales of four Knight Ridder newspapers (see Disposition Transactions below) in order to pay Knight Ridder shareholders ($2.7 billion) and refinance its and Knight Ridder's bank debt ($498.0 million).  The after-tax proceeds from the sales of eight Knight Ridder newspapers sold after the Acquisition closed were used to reduce debt.

The Acquisition was accounted for as a purchase.  The purchase price was allocated to the assets acquired and liabilities assumed based upon their estimated fair values as of the June 27, 2006 Acquisition date.  The purchase price allocation was primarily based upon an independent valuation.  The purchase price allocation, while substantially completed, is subject to further adjustments based upon completion of analyses of deferred income tax assets and liabilities.
 
Disposition Transactions:

In conjunction with the Acquisition, the Company divested 12 Knight Ridder newspapers for strategic and antitrust reasons.  The divested newspapers were the Philadelphia Inquirer;Philadelphia Daily News;San Jose Mercury News; St. Paul Pioneer Press; Akron Beacon Journal (OH); Wilkes Barre Times Leader (PA); Aberdeen American News (SD); Grand Forks Herald (ND); Ft. Wayne News-Sentinel (IN); Contra Costa Times (CA); Monterey Herald (CA); and Duluth News Tribune (MN).  The Company received cash proceeds of approximately $2.0 billion (net of transaction costs) from these divestitures.  In addition, the buyers assumed approximately $77 million of Knight Ridder retirement obligations related to certain newspapers (see Note 7 to consolidated financial statements).  Four of the 12 newspapers were sold concurrently with the closing of the Acquisition.  The remaining eight newspapers were owned for periods ranging from two days to 36 days following the closing of the Acquisition.  The operating results of these eight divested newspapers for the periods they were owned by the Company, including interest expense and debt issuance costs related to bank debt incurred until their respective sales, are included in discontinued operations in the Company's consolidated statement of income for 2006.  No accounting gain or loss was recognized on the sale of the 12 newspapers.

24

In July 2006, the Company sold 18.3% of its interest in each of CareerBuilder and ShopLocal, and 13.8% of its interest in Topix for an aggregate of $309.7 million in cash and used the after-tax proceeds to reduce debt.  No accounting gain or loss was recognized on the sale of these investments. The Company retained a 15.0% interest in each of CareerBuilder and ShopLocal and an 11.3% interest in Topix.  Effective May 11, 2007, the Company's interest in CareerBuilder declined to 14.4%.

On March 5, 2007, the Company sold the (Minneapolis) Star Tribune and other publications and websites related to the newspaper to an entity affiliated with Avista Capital Partners for $530.0 million.  The Company expects to receive an income tax refund of approximately $201.0 million related to the sale in 2008.  This amount has been recorded as a current asset on the consolidated balance sheet.

The results of Star Tribune's operations, including interest on debt incurred to purchase it, have been recorded as discontinued operations in all periods presented. The Company used the proceeds from the sale of the Star Tribune to reduce debt.

Impairment of Goodwill and Newspaper Mastheads:

Management performed its testing of impairment of goodwill and newspaper mastheads as of September 30, 2007, due to the continuing challenging business conditions and the resulting weakness in the Company's stock price as of the end of its third quarter.  The fair value of the Company's reporting units for goodwill impairment testing and individual newspaper mastheads were estimated using the expected present value of future cash flows, using estimates, judgments and assumptions (see Note 1 to the consolidated financial statements), that management believes were appropriate in the circumstances.  As a result, the Company recorded an impairment charge related to goodwill of $1.2 billion and a newspaper masthead impairment charge of $250.4 million in the third quarter of 2007.  About a third of the goodwill impairment charge resulted from the accounting treatment of the value of common stock issued in the Acquisition (see Notes 2 and 3 to the consolidated financial statements), which resulted in additional goodwill being recorded.
 
Advertising Revenues:

Classified advertising revenues have continued to decline since the third fiscal quarter of 2006 and advertising results declined across the board in the third fiscal quarter of 2007, but particularly in real estate advertising.  Real estate advertising began to weaken in the fourth fiscal quarter of 2006 and has declined substantially since then.  The Company has seen significant declines in California and Florida, where real estate values and thus advertising were strong in the third fiscal quarter of 2006 (see discussion below).  The decline in automotive classified advertising reflected an industry-wide decline that began in 2004, while employment advertising has been in decline in most markets since the third fiscal quarter of 2006.  National advertising also declined in the third fiscal quarter of 2007 reflecting a slowdown in a number of segments including telecommunications, national automotive and financial advertising.

25

A total of 67.9% of the Company's advertising declines in the third fiscal quarter of 2007 came from California and Florida, two regions that benefited strongly from the real estate boom, and are likewise being hurt in the subsequent real estate slowdown. Advertising revenues were down 18.1% in these regions in the third fiscal quarter of 2007. The housing sector is an important component of these states’ economies. Hence, California and Florida also account for a majority of the decline in auto and employment advertising, as the real estate downturn appears to be having an impact on these categories as well. These states have experienced real estate related advertising downturn and recovery cycles in the past and were among the Company’s best performing regions in 2006. Management believes a significant portion of the current advertising downturn reflects these cyclical forces and expects declines to continue in the fourth quarter of 2007 because of the difficult trends in these states. See the revenue discussions in management’s review of “Results of Operations”.
 
Newsprint:

Newsprint prices continued to decline in the third fiscal quarter of 2007 after a sustained period of increasing prices from 2002 through early 2006.  Through the first nine months of fiscal 2007, newsprint expense was 16.5% lower than pro forma newsprint expense (which includes the 20 Knight Ridder newspapers, but excludes the (Minneapolis) Star Tribune) in the first nine months of 2006, primarily reflecting lower newsprint usage and, to a lesser degree, lower newsprint prices.  Newsprint pricing is dependent on global demand and supply for newsprint.  Significant changes in newsprint prices can increase or decrease the Company's operating expenses.  However, because the Company has ownership interests in newsprint producers (Ponderay and SP), the recent trend of falling newsprint prices, while favorably affecting operating expenses, is contributing to equity losses from these investments.  Ponderay and SP are also currently impacted by the higher cost of energy and fiber used in the papermaking process.  The impact of newsprint price increases on the Company's financial results is discussed under "Results of Operations".

As a result of the recently announced strategic alternative review at SP, the Company and its partners are seeking to sell SP.  The ultimate outcome of the strategic review cannot be determined and the timing of a transaction, if any, which the Company and its partners may undertake has not been determined.
 
RESULTS OF OPERATIONS

The Company's results from continuing operations since the close of the Acquisition (and all pro forma amounts for prior periods discussed) include the operations of the 20 retained former Knight Ridder newspapers and all of the Company's previously owned newspaper operations except for the (Minneapolis) Star Tribune newspaper.
 
Third Fiscal Quarter of 2007 Compared to Third Fiscal Quarter of 2006

The Company reported a loss from continuing operations in the third quarter of 2007 of $1.3 billion, or $16.40 per share, including a $1.4 billion pre-tax charge for impairment of goodwill and newspaper mastheads and an $84.6 million pre-tax charge to write down the value of the Company's investments in The Seattle Times Company and Ponderay Newsprint and land held for sale.  Income from continuing operations in the third quarter of 2006 was $52.6 million or 65 cents per share, and included a gain of $9.0 million related to the sale of land.

26



Revenues:
 

Revenues in the third quarter of 2007 were $540.3 million, down 9.2% from revenues of $595.1 million in 2006.  Advertising revenues were $457.0 million, down 9.8% from advertising in 2006, and circulation revenues were $68.0 million, down 3.7%.

As discussed in Recent Events and Trends above, 67.9% of the Company's advertising declines in the third fiscal quarter of 2007 came from California and Florida, two regions that benefited strongly from the real estate boom, and are likewise being hurt in the subsequent real estate slowdown. Advertising revenues were down 18.1% in these two regions in the third fiscal quarter. The housing sector is an important component of these states’ economies. Hence, California and Florida also account for a majority of the decline in auto and employment advertising, as the real estate downturn appears to be having an impact on these categories as well.  

The following summarizes the Company's revenue by category, which compares third fiscal quarter of 2007 with third fiscal quarter of 2006 (dollars in thousands):

   
Quarter Ended
 
   
September 30,
2007
   
September 24,
2006 (1)
   
%
Change
 
                        Advertising:
   </