May 29, 2012
The chronically weak stock market performance of Live Nation (LYV) is one of the more puzzling stories in the media/entertainment investment universe. Seven years after spinning out of Clear Channel as a concert promotion and venue management leader and two and a half years after the merger with Ticketmaster created a live entertainment powerhouse, LYV shares continue to underperform. Even despite a recent uptick partially attributable to news that LYV’s largest shareholder, Liberty Media (LMCA) had increased its stake to 26%, LYV shares are down 15% over the past year, well behind the S & P 500’s flattish return that includes dividends. LYV’s five-year performance is downright dreadful at minus 53%.
In light of such dramatic underperformance despite ownership of an attractive asset portfolio and favorable industry trends toward live music, investors would be forgiven for thinking that perhaps LYV shares are at last an interesting investment opportunity. While my analysis suggests that downside is limited for LYV and a case can be made for compelling long-term value at $9.39 per share, barring an unlikely Liberty-sponsored privatization of the company, catalysts for near-term share appreciation are difficult to identify. It is a rare Liberty portfolio company that lacks credibility in the investment community, but that appears to be the case with LYV: skeptical investors are in “show me” mode. And awkwardly, LYV occupies a segment of the market in which it is not a value stock returning cash to shareholders (like Liberty’s DirecTV) nor an investor favorite awarded a rich market multiple (like Liberty’s Sirius XM) nor certainly not some optimal combination of the two (a bit like Liberty’s HSN).
Why has LYV been such a head-scratching underachiever? It’s easy to arrive at the conclusion that value has historically leaked away from shareholders and toward LYV’s artist clients, management and lost to inefficiencies. After all, how to explain that a dominant, vertically integrated live entertainment behemoth with $5.4 billion in 2011 revenue generates EBITDA margins only in the mid-single digits? Or that operating efficiencies and incremental opportunities reasonably expected to be harvested from the merger with Ticketmaster in early 2010 are hard to find in LYV’s financial results two years on? Or that the diluted share count continues to expand, up nearly 6% in the past year to 186 million? Or that LYV remains a non-investment grade credit with debt/EBITDA above 3.5x and that debt covenants begin tightening later this year?
Yet operational metrics are improving in nearly every business segment and, importantly, there are signs that LYV’s bloated cost structure is being addressed. With revenue up a little over 2% in Q1 in its seasonally slowest quarter, direct and selling expenses fell by about 2%, indicating the achievement of some modest operating leverage. Yet corporate overhead rose by 10% to $23 million in the quarter or 2.7% of revenue, some 20 basis points higher than last year. EBITDA margins in Q1 rose to 4.2% from under 1% in 2011, an improvement but still lackluster given where this company should be in its post-merger operational cycle.
Still, the company enters its strongest part of the calendar with a bit of momentum. This may never be a double digit revenue growth business, but if the recent margin improvement continues, LYV should generate north of $100 million of free cash flow in 2012, the most in its history. For 2013, this looks like a $6 billion revenue business with more than $450 million of EBITDA and free cash flow in the $160 million range. Margin expansion is absolutely critical to the investment thesis: with a $6 billion top line, even a 150-200 basis point margin improvement has massive flow-through implications. If management can deliver on this forecast, the company could see its net leverage fall into the 2x EBITDA range by early 2014. An investment grade credit rating should pave the way for a long-awaited return of capital to shareholders, though probably not for another 24 months.
Liberty, the savviest media investor on the planet, obviously sees value here as evidenced by its recent additional purchases of LYV securities. Just as fierce speculation surrounds Liberty’s intentions regarding its investment in Sirius XM, similar chatter could develop here. In Sirius XM’s case, the tireless Liberty speculation has been a counterproductive distraction, which is a future consideration here as well. The likelihood of a $2 billion tender any time soon for the 74% of LYV that it doesn’t own, while easily within Liberty’s capabilities, is low. LYV doesn’t have much current debt capacity, the fact that there isn’t a natural strategic buyer for a privately-held LYV and Liberty’s preference for the majority of its assets to be in public equities suggests that LYV will remain public. To date, perhaps the most surprising development at LYV is that Liberty hasn’t demanded faster operational improvements at the company, at least publicly. In future, the best guess is that Liberty remains a large, long-term shareholder in a company that, when finally in a position to return capital to shareholders in 2014, may be more inclined to dividends than share buybacks that facilitate creeping control for Liberty.
The path to improved operational results and a higher stock price is now visible, driven by overdue cost controls, expanding margins, improving cash flows, balance sheet deleveraging and an eventual return of capital to shareholders, all of which could meaningfully occur between now and 2014. If management can finally execute, there is no reason that a company on a $500 million EBITDA run rate in 2014 that generates close to $250 million of free cash flow can’t be worth $17 per share, even without any multiple expansion from current levels. But that’s probably too far into a murky future to be an aggressive buyer of the stock now.
DISCLOSURE: Twinleaf client account portfolios do not currently include LYV shares.
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