excerpts from the 2015 forgotten forty - boyar research · despite ongoing industry consolidation,...

Excerpts from the 2015 Forgotten Forty

INVESTMENT RESEARCH SUMMARY PRICED DECEMBER 16, 2014

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CDK Global, Inc.

Balance Sheet Data Catalysts/Highlights (in millions) 9/30/14 2014 Initiation of robust sh are repurchase

authorization Further traction in Di gital Marketing as au to

retail advertising budgets are right-sized to reflect consumer shopping behavior

Increased street coverage of CDK with just two sell side firms following shares

Increased vehicle sales leading to higher transaction-based revenues

Cash $ 355 $ 403 Current Assets 825 907 TOTAL ASSETS $ 2,470 $ 2,587

Current Liabilities $ 459 $ 494 Long Term Debt 983 - Shareholders Equity 735 1,790 TOTAL LIABILITIES AND SHAREHOLDERS EQUITY

$ 2,470 $ 2,587

Fiscal Year Ending June 30

P&L Analysis ($ in millions except per share items)

2014 2013 2012 2011 Revenues 1,974 1,839 1,696 1,564 Net Income 236 199 161 135

INVESTMENT RATIONALE

CDK Global, which was spun out of AD P in October 2014, is the l eading supplier of technol ogy solutions to automotive dealerships and generated approximately $2 billion of revenue during FY 2014. The Company operates in 2 main segments: Automotive Retail (64% of revenues; 94% of E BT) and Digital Marketing (36%; 6%), both of which are essentially software as a service (SaaS) businesses. CDK is th e largest provider of dealer management systems (DMS) techno logy solutions to auto retailers in the U.S. with ~40% penetration. Notably, 7 of the top 10 and 57 of the top 100 largest American auto dealerships by vehicle sales are clients.

In our view, CDK operates an attractive business model that is well positioned in its in dustry. As a te stament to the Company’s strong business model, we note that ADP los t its coveted A AA bond rating as a res ult of the spinoff. This may seem counterintuitive, with CDK accounting for just 16% of AD P’s consolidated revenues and CDK’s seemingly cyclical business due to its reliance of global auto sales. However, a closer look at CDK’s operations reveals a business that is largely insulated from cyclical fluctuations due to a large base of recurring revenues (~65% of total Company), the vast majority of which is pursuant to multi-year contracts. In fact, North American r evenues within the Automotive Retail segment declined by just 4% between 2009 and 2010 while auto sales declined more than 20%. The DMS market is virtu ally a duopoly with CDK and Reynolds & Reynolds holding nearly 80% of the m arket. There are significant switching costs associated with changing vendors and we would note that CDK’s newest DMS can r equire upwards of $200k of upfront costs. Over the years, smaller entrants offering aggressive pricing and even deep pocketed firms such as Microsoft have failed to gain meaningful traction.

Despite ongoing industry consolidation, the automotive retail industry remains highly fragmented. According to industry research, the 50 largest franchised automotive retail groups in the U.S. generated less than 15% of total new vehicle sales. In our view, the industry composition bodes well for vendors such as CDK providing good pricing power with no one customer group able to dicta te pricing. We believe the recent retail automotive investments by several prominent investors including Leucadia, Berkshire Hathaway and Brookfield are a s ign of fav orable industry long term growth prospects. While these recent investments may accelerate consolidation, this could actually be beneficial to CDK as lar ger automotive groups tend to invest more in information technology and digital marketing/advertising.

We believe CDK possesses a number of good growth opportunities. While the North American market for DMS is largely saturated, CDK should be ab le to increase its share of wallet with existing customers by offering additional services such as warranty modules, etc. We would note t hat dealer profit margins have doubled from 2008/2009 lows providing dealerships with financial flexibility to purchase additional services from CDK. CDK is als o well positioned to benefit from the projected robust growth of new car sales in emerging markets which is expected to result in a substantial increase in new car dealerships. For example, the number of car dea lerships in China is expected to double by 2020 to nearly 40k according to industry projections. Finally, digital marketing solutions remain underpenetrated industry wide, but are e xpected to b e embraced by dealerships as advertising budgets are right-sized to reflect consumers’ research behavior (more than 90% of consumers use the web during their shopping process though just 27% of dealers’ advertising budgets are currently directed toward online advertising).

There is a s ignificant amount of operating leverage inherent in CDK’s SaaS business model. Between FY 2012 and FY 2014 CDK’s EBT increased from $253 million to $353 million with margins expanding by ~300 bps to 17.9%. Management projects that FY 2015 margins will be at least 16%, or more than 50 bps higher on a pro forma basis (reflects public company costs) and that CDK’s business model will be able to support 50 to 100 bps in margin expansion per year. CDK’s strong cash flows ($200-$225 million in FCF expected during FY 2015) and growth opportunities coupled with low leverage levels (net debt/EBITDA: 1.5x) should provide the C ompany with significant capacity to ret urn value to s hareholders. CDK is likely to follow the successful capital allocation of Broadridge (robust dividends and share repurchases), which was spun out of ADP in 2007 and we note that CDK’s Chairman has served as Broadridge’s Chairman since 2007.

Based on our projections, we estimate CDK’s intrinsic value to be $45 a share. We believe a number of factors could produce additional upside, including outsized returns to shareholders, increased investor awareness (currently followed by just 2 analysts), and greater than anticipated new car sales (higher transaction-based revenues). As spinoff restrictions lapse, we would not be surprised if CDK attracted the attention of private equity given its low leverage and strong cash flow generation.

Symbol: CDK Exchange: NASDAQCurrent Price: $38.77Current Yield: 1.2%Current Dividend: $0.48Shares Outstanding (MM): 161Major Shareholders: Officers & Directors <1% Average Daily Trading Volume (MM): 3.352-Week Price Range: $42.12-$25.00Price/Earnings Ratio: 29.3xStated Book Value Per Share: $4.57


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HealthSouth Corporation

Balance Sheet Data Catalysts/Highlights (in millions) 9/30/14 2013 2012 Pending acquisition of En compass will

diversify operations and add a second growth platform

Lessening Medicare funding concerns could improve sentiment toward HLS

Strong free cash flow profile and refinanced debt present incremental return of c apital opportunities

Cash $ 272 $ 65 $ 133 Current Assets 783 580 637 TOTAL ASSETS $ 2,794 $ 2,534 $ 2,424 Current Liabilities $ 515 $ 312 $ 301 Long Term Debt 1,650 1,667 1,254 Shareholders Equity 593 469 405 TOTAL LIABILITIES AND SHAREHOLDERS EQUITY

$ 2,794 $ 2,534 $ 2,424

Fiscal Year Ending December 31

P&L Analysis (in millions except per share items)

2013 2012 2011 2010 Revenues 2,273 2,162 2,027 41,878 Net Income 381 236 256 940 Earnings Per Share 2.59 1.62 1.39 8.20 Dividends Per Share 0.36 Nil Nil Nil Price Range 37.01-21.53 24.99-16.55 28.50-13.65 22.22-16.65


HealthSouth is the largest owner and operator of freestanding inpatient rehabilitation facilities (IRFs) in the U.S., with 105 facilities and 7,011 beds in 2 8 states. Lon g burdened by legacy litigation and debt overhangs following an Enron-era accounting scandal, today HLS is a well-managed player in an attractive health care service niche. HealthSouth’s business model relies on >80% Medicare funding, which presents some uncertainty. Medicare reimbursement cuts will keep annual price escalators in check through the rest of the decade, but we believe inpatient rehabilitation is not li kely a prime candidate for additional large-scale cost cutting in the near-term to mid-term. At $7 billion in 2013, inpatient rehab accounts for just 1% of total Medicare spending, serves relatively high-acuity patients, and h as market-wide margins b elow other segments. Furthermore, HealthSouth is the lo w-cost provider and benefits from significant competitive advantages versus IRF competitors due its focus on freestanding units, industry leading scale, and best-in-breed patient outcomes.

Net inpatient revenue per discharge is scheduled to grow at low single-digit rates, and HLS still has capacity for same store discharge growth (which averaged 3% per annum the past 3 years). The aging of the baby boom population as well as share gains from hospital based IRFs offer attractive incremental long-term growth opportunities. The Company continues to take share from hospital-based units and has a long runway. HLS is by far the largest IRF provider by number of beds but still only has an ~18% share of licensed beds. The Company is reinvesting a significant portion of its outsized free cash flow into bed expansion and construction of de novo IRFs, with an attractive prospective IRR profile (management’s stated hurdle is 15% pre-tax). On a combined basis, these factors could easily produce mid single-digit annual revenue growth and continued adjusted EBITDA margin expansion going forward, as fixed costs are leveraged.

There has been one ma jor development since AAF initially profiled HealthSouth in April 2014. In November 2014, HealthSouth announced the $750 million acquisition of Encompass Home Health and Hospice. A transformativ e acquisition and the Company’s largest in the post-scandal era, Encompass’ 140 locations and 5,000 employees across 13 states will give make HLS the fifth larg est provider of M edicare-focused skilled home health services. The deal valued Encompass at approximately 9.5x 2015E EBITDA inclusive of tax benefits, which appears reasonable compared to publicly traded home health peers and recent industry comps. T he acquisition fits HLS managem ent’s stated interest in moving into a djacent markets and developing into a more compr ehensive post-acute care service provider in alignment with Medicare’s long-term aim for a coordinated care/bundled payment system. HLS discharges ~50% of patients to home health but recaptured only ~4% into the 25 home health agencies it already owned. HLS plans to retain the Encompass team to continue to execute their strategy of rolling-up the Medicare home health and hospice market. Encompass has completed 45 acquisitions since 2005. The industry is an attractive target, which at $33.5 billion is ~5x the size of the IRF market but is still highly fragmented with over 12,000 agencies.

While HLS sh ares are still u p 9% in t he 8 months since AAF init ially profiled the Com pany, shares have rec ently pulled back from all-time highs above $42. From an intrinsic value perspective, we would highlight Kindred Healtcare’s just-announced acquisition of IR F operator Centerre Healthcare for $195 million. Centerre operates 11 facilities with 612 beds (plus 2 facilities with 90 beds under construction) in JVs with hospital systems, and Kindred plans to use the acquisition in combination with its existing 5 IRF s and 102 h ospital-based rehab units to gro w a dedicated rehab services business. Although pro forma financials for recent IRF builds ar e not available, we estimate the Centerre acquisition was priced at well above 10x EBITDA. Considering HealthSouth’s far larger scale and real estate holdings (HLS owns the land and/or building at 78 facilities while all of Centerre’s properties are leased), we believe HLS should garner a premium. Nonetheless valuing HLS at 9x 2017E EBITDA, we estimate the Company’s intrinsic value approaches $57 per share over a 2-3 year time frame. Encompass could also be viewed as a de-risking acquisition for H LS from a bus iness model perspective, and s uccessful integration could be a catalyst for reducing the discount applied to HLS shares. Following the deal, HLS leverage will increase by one turn but still remain at a manageable 3.5x EBITDA. Incremental share repurchases and/or dividend increases (raised 17% to $0.84 per share in October) could provide additional upside to our estimate of intrinsic value.

Symbol: HLS Exchange: NYSECurrent Price: $36.96Current Yield: 2.3%Current Dividend: $0.84Shares Outstanding (MM): 87.8Major Shareholders: Insiders 5%Average Daily Trading Volume (MM): 0.4552-Week Price Range: $42.41-$29.82Price/Earnings Ratio: 16.7xStated Book Value Per Share: $6.76


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Liberty Media Corporation

Balance Sheet Data Catalysts/Highlights (in millions) 9/30/2014 2013 2012 Liberty Broadband spinoff creates simpler

Liberty Media structure Double-digit discount to NAV h as

resurfaced Increased liquidity at LMC a nd large scale

share repurchases at S irius offer LMC dry powder for incremental capital deployment

Sirius investment should eventually be separated in a tax-efficient spinoff/merger

Cash $ 377 $ 1,088 $ 603 Current Assets 2,171 2,494 2,211 TOTAL ASSETS $ 33,845 $ 34,542 $ 8,325 Current Liabilities $ 3,231 $ 3,172 $ 385 Long Term Debt 5,320 4,778 NA Shareholders Equity 14,021 14,081 6,440 TOTAL LIABILITIES AND SHAREHOLDERS EQUITY

$ 33,845 $ 34,542 $ 8,325



2013 2012 2011 2010 Revenues 4,002 1,999 3,024 2,050 Net Income 8,780 1,414 607 794 Earnings Per Share 73.17 11.40 6.90 8.54 Dividends Per Share NA NA NA NA Price Range 159.33-105.01 116.01-78.31 91.14-61.11 63.32-23.75


Liberty Media continues to simplify its structure, following up the January 2013 spinoff of Starz with the separation of its stake in Ch arter Communications via the spinoff of Lib erty Broadband in Nov ember 2014. As a re sult, the lio n’s share (~80%) of Liberty Media’s equity value now rests in its controlling stake in Sirius XM, with a public market value in excess of $11 billion. Sirius continues to be th e gift that kee ps on giving for Liberty, as SIRI is comfortably on pace for its sixth consecutive year of double-digit growth following the merger of the two satellite radio operators in 2008. Sirius subscribership is up 5% to 26.7 million and revenue has increased 10% YTD 3Q14, driven by strong new car sales and continued headway in penetrating the used car mar ket. Sirius also continues to exert tremendous operating leverage as the compa ny spreads out customer acquisition, programming and content, and fixed satellite/engineering costs over a growing revenue base. Adjusted EBITDA margins are up 510 bps YTD to 35.1%, prod ucing a whopping 29% growth in adjusted EBITDA YTD to $1.1 billi on. Aided by the tax shield from a $6.5 billion gross operating loss carryforward as of the cl ose of 2013, free cash flow is set to exceed $1,100 (~$0.20/share) in 2014.

Sirius’ stable, high margin subscription based business model also allows for a highly leverageable balance sheet. Spurred on by Liberty/John Malone’s leveraged return on equity investment philosophy, Sirius continues to utilize its outsized free cash flow and under-levered balance sheet to rapidly shrink its share count. Sirius has repurchased $2.0 billion worth of shares (~9%) YTD 3Q14 a nd $3.8 billion (17%) since December 2012. With 2014 year-end leverage projected at only ~3x EBITDA versus management’s 4x target, and cash flow to be shielded from taxes for years to come, Sirius has plenty of room for continued large-scale return of capital to shareholders. We estimate SIRI could repurchase close to 17% of shares outstanding over the next year alone by bringing its leverage ratio up to 4x.

Beyond Sirius, Liberty Media’s other core assets are its 27% stake in Live Nation valued at $1.4 billion and ownership of the Atlanta Braves baseball team. Both assets continue to appreciate nicely, with Live Nation shares up another 34% over the past year and sports franchises continuing to command ever- escalating price tags. We would not expect to see Libe rty monetize these assets an ytime soon giv en favorable long-term industry trends. No netheless, Liberty Media still retains $2.3 billion in available liquidity outside Sirius including $1.5 billion in c ash and liquid investments plus non-core equity holdings, as well as $750 million in revolving loan capacity. Additionally, Liberty Media has elected not to participate in the most recent round of repurchases at Sirius, thereby increasing its stake to ~57.5%. But Liberty Media still holds $2.0 billion in high cost basis SIRI shares that could be sold, e.g. if L iberty Media were to e lect to participate in SIRI’s repurchase plans during 2015. Overall, this le aves close to $5 bi llion in tot al liquidity still available to C EO Greg Maffei an d Chairman John Malone, who have proven to be some of the finest capital allocators over the long term as evidenced by Liberty Media shares’ 30% CAGR since issuance in 2006.

Despite the strong operational performance at Sirius as well as Live Nation, both Sirius and Liberty Media shares are roughly flat over the past year. While this partially reflects Sirius shares’ rapid appreciation in the preceding years, Sirius now trades at a reasonably attractive valuation at 14x 2015E EBITDA and a 7% forward free cash flow yield. While SIRI’s earnings growth rates of recent years may no longer be replicable as new car sales have fully recovered to pre-recession levels, Sirius still has attractive long-term opportunities from continued used vehicle owner penetration as well as adoption of the company’s Agero connected vehicle platform. Furthermore, the “d ouble discount” has resurfac ed at Li berty Media fo llowing the Broadband spinoff; we estimate LMCA currently trades at a low double-digit discount to net asset value largely based on the quoted value of its equity holdings and a $730 million valuation for the Braves (Forbes estimate; below consensus). A tax-free combination of Liberty Media’s stake i nto Sirius would substantially eliminate this discount, and we believe an eventual combination is only a matter of when, not if. In the interim, LMC, which has repurchased over 50% of shares outstanding since 2008, may resume large-scale share repurchase activity if the discount persists.

Symbol: LMCA Exchange: NASDAQCurrent Price: $33.45Current Yield: NACurrent Dividend: NAShares Outstanding (MM): Class A 104, Cl B 10, Cl C 229Major Shareholders: John Malone 10%; 47% votingAverage Daily Trading Volume (LMCA, MM): 1.052-Week Price Range: NAPrice/Earnings Ratio: NAStated Book Value Per Share: NA


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The Madison Square Garden Company

Balance Sheet Data Catalysts/Highlights

(in millions) 9/30/14 2014 2013 Potential separation of sports assets from entertainment properties into two publicly traded companies

Free cash flow acceleration following completion of Garden and Forum renovations

Recent divestiture of Fuse will markedly improve margins at the crown jewel MSG Media segment

Cash $ 331 $ 102 $ 207 Current Assets 552 400 416 TOTAL ASSETS $ 3,069 $ 2,926 $ 2,525

Current Liabilities $ 656 $ 604 $ 516 Long Term Debt 0 0 0 Shareholders Equity 1,710 1,604 1,320 TOTAL LIABILITIES AND SHAREHOLDERS EQUITY

$ 3,069 $ 2,926 $ 2,525

Fiscal Year Ending June 30


2014 2013 2012

Revenues 1,556 1,341 1,284 Net Income 115 142 107 Earnings Per Share 1.47 1.83 1.38 Dividends Per Share N/A N/A N/A Price Range 63.00-48.16 63.44-34.36 38.90-21.12


In October 2014, Madison Square Garden announced its intent to explore a spinoff that would separate its entertainment business from its media and sports businesses. The shareholder friendly move by the Dolans should come as no surprise to AAF readers as we have previously pointed to the MSG and AMC Networks spinoffs by Cablevision to illustrate their willingness to surface shareholder value. The shareholder friendly development followed on the heels of JAT Captial’s 13D filiing in August 2014. While shares have reacted favorably to the spinoff announcement (up 23% YTD 2014), there is still a sizable discount between MSG’s share price and our estimate of the Company’s intrinsic value.

MSG’s Media segment (46% of revenues; virtually all of profitability) EBITDA margins have increased by nearly 1,300 basis points to 48.1% at FY 2014 from 35.3% at the time of the 2010 MSG spinoff. While the segment’s improvement has been impressive, there are a number of factors that should drive further upside. The July 1, 2014 sale of the unprofitable Fuse cable network has provided a glimpse of MSG Media’s true profitably with segment margins increasing ~800 basis points to 56.8% during 1Q FY 2015 on a Y-o-Y basis. Based upon our analysis, affiliate fee payments from distributors accounting for approximately 40% of its RSN subscribers will likely be renegotiated at higher rates when they come up for renewal over the next 2-3 years. The December 2014 launch of MSG Go, which provides access to the RSN’s content on digital platforms, should also enable the Company to extract higher fees from its distributors. In addition, high-margin advertising revenues are underpenetrated at MSG’s RSNs relative to traditional cable networks, but should experience good growth due to the increased attractiveness of sports programming (limited DVR viewing) in today’s fractured media landscape.

Investors are reluctant to assign much value to MSG’s sports franchises since a significant amount of their value accrues to the media segment. However, this approach understates the true value of these iconic assets. If the Knicks and Rangers were sold in an auction without their media rights, we believe the teams would still likely command a significant premium. Over the past 10 years, NBA franchises have been acquired (12 transactions) at a roughly 36% premium to the prevailing Forbes value at the time of the transaction. This premium jumps to 52% if you include Steve Ballmer’s 2014 acquisition of the LA Clippers. It should be noted that during 2011, the Philadelphia 76ers, which ranked 23 of 30 in Forbes’ recent valuation rankings (the Knicks rank as the most valuable NBA franchise), were effectively sold without their media rights for a value that approximated the prevailing Forbes value for the team.

MSG’s flagship arena, which sits on top of the busiest transportation hub in the country, holds valuable development rights. We believe these rights are being overlooked by investors and will likely become increasingly valuable as the area surrounding MSG/Penn Station is upgraded. Real estate developer Vornado owns ~13 properties around Penn Station and recently stated it plans “significant” investment in the area. Meanwhile, in May 2014 Marriott announced its intention to build a Renaissance hotel in close proximity to the arena. Manhattan air rights values have skyrocketed in recent years. According to a recent report from Tenantwise Inc., the average price paid for a square foot of air rights in NYC during 2013 increased by 47% to $305 compared with $207 in 2012 and $244 in 2007, just prior to the 2008/2009 downturn.

The multi-year, $1.1 billion renovation of MSG’s eponymous arena and to a lesser extent the purchase and subsequent renovation of the LA Forum, has masked MSG’s free cash flow generating abilities. Beginning in FY 2015 (began July 2014), capex will decline to annual rate of ~$50 million from an annual average of $316 million (past two years). The upgraded arena generates significantly higher revenue from corporate suites and sponsorships and the full benefits will begin to be realized in FY 2015. To date, MSG has frustrated investors by not returning its excess capital to shareholders. The Company boasts a pristine balance sheet with $331 million of cash and no debt. Over the past year, MSG has deployed nearly $200 million for stakes in three entertainment businesses to drive future growth. Although MSG is currently seeking additional growth opportunities, we believe it is only a matter of time before significant value is returned to shareholders. During the Company’s 3Q FY 2014 earnings call held in May 2014, MSG’s CEO Tad Smith stated, “So for the time being – and only for the time being, our priority is to find new opportunities that enhance our Company’s growth and asset value over the long term.”

Utilizing a sum-of-the-parts valuation, our estimate of MSG’s intrinsic value is $90 a share, representing 27% upside from current levels. The aforementioned separation should go a long way toward narrowing this discount, especially with MSG noting that its sports and media business will be well positioned to return capital to shareholders.

Symbol: MSG

Exchange: NASDAQ Current Price: $70.81 Current Yield: NA Current Dividend: NA Shares Outstanding (MM): 78.3 Major Shareholder: Dolan Family Group 19%; 69% voting Average Daily Trading Volume (MM): 0.7 52-Week Price Range: $77.58-$48.16 Price/Earnings Ratio: 27.9x Stated Book Value Per Share: $21.84


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Starz

Balance Sheet Data Catalysts/Highlights (in millions) 9/30/2014 2013 2012 Starz continues to improv e its competitive

position with a growing slate of originals Outsized share repurchase activity should

accelerate following recent price drop Starz is preparing to launch an international

SVOD product Joint venture or m erger remains a

possibility

Cash $ 46 $ 26 $ 750 Current Assets 643 639 1,377 TOTAL ASSETS $ 1,500 $ 1,450 $ 2,176 Current Liabilities $ 260 $ 327 $ 330 Long Term Debt 1,186 1,055 540 Shareholders Equity 53 61 1,311 TOTAL LIABILITIES AND SHAREHOLDERS EQUITY

$ 1,500 $ 1,450 $ 2,176



2013 2012 2011 2010 Revenues 1,778 1,630 1,614 1,605 Net Income 250 252 244 155 Earnings Per Share 2.04 2.12 2.00 1.32 Dividends Per Share NA NA NA NA Price Range 30.72-14.00 NA NA NA


Starz’s second year as an ind ependent public company was more uneven than its first, w ith shares rough ly flat in 2014 following a 96% advance in 2013. Shares plunged 15% in December after weeks of widely-reported speculation that Starz was on the auction block suddenly turned to reports that Starz had failed to find a buyer. With Starz shares trading within a couple percentage points of the ru mored $5 b illion price tag in early December, short-term investors clearly had gotten carried aw ay with excessive expectations for a deal.

Operationally, we believe Sta rz is st ill well positioned to survive and thri ve as an inde pendent in the evolving U.S. television/video content landscape. This past year has proven to be an underw helming one for Starz, as b oth subscribership and Starz Networks EBITDA are relatively flat versus 2013. However, the Company is still in the early stages of ramping up its investment in original programming as it transitions away from its history as primarily a destination for viewing blockbuster/premium movies. We believe this is the correct stra tegy to fortify the Company’s competitive position as f ilms and syndicated series become more commoditized. Starz has noted that while originals account for less than 10 % of airtime on its multiplex , over 50 of the 1 00 most viewed telecasts on Starz are originals. Starz is well along the path to gro w original programming from ~30 hours annua lly prior to 2013 to ~75 hours by 2015-2016. Starz’s 2015 lineup includes the second installments of two series that have already garnered some of its h ighest all-time ratings, Black Sails and Outlander, as well as several promising new series including a follow on to cult film series Evil Dead produced by the team b ehind Starz’s most successful series Spartacus. Crucially, Starz is largely funding original production growth from lower film rights payments. Starz should begin to see greater financial benefits beginning in 2016 from the expiration of its film output de al with Disney. We estimate th is could free up close to $2 00 million in c ash annually to support reinvestment in originals as well as even further return of cash to shareholders. The Company still maintains first-run film output rights to Sony pictures through 20 19 releases as well as large back-library content, so w e do not beli eve the Disney loss will be a major event. We would also note that Showtime has prospered despite essentially abandoning first-run film programming after 2008.

Premium subscription-based pay TV networks appear in a rela tively favorable position to navig ate the lo ng-term trends toward unbundling of the cab le video package and greater competition from Internet-delivered content. Unlike most traditional cable networks, Starz is still highly underpenetrated with just 22.5 millio n subscribers to the flagship netw ork. Unlike bund led cable networks, Starz’s standalone, premium pricing model more directly aligns it s interests with distributors’. M VPDs provide valuable direct marketing services for Starz and get paid for subscriber/pricing growth. Unbundling of the cable package will also allow Starz to be marketed in new, more unique packages such as “skinny stacks” (Internet plus limited/premium TV channels) or as a standalone product. The premium price point and non-re liance on advertising revenue also support an Internet-deliv ered model. Starz’s Pla y branded Internet-delivered subscription video-on-demand (SVOD) platform offers the potential to pic k up younger broadband users who do not already subscribe to Starz/premium TV, or any video service. In announcing its recent decision to introduce a standalone Internet-delivered HBO serv ice (in co ordination with its dis tributors), Time Warner estim ated this co uld reach 5 m illion new addressable subscribers. Finally, Starz has almost no international penetration but the Company is incre asingly retaining full international rights to orig inal programming. Starz recently announced initial plans to launch the Play SVOD service in select international markets.

Following the shares’ recent fall, we believe Starz is again attractively priced at 9.0x TTM EV/EBITDA and <11x 2014E free cash flow. As o ne of only three premium pay TV netw orks of scale, we believe Starz is a uniqu e asset that should com mand a premium multiple. While Starz may be off the table for now, CEO Albrecht’s only real response to the M&A rumor mill was to note that “we talk all the time,” and it is unclear the extent to which Starz was actually shopped and what may have prevented a deal. We would still not dismiss a JV/partnership or merger announcement in the coming years. Studios like Sony, Lions Gate, or MGM may be more logical partners than a distributor or traditional programming network. In the interim, Starz is likely to continue to heavily repurchase shares following the price dro p. Over the firs t 7 quarters as an indep endent company Starz spent over $500 million o n share repurchases to retire ~15% of initial shares outstanding, and leverage remains modest at 2.4x TTM EBITDA—particularly considering Starz’s stable free cash flow profile. At 11x 2017E EBITDA, we estimate Starz’s intrinsic value could exceed $40/share over a 2-3 year time frame. Notably this implies an enterprise value slightly below the Company’s recently-rumored $5 billion price tag.

Symbol: STRZA Exchange: NASDAQCurrent Price: $27.85Current Yield: NACurrent Dividend: NAShares Outstanding (MM): Class A 94.5, Class B 9.9 Major Shareholders: John Malone10%; 46% voting Average Daily Trading Volume (MM): 1.052-Week Price Range: $34.53-$26.37Price/Earnings Ratio: 11.7xStated Book Value Per Share: $0.48


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Vulcan Materials Company

Balance Sheet Data Catalysts/Highlights

(in millions) 9/30/14 2013 2012 VMC’s results should continue to have strong momentum going into 2015.

The Company’s improving balance sheet and cash flow make share repurchase and additional dividend growth likely scenarios.

Bipartisan support for infrast ructure spending in the U.S. market coul d provide improved long-term visibility for VMC and the industry.

Cash $ 92 $ 194 $ 275 Goodwill 3,095 3,082 3,087 TOTAL ASSETS $ 8,091 $ 8,259 $ 8,127

Long Term Debt $ 2,006 $ 2,522 $ 2,526 Shareholders Equity 4,201 3,938 3,761 TOTAL LIABILITIES AND SHAREHOLDERS EQUITY

$ 8,091 $ 8,259 $ 8,127



2013 2012 2011 2010 Revenues 2,771 2,567 2,565 2,559 Net Income 21 (54) (75) (103) Earnings Per Share 0.16 (0.42) (0.58) (0.80) Dividends Per Share 0.04 0.04 0.76 1.00 Price Range 60.14-45.42 53.85-32.31 47.18-25.06 59.90-35.40


Vulcan Materials Company is the nation’s largest provider of construction aggregates, primarily consisting of crushed stone, sand, and gravel, and it also provides other products such as asphalt mix and cement. The Company has 342 aggregates facilities currently in operation, and it possesses a reserve base of aggregates of roughly 15 billion tons. Revenue is derived from Aggregates (65%), Concrete (18%), Asphalt Mix (15%) and Cement (2%). Vulcan has a mix of public and private customers who use VMC’s aggregates and related materials for construction and maintenance projects. VMC operates in an industry with high barriers to entry, characterized by relatively high capital requirements and fixed costs.

In our view, the investment thesis for VMC has begun to materialize over the past year. Financial results have gained positive momentum, and management has issued constructive guidance for the future. VMC report ed better than expected EPS during 3Q-2014, and EBITDA increased by 23% year over year. Trends for aggregates pricing and volumes continued to be favorable during the most recent quarter, translating to revenue growth of 7% and gross profit growth of 31%. Management cited improved fundamentals for construction activity as am ong the primary drivers of the strong r esults. VMC ex pects operational momentum to continue going into the fourth quarter, and aggregates volumes for 2014 are expected to reach the upper end of the prev iously provided guidance of 7%- 9% growth. From our pers pective, the firm’s signific ant scale and operating leverage are just now becoming apparent in its results, an d these s hould remain ongoing themes f or the foreseeable future.

Looking ahead, we believe VMC is well positioned to achieve additional progress with sales and profits. The fundamental backdrop for aggregates should remain favorable, benefitting from construction activity and continued economic recovery within the U.S. In a ddition, several years of cost reduction and restructuring initiatives could provide an additional tailwind for Company results. It also warrants mention that VMC possesses a strong growth profile relative to its competitors. VMC’s geographic footprint (primarily in the Southeast and Southwest) should continue to experience above average growth relative to other regions, and these areas are expected to account for a majority of population growth and household formation (key drivers of construction fundamentals) within the U.S. market.

We would also highlight the possibility of increased infrastructure spending within the U.S. as a n important consideration. In a 2013 re port issued by the American Society of Civ il Engineers, the nation’s infrastructure was issued a grade of D+. The report also estimated that the nation would require at least $3.6 trillion in infrastructure spending by 2020. This issue is recognized by most political leaders as an important national priority, and is expected to receive bipartisan support from the Pres ident and newly elected Congress. Importantly, a previously proposed piece of leg islation (The Partnership to Build Amer ica Act) has alr eady received significant bipartisan support. A meanin gful U.S. infra structure program could provide an additional tailwind for VMC goi ng forward, and would provide much needed long-term visibility for the industry during the coming years.

As Vulcan’s financial results have gained traction and the Company has divested non-core assets, management has allocated significant funds to reducing VMC’s financial leverage. During the most recent quarter, net debt was down 22% year over year, and Total Debt/LTM EBITDA stood at 3.6x (down from 5.9x in the year-ago period). As a result of VMC’s improving cash flow and financial strength, the Company substantially increased the dividend earlier this year from an annual payment of $0.04 per share to $0.24 per share. We would expect dividend growth to continue going forward, and a share repurchase program should also become a feasible option during the next 1-2 years. VMC is also likely to allocate some of its c apital to M&A, but this will likely be in the form of bolt-on transactions within the Company’s existing footprint.

VMC’s share performance has begun to reflect the Company’s strong results and outlook, with the stock appreciating by 17% over the past 2 years. However additional upside should be attainable during the coming year as Company results and industry conditions continue to gain traction. Moreover, additional returns of capital and increased legislative visibility on infrastructure spending could represent meaningful catalysts for VMC shares during 2015. Applying a 10x EV/EBITDA multiple (consistent with VMC’s historical range) to our normalized 2016 projections produces an estimated intrinsic value of $80 per share, suggesting potential upside of nearly 30%.

Symbol: VMC Exchange: NYSECurrent Price: $62.10Current Yield: $0.24Current Dividend: 0.4%Shares Outstanding (MM): 131.7Major Shareholders: T Rowe Price ~13%Average Daily Trading Volume (MM): 1,16852-Week Price Range: $69.50-$54.10Price/Earnings Ratio: NMStated Book Value Per Share: $31.90

excerpts from the 2015 forgotten forty - boyar research · despite ongoing industry consolidation,...

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