In an excellent recent article by fellow Seeking Alpha author Crunching Numbers, he speculates on how many shares of Sirius XM (SIRI) Liberty Media (LMCA) may sell back as Sirius XM buys back shares. This article is certainly worth a read in its entirety, as Crunching is as good as it comes in presenting the facts and numbers behind a situation. Crunching Numbers, further abbreviated "CN", is appropriately named.
I'd like to hone in on a few important points made in CN's article.
- "It (Liberty) spent more than $1.5 billion to acquire 655,823,552 common shares (of Sirius XM) for an average price of less than $2.29 per share."
- "Liberty wants its $1.5 billion back."
- "Liberty would be unlikely to spin out high basis stock."
Point number one is indisputable. These numbers are common information.
Point number two, while disputable, I agree with. CN supports this point with a quote by Liberty Media's Greg Maffei:
I think a consideration in our mind would be, and obviously we have announced no intent to do a Reverse Morris Trust. We've only suggested its one path. But I would note, if we pursued that path, something that would weigh on our mind is, we got the first 40% of the company for free virtually. The next 11 points have cost us well over $1 billion something if we got to 51. We would probably like to get the bait back on the 11 points.
And I agree with the notion that Liberty Media wishes to get that "bait," or at least $1.5 billion back that Liberty has spent to get those 11 points.
But regarding point number three, I think this is where CN and I deviate with our speculation. Consider the quotation again by Greg Maffei:
We've noted that there is flexibility in the capital structure at Sirius, there's plenty of availability for them over the next short-term to lever further and return capital to shareholders including ourselves, and whatever we did, we would be unlikely to want to spin out high basis stock, we'd probably given how much we've already shrunk Liberty Media over the last several years. ... we'd probably be wanting to get that cash back. So, that would be the biggest consideration in our minds, a major one.
Two things to notice here. One is the word "unlikely" in regards to wanting to spin out high basis stock, and the second is the mention of wanting to "get that cash back."
My assumption here differs from CN. While he says:
I interpret this as Liberty wanting to sell all 655.8 million shares.
I feel this is not the case. I feel that Liberty will be content to sell back $1.5 billion worth of shares, and then stop.
Sirius XM is the crown jewel of Liberty Media's collection of companies, and makes up the vast majority of its market cap. Because of this, the valuation of Sirius XM directly impacts the valuation of Liberty Media in a very big way.
While Liberty Media has spent $1.5 billion to acquire those 655.8 million shares at an average cost of roughly $2.29 each, the fact of the matter is that each of those shares is now worth more at the current share price near $3 per share. If one assumes $3 per share, in order to get the $1.5 billion in "bait" back, Liberty media only needs to sell back 500 million shares. Given that the share price will likely rise through to buyback period, I would expect Liberty to sell back less.
Of what benefit is this to Liberty? Why wouldn't it extract as much cash as possible, load up Sirius XM with a huge amount of debt, even if that debt is considered manageable, and spin the company out? I ask, what's the rush? Consider that Sirius XM is in a position of strength as a company. The company itself is performing exceedingly well in a tough economy and is essentially a cash cow. With 1-year price targets by some analysts exceeding $4 per share, or 25% appreciation, does it even make sense to cash out right now? Are there other opportunities out there for upwards of 25% gains? If Liberty can get $1.5 billion and then stop, why not leave the remaining $400 million or more in Sirius XM, and allow the company to buy more from the public float?
Such a move by Liberty, I feel, will make the most sense. Liberty may want its cash back on the bait, or $1.5 billion, but I am not so sure the comment about being unlikely to spin high basis stock means that Liberty will be in a rush to cash out on every single one of those shares purchased. The lower cost basis shares purchased earlier in the year may be retained for further appreciation with the company's performance as well as buybacks which shrink the public float. In this case, not only does Liberty get the benefit of share price appreciation on its stake, but it also gets the benefit of increased percentage of ownership of the company.
While I can see situations where Liberty may wish to sell back as many shares as possible, or even all of the shares purchased over its original 40% low cost basis stake, I think it is more reasonable to assume that Liberty is in no rush to sell every share back. I believe Liberty will be careful not to load Sirius XM up with excessive debt simply to extract another $400 million or more from the company. It's a delicate balancing game. Any move which might damage Sirius XM could have drastic effects on the valuation of Liberty Media. Consider Sirius XM at roughly a $20 billion market cap, and a credit rating downgrade that takes share prices down 15 to 20%. A loss of $3 to $4 billion from Sirius XM's market cap is a loss of $1.5 to $2 billion from Liberty Media's stake at 50%.
I think the trick for Liberty here will be maximizing both its return in cash through buybacks, as well as maximizing value through ownership of Sirius XM. It will be a delicate balancing game that I expect Liberty to execute very carefully in order to produce maximum value for Liberty. The good news for Sirius XM investors is that means maximum value for Sirius XM as well.