Stock Pitch - LONG Recommendation for TEGNA [NYSE:TGNA]
I am making a LONG recommendation for Tegna [TGNA], one of the nation's largest local television broadcasters, which currently trades at $24.99 per share. With a price target of $36.86 in the next 12 to 18 months, the company is undervalued by 48%, because the market underestimates the company's pricing power in ongoing retransmission negotiations, the market is undervaluing CareerBuilder which is transitioning to a SaaS business model, and the market is underestimating the growth potential of Cars.com. Additionally, near-term catalysts, which will increase Tegna's share price to fair value include an upcoming record year for political advertising, the 2016 Summer Olympics, and retransmission renegotiations coming up in 2015 and 2016. Key investment risks include sluggish TV ad growth, margin compression due to an increase in the "reverse compensation" that Tegna pays to the cable networks, and disintermediation from over-the-top (OTT) content.
Tegna, formerly Gannett Co., was formed after the spinoff of publishing company Gannett on June 29, 2015. Tegna generates money primarily from advertising fees and retransmission fees paid by cable/telecom operators. Through its Broadcasting segment, Tegna owns a portfolio of 46 television stations in 38 markets, reaching over 30% of US households. Through its Digital segment, Tegna owns Cars.com, a 52.8% stake in CareerBuilder, PointRoll, and Shoplocal.
On a pro forma standalone basis, total revenue in FY2014 was $2,885mm, with EBITDA of $934mm, (32% margin), and the company is expected to grow revenue by an 9% CAGR for the next three years, due to revenue growth in retransmission fees and its digital properties. Its Broadcasting segment accounted for 59% of total revenue in F2014, but its percentage of total revenue is forecast to decrease to 50% in 2015 due to the acquisition of Cars.com in late 2014. Its Digital segment accounted for 32% of total revenue in F2014, but its percentage of total revenue is forecast to increase to 42% in 2015. Tegna currently trades at multiples of 3.1x EV/FY2015 Revenue and 9.5x EV/FY2015 EBITDA. Forward multiples in my "base case" revenue and margin assumptions are 2.8x EV/FY2016 Revenue and 7.8x EV/FY2016 EBITDA.
Currently, the market views Tegna as a broadcasting-centric stock in a sector facing challenging headwinds. As a result of uncertainty about upcoming retransmission negotiations, it trades at a valuation multiple at the lower range of comparable companies in the industry. If Tegna traded at a forward EV/EBITDA multiple of 10.4x - similar to peer Gray Television - the stock would be worth $40.49. However, the stock is mispriced for the following reasons:
- There is significantly less downside to the company's retransmission negotiations than the market has priced in. Tegna's scale gives it some leverage when it comes to ongoing contract negotiations with cable and satellite providers over retransmission fees. Approximately 90% of Tegna's paid subscribers are up for renewal by the end of 2016. Though much progress has been made by broadcasters in growing their share of programming fees, there remains a substantial disconnect between rates ($) and ratings (viewership). Tegna averages $1.30/subscriber/month. SNL Kagan predicts average station retransmission fees across all networks will reach $1.53/subscriber/month by 2018. Tegna's value proposition is very good with 44% of subscribers from NBC affiliates, 26% from CBS affiliates, and 18% from ABC affiliates. Furthermore, on a per viewer basis, a lot of mid-tier cable channels still have higher rates than Tegna, which provides major market upside.
- The market is undervaluing CareerBuilder, which is transitioning into a SaaS business model. Tegna will benefit from significant multiple expansion once the market becomes aware of CareerBuilder's higher margins, increased recurring revenues, and new revenue streams. The market has historically placed higher multiples on software companies that choose to evolve into SaaS business models. For example, Adobe transformed its business from a software license into a SaaS business, and its forward EBITDA multiple expanded from 14.0x to 18.0x within two years. Tegna has skillfully repositioned the business thus far, as evidenced by its acquisition and integration of Broadbean, a leader in job distribution, candidate sourcing and data analytics. Furthermore, CareerBuilder is positioned very well, because of its depth of data and analytics that are very important to customers, according to Forrester Research.
- There is substantially more upside in the growth potential of Cars.com than the market has attributed to it. Cars.com is the leading destination for individuals to buy a car and continues to capture an increasing share of both advertising and referral fees from manufacturers and local dealers. Last year, Cars.com reached 20,000 dealers, but still less than half of the total available market. The business has historically grown revenue and net income at double-digit growth rates and there is significantly more upside. The online vehicle ad market is projected to double over the next five years and Cars.com should benefit strongly from that growth.
Each of these reasons ties in directly to the company's valuation and will make a substantial impact (in the case of reasons #1 and #2 above), or will make far less of an impact than what the market currently expects, even in a downside scenario (for reason #3). Even if some of these reasons turn out to be incorrect, any one of the factors above represents a significant difference from the current market view of the stock and could result in substantial upside. If all of the factors above turn out to be incorrect, then Tegna is valued appropriately at its current stock price and an investment would represent minimal downside risk.
Catalysts in the near-term include the following:
- An upcoming record year for political advertising;
- 2016 Summer Olympics; and
- Retransmission negotiations for 90% of paid subscribers by end of 2016.
Catalysts #1 and #2 are interrelated. 2016 should be a banner year for the broadcasting business as a result of a hotly-contested presidential race and a highly successful Summer Olympics. Local-market television advertising in the U.S. was a record $2.9Bn in 2012, but Moody's estimates that next year it will be closer to $3.5Bn. Tegna's NBC stations are the highest performers in ratings each and every Olympic Games. Management has predicted that 2016 will be another Olympic revenue record year.
Catalyst #3 is the most significant in terms of lasting financial impact. 90% of Tegna's paid subscriber base up is for renewal by the end of 2016. Gracia Martore, CEO, expects gross retransmission fees to increase at least 30% by the end of 2016. Tegna recently renewed a multiyear carriage agreement with DISH Network, which management has indicated will lead to a step-up in gross retransmission fees beginning in Q4. With more carriage deals up for negotiation and expected to be awarded in Tegna's favor, the Company's stock price should benefit immediately.
I have valued Tegna using a sum of the parts analysis with a target price of $36.86, which implies the company is undervalued by 47%. I based the valuation off of FY2016 EBITDA statistics due to the leveraged balance sheet. I applied EV/EBITDA multiples of 9.0x to Broadcasting, 7.0x to Corporate & Other, 10.0x to Cars.com, and 12.0x to CareerBuilder. To select comparable public companies, I have used the following criteria: the companies selected are in the pure-play broadcasting sector for the Broadcasting segment, online portal sector for Cars.com, and HR Internet sector for CareerBuilder. All companies are located in the United States and possess similar revenue growth / EBITDA margins to the respective business segments.
The top risk factors include sluggish TV ad growth, margin compression due to an increase in the reverse compensation that Tegna pays to the cable networks, and disintermediation from OTT (over-the-top). Sluggish TV ad growth due to marketers moving away from television and into digital remains a concern for the entire TV ecosystem. According to eMarketer, TV as a % of US total media spending is expected to decline from 42.2% in 2013 to 40.2% in 2015 whereas digital video as a % of US total media spending is expected to increase from 2.4% in 2013 to 4.4% in 2015. While an increasing percentage of ad spending is now directed towards digital, broadcast TV advertising revenue continues to grow. According to PWC, North America broadcast TV advertising revenue is expected to grow at a CAGR of 2.4% from 2014 to 2019. If core advertising revenue were to decrease at a 5% CAGR ('15 - '18) and political advertising were to slow down, the stock may be worth closer to $33.
Reverse retransmission fees may increase more than expected. Tegna has important affiliation agreements coming up in late 2015 and early 2017. The Company currently pays no reverse compensation at an estimated 45% of its stations, a percentage that will drop substantially as contracts with its affiliates expire. However, Tegna should benefit from its scale, historically strong partnerships with the networks, and the timing of agreement expirations. Tegna is the largest, most geographically diverse, and often the highest-rated station group. The Company is the largest CBS non-owned group and largest NBC affiliate non-owned group. The expiration of affiliate agreements is well diversified to the calendar years, in terms of percentages of subscribers. Assuming a worst-case scenario, if Tegna's Broadcasting EBITDA margins declined from 49.8% in FY2014 to 40.0% in FY2018, the stock price may be worth closer to $33.
Disintermediation from OTT, or "cord-cutting" has led to recent declines in traditional pay-TV subscribers and may negatively impact Tegna. Whereas in the past few years, pay TV subscriber growth remained modest, it has disappeared altogether recently. According to MoffettNathanson, pay-TV subscriber shrinkage has increased to an annual rate of (0.7%) as of Q2 2015 versus (0.1%) a year ago. However, distributors such as Time Warner and Comcast increasingly provide lower-cost channel offerings, known as skinny packages. Local network affiliates will almost undoubtedly be included in any of these slimmed down products. As a result, fees should be pulled more towards Tegna's networks rather than away from them. If Broadcasting revenue were to decrease at a 2.0% CAGR ('15 - '18), the stock may be worth closer to $32.
Disclosure: I am/we are long TGNA.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.