– iHeartMedia is leveraged but should show strong free cash flow growth next 5 years
– Biggest radio broadcaster and podcaster cutting costs, growing digital revenue
– IHRT bulls look for 50%-100% stock rise if company executes on strategic plan
I like iHeartMedia (IHRT) but right from the top I’ll mention the equity has one potentially significant problem that might scare away risk averse investors: it’s levered, 5.4 times levered at yearend 2019. That could be an issue for some, and I won’t sugarcoat it.
However, if you’re still with me I also believe there are important extenuating circumstances—such as expected improving results and cash flow generation—that could give an investor comfort about the company’s outlook. Moreover, the bulls believe that if IHRT is able to successfully execute on its relatively straightforward financial and operational plans, the stock could rise 50% or more in the next few years. It’s my view that such a potential return would make up for the risk.
What is iHeartMedia? Briefly, iHeartMedia (formerly known as Clear Channel) filed for Chapter 11 bankruptcy in March 2018 after amassing more than $20 billion in debt following a leveraged buyout a decade earlier. I won’t get into that since the company emerged from bankruptcy in better shape last June 28 with new equity. The debt, though much less now, is still about $5.8 billion compared to a market cap of about $1 billion, operating income of $440 million and adjusted Ebitda of $775 million in the May 2-Dec. 31, 2019 period. Leverage was about 5.4 times 2019’s adjusted annual Ebitda of around $1 billion.
What’s good about the company? IHRT is the biggest audio company in the U.S. with some 850 radio stations around the country, reaching about nine out of ten Americans every month, or 250 million listeners. Before you grouse that it’s old media, note too that iHeartRadio is the number one commercial podcaster in America, and it’s seeing double-digit digital revenue growth there, albeit from a relatively low base.
Despite the leverage, IHRT has a strong cash balance; solid plans to lower its debt service costs as well as operational costs to its steadily growing radio business and is busy getting into new media, as well. That’s Lloyd Khaner’s rationale. He runs Khaner Capital Management, which owns a stake in IHRT.
Of course, with this debt load, IHRT has publicly stated its commitment to reducing annual interest costs, having cut it already by $40 million per year since last May through various debt transactions. Indeed, in just a few months, IHRT’s leverage was reduced to 5.4 times on Dec. 31, 2019 from 5.8 times in May. See nearby table. More importantly, management says it will be “in the high 4 times” range by the end of this year. Khaner says that although the company is levered, that’s mitigated by the company’s strong cash flow generation.
This will be accomplished through reduced interest payments; revenue and profits growth; lower capital expenditures, and a modernization program. For example, IHRT plans to optimize its real estate footprint; use artificial intelligence and other new technology to improve efficiencies; and increase sales mainly from its digital businesses. In total, IHRT plans to save approximately $100 million annually by the end of 2021 through such measures, among others.
IHRT’s 2020 guidance is for mid-single digit total revenue growth driven by stable growth in the traditional radio business and fast growth on the digital side. It expects free cash flow generation of $300 to $330 million this year. Cash on balance sheet is $400 million.
Revenue in the fourth quarter and 2019 full year was flat at $1 billion and up 2% to $3.7 billion, respectively, but up over 4% for both when political ads are excluded. Remember, the comparisons aren’t equivalent since 2018 was an ad-filled election year and 2019 wasn’t. However, the elections this year should provide a nice ad boost to 2020 results. Adjusted Ebitda increased 2.5% to about $1 billion last year.
Ad sales are growing 1%-2% but podcasts are growing 30% from a small base. Khaner says the improvements that could come from IHRT in coming years remind him of a similar capex reduction at Sirius XM Holdings (SIRI), which doubled its net income to over $1.1 billion in five years. It should be a similar playbook with IHRT, he adds. By the way, the earliest due date for a significant chunk of debt, a $2.3 billion term loan, isn’t until 2026, affording IHRT time to bring its plans to fruition.
The portfolio manager expects free cash flow to rise an average 10% per year in the next five years. At the current stock price of about $14.33, it trades at seven times cash flow. In five years, as it pays down debt and cuts expenses, Khaner expects annual free cash flow of $617 million or about $4.11 per share. An seven multiple gets you to a $29 stock price, or a double, he notes. If IHRT is successful, the multiple expands, he asks.
Here’s an interesting kicker: The Wall Street Journal reported in December that SIRI, an affiliate of John Malone’s Liberty Media (FWONA), has sought permission from the Justice Dept. to buy a larger piece of IHRT, a deal what would put the nation’s largest radio broadcaster under the same corporate umbrella as the leading concert promoter and satellite radio giant. Liberty owns 5% of IHRT through Liberty Sirius XM Group, in which it has a 71% stake. It also owns 33% of Live Nation Entertainment (LYV).
Now it’s possible and perhaps likely the Feds will say no, since such a combination would represent a major consolidation of the music/audio business. So this isn’t a reason to buy the stock. But if a smart investor like Malone is interested, shouldn’t others be?
Where I could be wrong: Given IHRT’s levered position, should the country enter a full blown recession, it could hurt the company’s results by reducing ad revenue and drive interest costs up. Competition of consumer’s free time is the highest it’s ever been with podcasts, streaming and mobile gaming.
Bottom Line: We aren’t expecting a recession and believe that IHRT can steadily reduce its leverage while raising operating margins and profits through execution of its growth plan.
