Thesis

AMC Networks is a highly-levered, fast-growing group of cable networks that is underfollowed by the sell-side as a result of its spin-off from parent Cablevision (CVC). Its networks are enjoying significant ratings and advertising momentum, and its value will be further enhanced by its >5x leverage profile and significant FCF visibility – resulting in rapid de-leveraging. Additionally, there is margin expansion potential at International turns the corner, optionality on a VOOM/DISH resolution, additional monetization opportunities on its original programming, and – ultimately – AMC Networks is a very attractive asset for a strategic acquirer to own.

Investment Highlights

• Improving Ratings. In recent years, AMC has switched focus from ‘movie classics’ to high-quality, highly-rated original programming such as Mad Men, Breaking Bad, Walking Dead and The Killing – with a fifth series expected in Q4 2011 (Hell on Wheels). Higher ratings equal higher advertising rates, and greater leverage during affiliate agreement negotiations
• Affiliate Fee Increases. Continued ratings strength at AMC and further build-out of original programming at WEtv, IFC and Sundance should lead to potentially significant affiliate fee increases in 2013 and beyond. AMC has ~89% of its subs under affiliation agreements through 2012, while WEtv (74%), IFC (81%) and Sundance (67%) also face significant affiliate renewals beginning in 2013
• High FCF Visibility/High Leverage. Given its low capital intensity, AMCX has significant FCF conversion – enabling it to pay down debt aggressively. AMCX has ~$260mm in NOLs that will likely be utilized over the next twelve months
• Potential Strategic Acquisition. Given its prospects and relatively small bite-size (sub-$3B market cap), I fully expect AMCX to be acquired once its two-year ‘safe-harbor blackout’ is lifted, though any would-be acquirer would likely have to pay premium ahead of the expected affiliate fee increases in 2013 and beyond

Description

AMC Networks owns and operates several cable networks: AMC, IFC, WEtv, Wedding Central and the Sundance Channel, as well as IFC Entertainment, an ‘indie’ film distributor.

• AMC is a provider of dramatic television series and films, as well as a library of popular and classic films; television series include: Mad Men, Breaking Bad, The Walking Dead and The Killing
• IFC airs independent films and documentaries as well as original programming, including Portlandia and The Onion News Network
• WEtv focuses on original content for women, including series such as Bridezillas and Downsized, as well as re-airing classic series including The Golden Girls and Charmed
• Sundance Channel airs independent films and programs highlighting design, travel, and fashion
• Outside of the national networks, AMCX generates revenue from AMC/Sundance Channel Global – airing its networks to ~8mm subs in eight countries including Canada;  IFC Entertainment distributes indie films to theaters and VOD services, and operates the IFC Center movie theater in NYC
  • Post-spin, Josh Sapan will remain CEO of AMC Networks, and Charles Dolan will be Executive Chairman
  • Both CVC and AMCX will continue to be controlled by the Dolan family – 100% of Class B shares and 3.9% of Class A share, or ~71% voting power and ~22% equity ownership

History

In 1980, Cablevision formed Rainbow Media Holdings (now AMC Networks) to create niche programming for the nascent cable TV market.

• Through the creation of Bravo and American Movie Classics (now AMC), it focused on original/film programming
• AMC Networks created The Independent Film Channel (now IFC) and WEtv (launched as Romance Classics in 1997), and acquired the Sundance Channel in 2008
• AMC Networks sold Bravo – the 1^st network dedicated to film/performing arts – to NBC Universal in 2002 for $1.25B

Business Model

AMCX has two primary sources of revenues (affiliate revenues & ad sales) and two forms of content (original programming & acquired programming)

• Affiliation agreements are set on a per-sub basis under multiyear contracts
• Advertising sales are typically short-term and based on the ratings/popularity of the programming
• In 2010, national networks revs increased ~11% ($98mm) to $995mm driven by increased advertising (~$56mm) and affiliate fee expansion (~$32mm); national networks accounted for ~92% of total revs in 2010
  • AMCX derived ~57% of revs from affiliate fees  and  ~37% from ad sales
  • DISCA generates ~48% of revs from affiliate fees and ~44% from ad sales; 63% US revs / ~33% int’l
  • SNI derives ~27% from affiliate fees  and ~63% of its revs from ad sales; ~100% US revs

Outlook

• Opportunities for revenue growth boil down to distribution expansion and increased programming popularity
• AMC – the oldest and most widely distributed network – has likely hit a saturation point with annual sub growth at less than 1.5% in each of the last 3 years – in other words, most cable/satellite customers have AMC available
  • Popularity/buzz around AMC’s original programming may offset the subscriber growth slowdown with higher per sub affiliation agreements and higher ad rates
  • In 2010, AMC was 14^th among basic cable network for audience gains (Nielsen) – higher audience numbers result in stronger ad revenues
  • Sundance – AMC’s smallest national network – is growing at the fastest rate: over 23% in 2009 to ~38mm subs and over 5% in 2010 to ~40mm subs, though still less than half of AMC as a result of its typical positioning on ‘premium’ cable tiers

Ratings Momentum

AMC Networks grew total viewers 18%, led by AMC (+29%) on the strength of new series The Killing and The Walking Dead.

• The Killing season finale delivered 2.3mm total viewers for a 1.8 household rating and ~1.1mm adults aged 25-54. The Killing premiered on April 3^rd to 2.7mm total viewers, and had the 2^nd highest-rated first season of any AMC original drama (next to The Walking Dead); The Killing has been renewed for another season
• The Walking Dead premiered on Halloween 2010, and ranked as the 5^th most watched basic cable primetime original series in 2010. Over 6.6mm households and 4.5mm viewers aged 18-49 tuned in, leading to significant audience gains for AMC last year
• Breaking Bad returns in July
• Mad Men returns in early 2012

Award-Winning Programming

AMC Networks: Content

Background

On July 1^st, 2011 Cablevision (CVC) will complete the tax-free 100% spin-off of AMC Networks (AMCX).

• CVC shareholders will receive 0.25 AMCX shares for each share of CVC held
• CVC will become a nearly pure-play cable company – and should narrow the valuation discount to TWC
• Adjusted for AMCX, CVC currently trades at a ~20% FCF/share discount to TWC shares – though growing slightly faster in its ‘cable-only’ FCF/share

Leveraged Spin-Off

As part of the leveraged spin-off, AMC Networks will incur ~$2.43B of new debt (~5.2x LTM AOCF), consisting of:

• $700m Sr. Unsecured Notes @ 7.75%
• $1.15B Term Loan A @ L+200bps
• $575mm Term Loan B @ L+275-300bps
• New $500mm Revolver – undrawn

Timeline

• 11/18/10: Board authorizes exploration of possible AMCX spin-off (Rainbow Media) 
• 12/16/10: Board authorizes management to move forward with spin-off
• 06/06/11: Board approves the leveraged spin-off of AMCX
• 06/16/11: AMCX when-issued trading under ‘AMCXV’; CVC trades with due bill between 6/16 to 7/1
• 06/30/11: S&P index change effective date
• 07/01/11: Ex-distribution date, AMCX begins trading regular-way

S&P 500 Index Re-weighting

• CVC is a member of the S&P 500 – index fund investors hold ~11% of the public float, or ~25.5mm shares of CVC)
• As a result of the spin-off distribution, the CVC share price will adjust accordingly on July 1^st, resulting in no change in CVC shares to buy or to sell by Index fund Investors
• On July 1^st, Index fund investors will receive 1 share of CVC (price adjusted) and 0.25 shares of AMCX
• AMCX will replace Boyd Gaming Corp. (BYD) in the S&P MidCap 400
• Bottom Line: Net sale of ~2mm AMCX shares (~3% of public float)
  • S&P 500: ~6.3mm shares to sell
  • S&P MidCap 400: ~4.3mm shares to buy

Case Study: Madison Square Garden (MSG)

• CVC spun-off MSG last year – listed on 2/10/2010
• MSG was not added to an S&P index, so index funds holding CVC had to sell MSG shares around the effective date
• MSG traded 5.0mm shares (~13.5x ADV) on the effective date and 4.5mm shares the following day (~12.2x ADV)

Comparables

• Viacom (VIAB): Operator of MTV Networks, BET Networks, and Paramount Pictures
• Discovery Communications  (DISCA): Owner of The Discovery Channel, TLC, Animal Planet, OWN and other networks
• Scripps Networks Interactive (SNI): Operates HGTV, The Food Network, DIY Network, Cooking Channel, Great American Country and The Travel Channel

Risks

• Programming Concentration: AMC’s current programming lineup has strong ratings and ad momentum – this may not be the case going forward. New programming may fail to catch with viewers
• Affiliate Renewal Risk: If AMCX is not able to renew affiliate agreements at higher rates, earnings and FCF would be affected
• Advertising Slowdown: With ~37% of revenues from advertising, any material ad market slowdown would adversely affect the company
• Technology Risk: Alternative forms of distribution or changes in the way media is consumed may affect AMCX
• Dolan Family Control: While the Dolan family retains control post-spin, they have been far more investor-friendly over the past few year

Valuation

• AMCX is trading at ~11x ’11E EBITDA and ~9x ‘11E FCF vs. ~9.5x ‘11E EBITDA / ~14x ‘11E FCF for peers – though it has far more attractive growth profile
• I believe AMCX should trade at premium to its peers given its ratings momentum, higher leverage profile and its potential as an acquisition target
• 12x ‘11E FCF implies a AMCX share price of ~$49/share – with each turn of leverage resulting in >$6/share in equity value

Conclusion

• AMCX is likely to be a strong growth story over the next several years as it expands its international reach, grows its subscriber base and ramps its advertising revenues
• AMCX is positioned to benefit from increasing affiliation fees and advertising revenue due to rising viewership ratings for its flagship AMC network, and an expanded subscriber base for the smaller Sundance and IFC networks
• AMCX relatively high leverage and FCF generation will enable rapid de-leveraging that will accrete value to equity-holders
• Ultimately, I believe AMCX will be acquired by a larger entity once it ‘safe harbor’ concludes

VOOM Lawsuit (8-K)

In 2005, subsidiaries of the Company entered into agreements with EchoStar Communications Corporation and its affiliates by which EchoStar Media Holdings Corporation acquired a 20% interest in VOOM HD Holdings LLC (“VOOM HD”) and EchoStar Satellite LLC (the predecessor to DISH Network, LLC (“DISH Network”)) agreed to distribute VOOM on DISH Network for a 15-year term. The affiliation agreement with DISH Network for such distribution provides that if VOOM HD fails to spend $100 million per year (subject to reduction to the extent that the number of offered channels is reduced to fewer than 21), up to a maximum of $500 million in the aggregate, on VOOM, DISH Network may seek to terminate the agreement under certain circumstances. On January 30, 2008, DISH Network purported to terminate the affiliation agreement, effective February 1, 2008, based on its assertion that VOOM HD had failed to comply with this spending provision in 2006. On January 31, 2008, VOOM HD sought and obtained a temporary restraining order from the New York Supreme Court for New York County prohibiting DISH Network from terminating the affiliation agreement. In conjunction with its request for a temporary restraining order, VOOM HD also requested a preliminary injunction and filed a lawsuit against DISH Network asserting that DISH Network did not have the right to terminate the affiliation agreement. In a decision filed on May 5, 2008, the court denied VOOM HD’s motion for a preliminary injunction. On or about May 13, 2008, DISH Network ceased distribution of VOOM on its DISH Network. On May 27, 2008, VOOM HD amended its complaint to seek damages for DISH Network’s improper termination of the affiliation agreement. On June 24, 2008, DISH Network answered VOOM HD’s amended complaint and EchoStar Satellite LLC asserted counterclaims alleging breach of contract and breach of the duty of good faith and fair dealing with respect to the affiliation agreement. On July 14, 2008, VOOM HD replied to DISH Network’s counterclaims. The Company believes that the counterclaims asserted by DISH Network are without merit. VOOM HD and DISH Network each filed cross-motions for summary judgment. In November 2010, the court denied both parties’ cross-motions for summary judgment. The court also granted VOOM HD’s motion for sanctions based on DISH Network’s spoliation of evidence and its motion to exclude DISH Network’s principal damages expert. The trial will be scheduled after DISH Network’s appeal of the latter two rulings.

In connection with the Distribution, CSC Holdings and AMC Networks and its subsidiary, Rainbow Programming Holdings, LLC (collectively, the “AMC Parties”) have entered into an agreement (the “VOOM Litigation Agreement”) which will provide that from and after the Distribution date, CSC Holdings shall retain full control over the pending litigation with DISH Network. Any decision with respect to settlement will be made jointly by CSC Holdings and the AMC Parties. CSC Holdings and the AMC Parties will share equally in the proceeds (including in the value of any non-cash consideration) of any settlement or final judgment in the pending litigation with DISH Network that are received by subsidiaries of the Company from VOOM HD. CSC Holdings and the AMC Parties will also bear equally the legal fees and expenses (above amounts currently budgeted for the remainder of 2011). A form of the VOOM Litigation Agreement has been filed as an exhibit to the registration statement of which this Information Statement forms a part, and the foregoing summary of the agreement is qualified in its entirety by reference to the agreement as so filed.

• Favorable Affiliate Agreement Renewals
• Continued Ratings Momentum
• Continued Advertising Recovery
• Potential Stock Buyback
• Rapid De-leveraging
• Potential Takeout