Description

Overview

Diamond Sports Group is the wholly owned subsidiary of Sinclair (SBGI) that filed for bankruptcy on March 15, 2023. I’m recommending a purchase of the 5 3/8th 2nd lien bonds of 2026 at 7.25. The 2nd lien bonds ( along with 2L term loans) are expected to become the reorganized equity of Diamond Sports upon emergence, estimated to be around 12/31/23.

Company Description (per Sinclair’s website)

Diamond Sports Group LLC, an independently-managed and unconsolidated subsidiary of Sinclair Broadcast Group, Inc., owns the Bally Sports Regional Sports Networks (RSNs), the nation’s leading provider of local sports. Its 19 owned-and-operated RSNs include Bally Sports Arizona, Bally Sports Detroit, Bally Sports Florida, Bally Sports Great Lakes, Bally Sports Indiana, Bally Sports Kansas City, Bally Sports Midwest, Bally Sports New Orleans, Bally Sports North, Bally Sports Ohio, Bally Sports Oklahoma, Bally Sports San Diego, Bally Sports SoCal, Bally Sports South, Bally Sports Southeast, Bally Sports Southwest, Bally Sports Sun, Bally Sports West, and Bally Sports Wisconsin. The Bally Sports RSNs serve as the TV home to more than half of all MLB, NHL and NBA teams based in the United States. Diamond Sports Group also has a joint venture interest in Marquee, the home of the Chicago Cubs, and a minority interest in the YES Network, the local destination for the New York Yankees and Brooklyn Nets. Diamond RSNs produce approximately 5,000 live local professional telecasts each year in addition to a wide variety of locally produced sports events and programs each year.

Investment Thesis

The Diamond 5 3/8 bonds of ‘8/26 represent a compelling opportunity to own the post-bankruptcy Diamond Sports Group franchise at an attractive price and with an asymmetric risk reward. Extremely negative sentiment caused by an acceleration of cord cutting, one of the swiftest value declines in memory in this sector, and the wrong holder base has created an attractive entry point. At its current price of 7.25, and at a 5x post emergence EBITDA of 250mm, the investment would return 61% within months of exiting ch.11. An upside case of 350mm Ebitda at 5x would return 159%. In a downside case, assuming no progress on purging or restructuring unprofitable contacts, using 6x LTM reported EBITDA (as of 9/30/22) the return would be (8%). A worst case scenario could lead to this class losing their fulcrum status but this isn't contemplated at the present time. At current prices the entire EV through the 2nds is less than $1B. The company retains valuable stakes in the Yankees' YES Network and Marquee (Cubs) both of which possess value exclusive of the core operating business, providing for some downside protection.

History (from Wikipedia)

Sinclair Broadcast Group formed the company with Byron Allen's Entertainment Studios to acquire 22 regional Fox Sports Networks affiliates and Fox College Sports from The Walt Disney Company, which was required to divest of these networks to secure government antitrust approval.[1] The transaction, initially valued at $10.6 billion, is managed through a joint venture called Diamond Holdings Group,[2] and formally closed the transfer in August 2019 for $9.6 billion.[3]

The company's regional sports networks have exclusive broadcasting rights to 42 professional teams (including 16 National Basketball Association teams, 14 Major League Baseball teams, and 12 National Hockey League teams),[4] and the channels collectively generated $3.8 billion in 2018, across nearly 75 million subscribers.[2]

Sinclair took a $4.23 billion write-down of its regional sports assets in 2020 after a downturn in the business.[5]

On November 18, 2020, Sinclair announced that it had entered into an agreement with casino operator Bally's Corporation to acquire the naming rights under a 10-year deal.[6]

On January 27, 2021, Sinclair announced that the networks would be rebranded as Bally Sports on March 31.[7][8][9] In December 2021, the company reached an extension agreement with the National Hockey League.[10]

On May 2, 2022, Diamond Sports Group assembled a board of five directors, made up of Bob Whitsitt, Sinclair CEO Chris Ripley, Randy Freer, a former Fox Sports/Hulu executive, Mary Ann Turcke, a former COO of the NFL, and David Preschlack (previously President of the NBC Sports Regional Networks); Preschlack would be elected CEO of Diamond on December 5.[11]

On June 23, 2022, Bally Sports soft-launched a direct-to-consumer service known as Bally Sports Plus (or Bally Sports+) in selected markets. It is expected to launch nationally in the remainder of the networks' footprint on September 26.[12]

On December 4, 2022, Diamond Sports Group's board had voted to block the Sinclair Broadcast Group from operating Diamond and its regional sports networks.[13]

On February 15, 2023, Diamond Sports Group failed to make a $140M interest payment, instead opting for a 30-day grace period to make the payment.[14] During this grace period, Diamond Sports also missed a rights payment to the Arizona Diamondbacks.[15] On March 14, 2023, Diamond Sports officially filed for Chapter 11 Bankruptcy. Diamond Sports said in a statement they intended to operate the Bally Sports regional sports networks as normal through the bankruptcy process.[16] As part of their restructuring under bankruptcy, Diamond Sports will separate from the Sinclair Broadcast Group and become a standalone company.[17]

An email from Diamond CEO David Preschlack announced on March 20, 2023 that Steve Rosenberg would no longer be the president of Diamond Sports Group; Rosenberg's last day as president of Diamond was March 19. With his departure, Diamond's chief financial officer David DeVoe will take on the role of COO.[18]

Pre-Petition Capital Structure

Post Emergence - B/S & Sensitivity

Current State of Play

Per the RSA (Restructuring Support Agreement) filed a few days ago, upon emergence, expected to be at year end, Sinclair’s equity will be wiped out and Diamond will emerge as a standalone company. The plan calls for 2L debt holders to receive 92% of the new equity (Sinclair would receive 3% in exchange for various releases and for providing services for at least 6 months), and 1st lien debt will be unimpaired and receive current interest during Chapter 11. LTM EBITDA through 9/30/2022 was $150mm. Sports rights payments are estimated to be around $2B in 2022. The company per the RSA is expected to file a business plan by August 1, 2023. 

In March of 2022 the company raised a super senior $630mm 1st lien tranche from prior 1st lien holders (now 2nd line holders) to bolster liquidity and to invest in a direct to consumer (DTC) app aimed at cord cutting sports fans still interested in viewing their favorite local sports broadcasts. The DTC initiative is new, boasting about 200,000 subscribers thus far. The company has indicated that the DTC initiative is their solution to ongoing cord cutting.  App subscriptions are currently $19.99 per month or $189.99 per year. The company current has streaming rights for all its NBA and NHL teams, although it only has rights for 5 of its 14 MLB teams. MLB, whose season is about to begin, has been hesitant to agree to provide streaming rights for the remaining 9 teams and has been locked in a public standoff with Diamond for the past few months. Diamond has threatened to server contracts with 4 of its MLB teams, including the Arizona Diamondbacks who were owed, and didn’t receive, a $31mm sports rights payment in February. In response MLB has threatened to broadcast its own games if needed.

Stepping back, Sinclair purchased Diamond for $10.6B less than 4 years ago. The entire EV through the 2nd lien bonds is now less than $1B. Diamond’s demise can be traced to their business model which guaranteed sports rights payments to professional sports (NBA, NHL, MLB +) teams, produced the local games (including pre and post) and then monetized by selling the rights to MVPDs. Diamond was saddled with over $8B of debt and faced increasing sports right costs annually, meanwhile cord cutting accelerated until costs exceeded revenue.

As the largest producer of local sports content there is a strong argument for scale benefits on both the cost and revenue side. As such, despite threats from MLB to go at it alone, it would seem prudent to negotiate a reasonable settlement with Diamond and continue the relationship. The failure of Diamond was due to a problem business model/capital structure not poor production or distribution. Time Warner Discovery in their most recent earnings call said they intend to walk away from their RSN business entirely. While this initially reads negative for Diamond it represents a warning to sports teams/leagues that the business model is broken and they will need to make concessions or face alternative arrangements that will cost more and entail greater risk.  

A key premise of owning the 2nd Lien bonds is that fundamentally there is a good reason for Diamond to exist (produce, package, and monetize content) and that it can do so in the most cost and revenue efficient way. Sports franchises and leagues generally do not want the burden of producing 162 MLB games each season, ect. Similarly, the ability to package multiple sports in a local area, and provide local sports fans year-round live sports content, allows the RSN to generate maximum economics from the MVPD. 

Over the past year, as the company has been preparing to operate independently of Sinclair and an impressive board/management team was installed.

See details here: https://www.businesswire.com/news/home/20220502005494/en/Diamond-Sports-Announces-New-Board-of-ManagersSome

While the outcome of Diamond’s business model restructuring is uncertain there are a few different pathways / levers they can pull to increase ebitda even marginally and generate a healthy return for the new owners. Possibilities include: 

• Sports Leagues ( NBA, NHL, MLB) take a haircut on sports rights revenues (every 10% = 200mm of additional ebitda). At 15% haircut Diamond could generate an additional $300mm of EBITDA

• Risk Sharing – leagues/teams take an ownership stake in Newco in exchange for a more variable annual sports rights payments

• Sports Leagues or other strategic ( Amazon, Google, ect) but newco and ramp their DTC app

• Reject unprofitable MLB deals in Ch.11

Non-Operating Assets

Diamond owns a 20% stake in the Yankees YES network and a 50% stake in the Cubs Marquee Sports Network. These stakes together are worth between $300-600mm, with dividends flowing below the EBITDA line. These stakes could potentially be divested to reduce the 1st lien debt and help delever the balance sheet upon emergence or could produce a dividend to equity holders. Note at current prices the entire re-org equity is valued at about $510mm.

Other Resources

Docket Filings: https://cases.ra.kroll.com/DSG

Ch.11 Press Release: https://www.businesswire.com/news/home/20230314006050/en/Diamond-Sports-Group-Commences-Voluntary-Chapter-11-Proceedings-to-Strengthen-Balance-Sheet

Risks

- Teams and leagues lose confidence due Diamond’s financial challenges and seek a solution elsewhere – Again, scale and nuisance suggest they would prefer outsourcing to Diamond if possible

- Cord Cutting accelerates and a non-economic player steps in to out-bid Diamond on sports rights – would be much easier to buy out Diamond

- Teams and Leagues refuse to make any concessions on sports rights – Not sure what alternative they will have other than going at it alone which will be more expensive and will greater entail risk

- Poor results during the Ch.11 push the fulcrum toward the 1st Liens – 2nd Lien holders might need to do a rights offering or push Diamond to monetize the non-operating assets to avoid losing control of the process

- Bad macro for re-org equities – This is our base case given we expect a 2023 recession - the undemanding valuation and potential for strategic alternatives keep us interested

Disclaimer

This report represents my personal views at the time of submission, my views can and will change and I may not communicate those changes in a timely way or ever. You should do your own work and not rely on this submission to make any investment decisions. This submission or past or future comments are not financial advice. 

Catalyst

- Sale (or JV) of business to leagues or big tech

- Restructured deals with sports team / leagues 

- Pace of cord cutting slows

- Successful ramp of DTC business 

- Divestiture of YES/Marquee stakes 

- Meets or surpasses milestones including exit on or before year-end