Description

We believe Liberty Ventures (LVNTA) is an attractive investment, trading ($3.7 billion market cap) at an unwarranted discount to its net asset value ($5.6 billion) with potential catalysts for a 50% gain in 18 months.  While Ventures (like many Liberty securities) has been discussed on VIC before (March 2016 by juice835, July 2015 by clark0225 and Aug 2012 by mjw248), we think the Ventures NAV is now the “cleanest” it has ever been given the spin/split-offs of Trip Advisor, CommerceHub and Expedia and with Charter/Liberty Broadband now making up over 85% of the net asset value.  (We refer readers to those earlier write-ups for additional commentary on the history of Ventures/Liberty).

We believe that Ventures is attractive for the following reasons:

1. Largest portion of NAV made up of core holdings in Charter which is itself an attractive investment with both organic growth and M&A optionality

2. Collection of valuable “other” assets in publicly traded stakes and tax assets provide value and cash flow and may be simplified over time

3. Optionality on John Malone capital allocation acumen from cash and incoming cash flow

4. Potential catalyst for combination with Charter/Liberty Broadband in a Verizon or other merger would eliminate multiple levels of discounts

5. Standalone returns in the mid to high teens

We believe that Ventures is mispriced because of its size, liquidity and complexity, though there are some other risks that we will discuss as well.

Net Asset Valuation

As longtime Liberty investors know, Ventures has been the clean-up entity for Liberty that holds the public, non-controlling interests in many companies that don’t fit in any of the largest operating media assets.  It also has a hodge-podge of esoteric debt securities with advantageous tax characteristics and some other assets that are complex but valuable.  We have heard of Ventures referred to as the “Liberty public hedge fund” and the “red-headed step-child” and everything in between.  Like most Liberty securities, it has also generated exceptional returns for investors despite still trading a large discount to its value (28% CAGR from Aug 2012 to Nov 2016 inclusive of Trip Advisor and Commerce Hub separations, per 2016 Analyst Day).  

Liberty Ventures currently consists of (in order of size):

1.       Liberty Broadband (LBRDK): 42.7 million shares

2.       Charter (CHTR): 5.4 million shares

3.       Tree.com (TREE): 2.8 million shares

4.       Interval Leisure (ILG): 16.6 million shares

5.       FTD (FTD): 10.2 million shares

6.       Private investments in Evite and others (valued at zero in our analysis)

7.       $1.96 billion face value of Exchangeable Debt (valued at par in our analysis)

8.       $487 million cash

9.       Some “green” energy investments (valued at zero in our analysis)

For the sake of brevity, I will not delve into a detailed valuation on each of the publicly traded holdings unless there are questions in the message section, except for the following comments on Charter/Liberty Broadband:

Charter is among the most well-covered and popular investments and we don’t disagree with the bull case on Charter.  We think Charter can appreciate to $400/$450 in 12-18 months (+30%) either through continued execution or through M&A:

http://www.wsj.com/articles/verizon-is-exploring-combination-with-cable-firm-charter-communications-1485439901

We expect the discount at Liberty Broadband to narrow significantly, either through Broadband share repurchases or through a combination with Charter or Charter’s acquirer.  Liberty CEO Greg Maffei hinted to steps Liberty can take to narrow the discount recently.

For these reasons, we value Ventures on an “economic” or “look-through” basis assuming Liberty Broadband trades at a zero discount (more on this later in our valuation discussion).

Company Name: Liberty Media Corp-liber

Company Ticker: FWONA US

Date: 2017-03-01

Event Description: Morgan Stanley Technology, Media & Telecom Conference

<Q>: And you just spoke about the potential strategic options, as it relates to M&A for charter. My question is do you see a need for a strategic event for that discount to collapse and you would be paid for your rights or do you feel it can happen independently away from that type of events?

<A - Gregory B. Maffei>: Good question. If you look back at the most comparable example, it's probably where we had the 58% economic and 47% voting stake in DIRECTV through LMDIA (24:02) and we eventually did a

Reverse Morris Trust and merged it in and somewhere down the road DIRECTV got sold to AT&T. Didn't require a transaction that required us to say, okay go get the path on liquidity. So, we sit today as you rightly know with a

discount to at Broadband.  John and I may be kidding ourselves, but we think there's a valuable role for us being involved on the board. We think the rights we have are worth something. We think that – we created a good position for our shareholders. It's done well, Broadband. We've put in – between Ventures and Broadband, we've put in $2.4 billion at $105, adjusting for the Time Warner split, reverse split, $105 back in May of 2013. And we put in another $5 billion with some partners at $195 in May of 2016 so less than a year ago. And it's been a pretty good one. We think there's more ahead and we think we can influence it possibly.

What ultimately will lead to that collapse is the day we merge Broadband into Charter or Charter gets bought. But I think the first is more likely than the second. And I suspect we will be able to collapse it absolutely then. In the interim, hopefully, we may decide, hey we've got a lot of borrowing capacity at Broadband. Let's take advantage of that discount. If you are a shareholder of us or anyone else, buying Broadband seems like a pretty good play compared to buying Charter. And so we may take advantage of that ourselves. We've done that before. We did that frankly at Liberty with [ph] LMDIA (25:36), we sucked in some of the stock at a discount. So we'll hopefully choose the returns even better.

Under these assumptions, Ventures would have 50% upside to its net asset value.  Of course, Ventures has always traded at a discount to its NAV so readers may argue that we should use a 10-20% discount, at which point our upside to NAV is 8% on a market basis and 28% on an “economic” basis.  However, we believe that both the NAV and the discount could work in our favor for a variety of reasons.

First, we have valued a collection of real, tangible, cash-flowing assets at zero (private investments in Evite, green energy investments with $40 million in after tax annual cash flows).

Second, if we are right about Charter, then our NAV (which is 85% Charter-related) would increase substantially (and increase more than Charter or Liberty Broadband themselves would).  The incentive compensation structure for Charter CEO Tom Rutledge and industry commentary around what Verizon would be willing to pay for Charter suggests $400+ per share is reasonable.

Third, we have optionality on John Malone’s capital allocation skill and with nearly $500 million in cash sitting at Ventures, plus the cash flow coming in every year from the green energy investments and the tax shield of the exchangeables, that balance is growing.  Another SIRI or CHTR like investment would add substantially to our net asset value and we believe such an investment is most likely to be made out of Ventures.

Lastly, we believe that a potential Charter / Verizon combination could be the solution for the ultimate “clean-up” at Ventures where Verizon acquires Charter and Liberty Broadband.  In such a scenario, Ventures would have a net asset value of $90 per share with over 90% represented by Verizon stock and the non-Verizon assets could be disposed of with some tax leakage but ultimately eliminating any discount.  While there are certainly hurdles (disposition of non-Charter stakes in TREE, ILG and FTD; tax structuring of separation from QVC) we believe there are solutions to these whose cost is much smaller than the benefit from closing the discount gap at Broadband and Ventures.   Similar to the Charter/TWC transaction where Liberty received only Charter stock while other TWC shareholders received cash and stock, the transaction can be structured without triggering any taxes for the Charter and Liberty Broadband holdings.

We believe that Ventures is therefore the most attractive way to invest in Charter and comes with a handful of free options:

We believe there are several reasons that Liberty Ventures is mispriced, along with some risks to consider:

1.       Size:  Ventures has a $3.7 billion market cap compared to $15 billion at Liberty Broadband and $100 billion at Charter.  This is not a big concern for us.

2.       Complexity:  While we don’t think that Ventures is too complex to analyze, we understand that long only investors who want to buy Charter will just buy Charter and hedge funds that want to invest in Charter at a discount will buy Broadband.  Liberty Ventures is left to be somewhat “orphaned.”  We think that Ventures is getting less and less complex over time with the separation of Expedia, Trip Advisor and CommerceHub and a further consolidation of its holdings.

3.       Charter / Cord-cutting:  Any investment in Ventures (or Broadband) is a bet on Charter.  While cord-cutting is a real phenomenon, we believe that broadband cable is well positioned to manage the transition with cord-cutters, over-the-top offerings and skinny bundles.  We are happy to discuss further in the comments section.

4.       Tax reform:  If the deductibility of corporate interest is repealed, then there could be an impact on levered companies like Charter and in the value of the tax shield in Venture’s exchangeable bonds.   We think this risk is manageable.  First, we do not think that significant tax reform gets done by this administration given the dysfunctionality of the president/cabinet and the wasted political capital on tweets and other forms of nonsense.  Second, with a cabinet full of levered real estate and private equity professionals, we don’t think corporate interest deductibility will be the method to finance any tax reform that may be passed.  However, if corporate interest deductibility is removed, it would be a negative for Charter and could impact the value of the exchangeables tax shield.   We are happy to walk through scenario planning in the comments.

5.       Tracking stock / QVC:  One risk with Ventures is that it is a tracking stock and technically only has ownership of Liberty Interactive, which also owns the QVC channel as part of its other tracker.  In a scenario where QVC falls into distress, QVC creditors and its allocated debt could have a claim on Ventures and Ventures could be pulled back into Liberty Interactive.  While this is a theoretical risk, we believe that QVCA is a fine, albeit low growth, asset and its $9 billion market cap suggests that its 3x leverage ratio is manageable.

6.       Other tax issues at Ventures:  After the Yahoo/Alibaba separation last year, the IRS cracked down on spin-offs of passive assets.  In order to separate Ventures from the rest of Liberty Interactive, there will need to be an “Active Trade or Business” (ATB) at both ParentCo and SpinCo.  ParentCo would likely be QVC which is itself an active business, but currently there is not an active business large enough at Ventures (Evite is an operating business but too small relative to the passive investments).  This presents a complication for the separation, but not an insurmountable one.  John Malone and his staff have repeatedly proven themselves to be extremely astute dealmakers when it comes to structuring transactions to minimize tax leakage.

Other Valuation Considerations:

Overall, we believe the two most important variables for Ventures’ NAV will be the long-term value of Charter and whether Liberty can eliminate the discounts at Broadband & Ventures.  However, given the other moving parts, we can discuss our views on these components.  We have tried to be reasonably conservative in estimating our net asset value but we would be glad to expand upon these valuation topics in the message section:

1.       Green energy investments:  Liberty values the green energy investments at $100 - $150 million using a 10-20% discount rate and these investments are going to generate $30-$50 million per year through 2021 and decline thereafter.  We value this at zero for the sake of conservative.

2.       Deferred taxes:  Liberty has significant deferred tax liabilities, some of which will likely be deferred for a very long time and some will be paid sooner rather than later.

a.    Charter/Broadband/Time Warner Cable:  we think the tax liabilities associated with these investments is likely deferred for a very, very long time as Charter is either held and compounds or is acquired for stock in a non-taxable deal

b.   Exchangeables:  the exchangeables have a substantial $5 - $8 billion deferred tax liability starting in 2029 through 2046.  While this is a very large number, we think that the exchangeables are actually an NPV positive asset because they provide $150-$400 million per year in cash flow until their maturity and this is worth $500 - $700 million on a present value basis.  We are happy to elaborate further on the nature/history of the exchangeables and our calculation of value/liability, in addition to the commentary that was provided in prior VIC write-ups

c.    Non-control investments:  To the extent that Liberty monetizes FTD, TREE or ILG in a taxable transaction, they will have some tax liability on those proceeds.  We have no incorporated this into our analysis.

3.       Evite:  valued at zero

4.       New investment potential:  We give no value to the potential for John Malone to find another Sirius XM or Charter investment, even though Ventures will likely increase its cash balance to $1 billion by the end of next year.

5.       Debt at market value:  We value the exchangeables at par value but have seen other research (Evercore ISI) that values the debt at its market value given its lower interest rate and exchangeability into stock equivalent at less than par.  We think this exercise shifts some of the value of the tax shield into the par value, and do not follow this practice.

6.       Bull case tax scenario:  While it is very unlikely, there is a very small chance that somehow Malone and his tax figure out a way to push back the deferred tax of the exchangeables beyond their current maturities, at which point the NPV of the tax shield increases substantially.  We do not view this as likely and have not incorporated that into our analysis.

In conclusion, we think Liberty Ventures is an attractive investment, trading at a large discount to its growing NAV, with returns ranging from modestly appealing 10-20% stand-alone gains to very enticing 100% gains in the bull case.  We would be happy to discuss our views on Charter, TREE, ILG, FTD, the history of the NAV discount and any of these other topics in the comments section.

Catalyst

Charter merger/combination with Verizon or other entity

Share buyback at Liberty Broadband

Strategic Investment by John Malone using Ventures cash