July 21, 2013 - 1:00pm EST by
2013 2014
Price: 1.19 EPS $0.10 $0.15
Shares Out. (in M): 175 P/E 11.7x 7.4x
Market Cap (in $M): 200 P/FCF 5.0x 4.0x
Net Debt (in $M): 545 EBIT 70 80
TEV (in $M): 745 TEV/EBIT 10.6x 9.3x

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  • Media
  • Music
  • FCF yield
  • Oligopoly
  • High Barriers to Entry, Moat
  • Competitive Advantage


Business summary: Mood Media (“Mood”) is the world’s largest provider of in-store audio and visual media services to the retail industry, serving ~580,000 commercial locations including specialty retailers, department stores, hotels and restaurants.  The company was built through a series of acquisitions over the last four years, combining the largest in-store media company in Europe (Mood Media Group) with the #1 and #2 players in North America (Muzak and DMX) to form the largest operator globally.  Mood holds 66% market share in North America and 38% in Europe.  Mood is headquartered in Concord, Ontario and trades on the TSX under ticker MM.  Mood reports its financials in USD.

Current trading: The stock currently trades at C$1.19, which implies a market cap of US$200mm, TEV of $745mm, TEV / 2014E consensus EBITDA of 5.4x, and 21% forward free cash flow yield (based on consensus 2014E FCF of $42mm).  The stock price has fallen 41% since January 2013 (C$2.00) and 60% since its 52-week high in July 2012 (C$2.95).  Valuation figures in USD above assume CAD/USD exchange rate of 1.04 (market rate as of 7/19/2013).

Investment thesis: Stable cash generative business with structural barriers to entry, dominant market share, and significant white space in the fast-growing Visual segment.  In the process of integrating four accretive acquisitions completed during 2012.  Investors have fled the stock given high leverage levels resulting from acquisitions (4.5x net debt / EBITDA) and temporarily depressed free cash flows in 2012 due to (i) cash burn from CD/DVD kiosk business which was divested in May 2013, and (ii) one-time restructuring, transaction and integration costs.  As past acquisitions are integrated and one-time costs fall to zero, cash flows will improve allowing the business to delever.  

1)      Free cash flow to recover from depressed levels as restructuring spend goes to zero in 2Q13 and cash burn from discontinued CD/DVD business is eliminated
2)      Successful execution on integration of 2012 acquisitions and synergy realization
3)      Visual segment to drive organic EBITDA growth through penetration of existing Audio customer base

Price target: 15% normalized free cash flow yield implies a price target of C$1.62 (36% upside to current).  Today a share price of C$1.62 would imply 5.9x TEV / consensus 2014E EBITDA.

Business overview:
Mood is the world’s largest provider of in-store media services to retailers and other consumer-facing businesses.  Mood’s services include pre-programmed and customizable music playlists, software media players, sound system hardware, branded video content for in-store display, and customized in-store scents.  The company serves ~580,000 retail locations across a client base of more than 850 major brands including department stores, specialty retailers, restaurants, hotels, banks and drug stores.  Mood’s customer base consists primarily of large global brands such as Wal-Mart and CostCo, and its average customer operates over 600 locations.

The majority of Mood’s revenue (~75%, or $329mm of $444mm in total 2012 revenue) is generated through take-or-pay subscription contracts with customers and therefore recurring in nature.  Subscribers pay a fixed monthly fee for the duration of the contract (typically three to five years) and obtain access to Mood’s proprietary library of audio and video content, as well as Mood’s value-added services such as customized playlists designed by Mood’s in-house DJs, in-store audio messaging services, and music playback software.  The remaining ~25% of Mood’s revenue ($113mm) comes from non-subscription services (~15% of revenue) and sales of equipment such as sound systems and digital display equipment (~10% of revenue).  Mood’s equipment sales generate a significantly lower gross margin (~20%) than its subscription-based revenue (~40-60%).

The company’s operations are organized into two segments: Audio (69% of 2012 revenue) and Visual (31% of 2012 revenue).

Audio segment ($306mm in 2012 revenue; 69% of total): The Audio segment provides retailers with pre-programmed and customized music playlists designed to match a store’s brand and influence customers’ buying behavior.  Because the use of copyrighted music in commercial environments is legally prohibited without a commercial license to the music, Mood provides the necessary commercial licensing for all content it distributes and this licensing service represents a key part of Mood’s value-add.  The legal requirement for businesses to play rights-compliant music creates a stable source of demand for Mood’s service.

Mood’s subscribers have access to Mood’s broad portfolio of licensed music including (i) a proprietary library of 1.8 million tracks to which Mood owns a license, representing the largest owned music library of any in-store music provider globally; and (ii) a wide selection of original tracks licensed from major record labels.  Mood acquired the majority of its proprietary “rights-included” library in 2007 when it acquired Trusonic, an in-store music provider that had acquired 1.5 million rights-included tracks from, which owned rights to tracks from 250,000 unsigned indie artists. completed its IPO in 1999, but struggled financially and was acquired by Vivendi and sold off in pieces in 2004.  The legacy library of rights-included tracks represents a trophy asset since it allows Mood to offer lower pricing and more selection than its competitors.  Mood can charge its customers below-market rates for use of its rights-included tracks, because those tracks do not require Mood to pay licensing fees to a record label; additionally, the royalties Mood pays to artists on its rights-included tracks are typically lower than royalties on third-party content.  As a result, Mood’s rights-included music library represents a lower-cost, higher-margin alternative to licensed tracks from record labels.  

Royalties paid to artists and publishers make up the Audio segment’s largest operating cost, and are paid monthly at a fixed rate based on the number of times a song is played by Mood’s customers.  The Audio segment’s other operating expenses include the cost of audio equipment purchased for sale or rental, satellite fees for transmitting content to customers, and content development costs.  Mood delivers music to its customers by satellite, over the internet, or by CD.  In addition to providing music content, Mood offers software media players, sells and installs audio equipment, and provides tailored in-store audio messaging content (e.g. promotional messages played over a store’s sound system).  Mood also has an exclusive licensing partnership with Pandora to allow Mood’s customers to play Pandora internet radio in their establishments.  Mood’s estimated monthly Audio segment ARPU is ~$50-55, on a subscriber base of 428,157 locations as of Q1 2013.  These estimates imply total subscription-based audio revenue of $260-$285mm (and $21-$46mm in non-subscription revenue, which consists primarily of equipment sales).  The company does not explicitly break out Audio segment revenue into subscription and non-subscription amounts for competitive reasons.  

In addition to the 428,157 subscriber locations that Mood serves directly, the company has 101 franchisees, each of which has an exclusive license to sell Mood’s audio equipment and content services within a defined geographic territory.  Mood’s franchisees serve ~150,000 locations in the US and pay Mood a monthly fee of approximately $5 per customer location, which implies Mood earns annual revenue of ~$9mm from its franchisees (with a gross margin close to 100%).  Mood’s franchise licensing agreements are governed by reciprocal exclusivity provisions which prevent franchisees from selling products or services that compete directly with Mood.

Visual segment ($138mm in 2012 revenue; 31% of total): Mood’s visual segment provides customers with original video content for display on digital screens in the store, including customized branded TV programs, video advertisements, interactive touchscreen kiosk programming, and video-based store window displays.  Mood is a major player in the rapidly growing “digital signage” space, which encompasses the use of digital displays in stores and other public spaces.  Mood’s content is displayed in-store on LCD, LED and plasma displays, and on tablets and interactive kiosks.  Mood also sells and rents display hardware and related equipment to its customers for use in digital signage applications.  Mood does not manufacture hardware itself, but sources equipment from third-party manufacturers. 

Since 2006, the Visual segment has grown from zero to 31% of Mood's total revenue ($138mm in 2012 Visual revenue) with much of that growth coming from cross-selling visual services to existing Audio customers.  The Visual segment earns revenue in two ways: (i) through fixed-fee subscriptions (similar to the audio segment) in which customers pay a fixed monthly fee for access to Mood’s video content library; and (ii) through non-subscription sales and rentals of video equipment and one-off sales of content.  As of Q1 2013, Mood had 11,595 Visual segment subscriptions, with an estimated monthly ARPU of ~$200 (~4x the audio ARPU).  Mood has grown its Visual subscriber base rapidly over the past year from 5,289 in Q1 2012 to 11,595 in Q1 2013.  

Overview of Recent Acquisitions:
The company was built through a series of acquisitions over the past three years:
  • Mood Music Group (closed June 2010): Fluid Music acquired European in-store music provider Mood Music Group SA for $185mm (6.0x TEV/EBITDA). Fluid subsequently changed its name to Mood Media Corporation.
  • Muzak (closed May 2011): Mood acquired Muzak for $345mm in cash (6.2x TEV/EBITDA).  Muzak was the largest North American in-store audio provider with a customer base of ~200,000 locations and franchisees serving an additional ~150,000 locations.  The acquisition of Muzak established Mood’s footprint in North America, where it had not previously operated at scale.  By the end of 2012, Mood had successfully achieved its synergy target for Muzak of $15mm, implying a post-synergies creation multiple of 4.9x TEV / EBITDA.
  • DMX (closed March 2012): DMX was Mood’s largest competitor in the North America in-store music market.  Mood acquired DMX for $86mm in cash (5.2x TEV/EBITDA), increasing Mood’s NA footprint from ~350,000 to ~450,000, and NA market share from 51% to 66%. 
  • BIS (closed May 2012): BIS is a Netherlands-based provider of digital signage solutions in the Benelux region.  Mood acquired BIS for $28mm in cash (estimated ~9x TEV/EBIT).
  • ICI (closed Oct 2012): Mood acquired Independent Communications, Inc. (ICI), one of Muzak’s franchisees focused on the mid-Atlantic region, for $28.4mm in cash (6.6x TEV/EBITDA). 
  • Technomedia (announced Dec 2012, pending close): Technomedia is a provider of integrated audio-visual media packages for retailers, restaurants and other businesses.  Mood acquired Technomedia for $23mm (4.0x TEV/EBITDA) plus an earn-out, and will integrate the business into its Visual segment.

Market Size - Audio
Mood’s Audio segment operates in a consolidating industry with a small number of competitors.  Mood holds 66% share in North America and 38% share in Europe (based on number of locations).  Below is a summary of the largest Audio players in North America and Europe:

North America:
Mood (Muzak) (~350,000 locations; 51% market share)
Mood (DMX) (~100,000 locations; 15% market share)
Play Networks (~50,000 locations; 7% market share)
Other small players (~185,000 locations; remaining 27% market share)
Total: ~685,000 locations

Mood (~130,000 locations; 38% market share)
Imagesound (~15,000 locations; 4% market share)
POS (~10,000 locations; 3% market share)
TSG (~8,000 locations; 2% market share)
Other small players (~185,000 locations; remaining 53% market share)
Total: ~343,000 locations

Management estimates there is a potential addressable market in North America for the Audio segment of 2.5mm business locations, implying that licensed in-store Audio providers have only penetrated 27% of the addressable market today (the remaining 73% of businesses likely play unlicensed music in their stores from radio or the internet).  In Europe, estimated penetration is even lower with only 13% of the estimated 2.6mm addressable locations using in-store music from a licensed provider.

Market Size – Visual
The market size for the digital signage industry is best measured on a total dollar basis rather than number of users (sales are not typically subscription-based).  In 2011, consultancy IMS estimated the market size for the global digital signage industry was ~$5 billion.  Based on $138mm in 2012 revenue from Mood’s Visual segment, Mood’s implied digital signage market share is 2.8%.  The market remains highly fragmented, with no clear market share leader.  Industry consultant IHS iSuppli recently projected the digital signage industry will grow at a 10.5% CAGR from 2012-2016, driven in large part by increasing adoption by the retail sector.

Recent Performance:
Including the full-year impact of Muzak and the three acquisitions completed in 2012 (DMX, BIS and ICI), Mood grew 2012 total revenue and adj. EBITDA by 62% and 35% YoY, to $444mm and $112mm respectively.  While the company does not disclose organic growth, we can estimate it by adjusting out the partial-year impact of the three acquisitions in 2012 (subtract $100mm revenue and $15mm EBITDA) and the partial-year impact of the Muzak acquisition in 2011 (add $50mm in revenue and $15mm in EBITDA).   Including those estimated adjustments, revenue and EBITDA grew 5.9% and -0.5% organically YoY.  The Visual segment grew revenue organically (i.e. ex. BIS acquisition) by 46% YoY, implying a -5.4% organic growth in Audio segment revenue.  Mood does not break out EBITDA separately for Audio and Visual, but growth in Visual EBITDA likely offset contraction in Audio EBITDA.

In Q1 2013, revenue and adj. EBITDA grew 54% and 20% YoY.  The company disclosed pro forma YoY overall revenue growth of -1.9%.  Per the Q1 conference call, this pro forma top-line decline reflected pricing pressure in Audio revenue, offset by significant growth in Visual segment revenue.

While the recent organic declines in the Audio segment are concerning, there are two important mitigants suggesting Mood’s core Audio segment will stabilize in 2013:
  1. The YoY decline was driven by pricing, not customer loss (total audio subscriber locations increased by 4,966 or +1.2% from 1Q11 to 4Q12).  Per management’s commentary on the 1Q13 conference call, there has been pricing erosion across the in-store Audio market due to competitive pressure, but Mood saw Audio pricing pressures abate by the end of 1Q13.  Management expects prices will stabilize in the second half of 2013.
  2. The acquisition of DMX eliminates Mood’s top Audio competitor in North America, increasing Mood’s market share from 51% to 66%.  Following integration, the acquisition should improve Mood’s pricing power and eliminate the Company’s largest source of price competition.
The Visual segment, on the other hand, grew rapidly in 2012 (93% revenue growth; estimated 46% organic revenue growth) more than offsetting pricing pressures in Audio.  As more of Mood’s ~350,000 legacy audio-only Muzak customers purchase digital signage products, the Visual segment is likely to achieve increased penetration through cross-selling.  Assuming a conservative penetration target of 10% of Mood’s overall subscription base (vs. ~2% today), the Visual segment would add ~$80mm in additional subscription-based annual revenue in the near term (assuming Visual ARPU of $200).  This conservative estimate for potential Visual revenue growth would be sufficient to offset three consecutive years of 10% declines in Audio segment revenue.  

To quantify the value of that incremental Visual revenue opportunity, we can make a conservative EBITDA margin assumption of 30% (based on the bottom end of management guidance of 40-60% gross margin for its subscription-based businesses, and assuming additional SG&A equal to 10% of sales).  Assuming ARPU of $200, EBITDA margin of 30%, and a conservative 6.0x TEV/EBITDA multiple (based on the company’s 2013 YTD average trading multiple), the Visual segment penetration opportunity is worth the following per-share value at different assumed rates of penetration into Mood’s existing Audio subscription customer base:

5.0% penetration:         C$0.27 / share
7.5% penetration:         C$0.55 / share
10.0% penetration:       C$0.83 / share
12.5% penetration:       C$1.11 / share
15.0% penetration:       C$1.40 / share

Upselling Audio customers to Visual products remains a core strategy for the company, and we should see increased Visual market penetration in upcoming quarters.

Cash Flow Outlook
While Mood’s recent P&L performance has been mixed, the organic revenue and EBITDA trends discussed above are not sufficiently negative to warrant a 39% price decline in the stock over the past 6 months and a current implied forward free cash flow yield of 21% based on consensus estimates.  The market’s strong pessimism on this stock relates more to the company’s recent free cash flow performance than to underlying organic EBITDA trends, which have recently been mixed but supported by a sustainable competitive advantage and strong growth trends going forward.  

In 2012, Mood generated quarterly FCF (defined as cash from operations less capex) of -$10mm, -$23mm, -$14mm and -$7mm (for Q1-4 respectively), and 2012 total FCF of -$54mm.  Obviously these figures are concerning for a company with ~4.5x leverage.  However, free cash flow is currently at a key inflection point for the following reasons:

  1. Historical free cash flows through Q1 2013 include cash burn from the company’s “Mood Entertainment” division, a business that sells CDs and DVDs through automated kiosks located in retail stores.  The business is in secular decline due to decreasing CD/DVD consumption trends, and as a result has generated large losses and is quickly burning cash (-$18mm in 2012 EBITDA, -$14mm in 2012 FCF).  Following the Mood’s successful sale of the business in May 2013, the company will see that large source of cash burn eliminated.
  2. As a result of its recent acquisitions and integration activities, the company has incurred large one-time costs related to transaction costs, severance, and restructuring.  In 2012 alone, the company incurred $20mm in transaction costs and $19mm in integration and restructuring costs.  Following release of Q1 2013 earnings, management indicated they do not expect to incur any further one-time costs related to acquisition integration and restructuring.  Additionally, they have no plans for further acquisitions in the near term, and instead will focus on generating cash and delevering over the coming year.
  3. In 2012, the company experienced a net cash outflow of $24mm from working capital build.  Management indicated that the majority of that outflow related to (i) the discontinued Mood Entertainment business, which is working capital intensive, and (ii) non-recurring working capital investment in the three acquired businesses in 2012.  Management has stated that growth in its core Audio and Visual business requires little to no working capital investment.  To be conservative, we can assume only 75% of the 2012 working capital build, or $18mm, was non-recurring, and that $6mm was a recurring use of cash.

If we adjust out the three non-recurring sources of cash burn described above, we get a clearer picture of the cash generation of the recurring business in 2012:

Reported free cash flow:                                                                  -$54mm
Add back Mood Entertainment cash outflow:                                  +$14mm
Add back transaction & integration costs:                                       +$40mm
Add back non-recurring net working capital build (assume 75%):   +$18mm
Adjusted free cash flow:                                                                    $18mm

The above analysis shows that on a recurring basis, the core in-store Audio and Visual businesses are cash generative.  On the company’s Q1 2013 conference call, the CFO laid out his guidance for positive FCF in 2013, which is consistent with a normalized level of FCF:

Guidance 2013 EBITDA:                                                                    $125mm
Less capex:                                                                                     -$32mm
Less interest expense:                                                                    -$48mm
Less cash tax:                                                                                  -$5mm
Guidance 2013 free cash flow:                                                         $40mm

On a market cap of $200mm, this 2013 FCF target implies a 20% FCF yield.  There is significant upside to this target given the embedded synergy estimate of $7mm for the year.  Management has identified $15-20mm in additional potential synergies resulting from integration activities completed in 2013, and those synergies are not included in the guidance.

Relative to recent history, the estimated 2013 cash tax of $5mm is a conservative estimate.  As a result of its large base of NOLs, the company only paid cash tax of $0.7mm, $4mm and $7mm in 2010, 2011, and 2012, on adjusted EBIT of $12mm, $41mm and $54mm respectively.

As the company’s Q1 2013 results show, the expected improvement in FCF has already begun to play out.  While reported free cash flow for the quarter was -$1mm, that figure included a $6mm one-time working capital item related to the divested Mood Entertainment business; excluding that item, the business generated $5mm in free cash flow.  The reported FCF also includes $6mm in non-recurring transaction expenses and restructuring costs.  On a true recurring basis, the business generated $11mm in FCF in Q1 2013.

Investment Highlights
  • Inflection point in free cash flow.  Given the company’s successful divestiture of Mood Entertainment in May 2013 and completed integration of recent acquisitions, the company is poised for a step-change improvement in free cash flow.
  • Sustainable barriers to entry.  Mood enjoys a sustainable competitive advantage in the in-store Audio market as a result of its proprietary catalogue of 1.8mm “rights-included” tracks, which is unique in the industry and provides a pricing advantage over competitors.  Additionally, Mood’s large installed base of branded in-store audio and visual equipment creates customer switching costs and provides a sustainable competitive advantage.
  • Dominant global market share.  Mood holds dominant market share in the in-store Audio market, having consolidated the industry over the past five years and achieved market share of 66% in North America and 38% in Europe.  Following Mood’s acquisition of its largest North American competitor (DMX) in 2012, its competitive advantage will only improve going forward.
  • Significant white space for Visual segment growth.  The digital signage industry is growing by 10%+ per year, as retailers increasingly incorporate visual displays into their in-store branding.  Mood’s Visual segment has grown rapidly over the past year (estimated organic revenue growth of 46%), but Visual subscribers today only represent 2% of the Company’s total customer base.  As Mood upsells its existing Audio subscribers to its Visual products and services, the company will grow Visual revenue and EBITDA rapidly.
  • Pro forma earnings power not yet recognized by the market.  Given Mood’s string of four acquisitions in 2012, the company’s recent quarterly earnings have not provided a clear picture of the company’s pro forma performance.  As the company shifts away from making new acquisitions, its EBITDA growth trends and cash generation will become more visible to the market.

Investment Risks
  • Pricing pressure in Audio.  Estimates for the Audio segment’s organic revenue growth in 2012 indicate a growing user base but modestly declining revenue, driven by competitive pricing pressure in the Audio market.  In recent commentary, management stated that pricing pressure has weighed on Audio segment revenue recently, though pricing pressures are expected to abate during the second half of 2013.
  • Failed sale process.  On April 4, 2013, the company announced it had hired Credit Suisse and Morgan Stanley to complete a “strategic review” of alternatives to enhance shareholdervalue (i.e. a sale process).  On its Q1 2013 earnings call, the company reported it had completed a full diligence process with one buyer, but that the deal had fallen through for undisclosed reasons.  This information is a potential cause for concern, as a buyer with inside information chose not to acquire the company.  The board continues to explore a potential sale of the company, and an outright acquisition remains a possibility in the near term.
  • Liquidity.  The company currently has $43.9mm in cash on hand and $21.6mm of availability on its revolver, or $65.5mm in available liquidity.  While there are good reasons to expect positive cash generation going forward, the company has limited flexibility to pursue capital projects, acquisitions, or other cash uses in the near term given its liquidity profile and its focus on delevering.
  • Covenants.  While the company has ample room under its debt covenants, a significant deterioration in EBITDA could result in covenant breach given the company’s high leverage level.  Mood is restricted by a maintenance covenant under its senior credit facility that limits senior secured debt / LTM EBITDA to a maximum of 2.5x.  With $199mm in outstanding debt under its senior secured credit facility as of 3/31/2013 and LTM EBITDA of $116mm, Mood’s current senior debt / LTM EBITDA is 1.7x.  Mood’s EBITDA would need to fall to $80mm to trip its maintenance covenant.
I do not hold a position of employment, directorship, or consultancy with the issuer.
Neither I nor others I advise hold a material investment in the issuer's securities.


1)      Free cash flow to recover from depressed levels as restructuring spend goes to zero in 2Q13 and cash burn from discontinued CD/DVD business is eliminated
2)      Successful execution on integration of 2012 acquisitions and synergy realization
3)      Visual segment to drive organic EBITDA growth through penetration of existing Audio customer base
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