2023 | 2024 | ||||||
Price: | 57.11 | EPS | NM | NM | |||
Shares Out. (in M): | 37 | P/E | NM | NM | |||
Market Cap (in $M): | 2,083 | P/FCF | NM | NM | |||
Net Debt (in $M): | 1,457 | EBIT | 0 | 0 | |||
TEV (in $M): | 3,743 | TEV/EBIT | NM | NM |
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I believe MSGE, particularly the soon to be standalone SphereCo, could be a very asymmetric risk / reward set up. I won’t dive into too much of the history since this story has been ongoing for a few years and there is a ton of information available online, but the opportunity really centers around the Las Vegas Sphere, a state of the art entertainment venue the company has been building in Las Vegas since 2018/2019. After numerous delays and cost overruns, the Sphere is finally set to debut this fall with U2 as the opening act. We are not blind believers for a pie in the sky narrative about the venue’s potential but instead view the market as completely disregarding the potential for the Sphere to be even a modest success. We also believe that the core Entertainment business (EntertainmentCo) will be highly FCF generative with annuity-like revenue streams and a monopoly position on large scale live entertainment in Manhattan.
Sphere Background & Resources
I’ll briefly cover the Sphere here but recommend spending some time understanding what the venue will look like and its capabilities.
Key design features of the Sphere include:
A 580,000 square foot, fully-programmable LED Exosphere - the world’s largest LED screen. The exosphere could be a crucial differentiating feature between the Sphere and other venues as it will enable monetization via advertising in a way that other venues cannot. Below we look to value this revenue stream by comping it to digital billboards but note that the Sphere will benefit from being significantly larger while still being located in the highly attractive Las Vegas market.
An interior bowl featuring an ultra-high resolution LED screen with more than 160,000 square feet of immersive display surface, larger than three football fields.
An advanced acoustics system featuring more than 160,000 speakers and beamforming technology that will deliver crystal clear audio and provide unique directional listening experiences.
Multi-sensory technologies, including an immersive seating system that uses deep vibrations so guests can “feel” the experience, as well as environmental effects such as temperature and scent; and
An advanced architecture for connectivity that will enable a broader range of content, greater interaction among guests and more immersive entertainment experiences.
Set Up Overview
In August 2022, MSGE management announced that it was exploring a potential spinoff for its traditional live entertainment business and a collection of its other assets into the following two companies:
EntertainmentCo (i.e. SpinCo) which includes:
Madison Square Garden, Hulu Theatre at Madison Square Garden, Radio City Music Hall, the Beacon Theatre, and The Chicago Theatre
The Company’s entertainment and sports bookings business
Radio City Rockettes and the Christmas Spectacular
Long-term Arena License Agreements with the New York Knicks and Rangers
MSG Networks
SphereCo (i.e. RemainCo):
MSG Sphere in LV and acquired land in London
Majority interest in TAO Group Hospitality
A roughly 1/3 interest in SpinCo
The majority of existing cash on hand
A few months later, however, in December, the Company slightly tweaked its plans to shift MSG Networks into SphereCo as follows:
EntertainmentCo:
Madison Square Garden, Hulu Theatre at Madison Square Garden, Radio City Music Hall, the Beacon Theatre, and The Chicago Theatres
The Company’s entertainment and sports bookings business
Radio City Rockettes and the Christmas Spectacular
Long-term Arena License Agreements with the New York Knicks and Rangers
SphereCo:
MSG Sphere in LV and acquired land in London
MSG Networks
Majority interest in TAO Group Hospitality
A roughly 1/3 interest in SpinCo
The majority of existing cash on hand
On 3/30/23, management officially announced that the spinoff was going to take place on 4/20/23 (originally targeted for before the end of March) with Entertainment Co also approving a $250mm share repurchase program. On our math, this repurchase authorization could represent 15-20% of EntertainmentCo's market cap.
Most MSGE bulls are focused on the spin highlighting the underlying asset value and FCF generation of EntertainmentCo, masked by an existing GoodCo/BadCo set up. Although we agree that Entertainment is a GoodCo and that the spin will (and already has) highlighted this underlying quality, we are more focused on the potential for SphereCo. This is particularly true if, as we expect, the existing investor base for MSGE has no appetite for owning SphereCo and will sell the company in favor of buying more of EntertainmentCo post distribution. Depending on the selling pressure and/or the doubt the market has on the Sphere, we believe there could be meaningful upside as the venue gears up for its launch. Below we break down the Sphere’s monetization into 4 key sections 1) Ticketing & Event, 2) Food & Beverage, 3) Advertising, and 4) Other to attempt sizing the revenue and FCF/earnings opportunity.
Note that MSGE has explored a Sphere in London as well. As a result, the Company has been required to file planning documents with the local government that help inform some of our model estimates below.
Events at the Sphere will be hosted either by MSGE itself (1P events) where it captures the significant majority of ticketing revenue or by others seeking to put on concerts, corporate events, etc. (3P events), where the Company charges a venue license fee but should bear no upside/downside risk associated with the show.
According to some press articles that cite a JPM lender presentation, 1P events will largely be associated with film screenings in what can be thought of as an extremely turbo-charged IMAX. The Company is planning for 400-500 screenings a year at potentially $50 a ticket. For now, the Company is targeting just 40-80 concerts made up of 4-8 residencies. We break this monetization down below.
Number of screenings: Per the leaked JPM lender presentation. We are below the projected range in our bear case and the top end in our bull case.
Cost per ticket: We again use the lender presentation and estimate a ticket range of $30-50. We assume a 2 hour show which boils down to a cost of $15-25 per hour across cases, which compares to ~$10 for an IMAX ticket. Given the Sphere will be significantly more immersive and one of a kind we think our range is fair. Below we highlight Seaworld’s 3Q22 investor presentation that maps out ticket prices for various entertainment events.
Occupancy: As a part of the London Sphere’s development, the company submitted a Concept of Operations document (CONOPS) that notes average attendance it expects for “Cinematic / Theatrical attractions” is 8k, compared to total anticipated seating capacity of 17.5k. Despite the London venue’s slightly lower seat count we use the 8k as our reference for projecting across our cases. As such we assume 5.5-8.4k viewers per screening.
EBIT margin assumption: Cinemark EBIT margins pre-COVID were well above 20% while IMAX margins were also close to or above 20%. Since SphereCo will be producing its own content (content will be unique to the Sphere) there should be no expensive licensing fees. Further, since the company has also already spent the last few years producing its own content, that should mean internal production costs are lower at the onset. Finally, since the content is unique to the Sphere and is not / can not be widely distributed, as in the case of traditional films, the need to continuously produce new content is lessened.
Seaworld 3Q22 Investor Presentation
In terms of 1P concert residencies our math is shown below:
Number of concerts: Per the leaked JPM lender presentation. We are below the projected range in our bear case and near the top end in our bull case.
Cost per ticket: Based on the Seaworld investor presentation above, concert tickets for the “largest tours” average $380 for a 4 hour show, or $95 per hour. We are significantly below this hourly estimate even as we anticipate that with a limited number of residencies, the Sphere will be targeting the biggest acts.
Occupancy: We again use the London Sphere CONOPS to determine occupancy, which notes that it expects average attendance of 15-17.5k. Our bear case is well below this figure and our estimate remains conservative in our bull case also.
EBIT Margins: Concert promotion is typically a low margin business given the large cut shared with artists, staging costs, staff, venue fees, etc. We use Live Nation’s margins as a rough starting point but the Sphere will not have to pay any venue fees, which we estimate can be 15-30% of direct operating costs. As such a 7-12% operating margin range seems reasonable.
The Sphere will also host 3P events from concerts to fights to corporate product launches to awards shows. Since 3P events require the Sphere to be successful enough to attract “outsider" attention and investment, we are conservative in our estimate of how many such events there will be.
Venue license fee: Based on disclosure from MSGE about how much it charges the Knicks and Rangers (MSGS) to play home games at Madison Square Garden, we estimate that this fee is $407k (Rangers) and $547k (Knicks) per game. We use this as a rough guide for our numbers while adjusting our numbers a good bit lower for geographic differences.
Events per year: We make conservative assumptions on event counts given the difficulty in predicting how well outsiders will receive the venue.
EBIT margin: We assume that there are some level of costs associated with 3P events if SphereCo will be responsible for security, electricity, etc. Similarly, F&B is often outsourced to the venue (the revenue of which we have not accounted for here or below) so we remain conservative in our estimates.
Summary financials for our 1P + 3P Events:
Food & Beverage Financials
Number of annual guests: This figure is the overall yearly Sphere visitation number implied by our assumptions around attendance discussed above and only relating to 1P events. As noted, there should be some additional revenue benefits from 3P events but we don’t factor that into our estimates out of conservatism.
% purchasing concessions & $ spend on concessions:
A study by Oracle titled “Stadium of the Future” notes that ~72%/~76% of US fans “always or usually” purchase food/beverage at a game with an average total spend of $42 per game.
According to Live Nation’s most recent quarterly earnings, U.S. amphitheater ancillary per fan revenue was $37
Overall, we feel we are conservative in both our assumption of % of fans who spend and the $ value of that spend.
EBIT margin: Our 65-75% margin assumptions are a reflection of 1) high gross margins on F&B and 2) significant shared operating expenses with 1P Events. As an example, Cinemark and Seaworld have gross margins on F&B that are in the mid 80%s.
Advertising Financials
Given the ability for the Sphere to monetize high margin advertising via its Exosphere, we attempt to size up this opportunity. Our conceptual framework for the Exosphere is digital billboards and we use this as a comp to create a revenue build and inform our assumptions. Admittedly, this is also the trickiest part of the analysis with assumptions being made in key areas.
Exosphere hours illuminated: Per a recent filing made in connection with the London Sphere, the agreement between the local government and the Sphere regulated the exosphere’s hours illuminated to 7:00AM to 11:30PM for a total of 16.5 hours. However, the London Sphere is located in a heavily residential area where there has been vocal opposition to its development by locals. Our 14-20 hour estimate across cases for the Las Vegas Sphere seems quite reasonable as this kind of venue has a perfect home in an entertainment city like Las Vegas.
% advertising: The same filing referenced above also notes an agreement between London and SphereCo. that commits the Company to displaying “public art” 65% of the time the Sphere is illuminated with advertising restricted to the remaining 35%. We use 45% in our bear case as we do not believe Las Vegas will have the same restrictions and then very modestly increase the % of advertising in remaining scenarios.
Advertising length: Most digital billboards display advertising for 7.5-8.5 seconds. We use 10 seconds to introduce a bit more conservatism into the length that an advertiser is willing to accept for an ad while keeping CPMs low. We have also found 10 seconds to be roughly in-line with major billboards in NYC and Los Angeles. We discuss CPMs and other major billboards in greater detail below.
Views per slot: In our base case, we assume that any given ad gets 5k views for a total of 16.2mm views per day / 113mm per week. This initial input of 5k is formed by a review / ad check of impressions by other major digital billboards. The most relevant billboards for the purposes of the Sphere are The Reef (LA) and 1 Times Square (NYC).
1 Times Square and The Reef are reportedly the first and second most profitable digital billboards in the country, respectively. Importantly, both pale significantly in size to The Sphere (which should mean more impressions) and will likely be significantly more engaging (which should mean higher CPMs). Additionally, the LV market is comparable to both Times Square and LA given visitation
Highlighting the size disparity between other digital billboards and the Sphere, the screen at 1 Times Square is comprised of ~7k square feet of digital signage while The Reef supports a ~41k square foot LED screen. Comparatively, the Sphere will be covered with 580k square feet of fully programmable LED panels and is an order of magnitude larger than anything that exists today. This should allow for much greater viewership as pedestrians will be able to see the Sphere not only from the nearby vicinity but from cars on adjacent roads and even from airplanes while flying into Las Vegas (per management). Finally, there will also be additional social media impressions that result from both tourists and actual corporate sponsors posting images and videos of their ads on platforms such as Facebook, Instagram, TikTok, etc. Our ~$45mm annual advertising revenue projection compares to our estimate of $32.9mm for The Reef and $39.8mm for 1 Times Square. Internationally, another comp is The Piccadilly Lights in the UK, an ~8.4k square foot digital screen. After a redesign in 2017, Piccadilly Lights now incorporates a number of smart technologies including recognizing the number of people in its vision, whether they are male or female, the make and models of cars driving by, responds to changes in the weather, and more. The point of this is to highlight that scaled, outdoor digital advertising can actually have some targeted elements for higher CPMs. An article from 2014 (prior to the redesign) notes that a new advertiser was likely to pay £4mm a year (~$4.8mm) for a full year. Based on my understanding, there are 6 different advertisers at any given time which means Piccadilly Lights could be generating $29mm+ in revenue annually vs our ~$45mm estimate for the Sphere.
Days of advertising: We assume 300-350 days of advertising. There should be no real barrier to advertising every day of the year as you can advertise even when the venue is closed.
CPM: We use Solomon Partners analysis of CPMs across media formats to further inform our inputs. We are within the range of pricing shown below but note that this could turn out to be conservative given the unique form of advertising that will be available via the Sphere.
We also make a conservative assumption for total indoor advertising, including naming rights. For example, T-Mobile Arena has a number of corporate partnerships outside of just arena naming rights for lounges and the like including Elyx Craft & Optum Lounge, Jack Daniel’s & Bud Light Lounge, Goose Island Lounge, Four Peaks Patio, Absolut Vegas Lounge, Hyde Lounge, Avion Tequila Terrace & Stella Artois Terrace, and Toshiba Plaza. We use the following much larger deals to help frame the potential.
Since all of these deals are associated with one or multiple sports teams, we don’t think the Sphere is likely to get a similar level of sponsorship revenue. It’s worth noting, however, that the media has reported that James Dolan is looking for a $50mm naming rights deal. We are significantly more conservative as shown below.
Our Advertising financials summarized:
EBIT margin assumption: We use Live Nation’s Sponsorship & Advertising segment as a proxy for our estimates. GAAP margins in this unit have run near or above 55% pre-COVID and were 49% and 54% in 2021 and 2022, respectively. On an adjusted basis margins have been north of 58% in every year since 2015, except for COVID where margins were 40%. As such we use this as our point of reference.
Other Financials
The London Sphere’s website notes that there will be additional “retail” units attached to the Sphere which we list above. Our assumptions are pretty conservative across the board on % of guests that spend and the $ value of their spend. Ultimately, we give little weight to these “non-core” areas and should the Sphere turn out to be a success, these discretionary categories will be a small growth option. Finally, we assume reasonable EBIT margins across our cases.
Summary Financials & Valuation
We lay out our summary financials above. Note that the Sphere will be located on property connected by a pedestrian bridge to The Venetian Resort. As part of SphereCo’s arrangement with The Venetian, the company’s ground lease has no fixed rent. However, if certain return objectives are achieved, the Venetian will receive 25% of the after-tax cash flow in excess of such objectives. It is not clear what this performance threshold is but we assume $50mm. Also it should be mentioned that in February 2022 Apollo acquired the operating assets of The Venetian and the Venetian Expo from Las Vegas Sands Corp, while VICI Properties acquired the associated land and real estate assets. VICI Properties was formed as part of a spin-off from Caesars Entertainment’s bankruptcy reorganization which Apollo played a very significant role in.
EntertainmentCo and SphereCo Valuation
SphereCo
We lay out our valuation for the Sphere above and prefer to use NOPAT since the performance based payment to The Venetian should be incorporated in some way. We also believe that the multiples we use are fair.
Since our inputs vary quite widely across cases, the venue will benefit from significant fixed cost leverage, and equity value is weighed down by the current debt load, we estimate that the Sphere is worth $1-59 per share. Our view is that the bear case assumes the Sphere is a total bust across all forms of its monetization. While possible, we give it a low probability and note that excluding debt our bear case values the Sphere at ~$9 a share.
Since the SphereCo will also house MSGN and TAO, we very crudely value both using a sensitivity on FY22 revenue and margins, represented by orange dotted boxes. We then highlight our bear (red), base (orange), and bull (green) valuations. We also follow a similar valuation methodology for EntertainmentCo (as SphereCo will retain a 33% stake in the company) but use management’s FY23 guidance to estimate a valuation.
MSGN
TAO
Note that MSGE confirmed in February that it was exploring a potential sale of its majority interst in Tao. Media reports suggest that Dolan is looking for a 12x EBITDA multiple for the business which would value the company's at over $800mm. Morgan Stanley estimates that Tao is worth ~$524mm.
EntertainmentCo
Taken together, our full valuation of SphereCo, EntertainmentCo, and MSGE is shown below.
Conclusion / Recommendation
At close to $55-60, we are less interested in the immediate sum of the parts story and think risk / reward is balanced to negatively skewed. Using our base case we are looking at ~32% upside and 39% downside with most of the upside coming from the Sphere. As such, we think you can play this in 1 of 2 ways.
Purchase shares of MSGE ahead of the spin and if, as we expect, SphereCo gets sold off in favor of EntertainmentCo, recycle the proceeds from the latter into the former. Given leverage, uncertainty around the Sphere, scarring from numerous delays and cost overruns for the venue, and unfavorable opinion of Dolan, we don’t imagine there will be a substantial bid for the asset.
Wait for the post spin trading price of SphereCo to estimate the implied valuation of the Sphere after accounting for reasonable estimates of the other assets. Below ~$30 I believe you are paying very little, if anything, for upside optionality from the Sphere when using base case valuations for MSGN and TAO.
Above we (very) simplistically assume a range of prices for SphereCo that suggest asymmetric upside if the company gets punished post spin, which we view as likely. Assuming that ~40% of today’s $57 share price is represented by SphereCo (inclusive of stake in EntertainmentCo), the company would trade for $22 a share. At this level, our punitive bear case calls for ~22% downside with well over a double just in our base case. The risk / reward, then, seems significantly skewed in favor of SphereCo even if the Sphere turns out to be only modestly better than expected. The bull case shows multi-bagger upside, assuming the Sphere is a massive success.
We will be watching this spin closely to better understand the market’s implied valuation of the Sphere and where we could be presented with a more asymmetric investment.
- Sphere media attention and consumer interest increase as we near an opening. The company has yet to advertise the Sphere in any meaningful way (there was a Super Bowl ad but it focused on U2 as the opening event vs the Sphere as a venue).
- Completion and opening of Sphere in 3Q23 (most likely September)
- Sale of TAO which further cleans up the business
- Spin of MSGN back to a standalone company
- Debt paydown post Sphere launch
- Capital returns post Sphere launch and debt paydown
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