MediasetMediaset MS S
November 16, 2013 - 1:47pm EST by
cgnlm995
2013 2014
Price: 3.40 EPS $0.30 -$0.30
Shares Out. (in M): 1,136 P/E 126.0x N/m
Market Cap (in $M): 3,866 P/FCF N/m N/m
Net Debt (in $M): 1,798 EBIT 517 -700
TEV ($): 6,335 TEV/EBIT 32.7x N/m
Borrow Cost: NA

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  • Broadcast TV
  • Italy

Description

Mediaset is the largest broadcaster in Italy.  Basically all free-to-air with a small failed pay-tv proposition, owned by prime minister Berlusconi (should I capitalize that?). While idea authors are fond of including a lot of detail, I'm going to focus on the key points that will render this company insolvent within 24 months, and leave the small, illogical, cash burning foreys outside Italy for q+a should readers deem it necessary. 
 
Mediaset earns almost all of its revenue from advertising (2.56/2.69 billion). It has rallied as the market has called a "bottom" in advertising spend, effectively using heavily shorted Mediaset as a vehicle for playing the advertising recovery theme in Italy. There are so many flaws with this horribly oversimplified logic that I'm unsure where to begin. But before I do, despite the fact that short interest is hovering close to all time lows, it is not objectively low per se, so I suggest looking into the one year forward puts or the 2 year OTC 30% out of the money that should not cost more than 20 cents (€) per contract. 
 
Okay, so without further ado, how do advertisers decide how to spend their money? The top 70 spenders on tv advertising in Italy (which account for almost the entire national market) readily confess in academic study "Influence For Sale" co-authored earlier this year by Stanford and Bocconi, that no pizza no party, in the sense that if Mediaset is looking out for them, they will allocate money to Mediaset. Second, if they are not in a quid-pro-quo industry, they simply go more or less in line with Auditel. Auditel is like Nielsen but controlled by Mediaset. One could imagine the extent if its corruption, but why imagine when it's in black and white? If you have a minute look at Discovery filings which declare 5.5% audience market share versus Auditel at 2.5%. Does it impact advertising spending? Absolutely. 
 
What does this mean? Well, being kicked out of private business, public office, having a senator launch a bribery suit against him yesterday, waiting for the very Berlusconi-hostile court of Milan to permanently ban him from politics any day now, probably means there will be a massive reallocation of wallet share to thematic channels. When Discovery benefits just a little bit from this redistribution, TV spenders will deal directly with them, by-passing the corrupt Auditel system. 
 
" What is the impact of conflict of interest, in the absence of precise rules? We consider the case of Italy, which does not require a prime minister to divest business holdings. Indeed, since 1994, Berlusconi has been three times prime minister while remaining in control of the major private television networks. Firms who want to curry favor may hence shifts their advertising from the public channels to the private ones, thus bene ting Berlusconi himself. We find evidence that such shift takes place when Berlusconi is in power, and signicantly more so for more companies in more regulated industries. As predicted by the model, the effect induces both a higher price for ads in Berlusconi's network when he is in power, as well as some evidence of a cross-sectional shift in companies spending. These findings highlight the possible distortions associated with conflict of interest in the absence of divesture rules.  "

It should be noted that the authors are in process of releasing an update, as Berlusconi's permanent political demise pre-dated the article by 3 months. 

"...we consider the extensive margin|an indi- cator for advertising at all on Mediaset| and obtain a similar pattern of results. In addition, we use both a contemporaneous measure of the presence of Berlusconi in government, as well as a forward-looking discounted expected future probability of his presence in government, to re ect the fact that the payback for an advertising may last for as long as the government is in power. We nd that the contemporaneous measure is more predictive of the shifts in transfers, suggesting a more short-term implicit exchange of favors. " (Inflence for Sale). 

So to paraphrase, in the last 15 years in which Berlusconi was in and out of power, advertising trends girated 10% toward and away for Mediaset and ad spend was 15% higher when in office then when out. But there was always a 9th life for Berlusconi, until now. 

I estimate using publicly available data that telecom, pharaceuticals, goverment sponsored spending and other "quid-pro-quo" spenders, as a percentage of advertising spenders, is north of 50% (auto, telco, pharma) and correlate .81 with requiring preferential treatment. 

Why the painfully long explanation? Because I'm about to suggest that not only will Mediaset lose half it's market share over the next quarters, but the residual will be priced 15% lower. 

This means 2.9 Bn becomes 1.2 billion in revenues. Not great. 

Before we look at the cost base, I'd Like to address the misconception that the television advertising market in Italy is structurally in decline. In fact, despite the fact that Mediaset has lost between one and two percentage points of market share a year, advertising spend as a percentage of total advertising spend in Italy has grown from 52% to 57% over the last five years.  Why is this, when there is so much attention, focus, and shift in advertising funds going to the online advertising market globally? Good question. In fact, Italy ranks number 88 in terms of download speed in the developed world. That's on a sunny day. Because Mr. Berlusconi never wanted competition, and prevented cable from being installed With his political positioning, we rely on rain sensitive microwave links to connect mobile towers to one another, and when they are wet, transmission becomes an absolute nightmare (that's my way of saying I have no idea what number we become in terms of developed world download speed, but it's not good.)

Conclusion: advertising is cyclical. But Italy is a special market in which there are winners and losers. Mediaset has demonstrated without political upheaval and market share distortion that it is a loser. So what happens now that the lack of influence of Mr. Berlusconi is like a snowball rolling downhill with god knows how many issues likely to pop out of the word works in the coming months.

So lets focus on costs and the impact on free cash flow. SG&A has been chopped a bit but I imagine much more can be done. Lets give them the benefit of the doubt and assume they can extract 30% for 800 per annum. 

Content costs. Well, these get capitalized, but we are focused on solvency, so lets investigate the major item just the same: football rights. This is a big item that will come into focus in a few months; SKY is burning cash in Italy (100mm) because it spends 900mm a year for football rights, while Mediaset spends just 300mm. Remarkably, sky subscribers pay €10 a month more than mediaset premium subscribers, and Sky nonetheless has more than double the football audience share notwithstanding the price differential. So lets take a guess and say that the 1.2 Bn collectively spent is divided equally (there was a percent population coverage argument tied to the analogue - digitsl switchover, that mediaset made last time to win it these reduced rights fees). So 600mm to carry football (entirely essential). 

Mediaset spends 600mm consistently on programming rights, none of any meaningful amount are not up for renegotiation until 2017. So 600 becomes 1.2 Bn of content costs. 

Lets assume interest expense is 6.5% on average as mediaset is using the bond markets to refinance. Roughly (140 per annum of interest). Capex has been cut in half so lets assume that is sustainable without harming the business (I don't believe it but you don't have to in order to arrive at the same conclusion). 

 

There doesn't appear to be anything material with regard to cash versus book taxes. 

Revenues: 1.2 Bn run rate

Costs: 1.2 (assuming continued head count chopping despite management having implemented the majority of its "aggressive" cost cutting plan. 

Content costs: 1.2 billion

Capex: 60mm / yr

Interest: 140 mm / yr

No taxes

Recurring free cash flow (1,200,000). 

So what next. I guess that if the share price craters there will be takeover speculation (Vivendi would like to manage Mediaset in a "proper way," not that they've proven themselves the best broadcasters in the world, but at 1€, not 3€. 

Will the banks bail them out?  No. The banks refuse to refinance their existing debt. 

There is one funny point that makes my next "how do we lose question basically answer itself):

There seems to be a well-substantiated and imminent placement of Berlusconi's Mediaset shares. Berlusconi is in desperate need of cash and will use this opportunistic boarding on unfathomable valuation to unload a significant portion of his shares held via Fininvest vehicle. 

Massively dilutive share issuance? I guess if he's a seller the market wont be very entusiastic. He has proven quite adept in the past at picking up shares opportunistically at (in hindsight) good prices. 

I'm out of options, ideas in terms of how to keep Mediaset alive. One could argue I'm off in terms of my 50% ax to sector specific ad spend. I invite you to do your own sensitivities obviously. 

Note: I have excluded restructuring costs, negative income from affiliates, etc. if they wanted to dump EI or Telecinco on the market (because they are actively shopping their assets without success) then after tax they could buy themselves another year. More I can't see. 

 

 



I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Massive reduction in ad revenues as a result of Berlusconi's swan dive in relevance to advertisers
Potential Fininvest placing
Structural decline in mediaset audience share offset by growth in thematic channels
Cost of debt doubling
Renegotiation of football rights materially higher
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