Description

News Corp Thesis Overview

• Licensing payments from Google and Facebook could add $90m in EBITDA to Dow Jones and News Publishing. The payments have not been incorporated into consensus estimates and are not reflected in News Corp’s valuation.

• Substantially undervalued on a SOTP basis. Backing out New Corp’s 61% stake in REA Group, the News Corp stub trades at $13.50 per share, $8 Bn, or an implied 7.1x EBITDA. Dow Jones alone is worth $15 p.s., $8.6 Bn in-line with NYT. The other $600m of EBITDA from News Corp’s other assets has a negative implied value.

• The Risk & Compliance business within Dow Jones is an underappreciated business with a growing software component..

• The company may pursue additional paths to simplify the corporate structure and unlock value.

• Sellside valuation frameworks are overly punitive and heavily discount the multiple for Dow Jones. This will change in the coming months as licensing payments force estimates and price targets higher.

• Worth $36 (45%+) today and over $50 (100%+) over 2-3 years (note: returns to NWS Class B Shares)

The News Corp SOTP Valuation and a Sample of Conservative Sellside Estimates

Summary

News Corp. is an attractive investment opportunity over the next three months as the company’s news publishing businesses receive licensing payments from Google and Facebook, as well as over the next three years as the company unlocks value by simplifying the corporate structure. The company’s fundamental performance has improved recently (the New York Post turned a profit for the first time) and investors and the sellside have not fully factored in the improved outlook and high margin licensing payments. In addition to the strong earnings trajectory, there is a chance the company sells Foxtel or other non-core assets which should drive a substantial revaluation.

The Risk & Compliance (“R&C”) business within Dow Jones is underappreciated by most investors. Governance, Risk management and Compliance (“GRC”) software is a rapidly growing sector that is attracting rich private market valuations: Diligent acquired Galvanize for $1 Bn recently at an estimated 12.7x revenue (http://bit.ly/30mZIZQ). Dow Jones’ R&C business has a large, unique dataset that is beginning to run through software APIs that power other GRC software companies’ risk monitoring systems. The new model will increase recurring revenue and should drive growth and margins higher (currently growing over 20% y/y). If not valued separately, R&C’s presence within Dow Jones helps justify using a 20x EBITDA multiple to value the business, in-line with The New York Times.

News Corp has historically lacked the shareholder orientation of other small conglomerates and recent acquisitions indicate the company will continue acquiring to build its core verticals, but there are indications that the company could take steps to unlock value through the sale or spin-off of assets. News Corp sold the News America division last year, demonstrating a newfound willingness to shed legacy assets, and Robert Thomson’s comments suggest the company will take action to narrow the implied valuation discount.

Robert Thomson, CEO, Morgan Stanley Conference (03/04/21)

“The narrative around Foxtel has changed so fundamentally in the past 12 months, and we were being asked, when are you next going to have to pull money into Foxtel. And we don't get asked those questions anymore, simply because the second quarter EBITDA was up 77%. The cost discipline, the promise reset on sports rights, the growth of 92% in streaming customers, as I mentioned, and what is the confluence of those very positive trends means?  Well, it gives you optionality. And that's what we now have at Foxtel, and it's a tribute to the team in Australia.”

Robert Thomson, CEO, Goldman Conference (09/17/20)

“We obviously believe the full value of our Digital Real Estate properties is not reflected in our share price. It's just -- it doesn't take much effort to do that math when you look at the value of our holding in REA. So, we've been clearly actively looking at maximizing the value of those holdings for our investors… And so, I would just like to reassure all on the call that we are actively working towards ensuring that the full value of the company and its real estate holdings is recognized by and for our shareholders… But you can no doubt hear from what I've said that it's something that we're not just thinking about, that we're acting upon, and we've taken whatever preliminary steps are necessary. But we're -- at heart, we are very conscious of that value gap because there's so much value in the company that's not at this stage reflected in the share price.”

Annual payments from Google and Facebook could exceed $90m annually with potential for additional payments from other digital platforms

On February 24th, the Australian government passed into law the News Media Bargaining Code which requires big tech platforms, namely Google and Facebook, to pay news publishers for use of their original content. In advance of the law’s implementation, Google reached agreements to pay news publishers to feature free and paywalled articles on Google’s News Showcase platform. Facebook took another route and restricted Australian publishers from sharing or viewing news content.

Facebook’s actions caused immediate outrage among consumers, politicians, free speech advocates and regulators around the world (it did not help that Facebook blocked access to charities and COVID-19 vaccination support groups in the process).  The negative consumer response in Australia provided greater political conviction to enforce the law and incited condemnation from other countries: Canadian politicians condemned the action and accelerated plans to pass laws similar to the News Media Bargaining Code. A few days later, Facebook reversed its ban on news and in mid-March Facebook reached a licensing agreement with News Corp.

The financial details of the agreements were not disclosed, but numerous news sources leaked estimates that suggest the Google and Facebook payments could be $60m-$90m and $30m-$40m, respectively. The ~$90m+ payment streams will begin to impact News Corp’s results in the June-2021 quarter, and the full payments will be realized in 2022. The payments will have very high contribution margins (90%) because the agreements do not require much additional operating expense on behalf of the publishers. As a result, Dow Jones’ LTM EBITDA of $292m could increase to over $400m over the next 18 months. Consensus estimates do not incorporate the new earnings streams which should help analysts justify higher valuation multiples for Dow Jones given the long-term, high margin nature of the payments.

The deals will also drive a larger audience to News Corp’s websites. When consumers click through an article from Google’s News Showcase, they are taken to the publisher’s website which drives higher traffic, higher advertising revenue, and more subscriptions. It is a win-win arrangement for the publishers and is not fully reflected in the stock price which is only up modestly from early February after the company reported strong earnings and before the deals were announced.

Dow Jones should be valued in-line with The New York Times

Dow Jones and NYT are undergoing similar print-to-digital transitions. Increasing the mix of digital subscribers drives higher revenue retention and improving margins as the companies cut expensive printing and distribution costs. Digital subs are growing faster at the NYT than at Dow Jones—52% vs. 29% y/y, respectively, in QE Dec-20—but the NYT is further along in the digital sub transition with 89% of total subscriptions from digital subs while Dow Jones has a lower 76% mix of digital subs. Both companies still have attractive runways of digital growth.

Margin expansion due to the digital transition is more evident in Dow Jones’ financials: EBITDA margins have expanded form 12.9% in 2018 (Jun-YE) to 14.8% in 2020 (Jun-YE) whereas the NYT’s EBITDA margins have declined from 15.7% to 13.9% over a similar period. Granted, NYT may have invested more aggressively to pursue digital growth, which has been higher, but there may also be greater operating efficiency in the Dow Jones model due to its more targeted content and the higher income demographic of its readership. Again, both companies stand to benefit from expanding margins in the years ahead.

Dow Jones has an advantage over NYT through its Risk & Compliance business. R&C provides research tools, data and services that allow users to screen board members, executives, investors, clients, and business partners for potential connections to criminal activity, trade and sanctions violations, adverse media coverage and a slew of other improprieties. Recently, the company developed a suite of APIs that provide data to power the risk management engines of other risk management software providers (see examples below). Dow Jones is uniquely positioned to offer this data through its growing Factiva database (over 1m news articles from 33K sources daily) and the broader data collection of the Dow Jones news network. The quality and depth of data will grow over time, widening Dow Jones’ competitive advantage. As regulation becomes increasingly complex and enforcement actions increase, demand for R&C products will grow, both among direct customer relationships and indirectly through R&C’s partners’ products.

R&C is generating ~$200m of run-rate revenue and is growing in the low 20% range. The business does not warrant the same valuation as richly valued GRC software companies (10x+ revenue), but the subsegment is undervalued within Dow Jones. As R&C becomes increasingly software-based, growth and margins should improve. Ultimately, the subsegment may be worth 30% of the value of Dow Jones ($2-$3 p.s., $1-$2 Bn) within an ex-REA stub worth $13.50 p.s. ($8 Bn).

• Dow Jones Risk & Compliance Partners: https://professional.dowjones.com/risk/risk-compliance-partners/

• Ripjar: https://www.ripjar.com/ripjar-financial-crime-launch/ 

“We’ve taken a very different approach compared to traditional search tools” Jeremy Annis said at the event. “We take as much data as we can from world class providers like Dow Jones. We then use machine-learning to spot risk, de-duplicate documents and news articles, and join the dots between all data in any language or script – we’ve taught our algorithms to read the news like a human would”

• RiskScreen: https://www.riskscreen.com/data/dowjones/ 

“Dow Jones and RiskScreen: Using Dow Jones data for effective customer screening. The RiskScreen engine relies on best-of-breed data partners to ensure your screening is as effective as possible. Dow Jones began producing business-critical data back in 1882. More recently, its Risk & Compliance team has focused helping clients to better understand, mitigate and avoid regulatory, commercial and reputational risk – and at RiskScreen we’ve been proud to offer Dow Jones data to our screening users for many years.”

• The growing set of APIs and developer tools: “Build intelligent applications using Dow Jones datasets, APIs and feeds.”

• The Dow Jones Developer Platform: https://developer.dowjones.com/site/global/home/index.gsp 

• Developer Platform Developer Documentation: https://developer.dowjones.com/apis-feeds/

UBS TMT Conference (12/10/19) – Michael Florin, Head of IR

“The Risk and Compliance business is an area that, I think in fiscal '19, revenues exceeded $130 million. When we separated, it may have been $20 million or $30 million. That is a very big focus. And I guess -- I look at the marketplace for Risk and Compliance, I think globally, that's a $60-plus billion market in the next -- over the next couple of years. So, it's a huge TAM and one that we are a player in. And so, I think when we stack up versus the New York Times, a, we have a very big institutional presence that they don't and none of our peers do. So, it very much differentiates us…On digital for us, digital is over 40% of -- digital advertising at Dow Jones is over 40% of total advertising. And importantly, from a profit contribution standpoint, we've been improving our profitability. And so, it is -- I think we have a different strategy than New York Times.”

Other segments are showing improving fundamentals. REA could benefit meaningfully from changes in the Australian Stamp Duty

Many investors hedge out News Corp’s REA Group exposure and, therefore, pay less attention to the fundamental merit of the richly valued business. However, REA is a compelling business as the dominant leader in a duopolistic Australian online real estate market. With low interest rates, ample bank liquidity and easy comparisons against large COVID-driven declines in 2020, REA is well positioned to realize accelerating growth in the year ahead. Furthermore, the company continues to add new features that draw sellers to its platform and increase the monetization of sellers and their agents. In December, the company launched a property owner dashboard that allows owners to better track selling, renting, renovating, and financing options; and in the coming months REA will launch more tools to help agents win customers, deliver market insights and close transactions. REA is also adding features to its rental platform that will accelerate the tenant application process which should contribute to growth in the years ahead. This is a dominant market leader with a runway of compelling growth opportunities.

REA also stands to benefit from an underappreciated potential catalyst: changes to the Stamp Duty. In Australia, residential real estate transactions incur a ~5% tax paid by the buyer upon completion of a transaction. For the average home in Sydney, in the A$1m range, this amounts to a A$50,000 increase in the cost to buy a home (generally included in the financing package for home buyers). The tax has long been viewed as a barrier to housing turnover which is very low relative to turnover in the United States and New Zealand. Last year, the New South Wales government began a formal review to replace the Stamp Duty with a land tax and is in the process of gathering feedback from the public and industry participants. Early proposals for the land tax would dramatically reduce the upfront cost of buying a home from A$40K-A$60K to a A$2.4K annual tax for the average property in Sydney. Under the envisioned land tax, new home buyers would have the option to pay either the Stamp Duty or the property tax so it would have an immediate impact on property affordability. A reasonably conservative 5% increase in listing volumes due to the tax change could drive 10%-15% earnings growth at REA.

The center-right NSW Nationals party recently lost its majority in Parliament due to the suspension of MP Michael Johnsen. Lacking a majority makes passing the new tax scheme slightly more difficult, but the initiative still has high odds of passing if legislation is brought to a vote.

Beyond REA, News Corp’s other segments are showing signs of improvement. Foxtel has developed compelling streaming video services with its Kayo and Binge offerings. Simplistically, Kayo caters to consumers that want a sports package, but not pop and lifestyle channels; and Binge caters to consumers that want pop and lifestyle channels without paying for sports. A consumer can buy the Foxtel Now package for access to the full bundle. Consumer demand for the products has driven rapid growth and adoption: Kayo subs grew 74% y/y in the December quarter and Binge subs grew from zero to 468K over the last year. Foxtel paid subscribers are growing again and, relative to global streaming peers, the business is significantly undervalued. Applying the valuation metrics of other streaming services to Kayo and Binge implies the new streaming services alone could be worth over $1.5 Bn, which is approximately where most analysts value all of Foxtel. Foxtel may also have additional sports betting opportunities, which has been an area of focus for the Murdoch family. 

Throughout 2020, management drove improvements throughout News Corp’s smaller businesses as well: the New York Post became profitable; margins in the News Media segment improved as News Corp realized the dual benefits of cost reductions and growth in higher margin digital advertising; and Harper Collins publishing posted a record high 19.1% EBITDA margin on 23.1% y/y growth in the latest quarter. These improvements followed the sale of the News America Marketing division earlier in 2020 (a secularly declining circulars and online couponing business that had long been viewed negatively by investors) and increasing management commentary about closing the implied valuation discount between Dow Jones and The New York Times. All of this suggests New Corp’s management has a new directive to clean up the business and close the valuation discount.

It is possible the company will pursue additional measures to restructure the business. Selling Foxtel would be a logical next step that would significantly increase the company’s growth profile and simplify the capital structure by removing $958m of Foxtel debt from the consolidated balance sheet (it is rumored that SPACs have offered to acquire Foxtel from the company). Recently, Rupert Murdoch indicated his view on the undervaluation of News Corp by buying $25m of stock at $25.23.

Valuation

On a SOTP basis, News Corp is worth $36.50 on 2022P EBITDA (50% upside to NWS). The company trades at a 5% FCF yield and should grow earnings in the 8%-12% range so value should accrue at 15% annually, leading to a $35-$38 price over the next 18 months.

Downside from REA: Inverting the stub framework and assuming Dow Jones, Harper Collins and the non-REA assets are worth $24 p.s., implies the REA stake is worth ~$2 Bn value or US$25 per REA share versus the current price of US$122 (without tax adjusting the stake’s value). There is cushion on the downside if REA’s shares do fall, although I expect them to perform well in the quarters ahead.

Haircutting REA’s value by 20%, lowering Move’s multiple to 20x EBITDA, and Dow Jones’ multiple to 15x EBITDA still drives a $30 price (+23% on NWS). The multiples for Move and REA need to contract to the teens and Dow Jones needs to be valued at 10x to drive the price to the low $20s (down 15%) which seems overly punitive and implies valuation levels at which REA rarely trades. The risk-reward is compelling from here.

Risks

No catalyst to drive a revaluation: the risk with cheap SOTP investments is that the company never takes the steps necessary to force a revaluation. News Corp has noted recently that the News Media, Dow Jones, and real estate businesses are synergistic, and the company is in the process of building out additional shared services globally. This suggests a separation of one of the high value segments is not imminent. The conglomerate discount may remain for longer than expected. Management excludes Foxtel in its discussion of synergistic segments so it is possible the business could be decoupled to unlock value.

Empire building through M&A: News Corp and REA are acquisitive, and the companies may pursue dilutive or value destructive acquisitions. Some of the real estate acquisitions in APAC markets have had mixed success; the verdict is still out on Elara in India. 

On the other hand, News Corp recently announced two acquisitions that should perform well over a multi-year timeframe: the acquisition of Investor’s Business Daily for $275m and Houghton Mifflin Publishing for $349m (13x LTM EBITDA, 7x synergized EBITDA). IBD is digitally focused, appeals to a younger consumer, and is likely to have easily achievable monetization opportunities under the leadership of the WSJ team. The acquisition of HMH Books & Media brings global publishing rights for the J.R.R. Tolkien books (Lord of the Rings, The Hobbit) under the same ownership (HMH owns US/Canadian rights and Houghton Mifflin owns Europe/ROW). With the upcoming release of the Amazon Hobbit series, the Tolkien books will see a significant increase in demand and earnings of the combined Houghton Mifflin-HMH will likely rise significantly.

Housing cycle, inflation, and interest rates: REA and Move are sensitive to housing trends so rising interest rates that slow housing demand could negatively impact results. The combination of lower earnings and a lower multiple on the real estate businesses could cause the stock to languish despite ongoing strength at Dow Jones. In the near and intermediate term, the real estate businesses have attractive upside from sustained housing demand in a low-rate environment with shifting consumer preferences for suburban housing.

Exhibit: Segment Overview

Exhibit: Financial Summary

Notes

• 2022P assumes moderation in margins in the Book Publishing, Move and Foxtel businesses with the elimination of moderate COVID-related margin benefits.

• Assumes higher projected corporate cost per the company’s guidance.

• Excludes impact of the IBD and HMH acquisitions (until more details are disclosed).

Exhibit: Sum-of-the-Parts Valuation

Catalyst

• Google and Facebook licensing payments drive earnings above expectations.
• Revaluation of Dow Jones, particularly considering the “hidden growth” Risk & Compliance business.
• Sale or spin-off of assets.