Description

I originally wrote an early bullish piece on SPHR in April 2023 which can be found here. I was attracted to the fact that SPHR had some special situation dynamics due to the upcoming spinoff from its ParentCo (MSGE), including potential selling pressure, as well as the sale of a non-core asset (Tao), and normalizing financials coming out of COVID. Although the venue’s unknown economics were a key risk, this is also what created the opportunity as it did not seem like investors were taking the time to fully map out the earnings potential of the asset. Most sell side valuations at the time valued Sphere at a discount to the build cost vs attempting any kind of FCF analysis. Since then a lot has clearly changed with SPHR receiving significant publicity in its first year of operations due to both its dazzling Exosphere and ability to transport its audience in a uniquely immersive experience. We have also received significant clarity on the venue’s FCF potential, which gets at the heart of this short thesis.

After having continued to track SPHR since I closed out my April 2023 trade recommendation in November 2023, my current view is that growth headwinds are around the corner for the LV Sphere, unless one is a true believer in an aggressive bull case. And since the venue is operating with a significant SG&A base (FY 2Q-4Q24 SG&A annualizes to $412mm), even a slight headwind to revenue could result in meaningful deleveraging and potentially negative AOI. 

In summary, justifying SPHR’s price today requires believing in a significant inflection in AOI in FY25. Although this is of course a possibility, there does not seem to be any margin of safety embedded in the stock as investors are paying for potential future growth today. The below walks through why I view SPHR as running into growth headwinds that could ultimately leave the venue close to breakeven and perhaps unprofitable in Year 2 of operations. 

• The Sphere Experience (TSE): 

  • Price was a significant driver for TSE through FY24 and although I do not believe price will need to be lowered, I believe this tailwind will not persist in FY25. When Sphere first opened, entry level tickets for Postcards from Earth were priced at $49. However, through the ~12 months since the venue opened, entry prices have increased from $49 to $69 to $79 and now the cheapest entry price is $94 on off days. On weekends, entry prices can be as high as $130. Although this is certainly a positive indicator of demand to experience the Sphere, the point is that this level of price growth benefiting results is highly unlikely to persist y/y. 

  • At the same time, this level of price growth (+91% from $49 to $94) is concerning when considering the fact that TSE per show revenues have declined for each quarter that the venue has been in full operations, as shown below. This implies that volumes have trended lower throughout FY24. Similarly, FY 2Q24 average revenue per show is so high that it is meaningfully skewing the last 9M average revenue per show. Since FY 2Q24 was the first quarter that Sphere was fully open, I believe the quarterly performance is likely to be an aberration driven by venue opening hype and unlikely to be repeated. 

• In my base case modeling, I assume an average revenue per show that is in-line with the average of 3Q and 4Q24 or ~$375k. I also assume that Sphere is able to host 875 Postcards from Earth (PFE) screenings annually which is equivalent to the annualized showcount for the 9M between 2Q-4Q24. Additionally, 875 shows implies 2.5 screenings per day which is quite reasonable considering the max shows per day is 3x. Between having to host concerts for potentially ~100 days of the year as well as other corporate events, 875 seems fair. Finally, I would also note that when I checked Ticketmaster back in May, Sphere had scheduled 308 screenings between October to December 2024 (i.e. FY 2Q25 when Sphere begins to lap strong opening quarter numbers) but a check as of this morning showed just 148 PFE screenings. This can partially be explained by the introduction of a second show called V-U2 (had not been announced in May 2024), which is a move that captures the 40 show run of U2’s performance last year. However, there are only 24 shows of V-U2 between October-December 2024, which brings the FY 2Q25 screenings to just 172, hardly making up the delta from my original check and well below any full quarter of screenings since the Sphere opened (191 in FY 2Q24). If we were to annualize this number it would suggest Sphere is run rating at just 782 shows. I am not sure what explains the drastic decrease in total screenings from 308 to 172 but perhaps SPHR is gearing up to launch a second experience, as rumors suggest a Wizard of Oz movie could be in the works. At the end of the day, however, Sphere only has 1 screen, which means that a new show has to cannibalize old shows, to some degree. And since it seems difficult to imagine how the venue could host more than 3 screenings a day or 1,095 screenings a year, this suggests that my 875 base case estimate projects ~80% of max utilization. 

• Per Sphere’s website, V-U2 ticket prices start at $72, which suggests that a mix shift towards V-U2 and away from PFE would potentially hurt the Company’s economics. Additionally, it's highly likely that there is some kind of revenue share agreement with U2 for tickets so profitability is probably also lower vs PFE. Finally, even for V-U2 screenings that are upcoming very soon, ticket sales per ticketmaster look quite low. For example, tickets for this Friday, October 3 at 7PM look like they are about 50% sold, same for Saturday, October 4 at 7PM. Tickets on Thursday at 4PM are at about 33% sold. Historically, PFE has seen a pick up in ticket sales as the show approaches, likely due to the fact that Sphere’s massive capacity essentially guarantees that anyone who wants to see PFE can do so. In other words, there’s no real need to buy ahead of time unless you want the best seats in the house. However, this trend does not seem to be holding true for V-U2. I will note that V-2 has very strong reviews, suggesting that SPHR potentially has an interesting LT content funnel opportunity between its Concerts business and TSE. Still, a great product or service does not guarantee great economics for the business, which I think is the case for SPHR at the current moment in time.  

• Concerts:

  • Based on box office data, U2’s 40 show run commanded an average ticket price of $369. This compares to average ticket pricing for other artists’ who have played at the Sphere thus far that is meaningfully lower (Phish at $204 and Dead & Company at $275. Data for the Eagles who are currently playing at the Sphere is not yet available). In other words, pricing for concerts is likely to normalize since U2 likely benefited from being in a small, elite category of artists who can charge such a high price as well as benefiting from the venue’s initial hype after opening. Even if you grant Sphere as being able to bring in at least 1 U2 level artist every year, it’s unlikely that pricing will continue to increase. Taking a weighted average of the pricing for the above concerts in FY24, gets to ~$322 average ticket for concerts and I model $300 in my base case. 

  • I estimate that Sphere hosted 77 concerts between the first U2 show and the subsequent 12 month period (i.e. 40 U2, 4 Phish, 30 Dead & Company, and 4 Eagles shows between 9/29/2023 - 9/29/2024). Admittedly, I see room for growth here as the Year 1 concert schedule was likely burdened by initial ramping pains for the venue. As such, in my base case modeling below, I increase the volume of shows by 21% to 93 in FY25. Although I don’t put too much emphasis on this, it’s interesting to note that Sphere currently has just 17 concerts scheduled for FY 2Q25 (12 Eagles + 5 Anyma) after hosting just 16 in FY 1Q25 (12 Dead & Co + 4 Eagles) which compares with 25 U2 shows in FY 2Q24, so the current run rate is actually lower than last year. Although additional shows could possibly be added for FY 2Q25, as has happened in the past, time is slowly running out to announce these shows with ample enough time for demand to follow through. Note that Anyma did announce 2 additional shows this morning, but that was for FY 3Q25, bringing the total number of announced concerts for that quarter to 7 (vs 15 shows in 3Q24). Finally, on the last earnings call Dolan did hint that a big name female act would be announced shortly suggesting that FY 3Q25 should see a nice 20-30 show boost soon. 

• 3P Events:

  • It’s hard to get color on venue fee pricing for 3Ps who want to host an event at Sphere. However, on the FY 4Q24 call Dolan noted that it only makes sense for the Company to host a 3P if they are willing to pay more than what SPHR would otherwise generate via PFE screenings. As noted above, SPHR is generating ~$375k+ per TSE show and hosts between 2-3 shows a day, suggesting a price tag of $750k-$1.125mm. For most corporates, this price tag is going to be way too high as this does not even include production costs for putting together some kind of show inside the venue. And if a 3P will not be charging for entry (e.g. HP’s corporate event earlier in the year), it will be even harder to justify the price tag. Similarly, UFC first estimated production costs for its recent fight at the Sphere to be about $8mm before they ratcheted up to $20mm+ vs $2-2.5mm for most UFC special events. Despite the fact that this was a record gate for UFC at $22mm the cost of hosting at the Sphere potentially resulted in no profits being generated from ticketing. Additionally, note that the $22mm gate was less than Dana White’s original expectations of $25-27mm. For 3Ps looking for a true ROI (as opposed to “advertising” by hosting and associating with the Sphere), the current costs are likely too prohibitive as hosting just one event does not generate enough leverage on the sizable upfront / fixed spend of production. This economic reality of the Sphere depends on leveraging production costs over multiple shows, suggesting that one off 3P events are unlikely to be a meaningful driver of growth in FY25. 

  • In my base case, I have SPHR hosting 5 3P events (up from 3 in the venue’s first year) and charging a venue license fee of $750k.

• Advertising:  
  • Sphere is currently at a $112mm annualized run rate for advertising (sponsorship, signage, Exosphere advertising) revenues, but this includes a week of advertising around the Super Bowl which was hosted in LV in February 2024 which will not repeat in FY25. In the Super Bowl quarter, SPHR generated $40mm in advertising revenues vs FY 2Q24 at $23.4mm and FY 4Q24 at $20.4mm. This suggests that the true advertising run rate is closer to ~$90-100mm, or potentially 10-16% lower than what the financials suggest. In my base case modeling, I project the current $112mm run rate for advertising revenues in FY25 even though Super Bowl week advertising will normalize, suggesting my numbers actually embed ~10%+ y/y growth. Overall, this seems like a reasonable growth rate as advertisers get more comfortable with the format (which now also includes audio) leading to more opportunities for higher pricing and increased volumes.

Model

• The above highlights 4 different cases (bear, base, bull and FY25 adjusted) with the main focus for this write up on FY25 adjusted numbers. As noted above, I view Year 1 performance for SPHR as potentially representing a near-term high in revenues as the Company has to lap the boost in sales received in Year 1 via venue opening hype. To give credit to where I could be wrong, I attempt to annualize SPHR’s 9M performance and then grow revenues by levels that I see as reasonable to estimate AOI for FY25. This is discussed below.  

• • TSE: Revenues increase 5%. In my mind, this would be due to Sphere succeeding in drawing in incremental visitors with new TSE screenings such as the rumored Wizard of Oz movie or the recently launched V-U2 movie. Since the pricing lever was pulled very significantly in FY24, I do not expect price tailwind to persist in FY25 and growth should be due to volumes. 

  • Concerts: As noted, SPHR’s current run rate for FY 2025 is just 68 shows, though I do expect this to increase as additional artists are booked. 15% growth in light of what I expect will be a reversion in average ticket pricing (from $322 over the last 9M) to potentially $300 or below, seems reasonable. Assuming pricing is flat, 15% growth implies show count increases from 76 in Year 1 to 87 in Year 2. If you annualize FY 1Q25 and what has been announced for FY2Q25 thus far, Sphere is annualizing at 66 shows for FY25. 

  • Advertising: I keep this constant at $112mm. If we normalize advertising revenue in the Super Bowl quarter of FY24 to get closer to FY 2Q24 and 4Q24 levels, Sphere’s current advertising run rate is closer to $90-100mm which suggests my FY25 numbers actually bake in 12-24% y/y growth.  

  • Margins: 

    • TSE: Margins are in-line with realized margins of 70.3% in each quarter of FY24

    • Concerts: Margins are slightly ahead of the 63% and 62% realized in FY 2Q and 4Q24 but below 75% of FY 3Q24. 3Q seems like an aberration and unlikely to repeat but should be kept track of. 

    • Advertising: In-line with 87-91% margins SPHR achieved through FY24.

  • SG&A: Although the actual annualized SG&A is $412mm, I give SPHR credit by annualizing the lowest quarter of FY24 during which the venue was fully opened (FY 2Q24)

Overall, I feel as if this FY25 adjusted model gives SPHR credit for growth while ignoring valid reasons why the venue will take a step back in Year 2, as it builds off of actual Year 1 annualized financials. This gets me to $87mm in adj. EBITDA (of which $49mm is SBC) and I apply a generous 20x multiple to this estimate. Note that, below, I also assume that MSGN gets written off as SPHR is in discussions with creditors around a workout for the debt, potentially handing over the keys to the asset to lenders. Most bulls believe this is a positive for SPHR’s equity so I try to give credit to that argument as well. Management has also noted that a cash contribution is likely needed as part of the workout, which I do not account for.

If SPHR ultimately trades at a lower multiple due to slower growth and debt load, then there is downside from today’s prices in multiple scenarios even with $87mm in AOI. For instance, although not perfect comps, LYV trades at 12x adj. EBITDA (though this may be due to a hangover on the stock from antitrust concerns) while MSGE which grows LSD trades at 14-15x. At these multiples (shown below), there is downside even if $87mm in AOI is achieved. 

Additionally, this does not take into account dilution from the ~$50mm in annual SBC (~2.7% of current market cap). Finally, to justify today’s stock price of ~$44 at a 20x multiple, SPHR will need to generate at least $82mm in AOI. However, due to the significant fixed cost base, even a modest reversion in sales could eat all of the profitability shown in the FY25 adjusted case (as shown in my base case with revenue declining ~9% vs FY24 annualized numbers). 

SPHR also has $27mm of interest expense tied to its $275mm term loan (9.8% interest rate). Although bulls argue that the current MSGN workout situation is a value enhancing move for SPHR equity, this is only true if SPHR lives up to their AOI projections. If not, MSGN’s cash flows, assuming the associated debt maturity could be extended, would have been extremely helpful if Sphere venue profitability falls short. Instead, in FY25 SPHR could be staring at a situation where it is not generating consistent profitability but is burdened with needing to pay expensive interest on its term loan with maturity in December 2027. Even if we assume AOI of $87mm, SPHR’s FCF net of the $27mm in interest suggests the stock is trading at 31x FCF today. Layer on capex of $100mm over the last 9M (FY 1Q24 $66mm, $19mm in FY 2Q24, and $14.5mm in FY 3Q24) and things look a lot uglier. Conservatively projecting just $10mm in maintenance capex on a go forward basis since FY 1Q24 might have included venue build capex, puts FCF closer to $50mm. This suggests SPHR is currently trading at 37x FCF on the FY25 AOI numbers presented above. 

Finally, I believe the main catalyst for this thesis will be the lapping of strong FY24 numbers, starting as soon as FY 2Q25. Again, since FY 2Q24 benefited from venue hype that translated to 1) outsized TSE per show revenue and 2) the strength of U2’s 40 run show, which has since not repeated, the market will be forced to accept a step down in Year 2 / FY2025 performance for the venue. With that step down, the reality of operating deleverage will also have to be addressed given the asset’s significant fixed cost base. The combination of even a modest decline in sales + a large fixed cost base + meaningful interest expense could have a devastating impact on profitability that results in a sharp rerating lower for the stock. In short, I believe SPHR is already priced for a bull case scenario, leaving little margin of safety. Even a small deviation from this rosy forecast leaves SPHR looking very expensive with potential for profitability concerns. 

Risks

One variable that could change this math meaningfully is the announcement of a second Sphere. On optics alone this could drive Sphere’s stock higher given the high margin nature for this potential new revenue stream. However, after SPHR takes its cut of revenues / gross margins it’s unclear how a second venue that costs $1.5bn-$2.0bn+ (LV Sphere cost $2.3bn but Dolan believes a new venue would be cheaper to construct) would be able to turn a profit. In my view, the original venue is already having a hard time becoming profitable and if you layer on a minimum 10%+ franchise fee, the numbers simply don’t work and a second Sphere would have to be uneconomical for the builder. In my view only an Abu Dhabi, Dubai, etc. that has interests that supersede profits would build a second Sphere. Additionally, a second Sphere would take at least 2-3+ years to build, so SPHR’s economics are unlikely to change in the near term even if this news were announced. As such, the main catalyst around lapping strong / (near-term) peak FY24 numbers would still stand. 

Another variable that could change this analysis is if Dolan were to get smart on costs and cut SG&A meaningfully. This would likely require cutting the current spend on initiatives like securing a second Sphere or a second / third TSE experience, which also means that growth would slow. So although SPHR may get profitable very quickly, growth would take a hit. I also find this outcome to be unlikely in the near term as I do not think Dolan would give up on his pet project this quickly. For Dolan to come to the realization that Sphere is not going to be a growth asset will require significantly more pain than what is currently being felt, which is essentially nothing. Only if SPHR is unprofitable / breakeven and the stock is in the gutter do I think that Dolan changes his mind on SG&A. 

Finally, should SPHR announce a large naming rights deal, it's likely this would represent very high margin incremental revenues that could meaningfully improve profitability. In the past, Dolan has suggested that they would only consider a naming rights deal if the price tag were very high (likely needs to be $30mm+ annually, similar to top tier deals for sports arenas). In my view, Dolan only considers this if the revenues / cash flows are needed for the venue to turn a consistent profit as he has chosen to forgo an equivalent naming rights deals at Madison Square Garden.  

Catalyst

- Lapping of financials that show weakness in y/y performance, starting as soon as FY 1Q25 but more likely in FY 2Q25

- Lack of announced concerts for remainder of FY25 that are currently runrating below LTM period

- Spend on new Sphere experiences represent maintenance vs growth investments, resulting in no operating leverage