C+ shares currently trade at €4.05, which implies a P/E ratio (after subtracting net cash) of 8.1x, an FCF yield of 12.3%, a dividend yield of 6.7% and an EV/EBIT multiple of 5.3x.  I think the shares are worth above €8 when viewed & valued appropriately.  C+ shares actually traded above €8 as recently as Jan. 2008 and very little has actually changed since then (obviously I mean specific to C+ and its value) so even though this is double the current price I think it’s realistic.  Over the medium term (1 year plus) it is very possible that C+ will be acquired by its parent,which would make financial sense at a value at or above €8(the French law which was the reason for the company to exist has been modified, making an acquisition possible).

To avoid confusion between several similarly named corporate entities, the Canal Plus television channel will be called “Canal Plus”, the company whose common shares are being evaluated here (full name Societed'Edition de Canal Plus S.A.) will be called “C+”, C+’s parent company, Canal Plus France, will be called “C+ France” and that company’s parent, Canal Plus Group, will be called “C+ Group”.

The C+ common shares under consideration are 48.5% owned by C+ France and 51.5% is free float.  C+ France in turn is 80% owned by C+ Group and 20% owned by French media company Lagardere.  C+ Group is 100% owned by Vivendi so Vivendi owns 80% of C+ France.

In 2000, Vivendi was in the middle of its former CEO Jean-Marie Messier’s insane debt-fueled acquisition spree.  The company decided to acquire C+, which operates two businesses, mainly within France: a satellite pay television distribution business (like DirecTV) and a premium television channel distributed over its own satellites and by other pay TV distributors (like HBO).   This created a problem for Vivendi because a 1986 French law prohibited any single shareholder from owning more than 49% of a television channel which had a greater than 2.5% market share.  C+ had such a channel, and apparently Vivendi would count as a single shareholder despite the fact that it was in turn owned by many small minority shareholders.

So Mr Messier and his investment bankers devised a work-around to the regulation through a complex acquisition structure.  Vivendi would acquire 48.5% of C+’s shares and also purchase from the company all of its assets except for its television broadcast license.  The acquired C+ entity was left outstanding as a public company but was essentially a shell (no employees, no operations) whose only asset was its broadcast license.  Vivendi would “lease” the Canal Plusbroadcast license from C+ and its other shareholders who owned the remaining 51.5%.  Vivendi entered into a 50 year contract (from 2001-2050) to pay to C+ 3.3% of the channel’s subscription revenue as C+’s operating income.  This payment, which accounts for 100% of C+’s profits, is also subject to a minimum and maximum, which escalate at 2.5% annually.

The 2001 minimum and maximum were set at €47 million and €53 million.  Since at least 2004 the calculation based on 3.3% of C+’s subscription revenue has fallen below the minimum, so C+’s operating income payment has been the minimum amount, which after escalating at 2.5% annually since 2001 comes to €61.7 million in 2012.  C+ pays 35% of its operating income in taxes and the remaining 65% is its net income/free cash flow.  C+’s ARPU and subscriber base have been fairly flattish over the past few years (the business is mature) so C+ will likely receive the minimum payment (increasing by 2.5% each year) for the foreseeable future.C+ has 126.7 million shares outstanding.  C+ has been paying out around 85% of its net income in dividends so some cash has accumulated on the balance sheet.  C+ also has a net cash balance of €187MM or €1.47/share (following the recent payment of its €0.27/share annual dividend).  This is basically all the relevant financial information needed to model/project/value C+ shares.

At its recent price of €4.05/share and with 126.7 million shares, C+’s market cap is €513 million.  The 51.5% free float has a market value of €264 million and C+ shares trade ~100K shares daily or €405K (US$527K at 1.3 $/€) worth of volume.  After subtracting C+’s €187 million of net cash C+’s enterprise value is €326 million.  This enterprise value is 5.3x C+’s contractual minimum 2012 operating income of €61.7 million.  After paying 35% in taxes C+ is left with €40.1 million of 2012 net income/free cash flow or €0.32/share.  C+’s share price of €4.05, less net cash of €1.47/share, results in a P/E of 8.1x or FCF yield of 12.3%.  C+ has increased its annual dividend fairly steadily from €0.15 in 2001 to €0.27 in 2012 (just recently paid), maintaining a roughly 85% payout ratio.  This implies a 6.7% dividend yield.

I believe that this valuation is absurdly low.  C+ shares should be properly valued as a high quality investment grade bond, with the notable adjustments that the “coupon” increases by 2.5% annually and to be conservative I will assume that the bond “matures” in 2050 with no principal payment or residual value.  The valuation of C+ shares then becomes a simple discounted cash flow model with onlyreal variable being the appropriate discount rate.  I believe that C+ shares are very low risk as the contractual payment of €61.7 million is less than 10% of parent company C+ Group’s total operating income in 2011.  Additionally, Vivendi generated operating income of over €6 billion in 2011, so the C+ payment is very small to either entity.  Vivendi’s 10 year bonds, the company’s longest maturity, have a 4.75% coupon and trade near par. 

Although I’m not totally comfortable valuing C+ shares using a 4.75% discount rate (as interest rates are likely to rise), the resulting DCF value of the cash flows, starting with €40.1 million in 2012 and increasing by 2.5% annually through 2050, is €1.02 billion.  Adding in the €187 million of net cash and dividing by 126.7 million shares yields a value of €9.50/share.  With a 6% discount rate the value falls to €8/share and at 8% it is €6.50/share.  I’ll leave it to you to decide what’s appropriate but I’m comfortable with the 6% discount rate and in any event I think it’s clear that the current share price of €4.05 is way too low – using this methodology you’d need a 14.5% discount rate to get there.

I’m happy to collect my 6.7% dividend yield and wait for a revaluation of C+ shares.  But I also think there’s a reasonably good chance that C+ shares are acquired over the medium term.  In August 2008, France adjusted its “no shareholder can own more than 49% of a television channel with a 2.5% market share” by increasing the relevant market share to 8%.  Since the Canal Plus channel’s market share is estimated to fluctuate between 3-5%, it is no longer covered by this regulation andthe 51.5% public float of C+ can now be acquired.  Nothing has happened over the past 3 years due to an impasse between C+ France’s owners, Vivendi and Lagardere, but I believe this is likely to change.

To review the corporate structure, C+ is 49.5% owned by C+ France, which is 80% owned by Vivendi and 20% owned by Lagardere.  Lagardere has been trying to simplify its business and raise cash to repay debt over the past few years.  It has been trying to sell its 20% interest in C+ France for a while, either as an IPO or to Vivendi, but has not been happy with the available prices.  Lagardere has recently re-committed to sell its 20% interest one way or another in 2012.  Vivendi has had an active policy of purchasing its French minority interests but has not yet agreed with Lagardere on price.  Two weeks ago Bloomberg News reported that Vivendi will consider breaking itself up and will perhaps separate C+ Group from the rest of its businesses. 

I am not sure how all this plays out, but I think that within 1-2 years C+’s parent company C+ France will be 100% owned by someone, and that there is a pretty good chance that party will want to acquire the 51.5% public float of C+’s shares.  I believe that purchase will make economic sense at prices well above today’s €4.05 since at today’s price C+ is receiving a payment implying a 12.3% FCF yield.  At €8/share the implied FCF yield is close to 5% and I think an acquirer would still want to purchase C+ at that level to avoid the cash payment, simplify ownership and eliminate any duplicated costs/public listing costs and tax inefficiencies.  Vivendi can borrow short-term money at around 0.5% and long term below 5% so it has leeway to make a purchase at €8 that is EPS-enhancing.

I think that the major risk here is that Vivendi/C+’s future owner does something to screw C+ shareholders.  Vivendi currently essentially has control over C+.  It has been paying out dividends and increasing the dividend over time.  But it could cut or eliminate the dividend, buy the public float at a low price or otherwise try to screw C+ shareholders.  One mitigating factor is that C+ is very small relative to Vivendi, and any shenanigans would result in bad PR and Vivendi having a large number of angry French investors, banks and pension funds on its hands.