Description

Spanish Broadcasting System, Inc.

NASDAQ: SBSA

 

SUMMARY:

 

• Dominant radio presence in the top Hispanic markets in the U.S. with 20 stations
• Hispanics are the fastest growing demographic in the U.S., and Hispanic radio is the fastest growing segment in traditional media
• Stock has significantly underperformed and is currently at all-time lows
• Over 35% of the market cap in cash
• FCC licenses with a  book value almost 70% higher than the company’s current total enterprise value
• 2008 elections and Immigration Bill coverage could greatly increase advertising revenue, especially in predominantly Democratic Hispanic markets
• Stock is currently trading at 0.5x book value, with an enterprise value of $450 million (the company sold 2 radio stations for $120 mm in 2006)
• Radio is a defensible business with good cash flows and minimal cap ex requirements
• Fast growing television business and web presence
• Potential LBO/MBO or asset sale, especially given the recent $20 billion Bain Capital and T.H. Lee buyout of Clear Channel Communications

 

Background:

 

Hispanic radio is the hidden gem within a generally slowing radio industry and appears to be here to stay, with a growing listener base and a strong demographic tailwind.  Spanish Broadcasting System, Inc. (“SBSA” or “the company”) is the largest publicly–traded Hispanic-controlled media and entertainment company in the United States, operating 20 radio stations, a television operation in South Florida, and a popular entertainment website.  The company was founded in 1983 and is headquartered in Coconut grove, FL.

 

SBSA went public in October 1999 at nearly $30/share, and the stock is currently at all-time lows near $2.50/share.

 

Hispanics:

 

According to U.S. Census Bureau stats, Hispanics represent the largest minority group in the United States, with approximately 43 million residents (14% of the population).  Further, they are the fastest growing group of all demographics and are a younger population, which is especially attractive to advertisers.  The Hispanic population has grown over 23% since 2000 through the end of 2006.

 

The U.S. Hispanic population represented estimated buying power of $798 billion in 2006, and Hispanic buying power is growing at nearly twice the annual growth rate of non-Hispanic buying power.  Hispanic buying power is expected to increase to $1.28 trillion by 2011, making this a very attractive demographic for advertisers.  Advertising spending on Spanish-language media was $5.6 B in 2006.

 

The Hispanic population is also younger than the average consumer market, with an estimated one-third of the population under the age of 18 and a median age of 26.  SBSA can utilize their growing web presence and branded music events to capture this younger audience.

 

Radio Stations:

 

Spanish Broadcasting’s radio stations are some of the most popular in the U.S., with several boasting market-leading listenership.  SBSA’s radio stations are located in six of the top ten Hispanic markets (including New York, Los Angeles, Miami, Chicago, San Francisco, and Puerto Rico) and reach approximately 51% of the U.S. Hispanic population. 

 

SBSA operates 4 out of the top 7 most listened to Spanish-language stations in the U.S. according to the spring 2007 Ratings Report from Arbitron Ratings Company.  They also operate the #1 Spanish radio station in the U.S. (WSKQ-FM in New York City) as well as the top-rated Tropical, Spanish Adult Contemporary, and Hurban formatted stations.  The Los Angeles and New York markets have the largest and second largest Hispanic populations and are also the largest and second largest radio markets in the U.S. in terms of advertising revenue. 

 

The company’s flagship station is WSKQ-FM (“Mega 97.9”) in New York City.  The station attracts more listeners than any other Spanish radio station in the U.S. and is the overall top-ranked radio station in New York per Arbitron.  WPAT-FM (“93.1 Amor”) is the most listened to Romantica or Spanish AC in America, attracting over 1.1 mm listeners.

 

The radio business has very high EBITDA margins and low cap ex requirements. Revenues are driven primarily from advertising spending on local radio stations.  It is a defensible business with a natural monopoly as new entrants are limited and radio station licenses and program formats are governed by the FCC.  Hispanic radio is one of the few bright spots in radio and has actually shown solid growth over the past several years.  SBSA has increased their Revenue/Share in each of the last fiscal years since 2001.

 

The number of Hispanic radio stations has increased to 730 now, the highest ever.  This number is up 24% since 2002, indicating the growing demand for Hispanic radio programming.  Time Spent Listening (TSL) also increased for Hispanic listeners over the past several years, while it has fallen for radio in general.  According to recent Arbitron comments, “radio remains a vibrant and relevant part of Hispanic Americans’ lives.”  Further, they comment that “undoubtedly radio’s true success story in recent years is the growth of Spanish-language radio.”

 

Radio stations have powerful influences in Hispanic communities, especially to share immigration information.  This brings loyalty to stations and personalities, increasing the attractiveness to advertisers.

 

On January 31, 2006, SBSA completed the sale of two of its radio stations (KZAB-FM and KZBA-FM) to Styles Media Group, LLC for a cash purchase price of $120 million.  The sale resulted in a pre-tax, net of disposal costs, gain on assets of $50.8 mm during the fiscal year ended December 31, 2006.  $101 million of the proceeds were used to repay in full and terminate an outstanding Second Lien Credit Facility.

 

If similar prices were obtained for the remaining radio stations, SBSA would recognize $1.2 billion in proceeds, more than 2.5 times the existing EV (assigning no value to the television operation).

 

SBSA has positioned their station programming to match the listening preferences of each local market.  Using local management teams and personalities, SBSA is able to provide better and more relevant content within a listening area.  This is particularly important in Hispanic radio, and large national broadcasters have had less success with a “blanket” program as listening preferences within the Hispanic markets varies greatly.  Advertisers are much more likely to target Hispanic-owned broadcasters to ensure product credibility and to avoid the risk of offending listeners.  Advertisers will also likely seek the growing youth population to take advantage of second and “plus” generation Hispanics, a group that the larger, more traditional broadcasters Telemundo and Univision may miss.

 

Television Stations:

 

On March 1, 2006, SBSA’s wholly-owned subsidiary Mega Media Holdings completed the acquisition of television assets including the operation of television stations WSBS-TV (channel 22) in Key West, FL, its derivative digital television station WSBS-DT (channel 3) in Key West, and WSBS-CA (channel 50) in Miami.  The stations are operating as one television station operation branded as “MEGA TV” serving the South Florida market.  Mega Media paid $37.6 million for this operation.

 

Further masking SBSA’s economics, the television unit recorded an operating loss of $20.4 million in 2006 and is projected to lose up to an additional $15 million in 2007.

 

The company’s TV stations reach approximately 1.5 million households in the South Florida market.   The company also recently signed up for an exclusive satellite broadcast deal with DirecTV to broadcast MEGA TV nationwide on DirecTV MAS.  SBSA’s TV business has shown rapid growth in its brief history, and MEGA TV is the fastest growing station in the history of the South Florida TV market.  The company is likely to look to purchase additional TV assets in the future if this venture proves profitable.

 

Online Operations:

 

The company’s LaMusica.com web site is the number three Spanish language media and entertainment website and provides content on Latin music, entertainment, news, and culture.  This online presence could be used going forward for paid ringtones, iTunes downloads, user generated video and pictures, etc.  According to radio-locator.com, SBSA’s KXOL 96.3 FM in LA is the #1 most visited website of Spanish radio stations.

 

2008 Presidential Elections:

 

The 2008 Presidential elections should be a huge win for radio and television with billions in advertising dollars ($1.6 billion was spent on election advertising in 2006 and $900 million in 2004 on television alone).  There are significantly more candidates running in this election, and the Democrats are making a push to take over both the presidency and Congress.  Nielsen Monitor-Plus data reported that presidential candidates had already run more than 1,000 radio ads through the end of May 2007.  However, the real spending effort likely won’t gear up until early 2008.

 

With prominent Hispanic radio stations in Los Angeles, San Francisco, New York City, Chicago, and South Florida, SBSA should be well positioned to take advantage of increased election spending.  Democrats in particular will be fighting to win over Hispanic voters, and roughly two-thirds of Hispanic residents live in states holding Democratic primaries or caucuses on or before February 5.  In the last presidential election, Hispanic voters accounted for a significant part of the Democrat primary electorate in California (16%), New York (11%), and Florida (9%), all markets in which SBSA has a strong radio presence.

 

In addition to candidate advertising, the Supreme Court recently voted to allow special interest groups like MoveOn.org the ability to run radio ads right up until the time of primaries and general elections.  These groups generally consist of corporations, special interest groups, and unions and will produce additional advertising revenue. 

 

Growth:

 

The company has the potential to significantly expand its radio and television reach in Hispanic markets and create a more diversified player in media and entertainment.  For example, Que Pasa Media has complemented its radio stations with local newspapers. 

 

If you look at the markets in which SBSA has a radio presence and assume that Hispanic advertising revenue share converges to the percentage of the overall population, SBSA has revenue potential in radio alone of $372 million (vs. $177 mm ttm) assuming a conservative 30% market share of Hispanic radio.

 

                     Total Radio Revenue   % Hispanic   Potential Size   SBSA Share    SBSA Sales Potential

The stock has been significantly beaten down and currently trades at all-time lows and a small fraction of its 1999 IPO price.  Analysts and investors are negative on radio in general as it is not viewed as a growth industry.  There is also negativity in the market about buyout/LBO risks, something that will eventually subside.  At approximately $2.70/share, the stock is currently trading at all-time lows for metrics like Price/Sales, Price/Book, and Price/Cash Flow. 

 

The stock has fallen 45% in the past year, despite an improving capital structure, the addition of the television segment, continued growth in Hispanic purchasing power, and the upcoming presidential elections.

 

The stock is also most likely cheap due to the previous failure to satisfy a continued listing rule for the NASDAQ.  On April 5, 2007, the company was alerted of its failure to comply with NASD Rule 4350(d)(2)(A) pertaining to audit committee requirements.  One of the company’s directors, Dan Mason, voluntarily resigned form the Board of Directors after joining a broadcasting company which would require a substantial devotion of his time.  However, the company recently regained compliance with a new independent addition to the Board’s audit committee yet the stock did not move.

 

Valuation can be analyzed using a sum-of-the-parts methodology to value SBSA’s underlying radio stations.

• Border Media Partners of Houston, TX, the largest privately-held Hispanic radio company in the U.S., paid $45 million for two CBS stations in San Antonio, TX.
• SBSA sold 2 of its radio stations in 2006 for $120 million.  The current enterprise value assumes a per-station price of about 1/3 of this for the remaining 20 stations (and no value for the TV operation).

However, significant upside in this stock exists in a buyout situation.  Feedback from radio operator Clear Channel indicates that radio station transactions are taking place at valuations up to 18x cash flows, putting a deal for all of SBSA at $10.98/share based on 2006’s $.61/share of cash flow.

 

Clear Channel recently received a $39.20/share buyout from Bain Capital Partners and Thomas H. Lee Partners in September, the largest ever radio industry private equity buyout, worth almost $20 billion.

 

LBO SCENARIO:

 

Share Price: $2.50 * 20% premium = $3.00/share

Shares Outstanding: 72.4 million less insider control (32.1 million) = 40.3 million net shares acquired

Capital Required: $120.9 million

Gross Debt $342.2 million + Preferred Stock $89.9 million less Cash ($62.9 million) = Net Debt $369.2 million

EBITDA (ttm) $40.3 million = 9.2x leverage

Pro Forma Net Debt: $490.1 million; Pro Forma Leverage 12.2x

 

Assets:

 

The company has $943 mm book value of assets ($865 mm radio, $59 mm TV, $19 mm corporate), compared to an EV of about $450 mm.  The Company also has $61.3 mm of domestic and foreign net operating loss carry forwards as of December 2006.  SBSA has $63 mm in cash and $104 mm of current assets (as of 6/30/07), equal to 38% of its current market cap in cash.

 

Additional physical assets include owned office space in New York, Los Angeles, Miami, and Puerto Rico, transmitter sites for five stations in Puerto Rico and a tower site in Signal Hill, CA where the company leases space to a public broadcast station and other telecom providers.

 

Both radio and TV are defensible businesses with a limited amount of FCC granted licenses available in each market per the Communications Act.  The value of the company’s FCC licenses alone is $750 million, or almost 70% more than the current enterprise value.  The vast majority of SBSA’s licenses will not expire until 2012 – 2013.

 

Capital Structure:

 

The Company originally IPOd in October 1999 with a market capitalization of just over $438 mm (21,787,400 shares @ $20/share by Lehman Brothers) – the stock traded up from a low of $25.25 to $42/share in 1999 and has been in a steady decline ever since.

 

Management is experienced in Hispanic Radio, with CEO Raul Alarcon, Jr. serving the company since 1983.  His father, Pablo Raul Alarcon, Sr. is the company’s founder and remains a director.  He has been involved in Spanish-language radio since the early 1950’s when he established his first radio station in Cuba.

 

Class A shares are publicly traded and each share is entitled to one vote.  Class B shares are entitled to 10 votes and Raul Alarcon, Jr., Chairman, CEO, and President owns 95.6% of Class B shares and 80% of total voting.  Overall, insiders control 100% of Class B shares and approximately 80% of the total voting rights of outstanding common shares.  At a detriment to common shareholders, the Company pays $2.4 mm each quarter in dividends to Series B preferred stock (equity value of $90 mm).

 

The Company’s Total Debt of $342.2 mm consists of:

• Senior credit facilities term loan due 2012: $318.5 mm
• Non-interest bearing note due 2009: $16.1 mm
• Miami Broadcast Center mortgage: $7.6 mm (fixed interest rate at 6.31% via interest rate swap)

The company’s LTD to capitalization has been on a downward trend, improving from 55.6% in 2003 to 37.0% on 12/31/06.

 

Catalysts:

 

• The Hispanic population is growing at over seven times faster than the rate of non-Hispanic population and is estimated to be 20% of the total U.S. population by 2025. 
• Increased purchasing power and advertising market share of Hispanics will lead to increased advertising revenue
• 2008 elections – increased ad spending and increased focus on immigration, particularly from Democrats
• Increased consolidation amongst radio broadcasters – radio station transactions exceeded 2,000 in 2006 according to BIA Financial Network
• Expansion and improvements in the TV segment as it establishes itself as an advertiser in the South Florida markets.  Appeal to national advertisers because they can reach more viewers with multiple stations in a market.
• Growth from acquisitions of radio stations that can be reformatted to Hispanic formats, especially if SBSA can acquire additional radio stations from Univision if the radio division is sold off in favor of television
• Switch from a local to national advertising sales model
• Monetization of content across multiple platforms such as the Internet, television, personal music and video players, and cell phones (downloadable video, ring-tones, interactive content, and website advertising).
• Increased TSL as more Hispanics enter the work force and have longer commutes and an increasingly mobile lifestyle.  Higher radio advertising rates during peak morning drive times.
• Sale of assets or the entire company to realize value (LBO or MBO)

Risks:

 

• Insiders control 80% of voting rights and must be motivated to sell the company
• The company does not appear to have been run for the benefit of the common shareholders
• The radio and TV businesses are highly dependent on generating hit programs and the need to retain key talent and personalities
• More advertising dollars shifting to the internet, although I think that’s less of a risk with Hispanic advertising spending and radio is a long-tail business once it starts to decline
• Near-term MBO at a low price, limiting upside

Catalyst

* Fast growing Hispanic population
* Growth in Hispanic purchasing power and advertising dollars
* Very attractive valuation (35% of market cap in cash; FCC licenses worth 70% more than TEV; 0.5x P/B)
* 2008 Presidential election will increase advertising revenue
* Potential to sell off radio and TV assets at significant premium
* Growth in both radio and TV businesses