After Hitting ‘Reset Button,’ TV Bounces Back

As a founding member and principal of Bond & Pecaro in Washington, John Sanders has been keeping a sharp eye on the ups and downs of broadcasting for the past 25 years so that he can give a fair appraisal of stations at any given moment to the firm’s A-list of clients.

And at this particular moment, he says in this interview with TVNewsCheck Editor Harry A. Jessell, stations values are on the upswing.

Battered by the most recent recession and the inexorable fragmentation of audience and advertising, TV broadcasting is not the giant it used to be, he says, but the business has rebounded nicely in the past year or so. Smart investors see the potential for new revenue streams on a base of solid, if unspectacular, advertising growth, he says.

An edited transcript:

What is your read on the value of network affiliated TV stations right now?

I would say the market is probably, in terms of a multiple of cash flow, probably getting into the 9-to-12 times range. The viability of the network affiliate business has been validated over the last year. You just look at the operating results for the sector in general. There aren’t very many industries that have had revenue growth in the 20% range with operating margins averaging 40% in many cases. That’s not to say that there aren’t some risks and things that need to be monitored very carefully.

Doesn’t that 40% operating margin roll off sharply in the smaller markets?

Not necessarily. You look at a company like Nexstar. It focuses on the medium to smaller markets and has done very well. There are some very favorable characteristics to that business model. The competition tends to be a little less fierce in those markets and the franchise that a station has tends to be more pronounced.

You said the selling multiple is now 9-12 times cash flow. But it wasn’t too long ago when it was up to 12-14 times.

You have got to recognize that the business has changed fundamentally over the last several years as a result of the recession and other factors. It’s a fraction of what it used to be. The managers who are the custodians of the industry have had to do a lot of cost cutting and have done so prudently over the last couple of years. So, while we have seen revenue growth and profit expansion, it’s a totally different world we’re operating in. 

There had been an expectation that the advertising was a freight train that was just going to keep on rolling. In the early years, it was going to be double-digit [percentage] growth and then it scaled down to the mid to high single digits.

As we look out into the future, advertising is probably going to be growing in the 3% range over the long-term. So, it is incumbent on the industry to keep looking for other ways to grow. It has been successful in that regard in some respects. Obviously, retransmission revenues have become an important component. At some companies, retransmission compensation has gone from 4% of total revenues up to 10% or 12%. If you’re bringing that revenue stream in at a very high margin, which is the case, then it has a really buoyant effect on the financial performance of the business.

The question is, are there other smaller revenue streams that could be incorporated into the television model? I would certainly hope so. One might be secondary and tertiary digital channels. That’s still a developing area.

What about mobile DTV? Do investors take that seriously as a potential revenue source?

That’s the type of thing that’s going to have to be developed. It’s still in too early a stage. I don’t think there’s really been a consensus as to how that’s going to be monetized.

Is there any upside left in retransmission consent given the networks’ demands for big shares of the revenue?

I think there is potential left. I described before how companies over the last several years have doubled, tripled or quadrupled their retransmission revenue. You’re going to find it leveling off into a mature revenue stream just like most revenue streams do.

With the networks all yammering for a share, is it possible that it goes down some?

I think that the growth will be divided between the networks and the stations and, from what I am hearing, there’s potential for it not to be a zero-sum gain where one party’s gain has to be the other party’s loss.

In other words, if they can get enough out of the cable and satellite, they can both grow it.

Yes, but at an increasingly moderate rate.

It’s hard to evaluate stations in the absence of any deals. Are we going to see any significant deals this year?

What you see now is that the deal flow tends to be very anemic. The volume of transactions now is less than 10% of what it used back in what you might have called the glory days. The big factor there is going to be the extent to which the sources of financing become available again.

Well, what do you think? Are the lenders ready to take the plunge again?

I haven’t seen it yet, no. Looking at some of the statistics I just gave you, I would hope that that would give any potential investor or lender increased confidence in this business. Obviously, it’s all about the security of the cash flow. You have got a very, very strong underlying franchise and the business has been able to layer some additional profitable streams on top of that. So it looks like it’s evolving into a situation where you have got a level of predictability combined with a level of innovation and opportunity for growth.

We have seen a steady stream of virtual duopoly deals where one station takes over another and the number of independent voices in a market is reduced by one. Are we going to see more of this?

I think you will have to see more of that. One of the reasons that the industry has been able to bounce back financially has been through prudent cost cutting and a lot of that has to do with consolidating operations and sharing costs. I don’t think it necessarily has to translate into a limitation in voices. It depends on how individual operators configure the production of their news content. But I think more hubbing and more sharing is going to be critical to this industry.

Do you anticipate any changes in the FCC ownership rules in the next year or two that could affect the business?

That really might be a better question for a regulatory person.   

Well, you have got to factor possible regulatory changes into your thinking, don’t you? What if the FCC got rid of its duopoly rules that prevent one group from owning two stations in the smaller markets?

It would probably have a moderately positive effect just because it would permit companies to operate stations more efficiently. The more one can share fixed costs among different operations, the more resources will be available for programming and the more viable the entity would be financially. So those would be favorable characteristics from a valuation perspective.

The drum beat from Washington is that broadcasting has seen its best days and that its spectrum would be better used elsewhere. Do you think such talk depresses stock prices?

The broadcast stocks have made a remarkable comeback over the last couple of years. Some of them that had been trading for less than a buck are now going for $7 or $8, so I would almost want to turn that question around.

Well, they’re still way off their five-year highs. They’re not nearly back to where they were in their glory days.

Sure. and they may never come back. I think the way the advertising industry has suffered, I am not sure the television industry is ever going to look the way it did, but that doesn’t necessarily mean it has to look bad.

So what the industry needs is another new revenue stream from mobile or multicasting or something if we’re ever going to get back up to those old prices, those old multiples. 

Yes. I would expect so. I am not sure we will ever get there, but, by the same token, I wouldn’t want that to be interpreted as meaning that this is a bad or an unattractive business. It’s almost like the recession hit the reset button. We have a different set of economics, a different set of expectations and we move forward from there.

Different companies had to write down their debt and then you kind of start anew and move forward. Obviously, someone may have had to take a haircut along the way, but now we’re looking forward.

Another barometer of the state of the industry is the publicly traded debt. For a lot of the broadcasting companies, 18 months ago or so, it  may have been trading at 30 or 40 cents on the dollar and now it’s back up pretty much trading at par, which is another way of saying the world looks at stations and thinks that they’re worth about what they say they’re worth.