LMCA - Liberty Media

[giofranchi]

Surely you all know and understand Sirius much better than I do! Thank you for the very useful insights.

 

I like Liberty Media as one of the greatest platform for doing business and creating value out there. Just like Berkshire. With the difference that Mr. Malone is 10 years younger than Mr. Buffett, LMCA is a $13 billion company while BRK is a $230 billion company, and LMCA is selling below its NAV per share while BRK is selling at 1.3 x BV per share.

You might argue that, if the asset values of LMCA are inflated (Sirius stock price is too high), the fact LMCA is selling below NAV is pointless… and you might be right!

But I tend to believe that is “Mr. Malone’s game”… and nobody understand that game better than he does… certainly, I wouldn’t bet against his judgment! And to me his judgment is very clear: not only he goes on repurchasing LMCA shares, he has also increased the money spent on buybacks since LMCA was spun off Starz. I don’t think this is the behavior of a great capital allocator, who reckons the stock price of his company to be overvalued.

And, as long as it is not overvalued, I am happy to keep company with Mr. Malone and increase my wealth at the rate LMCA increases NAV. With businesses like BRK and LMCA I don’t think you really need deep (statistical or quantitative) under-valuation to do very well in time. Besides, I always leave room to average down, in case the bear thesis is right and a lower price can be taken advantage of in the future.  :)

 

giofranchi

 

“As time goes on I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence.” - John Maynard Keynes

 

[ItsAValueTrap]

BRK is selling at 1.3 x BV per share

Buffett's latest letter explains why book value severely understates Berkshire's intrinsic value.

 

2- The problem I have with Berkshire and Liberty is that they are both difficult to understand.

 

Berkshire is difficult because it is a conglomerate of business.

Liberty is even more difficult because there is very difficult accounting that you have to figure out for yourself, the taxes are very complicated, there are derivatives (more so than Berkshire), and because it's John Malone (many of his Liberty entities are brutally complicated).

[giofranchi]

ItsAValueTrap,

I know what you mean. But, when I try to understand a business, I almost never fixate on the “minutiae”. I mean, there is not a single business in the world that I could really claim to understand every small details of. You won’t believe it, but even some aspects of the businesses I manage personally everyday are still a bit evanescent to me! They are subject to so many external forces, that I have come to the conclusion it is not really possible to have a reliable business plan… I have long ago given up on any type of fixed scheduling of activities… Most of the time I just react to what happens around my businesses, and, paraphrasing Mr. Singleton, I just try to stir the boat in the right direction. Therefore, I would never deceive myself into thinking that I understand all the moving parts of a business, just by reading its 10-ks and 10-qs…

Instead, I concentrate on more basic things: the nature of the business, and its management. Is the business subject to obsolescence very fast? Does the management put great emphasis on capital allocation, and did they create much value in the past? If the answer to the first question is NO, and the answer to the second question is YES, then I try to understand if the share price is under, fairly, or over-valued. Provided it not be over-valued, I invest. LMCA might invest in technology, but its true business is the oldest in the world (no, wait, the second oldest business… ;D ;D ;D): to buy $1 bills for 50 cents. Mr. Malone has clearly proved to be an outlier, and will be able to go on compounding capital for the next 10 years.

Many times we get lost into so many details, that we forget what really is key: 1) is the nature of the business subject to change? 2) am I partnering with someone really worth of trust?

Just my 2 cents!

 

giofranchi

 

“As time goes on I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence.” - John Maynard Keynes

[alwaysinvert]

Liberty won't exit the stock opportunistically because their cost basis for most of the shares is so low (would have to be a very high bid to make up for that), so their only way of avoiding to pay those taxes is a tax-free spinoff.

 

Liberty's tax issues are always hard to understand for me.  But I don't think that a tax-free spinoff will let them avoid paying taxes compared to no spinoff.

 

The two separate entities plus the shareholders of those entities will still pay the same amount of tax to the US government.

 

2- There are different reasons why Liberty might do a spinoff:

 

a- Because their debt allows it, and the debtholders get screwed when a spinoff happens.  As a debtholder, you want your debt to be backed up by lots of assets.  When Liberty splits up, your debt is less safe.  This will allow Liberty to repurchase its debt cheaply.

 

b- The spinoff companies can do things with their stock if it is over or underpriced.  Underpriced stock --> buybacks.  Overpriced stock --> mergers / use stock as currency.

 

c- To get rid of tracking stock structures, which has some legal and audit costs.

 

d- Malone loves leverage but doesn't want to get blown up so easily.  So instead of having all his eggs in one basket, he has several different companies.  If one business blows up, Malone doesn't go bankrupt.  (Though Malone got margin called in 08/09 and sold stock when it was really cheap.  This did not affect his publicly traded companies.  Liberty Capital had liquidity and was able to make the homerun investment in Sirius in 2009.)

My understanding is this doesn't have to be so, with the help of a Reverse Morris Trust: http://seekingalpha.com/article/731151-what-the-reverse-morris-trust-means-for-sirius-xm-shareholders. I guess the cost basis for the spun off Sirius would be measured in how big a chunk of Liberty it represented at the time of the spin off (or vice versa depending on who was deemed the parent in the spinoff - one might suspect that that would be Sirius just like it was Starz because it would make it a more appealing acquisition target, for tax reasons).

[dcollon]

As it relates to Sirius (potential RMT), I would review the timeline and transaction with DTV.  I think it will help in your research. 

[netnet]

His Liberty Capital stock went up several times from where he sold it.  (And I wasn't smart enough at the time to have bought it... even after reading Joel Greenblatt's book.)  The margin call came after Cable Cowboy though.

 

??  What in which  Greenblatt book would have suggested that you buy after Malone's margin call?

[ItsAValueTrap]

Sorry that was unclear.

 

Greenblatt's book came out way before 2008/2009 I believe.  (1997)  But it did have a lot of information on the TCI/Liberty spinoff.  I got the impression that Malone was a really smart guy.  But I never put in the work needed to understand Liberty Capital / Interactive in 08/09.  I missed the boat on that one.  I bought some really-out-of-the-money calls on Liberty Interactive but those expired worthless.

 

In 08/09 Liberty Interactive and Liberty Capital weren't classic special situations.  But... in hindsight... I could have done better.

 

But, when I try to understand a business, I almost never fixate on the “minutiae”.

I think that you can really gain an edge if you have decades of experience and have lots of things in your circle of competence like Warren.

- Understand an industry (or multiple industries if it is a conglomerate)

- Sift through a lot of information.  Definitely read the 10-Ks.

- Figure out the few things that matter

[Olmsted]

Wasn't there a Liberty Digital Ventures that kind of bombed?  Though as valueorama pointed out, AT&T was the big one.

 

Malone getting margin called was another failure.  His Liberty Capital stock went up several times from where he sold it.  (And I wasn't smart enough at the time to have bought it... even after reading Joel Greenblatt's book.)  The margin call came after Cable Cowboy though.

 

2- If you're going to write a book about a famous person, would you write about how insignificant that person is?  Probably not.  You want to write a good story about this superinvestor guy who is the Darth Vader of the cable industry.  There is going to be some storytelling bias.

 

Though Malone is definitely one of the best investors/capital allocators out there.  If you judge his success based on his net worth, then he is phenomenal.

 

I was buying LCAPA at the time (not at the low, roughly double the low) - had a spreadsheet and calculated NAV once a week, and it was at a huge discount.  Frankly I had no idea it was because Malone was getting margin-called.  So I bought some of his shares.  It was fitting though when I sold mine way too early at 38, and found out a week later that he had started buying again at 38.  LCAPA more than doubled, and I frankly have lost track of the assets since then - but I should have just stayed put until this very day.

 

Greenblatt's book came out way before 2008/2009 I believe.  (1997)  But it did have a lot of information on the TCI/Liberty spinoff.  I got the impression that Malone was a really smart guy.  But I never put in the work needed to understand Liberty Capital / Interactive in 08/09.  I missed the boat on that one.

 

The problem with analyzing Malone companies is it can almost be a full-time job.  Tough for the individual investor who has a wide universe to cover.  I think all of us could have done better with the Malone family over the years if we had the time to figure it all out on a continuing basis.  Or if we had known about this board and had the opportunity to compound the value of our research time with friendly collaboration.

[ItsAValueTrap]

My understanding is this doesn't have to be so, with the help of a Reverse Morris Trust: http://seekingalpha.com/article/731151-what-the-reverse-morris-trust-means-for-sirius-xm-shareholders. I guess the cost basis for the spun off Sirius would be measured in how big a chunk of Liberty it represented at the time of the spin off (or vice versa depending on who was deemed the parent in the spinoff - one might suspect that that would be Sirius just like it was Starz because it would make it a more appealing acquisition target, for tax reasons).

 

Hmm here's what I understand.

 

If a company issues a normal cash dividend, the people receiving the dividend will (normally) have to pay taxes right away.

If a company issues shares in a dividend, the people receiving the dividend will (normally) have to pay taxes right away.

 

If a company does a "tax-free" spinoff, the people receiving the spinoff shares will not have to pay taxes right away.  Taxes are deferred (until those shares are sold).  "Tax-free" in this case refers to not having to pay tax right away.

 

2- Tax deferrals are different than not paying taxes at all. 

 

There have been a few rare cases where Liberty avoided paying taxes (e.g. the Atlanta Braves deal).  Getting your taxes reduced is far better than deferring them.

 

The big picture is that most of Liberty's tax shenanigans are designed to defer paying taxes.  This is sort of like getting interest-free loans from the government.

 

3- Deferred taxes are like interest-free loans that the government gives you (or a corporation).  These interest-free loans are worth *something*, yet they are always carried at a book value of 0.

 

All of the Liberty companies tend to have these hidden assets in deferred taxes.

 

----

That's what I understand anyways.  I could be wrong.

[alwaysinvert]

My understanding is this doesn't have to be so, with the help of a Reverse Morris Trust: http://seekingalpha.com/article/731151-what-the-reverse-morris-trust-means-for-sirius-xm-shareholders. I guess the cost basis for the spun off Sirius would be measured in how big a chunk of Liberty it represented at the time of the spin off (or vice versa depending on who was deemed the parent in the spinoff - one might suspect that that would be Sirius just like it was Starz because it would make it a more appealing acquisition target, for tax reasons).

 

Hmm here's what I understand.

 

If a company issues a normal cash dividend, the people receiving the dividend will (normally) have to pay taxes right away.

If a company issues shares in a dividend, the people receiving the dividend will (normally) have to pay taxes right away.

 

If a company does a "tax-free" spinoff, the people receiving the spinoff shares will not have to pay taxes right away.  Taxes are deferred (until those shares are sold).  "Tax-free" in this case refers to not having to pay tax right away.

 

2- Tax deferrals are different than not paying taxes at all. 

 

There have been a few rare cases where Liberty avoided paying taxes (e.g. the Atlanta Braves deal).  Getting your taxes reduced is far better than deferring them.

 

The big picture is that most of Liberty's tax shenanigans are designed to defer paying taxes.  This is sort of like getting interest-free loans from the government.

 

3- Deferred taxes are like interest-free loans that the government gives you (or a corporation).  These interest-free loans are worth *something*, yet they are always carried at a book value of 0.

 

All of the Liberty companies tend to have these hidden assets in deferred taxes.

 

----

That's what I understand anyways.  I could be wrong.

 

The question was if Liberty could effectively eliminate their cost basis and thus the huge tax bill they owe (in a divestiture) by spinning off the shares of Sirius. I tried googling and can't find anything saying otherwise - the shareholders' cost basis will be calculated anew in conjunction with a spinoff. Correct me if I'm barking up the wrong tree here.

[Hawk4value]

I followed Malone for many years but never bought into TCI because I always considered it over indebited. But I bought my initial stake in Liberty when Malone split it off from TCI and then sold TCI to ATT. At that time Liberty was a hodgepodge. There was no one out there who was going to figure it out. My thesis was simple: this is the entity that Malone retained as his personal investment vechicle for the future. I decided to throw to throw my hat in the ring with him come what may. I have held on for about 15 years. Whenever the market tanked I would buy more shares. I have never sold a share of liberty or any of the spinoffs. I am definitely happy that I never over-analyzed this investment and just let it ride.

[ItsAValueTrap]

The question was if Liberty could effectively eliminate their cost basis and thus the huge tax bill they owe (in a divestiture) by spinning off the shares of Sirius. I tried googling and can't find anything saying otherwise - the shareholders' cost basis will be calculated anew in conjunction with a spinoff. Correct me if I'm barking up the wrong tree here.

 

This is how I think the taxes work in a tax-free spinoff.  (Somebody please correct me if I am wrong!!!)

 

Suppose you bought 1 share of Acme Industrial at $100/share.

Acme stock goes up to $1000/share.

Acme splits up into WidgetCo and ExplosivesCo.

 

WidgetCo trades at $800/share and ExplosivesCo at $200/share.

Your cost basis for the two companies split 80%/20%.

 

Cost basis in WidgetCo = $100 * 80% = $80.

Cost basis in ExplosivesCo = $100 * 20% = $20.

 

If you don't sell anything, you don't pay any taxes in that year.

If you sell WidgetCo, you pay taxes on a capital gain of $800 - $80 ($720).

If you sell ExplosivesCo, you pay taxes on a capital gain of $200 - $20 ($180).

 

-----------------

Suppose the spinoff wasn't tax free.  Acme sold its explosives division instead and distributed the cash to shareholders.

 

You would have 1 share of WidgetCo, $200 in cash, and you owe the government taxes on that $200 dividend.  This is tax inefficient because you are forced to pay taxes right away instead of sometime in the future.

 

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*There are probably other details that may matter.  The tax rate on the $200 dividend may be different than the tax rate on capital gains.  Not all tax jurisdictions may consider the spinoff to be taxfree.  Etc. Etc.

[AchilliesValue]

I took a look at the Braves piece because I did a bit of work in the space and there's an interesting relationship with MLB and cable that I thought Malone might be taking advantage of and I'll describe below.  (Disclaimer I basically found nothing but another head scratcher so don't get excited)

 

So bit of background baseball is the only one of the big 4 US sports that's exempt from the Sherman Anti-Trust act. What that means is that they have the ability to divide up the country into "blackout" zones seen here http://www.desipio.com/wp-content/uploads/2011/02/mlb-broadcast-map.jpg. The zones essentially mean that if a game is being shown on the team's regional sports network (RSN) and you live in your teams "blackout area" the only place you'll be able to watch the game is on your RSN.  Even the streaming package from MLB.com gets blocked (as of last season) so the "blackout" prevents cord cutting.  RSNs get ~150 games with the rest going to national deals negotiated by the league with ESPN, FOX, etc. Prices for live sports adverts are skyrocketing in a large part because its something you want to watch live (TiVo proof) and because of the large number of baseball games in a season that a reasonable amount of people still watch.  The prices of these RSN deals have skyrocketed with the best known being the recent Dodger's deal that I've seen valued as high as $7 Billion (its not worth that much) but to put it into further perspective look at the lowly Padres that got a deal worth reportedly $1.4 Billion.

 

The Braves are an interesting team in themselves.  They were owned by Time Warner during the '90s and were one of the best teams in the league.  The main advantage of the ownership though is that the Braves were broadcast on TBS, a national station and thus developed a much more geographically diverse fanbase (similar to the Cubs and WGN).  Also if you look at the map I posted above the Braves have one of the largest "blackout" areas covering all of Georgia, Mississippi, Alabama, South Carolina, Tennessee, and part of North Carolina including Charlotte.  In fact the Braves RSN SportSouth has ~8.7 Million subscribers making it the second largest behind YES Network (Yankees).  However, the Braves have the WORST tv deal in the entire league.  Its not just bad, its laughably terrible.  I peg their rights at around $20 Million per year (I've seen highs of 25 and lows of 10 though they were able to renegotiate 45 games this year that used to be separate that should bring the number higher).  Conservatively this would mean their rights fees per subscriber would be about 1/4 - 1/6 as much as the other large markets.  Full journal estimates here http://online.wsj.com/article/SB10001424052702304177104577309860750637758.html?KEYWORDS=dodgers+tv+deal.  I saw these numbers and figured the contract must expire soon which would explain why Malone is invested.  Sit for a few years, renegotiate a heavy contract raise, and flip the team for a large sum.  But, here's the kicker the contract has about 25 years left on it with no apparent clause for renegotiation.  I could hardly believe that when I heard it.  While the length of the deal isn't unheard of in the industry the no opt out clause seems absolutely preposterous.  Apparently, the fine management of AOLTimeWarner signed this beauty of a contract just before their ownership ended.

 

When I started digging into this I expected to find Malone again exploiting a obscure contract thing and about to skyrocket the team value but this all left me a bit perplexed.  Sure there are certain tax benefits associated with the Braves (they expire this year) and the stadium was paid for by the '96 Olympics but nothing jumps out. Also I don't see him missing this because 1) he's been in cable forever and 2) he's been involved with RSNs before.

 

The thing is having the Braves stuck in a horrible contract is bad for the RSN as well.  You'd think paying a low rights fee to the Braves would be good but that's not necessarily the case.  See the tv ratings only go up if the team is performing and the Braves ratings have been going in the opposite direction.  The team (usually) performs well by spending money on good players which in a large part is generated from the cable deal.  That's why your seeing a growing trend of teams getting equity in the RSNs (also some complications with baseball related revenue, etc but not important) as both need to succeed together.  SportSouth is a Fox (NewsCorp) RSN so I'm curious if Malone would move to buyout or gain a stake of the company.  Fox isn't stupid and knows these things are goldmines but as I stated above I just don't see how the current situation works for either party. 

 

Anyway I find the whole RSN thing fascinating if your a Phillies fan your in luck because their deal is up next and Philly is the largest single MLB metropolitan market.

[ItsAValueTrap]

Here's what I understand about taxes.  I would classify tax strategies in the following categories:

 

#1- (Legally) Avoid paying them completely.

#2- Defer paying taxes.  $100 in taxes that is due today isn't the same as $100 due in the future.  If you have $100 now and that $100 is due in the future, you can invest the $100 and compound it.  This is effectively an interest-free loan that you're getting from the government.

#3- Not letting deferred tax assets go to waste.  When you lose money, you can apply past losses against other years' profits.  So, you avoid paying taxes on those profits.

#4- Shift profits into jurisdictions with lower tax rates (especially tax havens).

#5- Shifting the tax burden from stockholders to another party.

 

---

#1 is extremely rare.  Maybe the government provides tax credits.  Maybe the government provided tax breaks or tax incentives.  In general, any strategy where you avoid paying taxes is really, really good.  It's almost like the government gave you money.

 

#4 is happening with many US multinational companies.  Any profits that they generate offshore usually stay offshore, avoiding the 35% US corporate tax rate.  If the company some day wants to bring those profits back to the US, they have to pay taxes on that money.  Or they can keep that money offshore and reinvest it and compound it.  By keeping this money offshore, these American companies are essentially enjoying an interest-free loan from the US government.  This is kind of why Apple is the world's largest hedge fund- it has a lot of money offshore and is trying to reinvest that money at decent rates of return.

 

#5: If a company leverages itself to the hilt with debt, then some of the tax burden shifts onto the debtholders.  The party receiving interest has to pay tax on that interest.  The party paying interest gets to deduct it as a business expense.  It's kind of like shifting the taxes onto the debtholders.

 

#4 and #5 are mostly variations on #2.  Ultimately, someday, the company will still have to pay tax on its profits.  (Hopefully it has profits.)

 

---

People are always trying to game the tax system and trying to find loopholes to exploit.  Sometimes this is not a good idea.  Tax authorities will come down on anything that is too abusive.  Huge tax loopholes usually will not work in practice.  Tax authorities will disallow that loophole and may make you retroactively pay full taxes.  The only major tax breaks/"loopholes" that will work are likely the ones that the government puts into place (e.g. tax credits, tax breaks, tax incentives).  Liberty's Atlanta Braves deal let Liberty completely avoid paying taxes because it took advantage of a tax break in some piece of legislation designed to close a tax loophole.

 

Many areas of taxes are subjective.  Different expenses have different tax deductions and the classification of those expenses can be subjective. 

 

I believe that taxes are also political.  If an attorney general does not like you, he may investigate you and pursue you on tax evasion charges.  (This happened to a few hedge funds like LTCM and Ed Thorp's hedge fund.)  I'm guessing that auditors and judges in tax law cases are affected by political factors, interpersonal factors, how much they like you, etc. etc.  Tax authorities likely will not look kindly if you push the envelope in abusing the tax system.

 

In general, Buffett and Munger seem to be of the opinion that you shouldn't focus too hard on avoiding taxes.  It's far, far more important to focus on making profits than to avoid taxes.  While Buffett explains in his most recent letter that share repurchases make more sense than dividends, he owns a lot of stocks that pay dividends.

 

That's how I see taxes anyways.

[giofranchi]

I followed Malone for many years but never bought into TCI because I always considered it over indebited. But I bought my initial stake in Liberty when Malone split it off from TCI and then sold TCI to ATT. At that time Liberty was a hodgepodge. There was no one out there who was going to figure it out. My thesis was simple: this is the entity that Malone retained as his personal investment vechicle for the future. I decided to throw to throw my hat in the ring with him come what may. I have held on for about 15 years. Whenever the market tanked I would buy more shares. I have never sold a share of liberty or any of the spinoffs. I am definitely happy that I never over-analyzed this investment and just let it ride.

 

That is basically (no, better say exactly !) how I see it.  ;)

 

giofranchi

 

“As time goes on I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence.” - John Maynard Keynes

 

[alwaysinvert]

By the way, is anyone looking at the valuation of Charter? Seems logical that it could be a value at a slight premium to what Malone paid. Right now they are plowing big money into capital expenditures. Debt load of $12.8b with interest expenses of about 6%. Net cash flows from operating activities in 2012 was $2.6b. Capital spending at $1.7b (expected flat for 2013). This should be bloated due to restructuring and migration from old technology, for comparison the number was $1.3b in 2011 and $1.2b in 2010. EBITDA has been pretty much flat at about $2.7b for the last three years. NOLs of $7.7b, which can likely start being utilized in 2017. The big question I guess is what more normalized capital expenditures would look like.

 

I have a hard time seeing the great value proposition even if capital expenditures halved pretty soon. And any kind of significant growth seems farfetched. Maybe the private market value to one of their competitors could be quite a bit higher? Does anyone see anything significant that I am missing?

[ScottHall]

By the way, is anyone looking at the valuation of Charter? Seems logical that it could be a value at a slight premium to what Malone paid. Right now they are plowing big money into capital expenditures. Debt load of $12.8b with interest expenses of about 6%. Net cash flows from operating activities in 2012 was $2.6b. Capital spending at $1.7b (expected flat for 2013). This should be bloated due to restructuring and migration from old technology, for comparison the number was $1.3b in 2011 and $1.2b in 2010. EBITDA has been pretty much flat at about $2.7b for the last three years. NOLs of $7.7b, which can likely start being utilized in 2017. The big question I guess is what more normalized capital expenditures would look like.

 

I have a hard time seeing the great value proposition even if capital expenditures halved pretty soon. And any kind of significant growth seems farfetched. Maybe the private market value to one of their competitors could be quite a bit higher? Does anyone see anything significant that I am missing?

 

If you haven't yet, read Cable Cowboy. Malone probably isn't thinking about this like an analyst, but an owner. His level of thinking, historically, has been so far beyond what you'll see on the financial statements that it's scary.

 

As well known as he is, he is an under appreciated genius of a businessman relative to a lot of people's favorites.

[alwaysinvert]

By the way, is anyone looking at the valuation of Charter? Seems logical that it could be a value at a slight premium to what Malone paid. Right now they are plowing big money into capital expenditures. Debt load of $12.8b with interest expenses of about 6%. Net cash flows from operating activities in 2012 was $2.6b. Capital spending at $1.7b (expected flat for 2013). This should be bloated due to restructuring and migration from old technology, for comparison the number was $1.3b in 2011 and $1.2b in 2010. EBITDA has been pretty much flat at about $2.7b for the last three years. NOLs of $7.7b, which can likely start being utilized in 2017. The big question I guess is what more normalized capital expenditures would look like.

 

I have a hard time seeing the great value proposition even if capital expenditures halved pretty soon. And any kind of significant growth seems farfetched. Maybe the private market value to one of their competitors could be quite a bit higher? Does anyone see anything significant that I am missing?

 

If you haven't yet, read Cable Cowboy. Malone probably isn't thinking about this like an analyst, but an owner. His level of thinking, historically, has been so far beyond what you'll see on the financial statements that it's scary.

 

As well known as he is, he is an under appreciated genius of a businessman relative to a lot of people's favorites.

I have read it, yes. But I won't invest only because Malone is good at what he does. All everyone says in this thread is "it's too hard, it's Malone". Fine, some people maybe want to invest (or pass) on those premises, but surely there has got to be someone who like me wants to try and understand? Just because he doesn't think like an analyst doesn't mean he doesn't do analysis. The numbers are the numbers, so if I'm missing something obvious (to someone smarter than me) I'd be very happy if someone could enlighten me.

[ExpectedValue]

By the way, is anyone looking at the valuation of Charter? Seems logical that it could be a value at a slight premium to what Malone paid. Right now they are plowing big money into capital expenditures. Debt load of $12.8b with interest expenses of about 6%. Net cash flows from operating activities in 2012 was $2.6b. Capital spending at $1.7b (expected flat for 2013). This should be bloated due to restructuring and migration from old technology, for comparison the number was $1.3b in 2011 and $1.2b in 2010. EBITDA has been pretty much flat at about $2.7b for the last three years. NOLs of $7.7b, which can likely start being utilized in 2017. The big question I guess is what more normalized capital expenditures would look like.

 

I have a hard time seeing the great value proposition even if capital expenditures halved pretty soon. And any kind of significant growth seems farfetched. Maybe the private market value to one of their competitors could be quite a bit higher? Does anyone see anything significant that I am missing?

 

It could be helpful to think a little bit more about secular trends in the industry and how that might impact the bottom line.

 

Charter's a pretty simple business really, they own a network of pipes and users connect to the pipes to get content (tv or internet).

 

For Charter to grow revenues, they need to either keep their average revenue per user constant and grow their number of users, vice versa, or grow both.

 

How can Charter grow users? around 70% of America is penetrated by broadband already, some percentage will probably always be unconnected, but maybe there's a little growth in there but probably not much. There are a number of smaller regional cable providers still out there, so maybe it can acquire them (see: http://en.wikipedia.org/wiki/List_of_cable_television_companies#United_States) or maybe it could acquire another major cable co and grow its users that way.

 

The other big way they could add users is by winning over broadband market share. About 27% of broadband users in the US get their internet through DSL. The average DSL speed in the US is 2.0 mbps, the average cable speed is more like 5.5 mbps. There's a secular trend in the US towards higher data consumption rates (think about streaming HD movies off of netflix/itunes). DSL is said to technologically have a cap to where it will unable to raise speeds for users much more than where it is now. That's why you see a lot of telcos that offer DSL are now laying fiber to offer that to customers. There are some parts of the country where it's going to be very very difficult to lay that kind of fiber, or will just be too expensive. If that's the case, the cable company will have a really dominant position and should eventually win over customers who were on DSL and are stuck as their speed needs increase.

--> This is a trend worth learning more about and really monitoring. Ideally you'd find the cable cos that are best positioned on this basis.

 

So your main ways to grow users: get new customer adds, acquire competitors and take their customers, win customers who were using DSL by getting them to convert to cable. Organic growth seems tough, but the other options are viable.

 

Now to the next aspect -- ARPU. ARPU increases can be achieved through a variety of manners. Cable companies could just hike prices (they should have some degree of pricing power). Or, as speculated in one article, they may implement a small amount of capex to be able to offer super fast 25 mbps internet. I've seen this mentioned in the FT, if the capex is small but the price they can charge users is a lot more, they might get really strong cash flow generation.

 

Another way, thats not necessarily ARPU but the earnings per user, would be to reduce the expenses per unit. Each user will incur certain expenses for a cable operator. If you are a cable TV subscriber, the cable co has to pay out fees to all the companies providing the programming for you. If you were to cancel your cable TV subscription but keep the internet, the cable co would have one less TV user and thus not have to pay the programming costs for you. If they can maintain their current pricing but just give you cable internet and not the TV with its expensive programming costs, their earnings per user should go up quite a bit.

 

Those are factors I'd spend time thinking about when analyzing Charter.

 

 

 

[compoundinglife]

 

The other big way they could add users is by winning over broadband market share. About 27% of broadband users in the US get their internet through DSL. The average DSL speed in the US is 2.0 mbps, the average cable speed is more like 5.5 mbps. There's a secular trend in the US towards higher data consumption rates (think about streaming HD movies off of netflix/itunes). DSL is said to technologically have a cap to where it will unable to raise speeds for users much more than where it is now. That's why you see a lot of telcos that offer DSL are now laying fiber to offer that to customers. There are some parts of the country where it's going to be very very difficult to lay that kind of fiber, or will just be too expensive. If that's the case, the cable company will have a really dominant position and should eventually win over customers who were on DSL and are stuck as their speed needs increase.

--> This is a trend worth learning more about and really monitoring. Ideally you'd find the cable cos that are best positioned on this basis.

 

So your main ways to grow users: get new customer adds, acquire competitors and take their customers, win customers who were using DSL by getting them to convert to cable. Organic growth seems tough, but the other options are viable.

 

Malone has expressed his thoughts on fiber to the home as well or specifically FIOS:

DirecTV Co-Owner John Malone Trash Talks FiOS

'Returns on FiOS are atrociously bad...'

http://www.dslreports.com/shownews/DirecTV-CoOwner-John-Malone-Trash-Talks-FiOS-108984

 

Something I found that was also interesting but not exactly related, was this book on Google Books called Fiber to Home:

 

http://books.google.com/books?id=1QAv4Gf5AoQC&pg=PA8&lpg=PA8&dq=john+malone+fiber+to+the+home&source=bl&ots=55Ti8nd5WV&sig=oNxMsqmv_bMeO7n3NUZdv5eGNNY&hl=en&sa=X&ei=ac1LUb71JauwigL-iYDICA&ved=0CEwQ6AEwAw#v=onepage&q=john%20malone%20fiber%20to%20the%20home&f=false

 

It quotes Malone about video on demand back in his TCI days.

 

[ItsAValueTrap]

Here's what I understand about Charter:

 

Tom Rutledge was Cablevision's COO from 2004 to Dec 2011.  He left Cablevision over disagreements with Cablevision's CEO Charles Dolan (Dolan is the son of Cablevision's founder; there is a lot of nepotism going on).  Afterwards, Rutledge became the CEO of Charter.  Charter bought out Cablevision's cable assets in Feb 2013.

 

Apparently Tom Rutledge is a very, very good operator; one of the best in the business:

http://online.wsj.com/article/SB10001424052970204553904577102944094041130.html

 

2- On the surface, Charter looks like a very mediocre investment to me.

 

Historically, Charter's operating business hasn't been getting better.  Its adjusted EBITDA has mostly been flat.  Its free cash flow was 727M in 2010 and 144M in 2012.

 

It has been able to roll over its debt at lower interest rates.  Maybe this will add 300-400M to its bottom line over time.

 

It has been reporting GAAP losses for the past few years.  But let's be generous and pretend that Charter makes 500M in (after-tax) profit/year.  At a market cap of ~10B, Liberty would be paying a P/E of 20 for Charter.  Paying P/E 20 for a no-growth investment is dumb.  (Of course, I don't think that Charter really makes $500M/year.)

 

3- I am guessing that the reason Liberty is investing is because Malone thinks that earnings will grow.

 

a- There are synergies from consolidating cable operations.  This was a driving force behind TCI.  Cable is an industry that benefits from economies of scale.  Larger cable operators get better deals when negotiating with content providers.  Operations overhead is a little lower.

Charter paid $1.63B for Cablevision's systems so there should be minor synergies there.

 

b- The real reason is that Tom Rutledge is one of the best operators in the business.  This is a bet on Rutledge turning around Charter's operations.  There are many things that Rutledge did at Cablevision; my guess is that he will implement all of those things at Charter.

[ItsAValueTrap]

Comparing Charter and Cablevision, I see that Cablevision seems to be cheaper if you look at enterprise value over revenues (or EBITDA).

 

If you look at it based on EV/customer relationships, both are about the same.  This seems to me that Malone is paying a premium for better management at Charter...?

 

At the end of 2012:

Charter:

5.360M customer relationships (excluding Bresnan)

Enterprise value - 23.22B

EV/revenue - 3.10

EV/EBITDA - 8.78

EV/customer relationships - 4.33

 

Cablevision: 

3.23M customer relationships (including Bresnan)

Enterprise value - 14.55B

EV/revenue - 2.17

EV/EBITDA - 7.6

EV/customer relationships - 4.5

 

---

I'd also point out that Liberty Capital is buying Charter, not Liberty Global.  Global has cable assets everywhere except for the US.  Global buying Charter would likely be more synergistic.

 

It's probably the case that Capital is buying Charter because Malone so far has been putting his best ideas into Capital (not into Global or Ventures).  I believe Malone owns a greater percentage of Capital than Global.

 

EDIT: Liberty Capital = Liberty Media

[giofranchi]

I have read it, yes. But I won't invest only because Malone is good at what he does. All everyone says in this thread is "it's too hard, it's Malone". Fine, some people maybe want to invest (or pass) on those premises, but surely there has got to be someone who like me wants to try and understand? Just because he doesn't think like an analyst doesn't mean he doesn't do analysis. The numbers are the numbers, so if I'm missing something obvious (to someone smarter than me) I'd be very happy if someone could enlighten me.

 

alwaysinvert,

I understand your point. But, please consider:

FFH: I don’t understand BB, I don’t understand CPI-linked contracts, etc., yet I invest in FFH.

LRE: to say that I don’t understand the contracts Mr. Brindle & his team write would be an euphemism… yet I invest in LRE.

BAM: as I said in the BAM thread, not only I am not able to value an hydroelectric plant, I am not even able to ascertain its market price… yet I invest in BAM.

OAK: I invested in Oaktree… because I don’t understand the distressed and high yield bond market!

And the list goes on and on…

My point is that you almost never can invest based only on the numbers. Truly effective due diligence goes too much beyond the numbers you find on 10-ks and 10-qs. Imo, you should invest because 1) you like management, 2) you like the business, 3) you think you are not overpaying for what you like.

 

Trading, on the other hand, is a completely different beast: to buy into a bunch of statistically cheap stocks, and to sell them when they get to be fairly priced, is a very rewarding endeavour, and one to which numbers are extremely important and meaningful.

 

giofranchi

 

“As time goes on I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence.” - John Maynard Keynes

 

 

[LongTerm]

Here's what I understand about Charter:

 

Tom Rutledge was Cablevision's COO from 2004 to Dec 2011.  He left Cablevision over disagreements with Cablevision's CEO Charles Dolan (Dolan is the son of Cablevision's founder; there is a lot of nepotism going on).  Afterwards, Rutledge became the CEO of Charter.  Charter bought out Cablevision's cable assets in Feb 2013.

 

Actually Charter only bought out the Optimum West cable systems (304,000 basic subs, 660,000 homes passed) Cablevision had purchased from Bresnan in 2010. Perhaps a difference of opinion on strategy related to these systems was what caused the rupture between Jim Dolan, CEO (not Charles, founder and Chairman) and Rutledge. If so, the Charter buyout was logical.

 

Overall, I agree, Rutledge is a great operator and was the implementer of Cablevision's "Triple Play" success. The question is how he will get along with Malone (will they agree on strategy?) and what can really be done with Charter's systems; they tend to be more rurual (i.e. spread out), more in need of capital improvement and don't lend themselves as well to the triple play type of strategy (TV, phone and internet bundles). Yes, they are currently underperforming and can be improved, but by how much? and is cable really the delivery mechanism of the future?

 

I'm not convinced this is a great investment even given Malone's history of pulling off the unlikely. I certainly wouldn't bet against him. But investing in Liberty at these levels? I'm torn because I don't know if I want the Charter stub after Sirius equity is spun off to shareholders. For now I'm waiting for a better entry price.

[ExpectedValue]

Overall, I agree, Rutledge is a great operator and was the implementer of Cablevision's "Triple Play" success. The question is how he will get along with Malone (will they agree on strategy?) and what can really be done with Charter's systems; they tend to be more rurual (i.e. spread out), more in need of capital improvement and don't lend themselves as well to the triple play type of strategy (TV, phone and internet bundles). Yes, they are currently underperforming and can be improved, but by how much? and is cable really the delivery mechanism of the future?

 

 

The advantage though, in rural, should come from having less competition/becoming more competitive versus other sources of broadband internet. It's my understanding that it's often too expensive to lay fiber in rural areas because of the amount of fiber/digging you have to do over long stretches of land. If that really is the case, Charter's assets should actually become more valuable over time, or at least have a wider moat.