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  • Volume II, Issue 7

LGR Newsletter

Volume II, Issue 7 (posted to website on January 6, 2017)

 

Notes From Author: This Issue was originally sent to Newsletter subscribers on November 29, 2016 and included a full investment research report and stock pitch presentation on Time Inc. (TIME), both of which were finalized on November 23, 2016. The initial version of the research report and stock pitch presentation on TIME later underwent additional grammatical editing, and the research report also had additional information added to it that was included in the initial stock pitch presentation but not in the initial version of the research report (edited versions of both the research report and stock pitch were then sent to subscribers on December 12, 2016, in Newsletter Volume II, Issue 8). The full edited research report on TIME can be downloaded by clicking here and the edited stock pitch PowerPoint presentation can be downloaded by clicking here. All price and return percentage data in both the updated research report (copied in full below) and updated stock pitch PowerPoint presentation is as of November 23, 2016. The opinions expressed below were later changed in Newsletter Volume II, Issue 8 (sent to subscribers on December 12, 2016), after TIME's stock price closed at $17.60 (27.1% higher than its $13.85 closing price on November 23, 2016), see Volume II, Issue 8 for more details regarding the change of opinions. 

Disclosure: This research report is not intended to be investment advice, and I am not a Registered Investment Advisor. I share this information for educational purposes, to document my own research, and to receive feedback (and learn) from my subscribers. I have no positions in any of the stocks mentioned in this report.  I wrote this report myself, and it expresses my own opinions. I did not receive compensation for it. I have no business relationship with any company whose stock is mentioned in this report.

 

Company Name: Time Inc. (NYSE: TIME)

 Financial Overview

Rating

I have a 2-year price target of $20.00 on Time Inc. (“TIME”), which represents 44% upside (58% including dividends) from its current stock price of $13.85.

 

 

 

 

 

 

 

 

 

 

Investment Thesis

My thesis for upside in TIME’s stock is based on three elements:

  1. The market is pricing in an aggressive rate of decline for TIME’s revenue, yet I project only a slight decline in revenue through 2018 and then growth thereafter
  2. Margins have the ability to expand significantly, even in a minimal (or slightly negative) revenue growth scenario
  3. Substantial FCF generation supports TIME’s share price while also it to return money to shareholders and strengthen its balance sheet

What Led To This Opportunity

There are three main reasons why a significant mispricing in TIME’s stock price exists:

  1. TIME is a large media company that generates a significant portion of its total revenue from magazines (estimate ~79% in 2015), with almost all of that coming from print advertising and circulation (estimate ~96% in 2015). Investors know that consumer preferences are experiencing an ongoing shift away from print products and towards digital products, and with only 10.7% of TIME’s revenue coming from digital advertising in 2015 (14.5% in the Last Twelve Months) it doesn’t appear at first glance to be a good company to invest in to take advantage of this shift.
  2. It is well-known that companies in the Magazine & Periodical Publishing industry have high fixed costs and TIME is no exception (estimate ~62% in 2015). Having high fixed costs contributed significantly to a 14.5% compound annual decline in TIME’s adjusted operating oncome from 2010 – 2015, while total revenue only declined at 3.3% compound annual rate, and on an unadjusted basis the decline in TIME’s operating income was substantially (going from $515 million in 2010 to -$823 million in 2015). With significant skepticism regarding TIME’s ability to grow revenue in the future (as mentioned above), and a seemingly delayed start to restructuring and reorganizing operations after the company’s spin-off from Time Warner in 2014, investors are pricing in substantial revenue and margin declines over the next three years.
  3. Management is quick to showcase the company’s strong, nationally-recognized magazine brands and growing digital audience but is also opaque when it comes to quantifying the revenue that TIME has generated from parts of its digital platform. In addition, the fact that TIME was only recently spun-off from Time Warner makes it all the more difficult for potential investors to get much insight into the company’s inner workings, given its limited history as a standalone company, and this has likely led to many potential purchasers of the stock passing it over.

The three factors listed above have contributed to a 41.5% decline in TIME’s price from its post-spin-off high of $23.68 (adjusted for dividends), and they have also contributed to the fact that TIME is currently trading at a lower valuation multiples than those of its most comparable companies.

Company Overview

TIME is the largest magazine publisher in both the U.S. and the U.K., with a leading 25.9% share of total U.S. consumer magazine advertising revenue as of Q3 2016 (vs. 19.6% for closest competitor), as well as 32.6% print advertising share and 26.0% volume share in the UK. TIME owns over 100 media brands, including 23 total U.S. magazines and over 50 international magazines. In 2015, TIME owned 7 of the top 25 magazine brands based on U.S. advertising revenue, including brands such as People (#1 share), Sports Illustrated (#3 share), and InStyle (#8 share). TIME has more than 60 websites and generates over 150 million monthly average digital Unique Visitors worldwide and over 120 million monthly average print UVs worldwide, while also having a magazine marketing base of 160 million U.S. adults (more than half of U.S. adult population). TIME generated $3,086 million in total revenue in the Last Twelve Months.

On March 6, 2013 Time Warner Inc. (NYSE: TWX) announced plans to spin-off its magazine publishing and related business as a separate entity, Time Inc., and on June 6, 2014 the spin-off was completed, with TWX’s shareholders (as of May 23, 2014) being given 100% of TIME’s outstanding shares as a pro rata dividend. After the spin-off, TIME’s share price peaked at $23.68 (adjusted for dividends) on February 3, 2015 and has since fallen 41.5%.

Pricing In An Aggressive Decline In Revenue

Using a “What’s Priced In” analysis, I came to the conclusion that the market is currently pricing in a       -7.3% revenue CAGR for 2016 – 2019. This analysis was performed by using two key variables: 1) 7.4x EV/EBITDA multiple, and 2) 12.7% adjusted EBITDA margin.

The 7.4x EV/EBITDA multiple is the average CY 2019 EV/EBITDA multiple (using consensus estimates) for Meredith Corp. (NYSE: MDP) and New York Times Co. (NYSE: NYT), which were deemed to be TIME’s most comparable companies. The 7.4x multiple was applied to TIME’s calculated adjusted EBITDA after applying an assumed revenue decline rate and margin. The 12.7% adjusted EBITDA margin used is TIME’s LTM adjusted EBITDA margin, which is also its worst publicly reported adjusted EBITDA margin in company history.

Although the -7.3% 3-year revenue CAGR that is currently priced into TIME’s stock price is not as severe as the average of the worst 3-year revenue CAGRs for MDP and NYT (-9.1%), the worst 3-year CAGRs in total revenue for the industries in which TIME competes (-12.7% and -6.7% for total industry revenue as classified by IBISWorld and the MPA, respectively), and TIME’s own worst recorded 3-year revenue CAGR (-9.0%), it is still quite significant and would prove detrimental to my investment thesis if this revenue decline rate were realized over the next three years. For TIME’s total revenue to experience a 3-year CAGR of -7.3% its revenue decline rate would have to significantly accelerate, because (based on management’s guidance for Q4 2016) its 3-year historical total revenue CAGR will be approximately        -2.7% in 2016. A simple conclusion that can be drawn from the time periods in which TIME, its comparable companies, and the industries in which it competes all experienced their worst respective 3-year revenue CAGRs is that the market is currently pricing in a declining revenue scenario that is unlikely to materialize without another major economic recession.

Although the market is pricing in a -7.3% CAGR in TIME’s total revenue through 2019, consensus estimates call for a much smaller annual decline rate of 0.9%, but I believe that even this revenue decline rate is still too aggressive and project that TIME’s total will experience a -0.1% CAGR through 2019.

**Note: TIME was owned by Time Warner during this period                                                  *Note: Comps used were NYT and MDP

The most important assumption that appears to underpin the consensus estimate of a -0.9% revenue CAGR for 2016 – 2019, and the -7.3% 3-year revenue CAGR that the market is pricing in, is that TIME’s total circulation revenue will be the major driver behind the decline in total revenue, as consumers cancel their magazine subscriptions and purchase fewer magazines at newsstands. In an attempt to determine how realistic this assumption is, I analyzed three things: 1) the likely worst case scenario for circulation revenue going forward, 2) the impact declining circulation revenue would have on TIME’s total revenue in the worst case scenario, and 3) what decline rate in circulation revenue is most likely to occur.

  1. The Worst Case: The market is pricing TIME as though U.S. magazine circulation volume will follow the same decline path as U.S. music album sales volume. Both magazine circulation volume and music album sales volume peaked in 2000; magazine circulation volume fell at a 1.6% compound annual rate between 2000 and 2012 (the last year that MPA volume data, as previously report, was available), reaching 312 million units in 2012, while music album sales fell at a much larger 7.3% compound annual rate through 2012, reaching 316 million units that year and proceeding to fall through 2015 – reaching 241 million units that year (Music Album’s 2012 – 2015 CAGR = -8.6% and 2000 – 2015 CAGR = -7.6%) (see appendix exhibit #1). U.S. Magazine circulation revenue/unit held up well throughout the initial stage of its decline in volume, with revenue/unit rising 0.9% to $26.55 in 2011 from $26.32 in 2000 (see appendix exhibit #2), but since then it has started to decline as magazine publishers’ ability to maintain the prices of their products diminished in the face of falling demand (according to statements from TIME’s management and industry observers). With this in mind, the worst case scenario is likely TIME’s total circulation revenue declining at 3-year CAGR of -9.6% (music albums’ 2012 – 2015 volume CAGR of -8.6% plus an addition -1% from declining revenue/unit).
  2. What Impact Would The Worst Case Scenario Have If It Takes Place: I project that in 2016 TIME’s total circulation revenue will be $941 million (30.5% of my estimate for total revenue), which is down from $1,043 million (33.6% of total revenue) and $1,291 million (35.1% of total revenue) in 2015 and 2010, respectively. If TIME’s total circulation revenue declined at a 9.6% compound annual rate for 2016 – 2019 its diminishing share of the company’s total revenue would prevent such a sizeable decline rate from translating into a similarly sized rate of decline for total revenue, and the estimated $246 million in revenue that would be lost from a 3-year circulation revenue CAGR of -9.6% would only produce a -2.8% CAGR for total revenue, which is significantly lower than the -7.3% 3-year revenue CAGR that the market is currently pricing in.
  3. My Projected Scenario: I estimate that TIME’s total circulation revenue will decline at a more moderate 5.4% compound annual rate through 2019 (appendix exhibit #3). This is supported by the fact that TIME has also done a good job of shifting to meet changing consumer preferences and year-to-date 32% of its subscriptions were sold digitally, and it has started to see some success at converting print subscribers to digital. Year-to-date through September, TIME is the leading magazine publisher in terms of total viewership across all platforms (21% vs. 15% for closest competitor) and in each individual platform, with the sole exception of video (19% vs. 20% for Condé Nast), and its total audience has grown approximately 1.2% YoY to 384.3 million monthly Unique Visitors (UVs) despite declines in print viewership (see appendix exhibit #4).

The above information supports my conclusion that the -7.3% 3-year total revenue CAGR priced into TIME is too aggressive and the company’s total revenue is more likely to be between down at a 1% CAGR and flat over the next three years (my estimate is -0.1% CAGR for 2016 – 2019).

Growing Advertising Revenue – Digital Triumphing Over Print:

IBISWorld estimates for the Magazine & Periodical Publishing industry call for a 3.9% compound annual decline in print advertising expenditures from 2016 to 2020, which would bring total print advertising expenditures down to $32.8 billion in 2020 from an estimated $38.5 billion in 2016. Despite this negative outlook for an important driver of print advertising revenue, magazines should be able to win a higher share of total print advertising expenditures because of their ability to provide “attention-grabbing” content in a consumer friendly manner, while also generating a high return on advertising expenditures. A Nielsen study released in June 2016 supports this conclusion by finding that magazines have the highest Return on Advertising Spend (ROAS) of any media platform, with an average return of $3.94 for every dollar spent on advertising – far superior to the next closest ROAS of $2.63 (for displays). I estimate that TIME generated 79% of its total revenue from “Magazine Publishing” in 2015, with 96% of that coming from print & other advertising and circulation revenue and the remaining 4% from digital advertising and, although I also project that this percentage will fall to 65% by 2020 (as “Other” revenue and non-magazine digital advertising revenue grow), having significant exposure to magazines benefits the company by allowing it to capture incremental advertising expenditure share (through offering more magazine products that produce high ROAS). Despite the support for magazines winning a higher portion of total industry print advertising expenditures and TIME’s dominant magazine brands (including 7 of the top 25 in terms of U.S. advertising revenue), I conservatively projected that TIME’s print and other advertising revenue will decline at a -3.4% CAGR for 2016 - 2020, including a 0.5% adverse impact from cannibalization resulting from growth in digital advertising revenue.

TIME has the ability to grow its digital advertising revenue to such a degree that it can offset the projected decline in print and other advertising revenue and allow total advertising revenue to grow through 2020. There are two key drivers for TIME’s growth in digital advertising revenue:

  1. Growing Digital Audience: In the last two years, TIME has grown its total number of domestic monthly digital UVs to over 114 million from 65 million, making it the fourth largest Premium Multi-Platform Media Network in terms of its domestic digital audience (according to TIME’s September 2016 investor presentation). Rising above 100 million domestic digital UVs opens the door for TIME to access new digital advertising revenue streams, specifically native advertising, programmatic advertising, and video advertising. As recently as its November 2016 Presentation, TIME’s management team has said that the company’s native advertising revenue was on pace to double in 2016 and that it would continue to grow from there as it benefits from market growth that is expected to result in total US Branded Content & Native Solutions Advertising revenue growing from approximately $4 billion in 2015 to $9 billion by 2018. In addition, in its Q3 2016 earnings call, TIME’s management said it expected premium programmatic advertising revenue to grow approximately 30% YoY in 2016, with demand for premium programmatic content expected to continue increasing thereafter. Video advertising also provides a significant revenue opportunity for TIME and one it is only beginning to exploit – video advertising revenue grew 100%+ YoY in 2015, and the company reported (in management’s November 2016 presentation) that video starts across all its platforms have grown 196% YoY through September 2016, with over 1 billion video starts in Q3 2016 and the company’s production facilities on pace to produce over 40,000 videos in 2016 – this is supported by MPA data that shows YTD TIME’s video UVs have grown approximately 50.0% YoY. The only problem with these areas of potential growth is that management has not provided exact dollar amounts for either native advertising, programmatic advertising, or video advertising revenue, so it is unclear just how much of an impact growth in these three categories will have on total digital advertising revenue.
  2. Viant Acquisition: A large part of management’s new digital advertising growth strategy is the result of TIME’s acquisition of Viant Technology Inc. (“Viant”) on March 2, 2016 for $87 million, net of cash acquired. TIME was able to pay a low price for Viant (I estimate 2016E P/S and P/EBIT multiple of 0.52x and ~0x, respectively) because it was in need of cash, and management expects Viant to generate “well in excess” of $100 million in incremental revenue in 2016. I project that Viant’s 2016 revenue will be $144 million in 2016 and that it will keep growing and reach $278 million by 2020 (a 17.9% CAGR for 2016 – 2020). Viant should be able to stimulate growth in other areas of TIME’s business as well by providing people-based advertising targeting and performance measuring capabilities.

I project that TIME’s total digital advertising revenue will grow 53.2% YoY in 2016 (9.8% ex. Viant) and that growth will accelerate from there and rise at a 10.5% CAGR from 2016 to 2020 (7.2% ex. Viant), reaching $757 million (24.5% of total revenue and 41.7% of total advertising revenue) by 2020. Based on my projections, TIME’s revenue per worldwide digital UV will increase from an estimated $2.94 in 2016 to $3.44 in 2020, with growth in UVs coming from the launch of new websites and growth in existing websites and digital products. The projected growth in digital advertising is more than enough to offset the projected decline in print and other advertising revenue, allowing total advertising revenue to grow at a 1.3% CAGR from 2016 to 2020 (see appendix exhibit #5).

TIME has grown its share of total U.S. Consumer Magazine Advertising Revenue (excluding newspaper supplements) each year since 2008, and its 25.9% share in Q3 2016 was up 0.9% YoY and 0.8% from the end of 2015. Based on my estimates for total advertising revenue, TIME’s share of total U.S. Consumer Magazine Advertising Revenue is projected to continue rising and reach 29% by 2020, which assumes that total market revenue will decline at a 1% CAGR for 2016 - 2020 CAGR.

 

 

Other Revenue:

I also expect TIME’s “Other Revenue” to grow significantly through 2020, driven by growth in “new experiences revenue.” Management has given guidance that “new experiences revenue” reached a run-rate of $100 million in 2015 and that it will be “several hundred million dollars” by 2019 (according to the company’s September 2016 investor presentation). The growth in “new experiences revenue” is expected to come from growth in live media events (the company currently holds 600+ events a year), Sports Illustrated Play (“SI Play” – a digital platform dedicated to young/amateur athletes), e-commerce, and other products. If management’s guidance ends up being accurate it could have a huge impact on total revenue, however, given the unknowable aspects surrounding where specifically the revenue will be coming from and in what quantities (again relating to a lack of information from management), I projected that “new experiences” would add $200 in incremental revenue by 2019, bringing total Other Revenue to approximately $500 million. I projected that the growth in new experiences revenue would be offset by declines in book publishing revenue and that total Other revenue would only rise $79 million from 2016 to 2019, but even if one assumes that the declines in book publishing revenue are severe it seems unlikely that sell-side analysts are factoring much (if any) of management’s expected new experience revenue growth into their estimates, because my projected 4.8% revenue CAGR for Other Revenue (see appendix exhibit #6) is significantly higher than the yearly +/-2% growth rates seen in many sell-side models.

When combined, all of my projections result in a projected Base Case total revenue CAGR of -0.1% for 2015 – 2020 (also a -0.1% CAGR for 2016 – 2019), with sales declining year-over-year in the first three years of my five-year projection period (-0.4% revenue CAGR for 2015 – 2018) and then growing in the last two years of my projection period (0.4% revenue CAGR for 2018 – 2020).

Margin Expansion Even In A Minimal (Or Slightly Negative) Revenue Growth Scenario

I project that TIME’s adjusted gross and EBIT margins will be 58.5% and 8.6% in 2016, respectively, and that they will then expand to 60.9% and 10.4%, respectively, by 2020 (see exhibits #7 and #8). As a result of these estimates, my adjusted EBITDA margins are 16bps higher on average than consensus estimates in each year from 2016 – 2019.

My projected increases in adjusted gross and EBIT margin by 2020 is the result of two main factors:

  • Lasting benefits from restructuring programs that have been implemented between Q2 2014 and Q3 2016, which are projected to help margins rise despite falling revenue in 2017 and 2018
  • High operating leverage that will benefit margins in 2019 and 2020 when total revenue begins to grow

Since its spin-off was finalized during Q2 2014, TIME has recorded $322 million in restructuring and severance expenses, which (coupled with other cost savings initiatives) I estimate will have generated $425 million in gross annual savings, reduced net Normalized Fixed Costs by $71 million (vs. 2013), and reduced net Normalized Variable costs by $56 million (vs. 2013) by 2016.[1] These restructuring programs and cost savings initiatives are also expected to reduce Normalized Fixed Costs by an additional $45 million in 2017. I estimate that in 2016 roughly 59% of TIME’s total normalized costs will be “fixed” and the remaining 41% will be “variable,” which is a sizeable change from 62% fixed and 38% variable in 2014.[2] The reduction in costs that management has been able to achieve supports the conclusion that one of management’s strengths is cutting costs, because the company has consistently been able to generate gross annual savings equivalent to 1.0x – 1.4x the amount it records in restructuring and severance expense.

There are four components to TIME’s COGS: 1) production costs, 2) editorial costs, 3) “other” costs, and 4) depreciation.

  • Total production costs are the largest single component of total variable costs and they include the costs of raw materials such as paper (estimated 30% of production costs on average in 2016 – 2020), printing costs (estimated 32% of production costs on average in 2016 – 2020), and distribution costs (estimated 38% of production costs on average in 2016 – 2020). I estimate that production costs will decline significantly, both on a $ basis and as a percentage of total revenue, in 2016 – 2020, driven by a decline in revenue from paper-related products and ~$65 million in estimated savings from the USPS’ recent 4.3% rate decrease in 2016, offset by projected 2%/yr increase in paper prices (to account for inflation) and a 2%/year increase in the USPS’ postal rates in 2017 – 2020. My projections for production costs are shown in appendix exhibit #9.
  • Editorial costs include staffing costs and some costs related to digital growth investments. I estimate that on average 75% of total editorial costs in 2016 – 2020 will be related to staffing costs and are therefore relatively “fixed.” In Q3 2016 TIME announced an extensive realignment program focused on centralizing its editorial, advertising sales, and brand development organizations. TIME recorded a $43 million restructuring charge in the quarter and management expects to realize annual run-rate cost savings of $60 million (1.4x the recorded expense) primarily related to editorial costs going forward, and given management’s history of effectively cutting costs I incorporated all of the estimated $60 million in reduced costs into my estimates. The cost savings initiative are projected to be partially offset by an average estimated 1.7%/year increase in editorial costs, after the effect of the cost savings initiative, resulting from a 1.4%/year increase in average employee salary and increases in the variable component of editorial costs as investments are made to support digital advertising growth. My projections for editorial costs are shown in appendix exhibit #10.
  • “Other” costs are primarily related to running acquired businesses, growth initiatives and other costs. These costs are highly variable and are projected to increase by 92.3% YoY in 2016 and by an average of 7.9% YoY for 2017-2020, driven by increases in revenue at Viant and rising costs associated with growth initiatives. My projections for “other” costs are shown in appendix exhibit #11.
  • Depreciation recorded as part of COGS is fairly fixed, and is projected to be $8 million in 2016 – 2020.

The result of my Base Case projections for individual components of COGS is a 1.9% YoY increase in gross margin in 2017, primarily resulting from the reduction in editorial costs (due to the cost savings initiative mentioned above) and the USPS rate decrease, and then increases in gross margin averaging 38 bps/year each year thereafter (due to lower production costs economies of scale, when revenue is projected to grow YoY in 2019 and 2020).

Excluding all gains/losses, asset impairments, goodwill impairments, and restructuring and severance expenses, there are two main components of TIME’s other operating expenses: 1) SG&A ex. depreciation, and 2) depreciation & amortization expenses.

  • SG&A ex. depreciation includes circulation promotion, advertising and selling expenses, and personnel and facility costs. I estimate that 85% of total SG&A ex. depreciation is fixed, but 3rd party advertising expense (the largest variable cost included in SG&A ex. depreciation) is tied to sales and I project that it will increase as a percentage of sales from 5.8% in 2016 to 6.0% by 2020, driven by an increasing need for 3rd party advertising to support digital advertising revenue growth. Net rent expense (including sublease income) is projected to fall 38.8% YoY in 2016, due to TIME’s headquarters relocation completed in Q4 2015, rise slightly in 2017 (due to lower expected sublease income) and then remain constant in $ terms in 2018 - 2020. Stock-related Compensation expense is expected to fall to $28 million in 2016, stay flat in 2017, and then rise to $38 million by 2020 (due to an expected improvement in TIME’s operating and management’s performance-based compensation). Personnel expenses are projected to rise 1.4%/year on average through 2020 as costs for US and UK employees rise 2%/yr, but are partially offset by an ongoing shift in hiring more employees in India while the number of US/UK employees declines (during a phone call, TIME’s head of Investor Relations indicated that a $35 - $40K “labor arbitrage” opportunity was achievable when it came to hiring more employees in India).
  • Depreciation expense is projected to fall $32 million in 2016E, due to the headquarters relocation and more assets becoming fully depreciated, and then remain at 17.4% of projected Net PP&E through 2020E. Amortization expense falls slightly through 2020, in-line with projections in TIME’s 10-K filing for 2015 and assuming no new acquisitions take place (because of their unknowable size).

As shown in appendix exhibits #12 and #13, the result of these projections is that SG&A ex. depreciation increases slightly (on a $ basis) from 2016 – 2020, due to rising employee costs, while depreciation & amortization declines slightly over the same period.

TIME’s high degree of fixed costs had a substantial negative impact on its EBIT margin historically, however, I believe that the company has significant cost savings tailwinds from all of its restructuring programs that should allow gross and EBIT margins to increase in 2017 and 2018 despite declines in total revenue, and then the company’s EBIT margins will benefit from having high operating leverage when total revenue is projected to increase in 2019 and 2020.

Substantial Free Cash Flow Generation Supports Share Price and Balance Sheet

As shown in appendix exhibits #14 and #15, my Base Case projection is that TIME will generate $1,284 million in Free Cash Flow available to equity investors in 2016 – 2020 and that $908 million (70.7%) of this amount will be returned to shareholders through dividends and share repurchases. In each of the last six years, TIME has consistently converted over 120% and 110% of its adjusted net income into cash flow from operating activities and free cash flow, respectively, with 2015 being the only exception (due to the headquarters relocation). TIME’s Board of Directors declared a $0.19 quarterly dividend on October 29, 2014 and since then it has returned $163 million to shareholders through dividends. TIME’s dividend currently offers a 5.5% yield and it is easily sustainable, with the $77 million of dividends expected to be paid in 2016 equating to only 32.8% of FCFE and dividends expected to be paid in 2017 – 2020 accounting for 25.9% - 29.5% of FCFE in each year. I project that TIME’s dividend will increase by an average of 4.9%/year through 2020, reaching $0.92/share by 2020. Having a high dividend yield supports TIME’s stock price, as shown by the basic Dividend Discount Model (DDM) in appendix exhibit #16. Although I did not factor the DDM into my final valuation, I do think that it supports TIME’s stock price. In addition, with an investment horizon ending on December 31, 2016, I project that TIME’s dividend payments will yield 13.2% while it will also generate $741 million in FCFE (including Q4 2016’s FCFE), which equal to 54.0% of the company’s current market cap or 32.1% of its current Enterprise Value (ex. operating leases and overfunded pension). Substantial tangible returns on investment in the form of dividends supports my conclusion that TIME currently offers an attractive potential return over the next two years.

TIME’s strong FCF generation also supports its balance sheet, and I project that the company will continue to repurchase debt after its current debt repurchase program expires at the end of 2017. TIME issued $1,400 million of debt (at a $23M discount) in connection with its spin-off from Time Warner, and I project that 37.1% of the debt outstanding after the spin-off will be paid off by 2020E and that the company will continue repaying debt until it refinances the remaining debt in 2021. I project that repurchasing debt will allow TIME’s Net Debt / Adjusted EBITDA multiple to decline from 2.1x in 2016 to 1.1x by 2020 (as depicted in appendix exhibit #17). The company’s first major principal payment is due on April 24, 2021 and I project that by that date the company will still owe $521 million (as shown in appendix exhibit #18), but it should not have difficulty refinancing that amount given that I project that it will have over $300 million in cash on hand at that point in time.

Catalysts

There are three main positive catalysts that I believe could impact TIME’s price over the next two years:

  1. Strategic digital advertising acquisitions: the company has successfully purchased and integrated multiple digitally-oriented companies since its spin-off from Time Warner and each added value. If TIME were to make other small, strategic digital acquisitions in the future, as management indicates is probable, then that would likely create value for shareholders over the long-term and benefit TIME’s stock price.
  2. Meeting or beating analysts’ estimates (get back on track and confidence in new mgmt.): the -7.3% 3-year total revenue CAGR that is priced into TIME’s current share price indicates that market participants are far more bearish about the company’s prospects than either management or sell-side analysts and if TIME can begin to meet or beat analysts’ estimate that should lead to a reevaluation of the company’s prospects.
  3. Increasing dividend: TIME already has a high dividend yield but increasing it further would be seen as a sign that the $0.19/quarter initial dividend is not the highest dividend the company is willing to pay, which could lead to more interest from income-seeking investors.

Risks

Three of the key risks and negative catalysts that could impact my investment thesis include:

  1. Failure to meet analysts’ estimates: failing to meet analysts’ estimates would lend credibility to the conclusion that management’s optimistic forecasts for digital advertising revenue are unrealistic, which would likely cause TIME to continue trading at a significant discount to both its peers and its own historical average trading multiples.
  2. Failure to achieve management’s expected growth in either Digital Advertising revenue or “Other” revenue: failing to achieve management’s goals for growing digital advertising revenue and “other” revenue (as opposed to just increasing the probability that this will take place, as discussed in risk #1 above) would likely mean that TIME’s revenue will continue declining for longer than just through 2018, which would further depress TIME’s stock price.
  3. Circulation revenue declines at the same rate as U.S. Music Album sales: if circulation revenue were to decline at the same rate that U.S. Music Album sales have in recent years that would be a significant headwind to the company’s total revenue and would likely delay a return to growing total revenue for longer than I forecasted in my Base Case scenario. A recession would likely also re-accelerate the decline in circulation revenue and make it more likely that magazine sales will follow the same decline trajectory as music album sales.

Valuation

I determined my Base, Bull, and Bear case price targets by applying a NTM EV/EBITDA multiple to my 2019E EBITDA estimates in each of my three operating scenarios. The NTM EV/EBITDA multiples used varied depending on the scenario, but each was determined after analyzing TIME’s historical daily NTM EV/EBITDA multiples and the historical daily NTM EV/EBITDA multiples for TIME’s most comparable companies (MDP and NYT). When factoring in the average NTM EV/EBITDA multiple for TIME’s comps, I took into account the fact that since going public it has historically traded at a discount to its comps of 1.6x in terms of NTM EV/EBITDA and calculated an “average for comps including discount” (appendix exhibit #19). I also analyzed TIME’s historical NTM P/E multiples, both on a standalone basis and relative to the average for its comparable companies (appendix exhibit #20), but only used them for reference and instead focused on NTM EV/EBITDA multiples when determining my price targets. To add additional support for my valuation, I also performed a more thorough Comps Analysis (appendix exhibit #21) and a multi-scenario DCF Analysis (appendix exhibits #22-24), which I then used by comparing my implied price ranges from the Comps Analysis to my Base Case price target and by comparing the implied share prices from each scenario (Base, Bull, and Bear) of my DCF Analysis to each of my three price targets.

My 2-year Base Case price target is $20.00, which was determined by applying a 6.5x multiple to my 2019 EBITDA estimate of $447 million and equates to upside of 44.4% (excluding dividends). My 2-year Bull Case price target is $25.00, which was determined by applying a 6.8x multiple to my 2019 EBITDA estimate of $500 million and equates to upside of 80.5% (excluding dividends).My 2-year Bear Case price target is $11.00, which was determined by applying a 5.7x multiple to my 2019 EBITDA estimate of $355 million and equates to downside of 20.6% (excluding dividends). The different assumptions that were used in each of my three operating scenarios can be seen in appendix exhibit #25. After determining each of my price targets, I performed a sensitivity analysis on key variables (appendix exhibits #26 & #27). I believe that TIME offers an attractive risk/reward opportunity because, based on my above mention price targets (and excluding dividends), the stock currently offers a potential return-to-risk ratio of 2.2 to 1.

Other Valuation Considerations: People magazine is TIME’s largest magazine brand, accounting for 18% of total revenue in 2015, and I estimate that this brand alone could be sold for around $800 million (~58% of current market cap and ~1.4x TIME’s estimated revenue). This estimate is based on the fact that the last brand TIME sold was This Old House, which was sold at an estimated P/S ratio of 1.2x - 1.4x, and People magazine is much larger and more well-known than This Old House. Furthermore, according to TIME’s Q4 2015 earnings call, in 2015 People magazine achieved its highest annual market share of the celebrity newsstand category in its history, and that supports the fact that it could be sold at a higher P/S ratio of 1.4x.

 

 

 

 

 

 

 

 

 

Appendix Exhibits:

Appendix Exhibit #1:

Data Sources: MPA circulation data (from Bloomberg) and Nielsen SoundScan Data

Appendix Exhibit #2:

Data Source: MPA circulation data (from Bloomberg)

Appendix Exhibit #3:

Data Source: 10-K filings for TIME and Time Warner (no breakdown by type avail. prior to 2010), and Amended Registration Statements for TIME

Appendix Exhibit #4:

Data Source: MPA September 2016 Brand Audience Report

Appendix Exhibit #5:

Data Source: 10-K filings for TIME and Time Warner (using % figures in notes of TWX’s filings), and Amended Registration Statements for TIME

Appendix Exhibit #6:

Data Source: 10-K filings for TIME and Time Warner, and Amended Registration Statements for TIME

Appendix Exhibit #7:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #8:

Data Source: TIME 10-K filings and Amended Registration Statements, and Bloomberg

Appendix Exhibit #9:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #10:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #11:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #12:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #13:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #14:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #15: FCF Realization Statistics

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #16: Dividend Discount Model

Data Source: TIME 10-K filing for 2015 and 10-Q filings for 2016

Appendix Exhibit #17:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #18:

Data Source: TIME 10-K filings and Amended Registration Statements

Appendix Exhibit #19:

Data Source: Bloomberg

Appendix Exhibit #20:

Data Source: Bloomberg

Appendix Exhibit #21: Comparable Companies Analysis

Data Source: Bloomberg

Appendix Exhibit #22: Base Case DCF Model

Data Source: TIME 10-K filings and Bloomberg

 Appendix Exhibit #23: Bull Case DCF Model

Data Source: TIME 10-K filings and Bloomberg

Appendix Exhibit #24: Bear Case DCF Model

Data Source: TIME 10-K filings and Bloomberg

Appendix Exhibit #25: Base, Bull, and Bear Case Assumptions

Data Source: My Estimates

Appendix Exhibit #26: Sensitivity Analysis (For “What’s Priced In” Analysis and DCF Analysis)

 

 

 

 

 

 

 

 

 

 

 

Data Source: My Estimates

Appendix Exhibit #27: WACC Calculation and Sensitivity Analysis

Data Source: My Estimates (Cost of Debt includes an assumed cost for operating leases)

Appendix Exhibit #28: ROIC and ROTCE Calculation

Data Source: TIME 10-K filings and Bloomberg

[1] The gross annual savings figure is based on information from management while the fixed cost and variable cost savings are my own calculations. Normalized Fixed Costs were calculated by approximating total fix costs, excluding non-recurring gains and expenses, and Normalized Variable Costs were also calculated in the same manner. Reductions in Normalized Fixed Costs and Normalized Variable Costs were reported on a “net” basis, which was simply calculated by taking the period-over-period changes in both figures (in this case, 2013 vs. 2016).

[2] Employee compensation is considered to be a “fixed” cost, because TIME is a mature company and I project that its total number of employees will be flat through 2020.

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