Frazer Harrison
Lions Gate Entertainment (NYSE:LGF.A) (NYSE:LGF.B) has become an exercise in patience and timing. We know there’s going to be a bid at some point for the company’s assets/services…we just don’t know when.
We also know Starz is supposed to be separated into some sort of spin-off/stake-sale; was supposed to be by the end of summer. I’m not sure if that means by Labor Day or by the astronomical end of summer, but that should be coming soon. What we don’t know: who’s going to be investing in the service and thus creating a separate valuation for that portion of the company…will it be Roku (ROKU) as some reports have suggested? A PE firm? A SPAC?
Anyone who is long the stock at a good cost basis will probably want to consider holding on, because although there’s a lot of unknowns with timing, this thing – a buyout – feels like it is getting closer.
However, if there is one thing we’ve learned about CEO Jon Feltheimer, it is this: he will not sell out at any price; he’ll walk away if need be, as this trade article indicates. He has a market-cap premium in his head; I don’t know what it is at the moment given the current bear market, but at one time it seemed as if he had a share price of above $40 in mind. That might not be wholly possible at the moment, but if he is determined to wait it out, then he will simply place his focus on content generation/distribution, hoping that several big hits emerge from a slate of diverse genres to increase the valuation.
That can be good and bad. I don’t mind holding out for a solid premium, but if we have to wait a lot longer, then a different content strategy may be needed – i.e., modify the slate so that it only focuses on the most commercially-minded projects at lower budget points (think studio slates such as A24 and STX) and do some innovative co-financing maneuvers on the bigger-budget affairs (those who have read previous articles of mine know that I am generally against co-financing and more for a risk-on approach, as that increases potential financial reward; however, Lions Gate is at a point that it might make sense to me to do this for certain levels of budget, and certainly the company is already exposed to such financing mitigation).
All of this is against a backdrop of the recent earnings report and conference call on August 4. The main bullet points of the Lions Gate thesis (beyond the buyout-centered thesis) see yet another iteration:
- Starz subscriber potential
- Hit film slate in the wings
- Television slate success
- High-margin cash flow from the library offering stability to the portfolio
EPS on an adjusted basis came out to a loss of $0.23 on a diluted basis, which compared to $0.18 in net income per diluted share last year; that was good enough to beat expectations, but revenue of $894 million was a bit light by $11 million. Cash used in operating activities was $0.2 million, with adjusted free cash calculating out to over negative $60 million, the latter including production loans and tax credits and excluding a significant influx from an interest rate swap. Such is Lions Gate during the time of SARS-CoV-2 and a multiplex industry that will see its recovery start with tentpoles from the majors and not so much with some of the company’s smaller films (shareholders will have to wait a little while longer for films such as the next Hunger Games entry to arrive, slated right now for November 2023).
Here’s the basic deal Feltheimer wants to make with someone in Hollywood: Lions Gate needs scale, he’ll say to a media exec, and so do you; everyone in Hollywood can use more content and perhaps a streaming platform to back it all up. The pandemic may be blunting the numbers right now, but as time goes on, that will right itself, and Lions Gate will be a great asset with which to add value for some media company’s stock currency; or, if the pitch is to a tech company or a private-equity concern, Lions Gate can help bring such entities to the Hollywood marketplace.
For starters, Starz continues to grow, albeit slowly in a relative sense: total global subscribers jumped to 37.3 million compared to a count of 28.9 million a year ago. That certainly isn’t bad, and the OTT subscriber numbers are doing well, especially on the international side. But linear is keeping a check on expansion, and I would like to finally see greater than 40 million subscribers as soon as possible to really hammer home that the Starz strategy can work out for a buyer (that stat would place the streamer closer to Disney’s (DIS) Hulu, which has more than 40 million users). One selling point is that another owner might be more flexible in terms of content strategies and will be able to ramp up the rate of change on the signups. As it is now, Lions Gate the studio and Starz the streamer are content to rest on their individual strategies and approaches to content generation/distribution. Witness a recent development: the prequel episodic attached to the John Wick franchise will be on Comcast’s (CMCSA) Peacock streamer as opposed to Starz, which was the original – and seemingly logical – plan. What’s going on here?
It’s odd, since the next Wick film will be out in spring 2023 and the series, called The Continental, is also set to debut I believe around that time (no definitive date yet). One would think that placing the series on Starz would merely be obeying the textbook tenets of Synergy 101.
When I first read about this move, I immediately thought about how the split of Starz from Lions Gate was approaching – perhaps the studio portion of the company didn’t want this IP extension tied up with a streamer for which cross-promotion was no longer necessary? The linked article did touch upon that, stating that the current Starz portfolio is directed toward different audiences than what might be ideal for the show.
That’s a bit of an unsatisfactory explanation for me, since a streamer can both program for specific core audiences and attempt to expand the base (as well as serve the current subscribers) by bringing in high-profile content, especially when it is IP that is broadly popular and part of the Lions-Gate side of the equation; both things can be done at the same time, and it would help to justify the purchase of Starz (then again, as I’ve mentioned before, Starz was more of a John-Malone thing than a Feltheimer thing).
But now it is more clear than ever: Lions Gate wants to get a better bid for its content instead of generating intercompany eliminations in the pursuit of vertical-integration. And I suppose, too, as a bonus, it eliminates certain complications, considering that the talent behind the content wants to make sure that it is getting a fair deal for its services, something which could also affect Lions Gate’s decision-making process (although I’m not suggesting that played any big part here, if any – it is merely to say that Wick is big IP and sweetheart-deal concerns are in play every day in Tinsel Town, and this company is known for catering to talent).
Starz also could be flexible with another owner on the advertising front: the company has stated that it doesn’t have any intention of utilizing ads to create another tier; I believe some of that may be sourced to content-licensing issues, but it also may simply be the strategy the company wants to employ (it also supposedly might be financially cumbersome to invest in new tech to support an ad platform).
Beyond Starz, though, and an impending transaction involving it – and remember, Roku is supposed to be in the running to at least take a stake in the streamer – Feltheimer is determined to keep the long-tail movie slate going, whether it be in theaters or on premium-video-on-demand distribution. This will tide the company over until Wick and Hunger Games come out, two films which represent the prescient purchase of Summit Media almost a decade prior.
The CEO wants to sell out the studio portion of the company as well, and recent comments are tantalizing, as he mentioned that there are potential buyers for that division, too. It would be the height of efficiency if he could simply sell both parts at the same time, but for that to happen, a company like a Comcast or an Amazon (AMZN) would have to step up.
Speaking of the latter, Feltheimer’s frustration really shows when he considers the better-than-$8 billion deal the online retailer made for Metro-Goldwyn-Mayer. During the call, he essentially characterized the Lions Gate library as having a superior value proposition for investors over the MGM asset. What does this mean? It means he can’t understand why Lions Gate is still a publicly-traded vehicle and why he hasn’t cashed out already.
He’s patient, though, as I’ve said. Given the company’s recent successes with television renewals and steady revenue contribution from the library (just under $750 million over the last year), Lions Gate does have some positive points to promote itself to the market (this past quarter TV sales increased 12% to $432 million and profit multiplied to nearly $20 million compared to $3 million). And with Netflix (NFLX) placing Wall Street’s eye on the fundamental structures of streaming, wondering when the promised critical-mass engine of value will finally arrive, Lions Gate knows that it is becoming more attractive to companies that need a pipeline of programming for all screens. That’s key – Lions Gate has always been positioned as an all-screen, platform-agnostic concern. It’s something that can frustrate a shareholder wishing for a more concentrated, cohesive strategy, but right now, that particular approach may be working (at least in some part) in favor of a buyout, even if only because the pendulum is swinging that way.
Conclusion
I’ve been something of a permabull on Lions Gate for some time. The company has value to offer to companies in the tech, media, and private-equity sectors. The buyout will eventually occur.
For now, though, we have to consider valuation on the shares. SA’s quote system currently rates the stock just slightly above average based on several metrics, although it should be noted that the forward adjusted P/E ratio is higher than the sector average, and that revisions are not rated highly post the report.
In truth, given the economy and the macroeconomic environment, the shares will contain risk in the next several months that goes beyond the normal. Looking at things more technically, there has been a bounce off the 52-week low for both share classes – with the lows being tied to a $7-handle – since the report.
I continue to rate the stock a speculative buy based on consolidation in the industry. Recent news flow suggests Starz will be dealt with soon, if not the entire concern.
Jon Feltheimer’s fortunes are tied to the company’s stock. He’s as anxious as any investor to see a transaction for Lions Gate; he’s willing to wait it out. So am I.
Be the first to comment