Tag: Stock Pitch

National Cinemedia: Movie Theater Related Name Still Has Plenty of Upside $NCMI #COVID19

Reading Time: 6 minutes

News of a Pfizer vaccine has sent COVID-impacted names soaring. However, some areas still look very cheap, particularly in the movie theater space. National Cinemedia is a decent bet and could possibly be a multi-bagger. There’s obviously a ton of risk – this is almost a microcap stock right now – so do your own homework please!

Let’s start with what I am not doing:  I’m not looking at stock charts and saying, “well in January, it was $x and now its at $y, so it has a lot of upside if it just goes back to $x”.

The problem with that is that a lot of names have issued a lot of debt and or equity. For example, American Airlines just announced it was going to issue $500MM of stock. They’ve also issued a ton of debt to pad liquidity. Based on Bloomberg, the current EV is around $39.5BN compared to $41.9BN at the end of 2019… yet the stock has been cut in half. The value is being transferred to debt holders.

In fact, following yesterday’s move, a lot of center-of-the-storm names don’t have nearly the upside I would want for the uncertainty. And this includes some movie theater chains that were too levered and entered this crisis in too fragile of a position (looking at you AMC… AMC’s 1L term loans and bonds are well below par, implying that the company will still need to restructure).

But National Cinemedia does have the upside. And I don’t think they’ll need to restructure at all.

Why National Cinemedia? Several Reasons:

  • Solid balance sheet means it can wait this pandemic out
  • “Asset Lite” business limits cash burn now, also means cash turns back on quickly as movies come back
  • Confident that movie theaters aren’t dead and that the notion that “PVOD” or prime video on demand taking share of traditional theaters is overblown
  • Movie slate was deferred in 2020, but makes 2021-2022 likely a blockbuster year

Solid Balance Sheet & Asset Lite: National Cinemedia is an advertising business. They typically run the ads that you see 30 minutes before a movie run by national accounts. They don’t actually  own any theaters, so the business model is very asset lite. The downside is that if the theaters aren’t open, there aren’t going to be people paying for ads!

The other issue right now is that we are in a limbo with new movies. The studios have a huge production slate they want to release (see more later below), but they want there to be fans in the stands, if you will. In sum, the theaters can be open, but if there are no films, the theaters might as well be shut to National Cinemedia.

However, National Cinemedia has $217MM of cash on the balance sheet. At its current monthly cash burn rate of $11MM in October 2020, it can last ~1.5 more years in essentially hibernation mode. Management seems confident enough that they continue to pay a dividend of $0.28/share, or ~8.5% yield based on today’s price.

 


Confident in Theaters Coming Back: There seems to be this feeling that Netflix killed the theater. Wrong.

Look at box office sales over time:

You need to remember that because you may not go to the theaters, doesn’t mean others don’t. And the core  group of movie theater attenders area die hard group. I hate to bring it up, but people still went back to the movies following the Aurora, Colorado movie theater mass shooting. If they still go back after that, I am confident they will go back now. There have been no COVID-19 outbreaks linked to movie theaters yet.

APAC is the leading indicator – already snapped back:


PVOD (Premium Video on Demand) is not a solution right now:

Here’s Disney on the matter:

“So we’ve got a pretty robust slate. And once again, we hope that the theaters are open. A lot of our films are films that the people who choose to go to movie theaters, the experience is very different than what they would have at home. So when you look at our box-office numbers over the last couple of years, we have — we drive a lot of people into theaters to see the Disney films. These tent-pole films become kind of part of zeitgeist of culture, whether it’s Marvel, whether it’s Black Panther that was a couple of years ago, but these are movies that people like to see in theaters and talk to their friends about. So once again, we hope the theaters stay healthy and can rebound from this COVID world we’re living in now.”

What about Mulan? That was released on PVOD? Well, it wasn’t Disney’s first choice and it largely was not a success. Disney had said in the past as well that it would not have been released this way if it weren’t for Theaters being closed:

“Well that — it has had some, but that was not the primary reason that we chose to release it this way. We chose to release it this way because the release date — as some people who were following just what was going on with theaters not opening and just shift, shift, shift, we had moved the release date several times. And we believe that, that movie — given that there’s so little new content out, that the movie was done and we wanted to get it out in the public domain. And so we chose to do it this way because we believed that it was the best way to get to the most people for them to enjoy it.”

Here is Bob Iger on whether Disney+ will be the new way to release movies. He says this because he knows that Movie Theaters still generate the bulk of a film’s profits:

“The theatrical window is working for this company. And we have no plans to adjust it for our business. Your comment about how those companies are faring on the market, I think, maybe is a reflection of how the other movie companies are positioning their films and their business. We’re not the only movie company. We had the biggest box office, but we’re not the only movie company. And I suspect that it’s not due to us or either a lack of conviction on our part or any suspicion that we might be — that we might not beat on the truth. But we’re not — it’s working for us. And we have no plans in the foreseeable future to change it and that”

Now there is news that MGM wants to sell its latest James Bond movie. Apple and Netflix reportedly offered a couple hundred million dollars and MGM wanted $600MM. The PVOD offer likely would’ve led to a big loss. It had a $300MM budget plus they had already spent tens of millions on marketing. And another problem –  Daniel Craig and others own backend rights to the film based on how it does. This would’ve added to the cost of the film before MGM  made any money.

I am not concerned about theaters living or dying. I think they will be around for many, many years to come.


My base case for NCMI is to generate ~$109MM of FCF before working capital changes, but if I am wrong, I still think there is a ton of upside on the stock. As shown below, my discounted EBITDA shows ~18-19% FCF yield plus they will have roughly half their market cap in cash by the time they reach these numbers (currently have about 85% of market cap in cash).

In short, I think NCMI can double from here, maybe more. There is a huge film slate just waiting to come out, so I think the vaccine news is actually  game changing:


Obviously there are some risks. This company is tiny and while it may not have significant maturities until June 2023, its customers do. This can be complicated. You see, NCMI was founded as a JV between AMC, Regal, and Cinemark. They are the company’s largest customers, but also because it is a JV, they also own ~60% of the company.

AMC is the theater chain I am most concerned about filing for bankruptcy.  AMC could reject its contract with NCMI in bankruptcy. However, this would be messy as it would create a giant unsecured claim and NCMI might end up with a huge chunk of AMC equity. I think AMC would avoid this situation and likely just re-instate the contract, but it is something I am monitoring. AMC doing an out of court restructuring would be the best outcome here.

Time to Buy Berkshire Hathaway Stock $BRK

Reading Time: 3 minutes

I’ve been watching Berskhire Hathaway stock this year — as many investors do. Berkshire’s annual meeting was timed well as it came during the heat of the COVID-19 crisis. Many felt disappointed to hear (or decipher) that Buffett wasn’t leaning in to the downturn. He wasn’t deploying his “war chest” of $125Bn+ in cash. In fact, he sold his airline stakes, sold some banks, and Charlie Munger even mentioned some businesses might be shutdown. Buffett also mentioned that the amount of cash they have isn’t really a lot to them in the grand scheme of a panic.

Now with the S&P back up to near highs, many are calling out Buffett and saying he’s lost his touch. “Maybe he’s too old now” and “maybe he doesn’t care anymore now that he’s approaching 90 and loaded” or “maybe the oracle has lost his touch”.

I don’t really think that’s the case and think the negative sentiment creates an opportunity in Berkshire Hathaway stock. People who argue that Buffett is too old and “lost it” could have easily argued the same thing when he was 65 going on 70, 75 going to 80… Buffett has that itch that can’t be scratched.

I do think some of his methods are too old fashioned. I can’t actually confirm this is true, but he has said he won’t participate in auctions. What board would actually be able to justify selling to him without a second bid? Especially when times are good and they are a good business.

Do we see Buffett do another elephant sized deal? Maybe. Maybe not. As I’ve written before, I think we could see deals that are smaller than what people expect.  But either way, I don’t think the option value of some deal being done is being appropriately valued today.

I’m taking Berkshire Hathaway’s current market cap and subtracting the market values of his equity holdings (note, I pulled this from Bloomberg, so it may not be 100% accurate). I then subtracted the cash to arrive at the value the market is ascribing to the “core Berkshire Hathaway” business.

I say core, but in reality there are so many subsidiaries within Berkshire Hathaway. You have GEICO, Berkshire Hathaway Energy, BNSF, Precision Castparts, just to name a few well known ones. If interested, I highly recommend perusing the list of subsidiaries on Wikipedia. I bet there are quite a few you didn’t realize he owned.

At the end of the day, you’re being asked to pay <8x earnings for the collection of businesses that Warren has acquired AND you have free upside from the cash if it is ever deployed.

Frankly, the real upside in the stock may be 5-10 years away when Berkshire Hathaway is broken up and people realize the sum of the parts is worth more than the whole.

Either way, look at the impact of Berkshire going out and deploying cash. Earnings could likely go up 30% from where they currently are and even deploying the cash at a worse multiple than where Berkshire trades today (i.e. dilutive), you’re still paying <9x earnings.

B&G 2018 Wrap Up: Not even the Green Giant is immune to food sector challenges. Been wrong on the name so far, but reaction creates solid entry point + high dividend. $BGS

Reading Time: 3 minutes

B&G reported Q4’18 EBITDA of $59MM compared to $69MM in the prior year. While this was partially impacted by the sale of Pirate Brands to Hershey, it was still a tough comp due to input cost inflation (freight, procurement, as well as mix). As a result, EBITDA was 200bps lower as a % of sales than the prior year.

I expect B&G’s stock will react negatively to this (already down 10% after hours to $22) and I am disappointed with the stock’s performance since I wrote on it first in Aug 2017 (down ~25-30% depending on where it opens).

That said, I think there are a few positive take-aways from this quarter that will keep me grounded. Bottom line, I still think B&G is a long-term compounder. Food sector sentiment is particularly negative right now (especially with the KHC news) and 2019 should be an easier comp from a freight and inflation perspective.

  • Green Giant Continues to Grow at Attractive Levels, Despite Challenges in Shelf Stable:
    • Green Giant’s sales increased 4.9% this Q and grew 6.1% for the entire year. This has been mainly driven by new innovations in the frozen food aisle that have countered challenging trends in the canned, shelf stable category (down 8.2% for the year).
    • Part of the thesis in buying B&G is that these managers are good at buying mature assets, harvesting the cash, and restarting the process (rinse & repeat). They sold Pirates Booty to Hershey for $420MM after they bought it for $195MM in 2013. I continue to think Green Giant was a solid acquisition.
    • Given there are many other consumer staple brands struggling to date, I think this is an opportunity for B&G. They repaid $500MM of their TL with help of the Pirates’ sale so that also adds some capacity.
  • Company is managing other mature brands well. Would you have believed me if I said Cream of Wheat increased sales 4.3% this Q? Or Ortega was up 7.2%? Excluding Victoria, which saw a $2.5MM decrease in sales from a shift in promotional activity, I think the company is doing a good job with this portfolio.
  • Continues to generate significant FCF to support dividend. B&G pays $1.90 dividend which based on the after-hours quoted price currently amounts to a 8.6% yield. Typically, dividend yields that high imply the market thinks there is risk of being cut. Setting aside the fact that the company generated $165MM of FCF this year (reduced a lot of inventory), I still think the dividend is covered.
    • Using ~66MM shares outstanding, this implies a $125MM cash use.
    • Based on the company’s guidance range, this implies you are ~1.3-1.4x covered.
    • Said another way, based on my FCF walk, we would need to see EBITDA decline 17% from the mid-point of guidance for it to be 1.0x covered.
BGS Dividend RIsk

Personally, I’d prefer if the company bought back a significant amount of stock at these levels. Unfortunately, the stigma of keeping a dividend out there forever (which is dumb) prevents that from happening (as the stock would get crushed).

Guide from the company:

BGS Guidance

Growth Pays for a lot of Sins: A Case for Facebook Stock

Reading Time: 6 minutesAs I covered in my case study post, when companies face transition periods, investors often shoot first and ask questions later. This happens even when the company is growing well (i.e. its a “growth stock“). This often results in leaving significant money on the table. I think this is the case with Facebook stock.

Investors talk themselves out of investing in great businesses for a variety of reasons, but I usually boil short-term blips down to this internal statement:

“This [current trend] may get worse in the near term, perhaps also longer term, so I’m not comfortable investing yet”

Investing will always have uncertainty and that’s the risk. But that is also precisely why the returns are higher for those investors that can see through the fog of negative headlines or short-term roadblocks and make superior results.

I think Facebook today is in such a situation. The company is facing negative headlines on a variety of fronts, but mainly related to how we will deal with privacy in this new age.

My thesis for Facebook stock looks through to the future and comes down to the following points:

  • Facebook is a dominant platform with 2.5 billion unique users
  • Advertising via social media platforms is still in its infancy
  • The ROI advertisers receive from using social media platforms is much higher than traditional methods, which will grow the pie
  • Expect high growth from FB as it monetizes Facebook and ramps Instagram, video, Whatsapp and FB messenger

Before I get to the positives, my guess is that you are likely reading this and saying, “yeah, yeah blah blah, I’ve heard that story before. But what is Facebook going to do in a more privacy concerned market?”

One big concern, is the new legislation in the EU called GDPR (General Data Protection Regulation) which went into effect in May of 2018. The purpose of the legislation was to give consumers more control over their  personal information.

You probably have noticed the pop-ups asking if you are OK with websites collecting cookies and this is why that exists. GDPR applies to all companies processing and holding personal data of consumers residing in the EU, irrespective of the company’s location.

This has created uncertainty for digital advertisers as it creates additional friction in the process (i.e. users must opt-in, which may mean less data is available). However, I think Facebook is practically embedded with users’ daily lives which is a strong benefit. In other words, users are already proactively sharing personal data on a daily basis.

I assert that Facebook’s platform then is one of the best positioned to deal with this new regulation.

I think Facebook and Google could likely update their terms of service which would permit Facebook to continue their existing path. In any case, if users do not accept, the downside is that Facebook will show non-personalized ads. Worth less to advertisers, but still worth something.

In addition, similar to my discussion on why sin stocks outperform, I think this entrenches Facebook’s leadership position going forward, meaning that it will be much harder for new social media platforms to launch.

Just like when tobacco advertising was outlawed, it effectively barred new brand entrants, more onerous restrictions on data may make it difficult for new platforms to launch and “steal” users / vie for advertising dollars.

Bottom Line: Transition periods can be painful, and more regulation likely is coming, but in assessing whether this is a lot of noise or whether the business model is impaired, I go with the former.

That is what I mean by growth paying for sins — eventually investors will have to look at Facebook’s growth in earnings and want a piece of Facebook stock.


Back to the positives

I’ll make this brief, as I tie much of the positives into the growth / valuation discussed below, but I think there is a chance that not only are investors being overly punitive on FB, they are missing the long positive road ahead of its platforms.

At this point, I think we all can see the value of Instagram as the Company’s next growth engine. It has become just as ubiquitous with millennials as Facebook was and is. The interesting turns are how the company has monetized the business. Advertisers are obviously involved now, and the ads placed represent high return on investment for them. In addition, some polls have showed that people, if they had to choose, enjoy ads that are more personalized to them, rather than random ones that do not apply.

Now I have seen shopping on the platform, which is so early in its stages, I do not think Wallstreet understands the opportunity. Facebook can now move from just an ad platform to possibly taking a modest skim off of items sold on the platform, similar to eBay’s business model.  FB Shopping.PNG

Lastly, Facebook has just launched ads on Whatsapp, the messaging platform with 1.5 billion users. Is this priced into the stock today? I’d argue not. Most sell-side models break out the company’s revenue into Facebook Ads, Payments, Instagram, and Oculus. Turning the switch on for Whatsapp could be a large incremental opportunity that is not accounted for.


Facebook Stock Valuation

Now to get back to what I entitled this pitch: Growth can pay for a lot of sins. And that makes Facebook stock attractive.

With Facebook growing at 17% per year on the top line from 2018-2021, that growth can offset a lot. Of course, you have to bank on that occurring, but let me run through some numbers.

Even with assumed margin headwinds from additional investments in securing data and privacy initiatives (I model EBITDA margins moving from 66.5% of sales in 2017 to 60.0% of sales by 2021), the company grows EBITDA at a ~17% rate. Despite some capex spend to support growth, the company generates good FCF and as you can see, that cash builds over time (the company is already in a net cash position).

FB Cap table

This means we are essentially buying Facebook stock for 7.2x 2021 EBITDA, which is very low. What multiple should the company trade at at that time?

I would argue for a very high multiple driven by the company’s high return on invested capital (ROIC).

If you want to learn more about the relationship between ROIC and EV/EBITDA multiples, I highly suggest you read Michael Mauboussin’s recent article here and also this baseline one here for more. In it, he explains that what matters is investing in companies that generate a positive return on newly invested capital, in excess of their weighted-average cost of capital. It makes intuitive sense to me… if I am continuously investing new capital in projects that don’t earn my cost of capital, that destroys value.

As shown, Facebook is clearly earning well in excess of its cost of capital. This makes sense given how much operating leverage the company has. It is similar to an old newspaper model which also has substantial operating leverage — a newspaper with 1 advertisement slot that widens it to 2 slots will earn very large incremental returns on that second ad slot sold. The same is true of Facebook and its various platforms.

There are limits, of course. With return metrics like these, we should hope Facebook reinvests every dollar possible into its business and see stellar return prospects, but that is not always possible.

FB ROIC

(note, NOPAT = Net Operating Profit After Tax)

Either way, I think Facebook stock is grossly undervalued at current levels. Currently, the median S&P 500 company trades at 13.7x EBITDA. Do I think a company that earns nearly all the capital it invests back in one year as better than average? You bet I do. If Facebook trades at just 10x EBITDA in 2021 (which is closer than you think), that foots to $215 stock under my estimates. That is ~33% upside, or ~10% CAGR.

Although I do not think the company is worth 10.0x, I think using a 10.0x multiple accounts for a couple things . It helps handicap for whether or not I am wrong on my thoughts on the stock performing amidst all of this political uncertainty. However, on the high end, you can see the result looks very, very attractive.

FB Price Target

The bottom line is, it is very hard to see over the medium-to-long term how you lose money in a company growing earnings as fast as Facebook is and at the quality it is. This ties back to my thoughts on growth vs. value stocks (i.e. Facebook is a growth company, but still is a value).

What are your thoughts?

-DD

Stock Pitch: Hostess Brands

Reading Time: 4 minutes“I can understand [Coca cola]… Anyone can understand [it]… It’s a simple business.”

Today’s stock pitch is a simple business. It’s easy to understand and in many ways, it is very similar to Warren Buffet’s Coke investment. And that is… Hostess Brands! That’s right – the maker of Twinkies, Ho-Hos and Ding-dongs, is making a pitch appearance.

Hostess_Comeback_IB

Food staple stocks have been under pressure recently, relatively speaking. Call it sector rotation or moving out of bond proxy stocks (i.e. those equities viewed as safe enough to move into when interest rates are too low), but the indiscriminate selling as opened up buying opportunities.

So what’s the pitch for Hostess Brands?

  • Strong brand name
  • Great return metrics (high EBITDA margins, little capex)
  • Very stable business (people don’t stop eating Twinkies in a recession)
  • The stock may be looked over due to misguided perception of healthy vs. indulgent snacking
  • Plenty of white space to drive growth

But DD – aren’t Twinkies bad for you and isn’t that segment shrinking?

Good question Reader, but the answer is yes and no. I will just note that a Twinkie is only 135 calories – that’s less than half the calories of a Twix bar. But, yes the health-conscious segment is growing, but the indulgent snack trend is still strong. In fact,  indulgent snacks have posted low single digit growth rates over the past several years, roughly in-line with healthy snacks (3.1% and 3.4% in 2014 & 2015 respectively vs. 2.5% and 3.8% for healthy snacks).

Ok, even if that’s true, didn’t Hostess declare bankruptcy? Yes! But it has emerged as a much stronger company. Hostess’ previous distribution strategy drove it into bankruptcy. Hostess declared Ch. 7 bankruptcy, which means it went into liquidation. After selling some brands (Wonderbread) and shedding liabilities (pension etc.), Apollo bought the Hostess brand name and reinvested in the business, utilizing automation and a direct distribution strategy to drive efficiency. The table below summarizes it well.

Hostess_ before and after

It should be noted that since Hostess entered Ch. 7, its products were pulled from the shelves and competitors took market share. Now that Hostess is back, one reason why it is growing well is simply that it is regaining that market share.

TWNK Oldco

Another reason why I like Hostess is simply the amount of white space available to the company. With the acquisition of Superior Cake the company entered a new space of in-bakery items. Hostess has since then launched a series of peanut butter products, deep fried Twinkies, and chocolate covered items. New product introductions like these should drive better than GDP growth over the long-run.

Superior Cake

Another way Hostess can drive growth is geographic white space. Its mostly a U.S. company today and I could easily see a launch of Hostess products moving into Mexico and South America, where Grupo Bimbo dominates.

“Coke’s moat is wider than it was thirty years ago. You can’t see the moat day by day, but every time the infrastructure gets built in some country that isn’t yet profitable for Coke, but will be twenty years from now, the moat is widening a little bit… That’s the business that I’m looking for. Now what kind of businesses am I going to find like that… I’m going to find them in simple products. Because I’m not going to be able to figure out what the moat is going to look like for Oracle, or Lotus, or Microsoft ten years from now…”

Financials & Valuation

Aside from good growth, I really like the free cash flow characteristics of Hostess’ business. With 30% EBITDA margins and capex (including growth capex) at around 5% of sales, that means a lot of earnings translate into free cash.

And given these goods cash flow characteristics, strong brand value of Hostess I would put Hostess’ valuation in the top tier of peers. But when we look at where the comps trade, there is clearly a dislocation and opportunity for investors.

TWNK comps

I think Hostess should trade at 13x EBITDA, and perhaps higher. As seen at the bottom of my model snapshot, this is pretty close to a 5% FCF yield, which I think is fair. For this point, I’d also like to highight how much cash builds on Hostess’ balance sheet. It is unlikely that they just sit on this cash – this will likely go to acquisitions, share buybacks, or even eventually, a dividend.

TWNK Model Summary

This is the time to bring up the fact that the CEO is leaving. He is well respected in the industry and I can’t say this isn’t a loss for the company. I do still like that Dean Metropoulous will remain executive chairman, a leader who has more than 30 years of experience in the food & beverage space.

What do you guys think? Let me know if you guys have any thoughts or questions.

-Diligent Dollar