Liberty/Malone update

In my opinion, there continues to be opportunities in Liberty Media (LMCA/B).  It is a wonderful business with excellent managers at a fair price.

LMCA closed today at $135.25.

Which piece of Malone’s empire is worth buying?

Here’s the easy answer: look at John Malone’s insider trading.  Yahoo Finance has a convenient summary of his trades but it has a number of inaccuracies.  It is best to use EDGAR and to look up all of the filings for “Malone John C”.

  • ASCMB:  Sold $32.7M in supervoting shares on October 25, 2013.  (Source: form 4.)  That Malone is selling supervoting shares suggests that he is leaving.
  • STRZA:  Sold $5m on August 8 and 9, 2013.  (Source: form 4.)
  • LBTYA:  Sold $12.1M in shares on August 8 and 9, 2013.  (Source: form 4.)
  • DISCK:  Sold $3.4M in shares on August 8, 2013.  (Source: form 4.)  Sold $6.7M in shares on August 9, 2013.  (Source: form 4.)
  • LINTA:  Sold $7.9M in shares on August 8, 2013.  (Source: form 4.)
  • LVNTA:  Sold $2.8M in shares on August 8, 2013.  (Source: form 4.)  On Nov. 26, 2013 he exercised deep-in-the-money options early and sold more shares of LINTA and LVNTA (form 4).
  • LMCA/B:  On Dec 23, 2013 Malone swapped 745,816 A shares for 678,015 supervoting B shares with Robert Bennett, one of his lieutenants.  The ratio is 1.1:1.  (Source: SC 13D/A.)
  • DTV: Malone is no longer an insider and doesn’t have to report trades.  For Malone to give up control is unusual.  He learned the hard way (from AT&T) that control is critical to protecting your money.  He almost gained full control of DTV but ultimately DTV management paid Malone to go away.

The big picture is that Malone hasn’t sold shares in LMCA/B.  This is the only piece of his empire where he clearly isn’t selling.  At the moment, it is also the piece of his empire where he has been putting his best ideas like Charter (Liberty Global and Ventures would have been more appropriate homes for Charter in my opinion).

LMCA/B update

Liberty Media has attracted the media attention lately due to takeover speculation regarding Charter/Time Warner Cable and Liberty/Sirius XM.  I think that investors should largely ignore the media.  Journalists like to speculate over takeovers because those situations can be turned into dramatic stories.  It is hard to tell compelling stories about arcane tax strategies, share repurchases, and the subtle ways in which Malone preys on bondholders.

In my opinion, the big picture is that shareholder returns will largely be driven by the underlying businesses.  The businesses that grow their earnings the most will likely generate the greatest shareholder return.  Tax avoidance, mergers/takeovers, share repurchases, etc. are simply gravy on top of that.

Most of Liberty’s value is tied up in two wonderful businesses:

  1. Sirius XM.
  2. Charter Communications.

Sirius XM

Sirius enjoys economies of scale and limited competition.  I don’t think that anybody will start a competing satellite radio service anytime soon.  Both Sirius and XM lost billions of dollars as standalone companies before their merger.  The merged company itself also went bankrupt (SIRI shareholders were saved by Liberty’s last-minute investment).  Breaking into satellite radio now will be even more expensive as Sirius is now the entrenched incumbent.  It will take billions of dollars and years to secure bandwidth, a FCC license, content (most of which is locked up in multi-year contracts), increase the penetration of compatible radios, acquire new customers, etc. etc.

In the coming years, Sirius will face more competition from Internet radio streamed over a cell phone (or other wireless connection).  I think that the various technologies will carve up the available market share similar to the current situation with video.  (Video content is delivered over coaxial cables (cable), phone lines, fibre optics, via satellite, and via over-the-air broadcasting.)  In radio, it could be the case that both satellite and Internet radio will take a larger chunk of market share at the expense of competing technologies.  Obviously the threat to Sirius is if Internet radio gains market share at the expense of Sirius.  Currently, Sirius continues to grow revenues and gain new subscribers despite the existence of Pandora, Spotify, and other Internet radio services.

Charter

Tom Rutledge, Charter’s CEO, is generally regarded as one of the best cable operators around.  Charter’s earnings should grow as Rutledge turns around this formerly poorly-managed cable company.  There is some additional upside as Charter looks to increase its revenues per customer from increasing its penetration of high-speed broadband Internet services.

The proposed spinoff

On March 13, Liberty announced that it was (A) pulling its bid to takeover Sirius XM and (B) planning to split Liberty into two tracking stocks.  The press release is on Liberty’s website.  The proposed spinoff will break assets off into Liberty Broadband which will have the ticker symbols LBRDA and LBRDB.  Liberty Broadband will consist of:

  • Charter shares.
  • Time Warner Cable shares.
  • Call option liability associated with Liberty’s Time Warner Cable Inc. shares.
  • TruePosition and its liabilities.  True Position is a small company that makes technology that helps authorities locate the location of cell phones in 911 calls.
  • A note obligation from the Liberty Broadband Group to the Liberty Media Group.
  • Cash from a rights offering for LBRDA shares.

Here’s my take on the proposed plan.

I predict that LBRDA will likely have some complicated derivatives associated with it.  Liberty Media already has convertible debentures that can be converted into shares of TWC.  It looks like all of this debt or just the complicated derivative portion of it will be a part of LBRDA.

Secondly, LBRDA will be more difficult to understand due to the inclusion of True Position.  LBRDA doesn’t seem like it will be a ‘pure play’ cable company.  Overall, I think that LBRDA will have a good chance of being misunderstood by Wall Street.  Malone may be hoping that the complicated structure will depress LBRDA’s share price and create opportunities for him to buy undervalued shares.  Certainly by breaking up the company, he is creating more “opportunities” for investors to make mistakes.  The upside is that the shares may trade at inappropriate valuations.

From a business perspective, this paper shuffling doesn’t make a lot of sense.  A rights offering will raise capital.  However, Liberty Media has been returning capital to shareholders via share repurchases.  Raising and “unraising” capital is basically an exercise in unnecessary paper shuffling.

Another way of looking at the rights offering is that it allows Malone to “buy” a large block of Liberty shares.  Suppose that the company was a single entity.  The net effect of the share repurchases and the rights offering is that Malone is spending money on shares and increasing his stake in Liberty.  The end result is the same as Malone purchasing shares of Liberty on the open market.

A possible explanation of the rights offering is that it alters the supply/demand situation for Liberty stock.  A rights offering increases the supply of shares and may theoretically help to drive the share price down.  This is “desirable” for Malone as it allows Liberty to repurchase undervalued shares.  (It is also arguably harmful to shareholders who are selling undervalued shares.)

Trackers make things unnecessarily complicated

One of the problems with the tracking stock structure is that the trackers are liable for each others’ obligations.  If one tracker blows up, the other trackers will still have to pay off the overall company’s debt.  If there are concerns over a tracker’s ability to remain solvent, then analyzing any of the other tracking stocks will also require the analysis of any risky tracking stocks.  If the LBRDA spinoff will be structured like the LVNTA/LINTA split, then LBRDA will be highly leveraged and there will be some concerns about its ability to cover its obligations.  In theory, the rights offering is supposed to mitigate these concerns as it injects capital into the precarious tracker.  However, it is uncertain how much money the rights offering will raise (this is an inherent and possibly intentional “flaw” of the spinoff plan).  On top of that, Malone likes to leverage his companies to the hilt.  A thorough analysis of any particular tracking stock will likely require an analysis of all the tracking stocks.  Not only do you have to analyze all of the parts but you also have to analyze the tracking stock structure itself.  I think that Liberty is easier to analyze without the tracking stock structure.

Links

Tracking John Malone (Part 1 of 4) – My explanation of John Malone and his empire.

More new positions Dec 20, 2013 – Brief commentary on Liberty Media.

Liberty Media update: the proposed SIRI takeover – Quick commentary on Liberty’s proposed takeover of SIRI (which was recently cancelled).

*Disclosure:  Long LMCA.

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