May 08, 2009 - 11:34am EST by
2009 2010
Price: 1.39 EPS $0.33 $0.48
Shares Out. (in M): 519 P/E 4.0x 3.0x
Market Cap (in $M): 721 P/FCF 4.0x 3.0x
Net Debt (in $M): -650 EBIT 264 380
TEV (in $M): 71 TEV/EBIT 0.3x 0.2x

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Liberty Entertainment Group (LMDIA) is the tracking stock of Liberty Media Corp. that corresponds to its 54% ownership stake in DirectTV (DTV), 100% ownership of premium network Starz/Encore, and full and partial ownership of several other entertainment properties.  LMDIA had been in the process of splitting itself apart in order to close the valuation gap between its DTV ownership and that of publicly traded DTV stock, likely through a 2 step process of first splitting LMDIA into 2 and then merging the DTV piece with public DTV.  Earlier this week, DTV and Liberty Media announced a definitive agreement for a combination.

While setting up this stub is balance sheet intensive, at $1.39, you are getting almost the entire market cap (90%) in cash as well as getting the business for roughly 3x 2009 EPS, for growing cash generating business.

 Step 1: Split of LMDIA assets into 2 groups, LEI and Liberty Starz




Liberty Starz

DTV stock



3 Regional Sports Networks

37% of Wildblue

Game Show Network



Fun Technologies



$30mm cash


$650mm in cash

$2bn debt




Step 2: Merge DTV and LEI

 The Liberty Starz stub is created by owning LMDIA and shorting DTV in a 1:1 ratio.  Once the split off/merger process is complete, for every share owned of LMDIA, you will receive 1 share of DTV and retain ownership of the Liberty Starz stub.  The current stub price is $1.35.


Due to the somewhat complicated structure of this investment, you have the opportunity to get a terrific asset for free, since the stub has cash equivalent to its price.  The major asset is the Starz and Encore premium network which consists of 16 total channels.  Its main focus is on first-run films and in recent years has expanded into some original programming.  It has no advertising exposure.  The other assets have minimal financial impact and are not important to the thesis.


Operating and financial metrics for Starz have been moving strongly in the right direction. 

 Starz networks occupy 3 of the top 5 slots in terms of number of minutes viewed on-demand.  Starz networks occupy the top 3 slots of high definition on-demand viewership.  For the first time, Starz channels attained a #1 rating for premium channels in many weeks in 2008. 


Q1 09 was reported today and was very strong.  Revenue was up 8% and adjusted OIBDA was up 46%.  The revenue increase was due to an increase in rates and subscribers.  Operating expenses declined 6% due to a reduction in license fees and G&A.   License fees were down as they shifted the mix of programming away from first-run releases towards older movies.  Our 2009 projections imply much slower growth than the run-rate of Q1 09. 

 We believe this high quality business is worth 8x EBITDA, which corresponds to $5.43 and a PE multiple of 14x 2009.  Cash/share is $1.25 which roughly corresponds to the current stub price, meaning you are getting the Starz assets (and the other smaller assets) for free.  After applying a 20% discount for the tracking stock structure, we arrive at a total value of $5.53 (giving no credit to Pickspal and Fanball).  This is worth more than 4x the current stub price and we expect to realize this value in 6 - 9 months.  The company believes that the transaction will be complete in Q4 09.  We believe this is a compelling way to obtain a high quality, low-risk business for free.


-Receipt of IRS letter and tax counsel opinion indicating tax-free nature of the split and merger

-FCC approval

-Approval of both DTV and LMDIA shareholders

-Investors/analysts focusing on Starz financials once structure is simplified


-Deal with DTV breaks or is recut (we believe this is very unlikely since DTV paid only an implied low single digit premium in the merger)

-Holdco discount is larger than we anticipate



-Receipt of IRS letter and tax counsel opinion indicating tax-free nature of the split and merger

-FCC approval

-Approval of both DTV and LMDIA shareholders

-Investors/analysts focusing on Starz financials once structure is simplified

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