The trials and tribulations at Nine Entertainment (aka CVC) have been well documented from the perspective of the damaging effect caused by the inflated price paid by CVC for the business. What hasn't been discussed in any serious way has been the trading performance of Nine Entertainment under the leadership of David Gyngell and what that may mean for whoever will be the future owners of the business.
Debt is one thing but the trading performance and profit is an entirely different matter and if trading results determine how Gyngell should rate in the CEO role he coveted and was ultimately granted, then many would argue he has some explaining to do. More importantly there is the critical issue of the future owner(s) having confidence whatever is left of Nine Entertainment can actually realise a return on their investment.
People can already sense an element of over-promise and under-deliver at work with the latest five-year plan Nine Entertainment put forward in recent weeks projecting EBITDA growth of 7% against revenue growth of 3%. That seems to equate to the unlikely scenario of Gyngell overseeing cuts in costs of about $40 million a year assuming the revenue growth target of 3% is achieved -- another target that seems highly doubtful based on recent history.
Hopefully the prospective new owner(s) will realise for their own sake the five-year forecast they have been supplied may well prove to be the stuff of fairytales. They only have to look at Nine Entertainment's trading over the past two or so years to see what the real trends are and how dire the situation remains.
What's more, the projected growth in profit is apparently going to happen despite some significant hits coming Nine's way. The NRL rights will cost Nine an additional $50 million a year from this year for a start, and next season's production of The Voice,
which was the only real stand-out in Nine’s programming schedule this year, will cost a lot more than the $20 million or so paid by Nine in its debut year. This is quite apart from any new programs Nine will commit to, as it must, if it is to have any chance of winning a greater share of the advertising pie.
Then there are the broadcast rights for cricket due to be completed some time this financial year, which no doubt will require a lot more than Nine has paid previously, plus the next Olympic Games, assuming Nine is going to have a crack at that again.
It is also against a backdrop where Nine’s major programming investments over the past couple of years have delivered whopping losses pretty much across the board. The latest example was of course the London Olympic Games, which delivered a net loss of about $40 million to the network and worse still didn't deliver the hoped for flow-on effect for Nine’s program schedule post-Olympics.
Currently Nine is achieving a profit margin of something like 15 to 18 cents in the dollar. So, for starters, Nine will have to either generate something like an additional $350 million in advertising income a year based on those margins to recover the additional investment cost for the NRL rights or cut its costs drastically just to remain neutral against the year just completed. This is before achieving the EBITDA and revenue growth now being projected in the latest five-year plan.
The truth is if Nine Entertainment's trading performance to date was open to the same scrutiny as Ten, Seven, Fairfax and APN (to name a few) it's more than a fair bet the company's performance would be seen in a far different and less complimentary light, which is probably why prospective owners Apollo and Oaktree are baulking at the debt-for-equity swap structure proposed by Goldman Sachs and CVC.
Take it as read there are those with experience in this who believe Nine Entertainment’s trading performance has been arguably as bad as Ten's or Fairfax's and certainly light years behind Seven's -- an important point as the various suitors continue their discussions with CVC and Goldman Sachs about trading their debt for equity in the company.
For a true assessment of Nine Entertainment (and Gyngell’s performance as CEO) you must look to what was there before and what is there now. Take ACP Magazines, about to be sold to the Bauer Group for about $500 million. The sale price indicates ACP’s latest full-year earnings were something like $70 million to $80 million if we accept Bauer bought based on a multiple to earnings of six or seven times. Yet, ACP Magazines was making north of $100 million even at the height of the global financial crisis in and beyond into 2010. On those estimates ACP Magazines has suffered profit declines over the past two years of something like 30-40%.
And what about David Gyngell’s baby and where his skills are claimed to be the strongest, the Nine Network, which is now pretty much all that is left of the once mighty media business created and operated by the Packer family? Despite all the hype about how well Nine has rated of late, the Nine Network continues to seriously struggle and that’s because Nine’s cost base is way too high and the revenue way too low, even after some improved share at the expense of Ten. One wonders how much worse Nine’s outcomes would have been had Ten’s program schedule not imploded.
Gyngell has always maintained high-priced programs ultimately get the ratings and therefore a larger slice of the television ad revenue pie. His mantra is television businesses have to spend their way to profit rather than cutting the cloth to suit the circumstances. It’s risky business because high-cost productions will really belt you if they fail to deliver ratings and therefore the revenue, which is precisely what has and is happening at Nine.
This spend theory worked when Kerry Packer owned Nine because he had deep pockets and was willing to spend to be No.1. It was also a time when free-to-air television didn’t have the competition it does now. In any event, it certainly doesn’t work when the owner(s) have borrowed too much and their only desire is to depart the scene.
Take out the The Voice
, take out The Block
, take out the Olympics and what have you got on Nine’s schedule … Big Brother
? In any event not a whole lot and certainly not value in terms of profit.
Gyngell has used the past two-plus years spending big in his quest to capture ratings but in truth all he has achieved is year-on-year profit decline. The ongoing problem the new owners will have to face is Gyngell will want to continue with this agenda if he stays true to form even though it clearly doesn’t work in a day and age when Nine’s owners are likely to be short-term investors.
The 2012 year just ended saw Nine Network book earnings of about $150 million to $180 million off revenue of about $1 billion. To put that in context, before David Gyngell took control of what was then known as PBL Media, the business was forecasting EBITDA of at least $550 million for 2010-11 -- that was the period on the tail end of the GFC. Of that $550 million, the Nine Network was forecasting a contribution of more than $300 million on revenues equivalent to what the Nine Network achieves now.
This year Nine Entertainment (including contributions from Ninemsn and Ticketek but excluding ACP) is forecasting EBITDA of about $250 million, a reduction by the way of about $40 million or about 16% from the previous guidance delivered to Nine’s owners only a few short months beforehand. (Remember back in April when Seven Media announced a similar profit downgrade and was subsequently hammered by the sharemarket and analysts?)
Ian Law left PBL Media in November 2010 and a pumped-up Gyngell immediately went on a spending spree and even changed the company name to Nine Entertainment at some considerable cost for no known benefit. The newly named Nine Entertainment’s profits for the 2010-11 year went south in those remaining six months and profits at Nine have continued to decline year on year ever since.
So since Gyngell took control two-plus years ago, the profits of the Nine Network have just about halved from what was being forecast for 2010-11.
It has also been interesting to see a quiet campaign begin suggesting the future owners of whatever is left of Nine Entertainment start "locking Gyngell into a new contract" when and if they finally get control so Gyngell can "continue rebuilding the business". Truly bizarre!
And whoever ends up owning Nine Entertainment better be ready for the tantrums if they seek to take the business down a road that Gyngell doesn’t want to travel. In 2010 when James Packer and Lachlan Murdoch were buying a large slice of Ten’s shareholding and CVC was actively considering floating PBL Media, the rumours were rife Gyngell had threatened to leave PBL Media to take the CEO’s role at Ten or at Seven unless he got the lolly as CEO of PBL Media.
Law, the CEO who had steered PBL Media through all the travails created by the high-paying CVC and the GFC, had the business positioned where it could finally see a light at the end of what had been a very long, dark tunnel. But it seemed the prospect of Gyngell walking was too much for CVC. They were in the frame of mind to float the business at that time and they believed losing Gyngell would not be a good look to potential investors. They decided a better look was to dispense with Ian Law. CVC was convinced Gyngell was the man who could take them to the promised land of floats and big returns on their investment.
So CVC punted Law and signed Gyngell who didn’t miss that opportunity either with a four-year contract at $5 million a year -- more than double what CVC had been paying Law.
Since then Nine Entertainment has continued its decline as costs grew and revenues declined, as the hopes of a float evaporated and with it CVC’s aspirations to exit with at least something to show for their investment and finally as important pillars of the business such as ACP Magazines and a majority holding in Carsales subsequently had to be sold off to reduce the debt level.
And the immediate future isn’t looking any rosier, with the advertising market looking at best benign, which is again why the five-year forecast being touted by Nine Entertainment looks extremely doubtful.
As the carve-up of Nine Entertainment’s ownership continues and the profits once achieved a little more than two years ago continue to evaporate any future owner(s) should bear all this in mind. Based on recent history it is a likely bet whoever ends up owning Nine Entertainment will need to continue paying David Gyngell twice the money for half the result.
Little wonder therefore Oaktree and Apollo aren’t keen on doing anything but squeezing Goldman and CVC for the best deal they can for the business. It is likely they will need as much headroom as possible if they also have to contend with Gyngell’s penchant for spending whatever is necessary in what many say is the forlorn hope Nine can return to its former days of glory.