Want a stock with a high yield and the potential for a merger?

I don’t usually consider buying shares in companies facing industry headwinds, but I confess I’ve made an exception for Prime Media (ASX: PRT). Prime Media broadcasts television to regional Australia under the brands PRIME7 and (in Western Australia), GWN7. It pays a license fee to broadcast Channel 7 content, and makes its money by selling advertising. Prime is the regional affiliate of Seven West Media (ASX: SWM).

I first bought shares in 2012, when they were drastically undervalued (at 68c), and were paying a dividend of 6.6c per year (thanks to  an article by Richard Hemming in the Sydney Morning Herald). The share price has risen since then, to about $1.10, and until recently I considered the current price unattractive. In part, the rising share price was due to the fact that the company increased its interim dividend to 4c in the last half. I don’t think the directors would have done this unless they were planning increase the final dividend to 4c as well.

Until recently, Prime owned a perennially underperforming radio division, which it wrote down to the tune of $15 million in the first half of 2013. And that wasn’t the only reason I cooled on Prime (despite the increased dividend). When it reported its results last half, cash flow was negative and, significantly, debt had increased. While I can live with a single half of poor cash flow, I would almost certainly sell my shares if they repeat that performance when they announce their full year results on 28 August. I would also probably sell if the final dividend is less than 4c.

So what’s changed? Well, Prime recently announced that it sold its 10 radio licenses for just under $25 million (the assets were on the book for $26.6 million). While this is not a particularly wonderful price for Prime, it’s worth keeping in mind that in 2012, EBIT for the radio group was a loss of $1.5 million. Not the kind of business you want to own, especially when it is distracting your managers from the core business (which is selling television advertising). Happily, the company will use the cash to pay down debt.

There are also legislative changes that could benefit Prime. Motley Fool contributor Tom Richardson has covered the potential changes to the ‘reach rule’ in this excellent article. Suffice it to say, this rule currently prevents Seven West Media broadcasting to regional areas, necessitating the existence of Prime Media as a separate company. However, the rule is likely to be changed if the Coalition gains power at the election (after all, Rupert wants it changed).

It’s worth noting that Seven Group Holdings (ASX: SVW) already owns 11.4% of Prime Media. Don’t get caught up in the specifics; both Seven Group and Seven West are part of Kerry Stokes’ business empire. Stokes opposes the rule change (and therefore probably doesn’t want to buy Prime), but I think if the rule is changed, market speculators will push up the price of Prime shares anyway. Aside from that, a takeover (by anyone) is more likely now that Prime has rid itself of the radio business.

A word of caution is required here. With Prime Media, I am diverging from my usual investment philosophy. I don’t usually think about takeovers, and this feels like speculation to me (but for the dividend yield). I couldn’t help notice that on Tuesday the Australian Financial Review published an article titled “Prime Media Ripe for the Picking: Credit Suisse.”

Foolish Takeaway

This tiny holding is just a bit of fun for me. There are currently less 10,000 shares on offer at under $1.12, and sellers have dried up in the last few days; don’t chase it up. Prime is far from my best pick, but I figure that the company will probably pay a fully-franked dividend of 8c this year, which amounts to over 10% including franking credits. If I do miss out on further capital appreciation, I should at least have a good dividend to console me.

Interested in a dividend-paying stock you can hold for the long term? Discover The Motley Fool’s favourite income idea for 2013-2014 in our brand-new, FREE research report, including a full investment analysis! Simply click here for your FREE copy of “The Motley Fool’s Top Dividend Stock for 2013-2014.

More reading

Motley Fool contributor Claude Walker does owns shares in Prime Media. Find him on Twitter @claudedwalker.

Two New Stock Picks Every Month!

Not to alarm you, but you’re about to miss a very important event! Chief Investment Advisor Scott Phillips and his team at Motley Fool Share Advisor are about to reveal their latest official stock recommendation. The premium “buy alert” will be unveiled to members and you can be among the first to act on the tip.

Don’t let this opportunity pass you by – this is your chance to get in early!

Simply enter your email now to find out how you can get instant access.

By clicking this button, you agree to our Terms of Service and Privacy Policy. We will use your email address only to keep you informed about updates to our website and about other products and services we think might interest you. You can unsubscribe from Take Stock at anytime. Please refer to our Financial Services Guide (FSG) for more information.