Nine Entertainment Co Holdings Ltd's (ASX: NEC) shares have plunged more than 16% today to around $1.66 after the broadcaster released a profit downgrade after the market closed last Friday.
If there's one thing markets don't like, it's a profit warning released on Fridays after the market has closed. As colleague Andrew Mudie explained earlier today, the free-to-air TV industry could be about to see a massive meltdown.
Nine came out on Friday and announced that it expected earnings before interest, tax, depreciation and amortisation (EBITDA) for the full year to 30 June 2015 to be in the range of $285 to $290 million. The free-to-air broadcaster had guided to similar results as last financial year of around $311 million.
Nine says free-to-air advertising in the second-half is expected to be in low single-digit decline, driven by softening conditions in May and June. Any coincidence that streaming media giant Netflix arrived in Australia at the end of March and has seen a huge take-up already?
Advertising on free-to-air may well be experiencing similar declines as newspapers have already found out – an issue I've been harping on for years. Basically, with ad revenues for free-to-air TV falling, the sector can't support 3 commercial broadcasters.
That will impact on all three commercial networks, although Seven West Media Ltd (ASX: SWM) reconfirmed today that it expects an underlying net profit after tax of between $205 and $215 million. Clearly, being the market leader has its benefits, although it could also point to the fact that Nine's management had unrealistic expectations for this financial year.
Ten Network Holdings Limited (ASX: TEN) has virtually put itself up for sale, with pay –TV operator Foxtel reported to be looking to invest in Ten through a joint venture. In late April, Ten booked a $264 million loss after taking a one-off hit to its television licence of $251 million, and falling revenues.
Nine debuted on the ASX in December 2013, at a share price of $2.05, but shares have gone nowhere since, until today. But it seems investors were fooled (lower case 'f') by the sellers, private equity firms Oaktree Capital and Apollo, who held more than 50% of the company prior to the float. In what must be excellent timing, Oaktree reduced its holding from 14.2% to 5.5% in April 2015. Apollo reduced its holding from 36.6% to 22.4% in August 2014, and one imagines the remaining holding can't be too far off being sold.
But all the signs point to private equity offloading a lemon at prices that suited them. Looking at the prospectus, it's easy enough to see Nine's EBITDA was declining each year as the table below shows.
| 2011 | 2012 | 2013 | 2014 | 2015 | |
| EBITDA ($m) | $350.1m | $313.4m | $297.2m | $309.7m | $285 -$290m |
Source: Nine prospectus and company reports
With free-to-air TV channels Nine and NBN contributing 92% of proforma EBITDA in 2014, Nine Entertainment is heavily exposed to returns from its free-to-air network.
The profit downgrade is reminiscent of department store retailer Myer Holdings Ltd (ASX: MYR). Myer listed at $4.10 in 2009, and is currently trading at around $1.36, but has never gone above its listing price. The retailer was sold to investors by the majority shareholders, private equity firms TPG and Blum Strategic Capital.
I'll remind investors of Warren Buffett's words when it comes to IPOs.
"It's almost a mathematical impossibility to imagine that, out of the thousands of things for sale on a given day, the most attractively priced is the one being sold by a knowledgeable seller (company insiders) to a less-knowledgeable buyer (investors)."
The next time you are considering investing in an IPO, find out who's selling the company and why – it should be in the prospectus. You should also take a close look at the financial information presented. Declining earnings (as in Nine's case) or 'hockey stick' (unrealistic) forecasts should be warning signs to steer well clear.
