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Thursday, July 11, 2013

Three Thoughts on Tribune's Announced Plan to Split into Two, Six Months After Emergence

Tribune announced this week that it will split into two companies, one centered on publishing and one with everything else, following in some respects the leads of News Corp and Time Warner, and conceivably others I haven't heard about.  The decision is pretty well known so I won't bother to link to any of the numerous stories about it.  It triggered three thoughts that I felt worth mentioning.

First thought:

Moving up almost $2 on the announcement,Tribune's stock is now up more than 30% since it emerged from chapter 11 about six months ago (and about 20% in the last month, although it must be noted that a week before the spin announcement, TRBAA also agreed to buy 19 more TV stations, entirely financed with debt, which analysts believe will be highly accretive).  This illustrates a point I discussed in a post about a month ago, that post-emergence performance of the equity of reorganized companies tends to belie enterprise valuations and recovery estimates that disclosure statement usually contain; generally, disclosure statement valuations are lower than where the market values the reorganized company 6 & 12 months after emergence; thus, recovery estimates keyed to those pre-emergence valuations are similarly lower than creditors actually receive if they hold on to the equity for a modest time after emergence.

In the case of TRBAA, the disclosure statement valuation was prepared in March and April 2012.  It projected an equity market cap as of 12/31/12, the assumed (and actual) effctive date, of $4.536B (see docket 11355, Ex C).  Today, Bloomberg tells me TRBAA's equity market cap is $5,273B, up about $700 million from the estimate that was used to estimate recoveries in the disclosure statement.  So actual recoveries, which were estimated to run from 33.6 to 70% should likewise be understood to have been higher than estimated (exactly how much higher is hard to say because no class received purely equity.

Second Thought:

I remembered reading a couple of decent investment theses on TRBAA back in January when it came out, so I went back and checked them out to see how they compared to what actually happened.  One was on the Distressed Debt Investing site, which I subscribe to.  The author's bottom line was the stock was fairly valued at $49 upon emergence, based on multiples of 4.5x, 6.25x and 11x for respectively, TRBAA's publishing, broadcast and Food Network lines of business, and no value for its real estate on the basis that it was all used in the business and not separately saleable, but did note that, with slightly higher multiples and assigning independent value to the RE, a case could be made for a $60 price, which is where it was before the announcement. Also, the author did identify the possibility to "spin off the newsprint assets to help revalue the core broadcasting business higher.  I believe they should be allowed to do a tax free spin of the newsprint assets" (by newsprint, I assume he meant the newspaper publishing business and not the manufacture of newsprint per se).  So, although his bottom-line conclusion that the stock was fairly valued at $49 proved to be conservative, certainly it was an reasonably accurate analysis up to that point.

The other investment thesis came from Meryl Witmer, who often recommends post-emergence equity, in Barron's, which I also subscribe to.  Her thesis was in some respects the opposite of the Distressed Debt Investing analysis, as it didn't reference a spin of publishing (in fact, she predicted a sale of publishing, which, as the Distressed Debt Investing analysis anticipated, and as this week's news reports confirm, would have been terribly tax-inefficient)  but even so she was much more bullish and pretty much nailed the stock price move. Since Barron's is a gated site, this link may not work, but I will pull out the paragraph with the highlights:

"We estimate Tribune will have about $6 a share of free cash flow in 2013, of which 40 cents is excess depreciation and amortization over capital spending. The Food Network and other assets contribute $2 of the $6. The publishing and broadcast segments earn $4 of free cash flow, and we value them at nine times after-tax cash flow, or $36 a share. That is a conservative number. The split is about one-third publishing and two-thirds broadcasting. Then we add $20 to $25 for the Food Network and another $7 to $8 for CareerBuilder and some other online assets and real estate. We deduct a couple of dollars for pension liabilities, and get a low-end target price of $60 a share. The retransmission payments that Tribune might garner from negotiations with cable providers could add a dollar to earnings over time, which would add $10 or more to the value of the stock. The turnaround at WGN is difficult to value, but given management's track record, it could be worth at least $10 a share. Add it all up, and we get a range of $60 to $80 a share, plus free cash generated in the interim, which adds another $6 a share per year. We see the stock at $90 in three years."

Interesting that they both saw a case for $60/share, only for one it was the high-side and for the other it was the low-side.  The stock closed at $64 and change today. Even before the announcement of the spin, Imperial Capital had put out a research note raising their target price from $70 to $76 based on what they perceive to be the accretive quality of the broadcasting acquisition. (NB: I do not have any position in TRBAA as I generally avoid "old media" stocks, and I have no view on whether any of the bullish outlooks will prove out. I just read and write about value investing out of intellectual curiosity.  But bravo to those who got this right.)

Third Thought:

One of the main policy arguments being made by proponents of rewriting the Bankruptcy Code is that the original intent of chapter 11 has been perverted by distressed debt investors and senior secured creditors to become a crass "financial and takeover play" where cases are rushed through to confirmation or liquidation by these heartless institutions just looking for a quick buck, depriving poor corporate debtors of the chance to use the "tools" of chapter 11 to fix their business under court protection in a more "thoughtful" manner.

Well, obviously, Tribune puts the lie to that myth as well.  Tribune was in chapter 11 for over 4 years.  That's more than enough time to use the "tools" provided by the bankruptcy code in a "thoughtful" manner.  So when does it make the strategic decisions to double down on broadcasting and split up into two businesses?  During those 4 years?  Um, no.  Six months after emergence.  Its chapter 11 process was principally spent fighting about who would bear how much of the loss that came from the over-leveraged Zell buyout.  It didn't need any more time in chapter 11.  What it needed was to get out of chapter 11, and turn off the professional fees associated with litigious bankruptcies.  Then it could fix its business, the way solvent companies somehow manage to do without resort to the tools of the bankruptcy code.

Bankruptcy is a good environment for addressing balance sheet mistakes and legacy liabilities, but the legalistic environment -- with every party in interest having a statutory right to object to management decisions, numerous constituencies billing the estate (effectively the fulcrum creditors) for legal and FA advisors reviewing those decisions, and all decisions being passed on by a judge who does not likely have industry experience to evaluate them independently -- is nowhere near as conducive to operational and strategic boldness and creativity as is commonly supposed.  More often, the better path by far is to get out of chapter, simplify the number of constituencies management has to think about, get the balance sheet right so the company has the capacity to make long-term decisions again, and get on with life as a rehabilitated company.