Cumulus Media ($CMLS) is 🔥🔥🔥!

The best, highly-levered, microcap equity you'll find!

“The biggest risk for AM/FM radio is the 26-year-old planner who lives in New York or Chicago and does not commute by car and does not listen to AM/FM radio and thus does not think anyone else listens to AM/FM radio.” - Colin Kinsella, the CEO of Havas Media North America

Executive Summary:

I think Cumulus Media (“CMLS”) can be a ~2x+ (~30% IRR) over the next 3 years assuming economic recovery in the US holds. CMLS is a highly-levered play on US advertising dollar spend with an element of secular disintermediation which I believe is overestimated. Yes, leverage is high but debt serviceability and liquidity are more than sufficient, the debt docs are cov-light, and there are no significant debt maturities prior to 2026. This very same “high” leverage should also allow for outsized returns going forward should recovery be better than anticipated.

Over the last 6 months, the situation has been significantly de-risked as the company has monetized underutilized assets at accretive valuations, bolstering the company’s balance sheet and substantially improving liquidity. Equity value creation going forward should be driven by a combination of recovery in revenues/profitability and debt paydown resulting from FCF generation/asset sales. There is further upside in the form of accretive M&A, podcast growth/monetization, and asset sales.

I think EBITDA can recover to ~75% of 2019A levels over the next 3 years ($150mm vs. $213mm in 2019). Should we return to 2019 levels of profitability, we are creating the business today very cheaply at 3.9x EBITDA and that’s without giving them any benefit for cash that they will generated between now and then (~$50mm+ per annum or $2.4/share). Applying a multiple of 6.0x (in-line with recent single-station transaction comps), should get you to ~$15/share in 3 years. Stability of listenership/revenues, higher penetration of growing digital revenues, and high FCF conversion (80%+) may warrant a re-rating, driving further upside. Given the high leverage (82% LTV), any multiple re-rating is highly accretive to the equity.

For the stock to work, you need to believe that industry-wide radio advertising dollars did not just experience a permanent step-function change downward as a result of the current recession/COVID. I think this is unlikely as we have seen sequential improvement every month since April, suggesting Cumulus’ decline and recovery is more akin to a typical cyclical recession.

Cumulus’ stock is down 59% YTD. Despite de-risking the situation through asset sales/de-leveraging and already seeing a recovery in revenues, the stock has remained range bound between $5-7/share vs. $15+/share pre-COVID. CMLS has also substantially underperformed other radio broadcasters despite posting similar results but with a significantly improved balance sheet and de-risked liquidity profile.

Company Overview:

Cumulus Media is the 3rd largest owner and operator of radio stations in the US, owning 422 AM/FM stations across 87 markets. Cumulus also owns the Westwood One platform which delivers nationally-syndicated content to over 8,000 affiliated radio stations.

The company primarily makes money by selling advertising time on its radio stations. The main costs here are headcount for content creation/overhead, rent, music royalties, and payments to Nielsen for ratings. Fixed costs are ~75% of total opex and while somewhat fixed in the near-term, I think costs can be scaled down over a longer period as people can be cut and content can be re-broadcast across multiple stations. Revenues are highly cyclical given 98% is related to advertising. Radio customer contracts are generally short-term (~4 weeks) and therefore related advertising spend can be shut off very quickly, exacerbating revenue cyclicality. Overall, radio stations are fairly cash profitable (~20% margins) and have minimal associated capex (<3% of revenues).

The terrestrial radio industry in the US is a mature and slightly declining market (even though it grew +0.4% in 2019). It will likely continue to cede share at a predicable, steady LSD rate to digital mediums with better ROI mechanisms/attributions. Somewhat offsetting this decline is growth in digital/podcasting coupled with overall economic growth/inflation.

Current Capitalization:

Investment Thesis:

Contrary to initial perceptions, radio reach and listenership have been fairly stable over the last 10 years with reach only declining to ~89%, down from 92% in 2009 despite the rise of competing audio platforms such as Spotify/Apple Music/YouTube. Revenues pre-COVID have been flat over the last several years and while 2020 will be down over 20%, I expect a cyclical recovery in 2021 followed by a slow but very gradual decline in broadcast revenues. Podcasting/digital revenues (currently 10% of revenues but growing double digits) should help offset some of this decline.

I believe the this year’s decline in radio advertising revenue is cyclical vs. structural. Ever month since April has show shown sequential improvement, consistent with historical recessions. As per management, 4Q is pacing to be down mid-teens y/y or ~20% excluding political. Even if we see no further improvement, run-rated revenues should be more than sufficient for the equity to work here.

Radio advertising spend has also been hit by two additional factors: (i) less commuting due to WFH and therefore radio consumption as the majority of radio listening occurs in the car and (ii) the complete shutdown of several, key radio advertisers (e.g., theme parks, cruises, concerts). An effective COVID vaccine and return to “normal” will ultimately help some of the company’s key customers and their ability/willingness to advertise on radio. Somewhat offsetting these headwinds is an increase in driving miles as people look to avoid public transportation. In addition, radio listenership as per Nielsen has nearly recovered to its pre-COVID levels. I do not, however, believe the company has been able to significantly monetize either of these positive aspects.

What radio primarily lacks is accurate attribution, instead heavily reliant on Nielsen’s statistical ratings models. Cumulus and the entire industry have done a better job at demonstrating a positive ROI over the last decade. Radio is often used in conjunction with other mediums (e.g., social media) given its large reach and ability to frequently communicate a complex message. We have also seen several notable large advertisers (e.g., P&G) come back to the medium over the last few years given what they claim is attractive ROI. Mitigating the lack of accurate attribution is cost. Where radio really excels in is being one of the cheapest forms of advertising on a CPM basis.

I expect equity value creation to be primarily driven by FCF generation and debt paydown. Management has done a solid job since emerging from bankruptcy in 2018, having reduced net debt by $585mm (or ~$28/share) including $330mm in this year alone. The equity thesis in essence here is in the form of a public LBO. Each additional $100mm of debt paydown should translate to $5/share in value, all-else being equal.

The company has strong liquidity, currently sitting on ~$307mm of cash which it has 12 months to re-invest. Outside a few potential tuck-in acquisitions, I expect the company to use the majority of this balance to repay debt. Podcast asset valuations are currently too high for them to pursue and more importantly, will not be FCF accretive. Based on management’s track record, I do not see them pursuing any high-risk strategic acquisitions.

The company is also working on selling a property in downtown Nashville, TN, although is waiting for commercial real estate in the area to normalize. This could provide another $15-20mm of additional liquidity with limited offsetting costs. Cumulus’ podcast assets could also in theory be monetized at very accretive multiples. While the company doesn’t break out the total revenue, I estimate podcasting contributes ~$20-25mm of revenues annually and is growing double digits organically (Q3 was “up nearly 50%”). I don’t think it’s likely management will sell these assets but private market valuations are rising and equity markets are certainly not ascribing much “value” for these assets. For reference, Sticher was bought by SiriusXM from EW Scripps earlier this year for $325mm or 4.5x 2019A sales. Source

Broadcast radio is legacy tech but at the end of the day, it is audio content which can be consumed passively. Spoken-word is also unique local content. So whereas the medium and distribution mechanism may change, the content that radio stations provide (excluding music) will likely not. Moreover, what makes radio unique and less exposed to disintermediation is the fact that it is completely free and ubiquitously available in all cars, where radio consumption occurs the most.

In terms of differentiated view, my projections are broadly in-line with the limited sell-side coverage. I think the market does ascribe much value to the durability of cash flows nor upside for any potential LT margin improvement resulting from expense efficiencies. Obviously, headline leverage also makes this appear as a very risky equity investment. In my base case, I think the company will be generating ~$60-70mm of levered FCF vs. ~$150mm market cap today. If the company wanted to be aggressive, the debt docs permit $25mm of annual dividend payments without any restriction. However, I don’t expect management to do this based on their historical track record and focus on debt paydown.

Financials/Projections (Base Case):

Assuming the US economic recovery holds, I expect a revenue recovery in 2021. Broadcast revenues will likely continue declining gradually thereafter due to share loss to digital advertising mediums. Political ad revenue should provide a small bump in even years and digital should continue growing nicely (was growing 50%+ pre-COVID but I assume 10%).

I expect margins to compress relative to pre-COVID due to mix-shift as digital/podcasting is lower margin (even though competitors say it’s the same). However, I believe there is upside in the margins as the fixed cost base can be further rationalized based on real estate consolidation, headcount reductions, and other “lessons learned” throughout COVID (e.g., lower T&E, etc.). I haven’t assumed this in my base case.

Expected Returns / Valuation:

Amongst radio broadcasters, $CMLS trades at a discount to its peers like $IHRT and $ETM. Each company has a few idiosyncratic differences and $IHRT is obviously much larger. That being said, you will get a similar risk exposure investing in any of the radio broadcasters. My preference for Cumulus stems from (i) cheaper valuation, (ii) earnings quality, and (iii) more straight forward execution. For upper bound valuation context, local tv broadcasters trade in the 7.5-8.5x EV/EBITDA context. They also face LT disintermediation risk (i.e., cord cutting) but possess a much better revenue mix in the form of non-cyclical, recurring “retrans” revenues as well as higher political ad spend. FWIW, I think the equities there are somewhat undervalued.

Using an EBITDA that is still 30% lower than pre-COVID levels and a multiple of 6x gets you a ~$900mm EV in 2023. The company could generate another ~$100mm of cash over the next 3 years, good for $5/share. Any further multiple re-rating will be highly accretive to the equity given the headline leverage. As such, the upside/downside is very compelling.

For additional context, I found it interesting that the midpoint of the company’s “liquidation value” set forth by A&M during in bankruptcy process was $978mm. Obviously I take this with a grain of salt but today’s EV of $827mm is lower than the low-end of this range and nearly 50% lower than than $1.5-$1.7bn EV set forth during the bankruptcy process less than 3 years ago.

Cumulus Bankruptcy Disclosure Statement: Exhibit D

Despite low volume, there have been several radio station transactions this year. While multiples have come down substantially over the last decade, they have been fairly stable over the last 5 years:

Source: SNL Kagan

Key Risks:

Highly cyclical (SNL Kagan estimates US radio broadcast industry revenues will decline 19.6% in 2020; during the 2008-2009 financial crises, Cumulus’ revenues declined 23% peak-to-trough)

Unless further major economic decline, I believe we have already observed the trough in revenues. Cumulus has seen sequential monthly improvement every month since March. For example, September revenues are up 35% compared to June. In addition, liquidity is more than adequate at $341mm and the company is not burning cash at these lower revenue levels. CMLS has ~5 years to demonstrate a recovery and I think the stock can still “work” even if revenues do not recover fully to their pre-COVID levels (see my base case).

Secular shifts in audio/radio consumption

Radio reach/listenership has remained fairly stable over the last decade despite new competition. I think this stems from that fact that radio is free and ubiquitous in access. Radio is also a cost-effective medium for advertisers to efficiently and quickly reach consumers due to low CPMs, flexibility with creative execution (i.e., quickly change the message), low production costs, and speed with which spots can get to air. During the last recession, the company had limited data analytics and attribution information whereas this has much improved in 2020. Nonetheless, my base case assumes a gradual decline in broadcast revenues, some of which is offset from growing political and digital revenues.

High leverage at 9.0x LTM EBITDA

Leverage appears high using “trough” EBITDA levels. What’s more important however is that debt serviceability is high with interest and fixed charge coverage in excess of 3.0x and 2.5x, respectively. EBITDA should continue to recover consistent with recovery in revenues. I expect Cumulus to be generating ~$60-70mm of levered FCF in a few years, which can be used to pay down debt and further improve FCF due to lower cash interest payments. There are no major debt maturities until 2026 and the credit docs are cov-light, limiting creditors from having a seat at the table in the near term. Even if leverage does not decline by 2026, there are various debt baskets which would mitigate refinancing risk.

Microcap equity with concentrated ownership from pre-bankruptcy debtholders (e.g., Brigade, Silver Point)

To the extent any of the top holders have fund redemptions, I think Cumulus’ stock will experience downside volatility. Without near-term hard catalysts, the stock may be range bound and by all-accounts, a “value trap.” Larger funds should consider $IHRT for directionally similar exposure and more liquidity in the stock. That being said, I think CMLS has a better balance sheet and more “juice” given current valuation coupled w/ leverage.

US economic risk

Should the US economy recovery lag or experience a “double dip,” Cumulus’ revenue recovery will be delayed and hence profitability will be lower; however, liquidity should remain strong as quarterly FCF generation likely to remain positive.