FWONK - Apple Media Deal Could Be A Game Changer For Formula One Group

2023-11-09 16:55:17 ET

Summary

• Apple is reportedly considering an offer for $2 billion per season media rights deal with Formula One.
• The possibility of Andretti Autosport joining the series could increase fan interest and make Formula One more appealing to sponsors and media partners.
• Formula One Group reported strong financial performance in Q2 and Q3.

Earlier this year, I wrote about the limits of growth for Formula One Group ( FWONA ; FWONB ; FWONK ). There have been developments since which compel me to revisit my thesis. Below, I will discuss recent developments and how they impact the investment case in my opinion.

Apple Media Rights Deal

Let me begin by the most important news: According to reports, Apple Inc. ( AAPL ) may be interested in a $2 billion per season for global "broadcast" rights (technologically speaking, "digital distribution" would be more precise, I suppose) deal. For comparison: that is around twice the combined revenue currently derived from the various broadcast deals with different media partners around the world. The MLS season pass may serve as the blueprint here. Reportedly , its launch brought almost a million new Apple TV+ subscribers virtually overnight, so the rationale for Apple to invest in exclusive sports rights appears rather compelling. MLS is widely considered to be a second if not third tier football league, mind you (though admittedly, there is the Messi-factor to be taken into account). Formula One, on the other hand, is motorsport's equivalent to Champions League or a Fifa World Cup. Notably, Apple is already in the process (or had been, until it was forced to halt production due to the Sag-Aftra strike) of shooting an F1 motion picture with actor Brad Pitt in the lead role. The production has been actively supported by Formula One (including Mr. Pitt standing on the grid with real F1 drivers and real in-car footage for use in the picture), so there is definitely a preexisting relationship. Also, the company is in the advantageous position of not having to worry too much about a billion more or less in cost, unlike most "traditional" media companies.

Besides the substantial increase in rights revenue, an exclusive deal with one global partner may also have the additional upside of potential cost cuts due to said partner producing the content themselves (right now, Formula One produces a so called "world feed" of its events which it distributes to the respective media partners).

Andretti Entry

Another positive development is the possibility of Andretti Autosport joining the series. Regulations (adopted under the so called Concorde Agreements , which are unfortunately, not publicly accessible online; an in-depth analysis can be found here ) allow for up to 13 teams. Nonetheless, It could be an obstacle that the existing teams are more or less unanimously opposed to allowing Andretti's participation in the series. Therefore, Andretti's entry should not be treated as a foregone conclusion.

An additional American team might increase fan interest for the sport in the US. While there is already the Haas F1 team, the Andretti name arguably has more star power, even more so as there would most likely be a partnership with General Motors Co.'s ( GM ) Cadillac brand. Regardless of nationalities, an additional team and two additional drivers on the grid naturally increases the potential for storytelling, thus making the series more appealing to fans and more attractive for sponsors and media partners. I therefore believe that Andretti would be beneficial to Formula One Group from a business perspective.

The FIA - which is the governing body of the championship - has already greenlit the entry. Its president, Mohammed Ben Sulayem, is strongly in favor of an eleventh team and made favorable remarks regarding Andretti at various times. Now, it is up to the promoter to decide. If Andretti was denied entry without sufficient reason, that might constitute a breach of European antitrust regulations, which might expose Formula One Group to legal risk.

Under the current Concorde Agreement, a new entrant would have to pay a $200 million dilution fee in order to compensate existing teams for the potential loss in revenue. That fee is not unlikely to rise to somewhere in the range of $600+ million (which is intended to be prohibitive) from 2026 onward, so it is somewhat of a now-or-never situation for a new team.

Financial Developments

Another positive surprise - for me at least, I might have been too pessimistic before - was the financial performance in the second and third quarters. Formula One Group reported Q3 revenue growth of 24 percent YoY (to $887 million from $715 million). Net profit increased by an even more impressive 67 percent (to $107 million from $64 million). That follows a profit growth of 10.7 percent YoY (to $ 72 million) in Q2, despite the negative impact of the Imola race cancellation due to flood disaster in the Emilia-Romagna region which caused additional cost and lost revenue. The local promoter fee alone (which had not to be paid due to force majeure ) is likely somewhere in the region of at least $20 million. It should be noted, that the second and third quarters are generally to be expected to be the strongest quarter due to the season beginning late March and ending late November/early December.

Net debt attributable to Formula One Group slightly decreased to $2.72 billion. The company also announced a repricing of a $1.7 billion Term B loan (from 3.00 percent to 2.25 percent). That is a yearly reduction of interest expenses in the amount of $12.75 million. Certainly not a game changer by any means, but still positive.

Sponsorship development is encouraging, too. I would like to particularly highlight the tyre supplier agreement in this regard. Apparently, there has been a bidding war between incumbent Pirelli & C. S.p.A. ( PLLIF ) and Bridgestone KK ( BRDCF ; BRDCY ), with the latter willing to outspend its rival for the privilege. Still, Pirelli was chosen , mainly on the merit of being the known quantity (which is important to the teams engineers, with regard to "understanding" the tyres) and a coherent sustainability concept (which is important to some of the sponsors and manufacturers involved for PR reasons). The renewed deal runs through 2027 with the option to renew for the 2028 season. The Italian company has, however, already hinted its intention to retire from the series after the end of the contract.

Just to put a number on it: this deal is estimated to have had a price tag of $30 to $40 million per annum for the last period. While a concrete figure was not disclosed, I assume that it will have increased if anything, but certainly not have decreased given the interest of at least one additional party. So, despite what I thought, there still seems to be some upside in terms of sponsoring, too.

Going forward, it will be particularly interesting to see the financial impact of the Las Vegas Grand Prix (November 18th ) - which is hosted by Formula One Group itself instead of cooperating with a local promoter paying a fee - compared to other race weekends. These should be visible when the Q4 results are released.

Risk Factors

As with any investment, there are of course risks to be considered. First of all, there is no Apple media deal, as of yet. There is no guarantee that the offer will indeed be made. And if it does happen, I still see some potential downsides. Most importantly, there is an inherent conflict between exclusive media rights and sponsorship. A sponsor has a vested interest in maximizing exposure by capturing as many eyeballs as possible. Naturally, a paywall is detrimental to that goal.

Furthermore, Formula One Group may face increasing demands by the teams during negations for a new Concorde agreement from 2026 onward. Right now, the percentage of revenue distributed to the teams is independent of the number of teams. If Andretti were to become the eleventh starter, the teams would be all the more likely to demand more money overall in order to not lose revenue. Even without additional competitors, the teams have ample incentives to try to increase their piece of the cake. For a more in depth discussion of this issue, I once again refer to my previous article .

Also, investors should be aware of the fact that Formula One Group is not an independent entity, but a division of Liberty Media Corp. listed through a tracking stock. There is the theoretical risk of Formula One Group being on the hook for liabilities incurred by other parts of Liberty Media, if these are unable to service them. To be perfectly clear, there is no indication of that becoming relevant anytime soon. Still, I believe it is something that should be taken note of.

Valuation and Conclusion

Recent developments merit a reassessment of Formula One Group's valuation. Also, the stock price is about 9 percent lower compared to the date of my previous coverage. I assume a fair multiple of around 6.5 times revenue, which I based on comparable valuations from other (non-public) sports leagues, such as Spain's La Liga. I explained my methodology in more detail previously, so, in the interest of brevity, I will allow myself to refer readers to my prior article at this point. Glamorous as it may be, I remain convinced, that Formula One Group as the promoter/rights holder does, unlike a sports team, does not merit a valuation premium as a trophy asset.

If a $2 billion a year Apple rights deal comes to pass, I believe that $3.5 billion in annual revenues is absolutely achievable for Formula One Group. That would translate to a market capitalization of $22.75 billion which represents a share price of about $88 on an undiluted basis. In a bullish scenario, revenue of closer to $4 billion does not appear too outlandish, either. That would mean a market capitalization of $26 billion and an undiluted share price of around $100. The underlying multiple is what I consider bullish, but still reasonable. So, I would apply a discount of about 15 percent to be on the safer side, thus revising the price target to $75 to $85 per share. That still leaves upside of 30 to 45 percent from the current price level if the Apple deal happens.

At the same time, I believe that the current valuation is justified in a scenario without a media rights revenue boost. Thus, I see limited downside risk as long as the business remains at least stable in terms of revenue and profits. For those reasons, I upgrade my rating to a buy.

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