2023-12-17 11:28:30 ET
Summary
- Sinclair's core advertising business remains strong, but macro headwinds and the shift towards digital platforms pose challenges.
- The company's Q3 results exceeded expectations, but revenue for Q4 is still lower than last year due to the absence of political ads.
- Sinclair's focus on its TV broadcast business may strengthen profit margins, but challenges such as cord-cutting and negative growth in net retransmission revenue persist.
Investment Thesis
Sinclair, Inc. ( SBGI ) core advertising business has remained strong, however, I expect macro headwinds to cause pressures going forward. The company's television stations and cable networks are encountering a challenging outlook, with the risk of a recession and the ongoing shift towards digital platforms posing challenges for advertising. Additionally, cord-cutting is a persistent issue affecting distribution revenue. The political advertising revenue continues to grow, but it is largely reflected in the market estimates. Sinclair's stock trades at a low valuation; however, I am currently cautious and assign a hold rating to the stock.
Company Overview
Sinclair Broadcast Group, Inc. is a multifaceted television broadcasting corporation that possesses and manages nearly 200 television stations. Additionally, it owns over 20 regional sports networks as a result of the DIS/FOXA transaction. These regional sports networks are operated as distinct legal entity, with minority investors, including sports teams, and Sinclair also holds a minority interest in YES.
Post Q3 Review & Outlook
Sinclair's results for the third quarter of 2023 and the guidance for the fourth quarter were better than anticipated. The company's revenue guidance for the fourth quarter, with a midpoint of $772 million, exceeded estimates. However, it was still about 20% lower than the same period last year due to the absence of political ads. The management anticipates fourth-quarter EBITDA to reach $186 million, a 40% decrease compared to 2022, with the full year expected to be around $555 million.
Nevertheless, the company's core advertising business remains strong, with a 3% increase in the third quarter. Sinclair's surpassed revenue by about 1.6% and exceeded adjusted EBITDA guidance by 40%. The management credited this strong performance to a focus on cost control this year, and expects these efficiencies to continue into 2024. Although Local TV advertising trends are showing signs of improvement, Sinclair is not currently experiencing any significant macroeconomic weaknesses. Next year is expected to be more robust, thanks to potential political advertising ahead of the 2024 elections and significant retransmission renewals that could result in annual growth in net retransmission fees.
Weakening of Advertising Trends Presents Challenges
Sinclair has refocused its attention on its TV broadcast business after the separation of its regional sports subsidiary, Diamond Sports. This strategic shift is aimed at achieving higher profit margins and strengthening cash flow. However, Sinclair is facing challenges in 2023. I expect the core advertising segment to remain under pressure due to the current macro challenges, potentially experiencing a decline of at least low-double digits. A more significant concern is the possibility of negative growth in net retransmission ((NR)) revenue in 2023, as cord-cutting accelerates and there are no significant renewal opportunities until the second half of the year. Nonetheless, the management anticipates achieving a low- to mid-single-digit compound annual growth rate in NR revenue over the next three years and expects to generate positive free cash flow in the current year. It's worth noting that Diamond, Sinclair's unconsolidated sports subsidiary, faced financial challenges due to cord-cutting and streaming expenses, ultimately leading to its bankruptcy filing in March.
Election Cycle Can Provide a Boost
I believe pure-play local TV broadcasters will benefit significantly from the upcoming robust 2024 presidential election cycle, thanks to the highly divided political landscape. According to BIA advisory services, the local broadcast TV industry in the United States is expected to generate $23.8 billion in advertising revenue, with $21.7 billion coming from over-the-air revenue and $2.1 billion from digital television. This forecast represents an 11% increase over the 2023 figures. Local TV is particularly favored in even-numbered years, like election years, as it captures more than half of the election ad spending across major platforms, thanks to its cost-effective ability to target specific constituencies.
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Financial Outlook and Valuation
Sinclair issued its guidance for the fourth quarter of 2023, surpassing previous forecasts for revenue and adjusted EBITDA respectively. I believe this guidance suggests that SBGI will end the year with a net leverage ratio of around 5.3x, an improvement compared to the mid-5x range previously indicated by management during the first quarter of 2023 conference call. I anticipate that SBGI's leverage will continue to improve, reaching 4.6x by the end of 2024 and eventually falling within the company's target range of high 3x to low 4x in 2025.
Given SBGI's high leverage, the company's valuation is sensitive to even minor changes in the TV Broadcast enterprise value to EBITDA multiple. Although the company's valuation appears attractive at current levels, I believe SBGI faces significant pressures and anticipate that 2024 will be a challenging year for the industry as a whole, and my primary concern revolves around net retransmission revenue, which has continued to decline in 2023. Hence, I am currently cautious and assign a hold rating to the stock.
Conclusion
Sinclair has simplified its focus by transforming into a pure-play broadcast entity, following the separation of its regional sports-network business. While retransmission fees have been a source of growth, reverse fees have hindered the net retransmission revenue increase and will face pressure in the near-term. While Sinclair's core advertising business has shown resilience, I anticipate that it may face challenges in the future due to broader economic factors. The company's television stations and cable networks are facing a tough environment, with the potential risk of a recession and the ongoing shift towards digital platforms posing difficulties for advertising efforts. Moreover, the trend of cord-cutting is an ongoing issue that impacts the company's distribution revenue. Despite Sinclair's stock being undervalued, I am exercising caution and assign a hold rating to the stock.
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Sinclair Continues To Face Challenges