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Endemol Initiating Coverage Scenarios to Act on Hold

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Equity Markets Initiating coverage Anna Fokkelman, CFA Netherlands Amsterdam (31 20) 563 8771 [email protected] Endemol Initiating coverage Scenarios to act on Hold 11 October 2006 06/10/06 Target price (12 mth) Media & entertainment €14.59 €15.5 Reuters EML.AS 12-month forecast returns (%) We initiate coverage with a HOLD and TP of €15.5. The Share price 6.2 status quo looks unlikely to continue: the acquisition of Dividend 3.0 12m f'cst total return 9.3 Endemol France optimises the balance sheet, a buyout gives a meagre IRR and acquisition by a peer looks priced in. Key ratios (%) 2005 2006F Scenarios to act on. We believe the status quo is unlikely to continue Turnover growth 5.8 17.7 and focus on three alternative scenarios. (1) The acquisition of Endemol EBITDA margin 17.0 16.1 Operating margin 15.0 14.6 France would optimise the balance sheet and gives the highest value of €16. Net debt/equity 34.0 7.4 (2) A buyout at a reported €15.6 is possible, but we calculate an IRR of a ROACE 29.9 34.0 meagre 11%. (3) Acquisition by an industry player is another scenario, but we believe is already priced in at €14.6. Share data No. of shares (m) 125.0 at Status quo, we value Endemol below current trading levels Daily turnover (shares) 72,880 €14.1 on peer multiples and €11.6 on DCF. Free float (%) 75.0 Enterprise value (€m) 1,841.2 Market cap (€m) 1,823.8 Outlook FY06F exceptional, FY07-08F return to normal. For FY06 we forecast strong +17.7% revenue growth and a 16.1% EBITDA margin, and expect guidance to be raised at the 9 November statement. Share price performance We initiate coverage with a HOLD and €15.5 target price, the 16 15 average of our three scenarios. 14 13 12 Forecasts and ratios 11 10 Yr to Dec (€m) 2005 2006F 2007F 2008F 9 Turnover 900.1 1,059.2 1,117.4 1,172.6 11/05 1/06 3/06 5/06 7/06 9/06 EBITDA 152.8 171.0 188.7 198.0 Price Net profit 83.5 93.2 104.9 111.1 E300 Media & Photography Adj EPS 0.67 0.75 0.84 0.89 (rebased) Adj PER (x) 21.8 19.6 17.4 16.4 Dividend yield (%) 0.5 3.0 3.3 3.6 Source: ING EV/EBITDA (x) 12.3 10.8 9.5 8.9 Price/NAV (x) 13.0 8.1 6.7 5.6 ROE (%) 45.1 51.1 42.1 37.1 Source: Company data, ING estimates research.ing.com E300 Media & Photo: 818.83 SEE THE DISCLOSURES APPENDIX FOR IMPORTANT DISCLOSURES AND ANALYST CERTIFICATION Endemol October 2006 Contents Summary 3 Valuation status quo 4 Scenarios to act on 7 FY06 outlook strong 11 Risks 16 Appendices 17 Appendix 1: Presenting… Endemol ........................................................................17 Appendix 2: Market analysis ...................................................................................20 Appendix 3: Competitive environment.....................................................................24 Appendix 4: Strategy ...............................................................................................28 Disclosures Appendix 31 2 Endemol October 2006 Summary Endemol: scenarios to act on We initiate coverage with a HOLD recommendation and a €15.5 target price, being the average of the three scenarios we believe could materialise. Catalysts are acquisition reports and expected strong FY06F trading. We believe the status quo of Endemol, with 75% shareholder Telefonica looking to divest, is unlikely to continue, and in this report focus on three alternative scenarios. An acquisition of Endemol France would optimise the balance sheet and gives the highest value of €16. A buyout at a reported €15.6 is possible, but we calculate an IRR of a meagre 11%. Acquisition by an industry peer is another scenario, but we estimate, at €14.6, this is already priced in. Acquisition of Endemol France by listed Endemol NV would optimise the balance sheet and we estimate give the highest value of €16. This scenario is plausible now that the earn-out issue has been resolved. We estimate that Endemol could comfortably finance the acquisition of Endemol France at €450m or 9.7x FY06F EBITDA. Notably such an acquisition would optimise its balance sheet and result in 1.8x net debt/EBITDA FY07F, below the maximum 2x which is in its bank covenants. It would also enhance EPS by 13% versus our current 2007 estimate of €0.84. We attach a €16 value to this scenario. A potential buyout by private equity at €15.6, as indicated in unconfirmed press reports, is also possible. However, we calculate an IRR of a meagre 11%, assuming a 60/40 debt/equity financed bid and exit after five years at EV/EBITDA of 10x. Such a buyout could be done by private equity together with management . Acquisition by an industry player is another scenario, but we estimate is already priced in at €14.6, or peer-median EV/EBITDA of 9.6x. There have been many press reports on interest by industry players such as Sony and Mediaset. Status quo, we value Endemol below the current trading levels at €14.1 on peer multiples and €11.6 on DCF. Endemol has three small listed peers so we have included its broadcasting clients, peers in conglomerates and similarly hit-driven video games publishers in the peer group. For our DCF we have used a 9.5% WACC, 16% EBITDA margin, prospective 25% gearing and 3% terminal growth. The FY06F outlook is exceptionally strong, in FY07-08F we forecast a return to normal. We forecast strong +17.7% FY06F revenue growth and a 16.1% EBITDA margin in FY06F and expect guidance (11-13% organic revenue growth, EBITDA margin 15- 17%) to be raised at the 9 November statement. Strong revenue growth stems mainly from the UK, North America and Italy on the back of successes of formats like Deal or No Deal, Fear Factor and Big Brother. In FY07-08F, we forecast a return to c.5% projected sales CAGR in line with the historical trend. Endemol’s balance sheet is robust, with low gearing of 36% at the end of FY05. Guidance is for a payout of c.60% of net profit, implying a dividend yield of 3%, or 43% above the average in the media sector. The appendices include an overview of Endemol’s profile, strategy, past market trends and competition. 3 Endemol October 2006 Valuation status quo Strong performance since IPO Endemol’s share price has risen by 62% since its IPO on 22 November 2005 at €9. The reasons behind its strong performance include potential takeover of the company and its better-than-expected 1H06 results. Fig 1 Endemol share price performance since IPO (€) 16 15 14 13 12 11 10 9 8 11/05 12/05 1/06 2/06 3/06 4/06 5/06 6/06 7/06 8/06 9/06 Source: Datastream _ Peer and DCF valuations; We have used several methods to value Endemol; for the status quo we use peer buyout and geared-up comparison and DCF. Additionally, in the following Scenarios section, we detail buyout valuations in Scenarios and geared-up valuations. section The peer comparison points to a €14.1 value on adjusted FY07F PER. Our DCF yields a valuation of €11.6 per share. Comparison to peers: €14.1 value Three small peers, so Few players are directly comparable with Endemol as direct competitors are either broadcasters, local independents (not listed) or part of enlarged groups including broadcasters or conglomerates and hit conglomerates. Rare exceptions in Europe include three AIM-listed production driven peers added companies (2waytraffic, RDF Media and Shed Productions). Their market capitalisations are very low (maximum €115m), visibility on their revenues is limited, and their catalogues are much less extensive and renowned than Endemol’s. We have included them in our peer comparison. Additionally, we decided to include listed companies such as video games publishers as they boast similar characteristics, ie, a content- and hit-driven business. This explains why we include in our sample companies like Electronic Arts. We have decided to ignore any EV/revenue multiples, as some companies are more active than others in distribution, which inflates revenues with little impact on the bottom line. Based on the other FY07F multiples – median PER and EV/EBITDA – we estimate a value of €14.1. 4 Endemol October 2006 Fig 2 Endemol peer comparison Mkt EV/Rev EV/EBITDA PER (close 6/10/06) Curr Price TP Rec cap FY06F FY07F FY08F FY06F FY07F FY08F FY06F FY07F FY08F (m) (x) (x) (x) (x) (x) (x) (x) (x) (x) Quoted peers 2waytraffic NV £ 1.22 NR NR 115 6.2 3.8 3.0 17.1 9.1 6.6 24.9 14.2 11.2 RDF Media Group Plc £ 2.16 NR NR 60 0.8 0.7 0.5 8.6 6.7 5.0 14.7 12.7 10.9 Shed Productions Plc £ 1.18 NR NR 68 2.0 1.3 1.1 10.4 9.4 7.3 14.1 12.2 10.2 Median 2.0 1.3 1.1 10.4 9.1 6.6 14.7 12.7 10.9 Broadcasters BSkyB £ 5.51 NR NR 9,030 2.3 2.1 1.9 10.3 9.2 8.0 18.9 16.6 14.2 Gestevision Telecinco € 20.5 21.1 Buy 5,049 4.9 4.5 4.2 7.4 6.8 6.3 15.6 14.7 13.8 ITV Plc £ 1.03 NR NR 4,532 2.3 2.2 2.0 11.6 10.7 9.9 16.3 15.7 14.2 Mediaset €8.74 NR NR 11,523 2.9 2.7 2.5 8.3 7.1 6.4 16.8 15.4 14.6 RTL Group € 81.9 NR NR 9,055 2.1 2.1 2.0 12.8 11.9 11.4 22.3 20.3 19.6 TF1 €25.8 27 Hold 5,527 2.0 1.8 NA 13.7 9.6 NA 28.3 17.8 NA Median 2.3 2.1 2.0 10.9 9.4 8.0 17.8 16.1 14.2 Diversified groups Disney (Walt) US$ 31.3 NR NR 55,577 2.3 2.2 2.2 11.1 10.2 9.5 20.0 18.7 16.3 Modern Times Group SKr 378 NR NR 15,185 2.4 2.1 1.8 15.4 11.8 10.4 21.4 17.3 14.9 Time Warner Inc US$ 18.8 NR NR 68,080 NA NA NA 8.2 7.1 6.7 21.7 18.6 15.7 Viacom Inc US$ 38.3 NR NR 27,140 3.2 2.9 2.4 11.0 9.9 8.2 19.4 16.9 14.8 Vivendi Universal € 28.6 30 Buy 32,948 1.8 1.7 1.6 6.3 5.7 5.3 13.6 12.7 11.7 Median 2.3 2.1 2.0 11.0 9.9 8.2 20.0 17.3 14.9 Video games publishers Activision US$ 15.0 NR NR 3,701 3.1 2.0 1.8 NM 17.2 11.3 NM 32.7 22.1 Electronic Arts US$ 54.6 NR NR 18,155 4.9 3.8 3.0 NM 25.8 16.4 NM 48.3 22.6 THQ Inc US$ 29.5 NR NR 1,281 1.8 1.3 1.0 18.7 10.4 9.2 34.9 26.3 19.7 Median 3.1 2.0 1.8 18.7 17.2 11.3 34.9 32.7 22.1 Median 2.3 2.1 2.0 11.0 9.6 8.1 19.4 16.9 14.7 Average 2.8 2.3 2.1 11.4 10.5 8.6 20.2 19.5 15.4 Implied value for Endemol (median ratios) 2,437 2,323 2,323 1,874 1,819 1,605 14.4 14.1 13.1 Current value for Endemol 1,841 1,800 1,758 1,841 1,800 1,758 14.6 14.6 14.6 Up/downside (%) 32 29 32 2 1 -9 -1 -3 -11 Source: Jacques Chahine Finance, ING estimates _ DCF valuation: €11.6 The characteristics of our DCF model are: WACC of 9.5% A three-stage DCF model, with our forecast period FY06-08F, a second period of ten years and the terminal period.
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