Nexstar Media Group (NASDAQ:NXST) began as a single broadcast TV station in 1996 and today is the largest broadcast company in the U.S. The company is roughly 50% larger than their nearest competitor, and provides local news and other programming across 200 markets to 68% of U.S. households. Nexstar owns a 31% stake in the Food Network, and has recently launched a nationwide news network, NewsNation. 2021 revenue of $4.6 billion was split, with about 40% coming from television advertising, 8% from digital advertising, and the rest from retransmission consent [retrans].
Challenges to the cable ecosystem are real, and Nexstar trades at a 5x FCF melting ice cube multiple as a result. While the legacy business may or may not melt someday, the company is aggressively pursuing an exciting long-term growth initiative. Their plan is to use their legacy broadcast spectrum to serve as the wireless interconnector of the internet of things. The industry was largely unaware of this possibility until Nexstar announced its plan, but since then analysts at BIA have come on board and identified an industry-wide $15 billion opportunity by 2030, which can be compared to current industry retrans revenue of $13 billion.
Nexstar will use a toll road model, where they and partners will build the capability to deliver digital signal through most or all of the United States using their legacy broadcast spectrum, and then lease that capability to customers. This will allow the market to determine the highest and best use of this asset, and Nexstar will charge a toll to access it. The company has guided to revenue from this initiative beginning in 2024 and ramping to ~$2.5 billion by 2030. If management is correct then NXST is not a melting ice cube at all, it’s a growing iceberg. FCF of $100/share is coming, and a double-digit FCF multiple is inevitable.
The legacy broadcast business in 2027
The broadcaster model relies on the value of the local news, which remains in very high demand by many viewers, and makes the broadcaster and networks natural partners. Cable and satellite companies pay the broadcast company retrans for the right to carry this valuable content, some of which is shared with the networks, and of course advertisers pay for commercials. Management has guided to growing FCF at the legacy business through 2027, as double-digit annual increases in retrans, digital revenue, and political ad spending continue to outweigh the well-known issues in the cable ecosystem.
The trouble in the cable ecosystem is largely due to the slow unwind of the cable bundle and the resulting loss of subscribers. Subscriber loss is currently running at a low single digit percentage annual rate, as CEO Perry Sook mentions in the Q1, 2022 earnings call transcript:
As we’ve commented in quarters past, we continue to see stabilizing low single digit rates of subscriber attrition.
This is the main driver of the melting ice cube valuation and is why the stock trades at 5x FCF. As an aside, it’s not clear to me that the ice cube will actually melt all the way, even over the long term. One can argue that since Nexstar has a product that people really want, the local news, and the only place consumers can get it is from the broadcast companies, then one way or another the broadcasters will find some way to monetize it.
Regardless, there are very definite medium-term reasons to expect growth in the legacy business, consistent with what we have seen for the past 10+ years. For context, in 2021, 52% of Nexstar’s revenue came from retrans, 8% from digital revenue. Political ad revenue makes up ~10-15% of total revenue every even year, due to the U.S. election cycle, and is growing at an annualized CAGR of ~10%. All three are expected to grow robustly over the medium term, as COO Tom Carter addresses in the March 14, 2022 Deutsche Bank conference:
Tom Carter: with regard to increasing retransmission revenue… we continue to see a great opportunity there… we believe there’s another 5 or 6 years of meaningful growth left from a retrans revenue perspective… political is something we benefit from on an every other year basis, and once again in 2022 we expect record non-presidential political advertising… on the digital side, we expect double digit growth rates in revenue from our total digital portfolio going forward…
So what does the company look like in 2027, based solely on the legacy business? A steady, low single digit percentage erosion of the subscriber base will hurt, but 65% of the business is retrans, digital, and political ad revenue, all of which are growing robustly. If 65% of the business is growing at ~10%, and the rest is shrinking at e.g., 3%, that implies overall growth of ~5.5% per year. Applying that to the current $1.4 billion FCF guidance takes 2027 FCF to $1.8 billion, at which point the legacy business may or may not turn into a melting ice cube.
In that model, the company will generate ~$8 billion in FCF over the next 5 years, compared to the current ~$7.3 billion market cap. I’ll assume half the FCF will be used for share repurchases, 10% for dividends, and the rest for debt reduction. That would leave the company with ~$4.0 billion of net debt in 2027, and leverage will have declined from about 3.7x today to 1.7x. If we assume an average repurchase price of ~$250 a share – that’s 50% higher than the current price – there will be 26 million fully diluted shares outstanding in 2027, and the FCF run rate will be
~$69/share. Shareholders will also have received ~$25 a share in dividends. If we assign a 5x FCF multiple to the much less levered but no longer growing company in 2027, and assume dividend reinvestment, a share of stock today at $173 will turn into $387 in 2027. The 5-year total return CAGR in this case is 17.5%.
CEO Perry Sook has been highly creative throughout his career, pioneering the use of JSA/SSA agreements in the 1990’s that allow a single company to control more than one television station in a given market. These agreements have become standard throughout the industry. In 2003 Nexstar became the first broadcast company to receive retrans revenue. Every broadcaster since that time has followed Sook’s lead, and retrans currently generates $13 billion in annual broadcast revenue, or about half of the total revenue for the industry.
Sook continues to innovate today. One example that I think illustrates how his mind works is his comment that Nexstar is considering ways to monetize their sales force during the March 14, 2022 Deutsche Bank conference:
We also have a 1400 person sales organization, deployed across 2/3 of the U.S. that calls on… almost 40,000 SMBs [small and medium-sized businesses] and that’s an attractive asset that we think we can continue to grow. And perhaps our sales organization becomes its own line of business. What can we sell besides advertising to the businesses and the SMBs we call on in our local market places?
Another innovation is the launch of NewsNation, an audacious attempt to compete with Fox News, CNN, and MSNBC. Nexstar has repurposed WGN America from a rerun cable network into a cable news channel, creating value from an asset that had huge distribution, to ~75 million U.S. households, but which generated very little cash. The venture is already FCF positive, likely the result of the substantial synergies with their existing local news footprint. Since the big 3 mostly provide political advocacy journalism, NewsNation will attempt to carve out a niche by providing unbiased news, though whether there is a profitable national market for this remains to be seen. If there is, then NewsNation could be another homerun for Sook and for Nexstar.
In addition to being innovative, Sook has relentlessly pursued accretive M&A, with more than 30 transactions throughout the company’s history, always with a focus on increasing FCF/share. After each acquisition, Nexstar would implement their efficient playbook at the target company, and ramp FCF meaningfully above where it had been pre-acquisition. The results for shareholders have been nothing short of spectacular. In 2012 Nexstar was on track to earn roughly $2 a share of fully taxed FCF and was trading at just over $6 a share, an incredible 3x FCF multiple consistent with the melting ice cube narrative that drove valuations then just as it does now. Fast forward to the present, and guidance today is FCF of $35/share. The stock is up 25x, and FCF/share is up 17.5x, over the past 10 years.
Not surprisingly, Sook and COO Tom Carter have an absolutely stellar reputation, and are widely seen as the industry’s best-in-class management team. The financial results for shareholders obviously speaks for itself. But it’s also readily apparent that Nexstar is highly innovative, and what they do today becomes industry best practice tomorrow.
The data toll road
CEO Perry Sook addressed the initiative to monetize Nexstar’s excess spectrum by building a data toll road at the March 14, 2022 Deutsche Bank conference:
We and Scripps actually have a 92% unduplicated reach of the United States with our spectrum assets. So the cadence of conversations as to what we can do together to create business monetization our spectrum… We believe that by the end of the decade, 2030, that spectrum revenue could rival distribution revenue, retrans revenue, for our industry, and certainly for our company… We think the monetization will begin literally in the next couple of years…
We see our place with our spectrum being the wireless connector of the internet of things… other attempts at spectrum monetization have been to develop a product and try and sell it to consumers. Our view is, let’s create a toll road and see who wants to drive on it… we think there are two dozen base uses… the data transmission opportunities are substantial and varied… BIA came out with a white paper on ATSC 3.0 and… affirmed what I had been saying, that by the end of this decade spectrum monetization could rival distribution revenue today, which for us again is about $2.5 billion… done the right way we wouldn’t necessarily have to share that revenue with anyone else… we’ll have stations with a 3.0 signal… reaching half the country by the end of this year.
To sum up, if this goes according to plan, Nexstar begin generating revenue from this initiative in 2024, which will then rapidly grow to something like $2.5 billion of very high margin new revenue by 2030.
As a low-end valuation estimate, I assume Nexstar will gain no benefit from spectrum monetization, and assign no value to NewsNation. I also assume that in 2027 the company finally becomes a true melting ice cube and put a low 5x FCF multiple on it as a result. As I calculated above, in that scenario the legacy business, including dividends, would be worth $387 in 2027. If we discount that back to the present using a 10% rate, the stock would be worth $240 today. That’s at the low end.
If the spectrum monetization actually pans out, then the valuation absolutely goes through the roof. $2.5 billion of high margin recurring revenue would be seen as very, very valuable by the market. For this calculation I assume they reach half this run rate by 2027. While we can only guess at what “high margin” means exactly, as a placeholder I will assume that 40% of this winds up as FCF. By 2027 the company will have generated ~$10 billion of FCF between all sources of FCF, and if 70% of this is used to repurchase shares at an average share price of $350, the fully diluted share count would be 22 million shares. FCF would be ~$2.3 billion per year, and FCF would be just over $100/share. Put a double-digit FCF multiple on this and the price per share is at least $1000 in 2027, or a $620 NPV discounted back to the present at 10%.
The base case valuation range is therefore $240 to $620.
Risks to the thesis
Probably the biggest risk facing the company is that the new spectrum monetization initiative won’t work out and the existing cable ecosystem will collapse much faster than expected. The company does carry ~$7.2 billion of net debt and is 3.7x levered, so if cable subscriber attrition ramps much higher than the current low single digit percentage annual rate, the company could be forced to use all of its FCF for debt paydown for
the foreseeable future. If the spectrum initiative doesn’t come to the rescue, then the market might understandably respond with an even lower multiple.
It’s also clear that CEO Perry Sook is an extraordinary leader, and Nexstar does suffer from classic key man risk as a result. The legacy business valuation probably does not change with or without Sook, but much of the upside might depend on him. Mr. Sook is 62 years old, and I have no reason to think he is in poor health.
Nexstar is a moderately levered growing company, with best-in-class management, that’s trading at a melting ice cube multiple of 5x FCF due to the well-known stresses to the cable ecosystem. Nexstar’s price is too low even based solely on its legacy broadcast business, but the company’s innovative management team is launching a potentially game changing monetization of their legacy excess spectrum, intending to build a data transmission toll road that they will lease to the highest bidders. Given management’s track record, ramping FCF up more than 17x over the past 10 years, and delivering 25x returns for shareholders, it makes no sense to bet against them in this endeavor. The stock is anywhere from underpriced to wildly underpriced and should be bought.