Chit Chat Stocks - E.W. Scripps (SSP) with Ben Claremon

Episode Date: November 25, 2021

E.W. Scripps operates a media enterprise through various media brands. What started as a local newspaper business now has over 60 local broadcast media stations. Ben brings his expert knowledge of E.W. Scripps for a great discussion regarding the history and future of the company. Enjoy the show! Our Thursday Deep Dives are sponsored by Quartr, the new way of doing company research. Access conference calls, presentations, transcripts, and more for FREE on your mobile device. Download Quartr on the App Store here: https://apps.apple.com/us/app/quartr-investor-relations/id1552412128  Download Quartr on the Google Play Store here: https://play.google.com/store/apps/details?id=se.quartr.android  Special promotion through the end of 2021: Subscribe to 7investing with the code "chitchat" and get $50 off your annual subscription: https://7investing.com/subscribe/ Want updates on future shows and projects? Follow us on Twitter: https://twitter.com/chitchatmoney Interested in more of Ben's work? Follow him on Twitter: https://twitter.com/BenClaremon?s=20 Rather watch us on video? Subscribe to our YouTube channel: https://www.youtube.com/channel/UCG5Ni-SI-jyrEsoNUhqftNQ  Contact us: [e-mail]  Timestamps E.W. Scripps | (7:39) Time to Cut the Cord? | (29:55) Disclosure: Chit Chat Money hosts and guests are not financial advisors, and nothing they say on this show is formal advice or a recommendation. Brett Schafer and Ryan Henderson are general partners and portfolio managers at Arch Capital. Arch Capital and its partners may hold securities discussed on this show. Learn more about your ad choices. Visit megaphone.fm/adchoices Learn more about your ad choices. Visit megaphone.fm/adchoices

Welcome to Chit Chat Money. Today, we have an interview with Ben Claremont. He is a first-time guest and this one was fun. We talked about EW Scripts, which is a company most people probably haven't heard of, but he knows the business extensively. He knows it really, really well and he works for Cove Street Capital. We get into all that. Any highlights from the interview? Yeah. His analysis of what the assets were, what they do, how they actually make money, what are the risks for declining sales and profits? What are the opportunities to growing sales and profits? You kind of look at them and you think, all right, broadcast television is one of the big assets. And you're like, what's the durability of that? Everyone thinks immediately

in their head, oh, this is a dying business. But he kind of goes through why it is perceived as a dying business, why it might not actually be as a dying business as it is, but also some of the risk as well. So that was great. That was my favorite part. Yeah. And if you can get a business where everyone tends to think it's dying and it's not, that can lead to pretty good returns. So I think this is definitely worth listening to. Before we get to the interview, though, we want to talk about our friends quarter. We have now passed earnings season, I think, but I used it almost religiously this quarter. And it's, I mean, it's the easiest way to listen to conference calls. They're all there. You can also read the transcripts. They have investor

presentations as well. You can add emojis along the conference call if you want. So if there's something notable that you want to remember, you can just add an emoji, fire emoji whenever there's something exciting said. And so it's just a fun way to listen to conference calls and it's much easier than just trying to pull it up on your computer and listen. It's just a really intuitive solution um and so yeah you can go ahead download it it's quarter q u a r t r no what is it though you have to say i just described it i know but what where can people get it oh it's an app uh it's uh it's on android it's on ios um yeah go ahead download it quarter uh you can also follow them on twitter at quarter underscore app remember it's q u a r t r no e go ahead check them out

without further ado. So I have a seven investing promo, special promotion. Remember, $50 off through the end of the year, code CHITCHAT. Limited time offer. So if you're looking to get into seven investing, get into the research service,

check it out. Limited time, $50 off the annual subscription. If this is the perfect time to start it off, little holiday gift for yourself or someone else, we're going to give you a discount. If you're going to subscribe anyways next year, go ahead, use that annual. now, $50 off with Chit Chat, save some money. You're welcome. That's our gift to you.

Now, without further ado, let's get to the interview. Welcome to Chit Chat Money. On this show, hosts Ryan Henderson and Brett Schaefer interview industry experts and riff on the world of investing. As a quick reminder, Chit Chat Money is a CCM Media Group podcast. Ryan and Brett are also general partners at Arch Capital. And Arch Capital may have positions in the securities discussed in this podcast. Anything discussed on Chit Chat Money by Ryan or Brett or any other podcast guest is not formal advice or recommendation. Now, please enjoy this episode. All right. Today, we are welcomed by Ben Claremont. He's a principal and portfolio

manager at Co Street Capital. We got connected through Louise Sanchez, who has been on the show before. And so why don't, why don't you give us kind of your background? This is your first time on our show. So how'd you get into finance to begin with? And then how'd you end up at Cove Street? Sure. Thanks. First of all, thanks so much for having me. So I actually went to undergraduate business school. So I was exposed to finance pretty early on in my life, but wasn't particularly focused on my finance and accounting courses because my family's in commercial real estate. And so real estate was the path for me. So basically I was myopically focused on graduating and focusing on real estate and so that I could start my career

in the family business. That worked pretty well for about five years. And at that point, I started to look around and I think I was thinking about what else I could do. And just because the family situation wasn't quite as rewarding as I'd hoped it would be. And a friend of mine who worked for a hedge fund who I was living with handed me a copy of Ben Graham's book, The Intelligent Investor. And yeah, it's totally a cliche. There are plenty of people whose lives have been changed by that book, but it's true in my case. I read that book and I said, this is what I want to do professionally. I love the idea of analyzing companies and businesses and the intellectual stimulation of trying to outsmart a very, very, in general, I guess, a very efficient

market. And so I was trying to figure out how to sneak my way onto the buy side without any experience. And I was really lucky to be able to get my first job on the buy side in 2007. Timing wasn't great, but as you guys may know, getting that first job is just like a really tough thing to do. And it's great when it happens. And so it started with a long, short fund in 2007. the the market obviously started to rupture around that period of time so it was a very difficult time to raise money as a new hedge fund um you know and so it was a trial by fire i mean i was busy shorting financials and in in 2009 and 8 which was a interesting start to my career um and so what ended up happening is that fund wound down and it really wasn't because of performance

we actually did really well um you know when the market was down a lot but it just like it was mostly the founder's money anyway and he didn't like having outside clients is annoying and so he's like why am i doing this and so at that point i started to figure to think like okay well maybe if i had more of a background in in in finance and accounting it would help my um my candidacy for my next role so um i went to business school at ucla and so that's how i wound up at at ucla anderson oh that's how that's how i wound up in la um and uh the story of how i got to cove street is one that I tell and I always, you know, caution people that's a very difficult story to replicate, but there are lessons that can be learned from it. So, in 2009, I went to my first

Berkshire meeting and I made the crazy decision to try to take down every word that Buffett and Munger said. And if anyone's been to a Berkshire meeting, you would recognize that's a very painful endeavor because it's five or six hours of Buffett and Munger talking. And these were, this was before live stream. This was before transcripts were available, like to know what Buffett and Munger said, you kind of had to be there or you needed good notes. And so I took notes from 2009 to 2011 and posted them on my blog. And I guess I became known, the blog was called the Inoculated Investor, by the way. I guess I've been, got known as like the guy who went to Berkshire to take notes. And so when I was looking for a job, a guy who I didn't even know

recommended me to my boss, my current boss and founder of Cove Street, said, I don't know who this guy is, but anyone who will sit there and take notes for six hours, you have to meet him. And so Jeff was kind of spinning off from his old firm and started in Cove Street. And the rest is history. I've been here 10 years. I'm a partner. And I'm also the portfolio manager on our SMIT cap strategy. Nice. That is funny. That's a lot of note taking. But today we are talking about a company called EWScripts. This is our first time discovering the business. So this is a totally new name to us. So can you kind of explain what the business model is and then how it's evolved in recent years? Give some of the history. Yeah, sure. Happy to do that. So let me

just give some stats first. The market cap is about $1.6 billion and the enterprise value is about 5.4 billion, which will suggest to you that there's some debt on the business. And we'll talk a little bit about that. So Scripps was a business that actually started almost 140 years ago, I think. And it started in a local newspaper business. And it's a funny story actually of how the business was founded. Edward Scripps thought there was room for a second newspaper in Cleveland. The main newspaper back in that period of time only catered to rich people. and he thought there was room for a paper that didn't cater to rich people.

So he started what was called the Penny Press and he charged a penny for it. And so the business started, the company started in the newspaper business. In 2015, Scripps actually merged the newspaper business with Journal Communications. And so they haven't been in the newspaper business since 2015, but that was the origin.

And so the company has a history of building and selling businesses. So in 1994, the company started in building cable news networks. So you may know Home and Garden TV, HDTV and the Food Network, which was launched in 1997. So like so as part of EW Scripts, they were they were they were funded and they were built and then they were eventually spun off in 2008. And eventually that business was acquired by Discovery for about almost $15 billion in 2000. And I think that was what year was that? I forget what year that was in recent years. I think it was 2017 that that business was bought.

So as I said, this company has a long history of building businesses and monetizing them. And what that means is that the business overall has evolved a lot. We started in newspapers, got into cable networks. So what is the business now? So right now you have two segments. One is a local media segment. And what that is, is 61 local broadcast stations across the US. So think about the local ABC, NBC, Fox, CBS affiliates in a certain market.

So they own the ABC affiliate in Phoenix, for example. So when you turn on the 6 o'clock news on ABC in Phoenix, you're going to see a script station. And as of right now, ABC and CW is another one of their large partners on the broadcast side, and NBC are the three largest partners. Their top five markets are Phoenix, Tampa, Detroit, Denver, and Miami. So pretty solid MSAs, but we're not talking New York and L.A. So how does this segment make money? So really, there's three ways it makes money.

And really, the way you think of broadcast television mainly or typically is that they're selling advertisers to local business advertisements to local businesses. So local auto dealers, for example. So the local Chevy dealer will will on the five o'clock news will have an ad and they will they have certain slots that they can sell ads. And then there are certain slots that NBC or their partner can sell ads. And so during news time, that is when they sell a lot of their ads. It's the most highly valued time. So think of just any local business that you know that would advertise on the 5 o'clock news. That's where the core ads come from. The part of the business that has really evolved over the last decade is what we call retransmission revenues.

So it used to be that if you subscribe to the cable bundle, given that the stations, the broadcast stations were available over the air, which means that you could put up a digital antenna and get the stations for free because of that charter, for example, didn't pay very much or anything for the local affiliates to be in the cable bundle. And so they didn't get any revenue. They made their money through ads. They didn't get any subscription revenue. And that changed, I would say, about 10 years ago. And now that's become a much larger part of their business. So if I'm Charter or Comcast, I pay scripts on a per sub per month basis for a subscriber in a certain area.

So if you're in Phoenix and you're using Comcast, right, like the subs that are on Charter, or sorry, on Comcast will, so Charter, sorry, Comcast will pay scripts for those subs to appear in the cable bundle. And so what's happened over time is that the number of subs has been declining, but pricing has gone way up. Because if you think about broadcast, broadcast stations, ABC, NBC, Fox, and CBS specifically, get a lot of viewership. Part of that's the NFL. Obviously, sports and NFL have huge viewership, but also all of the scripted shows and comedies that people watch. There's a lot of viewership. And relative to the viewership that the affiliates generate and the networks generate, they weren't getting paid very much. So what's happened is they've gotten paid more and more over time because they generate so many viewers. Um, and so, you know, that segment, the, the retrans part of, of, of the local media business is now 50%. So it's gone basically from zero to 50% of the revenue and that's contractual revenue.

Now the sub base has been declining, but that's still a much more like a subscription business than I just sell ads. And if the economy sucks, then I can't sell more ads. um and the other kind of wacky thing about uh this business is is in the local media segment they sell a lot of political ads so on an two on two year periods um in in presidential years and the non-presidential years they get huge windfalls um so especially when there's a presidential election they bring in a lot of money and it comes in at high margins But even in off years, when there's just gubernatorial and congressional and senatorial races, they generate a lot of ad spending.

And as you can imagine, given the environment of the world today, 22 and 24 are setting up to be really big years for scripts. You know, if you think about why, you know, the Democrats margins in the House and the Senate are really small and then the country is really divided. So there's just a ton of money flowing into political. And so if you want a reference, they did in 2020, which was a big, big year for spending, they did $267 million in political revenue. And that basically that all drops off the next year. Like I think they're gonna do maybe 20 million this year. And but then in 2022, it ramps back up. And they actually discussed on a recent call that they think that 2022 could be even bigger than 2020, which is crazy. But really, just given how, you know, divided we all are and how big, you know, how big the gains could be from winning a couple of House seats or a Senate seat, you know, people are going to pour a lot of money in there. And so in 2016, there was this idea that political ad spending on local broadcast TV was done. Trump basically had used Facebook and Twitter and, you know, Fox News to get all this publicity. He didn't run a traditional campaign where because he didn't have the money.

He didn't run a traditional campaign where he advertised on local broadcast. And so everyone said, OK, this gravy train is dead. And clearly, if you look at 2020, which was by far the largest year we'd ever seen, you know, it just it hasn't played out that way. And it's because the politicians and the super PACs believe that local TV is the best way to reach viewers and voters. um and and the truth is facebook and youtube have become less ability to sell political ads just think of anything that's happened whether it's the russian influence on the 2016 election or misinformation right they've just been they've been hampered and a lot of that money has flowed back into the um into the uh the broadcast world so that was a lot let me pause there and see if

you have any questions about the local media segment? Local media? No. I'm curious. I know that there's another segment, but they used to have audio, right? And that's been sold off. Yes. So as I said, this company has a history of value investing, I would say. Most companies don't make financial transactions like a build to sell. We'll buy it, we'll build it and we'll sell it. Like most companies buy things and they think that they're going to own it forever. Right. And so what they did, um, what Scripps did is they, they bought, um, a company called Triton, Triton digital, um, a few years ago, um, and for $150 million, um, they built it up for a few years and then they sold it to I heart, uh, for 230 million in, um, earlier this

year. Um, and they also were very early in the podcasting space. And so, um, in the kind of like 2016, 2017 timeframe, they bought Stitcher and they bought mid roll, which are two podcast platforms. And they spent about $60 million acquiring those two assets. They spent a lot of money investing in them so they could grow. And then they recently sold that business to Sirius satellite radio or Sirius XM for 325 million. So they really nice return on their investment and so you know um maybe we didn't really talk about this but i actually have a podcast myself called compounders where i interview public company ceos and when i interviewed script ceo adam simpson you know you know i asked him like well what what is what is the ethos of this

company that allows you to kind of like build something and monetize it versus holding on to it and he described himself as a portfolio manager right he doesn't you know these assets he doesn't look at any asset within the company as a forever asset. And you could see from the number of investors they've done and the spin of the broadcast, the cable business that they did with Scripps Network Interactive, that this company just has a history of doing these kind of things. So they are completely out of the audio business after a really nice return. And, you know, I think it just speaks to the way that they look at themselves as portfolio managers as opposed to someone who is a kind of a never sell girl all right and back to the

broadcast television stuff so subscribers are declining right that's what something everyone knows i guess that's the big worry for something like this right uh but advertising revenue seems to be pretty stable or growing i don't know if you give any numbers on that uh if you have them handy but is that just because people are really valuing say like a dollar per ad type deal are those rates just going up and up and up and how sustainable do you think that is so let me see how i can answer that so some of the things so it's just really a wacky company to try to to do analysis for because if you're looking at a year over year basis there's a crowding out effect that happens. So if there's only so much airtime, right. And so I can't have a car dealer

ad simultaneously showing with a political ad. And so during political years, there's a crowd out effect where the political ads take over the local, you know, the local car dealer or the local travel agent is not, they're not showing those ads. And so, you know, you'll see weird things happen on a year over year basis. Plus, you know, last year was impacted by COVID. So let me, let me just take a step back and say, what do I think about core ads, you know, outside of political, just in general, I think it's a low growth business. I don't think they're getting much better CPMs, you know, or rates on those ads. I think, you know, news, which is kind of their driver, saw a little bit of a resurgence during COVID. Part of it is because people didn't have

anything else to do and part of it just because like there was a lot of news to consume and so um you know we we see local newscasts getting better ratings than they used to but i'm not sure that's a forever thing so i i think of the core ad side of of any broadcast network as a low growth one to two percent kind of thing and you know so is that some of that pricing some of that volume um but i don't you know getting to the point like this this industry has been quote unquote dead so many times over the last 20 years right and it just hasn't been killed um and part of it is because of the investments that the networks make in content think about how much money cbs and um nbc and fox put into football and how much they spend on these scripted shows

And so the truth of the matter is people watch these shows. I think I don't, the data is not up to date, I think, but I think it was in 2019, 23 out of 25 most top viewed events in 2019 were on broadcast. Right. And so it's just been a model that has been very difficult to kill. I don't think it's a huge growth model, but I think, you know, in terms of like price versus volume and going forward, I think you could see low growth. Okay.

Okay. And back to more of the political advertising stuff, who, so if YouTube and Facebook are kind of hamstrung and their ability to do kind of this stuff and they're not really willing because, you know, they already have so many other advertisements and maybe it's not worth the risk to do all this political stuff or embrace it as much anymore. Who are their main competitors for the political, for political ad spending? You know, broadcast, of course you can there. So for cable, So I guess I would bifurcate TV between cable and broadcast.

So for sure, the cable networks as well can sell political ads. It hasn't been, you know, they don't necessarily have as much, unless you're like ESPN, you know, if you're a tertiary or secondary cable network, you don't have quite as much reach. So I think on a per eyeball basis, you get much more reach with broadcast. um you know there are other digital means for for reaching people outside of face facebook and and and youtube for example but really you know it just it hasn't and then look like think about it radio has been in decline who newspapers have been in decline um you know over the top i mean is that possible like are you gonna if you subscribe to peacock for example um and not the

not the pay version, but the version that where you get ads or you can see political ads. Yeah, for sure. It just, in terms of the reach, in terms of getting to vote, like getting the most potential voters per, per, per advertiser for advertisement, I should say, there's just no competition for broadcast right now. And, and for sure, I look at digital as a threat. It is a continuous threat. Um, and so maybe the pendulum, you know, swung too far towards digital and now it's swung too far back towards broadcast and maybe it settles out somewhere in the middle. But I just see, especially in the current political environment, that it is very unlikely that anyone's going to unseat them anytime soon. Okay. And do they own any other assets right now,

or is it just this stuff? So getting to this company and their ability and willingness to evolve and pivot, I'll go into the second segment because then it'll answer your question. So, as I mentioned, the main set, there's the local media segment, and then there's the national network segment. And this business includes Newsy, ION, and Cates. And I'll just go quickly through those. So Newsy is SSP's or Scripps' national news network that is now available over the top. So it's always been available over the top. They are now taking it over the air. So now if you plug in a digital antenna in where you guys are, there's a chance that you're going to be able to get Newsy as one of the stations for free. And so it's a business they've been building.

they're not really trying to compete with with you know kind of sensational news right cn cnn msnbc and fox news i mean it's more it's more based on this company has a history of journalism and they think there is there is room for a platform of like legitimate journalism um in in news as opposed to entertainment so that's something that they've been building this is probably an asset that they're willing to sell i mean it just it just seems like something that may be non-core, but that's part of the national networks. But the two real things I want to highlight about the national networks segment, or I think, sorry, it's not called, sorry, it's not called Scripps Networks. They just changed the name. So they bought a company called

Cates in 2017 for 300 million. And before they made that deal, we were shareholders then. I'd never heard of what was called the DigiNet. But apparently, let's just say you have a station like Scripps' ABC affiliate in Phoenix. That station will have excess spectrum that can be used to have substations under it. And so really, the genius of Cates, who was a founder, he recognized that there was an opportunity to basically lease spectrum that was being unused and create substations underneath it that they could that could be shown over the air and could generate ad revenue and so scripts leased that spectrum and started a few over the chair over the air channels bounce grit and laugh which you guys have maybe never heard of but they're available

over the air and they generate ad revenue um and it's it was kind of an interesting sneaky move where there was a bunch of unused spectrum and the people who were holding it didn't know how to monetize it. So if someone came in and said, Hey, I'll give you a dollar for it. It was better than not using. And so that was how, you know, Kate's got started. And so, so they bought that company. Um, and then, and then that paved the way for the ion deal, which happened last year. So in, in the midst, in the midst of the, of the COVID crisis in 2020, um, Scripps levered up to pay almost $2.7 billion for ION. And so what is ION? ION is another over-the-air and cable station that's available in 62 markets, and it reaches about 96% of homes. It actually has the fifth

largest average primetime audience among all cable-carried networks. And so there are a lot of people who are watching over the air now, and ION gets a lot of viewers. And so it generates revenue by selling advertising into the national marketplace. And so if you guys know anything about advertising, Ion will participate in the upfronts. It's not just scatter and it's not just direct response ads. And so the sneaky thing about this deal is that Ion had a ton of spectrum that was not being used or could be repurposed. And so remember what I said about Cates. kate's was essentially leasing spectrum from other station owners like so non-script station owners like tegna or gray and ion had a bunch of unused spectrum that when you merge scripts

and ion they scripts has the ability to move um the kate's networks from the spectrum they were leasing to ion spectrum which means that they don't have to pay for it and so that is a huge huge savings. What it's led to is it leads to that segment, the Scripps Network segment, generating 40% operating margins. Some of that is from the synergies that come from that deal. You asked how the business has evolved and what assets do they own and what might be underappreciated about this company. They have a 40% operating margin growing business that is exposed to over-the-air viewership, which is growing rapidly because the cable bundle has has gotten so expensive. So in a way, the company has looked at the headwinds that you see in cable

subs and, you know, the pressure on, you know, just the pricing pressure that consumers are feeling because as internet and the cable bundle gets so expensive and they've pivoted over the air and now they have a huge share of total over the air viewership. And that's why, you know, they've been growing so fast. How big is over the air? Like, do you have any numbers on that? I don't have the numbers on the top of my head. But there are millions and millions of people who are subscribing over the air. I mean, you can get numbers and I don't have them off the top of my head either on like the number of cable subscribers out there, but it's been dwindling. And it's been a threat to their core business, to that core ad business where they make money and on the

Retrans business as well, which has been such a gravy train. And I think with Cates, they pivoted way earlier than other people did and realized that the over-the-air network was going to be over-the-air viewership was an outlet for people who just didn't want to pay $150 a month for the cable model. Okay. I think that covers the business model pretty thoroughly. We've got a whole bunch of more questions, but before we get to that, we're going to take a quick break. this episode is brought to you by direct tv stream direct tv stream brings you the live tv you love that means you can stay up to the minute on 24-hour live news from entertainment to current events wherever you are in the u.s whether that's at home on your tv or streaming on the go and you

get your favorite live sports so you can catch this season's biggest games get the best of live TV with DirecTV Stream. Get your TV together at DirecTV.com. tomorrow you triumph. Book your stay at LQ.com. Okay, welcome back in. The first question that I have on the top of my mind, and I think this is probably what a lot of listeners are thinking about, is as Cutting the Cord continues, how is Scripps' position? How do they move into that, I guess, new wave of consuming media? Yeah. So, I mean, I think we talked about the importance of Ion and the pivot that they made in buying Cates and Ion. So let's be honest. I think I'm a very practical person as an investor, and I worry about a lot

of things that may not go wrong, but they consume me. And in this case, yeah, I am absolutely worried about two things as it relates to the traditional broadcast business. You have the people continue to cut the cord. Now, the pace of decline has decelerated, but COVID throws a lot of curveballs into that. So it's really hard to know what the pace of decline is going to be going forward. But I would assume that they're going to have a headwind in terms of the number of viewers who are accessing broadcast through the cable bundle pretty consistently going forward. And the other issue that comes with is that, as I mentioned on the retransmission revenue, they get paid on a per sub per month basis. So if subs are going down 5%, you're not, you know, that's 5% potential drop in revenue unless you have pricing power.

And so here's the rub here is that how many businesses have you ever seen with declining viewership or membership and the ability to raise prices? probably really few and so the issue has been as i mentioned that broadcast relative to its viewership was under compensated by the by car by the charters and comcast of the world and but but that floor has has risen a lot and now they are closer to being fully compensated for their viewership and there are um and if you read the news i mean right now tegna and dish are in a dispute and Tegna's stations are not available on Dish right now because Tegna and the other broadcasters have been pushing for higher pricing per sub per month. And the people like Dish and DirecTV specifically who have really fast declining businesses have

been pushing back. And so I worry to some degree that the gravy train associated with retrends that has seen higher pricing, but lower viewership is going to stop and that every new negotiation that happens every three years is not going to lead to higher pricing. So I look at the pivot to ION and Cates and over the air as almost like a hedge, but also an opportunity to continue to grow with the over the air market because all those negatives that I mentioned for the local media business are positives for over the air. So, you know, in some ways, Strips is going to have a higher margin business growing at, you know, low thing, well, low double digits next year, but, you know, maybe even high single digits going forward

that can offset any declines in the, or more than offset any declines that they're seeing in local media. So I think they're pretty well positioned, but I am very cognizant of the risk of what the cable bundle looks like in five years. What does news viewership look like in terms of are millennials and Gen Zs going to watch news, or is that only boomers and Gen Xers? So I do think there are some headwinds, and the company would disagree with these, but I think there are some headwinds in local media that can be more than offset with what they're doing in the Scripps Networks business. Okay. That's a great overview of that. Before we get to more of the financials,

you know, the debt loan stuff, what are your thoughts on the management team? You talked about it a tiny bit. I know you've interviewed them. You know, what do you like? And I don't know if you have to say dislike anything, but what are your thoughts on them in general? So this is actually a funny story. And so we were, you know, we were shareholders when Adam Simpson became CEO. And I would say we were not sure about the transition there when he first came in in fact our founder um you know basically said that that he was constipated um at first and i think we actually sent him a um a gift package that had some like xlax or something in it and and the implication was that like you know we didn't think adam was capable of

like pivoting or making big bold moves and i will say we have been totally totally wrong about that the script says they've done a lot of m&a they've done a number of pivots they've done a number of diverse divestitures they've done a lot to diversify the business um you know if you know i'll just give myself a plug here like i think the adam simpson interview on compounders was one of the best of the of the entire season so if you're interested in learning more about this business i would just highly recommend um you know listening to to the my interview with adam but you know i think this company has shown the ability to be very entrepreneurial and to be able to evolve with the times like i said this is a business that started in newspapers they saw the decline

in newspapers and they sold it like they were in radio at some point and they got out of the radio business they were in the cable networks business and they sold they spun that off and so you know i just think they have and adam embodies this in a lot of ways they have the mentality of value investors and portfolio managers. And, but also, you know, try to have, and Adam talks about this in the podcast, like have a culture of entrepreneurialism. So, you know, I will say that, you know, he's, they've taken on a fair amount of leverage to make all this happen. And so that's always a concern for me, but honestly, the company's executed really well, whether it's the overall strategy, the synergy capture and the debt pay down, you know, they've

been really impressive so i i think adam has a good capital allocation brain um you know i i think he's willing to sell something if someone else highly values it more highly but he also has this knack for looking for underappreciated assets and i would argue that the mid-roll and stitcher fit that and kate's and ion you know as as in a way you know scripts was the after the kate's acquisition was just a perfect buyer of ion and no one could have extracted the synergies that they're going to be able to extract it. All right. I mean, that pretty much covers, I guess, the business. So we want to talk a little bit about the financials and something that they did that was interesting during COVID was that ION acquisition, which you talked about,

and that required some leverage. So what do you think was their rationale for that? And then what did that take? Because another question we have is about the Berkshire preferred share. So can you kind of warp that in there as well? So as you can imagine, conservative value investors watching one of their companies lever up to do a deal in 2020 was a little nerve-wracking. I don't think the market understood it because ION, I think, was an over-levered, kind of orphaned asset that no one really knew what to do with. It was the insight that I mentioned that they could move all of the Cates networks that were leasing spectrum from other people onto the ion spectrum, which was really a stroke of

brilliance in a lot of ways. And so that's how you get to $500 million in synergies on a $2.65 billion deal and $587 million in ion revenue. So if you just think about those numbers, you're approaching 10% of sales, of synergies over sales of 10%. That's as high a number as I've ever seen. so so basically as i said kate's was actually kate's because of the kate's assets scripts was the best owner for ion and no one else had that synergy opportunity and so as i'm thinking about

this deal and why they did it and the risk associated with it a lot of the deal gets de-risks just because this is a mechanical thing a lease is up with uh well you know they're leasing spectrum for the next year with Tegna, who's another broadcast company, that lease rolls off and then they don't have to pay any more rent for that spectrum because they can move it onto the ION spectrum. So as opposed to very difficult merger synergies where you have to consolidate plants or you have to mix cultures or some hypothetical revenue synergies, this is just a mechanistic thing.

And so I think that's some, I think that was one of the main reasons why we got comfortable with it. The other thing is the Ion deal gives them a lot of scale. And so if you think of advertising or in any content right now, content production or distribution, scale is really important. And so before they had Ion, Kate's was kind of a, you know, a little bit of a backwater when it came to like people who are advertising on Bounce and Laugh. So they actually have a lot of direct response ads. I don't know if you remember what those are, but like, you know, like this is a 20 minute infomercial on whatever, the ice cream or something like that. Like they had a lot of those kind of ads. um but the when you add ion to the mix the scripts can put all of the national networks together newsies um uh ion and cakes and take them to the up fronts and so when you go to the up fronts you can just get much higher rates because you have just a lot more it's just you're participating

in a in a much more competitive market where there are large advertisers putting money to work So, I think an upside opportunity with Ion is that scale is going to lead to higher CPMs for the entire Scripps Networks business. And I think, you know, what else got us comfortable with the deal is that, like, you know, Scripps is just constantly zigging while others are zagging. Um, and, and, and, you know, they've, they've moved from having a very small share in broadcast television to having a very, very large share in OTA. And, and I think that is a, that's a growing business. And I think there's, you know, there's plenty of logic for a consumer who doesn't want to pay $150 a month and can, you know, cut the cord, pay for internet, subscribe to Disney

plus and Netflix, and then, and then consume, you know, a lot of stations over the air. So I think there was just, you know, it was a nice strategic move. And, you know, so getting to the question about Berkshire, look, I always like to have Uncle Warren and Ted Weschler as partners in any deal. But let's be honest, right? Berkshire got a pretty big deal, a pretty good deal here, right? So the financing was a $600 million piece of preferred stock with an 8% dividend. And so I don't know where else you're getting 8% dividends. So that's on a preferred stock. So that's probably a pretty good position. They also got $23 million, sorry, $23 million warrants struck at $13. And the stock's almost 20 today.

So it's been a good financial investment for Berkshire. But I think to some extent, the fact that Berkshire was willing to underwrite this deal validates the staying power of the local broadcast model. And I think actually, you guys may not know this, but Berkshire, I think, still owns a local TV station itself. There was a complicated transaction where they acquired a local TV station from Graham Holdings in an asset swap. So, look, I don't know. I don't think Buffett and Weschler wake up every day thinking that broadcast television is going to be the next Amazon. But I do think that to some extent, having them as partners and their involvement here is validation that this was a pretty sound deal. And there was a lot of industrial logic behind it.

And if I'm not mistaken, they aren't allowed to repurchase any shares until that preferred is paid off. am I getting that right? I think that's right. Okay. And they're not in any position to repurchase shares, right? They're just getting the leverage question. I mean, they're on a, on a, on a trailing basis, they're 4.7 times lever, which, you know, as a conservative value investor is a little concerning to me. Now the cashflow profile business, cause with the addition of ion has completely changed. So I think they have the ability to pay it down and we can talk more about that, but I don't, you know, they should be focused on paying down debt and not, not buying back stock. Even if, even though I do think it is really undervalued, I don't think they have a

lever to, to, to, to change that aside from just good execution. Right. Let's get to that. Yeah. Let's get to the debt more in detail. They have, I guess you can give the exact number, maybe the amount of long-term debt. What do you think the path is to managing that or paying it off or, you know part of paying part of it off or refinancing it whatever how much cash flow are they generating and how you know what kind of growth could you expect in the cash flow to help pay that off okay kind of give some context around that yeah so you know they have over three billion in long-term debt um on the balance sheet and so it's it's it's a big number um so but let's let's talk about how they're going to manage that so as i said the scale of the business with the addition

of Ion and the synergies they get with Cates allows for substantial free cash flow. So they've guided for about $250 million this year, which is a decent amount. But I think you're going to start to see next year in calendar 2022, the cash flow generation ability of this company in its full form. And so next year is going to be a political year. And so you're going to get that windfall. but you also have the ion synergies, which they've talked about kind of like 120 million per year kicking in over a five or six year period. And so as I start to layer in that in my model,

I'm getting to $400 million plus in free cash flow. And so they've talked about being four times levered by the end of next year. I think that's achievable given the cash flow profile, obviously anything can happen. And COVID was a curve ball, but I would argue that the fact that this business has been resilient as it has been even during a very difficult COVID period speaks to their ability to manage the debt. And the thing about these guys that makes me a little nervous is that they've been willing to continue to make deals even when they had what I would call a little bit of extra leverage. So a couple of years ago, they bought a bunch of stations from a company called Cordillera. And they levered up to do that. And then COVID hit.

And then all of a sudden, they're buying IAM, right? And so to some degree, like this, they've been more comfortable with leverage than this company has ever been, because this is still a family-owned, family-controlled business. Now, Adam Simpson is not a relative of a Scripps person. But there are still Scripps people who own the controlling shares here. So So, you know, a lot of family owned businesses are more conservative and they haven't, you know, they're very, I think, very just very hesitant to put on a lot of debt. But, you know, they've done a pretty good job of, you know, managing the debt, paying it down, managing the decline in the sub base in the local media segment and still being able to grow that business. so you know it's it's not something that doesn't concern me it certainly is i think they have a path i think they're going to generate a ton of cash next year um and and look 2024 i don't know

what you guys are thinking about political but anything that i can see right now is suggesting that 2024 is going to be an insane year for political ad spending right and so that's that's another thing that they have on the horizon and i think they also have a lot of opportunities for improvement. So as I mentioned, better rates and CPMs within the Scripps Networks business as that business matures a little bit. What else do I have here? Let's see. I think the other thing that's going to happen, and this is both a risk and an opportunity, is that over the next couple of years, a lot of their relationships with the cable companies are going to re-up. So what they do is they typically sign three-year agreements with Comcast, for example, and then after three

years, you negotiate your retrans. How much per sub per month are you going to get? And every year over the last five or six years, those numbers have been a lot higher. Now, there's a risk that it could go down, but the history suggests that that number could be even higher. What else? um i also think connected tv which is just a little interesting thing that i haven't seen the other broadcasters doing is that that given that um scripts has so many over the air stations they've started to hit the connected tv business um and and start generating you know ads by providing by having those stations on connected tvs as well so um you know i don't know how big that business could be but they just they have a lot of little incremental things that they can

improve upon, but mostly the ION synergies and the political to help them navigate the debt burden. Okay. I have a question. You can feel free to shoo this one away if you want, because it could be slightly political, but it's not intended to be. I'm genuinely curious. Do you think Trump running is a benefit or a positive for Scripps advertising revenue? Yeah. Yeah. It's a massive positive because because unlike in 2016, where he didn't have any funding, he will be potentially the most well-funded presidential candidate in the history of U.S. elections if he runs again in 2024. um and so they will flood is to the degree that they can digital but they will absolutely be trying to hit you know kind of swing voters in close close states and and really i over the next two or three years like i don't see anything that's going to unseat broadcast as the most

effective way of reaching people so yeah i mean it would be a likely a massive windfall um and especially if you had close house like like let's say the republicans are able to flip the house or flip the senate um in 2022 it's not going to be by a huge margin so any other any additional races that are up you know in in 2024 you know you're just you're just going to see a massive political spend and like look i have my own comments about and thoughts about is that good for democracy is that good for society? Is this a good use of our resources? Maybe not, but from a pure financial basis, it's a tailwind for Scripps. Okay. You guys have obviously done a ton of work on Scripps. So do you guys have a price in mind? What do you think it's worth today? And then

I guess to remind listeners, what's it at today? Yeah. So the stock trades is a little under $20 today. And one of the weird things about scripts is that it's a kind of complicated thing, as I said, to value because you have these up and down years. So this, you know, 2020 was a huge year. 2021, because political disappears as a low, as a down year, and then 2022, and then 2024 are going to be significant up years. And so when I'm doing in a sum of the parts analysis or multiple analysis um and this is this is common in the industry is you average two years worth of EBITDA so I'm like so as I'm valuing scripts going forward I'm averaging 21 and 22 EBITDA um because you can't you can't take one point and value it because you know you're gonna whatever it

is you're gonna have a big shift the next year um and the other thing that makes scripts a little squirrelly is that Scripps is not a perfect comp for companies that are more pure play broadcast, like a Tegna or a Gray, which are more pure play because Scripps has the Scripps Networks business. And so you have a 40% margin business that's growing. I think people might place a premium on that because of the growth in OTA viewership relative to segments and companies that are tied inextricably to the cable bundle um so um getting to you know it's a long-winded preamble because i just i have to you know i always want to caveat that like it's not you have to dig a little bit and think like to take a step back when you're valuing scripts but everything that i look at

points to a low 30s value um so that where does that come from so if you put a 9x uh ebitda multiple on average $21, $22 EBITDA for Scripps. It's getting low $30, $32, depending on what EBITDA is. And I don't think that's a crazy multiple for a 25% EBITDA margin business that's growing. And if you want a recent comp, Gray just bought Meredith's broadcast networks for 10 times EBITDA. And I would argue that the combination of Scripps local media business plus Cates is way better than anything Meredith had. So I think that's a conservative estimate of what of what it could be worth. Alternatively, you know, I've got them earning on something like 240, 250 in EPS in 2022. So, you know, if you just put a 13 multiple on that, which I think is pretty conservative, given where the market trades, you're getting low 30s.

and then I our DCFs are notoriously conservative I'm not going to get into why but like our DCFs like almost never work for any companies just because of how conservative they're built and you know even if I put even given our conservative structure of our DCF plus our conservative estimates of the future if I put a nine percent whack I'm still getting low low 20s so you're getting a nine percent embedded return plus upside you know based on our DCF so you know Everything to me says low 30s is easily achievable over the next two to three years. A lot of it, as I said, is just blocking and tackling, right? They need to execute on the ION synergies.

They need to pay down some debt. They need to continue to find little opportunities to grow that other people are neglecting. But look, we like the management. So we go through three pillars of our investment process. Business, value, and people. I think the people are great. You know, as I said, Adam has surprised us, but, you know, they've done a really good job of navigating a lot of different things that have been pretty difficult. I think the value is very compelling under $20.

I think you can see 50% upside without a lot of heavy lifting. And then the business, we've gone a lot into the business. You know, the local media business remains a question mark. Um, but I think the, the pivot to over the air and the pivot to iron on Kate's has just, it's completely changed both the cashflow profile of the business and the growth profile of the business. So I would argue that relative to the other broadcast companies, scripts may have the best growth trajectory of all of them. And so, you know, when I, when I see a trading at a very pedestrian multiple, you know, even in relation to some of the other broadcast companies, it's,

you know, I think there's an opportunity here for, for anyone who's willing to do the work. Okay, that's a great overview. And you've talked about some of the risks already. But are there any other risks to this investment that an investor should be aware of? Yeah, sure. Let me see. Let me get to my broad list of risks because it is something that we focus a lot on. So let's start with leverage. As I said, you know, 4.7 times trailing. Obviously, there's a cash flow profile of the business that has gotten more attractive. But, you know, that requires continued execution and an environment that is conducive to the company growing the top line. And so, you know, obviously, anything that happens to political next year would be a headwind. If for some reason political ads went back to Facebook and YouTube or, you know, Twitter took over the, you know, that that role, that would be it. That would be a headwind. So I think the leverage is always concerning. And I never want to like I'm a conservative guy in general. And I always want to like I want to be very upfront.

that I'm recommending people spend some time looking at a business that is 4.7 times levered. And that is on the outside of what we think, of what we traditionally feel comfortable with, right? Obviously it matters what kind of business it is, but there's still a business that bounces around here, whether that's the core ad business could be up or down, or, you know, like you're still tied to the economy

in a lot of ways, whether that's people cutting the cord or ad spending going down because of a recession, right? Like those would be headwinds and it would delay the ability for them to deliver. As I mentioned, I think the pricing they're getting on a per sub per month in retrans is just not sustainable. And if you read any broadcast call, guess what they tell you? Of course, it's sustainable because the past has been so great. Well, but I worry that there could be a step down at some point in terms of per sub

per month um and you know that gravy train that retrans has been that has made these businesses more profitable and more stable because of it's more like subscription revenue than ad revenue you know that could be that could go the other way um as i mentioned you know a lot of the free cash flow growth comes from the synergy capture um and so you kind of have to believe that management's credible and that those synergies are are legitimate as i mentioned i think a lot of them are just mechanistic as opposed to like taking you know requiring a lot of heavy lifting but it's something that you know you kind of have to trust in management to to to to be willing to underwrite it um uh local news it i i i don't know if you guys watch the local news my guess

is you don't um i don't know many people who are in their 20s 30s or even 40s who who watch local news um and so i think that you know if you are tied to a demo you know the the baby boomer demographic like eventually that starts to be um you know an area that is not a growth you know not a growth in viewership and not a growth in in in you know kind of ad revenue business and so i think the future of local news is a is a big question mark mark in my mind how will you know my son who's two, you know, well, how will he consume news in 10 years? I don't, I don't, or even 15 years when, you know, when he first starts to try to learn about the world, I don't know. But I do think that unless it can become more relevant to young people, it's going to be

hard for them to maintain their new kind of viewership share at that, at those, during those day parts. And the last thing I'll mention, this is a controlled company, the Scripps family controls the voting shares. So, you know, this is not a situation where if something went wrong, you could buy 10% of the company and activist them because, you know, they control the voting shares. And so if you think that the only way to unlock value is for them to be a seller, I think that's highly unlikely. I think the tax situation would be very difficult, but i think you could have also said that any number of times about this company that you know they they you know look their history was in newspapers and they got out of the newspaper

business right and they've divested things and they've spun things so you know maybe at some point the way to unlock value is to separate the local media business from the networks business and do exactly what they did with home and garden and and um and food network um and spin it off so So I think this company has shown the ability to pivot and willing to do interesting things from a capital allocation perspective, but there's no way to force it. So if this stock just languished at $19 for the next three years, an investor wouldn't be able to do a whole lot about it. So I think those are the primary risks I see.

Okay. I think that's all the questions we have. So for any listeners that are interested in you, where can they find you? any resources or uh twitter handles yeah sure so um we're you know cove street capital.com um we have a thoughts tab where we're pretty liberal with what we you know the companies we talk about and how we view the world um i do a lot of interviews myself and my colleagues do as well um so you go to co-free capital.com and go to our thoughts tab you'll find a lot of content from us you can follow me on Twitter at Ben Claremont. Um, I don't, you know, as I, I think as we were

talking offline, I spent most of my time reading, you know, 10 Ks and doing models and stuff like that. But I do tweet every once in a while, especially when, when we're releasing episodes of compounders. Um, and so that that's the other thing you could do is subscribe to compounders, the anatomy of a multibagger, um, season, season one, just finished. We did 12 episodes with public company CEOs. As I said, we had Adam Simpson on, but we also had two Fortune 500 CEOs on. And then season two is going to drop in early December. And we already have one Fortune 500 CEO booked, which I'm excited about. And so, you know, if you're interested in Cove Street and our process and how we think about evaluating businesses and management and culture, I think

the podcast is a good, um, you know, a good way to, a good way to, to get us to understand our firm. And, um, you know, so if you're interested in talking to me about scripts or any of the other companies that we've been public about, or anything you see in our 13 F just, just DM me on Twitter or, you know, find me on coach your capital.com. Perfect. All right. Thank you, Ben, for your time. We enjoyed it. Um, yeah, thanks. The, uh, disclosure. Oh yeah. Right. Before we, before we sign off, Brett and I are not financial advisors. Anything we say or discuss here on Chitchat Money is not formal advice or recommendation. We are, however, general partners at Arch Capital, so clients may have positions in the securities discussed in this

podcast. Thank you all for your time. We'll see you next time.