Nice Price

Last Wednesday, the buyer for Granite Broadcasting's two WB affiliates for $190 million backed out. Five days earlier, Belo Corp. disclosed that it is being sued for reneging on a deal to buy a UPN station in New Orleans from CBS Corp. Still, the recent collapse of two station sales probably isn't enough to halt the resurging market for TV stations.

Those snags are exceptions to the strong pace of the overall market. Despite weak station-group stocks, broadcast properties themselves are fetching surprisingly high prices. Deals for many of Emmis Broadcasting's stations closed recently at startling values. The planned sale of broadcaster Liberty Corp. to Raycom is only slightly less impressive.

That's prompting other broadcasters to try to exploit the wave. NBC is seizing the moment to sell six of its smaller stations. What I find puzzling is that prices are relatively high at a time when the business is stuck in slow-growth mode.

The whole TV-station sector is running in financial slow motion, with revenue and cash flow growing an average 3%-4% annually in election years, down in odd-numbered years. Typically, buyers don't value such low growth rates very highly. While many forces affect a buyer's willingness to pay, one station owner gave me a crude rule of thumb: A company generating 10% growth in operating cash flow often sells for 10 times annual cash flow. The higher the growth rate, the higher the valuation multiple.

Some industry observers think recent buyers are overly optimistic. One media investment banker pegs the $987 million Liberty Corp. sale at 13 times cash flow. Emmis has cut four deals totaling $859 million for stations at 13-16 times annual cash flow. Recently, when asked by an analyst whether ABC needs to beef up its relatively small station group, Disney CEO Bob Iger said, “Every time we've looked at potential acquisitions in that space, we felt that the prices being paid were just a little bit too high.”

And the high-priced deals were generally not troubled situations where the buyer was betting on a significant turnaround. So how do the buyers justify their high prices? The first attraction is that stations generate lots of cash flow, with margins often hitting 40%-50%. (By comparison, strong newspapers generate 20% margins.) Those earnings are relatively predictable, so lenders allow high leverage. That helps enhance returns on investment.

Where does earnings growth come from? “You need four revenue streams,” says Bear, Stearns & Co. analyst Victor Miller. In addition to advertising, there's retransmission consent, digital channels and the Internet.

That's the game plan of one Emmis buyer, Montecito Broadcast Group CEO George Lilly. Known until recently as SJL Broadcast Management, Lilly's group used private-equity giant Blackstone Group to buy four Emmis stations for $259 million, or 14 times estimated cash flow.

The most obvious subsequent move —one that has created a firestorm at one new Montecito station—is cost-cutting. At KHON Honolulu, the company plans to invest more in automated sets and editing systems and lay off a number of production workers.

Top station executives resigned over the planned cuts, and station staffers told a local newspaper that 35% of the station's 112 workers might be cut. Lilly says the cuts will be less draconian than that and phased in over a long period. “We did not do a good job of explaining,” he says. “That doesn't mean it's easy to bring automation in and let 10 people go.”

Lilly is also counting on new revenues. He expects that strong stations will collect cash payments from cable systems looking to retransmit their signals. When millions more consumers buy digital TVs, he believes, new channels may generate modest revenues but carry high profit margins. And he thinks broadcasters will get Internet ad revenues by integrating their stations with their Web sites.

But investor Ken Brotman isn't so confident. He is a partner in private-equity fund Acon Investment, which is backing off a $190 million deal for Granite Broadcasting's two WB affiliates.

Acon wasn't attracted to the TV sector's overall prospects, merely to Granite's special circumstances. The broadcaster has been a troubled company. Acon sought the struggling Granite stations as turnaround situations where the profits would come from stronger management.

He is balking over the Granite deal because of the stations' loss of a network affiliation. The Granite stations have zero chance of getting an affiliation deal with The CW, the network that The WB parent Time Warner and UPN parent CBS are creating out of the two networks' ashes. Granite's stations are in markets where CBS owns UPN stations, San Francisco and Detroit. Acon's AM Media hasn't completely scrapped the Granite deal, but the broadcaster is looking for other buyers.

How much damage does Brotman see with an orphaned station? “If I had that exact answer, we'd know exactly where we were,” he says. “The fact is, there's a lot of uncertainty out there.”

E-mail comments to jhiggins@reedbusiness.com