Yellow Media (TSX: YLO) is an interesting case on how to value a company in an industry clearly in collapse (in this case, collecting advertising dollars by selling paper bricks known as phone books). They are trying to desperately diversify into the 21st century, but just like how newspapers have felt it very difficult to doing so with the same financial models in place, Yellow Media is also in an equivalent state. Although the company currently is cash flow positive, it is diminishing – the exercise in valuation is the future assumption of how rapidly this is diminishing and also whether there will be any flattening of the decay.
That said, the top-line operating cash flow number for the first half of 2011 was $199.6M vs. $293.5M in 2010; still a healthy amount of cash coming into the coffers. Common and preferred share dividends (at the annualized rate as of this writing) is about $118M ($59M for the half-year period at the newly reduced dividend rate), so there is currently room to accumulate cash and reduce leverage.
The company is quite heavily leveraged. As of June 30, 2011, senior to everything are the Medium Term Notes (with a varying series of staggered maturities) – $1,644M; and a $636M credit facility. Junior to this are the convertible debentures (TSX: YLO.DB), a $200M issue. The annualized interest bite on these securities is about $129M a year.
There are also four publicly traded series of preferred shares outstanding. Series 1 and 2 (YLO.PR.A and YLO.PR.B) have approximately 16.9M shares outstanding; these are convertible into YLO common at various dates at $2/share (or 95% of market value if YLO equity ever goes above $2.11/share). The principal value of these shares is $422M. The other series of preferred shares are perpetual with only a call feature (YLO.PR.C and YLO.PR.D) – both of these series give out a dividend and there are 13.6M shares outstanding, face value of $339M.
Yellow also sold Trader Corporation for a net $708M, which closed after the June quarter-end. During the release of this quarter, the company announced it was slashing its dividend from $0.65/share to $0.15/share and also stopping its share buyback so it can concentrate on repurchasing debt and preferred shares. At the end of August they have repurchased approximately $238M in Medium Term Notes, and some preferred shares.
A brief look at the valuation of the various securities – currently, the common shares are trading at 68 cents (giving the company a market cap of $348M, 511M shares outstanding). One item that is clear is that the common dividend is likely to not be sustained at the existing level – the $77M in after-tax cash flow out the window is going to be required to assist in the de-leveraging effort. Once dilution of the convertible preferred shares are factored in, another 210M shares will be added to the share count.
The convertible preferred shares are trading primarily as a function of the common shares (due to the fact that the company will likely convert the preferred shares into common shares as early as possible, especially as they cut the common dividend). This will save the company about $19M/year in after-tax cash flow. The perpetual preferred shares are trading roughly at 28 cents on the dollar (about $7 per share) and this translates into yields of over 20% – the risk is that the company will suspend dividends once they suspend the common share dividends. The market is obviously predicting that this will happen. If they do, they will save $22.4M/year in after-tax cash flow.
The next item on the seniority chain are the convertible debentures, which are currently trading at 41 cents. These convertibles mature in October 2017 (6 years to maturity), and have a 6.5% coupon, giving the debt a 15.9% current yield. Yellow cannot defer the interest payments or it will face default, so it is likely as long as the company has cash flow they will be able to pay interest on the debt.
The question for an investor is whether the company will be able to shore up its cash flow situation, and if so, whether it will be able to sustain indefinitely payments on its preferred shares or debt.
I looked at the cap structure and I though go long the pref B and short the stock because of the inevitable conversion of the pref to equity, but you have to assume the common div will be cut otherwise you will have at current prices negative dividend spread.
the other option is go long the deb, which given their cash flows I would say it going to be ok . I think the company will still attract some advertisers. and will not decline to oblivion overnight. their phone is app is good and talking to a lot of people they like it better than going on google maps because there is advantage of being local. but google is not that far behind on this front.
I think there is value, not a lot, in one of the securities but not the equity because of the potential dilution.
but on the flip side I hate to invest in a company that google is a competitor even at the margin.
This is contingent upon the financial (mis)fortunes of the company, but I would guess YLO.PR.A will be redeemed in April 2012 for shares in conjunction with a common share dividend decrease.
I would also guess at this time that YLO.PR.B will not be redeemed at the earliest date (June 30, 2012) but only when they drop the dividend.
If they do drop the dividend (break-even is 10 cents per common share) then I would expect the arbitrage you suggested to work out and produce a moderate return.
Of course if they stubbornly hold onto their common share dividend at the ridiculously high rate that it is, then there is no point in them converting the YLO.PR.B series until the deadline (June 2017).
I’m guessing management will drop the common share dividend to 2-4 cents a share if they do not outright eliminate it. The interesting play is if the company does keep a very small common share dividend, which means they are obligated to keep paying the preferred dividends and then the PR.C/PR.D series starts to look very attractive. Very high risk, very high reward.
This is also yet another example of a bazillion out there that have demonstrated that when management starts to buy back their shares using corporate capital despite having huge amounts of debt, it is a good reason to run to the exits instead of rejoicing. I bet they would have liked to have their $409M they spent over the past 18 months on their securities back again…
may i ask, what is the role of government in governing stock like this… besides, something i absolutely dont understand…trade is buy and sell, can you please tell me should i buy more of the stock to balancing out those i brought in May of price about 5.5….thanks a lot….. there is lots i dont understand, and i am now lossing a lot on just this stock in just a few months 🙁
please , please , please
should i keep on buying ylo at price 50 cents? since it is too big to be failed, plus something seems mysterious on this stocks,,,,,i dont know what it is , but a strange strange feel. thanks
hongcan, my suggestion would be if you are asking yourself those types of questions, you shouldn’t even be investing in individual stocks.