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Morningstar | Beefed-Up Nine Delivers a Good First Serve

Amidst the mess of noise and impact created by the Fairfax merger, we highlight three key points from Nine Entertainment's fiscal 2019 first-half result, all of which support our unchanged AUD 2.00 fair value estimate for the enlarged group.

First, earnings guidance for fiscal 2019 is reassuring. The projected 10% minimum uplift in group EBITDA (on a continuing business basis) to AUD 420 million is broadly in line with our expectations, if we exclude likely earnings from the to-be-sold businesses of around AUD 65 million from our AUD 481 million EBITDA forecast. Management's willingness to provide this guidance while integrating the Fairfax assets engenders confidence.

Second, the weakness in the result was primarily from businesses earmarked to be sold, with Fairfax's regional/community and New Zealand newspaper EBITDA down 37% year-on-year to AUD 38 million. The crown jewel of the Fairfax stable, 59.4%-owned Domain is holding up well in a weak listing market via astute yield management, the Metro Media publishing units are performing better than expected (EBITDA up 58% to AUD 40 million) and profitability is imminent for the now wholly-owned Stan whose subscriber growth is impressive.

Third, the core TV unit is improving to be a reliable earnings and cash flow anchor for the no moat-rated group. The 6% fall in TV EBITDA to AUD 161 million (64% of group earnings) was a commendable result in the face of a weak advertising market, especially given the 160-basis point rise in EBITDA margin to 28.6%. Fundamentals remain solid, with continuing rise in Nine's ratings/revenue share and declining costs.

The unchanged fully franked DPS of AUD 0.05 was perhaps the only disappointment, being AUD 0.01 shy of our estimate. However, with an underleveraged balance sheet (net debt/EBITDA of 0.6) and expected proceeds from the asset sales program, the potential for higher dividends or capital management down the track is high.

As such, we remain comfortable with our current (largely unchanged) earnings estimates and continue to see value in Nine shares which are trading at a 22% discount to our intrinsic assessment, while yielding more than 6% fully franked at the current stock price. This is despite winding back our DPS forecast by an average of 11% over the next three years, given the AUD 0.10 annual base the board appears to have set for fiscal 2019 full year.

The progress of extracting synergies from the Fairfax merger is on track, with management reiterating the timetable for their realisation. Indeed, the projected AUD 65 million synergy to be achieved by the end of fiscal 2020 is slightly above our AUD 62 million estimate, and that is not counting the potential longer-term upside from rationalising Nine and Fairfax's newsroom/news-gathering resources.

Stan's growth is impressive, with revenue first half revenue up 50% to AUD 65 million and EBITDA loss reducing to AUD 22 million, down from AUD 30 million a year ago. Such is the operating leverage that it is on track to breakeven in the fourth quarter of fiscal 2019. It is, however, too early to declare that a competitive equilibrium has been established in the subscription video on demand space, especially given wild card competitors in the form of Foxtel and Amazon. Consequently, we are still in the dark on what is the long-term sustainable margin for the business and when management will begin to manage Stan to that margin, as opposed to continuing to invest in content to shore its share of the subscriber market.

In terms of result details, reported net profit after tax, or NPAT, was down 1% to AUD 172 million for the first half, inclusive of seven months contribution from Fairfax assets. Excluding the assets to be sold and on a pro forma basis for the remaining Fairfax assets, "continuing business" group EBITDA lifted 6% to AUD 252 million while NPAT increased 5% to AUD 126 million, equating to EPS of 0.074, also up 5%. The AUD 0.05 DPS represents a payout of 68%.