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Morningstar | Southern Cross Turns Radio-Active. See Updated Analyst Note from 25 Jun 2019

Management's concerted efforts to promote Southern Cross Media as a stable radio entity are gaining traction. Shares are up almost 30% in 2019 to-date (excluding the AUD 0.0375 interim DPS paid in April), and are now trading just 8% below our unchanged AUD 1.40 per share fair value estimate.

There has been an extensive showcasing of Southern Cross' unrivalled portfolio of leading commercial radio properties over the past year. The recent reclassification of segmental financial disclosure has further highlighted radio as both a revenue (69% of total sales) and margin (84% of total earnings before corporate costs) linchpin of the no-moat-rated group.

There are good reasons for showing off Southern Cross' radio-centricity. In an overall advertising market that is down mid-single-digit percentage points in 2019 to-date, the radio medium is showing resilience (likely flat). This is no one-off occurrence, as radio advertising has declined year-on-year just twice since 2007 against an overall market (excluding digital) that has suffered more downturns than upturns during the same time. In the face of structural headwinds, radio listening habits appear relatively entrenched, enhancing the medium's appeal to advertisers otherwise bewildered by fragmenting audiences and proliferating marketing channels.

Against this accommodating backdrop, management is doubling down on improving factors within its control, be it radio programming to lift ratings, monetisation to lift market share or cost control to lift profits. The balance sheet is also well and truly under control, with net debt/EBITDA of just 1.7. Indeed, the financial health is such that it raises the one risk that could derail Southern Cross' defensive-oriented investment case, namely, succumbing to an overture from an investment banker looking to flog some struggling traditional media assets. A besieged regional TV business here or various floundering media properties across the Tasman come immediately to mind.

The flip side of operating in a relatively stable advertising medium such as radio is that growth is difficult to come by. Since 2007, radio advertising expenditures have registered CAGR of just 2%. However, that is still better than the CAGR of minus 1% for free-to-air TV, minus 12% for newspapers and minus 3% for the overall advertising market (excluding digital) over the same period. In fact, radio has maintained its 8% share of the advertising pie ever since this author began his media analyst career back in 1997—a remarkable feat in the face of unprecedented industry disruption since that time.

It helps that radio listening habits have endured. Faced with proliferating digital choices, a recent GfK study has found that 66.4% of people who listen daily on audio devices tune into radio versus 21.3% on streaming services such as Spotify. Critically, Southern Cross is not resting on its laurels. Management is investing in the very technologies that are bound to somehow disrupt current radio consumption behaviour, as evidenced by the group's growing digital streaming eco-system (branded websites, apps) and premium local-content podcasting.

Even Southern Cross' effort to promote advertising spending in regional Australia is partly driven by the potential benefits on its radio operations in these areas. While overshadowed by the capital cities when it comes to media attention, regional Australia is still home to 8.8 million people, or 36% of the country's population. Yet, regional areas attract just 10% of total advertising spending. Southern Cross currently derives almost 60% of group revenue from regional Australia. Of that, 28% comes from its regional radio operation which we estimate enjoys EBITDA margins of mid-30% level, far higher than the mid-20% for metropolitan radio and regional TV. Any uplift in advertising spending in regional areas would have material upside for the regional radio unit, as well as the regional TV business (29% of group revenue).