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After being spun off from Discovery Communications (Nasdaq: DISCA ) in 2008, Ascent is now in a transitional period. It recently disposed of its former media operations entirely and acquired Monitronics, a home security business, from private equity owners. Now Ascent's operations consist solely of Monitronics, and Ascent has left Montironics' managers in charge.
Monitronics has an attractive business model in a recessionary-resistant business. The company uses a network of some 450 independent dealers to source customers, who sign multi-year contracts for ongoing service. Customers pay the dealers to install the security system, and then Monitronics has the right to buy the contract based on pre-determined financial criteria. The company capitalizes these contracts and amortizes them over a multi-year period.
Monitronics then provides all monitoring and customer service from its centralized center in Dallas. The ongoing interaction with customers is maintained by Monitronics, which receives monthly service payments from some 665,000 customers across the U.S. Monitronics also works with dealers so that they are underwriting the best clients and establishes contract rules.
The industry has grown despite recessionary periods. Over the last 15 years the total industry has grown every single year, compounding at 6.2% annually. Still, residential penetration is less than 20%. The big dog here is ADT, which is owned by Tyco (NYSE: TYC ) . Otherwise the industry is highly fragmented, with the top 100 players having about $8 billion in sales, or just one-quarter of the industry.
Monitronics has grown even faster than the industry, tallying 16 consecutive years of growth. From 1998 through 2010, revenue has grown a compound 22% per year, while EBITDA is up an average 23% annually.
And that growth hasn't come by accepting low-quality customers. On the contrary, the average credit score of customers has gone ever upward from the year 2000, from a level of 685 to the most recent 721. That customer quality allows the company to have some pricing power. You can see that in the most recent recession, where the company was still able to grow its average subscriber monthly revenue by nearly 4% per year. I like that ability to consistently raise prices.
Why I'm buying
I like the recurring revenue stream of this business. While the company hasn't revealed its customer churn rates, it has reiterated that the industry has about 13% turnover in any year, implying that the average customer sticks around nearly 8 years.
While the accounting for its contracts puts the EV/EBITDA multiple at around 7.6 times, such accounting doesn't give an accurate reflection of the underlying financial reality. For example, the EBITDA margin is around 69%. Because the company has to reinvest nearly half of its capex just to maintain a steady customer base, that 7.6 multiple understates the price of the company. Adjusting for that issue, I get operating cash flow around $100 million against an enterprise value of $1.5 billion. That's not immediately cheap, but if the company can continue to grow even close to historical rates, it will be.
Also of interest to me is that billionaire John Malone has a stake in this company. Ascent -- which is a spinoff of Discovery, which itself is a spinoff of Liberty Media – is 5% owned by Malone, but due to a dual-class structure he owns about 30% of the votes. Malone is known for his skills as a capital allocator in the Liberty empire including Liberty Capital (Nasdaq: LCAPA ) and Liberty Interactive (Nasdaq: LINTA ) , and I think it's important that he's involved in Ascent both as a shareholder and a director.
So I'm buying $500 of Ascent, or 3% of my total capital. If prices get better, then I'll look to add some more, although the stock has held quite firm in recent months. So I'm not expecting much on that front.
One risk here is the substantial amount of debt. While the recurring monthly revenues help mitigate this issue, the company has historically used large amounts of debt to buy its contracts. That practice has slowed down of late, as operating earnings have jumped strongly in the last couple years. While the company still plows all its fast-growing operating cash flow into new contracts, it's been using a proportionally lower amount of debt, meaning there's a stealth deleveraging going on. Even with much of its current debt maturing in either 2027 or 2037, I want to keep an eye on debt.
I'll also look at whether current Monitronics management stays on board and whether customer quality is maintained at similar levels.
Ascent Media offers us a transactional event that brings a private company to market, and the complete shake-up at Ascent means that all its previous financials are worthless in evaluating the company's future. But with Monitronics' strong history of revenue and EBITDA growth and business model, it looks like this stock could be poised for some nice gains.
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