Give Me Liberty Media, Part 2

You may need a bottle of hair detangler to get through Liberty Media's financials. Once they're all straightened out, though, you'll see how very shiny the company is. But before we start, go to part 1 of this article for an introduction to the latest incarnation of Liberty Media, which is divided into three tracking stocks: Liberty Capital (NYSE: LCAPA), Liberty Starz (NYSE: LSTZA) and Liberty Interactive (NYSE: LINTA).

Liberty holds $8.9 billion in cash and sellable investments, according to its 10-K filed with the SEC. Backed up against this is $7.8 billion in long-term debt. I always like to see more cash than debt, and Liberty seems to have turned the corner in this regard.

Liberty has income from continuing operations of $637 million, and that is after $628 million in interest expense. So the businesses are making money and servicing their debt. Most importantly, they are belching off free cash flow; 2009's 10-K shows $1.34 billion of FCF, and more than $5 billion over the past five years.

However, remember that Liberty Media is just a holding company. What financials get attributed to each tracking stock? The 10-K lists everything an investor seeks. (Click here to go to an SEC page that lets users search documents by company name or ticker.)

• Liberty Interactive is dominated by QVC, responsible for $7.3 billion in revenue and $1 billion in operating income. Despite the bad economy and a year in which revenue was up only 1%, QVC provides $1.5 billion in cash flow annually, when you back out depreciation. The other interactive businesses generated $931 million in revenue and $49 million in net income. Although these businesses have hit the skids thanks to the recession, they were purchased because of their rapid revenue growth, and I expect them to pick up again.

• Liberty Starz punched out $272 million in operating income. The pay-TV market is doing just fine, and now that it's added a bit of original programming, such as Spartacus: Blood and Sand, viewers may find more reasons to stick with (or order anew) the premium cable channels.

• Liberty Capital is dominated by the expensive production of feature films for Liberty's movie studio, Overture. It saw losses last year, and if you've seen any films released by Overture, you know why. They stink. I mean, who is the audience for Last Chance Harvey, may I ask? This created a $263 million operating loss. Apparently, Overture is up for sale, but I don't like this move. There's lots of money to be made in film, and Liberty has the capital to make it. It just needs to make better movies.

So how should interested Fools invest in Liberty Media? One option is to buy all the tracking stocks for maximum diversification. The other approach is to select one that appeals to you. But how do you value one of these tracking stocks versus the others?

Since Liberty is all about cash flow, let's examine price-to-free cash flow. This will allow us to compare each tracking stock on a valuation standpoint. As an exercise, I'll also compare this ratio to those of conglomerates Berkshire Hathaway (NYSE: BRK-B), Leucadia National (NYSE: LUK), and Tyco International (NYSE: TYC).  This is simply an exercise to see which company is cheapest, not best. There is no "best." There is only what's right for you, dear Fool, and this is a valuation metric you'd need to use if you wanted to compare conglomerates.

One note: I'm backing out each company's equity interests in other companies. I'm only interested in cash from actual operations of the companies that these conglomerates hold a majority stake in that are accounted for under generally accepted accounting principles, aka GAAP.

TTM = trailing 12 months.

On a price-to-free cash flow basis, Liberty Interactive is the cheapest.

Now let's say I've been threatened with being buried in the sand up to my neck, with a dozen crabs set loose nearby, if I didn't choose one Liberty stock to invest in. Which one would it be?

With Liberty Interactive, I adore the consumer businesses with trusted brands. They are niche plays, which I love, because when you become a big fish in a small pond, you tend to remain the big fish unless you really mess up your products or services. These businesses have all been doing fine in the recession, and they provide most of Liberty's free cash flow ($1 billion worth, according to the 10-K) .

Liberty Starz generates strong operating income and free cash flow of $272 million. I like Starz because it is a distribution play. The money in media comes from owning the pipeline that is the Starz/Encore series of pay-TV stations. That business has been stable for some time. Growth, however, has been hard to come by, and I consider that a bad sign.

Liberty Capital is everything else, plus a distribution play via Anchor Bay and Sirius XM Radio, and all of its other assets unquestionably have value. As I said, however, Overture Studios has been a drag on revenue with a string of poorly performing films. Liberty Interactive has no such drags.

Since you've probably got me in the sand now, with the crabs about to be released, I will scream "Liberty Interactive, hands down." I think $15 per share is a decent place to open a position, and I would add below that. For the record, I own it, jumping in at $7 last year.

Track these articles, pretty please:

• Is Liberty Done Chasing Satellites?
• Is Sirius XM a Buy?
• DirecTV in Perfect Focus