Liberty Global Plc (LBTYA)’s John Malone has a track record for purchasing small and medium-sized companies, with the goal of expanding the media and communications empire. The most recent example of this strategy was seen at the beginning of the month, when the company acquired the remaining 20% of Chile’s largest cable operator VTR for 10.1 million shares ($422 million). Furthermore, to guarantee the firm’s proper management and elevate the customer experience, VTR has entered Telecom Italy’s Global Partnership Program, which should help improve operational efficiency. However, while there is no doubt about Liberty’s growth prospects, many investment gurus like Eric Mindich (Trades, Portfolio) and Daniel Loeb (Trades, Portfolio) have been reducing or selling out their shares in the company, due to lax returns on investment.
As Scale Grows, So Does Debt
Liberty’s position as the largest cable operator in Europe, with 21.5 million television customers, has translated into its expansion in the high-speed Internet access and fixed-line telephony markets, where the company holds 14.3 million and 12.1 million customers, respectively. The company’s fibre and coax cable system enables faster broadband connections than copper, used by most telephone companies, making the network easier to upgrade. This has caused Liberty to acquire more triple-play (TV, broadband, and telephony) subscribers and it will take years before competing telephone companies can upgrade their broadband speed to the firm’s 200MB/second. Furthermore, the company has acquired the best television programming in European countries by purchasing German operator Kabel Baden-Wuerttemberg and Poland’s Aster, thereby gaining market share.
However, while Liberty’s historical acquisitions were satisfactory, 2013’s purchase of Virgin Media in the UK, and the 28.5% acquisition of Netherlands Ziggo (offer for the remainder is still pending) incremented the firm’s debt levels from 2012’s already worrisome $27 billion to an incredible $43.7 billion. The company will undoubtedly benefit from Virgin Media’s revenue, boosting overall growth by 28%, but the highly leveraged position has reflected poorly on shareholder returns, which are currently sporting a -8.02 rate. Moreover, while revenue is expected to average at a 4% growth rate until 2018, due to broadband and wireless subscriber growth, I think an increase in competition or any changes in technology requiring major capital spending could put the company in trouble. Also, Liberty’s position as a mobile virtual network operator could easily backfire, as this sort of structure has been prone to failure in the past.
To Buy, or Not to Buy?
So, while I have no doubt that this cable operator will continue its growth streak, boosting current 23.9% EBITDA margins to an impressive 46.8% by 2018 and regaining some its decreased operating margin of 13.9%, I’m not convinced that this is the right time for investing in the company. Not only have earnings per share fluctuated gravely over the past years, ranging from -$2.93 in 2012, to $1.21 in 2013, before dropping again to a current -$2.9, but ROA has never surpassed the 1.16% mark, which is far below the industry’s average of 5.15%.
Furthermore, net margins have declined by 6.66% throughout 2013, while free cash flow grew merely by $400 million (compared to the $14.5 billion revenue). Thus, I believe Liberty’s poor regard of shareholder’s stewardship and highly leveraged position do not make it the safest investment in the industry.
Disclosure: Patricio Kehoe holds no position in any stocks mentioned.