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Madison Square Garden: More than the Sum of the Parts
08/22/2019 5:00 am EST
For the past three years, the investment case for owning Madison Square Garden has been built on the argument that it’s trading at a discount to its sum-of-the-parts valuation.
We are betting that investor excitement will begin to bubble up given that 1) the spin-off is scheduled to be completed by yearend and 2) Madison Square Garden currently trades at a 30% discount to its sum-of-the-parts value.
Madison Square Garden’s key assets include the New York Knicks, the New York Rangers, Madison Square Garden Arena, Madison Square Garden Air Rights, net cash on the balance sheet of $1billion as well as he Forum in LA, the Christmas Spectacular at Radio City and the Tao Group.
Madison Square Garden's sports and entertainment assets will be split into two new companies. After the spin-off, the new sports company will consist of the New York Knicks franchise, the New York Rangers franchise, as well as some other less valuable assets.
The remaining business (the entertainment company) will own Madison Square Garden (the arena) and focus on live entertainment. It will have a very strong balance sheet (approximately $1 billion of net cash).
Once the spin-off occurs, the disconnect between the price and value will be hard to ignore. For instance, let’s assume that the 30% discount remains intact even after the spin-off occurs. My estimate of the Sports Company’s fair value — made up of The Knicks and The Rangers — is $6.5 billion.
If the Sports Company traded at a 30% discount to its fair value, it would have a market cap of $4.5 billion, below the standalone franchise value of the Knicks! We don’t think that valuation is sustainable. The disconnect will be hard to ignore.
We also find the stock attractive because the company's underlying assets are defensive. In the current economic environment (late in the cycle), we want to own defensive businesses. NHL and NBA revenue actually grew during the Great Financial Crisis. People like sports, even in recessions.
Another interesting aspect about Madison Square Garden is its beta — which is extremely low at 0.37. This is also attractive late in the economic cycle.
We also believe that the stock's underlying value will continue to appreciate. Not only are we buying an asset that is trading at a 30% discount to fair value, but the underlying asset should continue to appreciate for the foreseeable future due to an attractive dynamic between the supply of professional sports franchises and the supply of potential buyers.
Since the 2004, the number of NBA franchises has held steady at 30. Over the same period, the NHL has added one franchise (there are currently 31). Meanwhile, the number of billionaires (potential buyers) in the world has increased by ~400% over the same period.
We don’t see this trend changing; wealth continues to be ever more concentrated at the top. The number of billionaires will continue to increase, and those billionaires will continue to covet trophy assets such as fine art and professional sports franchises, driving prices higher.
Another potential positive is that we think legalized sports betting on mobile devices in New York will ultimately happen, as it would generate significant tax revenue for New York. For what it’s worth, Mark Cuban said that professional franchise values should double due to the legalization of sports gambling.
The final point to consider is that the Knicks have been terrible for a very long time. If they improve, their revenue generation will increase substantially due to increased playoff games and higher fan engagement.
The company just reported fiscal 4th quarter results; revenue was a little weaker than expected due to the disappointing performance of the Knicks. For the full fiscal year, revenue increased by 5% to $1.6 billion.
While slightly disappointing, this is not a huge issue, in my opinion. I continue to expect significant value to be unlocked with the consummation of the spin-off. I think the spin-off will ultimately happen in the first quarter of 2020 and by that point, I expect the stock to be trading close to $350. (Disclaimer: Rich Howe owns shares of MSG.)
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