Cumulus Media: Transformation Hitting High Gear On Ad Rebound (NASDAQ:CMLS)

My previous article on Cumulus (NASDAQ:CMLS) focused on its radio assets and balance sheet. At the market price of $5.00/share at the time of this writing, I still contend CMLS is undervalued on the argument of its balance sheet and underlying assets alone; however, there is an actual business that operates those assets and that is the focus of this article.

Cumulus operates both a terrestrial radio business and a digital services business. Analyses for terrestrial radio have been done time and time again, including here on Seeking Alpha by various authors, with little change over the years – you either believe in the staying power of radio or you do not. This article is dedicated to the digital businesses, which Cumulus management has repeatedly offered to investors as the growth engine for the company, and they have invested years and a majority of their investing cash flow into this business.

Bottom line up front: I believe the new vertical of the digital business incremental top-line growth to a flat terrestrial business line that will fuel acceleration of deleveraging and more opportunistic capital allocation to the benefit of increasing shareholder value.

Why does this opportunity exist?

Cumulus – like all media companies, particularly broadcast TV and radio – is suffering from a bear advertising market which has hit Cumulus particularly hard in its national advertising revenue. National advertising makes up roughly 45% of CMLS revenues. This is further compounded by 2023 being an off-political year. The resulting drop in revenue coupled with higher interest rates on a highly leveraged company has suppressed equity value of the company.

None of these elements are particularly unique to CMLS in the media and broadcasting industry, and CMLS has sufficient cash on hand to both service its debt and continue to invest in growing its digital services business during this national advertising bear market. Below are exhibits from around the industry:

CEO Perry Sook of Nexstar (NXST) in their Q3 2023 earnings:

Shifting gears for a moment to our economy. Our core television revenues continue to be impacted by a soft advertising market, led by weakness in national. We’re seeing some improvement on this front as the third quarter rate of decline improved sequentially from second quarter, and we’re continuing to see improvement in the fourth quarter to date. We view this trend more or less as the typical impact that we would see in a cyclical economic environment rather than anything secular.

CFO Gunnar Wiedenfels of Warner Bros. (WBD) in their Q3 2023 earnings:

… At Networks, total revenue and EBITDA were impacted by a modest decline in distribution revenue and the continued challenging advertising marketplace, predominantly here in the U.S. where the market has continued to be weaker than we had hoped, while international markets on balance remain more stable in comparison.

While CMLS has had positive free cash flow in 2022 and 2023 YTD despite the advertising market decline, the return of national advertising is required for CMLS to both accelerate its debt reduction and continue investments in their digital transformation.

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That said, the strength of advertising is out of the company’s control, and investors have to ask themselves if an unlevered FCF yield of 10.5% during both an advertising and political down-cycle is good enough. Given the business assets and the digital marketing services growth driver for CMLS, I believe the answer to this question is yes.

Cumulus digital services business

Cost of business

Before commenting on the various segments of the digital services growth engine, it should be noted that the cost of pursuing the growth investments has so far been minimal. Cumulus management has done an excellent job of finding and reducing its fixed costs, finding an extra $5 million in savings in Q3 from real estate rationalization and contract optimizations on top of the $20 million of fixed costs reductions YTD. Both selling, general, and administrative costs and capital expenditures have remained steady, despite management stating that they have tripled their sales force since Q2 – implying the savings from their fixed costs are going into investing in their growth engine, which management described as being variable costs.

Considering that removing fixed cost out of the business will get harder moving forward, I expect the SG&A line to eventually creep up as Cumulus continues to lean into their digital marketing services. That said, they already tripled their salesforce, so additional ramp-ups may be limited in the near-term; a quick look at Cumulus’ careers page shows 69 job openings in the sales and marketing segments, mostly in low-cost-of-living and small-town areas.

Elements of the digital services vertical

Cumulus digital services vertical is broken down into three parts:

• audio streaming advertising;
• podcasting;
• digital marketing.

Cumulus does not breakdown the revenue and earnings for each of these segments, nor the earnings margins for the digital businesses in aggregate; this is something I wish management would clearly disclose. From the Q2 earnings call, CEO Mary Berner mentioned:

So they go to their longstanding relationships, and they upsell radio with digital. And as we mentioned, that business is already run rating at $40 million. So what we did is we tested adding additional digital native sellers, so not radio sellers, who focus only on digital, generally non-radio clients.

Presumably, she was referring to the digital marketing services business in response to the analyst question. In FY22, Cumulus generated $142 million of digital revenue (which also includes digital marketing services) and YTD $107 million of revenue, on track for a ~2-4% annual growth rate despite advertising slowdowns in the first half of the year. Based on Mary Berner’s remarks, this gives us some ballpark of $40 million for digital marketing (27% total sales) and $107 million for audio streaming advertising plus podcasting (73% total sales), roughly one-third per segment.

As for earnings, we can try to infer from Cumulus peers with reasonable assumptions. Keep in mind that these segments are still in a growth phase, and management has mentioned that there is still a ramping up of investment – particularly for the digital marketing segment – so the margins obtained from peer comparisons who are more established in some of these areas assume a steady state. To this point, the digital businesses in aggregate are 17-18% of total revenue.

Podcasting and streaming

Streaming revenue is very simple – the company has ~400 owned and operated digital properties that simulcast their broadcasts and generate revenue with digital ad insertions and display ads. Townsquare Media generates EBITDA margins of 32% on $151 million of revenue on this business. However, TSQ boasts it also owns their own proprietary programmatic advertising platform, as well as content management system (CMS), known as Townsquare Ignite. Everyone has their own CMS – WordPress being a popular open-source one – so it’s not clear that that there is really a cost-benefit to creating a CMS from scratch and I will not hold that against CMLS. That said, TSQ also focuses its owned and operated digital properties on local news and content as well as streaming, so the comparison to CMLS is not perfect. A conservative margin assignment for this segment ex- local news and content is high-20s.

Under the podcasting umbrella, Cumulus generates revenue as the advertising sales representative for podcasters. Compared to the publisher model, podcasters who hire a sales agent benefit from maintaining ownership of their content while also offloading the monetization of their work so they can focus on content creation. Cumulus uniquely offers significant reach with their radio network, in addition to expertise in audio advertising to these podcasters. In their Q3 earnings, CMLS management cited that this business model generates margins in the 20s, obviously less than the publisher model that iHeartMedia exercises, which is in the low 30s. Management at CMLS are content with their role in the podcasting industry, citing the model as low-risk and with no fixed costs; this is in contrast to IHRT that takes on the full cost and risk of the studio production for podcasts – a very top-heavy industry dominated primarily by a few dozen content creators. For Cumulus, they seem to have cemented a niche as a strong partner for conservative talk show creators, several of whom are consistently in top 25 podcast ratings.

Podcasting and audio streaming advertising together make up digital advertising revenue in 2023 of around $4 billion according to PricewaterhouseCoopers and S&P Global Intelligence and are projected to climb by 2027 to around $4 billion for podcasting and another ~$3 billion for audio streaming advertising revenue, totaling ~$7 billion. The major players that compete in both of these spaces include the big three of Amazon (AMZN) (via their Wondery subsidiary), Spotify (SPOT), and iHeartMedia; and companies like Townsquare Media on just the audio streaming advertising side. While the lion’s share of the revenue pool will flow to the big three, there is attractive growth that Cumulus will participate in – particularly from their low base – at the industry growth rate of ~15-20% over this decade. This is not so far-fetched, as Cumulus has recently experienced double-digit growth in these segments as advertising begins to rebound.

Digital marketing services

Digital marketing services is similar to the podcasting segment in that Cumulus acts as the marketing and advertising agent, but for small- and medium-sized businesses. This includes search engine optimization, website management, and digital presence and advertising management for these companies. Customers receive the value of not needing to sustain and manage this aspect of their business, including retaining needed staff, presumably lowering their cost run-rates. This business segment is essentially a subscription model.

Cumulus has consistently had mid- to double-digit growth in this digital marketing segment and the team is so optimistic about the opportunities in this market that they have been scaling heavily into it. Once again, Townsquare Media serves as a case-study. TSQ currently has ~26000 subscribers (down from ~30000 in FY22) and achieved trailing 12-month sales of $85 million. This comes out to ~$300/month of subscription revenue, a figure that makes sense to prescribe to Cumulus given there is significant overlap of the customer base outside of major metro markets. Given this figure, Cumulus probably has around 10000 – 13000 subscribers based on the current run-rate of the digital marketing business. As for the market potential of this business, management claims it is a $15 billion addressable market, while TSQ claims it is a $32 billion market (or roughly 9 million target customers). Either CMLS is pricing their subscription far less than $300/mo, or TSQ is overstating the number of potential customers. I believe the discrepancy is due to TSQ not excluding the number of small business owners who already have marketing capabilities such as a website (~70%), leveraging search engine optimization (~20%), and other marketing strategies.

TSQ achieves a mid-20% operating income on this business, and there are no significant differences between Cumulus and TSQ in this area, so this seems to be a reasonable target to use for valuation. That said, Cumulus does have markedly more reach than TSQ, especially with respect to their national network presence, so Cumulus could scale their customer advertising solution better and potentially provide more impactful upselling to their customers when bundling marketing products. Whether that means more customers or stronger pricing power is unclear; regardless, TSQ’s financials remain a solid benchmark to judge Cumulus’ continued growth in this segment on.

Valuation

To wrap up, consider the following FY24 projections, which do not consider additional incremental revenue from the widely expected record-breaking FY24 political advertising budget:

Digital business grows at 5% CAGR – likely a conservative estimate given the recent prints of double-digit growth, offset by volatility of podcasting and expectation that national advertising does not fully recover.

Broadcast radio and Other remains flat from FY22 – also a political year – at $812 million.

Therefore:

• Podcasting and streaming revenue of $102 million (65% digital sales breakdown)
  • EBIT: $28 million (27% margins, mid-single-digit less than peers)
• Digital marketing services revenue of $55 million (35% digital sales breakdown with faster growth in this segment)
  • EBIT: $14 million (25% margins, low-single-digit less than peers)
• Broadcasting and Other finish Q4 flat for $676 million.
  • EBIT: $81 million (10% margins, from backing out estimated digital earnings and sales)

Total FY24 EBIT then comes in at $122 million. I choose to assign a 7x-8x multiple, less than the 9-10x of TSQ due to Cumulus still rolling out its digital business and the 9-10x of NXST due to CMLS not yet deserving the Perry Sook premium. After backing out net debt and using current shares outstanding of 16.5 million, we arrive at a share price between $7.5 – $15. The current price of Cumulus equity is $5.

I aimed to remain reasonably conservative in the above projections, but a significant part of Cumulus’ business is tied to the state of national advertising, and if a recession comes to fruition, it could also damage their (so far) resilient local business. That being said, management has had good capital allocation management, and their current liquidity has – and should – continue to support them. I remind readers that management is no stranger to adversity and has maintained positive free cash flow in FY20 despite COVID wrecking the concept of commuting to work, the primary venue for radio listenership.

Notes on other radio broadcasters

There is frequently discussion and comparison of the different radio broadcasters any time one is mentioned, so I would like to take a moment to lay out my notes during my research of CMLS industry peers that are directly relevant to the same broadcasting and digital services businesses.

iHeartMedia (IHRT)

I believe IHRT came out of Ch. 11 still far too levered. At $215 million LTM levered FCF, or 3.5% of total debt, I fail to see how the company makes a meaningful impact to their debt before significant maturities in 2026 of ~$3 billion. Of course, IHRT will benefit from a return of national advertising (more so than CMLS) as well as political advertising, so the LTM FCF number is likely to be higher moving forward to 2024-2025. Even if this doubles to 7% of total debt ($430 million) in 2024 and 2025, that’s still only $1 billion out of $3 billion due, assuming all of the FCF is devoted to debt paydown – which still leaves the company at leverage ratio over their long-term target of 4x. Asset sales can certainly help here, as in the recent Broadcast Music Inc. sale; however, the deleverage story is likely to be a very long process. I simply find CMLS to be closer to the end of its turnaround story as the team transitions more focus toward its growth options and with significantly more flexibility in their free cash flow, as demonstrated by their ability to aggressively repurchase shares at huge discounts to book.

Beasley Broadcast Group, Inc. (BBGI)

BBGI has the advantage of not being dependent on national revenue, deriving only 15% of their revenue from national advertising. This has led to BBGI having better pacings in broadcast revenue than their radio peers – including CMLS – as local advertising has been resilient during this down cycle. Furthermore, BBGI has been inflecting its free cash flow upwards and is likely to be positive in Q4 2023 and benefit from political advertising as they own strong radio assets in key political battleground states to end 2024 with positive free cash flow. That said, like IHRT, I believe BBGI is still far too levered: currently at 11x EBITDA and presumably around 7x with normalized earnings environment. Continued asset sales and payout from Activision Blizzard for the closure of their E-Sports will certainly help this process (BBGI has recently sold a Delaware station in Q3 that produced $500K in EBITDA for $5 million). Like CMLS, BBGI is currently trading at comically low levels compared to book value, currently ~$5/share for BBGI; however, unlike CMLS, BBGI has had significant asset write-downs over the past year of ~$120 million, reducing book value from ~$8/share to ~$5/share, so the stated book by BBGI may not be quite as resilient as CMLS. While there is a lot to like, particularly the digital business and strong local markets, I think CMLS is a “safer” bet due to being far less leveraged, with consistently positive free cash flows, and more flexibility in capital allocation, even though I fully acknowledge BBGI could see more upside on the basis of its remaining book alone. Lastly, I dislike the BBGI governance structure, namely:

• Not facing scrutiny of live question/answer sessions with the investor/analyst base during earnings calls;
• Dual class share structure where the Class B stock holds 10:1 voting rights. I generally avoid companies that have such voting structures.

Townsquare Media (TSQ)

TSQ – in my opinion – is trading much closer to its intrinsic valuation, which reduces its upside. Additionally, TSQ has been the pioneer in the digital transformation journey among the radio operators, and deservedly trades at higher multiples. Finally, between buying $5m of Bitcoin in 2022 and reinstating its dividend despite being at ~4.5 – 5x leverage, I do not agree with the capital allocation at TSQ. Still, as an investor in CMLS, TSQ remains an important company to monitor as it is a case study for successful diversification and digital transformation, which is reflected by revenues and EBITDA levels that have sustained their levels despite the national advertising meltdown.

Closing Remarks

Investors should be very aware that CMLS remains a highly leveraged business and is facing large debt maturities in 2026. Furthermore, CMLS has fallen into microcap status with a market cap under $100 million, though its trading volume is much more liquid than most microcaps.

Between the underlying assets of Cumulus as well as its growth opportunities in the digital services space, Cumulus is nearing its inflection point from its turnaround state into one with incremental top-line digital marketing growth above its steady state broadcasting business. With increasing revenues and cashflows, CMLS can accelerate its deleveraging and continue to be opportunistic with capital allocation to increase shareholder value. Industry peers such as BBGI and TSQ are case studies for successful executions in this growth digital marketing business which de-risks the business case.

I do criticize management for not being a little more transparent in their financials so investors could more easily track progress of the growth businesses; but still consider CMLS a strong buy on the basis of both its underlying assets as well as its core and growing businesses relative to its current market price.

Editor’s Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.