This weekend I spent a few hours with my daughter walking around New York City. She is also a business writer at CNBC, and she covers the retail sector. As we were walking around, she was telling me about the growing number of retailers opening new stores in New York, many are new brands that I am less familiar with.
In New York City, you just can’t ignore the billboards that are everywhere, and as my daughter and I observed, many of them are occupied by retailers.
A few weeks back, I wrote an article on Outfront Media (NYSE:OUT), and I explained that in New York “it’s impossible to miss the eclectic mix of eye-catching billboards scattered across the town – from the Bronx Zoo to the Brooklyn Gardens, and hundreds of neighborhoods in between. In fact, billboards are an essential element of New York City real estate, as they tower above most all buildings in prime locations, making them almost impossible to ignore.”
Billboards in New York City simply create buzz that in turn prompts the consumer to engage in a specific audience or direct them to the retailer’s front door (real or virtual). Well-placed digital media is a perfect conduit for consumers to engage through social and mobile integration and use apps more efficiently.
New York City is also a prime-time market for advertisers to display content on street furniture, buses, commuter rail, subways and sports stadiums.
I told my daughter that one of the unique ways that OUT is benefiting is the use of its proprietary technology solution called out-of-home (OOH). OOH provides marketers with additional data analytics and a proven way to close the loop with audiences.
OUT recently announced that it has over 1,000 brands using its customized mobile ad delivery that can be targeted by market and demographic, allowing brands to pinpoint accurately who they need to reach, then reach them consistently – more than 20 times a day.
OUTFRONT reaches 71% of the national population each week. As location infiltrates all media formats, OOH remains the most established location based expert. OOH’s targeted locations allow brands to maximize on the recency of messaging, prompting consumer purchases in that moment. Location is considered the best indicator of consumer intent.
As I continued walking along with my daughter, I explained that OUT’s OOH platform continues to hold and grow market shares simply because internet growth is fueled by mobile demand. Print is shrinking considerably and radio is constant, but the internet is the future.
I found THIS VIDEO on OUT’s website and this is a good representation of OUT’s OOH business model. I consider data analytics a terrific way for billboard companies to take part in the digital revolution and another way for retailers to build successful omni-channel platforms. Outfront Media is thinking outside of the box!
A Billboard REIT
OUTFRONT Media is one of the largest out-of-home media companies in North America. The portfolio includes more than 400,000 digital and static displays, which are primarily located in the most iconic and high-traffic locations throughout the 25 largest markets in the U.S. The company went public (IPO) on March 28, 2014, and began operating as a REIT on July 17, 2014.
OUT is also the advertising partner of choice for major municipal transit systems, reaching millions of commuters daily in the largest U.S. cities. OUT has displays in over 150 markets across the U.S. and Canada. According to a white paper:
OUTFRONT connects brands to their target audiences, nationwide. Whether that audience be the techy, the business executive, the hipster, or the mom, OUTFRONT has it covered. Customized audience packages ensure brands reach the right consumer, at the right time, with the right messaging.
Bulletins (billboards) offer the most powerful impact of all outdoor advertising formats. Located on key highways, intersections and integral choke points throughout the U.S., bulletins provide messaging with long-term presence and tremendous visibility to vehicular traffic.
Here’s a snapshot of the billboard asset components:
OUT owns the permit for each billboard location and that provides the company with a competitive barrier to entry. OUT owns less than 10% of site locations; there are approximately 23,000 leases with 18,500 landlords (average eight-year life average). The majority of leases have abate and/or termination clauses for market weakness and a small % have escalators.
In addition to billboards, OUT rents out wallscapes affixed to buildings in heavily trafficked areas. These assets provide maximum impact for creative messages and are considered a great point-of-purchase exposure for creative districts. Wallscapes are perfect for penetrating urban centers and vary in size, providing endless creative options.
OUT’s transit franchise assets also provide complementary value to the billboard business in urban/suburban markets. Buses serve as “rolling billboards” traveling in and around densely populated city streets, leaving a lasting impact on pedestrians, motorists and passengers. Eye level bus exterior ads provide maximum exposure for customers.
Rail exterior also makes a huge impact, influenced by riders, onlookers, vehicular traffic alike, as they are waiting for the train to arrive or alongside major highways. Rail reaches a captive audience on their average 40-minute commute each way.
Digital brings numerous benefits to advertisers, it adds an extra layer of timeliness and relevance and messaging can be easily changed.
Here is a snapshot of OUT’s top markets (broken down by billboard and transit):
As you can see, New York City represents 23% of total revenue, followed by LA (14%), and Washington, DC (5%). OUT is also diversified by industry, as illustrated below:
Here is a snapshot of OUT’s Top 20 Advertisers based on “ad spending across all media”:
The Growth Strategy
As you can see below, OUT has four growth drivers:
OUT invests in key strategic locations (high traffic areas, transit centers, retail districts, and iconic locations). The company’s sales and operational incentives are aligned to maximize yield and profitability.
The US market is highly fragmented, as illustrated below:
One way to drive growth is by leasing out space on wireless carriers. OUT has 25,000 potential sites and each site could hold 1-3 carriers. Wireless provides OUT with recurring, monthly rent under long-term lease contracts with no capital expenditures required. The carriers are responsible for providing backhaul. The biggest catalyst for OUT is to create unique products and processes to drive media allocation.
OUT Mobile is an ad tied platform that serves consumers within a geo-fenced area. This platform was launched in Q4-15 and drives strong secondary action rates.
Consumers’ travel patterns and behavior are represented in various formats (smartphones, billboards, mobile apps, ad cell carriers). OUT’s proprietary data management platform will associate the data to make it relational and contextual. Audiences will be mapped to OUT’s assets by day and time.
The Balance Sheet
The chart below shows the highlights of OUT’s balance sheet. Note that in March 2017, the company extended the maturities of its term loan and revolving credit facility by three years (it now has no maturities until 2022).
As of the end of Q1-17, OUT’s liquidity position was $424.6 million, including $26.3 million of cash and $398.3 million of availability on the revolving credit facility.
Due to the decline in OIBDA and a slight increase in net debt (in connection with the credit facility extensions), OUT’s net leverage ratio has increased to 4.8x. The company remains focused and committed in its goal to reduce this to a long-standing target range of 3.5x to 4x, which will be achieved through growth in OIBDA and further debt reductions.
OUT and Lamar Advertising (NASDAQ:LAMR) are both rated BB- by S&P.
OUT’s reported revenues for Q1-17 were down 5% due to the impact of the sale of Latin America and the national advertising market (softness across a small number of key categories and automotive, in particular).
Organic revenues, which adjust for acquisitions and divestitures, fell 2.2%. Adjusted OIBDA for the quarter reflected the high fixed cost nature of the business and was down 9%.
OUT’s AFFO was down 16.7% in the quarter due to the lower OIBDA, as well as higher maintenance CapEx and seasonally higher lease acquisition costs, partially offset by lower cash taxes and interest expense and a small Latin America comparison benefit with 2016.
The company’s performance reflects what seems to be a generally weaker advertising market than many commentators expected. Given the company’s higher operating leverage, revenue movements, up or down, obviously have a pronounced impact.
Latin America dispositions drove $11.4 million, the majority, of the reported decrease. Organic revenues, which neutralized by the impact of M&A, fell 2.2% as a result of declines in both U.S. Media and Other. U.S. Media declined 1.8% on a reported basis and 1.9% organically. Billboard organic revenues were down 1.4%.
The impact of national also caused overall billboard yields to fall in both static and digital. This was driven by lower occupancy, not lower rates. Transit and other in the U.S. was down 3.2% organically during the quarter, which is more than the decline of billboard due to the historically high mix of national advertising across our transit assets.
OUT’s reported expenses, including stock-based compensation, were down 3.5% year over year. Excluding the $11.9 million of expenses from the Latin America business sold in Q1-16, expenses were up just 1% or $2.6 million in the quarter.
Looking at this increase more closely, again, excluding Latin America, billboard lease expense was flat, reflecting good work by the real estate team in lease negotiations. Transit franchise expenses were down $1.5 million or 2.9%, as these expenses are driven by revenue share.
As you can see below, OUT’s cost control and the seasonally lightest revenue quarter of the year, the decline in revenue translated to a 9% decline in adjusted OIBDA and a contraction in the related margin by 1 point to 24.3%.
As you can see below, cap-ex was $16.6 million during the quarter or 5% of total revenues. Growth spending was 3.5% of total revenues, and maintenance was 1.5%. For 2017, the guidance for cap-ex remains $65 million to $70 million, including growth cap-ex of $40 million to $45 million and maintenance of $25 million.
As noted, AFFO was down 16.7% during the quarter, primarily as a result of lower OIBDA, higher maintenance CapEx, and seasonally higher lease acquisition costs, offset partially by lower cash taxes and interest expense. On a trailing 12-month basis, AFFO was up 7.4%.
Because of the weaker levels of national advertising seen in the first quarter and are seeing in the second quarter, it now appears unlikely that the company will be able to achieve its previously issued annual AFFO guidance of low to mid-single-digit growth in 2017.
With the national weakness in the first six months of the year, particularly in billboards, at this point, OUT’s view is that AFFO is likely to be slightly down for 2017. This is a yellow flag and I would encourage prospective investors to maintain caution. The company’s management team explained on the Q1-17 earnings call:
“We will update this view when we have even greater visibility on national spending for the second half of the year. With the flat expense base I talked about earlier on this call, improvements in national advertising will have a strong flow-through to AFFO.”
Is The Dividend Safe?
The chart below shows a 12-month trailing AFFO of $287 million and a dividend payout ratio of 67% compared to 64% for fiscal year 2016. OUT’s 12-month trailing free cash flow was $224 million, and the dividend payout ratio on this metric was 86%, slightly higher than 83% for fiscal-year 2016. The board confirmed the Q2-17 dividend of $0.36 per share that was payable on June 30.
As you can see below, the dividend yield is now 6.2%, much higher than LAMR.
My biggest concern with OUT is the somewhat drastic AFFO decline we saw in Q1-17. The company’s CEO explained in Q1-17:
“As we mentioned, national continues to be weak and particularly in billboard. However, solid growth in transit and good performance in local across both billboard and transit are driving our expectation of low single-digit growth in the second quarter. As usual, this outlook only represents our view at this point in time and is on a constant dollar basis…
As you know, national advertising business comes in with a relatively shorter lead time compared to local. But looking forward, we see indications of a recovery in the second half of the year, but we still believe that at this time, it’s better to be prudent with respect to our AFFO and cautious, once again, at this moment in time.”
He pointed out that:
“The top 10 advertisers in the U.S. spent 2.8%, a full point higher than the top 100.
We’re also encouraged that some of the most data-driven companies and well-known brands in the market – Google (NASDAQ:GOOG) (NASDAQ:GOOGL), Amazon (NASDAQ:AMZN), Netflix (NASDAQ:NFLX), Apple (NASDAQ:AAPL), Facebook (NASDAQ:FB), Snap (NYSE:SNAP) and Spotify (Private:MUSIC) – spent a combined 7.2% of their ad dollars on out-of-home. We’re working hard to show the rest of the national advertisers what these leading companies see. We still got a lot to do, but the size of the prize is significant.”
He added that:
“When you step back, everything in our business is going well, with the exception of national billboard advertising in these first few months of the year. Local is solid; expense control is good; the balance sheet is strengthened; and we’re investing strategically in the right areas for future growth.”
Here’s a forecast for OUT’s AFFO/share compared with the peer group:
As you can see, we are projecting annualized AFFO/share of $2.02 (down 3.3% YOY), but then a steady recovery back to normalized levels (around 5% annual growth).
Let’s examine OUT’s P/AFFO multiple compared with Lamar:
As you can see below, OUT has under-performed YTD (-4.1%):
While LAMR has outperformed YTD (+10.2%):
The Bottom Line: OUT’s Q-17 results were weak and the market has priced the shares accordingly. However, I believe that the demand for the company’s products, especially in the key gateway markets like New York City, LA, and Miami, will have a strong impact in future quarters, especially because of the growth in OOH.
OUT is a higher risk REIT due to the cyclical nature of the billboard/advertising model. Also, it has exposure to the New York City MTA, and on the latest earnings call, the CEO explained:
So, when we look at the MTA process, look, it’s fair to say that it’s a very complex process. As you know, it’s not just about media, it’s very much about a digital media upgrade and a communications systems upgrade.
They’ve consistently been asking for incremental information, as we’ve moved through this process. We continue to feel good about where we sit in that process as always. We certainly don’t wish to, in any way, overcook the pudding or be arrogant, but we feel good about where we are. It just seems that it’s a long process. They’re doing a very thoughtful job.
I guess the other point is that these incremental months that we’re going to continue to enjoy our relationship with the MTA. We talked about transit in Q2, it’s looking good. So, we’re doing a great job for the MTA, and we’ll continue to do so until such time, as we understand the exact timing. We don’t control the timing on this, unfortunately. And we’ll update further in due course.
In terms of dividend coverage, OUT’s management team explained:
In terms of dividend coverage, we feel very comfortable. We certainly talk to the board about this. There are a number of discretionary matters we have here in terms of some things on our expense side and on discretionary CapEx. We spent $40 million to $45 million of discretionary CapEx. Some of that’s really, really important for growth in the near term, some of it can certainly be deferred.
We see the trends in this business as it continue to grow, and we’re managing very tightly to do so. And we don’t think that this dividend is going to be tighter or at risk whatsoever. I think that you see that little bit of softening because of the quarter. It’s important to note that Q1 is normally the softest and smallest quarter of free cash flow growth of all the four quarters, anywhere from $15 million to $20 million. So, it’s a slight decline from where first quarter last year was.
Here’s my point, it may be time to initiate a position in OUT, I have now (as per my disclosure) forecasted Total Annual Return of 31% per year.
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Note: Brad Thomas is a Wall Street writer, and that means he is not always right with his predictions or recommendations. That also applies to his grammar. Please excuse any typos, and be assured that he will do his best to correct any errors, if they are overlooked.
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Disclosure: I am on the Advisory Board of NY Residential REIT, and I am also a shareholder and publisher on the Maven.
Other REITs mentioned: AMT, CCI, LMRK, CORR, and UNIT.
Disclosure: I am/we are long APTS, ARI, BRX, BXMT, CCI, CCP, CHCT, CLDT, CONE, CORR, CUBE, DLR, DOC, EXR, FPI, GMRE, GPT, HASI, HTA, IRM, JCAP, KIM, LADR, LTC, LXP, O, OHI, OUT, PEB, PK, QTS, ROIC, SKT, SNR, SPG, STAG, STOR, STWD, TCO, UBA, UNIT, VER, WPC.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.