The Huffington Post may not be a bad buy at the price AOL is paying, but that does not mean that AOL is right to buy it.
The problem with valuing the Huffpo (as everyone seems to have taken to calling it) is that we know too little about it. Its fast growing, and has not made the disclosures a listed company would. Perhaps there ought to be a requirement that listed companies’ unlisted takeover targets should make such disclosures.
The fast growth means that valuation (and I am sticking to simple valuation ratios here — nothing too fancy given the limited information) is very uncertain, depending on what growth and margin assumptions you make.
AOL’s CFO expects the Huffington Post to generate revenues of $100mn with a 30% OIBDA margin. On those numbers AOL is paying a modest 10× multiple: even leaving for tax and moderate depreciation (what does a website need to depreciate?) its unlikely the prospective PE is much more than a reasonable 15× 2011 earnings.
Of course there is a caveat: this assumes that growth will continue to be rapid, at least this year. The Huffington Post’s track record and recent growth (Quantcast has the numbers) is encouraging. Unless AOL has been stupid enough to buy just as growth peters out (which AOL is quite capable of doing), then the price is actually quite good.
This does not mean that AOL should buy. Is this deal going to create shareholder value?
Comments in the conference call immediately make me wonder whether AOL know what to expect from their new toy:
Let me clarify that comment, just so we’re all on the same page. In 2010, the Huffington Post was profitable. To a point, you’re correct. This year, we’re expecting a little bit north of $50 million of revenue and $10 million of OIBDA and my comment on the 30% margin range was, we’re on a run rate basis going forward, we expect to manage the business. Obviously, we think going forward, there are some healthy incremental revenue into OIBDA conversion. So, it is more on a go-forward basis after 2011, where we expect to manage the business. And I’ll turn it over to Tim for the sales integration.
That is a clarification!
More worrying is this:
In certainareas we are losing money, and we have told you of our intent to reverse that throughcost cuts, M&A or partnerships with third parties.
Buying your way to profitability is not a strategy that has often worked. What that really means is:
As the management of a declining, but still large business, the best way to justify paying ourselves a lot is to use the shareholder’s money to buying something that is not growing.
From the shareholders point of view, the best thing to do would be to manage AOL as a cash cow. The results show a free cash flow of $460mn in 2010 and $760mn in 2009. This would have been a spectacular return (over 50%) compared to AOL’s current $2.2bn market cap if it had been paid out to shareholders.
It is almost certain that free cash flow would have been even more if the company had been managed to generate cash instead of growth, and there could have been additional income from the disposal of unprofitable businesses.
I have not even considered the costs of integration (to deliver those savings that takeovers always promise to deliver, but which are rarely seen), or the risk that the Huffington Post will not perform as well once taken over by AOL (the usual problems of clashing corporate cultures, etc.).
AOL is not paying a high price, but the purchase is part of a strategy that is bad for shareholders compared to the obvious alternative of just generating as much cash as possible.