Avesco Group — Update 9 June 2016

Avesco is a leading provider of audiovisual (AV) staging and production expertise to events across the globe. Its operating brands are leaders in their respective fields and their customers include many blue-chip corporations, major production companies, marketing agencies and event organisers. They supply an extremely impressive and diverse list of events including sporting events such as the Rio Olympics and Paralympics and UEFA European Championships, many of the major motor shows, corporate events, stadium tours and spectacular shows. Avesco’s services range from pure equipment rental (dry hire) to pure technical consulting, but most projects are a mix of the two. In FY15, the group employed an average of 685 people across the UK, Europe, US and Asia-Pacific, 585 in operations and 100 in administration.

We have looked at Avesco’s valuation in comparison to other media peers (although there are no directly comparable quoted stocks) and in relation to corporate transactions in similar market areas. Using the metric of EV/EBIT as our preferred indicator (to avoid the distorting impact of the higher depreciation on rental stock), Avesco is clearly valued at a much greater discount than can be justified on grounds of scale, trading on an EV/EBIT of 5.9x in FY16e and 5.2x in FY17e compared with 13.7x and 11.7x, respectively, for the peers. The realisation of the Fountain Studio assets has lifted the published NAV per share to 230p, 8% above the current share price.

Interim results show the following:

Sensitivities: Economic and event timing

As a hire business, Avesco is sensitive to demand, asset utilisation and pricing. Although mitigated by corporate developments and restructuring, there remains an ‘odd-year, even-year’ effect on results due to the timing of major sporting and biennial trade events. Overlaid on that is the effect of the economic cycle, notably on the corporate market, although technological developments and globalisation to some extent offset localised trends. Many of Avesco’s markets are highly competitive and margins are low, with small shifts having a material effect on the bottom line. While some big events are regular fixtures, the overall forward revenue visibility is relatively low beyond the next quarter. As an international business, Avesco is also affected by currency movements, notably the US dollar, euro and Chinese renminbi.

Avesco provides the services and equipment to corporate clients to facilitate their staging of impressive live events. With changes to technology, such as large-scale and flexible LED displays, high definition (HD) dissemination, IPTV and streaming, there are increasing opportunities for creating spectacle and leaving a lasting impression on both attendees present and viewers at remote locations, as well as providing and relaying information and coverage. Avesco is primarily a hire company, renting out the relevant audiovisual equipment to its clients alongside offering the specialist advice and support that they need to deliver their events, from coverage of the Olympics through to trade shows, major conferences and entertainment shows and tours, anywhere around the world.

As with any hire-based business model, the financial returns are based on the efficient use of its resource (kit or people) and optimising the pricing strategy. It is also about being the supplier with which clients want to trade; being able to advise in the clients’ interests, having the right items available, handling the logistics, billing correctly and simply being easy to deal with.

The group underwent a major restructuring programme in FY14, designed to reduce the operational and financial volatility of its performance and counteract some of the impact of the significant swings between ‘odd’ numbered years and ‘even’ numbered years. The difference between odd and even reflects the timing of major events, particularly in the sporting calendar. This restructuring has already shown its value, with the figures for FY15 coming in both ahead of forecasts and ahead of the previous best even year.

Avesco plc is the group holding company. It has three operating divisions: Creative Technology, Full Service and Broadcast Services. Creative Technology (CT) is by far the largest, accounting for 80% of FY15 group revenues. These three operations work independently or in combination.

Avesco’s chairman is the group’s founder, Richard Murray. He remains a major shareholder (with 27.16%) and takes an active role overseeing the group’s development. The executive directors are John Christmas, Graham Andrews and Dave Crump. John is finance director and has been with Avesco since March 2004. Graham and Dave are two of the AV industry’s pioneers and were part of the team that formed Creative Technology in 1985/86. Graham heads up CTUS and CT Asia Pacific and David is responsible for CT’s European and Middle East operations. Senior management includes Presteigne’s CEO Mike Ransome, who originally joined Avesco in 1984, later left and set up Presteigne, and re-joined Avesco when Presteigne was acquired in the early 1990s.

The business strategy has, in recent years, been more heavily focused on optimising returns and cash generation than on growing top line revenues. The nature of the events industry means that there is a tendency for larger events – particularly the sporting ones – to run every other year or every fourth year, giving a strong even year bias. This made Avesco’s operating performance volatile, militating against delivering consistent results.

After the 2008/09 credit crunch, price sensitivity among international customers and the cost of opening international offices had put pressure on margins and exacerbated the odd-year/even-year fluctuations in profits. In FY13, the underlying business moved into loss, after having had a bumper year in FY12, boosted by the London Olympics. Group management put in place a restructuring programme to address this volatility and de-risk the business. The benefits were already apparent the following year, with FY15 profits coming in ahead of upgraded estimates and ahead of previous even-year highs. The restructuring focused on CT Europe and on Presteigne, as well as some central cost reductions (see our Outlook report dated 11 June 2015). The associated exceptional cost (taken in FY13 and FY14) was c £10.5m (including non-cash impairments). Actions taken included:

CT forms the core of the group and its US operation forms the core of the division, supplying well over half of its revenues and ‘the bulk’ of profits in the half year just reported. A precise breakdown is not given, but the group had total US revenues of £62.6m in FY15, which will mostly have accrued within CT. The company is one of the world’s leading suppliers of specialist AV equipment to the sports, corporate, exhibition and entertainment industries. It offers tailored events staging services, including the associated advice and support, as well as providing high-quality equipment from large screen displays to content delivery systems. The US operations have a greater exposure than those in the rest of CT to the corporate event and convention market, generally working on large-scale, high-impact projects. The division operates out of six hubs in the US (Atlanta, Boston, Chicago, Las Vegas, Los Angeles and San Francisco). The motor vertical is particularly important to the US operation. Examples of the types of project undertaken are shown on the company’s website, www.ct-group.com.

London is the next largest element of CT. In Europe, the group has hubs in Germany, Spain and the Netherlands. In the Middle East, it operates out of Doha and Dubai, while in the Far East, hubs operate in Singapore, Hong Kong and Shanghai.

At the half year, CT’s revenues were 20% ahead of the prior period at £61.9m (Exhibit 5), boosted in part by the translation effect of the shift in the US dollar. Trading profit increased by 7% to £5.9m with margins slightly lower due to an increase in US overheads (through taking on additional staff to cater for the achieved increases in top line) and pricing pressures related to increased competition. Deflation in LED prices is encouraging clients to look for more aggressive deals. As a hire business, CT runs at inventory levels that cater for around average demand. It is now increasing investment in hire stock (with the Fountain Studio proceeds) in order to reduce the amount of sub hire that it needs to contract and recoup some of the margin lost to the pricing pressures.

Performance in the London CT operation was good (and improved) in the first half, while the Middle East was mixed. There was a good performance in Dubai, which is emphasising its credentials as an accessible and optimised event location for delegates from Europe, Africa and Asia. This was countered by a poorer result from Qatar, where the economy is very much tied to the prevailing oil price. The Far Eastern operations will benefit in the current half year from a major project in Shanghai, which may accelerate the transition to break-even into the current year.

Competition: CT’s main competitors are private companies. The largest is PRG (Production Resources Group), owned by a private equity group. Headquartered in New York, it had revenues of $575m to March 2015. PRG is a major competitor in most of Avesco’s market segments, with 40 locations worldwide. These include Dubai and London, where last year it bought Avesco’s closest competitor, XL Video, which has a similar geographic footprint to CT and a particular focus on entertainment and concerts. Other competitors include LA-based VER (Video Equipment Rentals), which has been expanding in North America and Europe, especially in the film and cinema area. There are also local competitors, particularly for smaller events and conferences (and which also complete with mclcreate). However, the need to stock a large range of up-to-date equipment and have the technical expertise to deploy it reliably is a barrier to entry.

In 2014 mclcreate re-launched itself as a full service (one-stop-shop) event organiser. It operates from six offices across England and Scotland with around 125 staff. It complements CT in that it serves local markets, whereas CT is a high-end specialist. Until 2014, mclcreate was branded MCL and supplied complete technical support for conferences, corporate events, sports, music and television programmes. As the name change implies, it has now extended its offering, with more digital solutions and creative input alongside the equipment rental and technical side of the event.

Having experienced difficult trading in FY15, there was little respite in H116 with client cancellations and the disruption inevitable from moving offices. Revenues were down 25% on the comparative six months at £5.9m, pushing the business into a small trading loss of £0.3m (H115: profit of £0.6m). The emphasis is being shifted back onto making sure that sufficient sales effort is focused on the rental and technical offering in order to cover the overheads, while using the creative elements to attract additional business.

Management expects this adjustment to pay back in short order and our model shows the division approaching break-even in the second half (see Exhibit 5, below), before moving back into a small profit on modest 2% revenue growth in FY17.

Examples of the wide variety of projects with which mclcreate is involved are shown on the company’s website, https://mclcreate.com/news.

Presteigne rents out broadcast systems, equipment and services to major broadcasters, production companies and OB (outside broadcast) companies around the world from hubs in Gatwick and Manchester. It is inefficient for broadcasters to own the full range of equipment needed for all events, especially when operating outside their domestic market. Presteigne has been trading since 1990 and has built a strong reputation in a market where reliability and high-quality equipment are key. Its projects business was closed in FY14, leaving Presteigne as a UK-based dry hire operation, with a more even earnings profile between odd and even years. However, the dry hire market remains highly competitive and commoditised and FY15 results showed a substantial loss, a pattern that has continued into the first half of the current year. Fountain Studios’ financial performance also suffered in the reporting period from a lower number of broadcasts of The X Factor over the weeks that it clashed with the Rugby World Cup. Reported numbers for Broadcast Services, which include the Fountain Studios, show divisional revenues of £5.4m, 21% below the comparative period, with a trading loss of £0.9m versus £0.4m. Accounting rules prevent the Fountain results from being shown as ‘discontinued’ until after activity has stopped, ie from FY17.

Given the trading backdrop, which is unlikely to change dramatically in the short term, the cost base of the business has been trimmed by £0.5m. With a steady flow of work from broadcasters covering major sporting events including the Rio Olympics/Paralympics and UEFA European Championships, and a larger number of smaller contracts, we are expecting a much better performance in the second half, reducing the expected divisional loss for FY16 to £0.2m and reaching break-even in FY17.

To illustrate its business mix, Presteigne has recently been working on projects such as: providing the technology, project management, and system design for the “Good Morning America on Safari” event in February using remote cameras on drones running through a wireless MESH system; working with other providers to stream live theatre to cinemas in 4K; and working with Whisper Films on coverage of Formula One for Channel 4. For more examples, see www.presteigne.tv.

Competition: Assuming a broadcaster decides to outsource, Presteigne’s competitors include privately owned Gearhouse Broadcast (Gravity Media Group), Bexel (part of VITEC) and NEP Visions. However, outside broadcasters such as NEP Visions are also customers and Presteigne is much less of a competitive threat to them now that it has withdrawn from project work.

The 5% balance of revenue for FY15 was generated at Fountain Studios, now sold, as described in our Update report dated 12 January 2016.

With the increased use of digital solutions, expectations are constantly being raised of just how ‘spectacular’ spectacular can be, as well as raising the base line for effective communication. AV is a key element in making sure that the staging of live events meets or surpasses those requirements. Consumers, be they corporates or individuals, expect increasingly sophisticated visual and audio systems as well as data displays and communication at both large and small gatherings, across sporting, entertainment, corporate, education or government events. The AV industry is estimated to have been worth $91bn in 2014 and to grow to $114bn by 2016, a CAGR of over 10% (source: InfoComm’s 2014 Global AV Market Definition and Strategy Study). The largest regions are North America (37%), Asia-Pacific (34%) and Europe (19%), with ROW at 10%.

Major sporting events continue despite variations in the economic backdrop, with expectations of live streaming, multiple viewing positions and live analysis constantly increasing. In the entertainment industry there has been a structural shift to more live events as revenue streams from downloads and music sales have become more precarious and live tours have become the driver of music sales rather than vice versa. This is clear in the reported revenues from Live Nation Entertainment, the world’s largest live entertainment company. It grew revenues from concerts from $3.4bn in 2010 to $4.96bn in 2015, with a 12% increase reported in Q116. Corporate spending on exhibitions and conferences is a function of general marketing expenditure, but is also benefiting from a structural shift in B2B marketing towards more face-to-face interaction. Within this trend, there is also a concentration toward the ‘must-attend’ events within each sector vertical or niche market, where impressive delivery of each event is key to getting the re-bookings that drive the industry. The latest UFI Global Exhibition Barometer (January 2016) also indicated a positive outlook for the exhibitions market, with innovation a key component of the optimism. It reports that 93% of US exhibition companies surveyed plan to develop new activities to build on their offer.

Economic cycle: Avesco’s customers are mainly corporates (including production companies, corporations and broadcasters) whose expenditure may be affected by the economic cycle, eg Avesco could be affected by a material slowdown in the US economy (probably with a lag).

Asset management: As a rental business, Avesco is highly sensitive to asset utilisation and prices. Management has a reasonable level of forward visibility for major events and aims to match capex to expected future revenues, sub-hiring to cover peak requirements. The hire stock includes complex, high-value equipment that could be at risk of loss or failure, although management takes appropriate security and insurance measures.

Competitive markets: Despite the specialised nature of its top-end work, much of Avesco’s business faces strong and fragmented competition. The group has an excellent track record for reliability and delivery but can suffer from aggressive pricing from competitors. Recent consolidation in the sector has exacerbated this potential issue.

Odd and even years: The timing of major sporting events, and some biennial exhibitions, means that results are usually stronger in even years (eg FY14, FY16) than in odd years, although management’s recent actions have gone some way towards mitigating this.

Key personnel: Avesco has appropriate incentive schemes in place but problems in CT Germany in FY13 (caused in part by the departure of its entertainment market team) illustrate the importance of key personnel.

Currency: Avesco operates in international markets and costs and revenues are usually matched so far as is practicable, with hedging not generally necessary. Overseas assets are also normally matched by liabilities. The most important currencies are the US dollar, euro, Hong Kong dollar and Chinese renminbi, while the overall sensitivities are relatively modest (2015 annual report, page 40).

The shares have traded in a range of 200p to 250p over the last 12 months, a period covering the reporting of the final results in January and the Fountain Studio disposal news. Prior to this, they had performed strongly over the first half of calendar 2015, gaining 65% over the period as the first progress from the restructuring started to show through.

Avesco does not have any direct peers. The closest UK-listed group is probably Vitec (with broadcast and photographic activities). Among media sector companies, events-oriented B2B group Tarsus has a similar odd-/even-year profits profile, which is less pronounced in Centaur Media, which has a larger consumer-facing portfolio. The peer group shown in Exhibit 3 also now includes Ascential, the recently floated, but long-established events and media company, and RELX, a much larger events and information business, and a proxy for the media sector average. We have removed Chime Communications, the partly sporting events-driven marketing group, from the table as it was taken private in October 2015. The take-out price was equivalent to 1.0x 2014 revenues and 20.4x operating profit.

Media groups are usually valued on an EV/EBITDA basis but Avesco’s unusually low EV/EBITDA multiple (only 1.7x for FY16e) reflects the high depreciation cost on its rental assets and we consider EV/EBIT to be a more conservative measure. Avesco’s EV/EBIT of 5.9x in FY16e and 5.2x in FY17e compares with 13.7x and 11.7x, respectively, for the peers in Exhibit 3. The discount of over 50% on the current financial year looks much too wide, particularly given the recent margin improvement and smoother earnings outlook. The discount on a P/E basis is less pronounced at 30%, but is still difficult to justify. The dividend yield is broadly in line with the peer group.

Within the industry, other corporate activity has highlighted value. NEP Group is a large global outsourced provider of comprehensive live and broadcast production solutions and was intending to list in summer 2015 at a value of $603m. The float was pulled, however, citing difficult stock market conditions, but would have been at 1.5x historic sales (the business is loss making). It later acquired competitor CMI for an undisclosed price. By comparison, Avesco’s EV/historic sales multiple is 0.3x.

Net asset value (NAV) provides an alternative valuation benchmark given Avesco’s high-quality rental asset base (book value of £45.2m or 216p/share at September 2015). The disposal of Fountain Studios has realised further value on the balance sheet through the pay down of debt and the group’s NAV as at 31 March 2016 was 230p (September 2015: 180p). Having moved to a premium to NAV at the year-end, this increase in NAV on an effectively flat share price has left the shares trading back on a discount of 8% at current levels. By contrast, Vitec’s share price is 176% higher than its last reported NAV of 284p, and equipment rental group Lavendon is currently trading at around par to its last published NAV of 131p. The other companies cited in Exhibit 3 are more typical of media companies in their business model and mostly carry minimal or negative net assets on their balance sheets.

The H116 interims results are shown in Exhibit 6 and we have not made any substantive changes to our numbers post-publication. We have made adjustments to edge ahead the revenue line (from £137.5m to £145.0m) as per the comments in the statement (including currency benefit), alongside some modest dilution of trading margin from pricing pressures. The earnings per share are slightly higher (FY16e increased by 8%), based on a tax charge to reflect a greater proportion of UK profits in the mix. Fountain Studios’ results remain reported within the Broadcast Services numbers, as the business will not be formally defined as ‘discontinued’ until FY17.

The other change to our model reflects the higher level of indicated capital expenditure, which we now forecast at £23.2m (previous forecast £15.0m). This obviously has a reciprocal impact on the expected year-end net debt position, which we now project at £6.5m (previously £3.5m), well within all covenants.

The longer-term record on revenue and EBIT margin is shown below and demonstrates steady top line progress and a lengthening record of incremental margin progression. The different operational elements of the group have a more diverse trading pattern, as is demonstrated from the more detailed analysis in Exhibits 5 and 6 below. This clearly shows that CT is the driving force behind the earnings progression, growing from 74% of group revenues in FY13 to a forecast 86% in FY17.

We have incorporated specific trading comments about the divisional performance into the earlier sections of this report.

With the hire model, it is also informative to look at the returns across the operations (Exhibit 6). Here we can see the trading margin impact described above and the short-term impact of the increased capital spend in CT.

The group underlying tax charge is high, reflecting the proportion of profits generated in the US. In FY15, the effective rate was 45%.

Avesco has declared an interim dividend of 2.5p, up 25% on H115, consistent with management’s stated plan of increasing by 1p a year and as included in our model.

The sale of the Fountain Studios land and buildings has given the group a windfall in the reported period. Contracts were exchanged in January 2016 for the sale to Quintain (itself now owned by US PE house Lone Star), which owns the land surrounding the studios in Wembley Park, for a sum of £16m. The profit on sale after the cost of land, selling costs, redundancies etc is £9.8m on which £2.1m of tax is payable, giving a net profit on sale of £7.7m, booked as an exceptional item in H116. The group had booked an impairment charge of £1.3m on fixtures and fittings in FY15, giving a net post-tax profit on sale of £6.5m.

The cash inflow has given the group the opportunity to step up its capital expenditure beyond the level that could be regarded as a maintenance spend (say £16-17m). We have revised our estimate of current year spend to £23.2m, most of which will be spent to the benefit of CT in order to upgrade its flexible LED offer.

Avesco’s balance sheet is exceptionally strong for a rental business. Net debt at 31 March 2016, following receipt of the Fountain proceeds, was £3.2m (H115: £25.1m), equating to gearing of just 7%, and giving a trailing 12-month EBITDA/net debt figure of over 8x. The deal has also boosted net assets at 31 March to £44.0m, compared to £34.3m a year earlier. This equates to an NAV per share of 230p. Based on our forecasts (Exhibit 7), September 2016 gearing is 14%, falling to only 4% at end-September 2017. At the last year end the group had unutilised banking facilities of £19.1m, of a total banking and finance facility of £50.1m. This has now reduced to £40.1m following receipt of the Fountain moneys and includes a £10m multi-currency revolving loan.

Post the settlement of the Disney/Celador case (see our previous reports) in June 2013, when Avesco received £44.5m ($68.1m) net of costs, the group returned £30.4m to shareholders via a £1.10/share payout in January 2014. It also used £9.4m of the proceeds to buy back 7.58m (then 29%) of the company from Taya Corporation and applied the remaining £4.7m to debt reduction. The scale of this latest lump sum receipt is considerably less, but it nevertheless gives Avesco substantial financial strength to grow organically or even via bolt-on acquisitions, as well as underpinning its progressive dividend policy and providing a cushion if there is an economic downturn. We regard larger acquisitions as being unlikely given the market conditions and the prices being paid by private equity operators.