Future — US Purch-ase

We have outlined in previous reports that, while the transformation of the UK business has been successfully implemented, the real step-change opportunity for Future is in the US. The relative scale of the potential audience and the sophistication of online behaviour (particularly the propensity to transact) should allow management to use the tools developed in the UK to build enthusiastic communities and to monetise them effectively.

Purch is a tech-enabled media business, as is Future. The reasons for the acquisitions are:

Purch’s key brands are in the consumer technology and science verticals, with the most important being Tom’s Guide and Tom’s Hardware in tech, and LiveScience and Space.com in knowledge. Future’s Techradar brand is closely aligned in the tech category, with further potential overlap between Tom’s Hardware and PC Gamer, where the community is also interested in and knowledgeable about related hardware. Space.com clearly has commonality with Future’s magazine, All About Space, whereas LiveScience sits well with the magazine How It Works. The monthly average unique user numbers for the key brands are shown in Exhibit 1 below. These sites also draw traffic from outside the US. In March 2018, 58% of traffic came from the US, 6% from the UK and 37% from the rest of the world.

While there are obvious advantages in being able to leverage content across a wider array of websites, the combination of Purch with Future gives US market leadership in terms of audience reach in the technology news segment (as defined by ComScore). Together, traffic numbers overtake Ziff Davis, the current US market leader. It is particularly in this vertical that the group will become an even more attractive partner for advertising agencies looking to manage larger campaigns.

Future has been building scale, particularly over the last three years, through acquisition as well as organic growth. This has involved a number of transactions bringing in magazine brands, with legacy print and falling advertising revenues. However, these acquisitions have brought in recognised brands, content and communities to the group; highly complementary to the media businesses. Our existing Future forecast for FY18 is shown below (with no Purch contribution), with our provisional picture for a full 12 months inclusion of Purch’s revenues for FY19. The magazines remain core to the group brand strategy.

The sheer scale of the US market makes it an obvious target for expansion for Future’s activities. Management has been working on driving revenue per user in the US. This has been improving, but is still a long way below that of the UK. Revenue per user was £0.74 in FY17 (versus the UK at £1.40). On a rolling annualised basis to March 2018 this figure had risen to £0.80, but the UK figure had climbed faster to £1.58, as the newer income streams from digital advertising and e-commerce started to gain traction. With 50m unique visitors in February 2018, the rough equivalent figure for Purch is $1.27 (£0.96).

The acquisition gives Future the traction with advertisers, particular in consumer technology, that it was looking to build. With a stable of well-recognised brands, it should also be in a better position to recruit digital media talent to its New York base, with support functions in lower-cost locations.

Future has committed a great deal of expertise and energy in recent periods in putting together a scalable platform, with back-office systems (CRM, financial, data management) and infrastructure, including moving its US operations to a new base in New York. Its tech stack comprises:

Purch has also demonstrated its tech-enabled credentials with the investment outlined above. There are two elements to its tech stack that have particular attractions for Future. The first, RAMP, is its ad tech platform. This incorporates a server-to-server header-bidding solution that works in real time and across all types of inventory (display and video) as well as auction models. Integrating Bordeaux with this should give a best-in-class ad tech solution. The second, PIP, is a data intelligence platform built by Purch, which can also be integrated with the elements outlined above.

Purch’s published historic audited revenues in the prospectus are segmented into advertising (63% FY17 revenue) and performance (37%). Advertising is ad revenue generated through the sale of advertising space on owned or network websites, sold either on fixed-fee or CPM a basis, Performance revenues are generated from the sale of prospective consumer interest, third-party inquiries or sales commissions.

This segmentation is not particularly helpful for analytical purposes and a more detailed breakdown given in the prospectus separates out the B2C affiliate, B2C advertising and other B2C revenues from those generated by Publisher Services. This latter segment is effectively a B2B proposition, whereby advertising sales are delivered for a network of key partner brands. It achieves a considerably lower gross margin than the B2C propositions, as can be seen from Exhibit 4, above. The published operating loss for Purch for 2017 was $2.1m, with a positive EBITDA of $3.3m. However, there are $6.8m of adjustments to take that figure up to $10.1m (elimination of overheads not coming across as part of the deal and replacement with expected overhead allocation within Future – net benefit of $1.7m; CRO costs also not being transferred of $0.7m; and $1.0 of non-recurring/exceptional).

Future now has a polished procedure for assimilating acquisitions, with the first integration phase typically taking four months as back office systems are migrated onto Future’s platform. Phase two, transformation, would last the remainder of the first year and includes ensuring that best practice is shared between new and existing operations and appropriate incentive packages are put in place. The second year is focused on optimisation. For Purch, key management is coming across with the deal and the combined US business will be run day-to-day from Future’s New York office.

Potential synergistic benefits are described by management as ‘meaningful’ but are unquantified. Four elements are identified in the documentation:

The prospectus contains a pro-forma income statement for the year ended September 2017 and a statement of pro-forma net assets as at 31 March 2018.

Combined pro-forma FY17 revenues are presented at £144.0m, £94.7m from Future and £49.3m from Purch. Adjusted FY17 EBITDA actual for Future was £11.0m and the adjusted EBITDA figure given for Purch was $10.1m (£7.7m), giving a combined number of £18.7m. Our preliminary calculations suggest this rises to £32.6m for FY19, a 32% compound growth rate.

The pro-forma balance sheet as at 31 March 2018 indicates net assets of £171.3m, including £156.6m of goodwill; £82.2m of this relates to the acquisition of Purch.

Purch is being acquired on a debt- and cash-free basis, so the net debt on the pro-forma balance sheet relates to Future’s existing business in its entirety. It also predates the acquisition of Newbay, which was bought in April and completed in May 2018, and the four magazine titles purchased from Haymarket, which also completed after the interim balance sheet date. The modest net debt position of £2.0m at end March 2018 would have increased with the payments for those transactions (Haymarket titles were purchased on 1 May 2018 for £13m, including the issue of 370,708 shares; Newbay was purchased on 4 April 2018 for £8.6m cash and £1.1m in shares, with a further potential deferred payment of £3.9m in January 2019). Our forecast end-FY18e net debt position (pre-Purch) currently stands at £22.5m, which may prove overly conservative. The rights issue (which is not contingent on the deal proceeding) covers the purchase price and associated costs in full.

With this acquisition being for cash, there is obviously no related increase in indebtedness, while the equity base of the combined group will increase from £66.0m (net assets as at 31 March 2018) to a pro-forma £171.3m. The existing net debt of c £21.9m (£2.0m as at the interim results, plus the cash element of the Haymarket title purchases of £11.3m plus the cash element of the Newbay deal of £8.6m) would then represent 13% gearing, down from 33%.

We have carried out some indicative modelling of the combined group, including Purch for one month of the remainder of FY18e and for the whole of FY19e. We have made no alterations to our underlying Future forecasts, which are presented within Exhibit 6, page 8. We will revise our forecasts to reflect the acquisition once the rights issue and the acquisition complete.

In doing this, we have anticipated a good level of revenue growth for Purch across the two forecast years, as its ad tech and e-commerce capabilities gain traction in its markets. We have factored in a modest increase in EBITDA margin from 16% to 17%, driving Purch EBITDA from the adjusted $10.1m in FY17 pro-forma to $14.4m for FY19e, building on the momentum already established.

The acquisition is entirely for cash, funded by the proceeds of the fully underwritten rights issue (which is not dependent on the deal). It is not of the whole company; it is the purchase of particular assets of interest, with non-compete undertakings given for the B2C assets. The vendor is US based and private equity funded. Some, but not all, of the current management team is coming across with the B2C units.

As Future’s business model covers different activities, our valuation framework uses peer sets that aim to capture these aspects.

On the existing business, Future’s faster earnings growth opened out a modest EV/EBITDA discount for FY19e, on par with peers for current year on a P/E basis.

Working then on the theoretical ex-rights price of 433p ((4x530p + 3x303p)/7) and calculating the EV on the increased share base, the FY19e EV/EBITDA of 11.8x is at a 13% discount to the basket of peers weighted by the changed mix that we are factoring in with a full year’s contribution from Purch.

The P/E on a similar basis is at an 8% discount.

Our DCF calculations will be updated when the forecasts are refined and formalised.