Qualiport

TMF Googly gets familiar with Capital Radio

Capital Radio

In the south east region, and probably also around the country, Capital Radio is one of our more recognisable brands. It holds a dominant position in the London and Birmingham commercial radio market.

The Business

The company is split into two main businesses: radio and restaurants. It also has interests in a record label called Wildstar and is continuing to develop its interactive radio websites. We will concentrate on just radio and restaurants.

London's most popular commercial radio station is 95.8 Capital FM, by quite some distance. It has a share of London listeners of around 15%. Next biggest is 1548 AM Capital Gold, with about a 5% share. After that, and not far behind, comes Heart, Melody, Virgin and LBC. If you include the BBC, 1548 AM Capital Gold has been the fourth most popular station in London, beaten only by Radio 4, Radio 2, and 95.8 Capital FM.

Most people will know of Capital's failed bid for Virgin Radio. Chris Evans and his Ginger Productions company came in and gazumped the Capital offer whilst it was being considered by the Monopolies and Mergers Commission. This was obviously a blow to Capital's plans, although at the AGM in late January -- after the Virgin deal had slipped from their grasp -- the Chairman said, "[Capital] has significant headroom for growth under the Radio Authority ownership rules and will continue to assess future radio opportunities as a key driver in creating shareholder value."

Apart from the two London flagship radio stations, Capital Radio also own local radio stations in Birmingham and the Southeast. In Birmingham, 96.4 FM BRMB and 1152 XTRA-AM. In the Southeast, across Kent Hampshire and Sussex, Invicta FM and Invicta Supergold, Ocean FM, Power FM and Southern FM. Most of these stations have market leading positions, and a high share of local radio listening.

The restaurants are a relatively new addition to the Capital stable and came about through the £54m acquisition of My Kinda Town at the end of 1996. The company will concentrate on developing the Radio Café and Havana brands. The flagship Radio Café is prominently situated in London's Leicester Square, on the ground floor of Capital's head office. The first Havana restaurant was opened last month in Hanover Square London, replacing the Chicago Pizza and Pie Factory.

Radio Café is a reasonably priced burger restaurant, and Havana is based on a Latin American concept.

Margins

[Note: all figures are taken from the last published Annual Report for the 12 months ended 30th September 1997]

Operating margin gives a measure of a company's profitability and the competitive environment in which it operates. It is calculated as a percentage by dividing operating profits by sales. Because the radio and restaurant businesses are so different, when analysing the company it makes sense to split each of them out.

On sales of £86.1m, commercial radio produced an operating profit of £31m. That gives an operating margin of 36%. For fiscal 1996, the operating margin was 37%. These types of numbers reflect the protective moat that surrounds a radio station. You can't just walk in off the street with a few spare million to spend and start up a radio station. There is a strict licensing system and procedure, and licenses are allotted by the Radio Authority as they see fit. For example, the Radio Authority has received 14 applications for the northeast England commercial radio license, which covers a population of about 2m. Capital Radio have submitted an innovative bid for a station called Fun Radio, specifically designed to cater to the needs of children.

The fall in margin has a significant effect on profits. Because the margin is so high, its fall from 37% to 36% translates the radio sales growth of 14.6% into operating profits growth of a much less 11.9%. Margins fell due to a continued investment in interactive services, programming, and marketing.

Capital Radio Restaurants shows a completely different story. Because My Kinda Town was relatively recently acquired, the annual report doesn't carry any comparable period prior year figures. For the 10 months to September 1997, sales were £25.6m and pre tax profits £1.7m, giving operating margins of a lowly 6.6%. This is the business that Capital splashed out £54m on. If you pro-rate the sales and profits for the full 12 months, that puts the restaurant business on a price to sales ratio of 1.9, and an after tax (but excluding interest expense) price earnings (P/E) ratio of around 40.

From these numbers, it is obvious much work needs to be done on the restaurant front. Results in France and Germany were disappointing, and remedial action is being taken. Like for like sales in the UK increased by 9%, and a new management team has been installed led by an ex Harry Ramsden's man. It is Capital's objective to fund new investments from within the restaurant business. In other words, the plan is that the radio business will not be used to subsidise the restaurant business.

Debt

The group has changed considerably in the last year. The acquisition of My Kinda Town was paid for mostly in cold hard cash. However, Capital have been disposing of shareholdings in 3rd party businesses, and that includes the sale of a large stake of GWR. At the year end, Capital had net debt of £26m. The final stake in GWR was sold just after the balance sheet date, and the £23.2m proceeds will largely wipe that debt out. If I were able to spy on the management accounts of Capital Radio right now, I'd expect to see them in a net cash position.

The Capital Radio Snapshot

Recent Share Price: 653p

Fiscal 1997 Sales: £113.6m
Fiscal 1997 EPS: 32.2p

1998 EPS Estimates: 36.0p
1999 EPS Estimates: 40.2p

Market Capitalisation: £481m
Market Capitalisation to Sales: 4.2
Current P/E: 20.3
Forward P/E: 18.1 on 1998 estimates, 16.2 on 1999 estimates

Long Term Expected Growth Rate: 14%
Yield: 2.1%

Conclusion

Capital Radio has a great track record. It has a hugely recognisable brand name and is the market leader. These are all qualities that are advisable for a quality share to possess. The new restaurant business is a concern. Here, Capital are entering uncharted waters -- this is a business very much without the protective moat that surrounds their radio stations. The first 10 months results were disappointing.

At first glance, the Chris Evans led acquisition of Virgin Radio looks a real threat. However, the radio station is a long way behind both of Capital's London stations in terms of market share. The charismatic redhead heads the Virgin breakfast show but he can't be on air for 24 hours a day in an attempt to boost ratings. We'd all go mad. It must also be remembered that Evans is very much a novice when it comes to running radio stations, and his span of attention is notoriously short. The threat seems bigger than it probably is.

Next Wednesday we will move on to EMAP, which also has some radio interests. It will be good to compare the like parts of the two businesses. It would be rash to decide on Capital Radio's fate until then. All comments, as usual, to the Qualiport message board. I note my erstwhile colleague wasn't too thrilled about my decision to throw Southnews out of Qualiport contention, and he wasn't the only Fool who thought I could be making a grave error. Come join the message board debate as the Fools slug it out amongst each other.

Have a great weekend, Fools.

Bruce Jackson (TMFGoogly)

Qualiport Numbers

This Week's Numbers          Week Ending 18/03/98

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Rec'd        #     Stock      Buy      Now  % Change  £ Change

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