Shares of ITV dropped by over 6% on Tuesday after J.P. Morgan Cazenove moved the stock from "overweight" to "neutral" and cut its price objective to 85 pence from 104 pence. The downgrade reflected the broker's view that the terms ITV secured in the sale of its Media & Entertainment (M&E) arm to Sky fell short of expectations.
ITV has confirmed the disposal of its M&E division for a headline consideration of up to 1.6 billion. That package comprises 1.2 billion in cash, 200 million arising from the contribution of Love Productions, and a further 200 million in contingent cash linked to ITV's 2027 advertising revenue.
J.P. Morgan noted that, based on a headline price of either 1.4 billion or , Sky is paying between 5.6 and 6.4 times EBITDA.
In its research note, the broker argued that Sky was paying what it views as fair value for the M&E unit, while retaining the potential upside from synergies, cost reductions and strategic gains. The note added that ITV will be responsible for roughly approximately 150 million in separation and deal costs and about 30 million in stranded Studios costs.
The broker also noted that ITV will move its sports production business to Sky as part of the transaction. That unit generates roughly approximately 50 million of revenue and delivers about 5 to million of EBITA.
Advertising trends also informed J.P. Morgan's recalibration. The broker expects net advertising revenue to grow by 8% in the second quarter, below ITV's guidance of 10%. J.P. Morgan said that the shortfall was "likely not helped by UK political uncertainty and 3 months of conflict in the Middle East."
After accounting for around net cash proceeds to ITV from the 1.2 billion cash payment will be about about 1.05 billion after 150 million of post-tax separation costs, the note said. From that amount ITV will return 950 million, equivalent to 25 pence per share, to investors.
Post-transaction, the remaining Studios division will carry net debt equivalent to 1.5 times EBITDA, while ITV expects to retain an investment-grade credit profile, according to the broker's analysis.
The acquisition still needs regulatory clearance. J.P. Morgan observed that Sky would control about 70% of the television advertising market under a broad definition but only roughly 7% of the overall advertising market. The note cautioned that if the Competition and Markets Authority adopts a narrower TV-market definition, structural or behavioral remedies could be required.
J.P. Morgan set out pro forma metrics for ITV Studios after including Love Productions: revenue of about 2.1 billion, EBITDA of 30 million and EBITA of 00 million.
The Studios business is set to sign a long-term content supply agreement with ITV M&E and Sky that includes a minimum spend commitment of .1 billion in minimum spend across 2028 to 2032.
Using the current share price at the time of its note, J.P. Morgan estimated Studios' implied enterprise value at around .6 billion, which equates to roughly 7.8 times EBITDA.
Summarizing its view, the broker said: "ITV has not been able to secure the deal that we had hoped for - not helped by the ongoing UK and global political / macro uncertainty over the past 6 months (and indeed the last 10 years since Brexit)." J.P. Morgan reiterated that its reduction in price target - a 19p cut from 104p to 85p - reflects the lower disposal price, separation costs and stranded Studios costs.
Finally, the note states that the 85p price target is derived from a discounted cash flow model using a weighted average cost of capital of 11.4% and a terminal growth rate of 0%.