From 2010 to 2014, EBITDA expected to have declined by 52%
According to Moody’s 2/19/2015 credit opinion on Zuffa LLC, the fight promoter’s leverage was expected to rise to 5.8x by the end of 2014. Given the $450-million debt load (consisting of its $450 million term loan, with zero drawn from its $60 million revolver), that would imply a projected LTM EBITDA of $77.6 million at the end of 2014. (It is not clear why the report, dated 2/19/2015, does not have up-to-date, 2014 full-year financials from the company.)
The same report says Zuffa’s leverage was at 2.6x in 2010 (which we assume means the leverage at the end of the year 2010). The company’s debt at the end of 2010 would have most likely been $425 million (assuming nothing drawn from its $25 million revolver, which the company was to have paid down when it increased its term loan debt by $100 million in late 2009). That would imply Zuffa had 2010 full-year EBITDA of $163.5 million.
In other words, the latest Moody’s report tells us that the credit rating firm expects Zuffa’s EBITDA to have suffered a 52% decline from $163.5 million in 2010 to $77.6 million in 2014.
Would the UFC still be justified in calling itself “the fastest growing sports organization in the world” if it really saw its EBITDA, a key measure of profitability for a business, decline by more than half from 2010 to 2014?
Considering that EBITDA is a common basis for business valuation, Zuffa’s declining EBITDA from 2010 would mean that the company’s value has plummeted over the same time period. In January, 2010, Abu Dhabi’s Flash Entertainment was reported to have bought a 10% stake in Zuffa. What is the emirate’s investment in Zuffa worth now?
From 2010, Zuffa grows revenue, but doesn’t increase profits
Maybe the UFC can base its claim to be the fastest growing sports organization in the world on its revenue growth, which has increased from 2007.
According to Moody’s 12/2/2011 credit opinion, Zuffa had an EBITDA margin of 39% in 2010. That would mean the company had revenue of $419.1 million in 2010, based on the $163.5 million EBITDA as we calculated above. And Moody’s 2/19/2015 report tells us that the company had LTM revenue of $522 million as of 9/30/2014. So its revenue grew by approximately 24.5% since 2007, or 5.6% on an annualized basis.
The growth in revenue is likely a direct result of the UFC putting on a lot more events now compared to 2010. In 2010, there were 24 UFC events in the U.S. and abroad, and the number almost doubled to 46 in 2014. Additional revenues surely also came from new TV rights deals such as the 2011, 7-year agreement with FOX, whose start coincided with the significant increase in the number of UFC events per year.
But as Moody’s shows us, the UFC is having difficulty turning growing revenue into greater profits. The 2/19/15 report shows the company’s EBITDA margin had declined to 19% as of 9/30/2015. That is a 2,000-basis-points drop from 2010. If more events are leading greater revenue but lower profits, is the UFC really growing in the right way?
Low EBITDA growth of only 2.6% from 2007 to 2014
Moody’s in previous reports on Zuffa had described the company’s “strong growth of 46% annualized EBITDA growth from 2007-2010” (see 2/3/14, 2/7/13, 12/2/11 reports). But if we extend the time horizon to 2007 to 2014, the company’s EBITDA growth looks to be far more modest.
In 2007, Zuffa had leverage of 5.0x, according to Moody’s 2/19/15 report. At the time, the company had a new bank term loan of $325 million. We thus estimate that the company had 2007 full-year EBITDA of $65.0 million.
If Zuffa’s annual EBITDA indeed grew from $65 million in 2007 to $77.6 million at the end of 2014, it would have achieved annual growth rate of just 2.6%. To put that in context, from 2007 to 2014, the Consumer Price Index (inflation) increased by about 1.9% a year and the S&P 500 Index rose by an annualized 5%. Zuffa’s EBITDA growth beat inflation, but fell far short of the return you can get by putting money in a stock market index fund over the same period.
Free cash flow declines, and cash running low
Back in 2011, Moody’s reported that Zuffa was expected to maintain free cash flow of $82 million a year, according to Moody’s 12/2/2011 report. But by the time of Moody’s 2/19/15 report, the credit rating firm had lowered its expectations for Zuffa’s free cash flow figure to “between $45-$50 million”. This seems consistent with the company’s deteriorating ability to convert revenue into positive cash flow, as evidenced by the drastic decline of EBITDA margin from 2010 to 2014.
Another aspect of this tightening cash situation can be seen in Zuffa’s actual cash on hand.
For a two-year period, Zuffa’s cash on hand held steady, from $14.3 million on 9/30/2012 (Moody’s 2/7/13) to $14.0 million on 9/30/2014 (Moody’s 2/19/15). However, it had only $7.5 million of cash at 12/31/2014, according to Moody’s.
Moody’s also tells us that the company’s operating expenses rose by 8% in the first nine months of 2014. Is the decline in cash a result of even higher operating expenses in the fourth quarter of 2014?
It is alarming that Zuffa’s operating expenses are likely much greater than $7.5 million. Because the company has “low maintenance capital requirements” (Moody’s 2/19/15), it should not have much of a depreciation and amortization expense, either. Therefore, its EBITDA should be rather close to its operating profits and most of the difference between its revenue and EBITDA should be accounted for by its operating expenses. As we discussed above, with its 19% EBITDA margin as of 9/30/2014, about 80% of its $522 million LTM revenue as of 9/30/14 probably went to operating expenses. That would imply its LTM operating expenses were $423 million on 9/30/2014, versus its cash on hand of $14.0 million.
We don’t know whether Moody’s includes in its figure of “cash on hand” other liquid assets held by Zuffa. But unless Zuffa is sitting on a very large pile of Treasury notes or other liquid investments, it seems very unlikely the company is following the business rule-of-thumb of keeping enough cash and liquid assets equal to about 3- to 6-months of your company’s operating expenses.