HSN, Inc. (HSNI) a New Dividend Payer with Attractive Returns, a Built-In Price Catalysts, and a Valuation Estimate

HSN, Inc. (HSNI) falls under our new dividend payer category. HSNI initiated a dividend in 2011. We also think it can turn into a dividend stalwart, a company with a long track record of paying and increasing its dividend every year. But we also need to make sure we are not overpaying for HSNI and its future dividend growth.

In 2011, HSNI started paying a quarterly dividend of $0.13 per share. It now pays $0.35 per share a compound annual growth rate of 24.62%. This doesn’t include the special one-time dividend of $10.00 per share paid in February 2015.

From S&P Capital IQ. Click image to enlarge.

From S&P Capital IQ. Click image to enlarge.

Buybacks

HSNI has also reduced its shares outstanding by 10.32% over the last 5 years.

From S&P Capital IQ. Click image to enlarge.

From S&P Capital IQ. Click image to enlarge.

ROE, ROA, ROIC

Returns on equity, capital, and assets have been consistently high.

From S&P Capital IQ. Click image to enlarge.

From S&P Capital IQ. Click image to enlarge.

HSNI also generates returns on tangible capital (Joel Greenblatt’s metric) over 50% and cash returns on invested capital over 24%.

Less Exposed to Recessions Versus Other Retailers?

HSNI is obviously very dependent on the discretionary spending of the U.S. consumer. But how they sell to consumers is a master class in how to use psychology (link is for QVC but they use the same tactics) to get us to buy even when we probably shouldn’t be spending money. This is what is attractive about HSNI’s business model. During the 2008 financial crisis when discretionary spending was drastically cut,  HSNI only experienced a 5.45% decline in revenue from 2007 to 2009.

From S&P Capital IQ. Click image to enlarge.

From S&P Capital IQ. Click image to enlarge.

However, HSNI’s operating income declined 60% during the financial crisis so it is not completely immune.

From S&P Capital IQ. Click image to enlarge.

From S&P Capital IQ. Click image to enlarge.

Liberty Interactive Ownership Stake

Another attractive aspect of HSNI is Liberty interactive (QVCA) owns 38% of HSNI. QVCA owns and runs HSNI’s direct competitor QVC.

Liberty Interactive's HSNI ownership Stake. From Liberty Interactive's asset list.

Liberty Interactive’s HSNI ownership Stake. From Liberty Interactive’s asset list.

This creates the potential catalyst of Liberty Interactive (QVCA) buying the rest of HSNI. QVCA’s management said in the past that they are interested in buying the rest of HSNI at the right price. HSNI isn’t trading at that price.

Barton E. Crockett
FBR Capital Markets & Co., Research Division

Okay. And then just one final thing here. Relative to HSN, you guys have in the past expressed, I think, limited interest in buying in the stake in HSN that you don’t own at these valuations. That seems to stock up some capacity. Should we assume that your stance towards HSN is similar to what it’s been the past?

Gregory B. Maffei
Chief Executive Officer, President, Director and Member of Executive Committee

Well, I think you should first start with the proposition that we look to reinvest our free cash flow in the most attractive place. And you’ve seen us do that over the last few years on our own stock. Just as a matter of math, that has gotten by most measure to get less attractive. We’re at a higher multiple than we were in 2009 — than we were in 2010. We have the luxury of continuing that. Even though it’s less attractive, we still consider it attractive and investing here in something that we think will generate higher rates of return for the benefit of our shareholders and be strategic. So all attractive on all measures. HSN is a great company. We’re proud to have them in the Liberty family. But when we look at the profile of its growth rate, which looks more similar to our own, versus the multiple not only of EBITDA but even more of free cash that it’s trading at, we don’t consider that attractive versus our own stock and certainly not versus the opportunity to join with zulily.
From 8K Released August 19, 2015

Until recently HSNI was trading at a premium multiple of EV/EBITDA when compared to QVCA. Even though QVC is the larger of the two and has international exposure. HSNI’s premium multiple was in part due to the potential of QVCA buying them.

HSNI recent price decline has brought its multiple more in line with QVCA’s. However, this is still too high a price Liberty Interactive wants to pay for the rest of HSNI.

Valuation

Liberty Interactive thinks they can grow at 5% top line and they think HSNI will do the same. Looking 5 years out, using a 5% growth rate, HSNI’s current operating margins, and discount rates of 12-15%,  we get to fair value around $56 per share.

HSNI margins are much lower than QVCA’s. HSNI’s EBITDA margin is 9.69% and its EBIT margin is 7.7% compared to QVCA’s EBITDA margin of 20% and EBIT margin of 13%. If HSNI can improve its margins and/or increase revenue faster than it is worth more. This is just a starting estimate of what HSNI is worth. We’ll need to do more work to see if management can improve margins or grow revenue faster than 4-5%. Maybe even divest its lower margin Cornerstone Brand?

HSNI is currently trading around $54 per share. HSNI is trading around our estimate of fair value, if we’re right. Our valuation is probably off. Fair value could be higher or it could be lower and we don’t know by how much. This is why we ideally want to buy a company at a good discount to our estimate of fair value. It gives us a margin of error to work with.