ITV (LSE:ITV) shares fell more than 6% on Tuesday after J.P. Morgan Cazenove downgraded the broadcaster to “neutral” from “overweight” and reduced its price target to 85 pence from 104 pence, arguing that the company had not achieved the valuation it had hoped for in the sale of its Media & Entertainment division to Sky.
ITV confirmed the disposal of the M&E business for up to £1.6 billion. The consideration includes £1.2 billion in cash, £200 million linked to the contribution of Love Productions and a further £200 million in contingent cash tied to ITV’s 2027 advertising revenue. Based on a headline valuation of £1.4 billion to £1.6 billion, Sky is paying around 5.6 to 6.4 times EBITDA.
“In our view, Sky is paying fair value for M&E with Sky keeping all of the upside from cost savings, synergies and strategic benefits, while ITV is bearing separation / deal costs of c£150m and stranded Studios costs of c £30m,” the broker said.
Separation costs weigh on proceeds
ITV will also transfer its sports production business to Sky, representing around £50 million of revenue and £5 million to £6 million of EBITA.
J.P. Morgan noted that net advertising revenue growth is expected to reach 8% in the second quarter, below guidance of 10%, which the broker said was “likely not helped by UK political uncertainty and 3 months of conflict in the Middle East.”
The bank estimates ITV will receive net cash proceeds of about £1.05 billion from the £1.2 billion cash payment after roughly £150 million of post-tax separation costs. ITV plans to return £950 million to shareholders, equivalent to 25 pence per share.
Following the deal, the remaining ITV Studios business is expected to carry net debt of 1.5 times EBITDA, with ITV aiming to retain its investment-grade status.
Regulatory approval still required
The transaction remains subject to regulatory approval. J.P. Morgan said Sky would control about 70% of the television advertising market after the acquisition, although it would represent only around 7% of the broader advertising market.
The broker warned that if the UK’s Competition and Markets Authority adopts a narrow definition of the television advertising market, it could require structural or behavioural remedies before clearing the deal.
ITV Studios becomes the focus
Following the transaction and the inclusion of Love Productions, ITV Studios is expected to generate pro forma revenue of around £2.1 billion, EBITDA of £330 million and EBITA of £300 million.
The remaining Studios business will also enter a long-term content supply agreement with ITV M&E and Sky, including a minimum spending commitment of £2.1 billion between 2028 and 2032.
At ITV’s current share price, J.P. Morgan estimates the implied enterprise value of ITV Studios at about £2.6 billion, equivalent to 7.8 times EBITDA.
“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),” the broker said. “Our PT falls from 104p to 85p – with the 19p downgrade reflecting the lower disposal price, separation costs and stranded Studios costs..”
J.P. Morgan’s revised 85 pence price target is based on a discounted cash flow model using an 11.4% weighted average cost of capital and a 0% terminal growth rate.
