For Broadcast December 03, 2008

The departure of DCD's CEO shows why funding is such an issue.

Leveraging your assets to borrow money is not a new idea, but it can turn toxic – especially in the current financial climate. Chris Hunt, the recently departed chief exec of DCD Media, felt this rather personally last week when he stepped down after a botched attempt to renegotiate the company's debt.

DCD took out £9.9m worth of convertible loans in 2005 and 2007 to buy the bevy of producers that pushed it into the super-indie league. The loans were due to be renegotiated in late October – but the three hedge funds who held them were able to push Hunt into a corner because they could convert their loans to DCD equity, with no floor to the conversion share price. This sent the DCD share price tumbling from 31p in mid-October to 7p by 11 November.

One of the hedgies – Gartmore Investment Management – decided to protect its 17% stake in DCD by purchasing £2.6m of the existing notes and new terms were negotiated on the rest.

DCD's share price recovered to around 17p and the company has 12 months to pay back the notes. But Hunt, who is returning to programme-making, is gone and the new loans include tough targets to be tested against DCD's June 2009 year-end results.

The story underlines how funding can have big repercussions on company values. This week, DCD wrote down £18.2m – just less than it paid for Prospect Pictures, September Films and West Park Pictures in the first place.

The other valuation issue is timing. DCD's price:earnings (PE) ratio on a fully diluted basis is about 5.5 for the year to June 2008, against Shed's PE of 5.7 and RDF Media's take-out PE multiple of 11.6 on an earnings-per-share forecast of 10.4p.

There is a premium built into any take-out multiple, and trading PE multiples have fallen as the markets have tumbled.

Having said that, take-out multiples are also falling. Compare the RDF figure with the 14.4 take-out PE ratio for Endemol in July 2007 and the 9.2 PE for 2WayTraffic in a cash deal in March this year.

The fall is largely attributable to how expensive debt has become and will mean lower valuations across the sector. Those able to do deals without taking on debt could be key consolidators – which is just what Italian giant De Agostini is planning with its equity-led acquisition strategy.