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March 26, 2012

From Virgin Media and England to Liberty Global and Germany

All Northlake client positions in Virgin Media (VMED) have been swapped into Liberty Global (LBTYK). Both companies are leaders in supplying cable TV, telephony, and internet. VMED operates solely in England, while LBTYK operates throughout Northern and Central Europe with a major focus on Germany. I think both stocks have similar upside of 20-30%. However, VMED faces a more competitive and mature market in England, while LBTYK faces less competition and lower penetrated markets, particularly in Germany.

It is an oddity but Germany has been slow to develop its cable TV and high speed internet service. What business has existed there is highly fragmented among service providers due to the regulatory structure put in place by the German government. In the past few years, LBTYK has made two large acquisitions to become the leading cable and broadband provider in Germany. These moves have proved timely as German households are accelerating their move to digital TV and high speed internet. Business trends are also accelerating and LBTYK is poised to see faster growth in 2012 than during the past few years.

LBTYK has grown well despite the crisis in Europe. Thus far, the negative economic impact of the crisis has been largely contained to Southern Europe. LBTYK's markets including Germany, Switzerland, Belgium, and the Netherlands have faced much less impact. I think the taint of the European crisis has held back LBTYK shares providing incremental upside should the recent easing in the crisis be sustained.

A final bullish element to the LBTYK story is the capital allocation program. Management aggressively repurchases shares using the significant free cash flow inherent in the cable and broadband business. With networks mostly built out and upgraded, capital spending as a percentage of growing revenues is falling providing double digit free cash flow growth to finance share repurchases. VMED also buys back a lot of stock but competition is requiring an uptick in capital spending this year and the long-term spending needs could be higher.

Please note that while Liberty Media (LMCA) and LBTYK share common controlling shareholders and Board members, the two companies are completely separate and do not compete with one another. The same shareholder focused approach to managing the business exists at both companies and is a major part of the investment thesis.

Disclosure: LBTYK and LMCA are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, an Illinois-registered investment advisor. Filings can be found at the SEC's website. LBTYK, LMCA, and VMED are net long positions in the Entermedia Funds. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia's investment management company, and has personal monies invested in the Funds. Entermedia is a long/short equity hedge fund focused on media, entertainment, communications, and related technologies.

Posted by Steve Birenberg at March 26, 2012 09:38 AM in LBTYK