by Will Ashworth | July 18, 2013 1:43 pm
Big media is on fire this year. The success of stocks like Disney (DIS) and others has been so good, in fact, that they’ve received acclaim not just from the traditional Wall Street media outlets, but also industry publication The Hollywood Reporter, whose July issue detailed the success of big media companies in the first six months of 2013.
In fact, only one of seven — Comcast (CMCSA) — couldn’t best the S&P 500’s 10.3% gain through the first six months of the year.
But at some point, these hot-running stocks have to run out of gas … don’t they?
I think so … I just don’t think all of them will. Specifically, I think two will actually keep the party going, but two look ready to hit the wall.
Comcast has picked up the pace in the past month with a total return of 11%, better than all of the rest. As of July 16, it’s neck-and-neck with the S&P 500.
Historically, Comcast has wiped the floor with the index. In those years where it outperforms the index, it does so by a country mile. In the next two or three months, I expect the cable giant to pull away.
It all comes down to valuation. While merger mania appears to have gripped the cable and satellite industry, Comcast seemingly has been left out of the party. Steve Birenberg is a portfolio manager in Evanston, Ill., who specializes in media stocks. He believes Comcast is a $50 stock given its 8% free cash flow yield and conservative balance sheet.
In a recent article, Birenberg points out that Charter Communications (CHTR) — which is 25% owned by Liberty Media (LMCA) — has an enterprise value 9.6 times EBITDA, or about 18% higher than Comcast despite having one-sixth the subscribers. Even if Malone were able to buy Time Warner Cable (TWC), the merged entity would have a little more than half Comcast’s 25 million subscribers.
Throw in NBC, which generates 20% of Comcast’s annual cash flow, and you have a business that’s undervalued by at least 15% — probably more.
Time Warner (TWX) is up nearly 30% year-to-date — more than 10 percentage points higher than the S&P 500. So what has driven its stock, which sits less than 1% from its five-year high?
A big reason could be its plan to spin off Time Inc. and the rest of its magazines into a separate, independently operated business. In the first quarter, the publishing division generated an operating loss of $9 million on $736 million in revenue. It’s simply not producing the numbers necessary to remain part of Time Warner. Investors obviously feel a spinoff would be a case of addition by subtraction.
The publishing division’s CEO, Laura Lang, is stepping down once a successor is chosen. Lang is a veteran of the digital ad business; the new CEO needs to be a finance guy who can turn the magazines around. The Wall Street Journal speculates it could be Michael Klingensmith, the former CFO of Time Inc. and current CEO of the Minneapolis Star Tribune, which he helped turnaround over the past three years.
Once the publishing division is no longer a distraction, it can expand into China using its partnership with China Media Capital — an investment fund focused on the media and entertainment sector in that country — as its entree.
The rest of Time Warner’s business is very healthy indeed.
Now, for the sells …
Sony (SNE) shares have gained roughly 16% since May 14, when activist investor Daniel Loeb first approached CEO Kazuo Hirai about spinning off its profitable movie and music division so that it could focus on its electronics business. That’s just part of a year-to-date run that has helped SNE nearly double — a move also fueled by a depreciation in the yen.
Loeb believes a spinoff could add another 38% to the value of Sony’s stock. Loeb himself is prepared to invest an additional $2 billion in a warrant deal that would see existing shareholders buy 15% to 20% of Sony Entertainment, allowing the company to move some debt off its balance sheet. Unfortunately, Hirai believes that Sony is both hardware (smartphones, PlayStation and cameras) and content, and both must remain under one roof. Therefore, we have a stalemate at the moment.
Can Loeb win? With 6.6% of the shares and its largest shareholder, the board has an obligation to listen, but beyond that, I don’t believe it has to placate Mr. Loeb. If he doesn’t like the strategic plan Hirai has outlined for the company, Loeb can sell his shares at a tremendous profit.
In this situation, it’s really hard to know whether Sony is better off with the entertainment division or without it. Its most recent fiscal year shows some signs of improvement (best operating profit since fiscal 2007), but its electronics businesses still are having a difficult time growing profitably.
At this point, if Sony doesn’t go ahead with a spinoff and earnings don’t improve, I see few catalysts to keep its stock moving higher.
Viacom (VIAB) always has struck me as the cheap cousin to CBS (CBS). So it’s not surprising that the Delaware Supreme Court ruled Tuesday that Viacom must pay $299 million in earn-outs it owes the former owners of Harmonix, the creators of Rock Band and Guitar Hero. It isn’t a new revelation, but something that’s been in the courts since 2009.
What’s funny is, while Viacom is loathe to pay out its legal obligations, it apparently is glad to overpay its CEO, Philippe Dauman.
Viacom’s stock is up 40% year-to-date through July 16. During the past five years, VIAB has achieved an annualized return of 21%. Investors love its stock; Sanford C. Bernstein analyst Todd Juenger, not so much. In a recent report, Juenger explained that his firm upgraded Viacom from “underperform” to “market-perform” and raised its price target to $73 — not so much because it was doing well, but rather to reflect the fact that the market refuses to see the negatives surround VIAB.
Long-term, Juenger sees its Nickelodeon and MTV franchises disappearing. He goes on to suggest that Viacom’s profits haven’t grown since 2011, yet its stock has increased by 79% thanks to buybacks and the expansion of its valuation multiple. In other words, its stock is up because of smoke and mirrors.
While Juenger doesn’t see the bad news being reflected until well into fiscal 2014, I see it happening much sooner.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.
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