I was skeptical when AMC Networks (AMCX) first appeared as a publicly traded entity. I didn’t think a group of cable networks would generate enough revenue in an increasingly competitive landscape to be a worthwhile investment. But after seeing how things have spun out over the past few years, I see a definitively robust business model and a stock worth considering.
AMC holds several cable networks in its portfolio, including AMC, WE TV, IFC and Sundance Channel. Revenue is generated in two very simple ways: affiliate fees (62% of total revenues) and advertising fees (38%). The former is generated when distributors like DirecTV (DTV) or Comcast (CMCSA) agree to carry AMC’s networks, which these distributors do because their customers demand the channels.
The more popular the programming of those networks, the higher the fees generally are. Sometimes, AMC makes upfront payments to distributors in exchange for increasing the subscriber base, or it may accept lower subscriber fees if thresholds of additional subscribers are provided. Other expenses may include helping to fund marketing of the networks, or provide promotional periods without subscriber fees. AMC obviously believes the return on those investments are worth the expenses incurred.
With advertising, fees are negotiated on a short-term basis. Essentially, the more viewers tune in to a given program, the higher the advertising rates will be. So Breaking Bad, Mad Men and The Walking Dead are going to pull in a lot more in advertising fees than other shows.
The key to AMC’s success now and in the future will depend on only one thing — quality of programming. What I’ve seen so far from AMC is a commitment to set its brand apart from all other networks. The shows AMC produces, whether it be a one-season run of Rubicon or the multi-season gem Breaking Bad, is that the creative executives at AMC understand great drama. They understand the value of taking the audience into a world they’ve never seen before — a key component of successful programming. They hire truly great storytellers, and these people rise to the occasion by providing great material and producing it with aplomb.
I was worried that external influences on the executives would force them into making bad decisions. Instead, it’s apparent that they are going for really interesting stories and worlds. We need more people like them and I disagree with my colleague Adam Benjamin that they are running out of content — there’s plenty in development.
The result is that revenues have increased from $754 million in 2007 to $1.35 billion in FY12. Net income for FY12 was $136 million, after a loss back in 2007. The one thing I don’t like about the company is that, as a result of its spinoff from Cablevision (CVC), it was saddled with a lot of debt, which now stands at $2.1 billion, and it has cost the company almost half of its operating earnings to pay the interest on that debt.
Now, the company does have $450 million in cash, and managed to generate $550 million in free cash flow in FY12. However, because AMC is pretty much in the business of producing its own programming, a lot of the FCF goes straight back into producing more shows — it’s an expensive prospect. So we can hiss at Cablevision for offloading that debt onto poor AMC, but we’re stuck with it for the time being. It’s not crippling the company … it’s just hampering overall profit.
Analysts see long-term growth of 17%. On FY13 earnings of $3.28, that give us fair value of about $54 — the stock trades about $71 now. It’s a bit pricey, but on FY14 earnings of $3.89, we get a PEG ratio of $66. So, in essence, you’re paying for next year’s earnings if you buy now. That might not sound too enticing, but I can think of a lot more expensive growth stocks.
I like the track record of creative work from AMC, and I would consider it for your growth portfolio.
As of this writing, Lawrence Meyers did not hold a position in any of the aforementioned securities. He is president of PDL Broker, Inc., which brokers financing, strategic investments and distressed asset purchases between private equity firms and businesses. He also has written two books and blogs about public policy, journalistic integrity, popular culture, and world affairs. Contact him at firstname.lastname@example.org and follow his tweets @ichabodscranium.