Comcast Corporation (NASDAQ:CMCSA), is the biggest cable provider in the US and also one of the biggest media and broadcasting companies. The company has a virtual monopoly in providing Internet and cable TV in many US regions which has allowed it to increase margins in a commodity industry. The cable industry has become highly profitable due to lax regulation and an advantage over telecom carriers in providing broadband. This has allowed the cable companies to grow revenues and profits at an abnormal pace. The stock market has recognized the greater earnings power of Comcast, with the stock price increasing by ~41% in the last one year. This is a truly spectacular performance for a company which is essentially a utility in a mature market. However, I think that the stock poses a number of unappreciated risks and investors should look for other opportunities now.
Comcast Downside Risks
1) Increasing Competition from Technology Companies - Technology companies like Intel (NASDAQ:INTC), Google (NASDAQ:GOOG), Apple (NASDAQ:AAPL) and Microsoft (NASDAQ:MSFT) are making aggressive moves into the domain of broadcasters and cable companies. These companies are looking at newer markets to escape the strong competition in their traditional markets. The cable and broadcasting industries are stable and offer a big TAM. All the above mentioned companies have or are planning TV products and services. They want to change the way TV content is consumed by offering radical new services and products. Apple is rumored to be coming out with an ultra HD TV product by next year, while Intel is already discussing content deals for its new TV service. Google has been trying to bypass the cable and telecom companies by building its own gigabyte optic fibre network. I expect the competition to increase for CMCSA from the technology giants in the coming days. While the risk in the short-term is not high, the long-term dangers cannot be underestimated.
2) Valuation is expensive - Comcast trades with a P/S of 1.8x and P/B of 2.2x which seems expensive for a utility provider. The company's trailing P/E of 18.1x and P/CF of 7.6x also seems to be on the higher side. The reason for this expensive valuation is the fast growth seen by the company over the last 5 years.
3) Consumers paying too much for Cable TV and Internet - US consumers are getting ripped by cable TV and internet providers who are charging them too much money for providing a basic utility service. The nature of cable TV and Internet broadband allows such price gouging unless the government and regulators takes strict action. The capital intensive nature of the business creates "natural monopolies". There are one or at the most two cable TV and Internet providers in one area. This allows the companies to charge high fees which the consumers are forced to pay (because of the necessity of the service). Big cable companies like Time Warner Cable (TWC) have been lobbying regulators to stop the competition from increasing. I don't think that this situation will persist for long and a consumer backlash against cable TV providers will force the politicians to bring stricter regulations. This will be something similar to what happened to the financial industry post 2008.
4) Cable service companies are hated by consumers - The monopoly character of the cable TV industry has allowed Comcast to treat customers with disdain. Poor service and high charges make for a lethal cocktail. Therefore it is no surprise that TWC and CMCSA ranked amongst the ten most hated American companies according to the American Customer Satisfaction Index.
5) Trend of cutting the cable TV connection - The US economy has been stuck in a low growth mode and income inequality has been rising in the country. Many citizens are finding it hard to pay the increasing costs of cable TV service. Internet technology advancements have now allowed customers to watch their favorite shows through the Internet. Netflix (NASDAQ:NFLX) has changed the game radically providing a stellar TV on demand service at a very cheap monthly price. Many people are cutting off their cable connection to reduce expenses. While the cable companies have not been hit hard as they also provide broadband, this will have a major impact going forward. CMCSA lost a large number of pay TV subscriptions during 4Q12.
6) NBC Universal buy may not be beneficial - Comcast bought General Electric's (NYSE:GE) 49% stake in NBC Universal for a massive $16.7 billion. The acquisition was completed almost one and a half years ahead of what was planned earlier. The equity stake acquisition will deplete Comcast's existing cash hoard and will lead to some debt. The deal will give CMCSA complete control over NBC broadcast stations, cable channels like Bravo, CNBC and Golf Channel, the Universal movie studio as well as theme parks among other assets. This deal does not seem to be too beneficial to me, given that Comcast had to make significant concessions to the regulator regarding content distribution to competitors.
7) Stock Performance - Comcast has outperformed almost all major competitors over the last year in terms of price performance. The stock has returned ~45%, easily beating other broadcasting and media companies. Disney (NYSE:DIS) has shown a 35% return, Time Warner Cable has given a 23% return while Verizon (NYSE:VZ) has shown a ~28% return.
Stellar Financials - Comcast has managed to virtually double its revenues over the last 5 years and has significantly improved its Return on Equity over the same time period. The operating and net margin has remained consistently high at ~20% and ~10% respectively. CMCSA was unaffected by the Lehman crisis which took a big toll on the industrial and financial companies.
Vertically Integrated - Comcast is a vertically integrated media and broadcasting Goliath, being present in all parts of the media and entertainment supply chain. The acquisition of NBC Universal gives it complete control over an extensive content library, which it can leverage using its distribution strength. The company is also an entertainment heavyweight with a strong presence in the theme parks segment. I don't like Netflix because the company does not have a big presence in content or in distribution. Comcast on the other hand is strong on both ends of the supply chain.
I feel that the easy money has been made in the cable TV sector and it might be a good time to get out. CMCSA stock has more than doubled over the past two years and is touching all time highs. The current stock price is discounting in high growth over the next 5 years, which I think is risky. The monopoly nature of the industry has allowed the cable companies to reap huge gains at the expense of its customers. However the good times may not continue for long, as customers hate these companies and are actively looking for alternatives. Technology companies such as Google, Intel and others are entering this industry. CMCSA has performed well and has taken full advantage of the favorable sector dynamics to double its revenues in the last 5 years. However, I feel that the valuation is a bit too expensive and the risks to the company are not being appreciated by the market. I would take my CMCSA profits to look for other undervalued opportunities.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.