Time Warner Cable (TWC) is the second largest cable provider in the U.S. with current market share of 15% in the U.S. cable market. The free availability of online videos poses headwinds for the cable giant since consumers can access video content online for low or no cost.
Its second quarter results also reflected this downside with a decline in paid TV subscribers. However, it partially offset this loss with growth in its broadband segment. Keeping these facts in mind, let's discuss how these facets change Time Warner's revenue generation capability.
Growth in broadband services
In the U.S., broadband service recently reached 84% of households, up from 81% in 2011. Being one of the leading providers of broadband services, positions Time Warner to capitalize on this growth. Time Warner's second quarter of fiscal year 2013 reflected broadband growth with around 608,000 broadband subscribers purchasing its high speed internet services with a speed of 30 megabits per second or higher. These subscribers were almost double in numbers from the same period last year. The company provides broadband services from 1 megabit per second to 50 megabits per second. Since, Time Warner provides the widest range of broadband speed at relatively lower prices compared to its competitors; it is highly preferred by broadband subscribers.
Time Warner's preference over its competitors and its market dominance is expected to increase its broadband subscribers by 3.29% year-over-year to 11.77 million this year. To register further growth from the rising number of subscribers, on July 30, 2013 the company increased its prices for leasing a modem from $3.95 per month to $5.99 per month. This price is still lower than its competitors, Comcast (NASDAQ:CMCSA) and Cox, which charge $7 - $8 per month. With the rising number of broadband users, the company expects to increase its broadband segment's revenue 13.55% year-over-year to $6.7 billion this year.
Declining pay TV subscribers
The pay TV market is facing competition from low cost online video from providers like Netflix (NFLX) and Amazon (AMZN). This led to a 4.6% year-over-year decline in the number of subscribers to 11,911 in Time Warner's second quarter of 2013. To compete with online video providers, Time Warner planned to provide online video service to its subscribers by purchasing a stake in online video provider website, Hulu. This attempt was unsuccessful because the owners of Hulu refused the selling of the stake on July 25 since the bids didn't meet their expectations.
However, Comcast aggressively addressed the pressure from online video providers. To reduce the loss from reduction in subscribers, Comcast started providing additional services like X1 in its cable services. X1 is a cloud based platform provided by Comcast, which integrates Comcast's cable TV video content with social media features, interactive apps, and web content. It initially launched X1 in more than 12 markets of the U.S. As a result of these measures, only 159,000 subscribers declined in the second quarter compared to a 176,000 subscriber decline in the second quarter of 2012. These attractive features are expected to attract new subscribers. It has scheduled the launch of X1 in the remaining U.S. markets by the end of this year. Pay TV's growth aspects are expected to increase Comcast's cable TV revenue 4.5% year-over-year to 21.06 billion this year.
Besides pressure from online videos, Time Warner lost additional pay TV subscribers when it recently stopped transmitting CBS Corporation's (NYSE:CBS) channels after CBS asked for a hike in retransmission fees. Channel owners charge these fees to cable providers for accessing their signals. Time Warner currently pays $0.75 - $1 per subscriber to CBS and the channel is seeking $2 per subscriber. CBS' video content is quite popular and this halt in transmission affected more than 3 million Time Warner subscribers viewing CBS in the U.S.
Along with Time Warner, the halt will also affect CBS. If the halt in transmission persists for a few more months, CBS is expected to lose its viewers in the U.S. CBS generated revenue of about $250 million last year from retransmission fees. It is expected to lose $400,000 each day due to lack of transmission. I feel these headwinds will cause a short-term loss for CBS, but in the long-term, its strategy to increase retransmission fees is expected to positively affect its stock price. With increase in retransmission fees, CBS is expected to increase this revenue source at a compounded annual growth rate of 31.95%, to $1 billion, over next four years.
The decreasing number of subscribers due to pressure from online video providers and stopping transmission of CBS are headwinds for Time Warner, which are expected to decrease its residential videos segment's revenue 2.5% year-over-year to $10.64 billion in fiscal year 2013.
Although Time Warner's stock price surged in the last six months due to the increase in broadband subscribers, this growth is likely to be off-set by the decline in its pay TV's revenue. Broadband and pay TV subscribers are expected to keep the stock price volatile for a longer time. So, I recommend a hold for this stock, until Time Warner makes any substantial moves.
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.