Shares of Comcast (CMCSA) have rallied by 29% this year, but they are far from expensive. While they trade at a current P/E of 20x, Comcast has major non-cash items like depreciation that total $3 per share, which is why I prefer to look at cash flows to determine fair value for cable operators and other capital-intensive businesses. When you look at operating cash flow and free cash flow, Comcast remains a compelling value with the capacity to return more capital to shareholders through dividends and buybacks.
Last year, Comcast generated $14.854 billion in operating cash flow and spent $6.637 billion on capital expenditures, leaving the company with $8.2 billion in excess cash, which it used to pay $1.6 billion in dividends, buy back $2.8 billion in stock, and purchase the 49% of NBC Universal that it did not already own.
In 2013, Comcast has been growing operating cash flows while maintaining capital discipline. Operating cash flows are poised to rise by about 6% to $15.75 billion while capital expenditures will total about $6.8-$7.0 billion, leaving the company with excess cash of $8.75 billion, giving the company tremendous resources to return capital to shareholders and pay down its $44 billion in debt partially due to the acquisition of NBC Universal to a more normalized $30 billion within 3 years.
Importantly, I believe Comcast is poised to continue to grow in 2014 and beyond because it has proven itself to have an extremely resilient core business. Competitors like Cablevision (CVC) have seen net losses in customers as some cut the cord and others have switched to Verizon FiOS (VZ) and AT&T U-Verse (T). While Comcast has seen declines in its video customer base, overall customers has been consistently rising thanks to outsized gains for its internet service. Customer net-adds accelerated by over 14% in the last quarter to 337,000. Moreover, the company continues to have significant pricing power with video revenues rising 2.9% despite a slightly smaller customer base while high-speed internet revenue was up an impressive 7.9%. Comcast's foray into business services has also proven to be a successful one as its $836 million in quarterly revenue represented a 26.4% increase. This should prove to be a nice source of incremental revenue. Further, new users are extremely profitable as the cost of operating the Comcast network is somewhat fixed. These gains have helped boosted OCF margins to 40.5% from 40.1% a year earlier.
In 2014, I expect Comcast to continue to grow cable revenue as its video base flattens while business and internet show continued growth. With another average price hike of 2-3% likely, I believe Comcast's core business should grow another 5-7%, which margins continue to improve boosting cash flows 8-10%.
Moreover, we are beginning to see some improvements at NBC Universal. I believe this acquisition made tremendous strategic sense as the biggest threat to cable margins is increasing content costs. By owning a premier content provider, Comcast in a sense is hedged against rising fees as NBC can make more in retransmission from other cable operators. In addition to owning some content, Comcast is reaping rewards from improvements at the unit. Its flagship channel, NBC, does continue to have some ratings challenge, particularly with scripted comedies and the Today Show. However, Sunday Night Football and The Voice continue to be ratings behemoths while new show The Blacklist has been a success. It will be some time before NBC can be a consistent ratings leader every night, but the network is far stronger than it was two years, which should continue to drive incremental growth.
Performance at the film studio has also been extremely impressive. After mega-flop Battleship, Universal has refocused on cost discipline, producing an impressive string of low-cost hits like Pitch Perfect, Mama, Identity Thief, and The Purge. Universal has also struck a very profitable distribution deal with Illumination for animated films like Despicable Me 2 while developing in-house franchises like Fast and Furious. The studio looks poised to deliver another strong two years in 2014 and 2015 with franchise fare, like Jurassic World, Ted 2, Minions, and Fast & Furious 7 in the pipeline along with low-cost comedies and horror films that don't break box office records but do turn profits. Universal has also signed a deal with Legendary Pictures to co-finance some releases, which allows the studio to shed some financial risk on its blockbusters while reducing working capital needs. With major improvements underway at Universal and moderate progress at NBC, this unit should also help to boost CMCSA results in coming years.
In 2014, Comcast should be able to grow total revenues by at least 7% to $69 billion while generating operating cash flow of $17-$18 billion and $10-$11 billion in free cash flow. I would expect another dividend hike of 20%, another $4-$5 billion in shares repurchased, and some deleveraging. With continued operational success, strong margins, a sticky overall customer base, and improvements at its content division, I would be willing to pay 14-15x forward free cash flow, which would suggest another 20% in potential upside. At $48, Comcast continues to make sense.