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Summary

  • WWE's bloated share price was based on a lot of big ifs.
  • It turns out that those "ifs" will not be happening anytime soon.
  • Even after the crash, it's hard to call the shares cheap.

It's been a while since I wrote my last article about World Wrestling Entertainment (NYSE:WWE). Last August, I wrote an article talking about why I wouldn't recommend buying WWE, after which the share price rose to the sky. Some of my readers kept pointing out to me that I was proven wrong and I should just admit it and move on. Month after month, WWE continued to rally, making new highs and it seemed like the stock would just keep going up forever.

The hope was based on two expectations. First, WWE was going to get its own network where people would subscribe and watch current and old WWE shows. This would be similar to the business model of Netflix with the exception that WWE would own all of its library whereas Netflix owns a very tiny part of its library. Looking at ratings, marketing surveys and other indicators, many people predicted that WWE would get 1 to 3 million subscribers for its online service. According to calculations, the company would be breaking even at 1 million subscribers (partly because this new business would eat the existing profits from pay-per-view and dvd sales).

The second expectation was around WWE's new TV deal. Unlike most sports shows that typically address a certain demographic group (white males over the age of 30), WWE enjoys a wide audience both in terms of number and diversity of watchers. The company's live shows attract males and females from all ethnicities and age groups, so a lot of people thought this would turn into an advantage for the company at a time many sports shows like Nascar, NBA and NHL were seeing their contract sizes go up significantly during negotiations for renewals.

In short, two big ifs were already baked in WWE's share price and the stock continued to rally even though the company failed to post any meaningful or strong financial results in the last few quarters. Then came the first disappointment. It turns out that WWE's network only attracted about 660,000 subscribers, well short of the estimates ranging from 1 million to 3 million. Of course it has been only 45 days between the launch of the network and the announcement, so there are probably more subscribers right now as we speak, but still, the initial numbers were far from impressive.

The second disappointment came last Friday as WWE announced a new TV deal. It turns out that the company's diverse demographics were not seen as a desirable asset by TV networks. After all, TV networks continue to value viewers that are more likely to be wealthy (in other words white, male and older than 30) because they have more money to spend on things and advertisers love them. It turns out that you can't run expensive advertisements to an audience, many of whom can't afford the products (this is not necessarily my opinion, but the opinion of the TV networks since they are the ones who make deals).

Even though WWE passes Nascar and competes with NBA in ratings, the company's TV shows will not be able to compete with either shows in terms of the advertisement quality and quantity.

Having said that, let's look at where WWE stands right now. Prior to the recent crash, WWE was selling for as high as 4.6 times its annual revenues, which is far above the historical averages for the company. In fact, unless a company has very high margins, there is no reason it should trade for that many times its annual earnings and WWE typically has razor-thin margins. Then again, we know that the share price was mostly based on future expectations rather than the current performance.

WWE PS Ratio (<a href=

Since WWE hasn't been consistently profitable, it doesn't have a meaningful P/E. This is why it makes more sense to look at the company's cash flow metrics. Below, we are looking at WWE's price in relation to how much cash it generates from operations. Typically, mature companies trade for about 8-12 times their CFO and at one point during the last couple months, WWE's figure was as high as 100. Currently its roughly 42 and still much higher than the historical standards.

Since WWE hasn't been consistently profitable, it doesn't have a meaningful P/E. This is why it makes more sense to look at the company's cash flow metrics. Below, we are looking at WWE's price in relation to how much cash it generates from operations. Typically, mature companies trade for about 8-12 times their CFO and at one point during the last couple months, WWE's figure was as high as 100. Currently its roughly 42 and still much higher than the historical standards.

WWE Price to CFO Per Share Chart

Keep in mind that WWE's business model doesn't call for huge profits. The company always had thin margins and always will. The charts below show the company's operating margin and net profit margin trends for the last decade and the picture does not look pretty at all. The problem is that WWE does not mass produce an item where it can fix its operations and become more profitable like a car company or a phone company. The company's biggest asset is its superstars and if WWE becomes more profitable, the superstars ask for more money, which eats into profits. In fact, most superstars get a share from the merchandise sales.

WWE Operating Margin Chart

Moving Forward

Even with the help of a new TV deal and the WWE network, I expect the company to be marginally profitable. The network will need close to 2 million subscribers to be profitable, and at this rate, it is difficult to achieve this unless the network gets rolled out in Europe and elsewhere. Given WWE's history of profitability, the future doesn't look that bright for the company. In order for WWE to achieve improved profitability, the company would have to improve at least one of these two things: 1) increase its revenues significantly without increasing its costs at the same rate, 2) cut the costs without cutting the revenues at the same rate.

Can WWE grow its revenues significantly without growing its costs in a similar fashion? Since WWE is a niche product, it has to grow its audience in order to grow its revenues. In the last 10-15 years, the fans of WWE products haven't changed much and the company failed to attract older people who have more money to spend. Last year, WWE's flagship program Monday Night Raw's average rating was 3.00. This figure is pretty comparable with 2012's average of 3.00 and represents a decline from 2011's average of 3.20. Between 2008 and 2010, Monday Night Raw's average rating was 3.41. If the last 6 years tells us anything, WWE is a niche product that keeps losing viewership and ratings are staying flat in best-case scenario and falling sharply in worse cases. There is no evidence to tell us that WWE is gaining audience, which means a surprise revenue growth won't come anytime soon unless the company's audience suddenly gets wealthier.

How about cutting costs? Can WWE really cut its costs? The company's costs consist of contracts of the wrestlers, traveling, arena rentals, TV production along with other things. Can WWE offer its wrestlers less money, negotiate its way to better plane tickets or arena rentals? The company's operating expenses are rising, if anything and there is no sign of this trend changing anytime soon.

WWE Total Operating Expenses (<a href=

WWE pays dividends which gives the company an attractive yield of 4% but this is not sustainable unless the earnings start growing big time. Last year, WWE made 4 cents per share while distributing 48 cents per share in dividends. Either the dividend will be cancelled/reduced big time or the company will have to find a way to increase its profits by more than 10 fold.

WWE pays dividends which gives the company an attractive yield of 4% but this is not sustainable unless the earnings start growing big time. Last year, WWE made 4 cents per share while distributing 48 cents per share in dividends. Either the dividend will be cancelled/reduced big time or the company will have to find a way to increase its profits by more than 10 fold.

WWE Dividends Paid Chart

Even though shares are a lot cheaper than they were a couple months ago, I still wouldn't call them "cheap" at the moment.

Source: WWE Gets A Reality Check, Still Not Cheap