Comcast: Sell Off on Cap Ex Hike Overrated

Feb. 4.07 | About: Comcast Corporation (CMCSA)

Analyst Todd Mitchell sent a notes to clients Friday's on Comcast's (NASDAQ:CMCSA) 4Q06 results, reiterating his buy rating. Excerpts follow:

  • Comcast pulled back on higher capital expenditures guidance. Comcast reported stronger-than-expected 4Q06 results and called for even stronger momentum in 2007. However, shares pulled back on a $1 billion-plus increase in expected capital expenditures, which is now expected to result in flat FCF in 2007. CMCSA had a nice run and we see the rationale for taking profits, but shares are not expensive, and we think Thursday's sell-off is an over reaction.
  • Results in 4Q06 showed evidence of accelerating fundamentals. On a pro forma basis, 4Q06 revenue was up 14% to $6.89 billion and EBITDA rose 17% to $2.75 billion. Results were driven by a 77% increase in RGU net adds to 1.6 million from 920,000 a year ago. For the full year, revenue grew 12% to $26.3 billion, EBITDA grew 15% to $10.5 billion, and RGU net adds rose 69% to 5 million. In the past two quarters Comcast's core revenue growth rate has accelerated 200-300 basis points as a result of the rollout of voice and shift to a bundled sales model.
  • Accelerated momentum resulted in positive comps for every product category. Comcast added 110,000 basic subs in 4Q06, up from 28,000 a year ago, for a total of 78,000 for the year. DTV net adds were 613,000, up from 365,000 a year ago. DTV penetration is now over 50% and 1.5 million subs take DVR/HDTV. Comcast added 488,000 HSD, versus 436.000 a year ago, and CDV gross adds were 508,000, for a total of 1.5 million in 2006. Total RGU net adds in 4Q06 were 1.6 million, up 77% from 920,000 a year ago. Strong RGU growth drove a 12% increase in ARPU to $93.34.
  • Comcast's RGU growth will be faster in 2007 than 2006. Cable revenue should grow at least 12%, cable EBITDA at least 14%, and 30% growth in RGU net adds to about 6.5 million. Capital expenditures are expected to be $5.7 billion for 2007, about $1.1 billion higher than 2006, which should result in FCF of about $3.0 billion, flat with 2006. Of this incremental $1.1 billion in capital expenditures, about two-thirds is one-time in nature; $500 million for upgrades for acquired systems, $250 million for the small-mid business market, and $150 million for switched digital video.
  • We believe Comcast is managing CDV rollout for a maximum ROI. Some say target of 2.1 million CDV net adds in 2006 is light, but this fails to take in to account that the shift to a bundled offering is usually part of a full upgrade for subs to basic or advanced DTV, which entails deploying a new set-top box, or extra capital expenditure. We also believe Comcast is literally capacity constrained, due to a shortage of installers across the country. We think Comcast is managing the business to a steady state of 500,000 net adds per quarter reflecting a sweet spot that maximizes growth and ROIC.
  • We reiterate our BUY rating and $49 target for CMCSA. Despite a reduced outlook for FCF we believe that shares of CMCSA are still attractively valued. Comcast's fundamentals have accelerated over the past two quarters and are on track for four to six quarters of continued accelerated growth. We think Comcast's strong improving fundamentals and high liquidity make it an attractive defensive play for next year. We value CMCSA at $49 based upon 18.8x 2010 unlevered free cash flow [UFCF] discounted to present at 9.3%. We also consider EBITDA, P/E and FCF multiples, as well as per sub and per RGU values. We view shares of CMCSA as modestly risky.