Five Fundamental Media Trends - Barclays Capital

by: TMT Analyst

Barclays Capital media analyst Anthony J. DiClemente has an interesting note out on five trends to watch for in Media. The analyst noted that year-to-date that the Entertainment stocks that he tracks - Disney (NYSE:DIS), Viacom (NYSE:VIA), Time Warner (NYSE:TWX), CBS, Discovery (NASDAQ:DISCK), Scripps Networks Interactive (NYSE:SNI) are down 27% and have underperformed the S&P in 2009.

He stated that Entertainment's largest company, Disney, is down 26.8% YTD, having underperformed the SPX by 650 bps. Longer-term structural concerns on 1) the broadcast TV business model; and 2) DVD sales declines have been well-documented by now, if not fully acknowledged by media management teams, according to him. He believes that a media investor’s challenge is what to do when macroeconomic concerns abate, at which time some investors may choose to buy the stocks for a cyclical advertising upturn, perhaps with the knowledge that secular issues are unlikely to be resolved for quite some time.

He then goes on to highlight five fundamental trends to watch for in the Entertainment sector, all of which reinforce his cautious view of the sector.

  1. Advertising deterioration continues unabated. Local advertising media, particularly TV stations, continued to show accelerating declines in the 4Q08. All of U.S. advertising will likely show sequential deterioration in 1H09. The May 2009 Broadcast TV upfronts could be the next catalyst for U.S. TV advertising. NWSA, CBS, and DIS are exposed to worsening broadcast TV trends.
  2. Declines in DVD sales accelerating. Cyclical impact and secular trends towards digital continue to disrupt DVD sales. Filmed entertainment operating income declined precipitously for DIS and NWSA in 4Q08. DIS, TWX, NWSA, and (VIA.B) are vulnerable here.
  3. Cost-cutting has not happened quickly enough to preserve margins. Operating margin compression has accelerated dramatically, as cost cuts have not nearly offset revenue declines. This is especially true for CBS, DIS, TWX, and NWSA.
  4. Not only are FCF declines accelerating, but investors aren't getting a return of capital. Operating income declines are dropping quickly to the FCF bottom line. Buybacks are scarce, as are regular dividends. FCF declines are most notable for DIS, NWSA, and CBS.
  5. EPS estimates remain stubbornly high. Absent multiple expansion, P/E valuation investing continues to prove a "value trap" given continual reductions for Street EPS, not only for 2009E but also for 2010E. Our Entertainment models are currently below consensus on EPS estimates for all of Entertainment, save VIA.B's 2009E estimate. We believe Street estimates must continue to come down, particularly for DIS.

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