Intro and Background
CTC Media (NASDAQ:CTCM) is a Russian media company, that has understandably been beaten down due to the ongoing crisis in Ukraine. CTC is headquartered in Moscow and is the largest 'independent' broadcasting company in Russia. They own and operate 3 television stations in Russia (CTC, Domashny, Peretz) as well as one in Kazakhstan (Channel 31). For additional background, visit their "About Us".
Because of the company's growth and cost cutting measures making a significant difference, CTCM enjoyed a run-up of over 71% in 2013. However, due to the events in Ukraine as well as slowing growth causing a rash of downgrades, the stock has slid roughly 36% year to date. I believe the immediate risks to CTCM are overblown and now is a perfect time to invest in a textbook contrarian play.
Risks and Concerns
I believe it is important to first evaluate the risks involved in an investment - without assessing risk, you cannot determine whether an investment is correct for you.
A) Further Sanctions - The most obvious risk to CTC Media is further sanctions that target the company and potentially affect operations. There are currently sanctions on several minority shareholders, none of which has an impact on the ongoing business operations of the company.
It is possible that CTC could be directly sanctioned, but I believe it to be unlikely. They are an independent company unlike the other major broadcasting Russian companies who are primarily state-owned. However, they do have shareholders who are tied to Bank Rossiya and the government who may be subject to further sanctions but again, I believe the risk to the company and it's operations is far less.
In my valuation below, I will make mention of the effect of a freezing of the company's dollar denominated assets on the value of the company.
B) State-Run Competition - Another risk the company faces is a loss of market share due to the competition from the larger, state-run broadcasters. They make notice of this is their most 10-K…
"our primary competitors have been the major networks and channels owned in whole or in part by the state. . .With large direct and indirect government subsidies and other preferential benefits, the state broadcasters have been able to air recent "blockbuster" movies and hit series, bidding up the price on high-quality programming,"
C) Business Impact from the switch from Analog to Digital Transmission - Russia is in the process of moving broadcasters from analog to digital broadcasting. This will occur in three stages. In the first 'multiplex', the channels included were from state-run broadcasters. In the second multiplex, CTCM's two channels, CTC and Domashny were included. The details of the third multiplex have yet to be announced. The fate of CTC's final Russian station Peretz has yet to be determined.
If Peretz is included in the third wave, it's penetration rate will drop from the high 80's to roughly 65%. If it is not included, CTC will have to find ways to transmit the channel through other ways. The company says they have prepared a plan for this and would use cable and satellite networks, as well as the internet to distribute it. However, it is unknown what level of technical penetration this could result in.
Obviously, CTC Media is in a less than ideal situation with regard to the competitive and regulatory environment it operates in. It is my belief that forecasting should be kept to an absolute minimum during valuation, and it is especially true for this situation. Whether the environment will improve or deteriorate further for CTC is impossible to say.
I characterize myself as a value investor and believe the ideas of Bruce Greenwald in his book Value Investing: From Graham to Buffett and Beyond provide a strong base for how to value stocks in the value fashion. I highly recommend reading it for further explanation of the valuation methods below.
Pulling data from Morningstar, the unadjusted book value per share for CTCM is $4.29 resulting in a P/B of roughly 2. Because I see CTC as being able to continue operations into the future, the book value needs to be adjusted to reflect the approximate reproduction value that a competitor would need in order to compete.
Cash and short term investments remain unchanged, and accounts receivable increases just marginally to reflect the addition of bad debt expense back in. The programming rights portion is where there is a significant difference between what is on the books and what would be needed to reproduce the level of programming comparable to CTC. On their books, internally produced programming is at roughly $12M, and Acquired Rights are at $270M. Both of these amounts have been heavily amortized. CTC originally spent $158M and $750M for these rights. I believe that a company would have to equal those totals, if not more in order to effectively compete with CTC's various programming.
Deferred tax assets are adjusted downward slightly from discounting down to present value, and PPE is also adjusted downward slightly due to the reduced value of aging broadcasting equipment.
Russian companies are required to have broadcasting licenses, of which a finite amount are available. They are purchased through auction then amortized over a ten year period down to 0. Right now, CTC has broadcasting rights of $51.3M on its books. I could not find any information about the current approximate cost of a broadcasting license so I wrote it down to 0 in an effort to be conservative rather than make up a number. However, due to the transition to digital broadcasting and the regulations around it, all channels included in the second multiplex (like CTC and Domashny) will be required to pay up to $26M annually per channel. A competitor striving to reach the same level of technical penetration for two competing channels would have to pay the same amount to compete, which is reflected in the adjusted broadcasting license values. This does not take into account the possibility of Peretz being included in the third multiplex. Depending on the terms, this has the potential to add to the value here.
Cable network connections, similar to the broadcasting licenses, are carried at $17.7M. If Peretz is included in the third multiplex, there will not be any need for this, so again in an effort to be conservative I wrote the value down to 0.
The other material change I made concerns goodwill. There is $124M on the books currently. Because of the inclusion of CTC's main channels being included in the second multiplex, I have no issue with the goodwill attributable to them. However, because Peretz is almost certain to experience a significant decline in penetration, the amount attributable must be written down. Currently, $54.9M of goodwill is Peretz's. At best, the rate drops to 65% as mentioned above so I adjusted the value further and eliminated a full half.
Further, a competitor would have to incur SG&A in order to effectively compete with CTC. I chose a very conservative number - 25% of the 5 year average SG&A expense which comes out to roughly $106M.
Finally, after subtracting spontaneous liabilities and the cash not required to run the business (2% of sales estimated), I come up with an adjusted book value of $7.52 per share for a P/B of roughly 1.18. In a worst case scenario where Peretz is completely written off, I calculate an adjusted BV of $7.24 per share for a P/B of 1.22 (based on a price of $8.85).
As mentioned above, in the case that CTC's dollar denominated assets are frozen, the reproduction values would be unaffected but the carried book value would be reduced by roughly $0.27 per share based on the values provided in the most recent 10-Q.
The earnings power value is slightly more straight forward as it is a measure of the value of current earnings which are assumed to be sustainable with zero growth at a chosen discount rate.
I began with EBIT of $214M then added back 20% of SG&A of $100M. From there, I subtracted taxes at a rate of 30% giving a value of roughly $220M. From there, you add back depreciation and subtract maintenance capex resulting in a value of $246.8M.
From there, I chose a discount rates of 12% and 15% to reflect greater perceived risk. The $246.8M is divided by those rates respectively. Cash is then added to the value and interest bearing debt is subtracted. For a discount rate of 12%, the EPV is roughly $14.45 per share, while the 15% rate results in a value of $11.82.
Based on the valuation above, I believe an appropriate price for CTCM is north of $12 per share, conservatively resulting in potential upside of over 35% strictly from price appreciation. Furthermore, I see the downside being at most the reproduction value of assets at roughly $7.50 per share, a decrease of 15%.
CTC pays a hefty dividend with a yield over 7% which helps offset any potential price declines and potentially adds to returns.
- A resolution to the crisis in Ukraine. The upcoming elections will be incredibly important. If things go well, it is possible CTC could shoot up relatively soon. If things continue to deteriorate, CTC's share price may take longer to recover.
- An expansion of revenue lines. CTC recently launched CTC Love, a free cable and satellite channel as well as their first E-Commerce venture. The success of these ventures and others to come could help diversify and boost revenue growth going forward.
- Peretz's inclusion in the third multiplex. While inclusion would still result in reduced penetration, it would be better than being left to pursuing transmission via other channels.
*All financial data is from Morningstar
**All company specific information is from company filings unless otherwise stated
Additional Disclosure: The research done and views provided in this article are my own. I am not a registered investment advisor and the information above should not be construed as advice. Please conduct your own due diligence before investing.
Disclosure: I am long CTCM. 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.