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March 02, 2006

Central European Media Enterprises: Great Quarter and Increased Confidence in Growth Outlook

Central European Media Enterprises (CETV) reported better than expected operating results for 4Q05. Segment revenue of $173 million slightly exceeded management guidance of $171 million. Analyst estimates were generally in line with guidance. EBITDA of $70 million easily exceeded guidance of $58 million. Analyst estimates for EBITDA were slightly above guidance but still under $60 million. The quarter and extremely positive tone on the conference call reinforce my belief that the shares are headed into the $70s. I am more confident in the CETV story now than I was prior to the earnings release and conference call. I am considering adding to CETV positions, particularly if any pullback toward the $60 level occurs.

For detailed analysis of the earnings and conference call, please follow the "Continue Reading" link below...

4Q05 Earnings and Conference Call

On the revenue line the original four stations in Romania, Slovenia, Slovakia, and Ukraine exceeded analyst estimates. In Romania and Ukraine, total TV ad market growth remains remarkably strong at 25-35% year-over-year. Analysts and management continue to be cautious with the forecast to be prudent but a slowdown does not appear to be coming anytime soon. In fact, management concluded the call by affirming that growth in these markets in 2006 should remain in the 25-35% range.

Slovenia outperformed expectations for revenue in 4Q05 due to very successful programming that drove ratings, ad revenue, and even online revenue related to subscriptions for webcams related to reality programming. As an aside, across Central and Eastern Europe, reality programming remains incredibly popular. Slovakia did see a revenue decline in 4Q05, as expected, but the 9% drop was not as severe as the 12-15% drop analysts were expecting.

While revenue exceeded estimates in the original four countries, the Czech Republic (CR) and Croatia fell short of estimates. CR produced $65 million in revenue, about $5 million less than expected. As noted below this did not matter on the EBITDA line. Slower than expected local currency growth, a brief ratings stumble, and continued discounting of ad inventory by CETV competitors led to the shortfall. In Croatia, lots was accomplished at the start-up with significant double digit ratings gains but fall programming lunched later than expected leading to a year-over-year revenue decline.

The big positive surprise in 4Q05 was on the segment EBITDA line, which exceed guidance and analyst estimates by $10 to $12 million, or 16-20%. Based on guidance, the variance of $12 million was composed of an $11 million cost-driven surprise in the Czech Republic, $5-7 million in the original four markets, and a $3 million larger than expected at the Croatia start-up. The press release mention the opportunity the company had for significant operating leverage in the years ahead. The positive surprise in 4Q05 was an indication of the leverage.

Management did not provide full year 2006 guidance on the call as expected. I was mistaken in expecting it as the company has previously provided full year guidance on its 1Q call in early May. Nevertheless, management was extremely confident and optimistic aobut the outlook for 2006 throughout the call. My expectations for low double digit growth in revenues and expanding margins looks to be in the bag for 2006. As usual with CETV, timing issues on a country-by-country basis will create volatility in the quarterly numbers but 2006 is shaping up to be another great year for CETV.

I mentioned above that management stated that Ukraine and Romania should grow 25-35% again in 2006. Those gains would be above my prior, purposefully cautious assumptions. In the CR, management noted the full year results will be solid but that 1Q06 revneu comparisons would be negative. I am not concerned as 2Q and especially 4Q results in local currency will turn the full year around. Additionally, management repeatedly noted significant cost saving opportunities that would lead to to a year-over-year decline in costs in 2006. In fact, management noted more than once that prospects in the CR were "substantially greater" than they though when they completed the acquisition in May 2005. The potential for several years of double digit revenue and EBITDA growth off the 2005 base was confidently stated. Management comments on the other markets for 2006 were equally constructive.

I fully expect management to offer 2006 guidance at least equal to my forecast on the May conference call. I think my assumptions will ultimately prove low but I doubt management will be that aggressive with the initial guidance. Management did promise to provide a look into as well. I can’t imagine why they would do that if the news wasn't going to be good. It is possible that 2007 will offer more growth than 2006 and management wants to put that out there in case certain countries in 2006 aren’t as strong I hoped. I doubt that is the case but I am trying to remain skeptical and wary.

CETV remains a true growth stock. The markets the company serves are growing rapidly. Ongoing results indicate the executive and operating management teams are superior. Acquisition opportunities remain but are unpredictable. CETV shares trade at a well deserved premium to US media stocks but I think upside remains in the valuation and the estimates. More importantly, the long-term growth opportunity is secure. I think the shares will head into the $70s in 2006, possibly higher.

Posted by Steve Birenberg at March 2, 2006 02:44 PM in CETV