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May 23, 2006

Central European Media Enterprises: Shares Under Pressure

Central European Media Enterprises (CETV) shares fell 6% on Monday to close at $58.50. The stock got as low as $55.30, down more than 11%, before recovering. I was nibbling in the morning so I could add to positions in a few new client accounts where I was averaging down. You can take my willingness to buy into such a big down day as a signal that at the corporate level I see nothing that has changed for CETV.

CETV shares closed over $70 on May 10th but have since fallen 18% to Monday's close. I have gotten a number of inquiries about the cause of the decline and I think the answer is entirely tied to the weakness in emerging market stock indices. Central Europe and Russia Fund (CEE), a decent proxy for CETV's geography, has fallen 26% since May 10th. The Prague Stock Exchange in the Czech Republic, where CETV operates its largest station has fallen over 12% since May 10th.

Based on my spreadsheet, which is built off the guidance the company provided on its most recent conference call, CETV shares are trading at under 10 times my expectations for 2007 EBITDA (assuming money losing Croatia is worth $0) and less than 20 times my earnings estimate for 2007. I think this a great bargain given my belief that CETV can sustain at 15% growth rate in its revenue, operating cash flow, and free cash flow over the next several years....

One interpretation of the meltdown in emerging markets is that it is a prelude to sharply slowing GDP growth rates in these countries. I can’t really say if that is the case but in Central and Eastern Europe I am betting against a big slowdown. While energy and industrial commodities have played a role in the GDP growth of many countries in the region, the region's growth has also benefited from good tax and fiscal policy, low cost labor and infrastructure, and capital inflows from high cost Western European companies desperate to compete in the global marketplace. Additionally, so far at least, despite the sharp declines in the region's stock markets, the currencies have held firm.

I think advertising dollars will continue to flow into Central and Eastern European TV markets barring anything short of outright recessions. There are too just many emerging consumers, many in advertiser friendly younger demographics, to ignore.

I accept the sell-off, which I think has been exacerbated by some investors that have used CETV as an emerging market proxy. Maybe growth will slow and multiple contraction is warranted. I remain confident in my $80 plus target on 2007 estimates and I see no reason to lower 2007 estimates based on the sell-off in emerging market stocks. Maybe that will prove to be a naïve position, but it is a risk I am willing to take given CETV's growth potential. Additionally, I see CETV as less risky than a typical emerging market stock because the company reports using US GAAP and is incorporated in the US with executive offices in London.

Posted by Steve Birenberg at May 23, 2006 03:07 PM in CETV