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December 08, 2006
UBS Media Conference 2006
Every year I attend the UBS Media Conference in NY to get a face-to-face update with many companies in the media industry. My goals are to find new ideas for client accounts, gain a better understanding of major industry trends, and connect with other money managers focused on the media sector. Below is a lengthy providing one paragraph summaries of all the presentations I saw during my four days in NY.
Overview and 2007 Advertising Forecasts
Sir Martin Sorrell, CEO of WPP Group noted is his keynote presentation at the 34th Annual UBS Global Media & Communications Conference that "if you compete on price, you create commodities, not brands." Usually we think of price competition on products and services purchased by end users. However, Sorrell made his comment in the context of a discussion of what is going on in the global economy for all things advertising related.
I think what Sorrell was getting at is that changes in media consumption due to digital technologies will be tricky to navigate. On the one hand, the digital technologies are opening new avenues for consumption of content supported by advertising. On the other hand, these same digital technologies could serve to depress profitability across all advertising-related industries because there is a major risk that the transition to digital/broadband delivery of content could depress pricing on the content, and in turn, the advertising.
The first day of the UBS conference was largely devoted to advertising forecasts and big picture, meta thinking about the future of the global media industries. I'd classify the news as mixed. 2007 advertising forecasts revealed by Universal McCann and Zenith Optimedia called for U.S. growth of 4.8% and 4.1%, respectively, and international growth of around 6%. International growth is boosted by continued double digit growth in many emerging markets with Central and Eastern Europe and Asia being the strongest geographies.
These growth rates overstate the outlook for traditional media as they include another year of 20% plus growth in internet advertising. Internet is contributing about 2% of the growth rate, leaving traditional media advertising growth at just 3-4%, or about inline with real GDP growth rates. Historically, advertising has been a considered a cyclical growth industry because it tracked nominal GDP growth. The loss of pricing power that Sir Martin noted in his comments reflects the new reality.
It is not pricing alone that is causing problems for traditional ad supported media. Newspapers, magazines, radio, and TV are all losing time spent using to alternative forms of entertainment including the internet. In fact, a study noted by Zenith Optimedia CEO Steve King concluded that the internet now represented 22% of our media consumption but just 7% of the total advertising pie. The cost to reach consumers on the internet is far lower than in traditional media so even if media companies can keep the lion's share of their users as the online transition continues, prices and profitability could compress.
Fortunately, this viewpoint is readily accepted by investors, analysts, and the companies themselves. Consequently, the upside is that most companies and industries are fighting back and are willing to risk new trying new distribution methods to reach consumers. Furthermore, when perception becomes reality and conventional wisdom, stock prices ought to reflect the news. In other words, whether it is the depressed stock prices of local media such as newspapers and radio or the outperforming prices of the big entertainment conglomerates and multichannel TV distributors, it is probably fair to say that the stocks reflect the tricky fundamental environment. This leaves it to investors to find opportunities where companies are meeting the challenges and thriving.
With that in mind, here are a few observations on other presentations I attended during the conference which ran from December 4th through December 7th.....
Monday, December 4th
Modern Times Group (MTG) is a Swedish company with leading free and pay TV positions in Scandinavia, Central and Eastern Europe (CEE), and Russia. There is no US listing for the shares. However, the company's commentary was very constructive for other companies operating in these regions including Central European Media Enterprises (CETV) and CTC Media (CTCM). News Corp (NWS) also has a growing presence in CEE markets.
My interest in CETV, long my favorite stock, always has me listening for commentary on CEE media markets. I believe I can state objectively that this conference represents the mainstreaming of the CEE opportunity. King of Zenith Optimedia, Sorrell of WPP, and Peter Chernin of News Corp all highlighted the CEE opportunity, often multiple times. King was unusually enthusiastic, noting that 15% 2007 advertising growth in this region was the highlight of Zenith's 2007 forecast. If my assessment is correct, it bodes very well for shares of CETV.
Additionally, MTG responded to several questions about their #2 station in the Czech Republic by noting that the would follow CETV's lead and attempt to raise TV advertising prices by 10-15% in 2007. CETV remains my #1 pick in all of media with 20% revenue growth and margin expansion driving margin expansion and a $90-100 target on the shares.
I would also recommend investors add to positions in NWS. Chernin and UBS Media analyst held a "fireside chat" that supported the bullish estimates and sentiment surrounding NWS. I've done very well with Disney (DIS) by riding the synchronized growth of the media networks, theme parks, and filmed entertainment that had led to a multiyear run of double digit EBOTDA growth. NWS is about to embark on its own multiyear run of double digit growth starting with guidance for 14-16% growth in 2007. NWS is benefiting from synchronized growth in its US and international cable networks, Sky Italia, digital and broadband efforts led by MySpace, and emerging markets exposure in CEE, India, and Asia. A massive share buyback triggered by the swap of NWS's Direct TV stake with Liberty Capital (LCAPA) would be icing on the cake.
One other company that impressed me was NII Holdings (NIHD). NIHD is not a media company. It is a leading provider of mobile phone services in Brazil, Argentina, Peru, and Mexico. This was my first exposure to the company and I was very impressed by the corporate strategy, execution, and CEO Steve Shindler. The stock looks expensive at 12-13 times EBITDA but the company has a 3 year growth record of 34% in subscribers, 34% in revenue, and 40% in EBITDA. And Shindler noted numerous times that growth is poised to accelerate in Brazil and Mexico. Additionally, free cash flow should surge as the company completes the expansion of footprint across all of Mexico in mid-2007. I have more work to do but this might be a case of you get what you pay for. Being new to this stock, I'd welcome any input form contributors or subscribers.
Tuesday, December 5th
New Media Economics Panel: This panel discussion attempted to explain the economics of ad supported content distribution on the internet focusing on video content that would be supplied by traditional suppliers like Disney, News Corp, Time Warner, and others. There were two conclusions. First, subscription based models would not likely produce enough revenue create profitable models especially considering the potential that online video might replace traditional viewing on TV. The reason for this conclusion is that a historical look at quadruple play household spending in the US shows stability indicating the consumer is not willing to allocate a larger portion of the monthly budget for subscription based video. Second, advertising supported models will work but current projections calling for a multi billion revenue stream from ads preceding "free" online TV shows would take longer to develop than currently forecast. The panel laid out a series of required advertising infrastructure such a critical mass of unique users and uniform technological standards and concluded that the infrastructure wasn't anywhere near ready. If the panel is correct the recent more positive sentiment toward the big entertainment conglomerates may be overly optimistic.
Evolution of Monetization Panel: This panel consisted of a half dozen start-ups that are trying to improve ad buying efficiency using internet tools. The presenters focused on everything form ad creation through ad placement. Much of the commentary went over my head but there was one interesting moment. UBS Internet Ben Schachter analyst asked the panelists to raise their hands if they were worried about Microsoft as a competitor. Two hands went up. Schachter then asked about Yahoo. Three hands went up. Finally, Schachter asked about Google. All six hands went up. My takeaway was that Google's strategic plan appears to be reaching the entire advertising economy from end-to-end.
Sundance Channel: Larry Aidem, President and CEO of the Sundance Channel, provided an overview of the company's strategy. Sundance is primarily a movie channel featuring independently produced and financed films. Sundance is privately held with ownership spilt among NBC, CBS, and Robert Redford. The channel appears in premium tiers of Dish and DirecTV and on digital tiers of cable operators. The present subscriber base is 25 million. Another 9 million subscribers have access to Sundance via a VOD channel. Like many cable channels, Sundance is trying to increase its originally produced content. Sundance is also looking to increase its sponsorship revenue. Presently, the channel sells no traditional commercial time. The promotion model is similar to what you see on local publlc TV channels. Sundance appears to be a valuable niche asset for NBC and CBS and either would likely want to add the channel to its stable of cable of networks. However, Redford doesn't sound like a seller. Sundance's value comes from the fact that it has 70% brand awareness (likely due to the success of the Sundance Film Fesitival) in the U.S. and its viewership is affluent. Given its status as a private company, there is no direct investment takeaway from the Sundance presentation. However, the presentation does reinforce the desire of many newer channels to be very niche oriented. Additionally, Sundance is another reminder that cable networks face increasing program costs as the growth in affiliate fees is moderating.
JC Decaux: This French company is one of the world's leading outdoor advertising companies with unusually large exposure to street furniture and transportation (buses, airports). I attended to learn more about the outdoor advertising market, which is one part of traditional advertising I know least. The presentation noted that worldwide outdoor advertising growth is around 7% and stable, far better than most other traditional media. Outdoor's competitive advantage is that people are more mobile allowing outdoor ads to reach consumers who are fragmenting time spent with other traditional media. There seems to be plenty of room to grow as outdoor represents just 5% of total worldwide advertising market and the three major players, Clear Channel, JC Decaux, and CBS, have market shares of just 12%, 10%, and 9%, respectively. JC Decaux indicated very firmly that it would bid for Clear Channel Outdoor (CCO), if the new private equity firms are sellers. This presentation was bullish for CBS and Lamar Advertising (LAMR).
Cable Networks: David Zaslav, currently in charge of NBC Universal's cable networks but on his way to become CEO of Discovery Communications discussed broad trends in the cable network industry. This was the first presentation I have seen which acknowledged this formerly double digit growth engine for entertainment companies was maturing. Industry revenues have been driven by subscriber growth, affiliate fee inflation, ratings growth, and CPM growth. Zaslav indicated that each of these revenue streams was slowing to low mid single digits. Offsetting positives are greater inventory sellout ratios and development of ancillary revenue streams such as VOD and online. International efforts are also beginning to mature. However, digital initiatives come with added costs and protecting current networks requires a greater investment in programming. Realization that cable networks are now an upper single digit growth business is a negative for Disney, Time Warner, News Corp, Viacom, and EW Scripps. However, I'd still much rather be a cable networks company than a newspaper, radio, or broadcast TV company.
Rogers Communications (RG): RG is the largest wireless company in Canada with a 37% market share. RG is also the largest cable company with a 29% share. For comparison, Verizon and Cingular each have about 25% of the US wireless market and Comcast has about 44% of US cable subscribers, but less than 30% of total multichannel TV subscribers. RG has been growing rapidly. Wireless in Canada is closely tracking the US adoption curve but got started several years later. Penetration is just 54% and is likely to growth by 5% per year for several more years. RG is unusually well positioned as it operates the only GSM network in Canada. RG's cable business is closely paralleling the strong growth in US cable with a mix heavier in high speed data but much lower in VOIP telephony. I was very impressed by this presentation, as I expected to be. I plan to buy RG on a modest pullback and may decide not to wait.
Grupo Televisa (TV): I have written favorably about TV before and deeply regret not having bought the shares despite my bullish outlook. TV dominates Mexican TV with its four channels garnering a steady low 70% share for many years. The company also supplies its TV content all over the world including as the dominant supplier to Univision. Over half of TV's revenue and EBITDA comes from TV Broadcasting, while an additional 20% comes from Sky Mexico, a satellite platform comparable to DirecTV. These core businesses should continue to drive solid double digit growth and margin expansion after a lull in 2007 when growth will be held back by the 2006 boomlet driven by the World Cup and Mexico's Presidential election. Promising new growth initiatives include 40% ownership of a new free-to-air TV channel in Spain and launch of a gambling business in Mexico encompassing bingo parlors, sports betting a second national lottery. The next time emerging markets sell-off and drag TV shares down, I plan to take a long-term position in this very high quality company. I hope that the shares won’t have moved up too much more before that happens. Take a look at a chart of the stock form last May and June to give yourself an idea of what might happen.
Disney (DIS): DIS shares hit a new 52 week high yesterday following comments by CFO Tom Staggs at the UBS and Credit Suisse conferences. While still cautioning investors that there are many headwinds for FY07 ending September, Staggs offered plenty of positive comments that increased investor confidence in the outlook for another year of double digit growth. Notable positive comments included (1) DVD sales of Cars are tracking equal to The Incredibles, (2) the ad market for ABC and ESPN is solid but not spectacular, and (3) the current quarter attendance and hotel occupancy at the domestic theme parks is holding up well against the toughest comparison of the year. Tough comps, loss of tax benefits, Pixar dilution, and other factors still present a growth challenge in 2007 for DIS, especially on the EPS line. However, on the operating income line, the outlook appears to be firming assuming the economy holds together. DIS also gets a boost from the weak dollar which helps foreign travel to the US parks. I remain long DIS and added positions in new accounts in the last two weeks.
Wednesday, December 6th
Verizon Communications: I sat it in on the VZ presentation to get an update on its FiOS deployment, the rebuild of its twisted pair copper network with fiber to the home. Despite the heavy dilution from FiOS, I think it is the correct strategy if VZ if going to hope to remain competitive with the cable industry in providing broadband and telephony to the home. While cable companies dispute VZ's statements, VZ claims it has achieved 14% penetration where it has rolled out FiOS. With a 2010 target of 6-7 million customer households, FiOS will begin to bite the cable industry in a few years. However, I think cable remains in a very strong position for 2007. Regarding VZ shares, broadband, business, and wireless are nice growth engines but investors have low confidence in VZ's forecast that FiOS dilution will peak in 1Q07. Were that to change or if additional dilution were the results of substantially greater than expected subscriber growth, VZ shares would likely be good performers again.
AT&T: T has shown great earnings growth as a result of synergies achieved in a series of mergers including Cingular/AT&T Wireless and SBC/T. The next big deal is the BellSouth merger which is stuck at the FCC. Assuming the deal closes, merger savings and additional cost cutting will drive earnings and likely lead T shares higher. However, I think T is making a big mistake by using a fiber to the node instead of fiber to the home strategy. T will have an inferior product and will not garner the massive cost savings from an all-fiber network. I think the decision to go fiber to the home will ultimately lead to the acquisition of Dish Network. Synergies won't be as high in that merger. T shares offer nice upside if the BLS deal is approved but I won’t be along for the ride because of my view that in the long-term the company will be in a weak competitive position.
Economics of Film: I sat in on a fascinating panel discussing the recent trend for movies to be financed by hedge funds. A representative from Creative Arts Agency and another firm that helps to validate the deals explained the history of film financing, how the current deals are structured, and why the financing of films is changing. Basically, the idea is to use capital markets theory so that film financing drives a more efficient production and marketing process for movies. Presumably, returns will be more stable, benefiting all parties. I suspect this won’t work in the long run because too much money will flood into film financing and investors will gradually reduce the hurdle rates for deals. Ultimately, it will produce a bubble in production much like Wall Street IPOs produce bubbles in other industries. That said, for movie studios, the new financing strategy might make their results more predictable as they trade upside for predictability and effectively become marketers and distributors while leaving equity mostly in the hands of the financiers. The exception to this would be when a studio owns its own intellectual property (Pirates of the Caribbean for Disney is a great example) or proactively decides it wants to develop the intellectual property. No immediate investment ramifications from this panel but if the new financing strategies actually improve the predictability and stability of the studio's filmed entertainment businesses, a higher multiple could be awarded to this operating income.
Time Warner (TWX): Jeffery Bewkes held a bullish fireside chat with UBS Media analyst Aryeh Bourkoff in front of a full ballroom. Bewkes is normally a good speaker but I thought he showed an unusually high level of self-confidence. I mentioned this fact to several big-time buysiders in the media world who all agreed with my assessment. I think this is actionable as it indicates TWX is going to report a strong fourth quarter and provide solid 2007 guidance. Notable among Bewkes comments were: (1) AOL's advertisng business is performing very strongly in 4Q, likely showing another quarter of 40% plus growth, (2) the recent trend of slower than expected VOIP telephony adds at Time Warner Cable is likely to reverse, and (3) there is no margin pressure in 2007 in almost all of TWX's businesses. If my feeling on 4Q06 and 2007 guidance proves accurate, I think TWX shares could trade up to $22-24 over the next few months. This is a more bullish outlook than I had previously expected and is largely the result of an unexpected highly positive vibe emanating from AOL. I totally whiffed on AOL so far, expecting the new strategy to fail.
NTL Incorporated (NTLI): NTLI announced before its presentation that it would be dropping its pursuit of ITV. Surprisingly, this did not result in a pop for the stock. I think the reason why is that in its attempts to explain to investors why the ITV was a good idea, the company endorsed the bear case that the competitive environment in the UK creates a headwind that even the Virgin rebranding and execution of merger synergies and NTL operational upgrades will not be able to overcome. Furthermore, in response to a question, management said that it "had better opportunities" than to buyback stock. Given that the company was willing to massively increase leverage to buy ITV but is not willing to increase leverage to buyback stock, a poor signal was sent. All that said, If NTLI shares traded lower ahead of the expected improvement in operational and financial metrics in 2007, valuation could get attractive enough to entice me back into the shares.
Liberty Global (LBTYA/LBTYK): Liberty is a large international cable operator with 13 million customers in 17 countries. Run rate revenues and EBITDA are $6.3 billion and $2.3 billion, respectively. The company is most focused on Europe but has significant exposure in Latin America and Japan. Recently, the company has been selling and buying cable assets which has mostly shifted its asset base in favor of higher growth markets, particularly in Central and Eastern Europe. An astute investor asked why the company wasn't growing faster (11% revenue, 15% EBITDA last quarter) given its heavy capital spending (almost twice as high as a percent of sales than US cable companies). The gist of the question was that Liberty wasn't earning a good return on its spending, while foregoing free cash flow that could be returned to shareholders. Management effectively responded by noting that today's heavy spending was extending the double digit growth profile many years into the future. Management also noted that despite the heavy spending and lack of free cash flow it was in the process of completing its third dutch auction share repurchase this year without pushing debt levels anywhere near the danger zone. I think management won the argument and have no intention of selling the shares I have owned in my personal account for many years. I guess that is a recommendation to buy the shares at current prices.
Charter Communications (CHTR): Aryeh Bourkoff introduced CHTR by noting that based on the massive dollars in private equity, CHTR's lousy balance sheet with a 9:1 ratio of debt to EBITDA was obviously the envy of companies everywhere. Given that cable stocks trade at less than 9 times EBITDA, I still see CHTR equity as effectively worthless. However, the CHTR shares have tripled and yesterday Aryeh raised his target to $4.50 while another analyst launched coverage with a $4.50 target. I see four reasons why CHTR shares have been rising and each could justify the new targets. First, restructuring of debt has pushed maturities out several years dramatically increasing the time value of CHTR's optionality. Second, a strong high yield market might be opening opportunities for further debt restructuring. Third, the sharp rise in value of Comcast shares has increased subscriber values to the point that CHTR's equity might have actual, not theoretical value, at current valuations. If that is the case each move up in Comcast increases the value of CHTR's tiny equity value geometrically. Fourth, the pending creation of a publicly traded Time Warner Cable that is likely to acquisitive, along with Comcast's willingness to expand its footprint, suggests that CHTR has greater options to fix its balance sheet through assets sales should it so desire. I like cable and I don’t mind leverage but I'll settle for Liberty Global and Comcast where upside exists but the risk profile is much lower. CHTR is just a bit too aggressive for me.
Thursday, December 7th
Mark Cuban, HD Net: Mark believes that TV will continue to dominate video delivery. His rationale is as follow. First, he sees HDTV's on the same price performance curve as PCs' meaning that the more and more households will have HD capabilities over the next few years. Second, all the studies show that once consumers have HD, their viewing habits change in that they immediately seek out HD channels at the expense of analog channels. Third, there are bottlenecks in the broadband networks that will prevent massive downloading of HD video programming. The files are just too big. Fourth, put the first three factors together and viewers will not be satisfied with the experience of watching TV on their PCs or in analog form if an iTV device does allow transfer of files on the PC to the TV. Cuban's view is bullish for multichannel TV providers such as Comcast and DirecTV. As usual Cuban addressed lots of other topics including his view that Google should not have bought YouTube, his bullish trading call on Yahoo for 2007, and the massive contracts filling up the roster of the NY Knicks.
Insight Communications: Insight is a private cable company, 50% owned by Carlyle and 50% owned by Comcast. Insight is the 8th largest cable operator in the U.S. with 1.4 million customer relationships in Indiana, Illinois, and Ohio. I sat in on this presentation to get a sense for what Comcast's intentions are toward Insight. Insight CEO Michael Willner pretty much admitted that the company would not exist in its current form within two to three years. Both sides are currently allowed to trigger an event that would rationalize the ownership structure. Despite lots of prodding from UBS Media analyst Aryeh Bourkoff, Willner refused to say whether a transaction was imminent. One other takeaway form this presentation is that the triple play bundle of TV, broadband, and phone works just fine in small and mid-size markets where population densities are lower and satellite TV penetration is higher. I'd expect Comcast to own 100% of Insight soon but don’t see it as something that will move Comcast shares.
Mediacom Communications (MCCC): MCCC is a smaller cable operator passing 2.8 million homes, mostly in markets sized from 50-100. MCCC is heavily leveraged. The company is producing double digit revenue and EBITDA growth but its growth rates significantly lag the industry. This is likely due to stiff competition from satellite companies in the smaller markets the company serves. I see little upside in MCCC shares because of relatively weak operating momentum and lack of free cash flow to pay down debt. Additionally, the resolution of MCCC's dispute with Sinclair Broadcasting (SBGI) over retransmissions fees will pressure margins next year as programming expenses, already at a premium to other larger cable operators, rise further. If I were interested in a highly leveraged play on cable, I'd go with Charter Communications.
Craigslist: Jim Buckmaster, CEO of Craigslist, gave a very interesting presentation in Q&A format with UBS Internet analyst Ben Schachter. Buckmaster stated that Craigslist puts the needs and wants of its users ahead of corporate goals. Craigslist is more interested in doing what it views is good for society than in maximizing profits. While this viewpoint was met with snickers and laughter by the audience, it was also clear that the company is growing rapidly and producing plenty of profits. Overall, I found the discussion refreshing as it led me to question conventional wisdom. As an investor, I found the discussion troubling for newspaper companies, whose classified ads are under direct attack by Craigslist. Growth at Craigslist could also limit the opportunity for Yahoo, Google, and other internet companies to capitalize on the local classified business.
Comcast (CMCSK/CMCSA): Comcast made a bullish presentation emphasizing its "accelerating revenue and operating cash flow growth." The gist of the presentation was that for the next few years, the trends driving this year's mid-teens growth are likely to remain in place. Furthermore, no significant rebuild of the networks is required to drive growth residential growth at least through 2007 and probably 2008. Capital spending will rise as more and more customers take the triple play but the returns on this variable, success based spending are very high, Comcast says north of 30%. There will also be a boost in capital spending of up to $250 million in 2007 as Comcast prepares to more aggressively enter the small and mid size business market. Expect to hear more about this opportunity in the next few months when it is positioned as almost as large as the current residential business with the ability to drive growth in 2008 and beyond. Comcast was trading at $26 at the 2005 conference when I was a lonely bull. I am a lot less comfortable with the shares at $42 and the bull side of the trade very crowded with portfolio managers and analysts. Howeve,r I think Comcast's operating results will surprise to the upside in 4Q06 and estiatmes for 2007 will head higher. This should be enough to drive the shares toward new analyst targets in the upper $40s. That is enough to keep me bullish on the shares.
I hope you enjoyed my coverage of the conference. I want to thank UBS and their analyst team, including Aryeh Bourkoff (media), Ben Schachter (internet), John Holdulik (telecom), Brian Shipman (publishing), and Matthieu Coppet (media strategy) for putting on another fine conference and welcoming Northlake Capital Management.
Posted by Steve Birenberg at December 8, 2006 11:47 AM in Media
