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November 08, 2005

Cablevision: Cheap But Too Many Distractions

My initial reaction when I read through the Cablevision (CVC) earnings report was that the shares would trade off because EBITDA from the cable business was light of expectations by about $15 million or 4%. The Street seemed to agree as the shares fell by about 1%. However, on the call the company explained the shortfall and the shares have since recovered are now up on a down day in the market. I don't think there was any major news in the press release or on the conference call and I continue to believe the shares are stuck in the mid $20s unless cable industry valuations in general rise. I think that is possible as double digit growth will continue for the foreseeable future. So far investors have been unwilling to pay for that growth because they fear a sharp slowdown when RBOCs start offering wireline video across large numbers of households. Nothing on the conference call will allay those fears but multiple compression can only go so far, in my opinion....

CVC reported cable division revenue of $911 million, up 15% over year ago levels. EBITDA grew 11% to $354 million, below expectations of $370 million. Subscriber metrics were in line to better than expected. Basic subs grew a modest 3,500. Digital TV subs were a bit below expectations but data and especially telephony easily exceeded expectations. Churn rose sequentially but fell year over year. Management reminded investors that churn rises sequentially in 3Q due to vacation home shut-offs on Long Island.

Management attributed the EBITDA shortfall to one-time items including "increased marketing costs for new businesses." No specific dollar amount was given despite repeated questions from analysts. There was no change to full year cash flow guidance despite the shortfall so working backwards, the explanation seems plausible. This is further supported by the fact that sub growth at new services was better than expected and full year guidance on sub growth was moved up to the high end of the previous range. All of this suggests that 4Q is shaping up well on revenue, cash flow, and subscriber measures.

Management refused comment on the special dividend but analysts pressed the matter with questions about asset sales and target leverage levels. Jim Dolan did state unequivocally that "we have no plans to sell the national cable networks but can’t ever rule it out." This means that the $10 special dividend is sure to be financed with debt, raising leverage to 7 to 8 times EBITDA before free cash flow in 2006 and beyond is considered. I think this is a mistaken capital allocation strategy given competitive concerns as it will inhibit the ability of the Street to raise the valuation on the stock since it raises the risk profile if the growth slowdown everyone fears comes to pass.

CVC remains a cheap stock with solid near-term fundamentals. Asset value is well above the current stock price and an eventual takeover is a real possibility. However, the stock takes a lot of patience due to Dolan family shenanigans -- more than I have -- so I remain on the sidelines.

Posted by Steve Birenberg at November 8, 2005 02:48 PM in CVC