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November 08, 2005

Central European Media Enterprises: Good Third Quarter Sets Up Strong Finish to 2005

Central European Media Enterprises (CETV) reported solid 3Q05 EPS last week in a seasonally weak quarter. The market liked the results and the stock is set up well heading into what should be a well-attended analyst meeting in Prague scheduled for Thursday and Friday (my best contact on CETV will be in attendance). I think CETV shares can head toward their all-time highs between now and year end as investors anticipate strong 4Q05 results and look ahead to double digit growth in revenues and operating cash flow in 2006...

CETV has not released quarterly results from 2005 for newly acquired TV Nova in the Czech Republic. Consequently, year over year corporate comparisons are meaningless. However, drilling down to the individual country level showed much better than expected 3Q results in Romania and Ukraine. This is especially good news for CETV shareholders as these are the company's most important growth markets. On a pro forma basis, Nova will be over half of EBITDA in 2005 so investors should also be pleased that guidance for the partial year of ownership was maintained.

In Romania, revenues rose 31% while EBITDA grew an astounding 77%. Romania looks set to produce EBITDA of 2005 in the mid $40 million range, approaching 25% of total country level EBITDA. The growing importance of Romania should really help in 2006 as growth of just 20% would contribute almost 500 basis points to the corporate growth rate all by itself.

Ukraine also surprised in 3Q05 with revenues rising 33% and EBITDA shifting from a small loss a year ago to a $2.4 million profit. Early in 2005, there was concern as tough comparisons in Ukraine made it look as though growth was faltering. More recently, there have been some concerns about Ukraine GDP growth and political stability. Management confidently predicted Ukraine's TV ad market would grow 25-30% this year and next. With an easy comp in 4Q, Ukraine could produce EBITDA 80-90% above year ago levels.

One issue coming out of the quarter was lowered revenue guidance of $5 million due to a shortfall in Slovakia. Management admitted to a reality programming flop. EBTIDA expectations for the whole company were not impacted due to the strength in Ukraine and Romania and Slovakia's relatively small size. The earlier announcement that CETV has obtained full control of Slovakia's operating and license companies sets Slovakia up for a much better results in 2006 and 2007. Slovakia margins trail the group by over 500 basis points and with the benefits of full control and the ability to realize synergies with the much larger Czech market, meaningful revenue and EBITDA growth should occur over the next two years.

Another possible issue is that Nova looks likely to produce a flat year in 2005. I think that the company's 2004 results were probably pumped up by the prior ownership as they positioned the company to be sold. CETV management seems to have their arms around it now and is confident that local currency growth will accelerate in 2006 and especially 2007 and 2008 as advertising on the state-owned TV stations is phased out. 1H06 comparisons could be tough though.

Investors should also be aware that CETV has foreign currency exposure and with the Euro and other European currencies recently weakening, translation impacts on the income statement will turn negative in 4Q05 if current exchange rates hold.

Eliminating Croatia's losses, which for valuation purposes moves this asset to zero, CETV is trading at 13.5 times 2005 and 11.4 times 2006 estimated attributable segment level EBITDA. With pro forma 2006 growth near 20% in 2006, I find this a very reasonable valuation. Further, I am giving no credit for what should be $60-70 million in free cash flow in 2006, or over $1.50 per share.

If the shares hold a 13.5 multiple on 2006 estimates, a near-term price target of $62 is achievable. I think EPS could approach $2.25 in 2006 so a $62 target works out to about 28 times earnings, which I also view as reasonable for one of the only growth stocks in organic growth stocks in all of media.

Posted by Steve Birenberg at November 8, 2005 02:45 PM in CETV