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November 17, 2005

Central European Media Enterprises: News From Prague Meeting Is Good

The news from Prague about last week's analyst meeting for Central European Media Enterprises (CETV) sounds good. Nothing earth-shattering but a good turnout, solid presentations by local operating management, and a reiteration of guidance with increased detail on a country-by-country basis all bode well for the shares. I still think the seasonally strong 4Q will reinforce the long-term growth story and set up a transition in focus to another year of 20% growth in 2006. If that occurs, I think the shares can move up toward my target of low $60s over the next three or four months....

Regarding the meeting, the key takeaway came from the country-by-country guidance. Beginning with Romania, although I still think the guidance is too low, it implies that EBITDA will grow over 50% in the fourth quarter driven by revenue growth near 20% and continued margin expansion. For all of 2005, Romania is set to show revenue growth of 30% with margins expanding 900 basis points to over 40%.

In Ukraine, the story is similar. Guidance implies 4Q revenue and EBITDA growth of 42% and 95%, respectively. The EBITDA growth is partially a function of a shift in programming from 1Q and 2Q to 4Q which hampered comparisons earlier in the year. For all of 2005, Ukraine should show revenue growth of 32% and EBITDA growth of 43% as margins expand 250 basis points to 30%.

What I find especially interesting about Ukraine is the potential parallel of its 2006 performance to Romania's performance in 2005. Romania grew from $76 million on the top line in 2004 to over $100 million in 2005. Ukraine will end up with around $70 million in 2005 revenue and based on management comments there is no reason to expect a slowdown in the growth of the market in 2006. Consequently, Ukraine will grow to over $90 million in 2006 revenue. Romania had 900 basis points of margin expansion in 2005, which makes me wonder what Ukraine might do in 2006 given the similarities. Right now, I am assuming that Ukraine grows margins 500 basis points next year on a 28% top line gain. That translates to an incremental $10 million in EBITDA, which provides almost one-third of the total corporate growth. Keep in mind that Ukraine has a population of 47 million vs. 22 million in Romania.

News from the other countries was mixed as expected. Slovenia is having a tough year due to a fairly mature market and the impact of a new tax regime that has bumped up employee costs and pressured margins. No repeat of the cost pressures is expected in 2006. Slovakia saw its guidance come down due some poor programming decisions. CETV will have full control of Slovakia in 2006 and a strong rebound should begin which will be enhanced by synergies with the Czech Republic. Czech is looking at a flat year in 2005 as numbers were pumped up by prior ownership in 2004 ahead of the sale of the station. I'd like more clarity on 2006 trends in Czech but currently believe the ad market looks strong enough to support single digit revenue growth with modest margin expansion. Finally, Croatia remains in start-up mode in 2005 and 2006. Losses should moderate in 2006 by several million and during the meeting management discussed reaching breakeven in 2007. If so, that is a meaningful $13 million swing from 2005 to 2007 against a pro forma EBITDA figure of $185 million in 2005.

If you want to understand where the growth is coming from for CETV, check out the slide below that I lifted from the presentation last week that is now on the company's website at www.cetv-net.com:

Download file
">Download Slide

This chart shows that TV advertising spending per capita in CETV's markets is just half of the Eastern European average which itself is just one-third the average of Western Europe. I think the emergence of consumer economies in Central and Eastern Europe is inevitable given low-cost labor, proximity to Western Europe, integration with Western Europe including large capital inflows, and favorable tax laws. Emerging consumer economies can most easily be reached via TV advertising. Remember though that these are still emerging markets so expect volatility, particularly quarter-to-quarter.

Given the dearth of growth in traditional media assets on a global basis, I see CETV as one of the only growth stocks in media. At 11 times 2006 EBITDA and 23 times 2006 EPS, I find the shares very attractive.

Posted by Steve Birenberg at November 17, 2005 10:39 AM in CETV