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September 28, 2006

Big Media Stocks Performing Surprisingly Well

Wow! Time Warner (TWX), Disney (DIS), and News Corporation (NWS, NWS.A) all made 52 week highs yesterday.

On the one hand I shouldn’t be surprised because the Dow and S&P 500 are at multiyear highs. On the other hand, media stocks as a group have been pretty poor over the last few years with key sub sectors like radio and newspaper suffering severely eroding fundamentals. Granted, DIS, TWX, and NWS are underrepresented in these areas but they are still exposed to the internet challenge, general advertising trends, competitive pricing in TV distribution, and weakening trends in theatrical films and DVD sales.

I suppose the new highs in these stocks could just be a gift from trading gods since yesterday was my 46th birthday. However, something broader seems at work. If I had to guess I’d point to two factors that might account for the simultaneous strength. First, the big entertainment conglomerates are growth cyclicals in terms of their earnings and cash flow. This makes them beneficiaries of soft landing scenario that is being credited with the market’s current bullish phase. Advertising represents about 20% of revenue for DIS and TWX and 40% of revenue for NWS. DIS gets and other 30% of revenue from its theme parks. Improved investor confidence in future economic growth should be reflected in higher valuations for these economically sensitive revenues. Additionally, word out of Goldman Sachs Commuicopia conference last week was that current broadcast and cable network TV advertising trends were firming. DIS, NWS, and TWX have the bulk of their advertising exposure in these national categories.

Second....

I think investors are starting to see the internet as an opportunity for these companies because they produce a huge amount of video content. Video is the flavor du jour on the internet right now and content production represents 20-25% of revenues for DIS, NWS, and TWX. Initial forays into offering TV shows and movies through iTunes, their own websites, and an YouTube have been successful and it appears that a new high margin revenue stream maybe developing. There might be a parallel to the film to VHS to DVD history. The nice thing about being a content producer is that each technological advance allows you to repackage your library and generate revenues yet again from sunken costs. The big conglomerates are also making some progress on traditional websites with NWS getting lots of credit for its purchase of MySpace and some early sings that AOL’s transition to a free site is going well.

I don’t mean to downplay the challenges faced by media companies, including these entertainment conglomerates. However, with the stocks reaching 52 week highs simultaneously for the first time in years, it reminds me that there are plenty of positives in landscape for media.

I remain long DIS for all Northlake clients and have been looking to buy NWS on a pullback. My thesis on NWS is that it should take the mantle from DIS as the fast growing big media company in 2007, which could provide a bump in its valuation.

Posted by Steve Birenberg at September 28, 2006 01:10 PM in DIS