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October 24, 2009
Disappointing CETV Investor Day Delays Still Signifcant Recovery Potential
I attended Central European Media Enterprises (CETV) Investor Day in Prague on October 15th. The stock is presently not widely held by Northlake clients but I continue to monitor it closely as I strongly believe that when advertising growth returns to Central and Eastern Europe, the company's results will have a V-shaped recovery and the stock will respond.
Unfortunately, the near-term news delivered at the meeting was disappointing. 2009 results, particularly at the profit level, are going to fall well short of expectations. Two factors are at work. First, despite a rebound in the region's economies, multinational advertisers are sitting on their hands. It appears there will be no rebound in local currency advertising in revenue in the fourth quarter as I had previously expected. Second, the company is being forced to spend more to defend its ratings lead in most of its markets. Whether this is a long-term issue or one that is being forced on the company due to the brutal environment for all of the region's broadcasters is open to debate. The street is skeptical but I think there is a possibility that the fight for advertising dollar share may relax modestly when advertising dollars begin to flow again in 2010 and 2011.
Entering the meeting I was hoping to hear that 2009 thru 2011 EBITDA would follow a $100 million, $200 million, $300 million pattern. New guidance for 2009 is just $65 million and while the company is guiding to a return to positive local currency ad growth in 2010, it now appears that EBITDA may not reach $200 million until 2011. And that of course, assumes the global economic recovery does not falter.
With the balance sheet still heavily leveraged, negative free cash flow, and significant ongoing losses in the developing markets of Bulgaria and Ukraine, CETV shares look quite expensive. As a result, I think there are better media stocks to own until there is evidence of a stronger ad recovery in the region and reduced losses in Bulgaria and Ukraine.
Not all is lost, however. I still think the shares can reach $50-60 in a full fledged recovery as EBITDA will ramp quickly assisted by a reversal to positive tailwinds from foreign currency translation. Like many companies under pressure from the global economic crisis, CETV will look worse in hindsight once the environment improves. The long-term growth story of Central and Eastern Europe TV advertising remains intact and CETV has by far the best set of assets to exploit the opportunity.
For now, concerns about the overly leveraged balance sheet and ongoing major losses in Bulgaria and Ukraine will dominate. Thus, CETV is a stock to monitor rather than own. But I fully expect to own it again at some point in 2010 assuming the global economic recovery continues.
Disclosure: CETV is held by a few clients of Northlake Capital Management, LLC including in Steve Birenberg's personal accounts.
Posted by Steve Birenberg at October 24, 2009 12:29 PM in CETV
Hi Steve, thank you for the update.
Although it doesn't sound as though CETV is that exciting at present, I hope, at least, you had an exciting trip.
Can you please refresh us on CETV by providing some more specific information. I am sure I knew this information once upon a time.
Can you please provide a list of countries CETV operates in, in the order of importance to CETV's profits. Next, which countries are most important to CETV for strategic considerations. These countries might not be contributing--or might even be reducing CETV's profits--at present; however, they hold great promise to increase CETV's profits in the future.
Did CETV provide information on its key business drivers? That is, are the company's fortunes largely dependent upon the region's economies gathering more steam, or is it largely dependent upon CETV's ability to maintain or improve its competitive position? Is the negative cash flow impairing the company's ability to go mano-o-mano with its competitors? Did the company express confidence in region's ability to grow again? And has the management team enjoyed a good track record in understanding the business and economic forces that are shaping the industry and CETV?
I know that I have asked a lot of questions. I'd like to get a stronger sense of the company's ability and likelihood of prospering within a reasonably amount of time.
Sincerely,
Kevin H. Stecyk
Easiest to answer your questions directly.
Can you please provide a list of countries CETV operates in, in the order of importance to CETV's profits?
Czech Republic is by far #1. Romania is a solid #2. Slovakia is next, followed by Slovenia and Croatia. Bulgaria and Ukraine are producing significant losses and for investors are considered very important.
Which countries are most important to CETV for strategic considerations?
A rebound in advertising growth in the region is more important than any single country. That said, Czech Republic is the big kahuna. Investors want to see resolution in Bulgaria and Czech Republic in the form of either reduced losses or sale of assets. In the short-term I think the stock is more sensitive to Ukraine because the company has a deal to sell a partial interest and then put the rest through 2010. I suspect, however, that if advertising in local currency picks up the stock will respond and the fears about Ukraine and Bulgaria will recede.
Did CETV provide information on its key business drivers? That is, are the company's fortunes largely dependent upon the region's economies gathering more steam, or is it largely dependent upon CETV's ability to maintain or improve its competitive position? Did the company express confidence in region's ability to grow again?
The company offered a discussion of macro trends by independent economists suggesting correctly that in the near-term it is macro trends that control the stock and financial performance. Thus far, big multinational advertisers are very slow to return, disappointing my expectations. The company is projecting a return to local currency in 2010 but it won;t be widely evident until 2Q10. Unfortunately, that leaves a lot of time for investors to sour on the global recovery.
the key long driver and the reason management and many investors including myself feel the region will grow again is that advertising per capital in CETV's countries is just a small fraction of Western Europe. There is along-term convergence as capital continues to flow to low-cost Central and Eastern European markets with big, young populations and much faster GDP growth (2-3X Western Europe). CETV's stations are moslty dominant making it an obvious beneficiary as advertisers spend heavily to court growth in an otherwise mature world.
Is the negative cash flow impairing the company's ability to go mano-o-mano with its competitors?
A big disappointment in 2009 has been that CETV has had to spend much more heavily on programming to defend its leading ratings. Investors thought that programming expenses could be cut to help preserve EBITDA. The higher expenses in 2009 makes me wonder if the region has become more competitive, more quickly than I expected. I suspect the answer is partially yes but that a rising tide of advertising will lead all the region's broadcaster to relax and harvest results in the initial stages of an upturn. As long as EBITDA remains depressed, the company is feeling pressure to invest to maintain its brands. There are no near-term maturities thanks to good balance sheet management recently (though poor balance sheet management in 2008 and early 2009). Once again, it is all dependent on whether a recovery takes hold. I should mention that at current levels currency translation will provide a big boost to US$ results in 2010 and could lead to a sharper than expected rebound in EBITDA and reduce pressure on cash flow.
Has the management team enjoyed a good track record in understanding the business and economic forces that are shaping the industry and CETV?
I think one of the major negatives in the CETV story is that investors went form seeing the management team as superior to below average. Several issues arose. First, the CEO and CFO have left in the past year. The explanations are legit and it was not a sign of fraud or anything like that. However, the bench looks thin. The new CEO was running the stations for several years. He is very talented in that role but has yet to prove himself as a big picture CEO. I think he micromanages a bit which is a problem with a thin bench. I think the managers of the stations are talented but more executive support is necessary. The investor relations team and the Treasury function are very ably handled.
A second problem is that the company remained way too optimistic on its markets in late 2008 and early 2009. And they guided down twice in 2009 even after conceding they were too optimistic. This resulted in cost cutting getting started late. The problem was further compounded when the aforementioned programming expenses were higher than expected. This undercut management credibility further.
Presently, I think investors think poorly of the management team. Probably too much so, thus representing an opportunity for the stock if the macro picture brightens and 2010 is a good year.
Finally, I'd note that CEO Adrian Sarbu has succeeded in many crisis and built his fortune in tough conditions in Romania. I think he may have seen the current crisis as just another crisis through which he would survive and thrive.
In conclusion, think the key to the stock is the strength and timing of a recovery in advertising. When the stock spiked to the upper $30s investor confidence was growing that we would see signs of recovery in 4Q09. The false start has soured investors and raised the bar for company performance. However, I still think the company can have a significant v-shaped recovery beginning in 2010. It is too early too bet on it but the move up in the stock will be fast and furious as it was off the March lows when the recovery occurs.
Posted by: Steve at October 25, 2009 11:39 AMThank you Steve for your comprehensive response. I am continuing to hold my CETV shares and look forward to better days ahead.
Posted by: Kevin H. Stecyk at October 27, 2009 02:28 PM