Comcast (CMCSA) has become a difficult company and stock to analyze.  The latest quarterly earnings report indicates 2018 is off to a decent start but not without significant challenges that reinforce the long-term concerns about video subscriber losses and broadband competition.  Complicating matters further is the company’s offer to buy Sky, the dominant satellite TV company in the U.K and Europe.  There is also still well reported speculation that Comcast is interested acquiring most of 21^st Century Fox that Disney has agreed to buy.

There is plenty to like about Comcast.  Despite the well-publicized subscriber losses in cable TV, broadband subscribers and ARPU are still growing and growth in business customers remains at double digit levels.  In 1Q18, cable revenue grew 3.6% and cable EBITDA grew 4.7%.  Cable faces challenges but the sky is not falling yet.  Programming expenses grew only 3%, the first sign of a long awaited slowdown that should remind investors that moderate subscriber losses in cable TV are not the end of the world.

Leaving aside the Olympics, NBCU grew revenues nicely and had a 13.1% increase in EBITDA.  NBCU’s continued strong growth is important given that its historical success is being offered by management as a blueprint for why Sky and possibly Fox assets are the correct strategy.

The balance sheet and cash flow remain in great condition.  Debt to EBITDA is an industry low 2.2X, firmly in investment grade territory.  Capital spending has peaked in absolute dollars and relative to revenue, powering free cash flow.

Presently, an investment in Comcast comes down to balancing solid near-term financial performance against long-term secular challenges and the company’s M&A strategy.  Northlake thinks the company and the cable industry can perform better than the consensus expectation as video subscribers fall, leaving our primary concern around M&A.  Management rightly points out that the NBCU deal has been a home run.  Furthermore, the attempt to buy Time Warner Cable that was blocked by the FCC and DOJ was clearly a smart move.  Looking further back, Comcast was built by acquisitions and has created a lot of shareholder value.  Our concern is that the acquisition history is not indicative of success for the current Sky and Fox strategy.  The cable and TV network industry has changed.  Subscribers, ratings, and advertising are falling and the well-established trends of OTT viewing, driven by Netflix, are firmly in place.  We understand that Comcast believes M&A is the right strategy to fight back against these trends.  The DNA of large corporations is to grow. Northlake would prefer the company to use its balance sheet and free cash flow strength to buy back stock and raise the dividend.  This is the clearest and safest path to enhance shareholder value in the challenging and still rapidly evolving media landscape.

CMCSA shares are trading at under 8X EBITDA.  Backing out NBCU, whose peers trade at a premium, leaves the cable business valued at near 7X.  Even with the secular challenges and lingering questions about acquisition strategy, this valuation incorporates a lot of negativity.  Northlake has more concerns about CMCSA than it has had in some time but based on our long, successful association with the management team, we are sitting tight pending the outcome of the Sky and possibly Fox transactions.  We think the shares belong in the low $40s and would be sellers near those prices.

CMCSA is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.  CMCSA is a net long position in the Entermedia Funds.  Steve is portfolio manager and managing partner of Entermedia, long/short equity hedge funds focused on media, entertainment, leisure, communications, and related technologies.