We recently added Sony (SNE) to Northlake client accounts.  In many cases, we partially paid for the investment in SNE by selling shares of ViacomCBS (VIAC).

SNE is well-known for its consumer electronics products, but this is just a small part of the company.  The key growth drivers are video games, music, TV and film production, and imaging sensors.  These segments make up about 80% of SNE profits, and each has excellent secular growth prospects.

SNE trades at 11X 2021 EBITDA, while pure-play peers in each of the company’s growth businesses trade at 15-20X EBITDA.  Video game publisher Activision Blizzard, which Northlake clients own, trades at 19X.  Vivendi recently sold a 10% stake in its Universal music label (#1 market share to #2 for SNE) for over 20X.  Lionsgate, a comparable independent producer of film and TV, trades at 11X but is not considered a major studio like Sony, Disney, or Warner Brothers.  Sony’s image-sensing semiconductors are widely used in high-end smartphone cameras from Apple and Samsung and are used extensively in automated vehicles.  Stocks with exposure to automated vehicles are speculatively valued. We think conservatively that SNE can enjoy multiple expansion to 13X, closing less than half the gap to peer pure-play stocks.  This provides over 20% upside. 

Importantly, SNE has no debt.  New senior management is pursuing shareholder-friendly capital allocation policies, something new to SNE and other leading Japanese companies.  SNE has refocused on driving growth over the past ten years and current leadership was central to the decision-making.  We suspect the stock will always trade at a discount to pure-play peers since it is a conglomerate and based in Japan.  However, we see plenty of upside and love the conservative financial profile that is reinforced by Japanese culture.

Here is a brief look at the company’s leading segments.  Sony’s PlayStation video game console is the world leader.  PlayStation also operates a leading gaming network (similar economics to the AppStore) and publishes many of its own popular video games.  Sony Music and EMI Publishing are industry leaders.  Music is booming thanks to the transition to a digital economy.  Beyond Spotify or Apple Music, music is also popular on YouTube, Peloton, and social media.  TikTok has built a business of around 700 million monthly users based off licensed music.  Sony’s film and TV studio controls valuable intellectual property like Spiderman, Karate Kid, Ghostbusters, Hotel Transylvania, The Smurfs and Japanese properties like Fate/Grand Order and the recently released all-time Japanese box office champ, Demon Slayer.  SNE has no streaming service of its own which allows it to develop these franchises and sell to the highest bidder among Netflix, Amazon, Hulu, HBOMax and others as they all race to build and retain massive subscriber bases.  Image sensors are just one of many technologies developed out of the company’s historical focus on consumer electronics that now can be exploited in new digital products and services.

VIAC is a traditional media company trying to transition to internet-delivered entertainment.  As a film and TV producer through Paramount and CBS, the company competes directly with SNE.  The recent merger of CBS and Viacom offers upside.  We have been impressed with new management’s ability to achieve merger synergies and build streaming businesses.  However, we believe the company will have a hard time competing with much larger peers like Netflix and Disney.  The scale of content investment required will limit financial returns for the company’s steaming efforts and not produce enough profits to offset the slow but steady decline in Viacom and CBS cable and broadcast networks.  

We did not view this trade as a direct swap from VIAC to SNE.  However, we do think there is some similarity and SNE has a better growth profile with a much stronger financial profile.  Furthermore, we have very similar industry and sector exposure to VIAC from other Northlake client holdings such as Comcast and Disney, allowing the sale of VIAC and purchase of SNE to diversify Northlake’s individual stock portfolio.

Sony, Disney, and Comcast are 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.