Sony (SONY): SONY had improved results after a couple quarters of modest downward revisions.  2Q22 earnings came in ahead of consensus, and the company raised its guidance for FY22 which ends on 3/31/23.  Importantly, SONY’s games segment showed signs of stability as the post-pandemic shift in behavior that has reduced engagement appears to have runs its course.  The new Call of Duty game and the company’s first-party God of War both launch new versions in November and should provide a boost to the software side of the business.  Hardware also looks better with the supply chain issues that have held back production of the PS5 in the rear-view mirror.  As the games segment stabilizes, music and pictures are performing ahead of expectations.  Music is seeing strong growth in streaming, and recent acquisitions are ahead of budget.  Pictures benefits from SONY’s position as an “arms dealer” while demand from streamers and theaters for new TV shows and films is booming. Image Sensors, another important segment which supplies sensors for smartphones and autos, is also benefiting from an improved supply chain as well as strong sales of high-end smartphones.  A portion of the upside in the quarter and guidance is due to the weak yen and strong dollar.  Most U.S. companies are being pressured by dollar strength.  SONY instead benefits from current currency trends, with much of its operations and costs based in Japan and a lot of revenue earned in dollars.  Northlake usually does not ascribe much impact to foreign currency since it effects companies equally, but it is nice diversification to be on SONY’s side now.  Overall, SONY is stabilizing and well set up for long-term growth. We see the quarter and updated guidance as a positive catalyst to close what we see as a hugely discounted sum of the parts valuation.  The stock remains at a multiple well below the average multiples of peers in video games, music, filmed entertainment, and sensors.  SONY remains one of our favorite ideas for the conservative nature coming from its Japanese management style and the above-average long-term growth opportunities in its portfolio of businesses.

Nexstar Media Group (NXST): Northlake took partial profits in NXST for the second time this year ahead of the 3Q22 earnings report.  NXST reported another strong quarter, completely bucking the trend of other local TV broadcasters this quarter.  Despite the good news from NXST, the shares have pulled back significantly from our sale price.  Broadcasters face headwinds from rising interest rates and fear of a recession.  Advertising is still about 30% of NXST’s sales with another 50% coming from retransmission fees paid by cable, satellite, and streaming distributors.  Advertising is showing signs of weakening across all traditional and digital media even as consumer demand remains firm.  Retrans headwinds have picked up as cord cutting has accelerated in the last six months.  NXST is well positioned against these trends given its scale, best-in-class management, and healthy balance sheet.  The company slightly exceeded aggressive guidance for political ad revenue while all other publicly-traded local TV broadcasters fell short.  This is a testament to the company’s scale and management acumen.  Given almost full national reach, it did not matter to NXST if races in certain states saw less spending since the spending shifted to other states.  NXST also faces little pressure on its balance sheet due to moderate debt levels compared to other heavily indebted companies.  Local TV produces a lot of free cash flow.  NXST hit its free cash flow guidance, while peers fell way short.  The penalty for peers has been declines of 30% or more in share prices whereas NXST trades near its pre-earnings level despite being well below Northlake’s latest sale.  The next six months are going to be tricky for NXST as political ads go away, macroeconomic concerns remain, and cord cutting remains elevated.  The company also faces financial and operational challenges on its acquisition of the CW Network, although the core business is more than 10 times larger.  Our two sales to take profits (up nearly 3 times our initial purchase) have right-sized client positions so we plan to ride out any further volatility given the companies superb track record and free cash flow that can be used to support the stock price.  Our prior targets above $200 are probably unrealistic until market and economic headwinds begin to subside, but using what we hope are conservative estimates, we still think the stock offers good value, especially on a long-term basis.

Disney (DIS): DIS reported disappointing earnings to close out its 2022 fiscal year.  Losses in streaming were larger than expected, and Theme Parks surprisingly fell short of estimates as costs rose ahead of expectations.  A limited slate of films did not allow the film studio to help, and traditional television businesses like ESPN and ABC continue to feel pressure from cord cutting.  Advertising trends showed weakness as advertisers cut back ahead of concern about a recession.  The poor earnings report was compounded by weak guidance calling for larger than expected losses in streaming in FY23 and continued pressure on theme park margins.  Management did reaffirm that FY22 represented the peak of streaming losses and continues to forecast a turn toward streaming profitability at some point in FY23.  The shares tumbled to lows from the start of the pandemic.  Northlake still believes DIS is well positioned long-term with its collection of premier assets across media and entertainment.  This quarter could very well turn out to be the one that fully resets expectations.  At this point, merely hitting lowered FY23 expectations should allow the shares to rebound 20-30%.  Northlake maintains a more optimistic view on the economy, expecting no worse than a mild recession.  We also believe that inflation has peaked which will ease pressure on monetary policy.  Our overall thesis is that the race between currently healthy economic growth and inflation and tightening monetary policy will be won by economic growth.  DIS is a premier play on this thesis given its strong collection of industry leading assets and now washed-out expectations.

Activision Blizzard (ATVI): While we await regulatory rulings on Microsoft’s attempted acquisition of ATVI, we are pleased with the progress the company is making on its own.  ATVI stumbled badly with far-reaching human resources scandals that crashed the stock price and led to Microsoft’s pending acquisition.  Employee issues were likely partially responsible for last year’s weak Call of Duty release and other underperforming franchise titles.  We remain hopeful that the acquisition will go though in mid-2023 providing a windfall return to shareholders.  However, if the deal is blocked, we are encouraged by the progress ATVI has made since the deal was announced.  Operating with less public pressure, the company has improved its employee relations and gotten back on track with the quality of its game releases.  In particular, the new Call of Duty game, the company’s most important franchise, has received a rousing reception in its first days on sale, breaking records for dollar and unit sales.  Other games within the Call of Duty franchise also are performing better.  Franchises for Overwatch, Diablo Immortal, and World of Warcraft also are enjoying renewed momentum with their latest releases.  ATVI’s mobile gaming segment, built around Candy Crush, is still growing even as mobile gaming has encountered pullbacks almost everywhere else as consumers are no longer stuck at home with nothing else to do.  This renewed strength across ATVI’s portfolio has led to rising earnings estimates for 2023 even as Electronic Arts and Take Two Interactive, the other large U.S. video game companies, have seen their outlooks fall.  ATVI now trades at about 19 times 2023 estimated earnings, a level that provides good support should the Microsoft deal be blocked.  We expect the stock to take a short-term hit if the deal falls through.  The risk-reward looks good given upside of 30% should it be approved and downside of around 10% if not.  Thus, we continue to hold and expect to know more by June 2023.

Walmart (WMT): In May, WMT fell sharply after noting it had excess general merchandise inventory due to a shift in consumer buying patterns towards staples and groceries, and supply chain issues that led to poorly timed deliveries.  In July, the company noted that earnings would be impacted more than previously expected by these issues.  When the company reported in August, there were signs of improvement with inventories coming down significantly and sales coming in stronger than expected.  In the company’s latest earnings report, the news was even better.  Inventories are now about back to normal and the sales improvement from July and August has sustained.  Earnings came in better than expected and management raised its guidance for the year.  We recap this history because it supports Northlake’s view that WMT is well managed and strategically well positioned.  Although not directly comparable, WMT’s recovery since May contrasts with Target’s continuing struggles.  We believe the company’s differing paths are evidence of our WMT investment thesis. The company executes well at the store level and is gaining share in groceries and among high-income customers.  Efforts in ecommerce with Walmart+ are gaining traction.  Digital sales were up 16% in the quarter and comprise over 10% of sales.  WMT’s website is hosting increasing amounts of third-party sellers, much like Amazon.  Pickup and delivery efforts are going well.  The company also has a growing advertising business taking advantage of its first-party shopper data.  WMT is playing offense with these strategic efforts while also benefitting from its historical value perception. WMT increasingly looks like a win in any economic environment, especially if it can retain high-income customers with good store execution and expanding ecommerce strategies.  Continued success offers the possibility for expansion of the stock’s P-E multiple that would support a price into the $160s in the year ahead.

Home Depot (HD): Despite a tough housing market and a high level of skepticism among investors, HD reported another better-than-expected quarter.  Trends have remained the same with the Pro business leading growth as the DIY business sees a slight pullback in traffic.  Management sees no signs of a major slowdown but is planning cautiously.  When we reviewed 2Q22, we noted that we see secular growth in home spending built on some permanent level of post-pandemic work-from-home raising the importance of home improvement spending in household budgets.  Management noted another factor supporting spending against a weaker economy.  40% of all homes are owned outright, with no mortgage.  Of the remaining 60%, 90% have fixed rate mortgages with 73% at an interest rate below 4%.  This data supports consumer spending even as inflation remains elevated.  Most households largest monthly expense is fixed.  Home prices are softening but remain 40% above 2019 levels.  A small decline still leaves most households with a low interest rate mortgage and more valuable asset that is worth investing in.  Management is doing very well with everything that it can control, but the stock faces a wall of worry concerning the economic outlook.  Northlake believes HD shares reflect too much caution at just 17 times below consensus 2023 earnings.  Our view on the company’s secular positioning and excellent management supports a higher multiple and we are willing to wait and absorb upside and downside volatility as the economic developments dictate.

Meta Platforms (META): Part One of the 3Q22 Earnings Update included a look at META, formerly known as Facebook. We concluded that the news was bad, we had less confidence in management, but we wanted to let the dust settle before considering selling the shares.  The main problem was with the company’s plans to accelerate operating expenses and capital spending against a weakening digital ad environment and the uncertain profitability timeline for the metaverse.  This week, news broke that META is laying off 11% of its workforce and dialing down its capital spending plans.  The company revised guidance for operating expenses and capital spending lower.  These savings will fall directly to the bottom line in a material amount relative to current EPS estimates.  Importantly, they appear incremental to the slower hiring pace management outlined on the earnings call.  We see this as an important step to restoring investor (and our own) confidence in management.  META has a history of bringing expenses down about 10% from initial guidance.  This step is less than a 2% reduction, so substantial room remains to cut costs. Of course, recent decelerating revenue trends still have to fully stabilize and return to growth to rebuild the stock’s valuation.  On this front, management used the guidance update to maintain the newly issued revenue outlook for 4Q22.  Overall, Northlake has a little more trust in management and will give the stock more time than we had previously thought.

SONY, NXST, DIS, ATVI, WMT, HD, and META 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.