CBS reported slightly disappointing 4Q18 earnings although the shortfalls were small, just a few percent, and most were explained by the always tricky timing of content sales.  The bigger news from the quarter was management pivoting from a financial engineering driven corporate strategy toward an “invest to grow” strategy.  Given the changes in TV consumption habits driven by Netflix, major media companies have been under severe pressure to clearly define corporate strategy.  In some cases, significant companies have chosen to sell – Time Warner and 21^st Century Fox.  Disney has been moving toward a Netflix-like direct-to-consumer strategy for some time.  CBS is attempting a hybrid approach, continuing to invest in and develop its Showtime and CBS All Access OTT services while also being willing to sell content to third parties, including competitors like Netflix and Hulu and Amazon Prime Video.

The big change we learned about with earnings is that CBS is all-in on a growth strategy.  The company announced it will be suspending its share buyback for at least six months and divert the cash to up its programming spend.  The goal is to drive Showtime and All Access from 8 million current digital subscribers to 25 million by the end of 2022.  Previously, these services were targeting 16 million subscribers in this time frame.  Management also guided to high single digit revenue growth and low double digit earnings per share growth in this time frame.

Northlake is skeptical of that CBS can meet these new targets.  However, CBS shares already reflect a healthy dose of skepticism, trading at less than 9 times 2019 estimated earnings and less than 8 times 202 estimate earnings.  These P-E ratios are about one half of the market multiple.

Issues depressing CBS’s multiple for the past few years remain in place:  a possible merger with Viacom, lack of a permanent CEO, risk of losing rights to Sunday afternoon NFL games, and competitive pressures from changing TV viewing habits.  Our sense is that investors want to own CBS as these issues clear up.  We find it encouraging that the shares traded lower after hours on the earnings miss but quickly reversed in regular trading and moved up 2-3% from the pre-earnings close.  Investors appear to be rewarding the company for its strategic pivot.  The strategy faces many challenges but providing clarity on a path forward is being rewarded.

We think the same thing can happen once a final decision is made on a permanent and CEO and the Viacom merger.  Both of these issues should be resolved in the next six months.  Consequently, Northlake is sticking with CBS for now, expecting a rally in the shares toward the upper $50s or low $60s.

CBS 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.