ViacomCBS (VIAC) reported slightly better than expected earnings for 3Q20.  The good news was both advertising and cable affiliate fees came in above Wall Street expectations.  Advertising was still down versus last year due to COVID impacts but -9% is a vast improvement from 2Q20 even with a boost from political spending.  More impressively, cable affiliate fees returned to positive growth for the first time in two years.  It appears that VIAC has cycled through the negative impact of negotiations with its cable and satellite distributors in which the company exchanged lower first year pricing for continued carriage.

While the results were good with some interesting underlying factors, the bigger news from the earnings report and conference call is that VIAC appears to be pivoting harder toward its direct-to-consumer (DTC) platforms including Paramount+, Showtime, and Pluto TV.  Paramount+ is the new branding coming in early 2021 for the current CBS All Access service.  Management indicated on the conference call that it would be upping its content investment for these services in 2021 and also may be less aggressive in licensing current TV and film production to other DTC services such as Netflix.

VIAC is doing well with its DTC services so far with subscriber counts ahead of expectations.  However, we struggle with how much credit to give VIAC shares for these efforts.  Viacom, CBS, Paramount, MTV, and Nickelodeon have a lot of valuable franchises.  This is seemingly enough to have a popular service.  Yet, VIAC is late to the game in launching its service against DTC competitors Netflix, Amazon, Disney, Comcast (Peacock), and AT&T (HBOMax).  Each of these competitors is owned by a company much larger than VIAC, and several have investor bases much less concerned about free cash flow and profits.

While VIAC was early on the AVOD trend with its purchase of PlutoTV, it is arguably late is completing a larger pivot with Paramount+ and Showtime.  Will there be enough demand for all of the competing services to be successful?  Can VIAC sustain the necessary content investment to compete given it smaller scale?

VIAC shares have rebounded nicely from the March COVID lows.  This has been well deserved as management has done a good job with the merger integration of Viacom and CBS, answering questions about cable affiliate fees, and executing well so far on its DTC strategy.  Now that the stock has rebounded, it is the forward outlook that we are struggling to understand.  The pivot toward DTC has a steep financial penalty as seen in meaningfully lower 2021 earnings estimates since the company reported.  Estimates still will come down when the company pays up for renewing its NFL rights later this year. 

Our concerns about the long-term success of the DTC strategy are offset by low valuation on the shares and excellent execution by management over the past year.  Fortunately, as we mull whether to continue holding VIAC we are backstopped by the good recent momentum financially and strategically.  VIAC is approaching our recent price target in the low $30s.  Decision time is near.

VIAC 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.