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September 14, 2007

Will Consumer Slowdown Cut Into Comcast's Growth?

Cable stocks have been poor performers all year. Things started badly when Comcast raised it s capital spending forecast in conjunction with its 4Q06 earnings reported. The second hit came with 2Q07 results when basic and broadband subscriber growth disappointed pretty much across the board. Access line losses for AT&T and Verizon, basic subscriber losses for cable companies, and broadband subscriber growth for all players came in short of estimates. Now fears of a consumer spending slowdown are adding to worries about broadband growth.

I chalked the 2Q07 shortfalls up to a combination of the housing slowdown and a regulatory driven need for the cable companies to focus on getting digital set top boxes into subscribers' homes which distracted customer service from retention and new service sales. I strongly suspect that 3Q and 4Q results will improve sentiment as subscriber growth, revenue, and EBITDA growth targets are hit. Nevertheless, investors have been worried that broadband growth is going to mature more quickly than previously expected with a new push coming from a consumer spending slowdown.

On this front, Jessica Reif of Merrill Lynch had some interesting insights in a report she issued on Comcast earlier this week. In the report, Jessica slightly lowered her broadband growth estimates for Comcast while strongly reiterating her recommendation of the shares. Her key conclusions on broadband was that penetration rates are following a similar curve to cable and satellite TV which means that ultimately 90% of households will purchase broadband. With penetration at just 50% today, there should be plenty of growth left. Jessica also noted that while 2Q subscriber counts fell short if looked at from an incremental penetration perspective, the results were on the low end of historical 2Q results.

Most interesting though was a look back at 1990-1992 cable subscriber additions and 2001-2002 wireless subscriber additions. Both periods saw penetration levels begin close to where broadband is today. Both periods saw a sharp slowdown or recession in consumer spending. So what happened to subscriber growth? It slowed significantly but it remained positive. In fact, you can make a pretty strong case that cable fundamentals were "defensive" in 1990-1992 as downside sensitivity to consumer spending was not as great as for other industries.

I think this is likely to repeat if consumer spending slows now. Broadband and especially cable telephony are still early in their growth cycles. Rising penetration should allow overall revenue and EBITDA growth to hold at good levels (10% or better) even if a consumer led recession occurs. Add in the likelihood that second half results should accelerate and the frustrating period of performance for cable stocks, and Comcast in particular will come to an end. Soon.

Posted by Steve Birenberg at September 14, 2007 11:48 AM in Comcast