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February 20, 2013

2013 Outlooks Bullish for CBS and Discovery Communications

CBS and Discovery Communications (DISCK) each reported mixed 4Q12 results compared to expectations but provided positive guidance for 2013. I think both stocks offer further upside with the caveat being that each company’s results are sensitive to consumer spending trends via their exposure to advertising. With worries about the consumer on the rise due to the payroll tax increase and potential budget cuts due to sequestration, the stocks may pause. Should the economy weather the austerity storm, CBS has upside to the low $50s and DISCK could reach the mid-$70s. I plan to hold both stocks in Northlake client accounts.

CBS reported 2% revenue growth and 6% EBITDA growth. Both figures were slightly below expectations. The EBITDA figure was below expectations for about 10% growth with margins at local TV and radio stations coming in a little below expectations. Despite the slight miss, management softened the blow by announcing an incremental and accelerated share repurchase for $1 billion to be completed in the first quarter. This almost doubles the already aggressive share repurchase plan. Listening to management comments on the conference call, it is not surprising that they see value in their own shares. Advertising trends, particularly at the CBs Network, remain firm, even with early season ratings struggles. Rising non-cyclical advertising streams from Showtime and retransmission consent are driving margins higher and reducing CBS’s exposure to the economy. Management also indicated that it plans to return even more cash to shareholders after the conversion of its Outdoor business to a REIT, hopefully at the start of 2014. The story here remains very positive with great management, rising margins, less cyclicality, more consistent and higher growth, and most shareholder friendly capital allocation policy in the media industry. I think 2014 EPS estimates could prove 5-10% too low, maybe more if the REIT conversion happens in its most aggressive form. Given CBS recent history, I think it is worth holding on for the bull case which would be the low $50s based on a 15 P-E in 2014.

DISCK reported among the fastest growth of all media stocks in the fourth quarter with revenue up 9%, EBITDA up 11%, EPS up 30%, and advertising up 11%. These results were widely expected. IF anything, the company could have reported a little better results but there is little to complain about. The outlook for 2013 was in line with street estimates but hard to interpret as they include about nine months of the company’s recently announced acquisitions in Europe. Continued high levels of share repurchase despite the acquisitions is good news. Strong ratings for DISCK’s stable of networks and the beginning of a new round of affiliate fee increases seems to set the stage for more industry leading growth in 2013. The primary risk I see to the story are that the stock has the highest valuation among media companies (well-earned for sure!) and the new acquisitions are a little outside of the core competency in non-fiction programming. Assuming that cable network ratings remain solid, I think the stock can hold its current P-E of 19 times as focus shifts to 2014 results later this year. This would get the shares to the mid-$70s.

CBS and Discovery Communications are widely held by clients of Northlake Capital Management, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Filings can be found at www.sec.gov. CBS and Discovery Communications are net long positions in the Entermedia Funds. Steve is the portfolio manager of the Entermedia Funds, owns a majority stake in the Funds investment management company, and has personal monies invested in the Funds.

Posted by Steve Birenberg at February 20, 2013 12:31 PM in Media