Recap Of Midwest Media Day Conference

I spent Wednesday at Midwest Media Day sponsored by Prudential Securities. It was a unique conference. Pru took over one floor of the hotel and the beds were removed and replaced with tables so that each room could function as a small conference room. The company management representatives stayed in place while investors rotated through for 45 minute Q&A sessions with anywhere from one to four institutional investors. It was really a great format and I'd like to thank Michael Callahan at Pru for inviting me and media analysts Steve Barlow (newspapers), Kathy Styponias (entertainment and cable), and Susan Lynner (regulatory issues) for getting the companies to show up and adding their own insights.

Please click the "Continue Reading" link below to read brief comments on the meetings I attended:

CBS: Les Moonves and Fred Reynolds made a spirited defense of all things CBS. The story is 3-5% revenue growth, margin expansion, and free cash flow generation. A significant portion of the revenue growth will come from digital media initiatives and retransmission payments which carry unusually high margins. I prefer other media stocks but would put CBS close the top of my potential longs if I had a broader bull case on the sector.

Lee Enterprises (LEE): LEE is struggling with its acquisition of Pulitzer, particularly in its largest market of St. Louis. LEE has a long history of outperforming the industry on the top line but more recently growth has fallen off and is now inline with its struggling newspaper peers. The stock trades at a deserved premium to the group. A key takeaway was that LEE believes that 35-40% of industry ad revenue is facing cyclical or secular challenges. I tried to pin them down on when they thought that the cyclical issues would be lapped, possibly leading to the cessation of the endless estimate declines going back three years. No real answers but that is not a negative comment on LEE in particular. I still have minimal interest in newspapers from the long side.

E.W. Scripps (SSP): I recently wrote that I was getting more interested in SSP following the market's negative reaction to the uSwitch deal. Part of my these is that Shopzilla would surprise to the upside big-time in 2006. I now think that upside is more subdued as the CFO explained that margins would be down despite big revenue growth as Shopzilla rolls out in Europe. On the plus side, it sounds like Shop At Home will be resolved within 30 days either thorugh a buyout or shutdown of the network and sale of the five TV stations. Either is good news. The uSwitch slides looked pretty good. I suspect the numbers there will be fine and the street concerns will moderate. SSP did say they were willing to part with selected TV and newspaper properties. Turning this comment into reality would be good for the stock. I am still leaning bullishly but after being long for the better of ten years I can’t figure out exactly what is bothering me and keeping me on the sidelines. I suspect that will be a mistake.

DirecTV (DTV): I thought the most important news was that the company is getting close to revealing its broadband strategy. Management said that it couldbe announced within 30 days and would provide nationwide service at 3 to 5 MB speeds at a total investment of $1 billion. That seems awfully inexpensive to so paint me a skeptic. DTV believes it can grow about 1 million subs a year on the current base of 15 million for the next three years. This works out to a 5-7% annual growth rate. The company also believes that base price increases plus a richer mix of DVRs and HD will allow ARPU to grow 4-5% per year. If subscriber acquisition costs and marketing spending can be held in check the financial results of this forecast are quite favorable.

I've been a bull cable with an operating thesis that current valuations way overcompensate for the risk to financial performance in the next several years. This thesis applies to DTV as well. The street is freaked out by competition and seems to fear EBITDA and free cash flow declines. What they are missing is that over the next few years, the quality players like DTV and Comcast (CMCSA) will increase their EBITDA by more than 30% off the 2005 base before any competition might begin to bite financial performance.

In support of my thesis, DTV noted that their business, TV, has high fixed costs for network buildout and programming with lower variable costs. This is not a business that is conducive to aggressive pricing. On the other hand, telephony and high speed data are low fixed cost, high variable cost businesses making price competition a compelling weapon. I can’t argue with that but I do think there remains enough growth in new high speed subscribers for a few more years of the surprisingly stable ARPUs witnessed over the past year. On telephony, the pricing situation could be tougher but I "think/hope" that is early enough in the VOIP telephony cycle that pricing will hold for at least a year or two.

Liberty Media (L): I've sat in on a lot of presentations and webcast for L and I must say that for the first time in years I wasn't bored. New CEO Greg Maffei didn’t tell me much new but he did it with enthusiasm. The story is simple. QVC will produce around $15.5 billion in EBITDA this year. Netting debt against other assets leaves nothing. So what multiple is QVC worth. The company showed a broad range of comparable retailers from eBay to Costco to Amazon to slower growing names and noted the average multiple is 14. At 14, QVC represents over $7 per current L share, implying the entire entity is undervalued. Each multiple point is worth 54 cents per L share. You decide?

Harris Interactive (HPOL): As mentioned yesterday, this meeting was the one I came out of thinking I might want to buy the stock. HPOL is marketing research company that is focused on customer attitude surveys. Most surveys are internet based. The company participates in a $9 billion industry that it believes is growing in the upper single digits. The company thinks it ca comfortably outgrow its industry and raise margins from below 5% a year ago to over 7% in 2006 and over 10% in 2007. Analysts seem to believe. My first impression is that if the company hits those numbers there is another 30% plus upside in the stock. Nobody responded yesterday to my request for opinions on HPOL. I remain all ears.

Disney (DIS): The DIS Q&A recapped the bullish story with the four key businesses of ABC, ESPN, Theme Parks, and the Film Studio all in sync and driving double digit growth. I'm a believer and remain very long. One thing I have worried about came up in the meeting. The rollout of ESPN Mobile and Disney Mobile cellphone service will cost north of $130 million this year. The street knows this but I fear the costs will only escalate against an unclear chance of success. Over half of the money will be spent on the ESPN service. The company told us that they have lowered the price of the handset (i.e. increased the subsidy). I think this means sales were slow following the initial launch at the Super Bowl. Other DIS divisions are probably strong enough to cover ongoing and larger than expected losses but this is something to keep an eye on. In a contest, I predicted that Cars would earns $101.4 million on its June 9 opening weekend. Pru didn’t say what my prize would be.

Company Presentations at the UBS Media Conference

Here are some brief notes summarizing individual company meetings I attended at last week's UBS Media Conference in New York. Please make sure to read this post in conjunction with my initial overview comment which was posted last week...

Carmike Cinemas (CKEC) serves primarily rural markets in the South and Midwest, so family-oriented movies are more important to the company's results than for other theatre chains. Over the summer, this hurt the company. But in late October, when Saw II was supplanted by Harry Potter and the Goblet of Fire, things began to look up. With Chicken Little, The Chronicles of Narnia: The Lion, the Witch and the Wardrobe, King Kong and a Jim Carrey comedy also set to open in the December quarter, it seems like dramatically improved results could be on the way. I don't know the stock well, but the possibility of improved near-term momentum means that I'll be reading up on the company soon.

Liberty Media (L) is splitting into two companies via a tracking stock, with one company containing QVC and other commerce businesses and the other company containing Starz and all the investments Liberty has in other public and private companies. In theory, this will reduce the presumed valuation discount due to complexity. Despite some prior work indicating that Liberty might be cheap, I came away from the presentation, as I often do when I see these guys, wondering why they think they are so much smarter than everyone else.

Usually, the market gets it right. In this case, I think the valuation at which they assume QVC will trade is too high. Media folks who closely follow Liberty are some of the smartest investors I know; they can value Liberty fine as it is. If a huge value gap existed outside of the minds of company insiders, it would have resulted in a higher stock price years ago. Seems like tax attorneys, lawyers, accountants and investment bankers are the only ones making money off Liberty Media.

On the other hand, Liberty Global (LBTYA), an earlier spin-off from Liberty Media, has decent fundamentals and a simple story. LBTYA operates cable networks in Japan, Europe and South America, and is the largest cable operator outside of the United States. Organic growth and M&A potential is higher in these markets than in the U.S., making the economics superior on basically the same cable plant and product strategy. This makes LBTYA a superior investment idea compared to U.S. cable companies for basically the same valuation multiple.
Until recently, LBTYA traded at a premium to its U.S. peers, but now that the premium has dissipated, if you want to invest in cable, maybe because the investment community is so pessimistic, LBTYA seems like a good alternative. I have been long in my personal account for several years but don't own it for clients.

Surprisingly, I was impressed by the Warner Music (WMG) presentation. Edgar Bronfman had a tight presentation that revealed renewed top-line revenue growth as the absolute dollar decline in physical music sales is now smaller than the absolute dollar increase in digital sales. Digital sales will reach 6% of total sales in 2005, and Bronfman predicts they will rise to 20% in 2008. Separately, I have to believe that the incredibly strong iPod sales that everyone on the Street is noting will accelerate digital sales even more in 1H06. Maybe this could be set up an opportunity for profit if it drives better-than-expected top-line growth at WMG. In general, the Street dislikes WMG, which could also help create a bullish trade.

I was dissatisfied with the explanation that Lions Gate Entertainment (LGF) provided at its presentation for the latest quarterly shortfall. I can accept the argument that free cash flow is the more relevant metric, but the unusually large discrepancy between EBITDA and FCF doesn't make sense to me based on what I know now. A look at the December quarter balance sheet figures for film investment and amortization might help. I believe that 2006 FCF numbers (ending March 2007) have no margin for error. I am still long my small position as I believe the stock is getting a little too depressed in the short term, with movies coming up in January and February that should do OK and rebuild confidence.

Glenn Britt, CEO of Time Warner Cable (owned by Time Warner (TWX)), made a solid presentation during a fireside chat with UBS cable analyst Aryeh Bourkoff. What impressed me the most was Britt's respect for his satellite and RBOC competition. There was no spin, just a confidence that TWC could compete and continue the low-double-digit revenue and cash flow growth for the next several years.

Another refreshing presentation occurred on Wednesday morning when Jim Mooney and Neil Smith spoke on behalf of the soon-to-be-merged NTL (NTLI) and Telewest Global (TLWT). Mooney finally admitted the extent of NTLI's problems in billing and marketing. Even better, he and Smith (currently CFO of TLWT) made it quite clear that the best practices at TLWT that have driven satisfactory subscriber growth, significantly higher ARU and an overall higher quality customer base were going to be implemented at the new company. Even better, the operating team will be composed almost entirely of TLWT management or new hires, with NTLI senior management roles restricted more to finance and executive. Presumably, some of the new hires in strategy and marketing will come from Virgin Mobile as will a new brand.

As I suspected, the market has reacted well so far to the potential Virgin merger. If confidence continues to build, there is plenty of upside as 2008 synergy estimates from costs only could add over $300 million to EBITDA. At just a 5 multiple, that adds close to $15 to the share price. 2008 is far away, but $15 provides nice downside support while waiting.

I really have no capacity to add value on Google (GOOG) but the mere fact the company was a keynote speaker at a media conference is indicative of the disruption the company, and Internet advertising in general, are causing on traditional media. For example, every newspaper company at the conference talked about their Internet businesses and named GOOG as a competitor. I'd just reiterate that of the several billion dollars in incremental revenue put on each year by GOOG and Yahoo! (YHOO), a significant portion is being diverted from traditional media like newspapers, TV, radio and magazines.

I sat in on British Sky Broadcasting (SKY) to gain further insights into the competitive environment in the United Kingdom as it relates to NTL (NTLI). Given the very high likelihood that NTL will complete its merger with Virgin Mobile and rebrand itself and Telewest as Virgin, the competitive landscape is likely to intensify. SKY is the dominant multi-channel TV player with close to 8 million subs, almost one-third of the U.K. households. SKY's customer base has excellent demographics and takes lots of premium services. SKY is a storing competitor but NTLI-TLWT may be able to win football rights, which will hurt SKY's competitive position. SKY most likely will remain successful but I think they will have trouble reaching their growth goals because as the incumbent provider, competiton is taking dead aim at them in much the same way the RBOCs are losing wireline telephony to cable and cable is losing share to satellite in the United States.

I was impressed by the presentation by Grupo Televisa (TV). TV is the dominant media company in Mexico and participates in the U.S. Hispanic market by supplying much of Univsion's most popular programming for a royalty fee of over $100 million per year. TV is poised for a big 2006 due to World Cup soccer and a presidential election in Mexico. The upcoming launch of a new TV network in Spain also appears promising. I doubt that either of these things is new news, however. The company has a very strong balance sheet and has been paying a significant dividend. I definitely plan to complete additional research on TV.

ProSiebenSat.1 Media AG is the biggest TV broadcaster in Germany. The company is in the process of being acquired by Germany's largest publisher, Axel Springer. I attended the presentation to learn more about the German TV market and also to find out if ProSieben intended to expand in Central Europe as its top competitor in Germany, RTL, has done. The answer to the second question is "no." Germany has 35 million households. For comparisons, the U.S. has about 110 million and the U.K. has about 24 million. In Germany, 56% of the households receive cable TV with about 30 channels. Another 39% receive multi-channel TV via satellite and get about 40 channels. The remaining 5% receive their TV over the air through digital terrestrial and receive about 24 channels. Germany is the #2 ad market in Europe at nearly 20 billion euro with TV accounting for a 20% market share. The ad market has been depressed but recovered in the summer and fall on optimism about the German elections. Those elections produced an unexpected mixed result, which has put a damper on the recovery but PreSieben believes growth will remain positive. Pro Sieben expects German GDP to grow around 1%.

McClatchy (MNI) has been one of the top performing newspaper stocks in terms of fundamentals and trades a well deserved premium to the group. However, growth has slowed to at or below industry trends recently leaving MNI shares in a tough spot form an investment perspective. The company used its presentation to defend the industry by noting that newspaper reach is expanding due to the addition of popular websites that attract users unique from those who read the local papers. This may be the case but it does not help the financials yet due to the much lower pricing on the web that even at a higher margin produces less operating profit than the lost print advertising. MNI issued updated guidance that was mixed and slightly below analyst expectations for 4Q05 and 2006. I found MNI's online strategy to be the most well developed and conceptually well thought out relative to its peers excluding papers like the New York Times (NYT) that have a national strategy. Due to the quality of MNI's management and the above-average profile of its markets, it would be a top choice if I reinvested in the newspaper industry. The company is looking closely at Knight Ridder (KRI), but would not make any comments.

Comcast (CMCSK/CMCSA) concluded the conference with a keynote address. The key takeaway is that the telephony rollout has finally accelerated and the company will comfortably meet its longstanding target for over 200,000 new subs by year end. Management projected very strong confidence about meeting its 2006 target of 1 million new telephony subs. Based on prior announcements about telephony sub counts, it is clear there has been sharp acceleration in adds. My thesis on Comcast is that the VOIP rollout will boost basic TV and high speed sub counts as it apparently has at Cablevision (CVC) and Time Warner Cable. I still find Comcast shares very attractive as they are trading at less than seven times forward EBITDA, which should accelerate in 2006.

Day One at UBS: The Big Picture

"It's a real mess." Mark Cranmer, who runs international for the big ad buying firm Starcom MediaVest, is describing where the advertising supported industries are in trying to determine how you value the consumer's audio-visual exposure and how he engages with it.

This is my key takeaway from the first day of the 33rd Annual UBS Media Conference. I spent most of the day listening to panel discussions rather than company presentations hoping to get a big picture view. Mark's comment captures not just the sluggish state of advertising but the confusion that exists in all media. According to Steve King CEO, of Zenith Optimedia, the confusion emanates from the fact that "technology is changing the way consumers interact with media and blurring the distinction between media types." Listening to George Bodenheimer talk about ESPN's investment in broadband and mobile or Rich Boehne of E.W. Scripps chat about the company's growing internet presence, one can’t help but come away thinking that things are really changing. For the time being, the change is disruptive as the visibility of growth in traditional media is reduced. In turn, multiples investors will pay for media stocks are compressing....

My sense is that estimated growth rates for 2006 are still too high across most media companies unless GDP growth is above expectations. King and Robert Coen, the dean of advertising forecasters at Universal McCann are both predicting U.S. ad growth in 2006 up between 5% and 6% against 2005 growth that will settle in the upper 4% range. Last year at this conference both predicted growth in 2005 would be north of 6%. If the 2006 forecasts are correct, it will be another year where advertising as a % of GDP remains stable. Prior to 2000, advertising generally grew as a % of GDP when the economy turned up. This cycle, even including non-search internet advertising, advertising as a % of GDP is stuck at about 2.20%, below the 2000 dot com fueled peak of 2.52%. Keeping in mind that 2006 is an Olympic and political year, I don’t think the forecasts for 2006 are bullish. Furthermore, with internet display and search advertising still stealing market share, traditional media growth is likely to spend another year closer 4%. I just don’t see that enough to drive strong earnings and operating cash flow growth given continued cost pressures related to labor, content creation, and investment in new technologies.

In company news, E.W. Scripps (SSP) lowered its fourth quarter guidance due to weakness at his home shopping network, Shop At Home. This business is one of the only black marks on an otherwise astute management team and my sense from Q&A and some hallway chatter is that 2006 could the year they decided to exit the business after new divisional leadership fully assesses the situation. SSP also provided 2006 guidance which I would categorize as mixed. Revenue growth across most divisions was good but costs are up and I think the result will be the consensus estimate dropping form the current $2.26 more toward $2.15 to $2.20. Shop At Home is a culprit in the 2006 outlook as losses will remain in the $20 million without profitably even in the seasonally strong 4Q.

Lions Gate Entertainment (LGF) dropped over 11% on Monday after the omapny slashed its EBTIDA and net income forecast. Free cash flow guidance was maintained but investors are rightfully concerned that this figure will come under pressure in 2006 and beyond without a pickup in EBITDA growth. LGF blamed a film flop for the Usher movie In The Mix and weak DVD pricing, particularly for library catalogue. I think LGF has downside support due to its acquisition potential but it is hard to see another near-term catalyst until the Diary of a Mad Black Woman sequel in February. LGF is at the conference tomorrow. For now, I plan to hold my remaining small position.

That's all for today's report, I'll try to get another update out tomorrow.