Resurgent TV ratings across the parent company's flagship nets will return focus to the fundamentals
The perception of Viacom has improved drastically over the past 18 months, and the second-quarter earnings report this week will likely emphasize that there has been more stability in Viacom’s model than people realized.
(Article by David Bank, Senior Equity Media Analyst, RBC capital markets; Edited by Rachel Abrams)
A year and a half ago, critics said the conglom’s programming had become irrelevant, the company had cannibalized its audience by selling content into online distribution, and kids were watching shows on their iPads instead of on Nickelodeon, which had suffered double-digit ratings declines. To many observers, it appeared that MTV had lost relevance to its key demographic. But all of that may have skewed investors’ perception of Viacom’s health.
While ad revenue may have declined last year, affiliate fees — which are not connected to ratings — have seen steady growth. Stock buybacks show a long-term plan to return capital to shareholders. And as ratings have risen at four out of six of Viacom’s flagship networks, ad revenue has stabilized and will likely continue to improve in the second and coming quarters.
Following a series of quarterly declines, Nick’s ratings were up by 2% among 2- to 11-year-olds for the first quarter of 2013, as the network continued to refocus on its core demographic after last year’s double-digit ratings slump. There have been some sequential ratings improvements at BET, Comedy Central and Nick at Nite. While MTV’s ratings declined in Q1 by 11% among 18- to 34-year-olds, it had shown significant improvement at the end of last year.
Viacom has the most shareholder-friendly capital structure of any of the major media congloms, and has very little debt. The company will likely spend north of $2.5 billion to buy back stock in perpetuity. Viacom is levered around 2.25 times and is taking all of its free cash flow and using it to repurchase stock.
The conglom has bought back more than $6 billion since fiscal year 2011, and it’s on track to buy back another $2.1 billion by the end of fiscal year 2013. It’s a creeping leveraged buyout. In fact, even if Viacom’s networks were a complete disaster ratings-wise, it could still continue on that buyout path.
In 2011, Viacom matched Time Warner to have the largest share repurchases, with 9.4% of the market cap (compared with Disney, CBS, News Corp., Scripps Networks and Discovery). Last year, it beat everyone, again hitting the 9.4% mark. (The average buyback among the other companies was 5.2%.) This year, we expect Viacom to buy back 8.2%, a slightly lower number that still beats the next highest-contender, Scripps, by 1.6%.
That shareholder-friendly trajectory is a different path for Sumner Redstone, who spent more than two decades collecting media assets. Viacom’s executive chairman has been known for his robust appetite for acquisitions. Viacom purchased Blockbuster (which declared bankruptcy in 2010) in 1995, and purchased CBS five years later. Its other assets include Harmonix, the videogame company behind Rock Band; BET; music channel TMF; Comedy Central; and Infinity Broadcasting. By the time Viacom decided to separate from with CBS in 2005, the company’s stock price had stagnated. The need arose to alter its plan for shareholders.
Despite advertising revenues lagging behind a ratings recovery (as is typical), buybacks, as well as affiliate fee growth, should drive earnings in fiscal year 2013 to $4.72 per share, an increase of 12%; and then $5.45 in fiscal year 2014, for north of 15% growth.
While ratings declines at Nickelodeon and MTV may have affected advertising revenue, affiliate fees are a big driver of Viacom’s earnings. As noted earlier, affiliate fees are not related to ratings, a fact that may have gotten lost in the chatter about Nickelodeon’s slumping performance. Affiliate fees are paid to a cable network by the cable distributor on a per-sub basis. That’s why they’re incredibly visible and consistent.
Viacom’s 26 channels — the biggest part of the conglom’s business — comprise a surprisingly large amount of the overall TV audience (Viacom has said that its networks represented about 20% of all viewing on DirecTV, which can be extrapolated to all major MSOs in the U.S.). As long as ratings don’t materially decline, Viacom’s CPMs will increase.
In the depths of Nickelodeon’s ratings weakness in 2012, affiliate fees grew 10.5%. To be fair, a small percentage of that came from digital revenue from the sale of content like “The Daily Show” to Netflix. Ratings began to decline in September 2011, but by the end of the fiscal year, affiliate fees had grown 13% over the previous year. This year, we project that they will grow 9.6%, and expect high single-digit to low double-digit growth in the next couple of years.
Advertising should be able to grow in the mid-single-digits, although we project it will likely be flat in fiscal year 2013. That shows a recovery coinciding with better ratings, as advertising dropped 4.8% in fiscal year 2012. (It was up 9.8% in fiscal year 2011.)
All of these numbers demonstrate that Viacom’s fundamentals are accelerating as Nickelodeon and MTV exit their ratings and content-cycle lows, as well as weak pricing in the 2012 and 2013 upfront markets. This combined with contractual affiliate fee growth, digital monetization and a disciplined cost structure should lead to expanding margins.
FOUNDED IN: 1971
CEO: Philippe Dauman
LOCATION: New York
MARKET CAP: $31.85 billion
2012 REVENUES: $13.89 billion
2012 NET INCOME: $2.35 billion
52-WEEK RANGE: $47.02-$67.29
Disclosure: David Bank, the author of this article, is a research analyst at RBC Capital Market (member FINRA, NYSE, SIPC). This article summarizes or otherwise incorporates material that the author has previously published in research reports dated as of Jan. 8 and April 1, 2013, that were provided to both eligible clients of and internal personnel at RBC Capital Markets. The information contained in this article is current only as of such date(s). Conflicts Disclosures: The analyst(s) responsible for preparing this research report received compensation that is based upon various factors, including total revenues of the member companies of RBC Capital Markets and its affiliates, a portion of which are or have been generated by investment banking activities of the member companies of RBC Capital Markets and its affiliates. RBC Capital Markets makes a market in the securities of News Corp. and may act as principal with regard to sales or purchases of this security. The author is employed by RBC Capital Markets, a securities broker-dealer with principal offices located in New York, USA. Analyst Certification: All of the views expressed in this report accurately reflect the personal views of the analyst(s) about any of the subject securities or issuers. No part of the compensation of the responsible analyst(s) named herein is, or will be, directly or indirectly, related to the specific recommendations or views expressed by the responsible analyst(s) in this report.