The Cable TV industry offers various pay-TV, high-speed data, phone, and broadband services, nationwide. These services also span other parts of the globe through satellite operations, specifically, Latin America – a pocket of high growth, yet high customer turnover.
While the industry may seem fairly competitive, the majority of pressures stem from external sources looking to take market share, such as telecom companies, who offer television and internet services, as well as internet-based video streaming services. The latter has come to the forefront recently, as some consumers have begun to cut the proverbial cord, in lieu of unenticing channel bundling and increased package premiums. To dissuade customers from switching services, cable and satellite companies are focusing on further developing their wireless network capabilities for mobile viewing, alongside supporting greater individuality among program selection through on-demand platforms. A more personable approach to programming will probably take shape further out.
Still, much of the industry’s core operations (pay-TV and broadband) continue to prove effective, churning out strong financial performances, year after year, most notably in the form of earnings growth and elevated operating margins. To that end, companies in the space have built up their balance sheets by generating substantial amounts of free cash flow. That added flexibility from stable cash flow growth is likely one of the main reasons for the industry’s general survival and success of late. Indeed, strong cash positions will be vital, going forward, to keep pace with the evolving entertainment landscape. Two companies that we see most fit to maintain a high level of cash production over the coming years are Comcast Corp. (CMCSA) and DIRECTV (DTV).
Comcast Corp. is the nation’s largest cable TV provider, with over 21 million video subscribers, 20 million Internet subscribers, and 10 million phone customers. Additionally, the company is now the sole owner of NBCUniversal, after acquiring the outstanding 49% equity interest held by General Electric in 2013. In total, NBCUniversal comprised nearly 37% of 2013 revenues. Comcast serves the majority of the United States, with the exception of the Midwest. Much of its footprint, however, is concentrated in large cities along the east and west coasts, namely New York City, Boston, Washington DC, Seattle, and San Francisco, to name a few.
Comcast has been a cash-generating giant over the past few years, even with relatively higher-than-normal capital spending. The company’s annualized cash flow growth rate for the last 5 years was a stellar 17%, well above the industry average of 11.5%. Looking forward, we expect cash flows to increase at a reasonable clip of 8.5%, on an annual basis. This outlook is further supported by our favorable share-net projections of $2.80 and $3.35 in 2014 and 2015, respectively. Although the company is somewhat leveraged (47% of capital), interest payments and debt reduction should not be a concern.
In fact, Comcast has put its abundant cash to good use, recently closing the acquisition of cable TV rival, Time Warner Cable (TWC). The all-stock deal, still awaiting shareholder and regulatory approval, is worth approximately $45 billion. Comcast was the preferred buyer for Time Warner, as opposed to Charter Communications (CHTR), which was unable to meet the price requirement. All in all, the deal is expected to close within the year, providing an abundance of synergies, ranging from a wider subscriber footprint to significant costs savings.
On the programming front, Comcast has taken a contrary perspective in its dealings with Internet-based streaming service, Netflix (NFLX), offering the use of its broadband network in return for an elevated payment price for usage. This ought to provide a financial benefit to Comcast, granted subscribers do not directly substitute Netflix for Comcast’s services.
DIRECTV operates through two geographic segments, DIRECTV U.S., which represents 77% of revenues, as of 2013, and DIRECTV Latin America, 23%. The satellite-based pay-TV service provider has more than 20 million subscribers in the U.S. and approximately 18 million LATAM subscribers, through its full ownership of PanAmericana and partial interest in Sky Brazil and Sky Mexico. Although, customer growth in the Latin American region is usually more volatile compared to the relatively stable U.S. The company provides a plethora of services, including hundreds of digital-quality channels, video-on-demand, digital video recorders for instant viewing, and mobile applications for viewing outside the home on accessible devices. In addition, DTV delivers customers access to premium sports programming, such as the NFL Sunday Ticket package.
The company’s financials have stood out of late. It ended 2013 with record top- and bottom-line results of $31.8 billion and $5.19 a share, respectively, and we do not think DTV will take its foot off the pedal anytime soon. Indeed, our bullish earnings forecasts of $6.25 a share in 2014 and $6.90 a share in 2015 paint a pretty picture for the next few years. In conjunction with solid net income growth, cash flow generation should follow suit. All told, we look for annual cash flow expansion of 11.5% over the pull to 2017-2019.
True, good free cash flow generation should clear a nice path for share repurchases to persist, new product and network upgrades to emerge, or potential acquisition activity to commence. The idea of a merger between DISH Network and DTV, the two largest satellite players, has resurfaced, amidst the Comcast/Time Warner deal. Although there have been no formal statements made by either party, the concept has not been dismissed, either. Nevertheless, DIRECTV’s solid cash flow generation should provide flexibility to pursue value-adding strategic opportunities, further out.
At the time of this article’s writing, the author did not hold positions in any of the companies mentioned