How More Media Companies Brave the Headwinds

• BySteve Birenberg, RealMoney Contributor
• On 10:25 am EST, Monday December 15, 2008

On Friday I published Part 1 of this two-part series recapping the UBS Media Conference. The main message coming out of the conference was that advertising continues to deteriorate and that visibility into 2009 is minimal. This means that for most media companies, the risk remains to the downside for earnings estimates.

Part 1 contained positive reviews of Time Warner and Discovery Communications, both of which I am long. Neither company's presentation was earth-shattering, and both indicated that business has slowed further recently, but the bigger picture driving the shares to the top of my media buy list was on display.

I also reviewed Gannett, which remains in a very troubled situation because of the collapse of newspaper industry on a secular basis while cyclical headwinds are blowing at full force.

Today I'll recap presentations by Liberty Global and Scripps Networks Interactive, along with the analyst meeting for Dreamworks Animation that took place Thursday in New York, conveniently for everyone who was in town for the UBS Conference.

Liberty Global is one of the largest cable companies in the world. Its operations are focused primarily on Europe, with a large presence in Japan, Chile and Australia. The stock has gotten killed as the company has fairly high leverage and lots of exposure to the hated Europe, and it is feeling competitive pressures on the subscriber front. I believe this is a bit overdone, partially because investors don't see Liberty Global as a European Comcast with similar defensive characteristics. There is also a lack of appreciation for Liberty's exposure to the even more hated Central and Eastern Europe, where a real growth opportunity exists.

My biggest takeaway from Liberty's presentation was how management refused to comply with conventional wisdom. Instead, it talked about not hoarding cash, continuing to buy back stock and making tuck-in and distressed acquisitions. This is par for the course for an always aggressive management team. It's a gamble if the economy stays down forever, but if a recovery gets under way within a year or two, the stock will be super-leveraged for upside.

Scripps Interactive owns HGTV and Food Network, several other emerging cable networks and a couple of decent online businesses in the comparison-shopping area. I've always liked the company because of its great success at developing HGTV and Food, but none of its follow-on businesses have been able to develop into major winners. That said, SNI is a solid growth stock with 40% of revenue coming from consistent growth areas such as affiliate fees and referrals.

The major networks have been ratings-challenged, and though the exposure to home-related advertising doesn't get enough discussion, it has got to be a problem, given the collapse in residential real estate. This narrowly focused advertising base is why I prefer Discovery Communications to Scripps. Developments to watch include the possibility of Scripps buying the minority interest in Food from Tribune out of bankruptcy at a good price, the emerging financial materiality of the secondary networks DIY and Fine Living and, most importantly, the trends in ratings and advertising. Scripps says that fourth-quarter ad trends are in line with guidance but that first-quarter 2009 will be weaker.

Dreamworks Animation did not present at the UBS Conference but held its first-ever analyst meeting the day after it ended. I bought DWA for the second time this year in early November, anticipating positive catalysts from the debut of Madagascar 2, the DVD release of Kung Fu Panda and the analyst meeting. So far it hasn't worked out too well (-10%), but I believe the analyst meeting is going to help in the near term. The bad news is that DVD sales for Kung Fu Panda are good but not great, and Madagascar 2 is going to come in slightly less than I expected at the U.S. box office after quicker-than-expected start. The good news is that Madagascar 2 is kicking butt overseas, 2009 estimates have upside if the next film, Monsters vs. Aliens, performs decently at the box office, and the company is developing a series of business-line extensions to build earnings power and consistency.

These new businesses were the focus of Dreamworks' analyst meeting, and they include TV series, TV specials, Broadway, 3-D, online virtual worlds, theme parks and live entertainment. It also has initiatives to raise profitability and quality by outsourcing to India and working with Intel. Broadway and TV have the most near-term potential. Shrek the Musical opened yesterday. If it could become a hit similar to The Lion King or Wicked with a successful Broadway run and two or three national touring shows, management estimates upside of $30 million to $50 million in operating income annually.

We'll know soon enough if critics and audiences like the show, but given the mammoth popularity of Shrek, it may be somewhat critic-proof. TV is less risky, as Dreamworks already has a commitment for series to be aired on Nickelodeon and for holiday specials to air on the major broadcast networks. The specials will be based on Madagascar and Monsters vs. Aliens with the hope that they will prove as successful as last year's premiere of Shrek the Halls on ABS.

DWA is trying to morph into a more Disney-like company with creative animation driving multiple revenue streams. Recently, the company has been on a creative role, which sets up 2009 for upside surprise and 2010 for similar when three films will be released, including Shrek 4. In an environment where media stocks are hated because of advertising exposure, DWA stands out as a pure content play. As a result, I believe it is worth owning in a media stock portfolio. The nice pop in the stock (+4%) on Friday after positive reviews on the analyst meeting might be a sign that others will join me in this view.

Buzz up!