The reality that the television industry can be one of the most profitable businesses is nothing new. However, properly managing a media conglomerate is more difficult than it appears and only few sharks can swim in that ocean.
CBS Corporation (CBS) is one of these big fishes. With a combination of radio, outdoor advertising, and the television entertainment segment as its crown jewel, this company has successfully managed the economic recession and losses caused by the strong drop in advertising in 2009, resurging today as one of the most profitable investments in the industry. In fact, investment gurus Steven Cohen (Trades, Portfolio) and Lee Ainslie (Trades, Portfolio) placed their bets on the media giant last quarter, due to the positive outlook for 2014.
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Benefits All Around
When CBS spun off its cable networks and movie studios to Viacom Inc. (VIAB) in 2006, many were uncertain if this was a good move. Now we know it was, since it allowed management to focus on their national broadcasting network and production studios. In fact, the CBS broadcast network remains one of the largest platforms for original programming in the world, generating top of the charts ratings throughout the past decade, and offering content creators a solid platform for selling their TV shows. In fact, the company competes against Comcast Corporation (CMCSA)'s NBC Universal, The Walt Disney Company (DIS)'s ABC, Time Warner Inc. (TWX)'s TBS and TNT, and News Corp (NWSA)'s Fox for original programming in the broadcast segment. However, many of the programs owned by CBS tend to end up on cable networks (like TNT, TBS and USA), so the firm also benefits from the growth of these businesses.
An interesting fact is that the mature and serialized content channel Showtime has become the company's fastest-growing business line over the past five years. The investments in original programming have resulted in hit shows like "Homeland" and "Nurse Jackie," but the channel still lacks the international distribution of rival HBO. However, the firm benefits from higher advertising rates than cable networks, since its potential audience includes the 10% of households without pay TV. Furthermore, while CBS is subdued to higher cost pressures as it invests in wholly owning its content, the recent boost in retransmission fees is expected to increase operating margins to an average 23.6% (versus 2013's 21.3%) over the next five years.
The cost-cutting program initiated in 2008 and recently implemented share buyback program have contributed significantly to CBS's annual and quarterly financial results. With free cash flow up 13% from 2012 (now $1.8 billion), the firm returned $2.5 billion to shareholders via dividends and a 3.5% buyback rate throughout fiscal 2013. Moreover, this plan will continue, leading to $2 billion share repurchases during first quarter 2014. Also, last quarter showed impressive growth in the company's non-advertising sales segment, marking an overall 6% growth rate compared to the previous year. Therefore, projections for average annual top-line growth of 4.5% until 2017 seem accurate, with the cable networks (6%) as main catalysts.
Furthermore, CBS' EBITDA growth sported a healthy 20.7% rate, with revenues growing at an above average 8.10% and EPS of $3.01 up substantially from 2012's $2.39. Also, returns on equity of 18.85% and a net margin of 12.29% are more than healthy metrics, leading me to feel very confident about this media giant's long term profitability. Some might consider the stock's current trading price of 22.0x trailing earnings overvalued compared to the industry average of 19.2x, but it seems appropriate in my opinion, considering the benefits investors may reap from buying shares.
Disclosure: Patricio Kehoe hold no position in any stocks mentioned.This article first appeared on GuruFocus.
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