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CBS and Viacom to Remerge: Can the Combined Company Make a Breakthrough?

GuruFocus.com

On Aug. 13, CBS Corp. (NYSE:CBS) and Viacom Inc. (NASDAQ:VIAB) announced their definitive agreement to combine in an all-stock merger to create ViacomCBS Inc. The companies currently plan to complete the merger as early as the beginning of December.

With the shockwaves from recent big media mergers such as Disney-Fox and AT&T-Time Warner (NYSE:T) still in effect, prices for both individual stocks have steadily dropped since the news reached investors. Viacom has gone from a high of $30.45 in early August to $21.84 at the end of October, while CBS has gone from a high of $50 in early August to $36.27 at the end of October.


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The merger will push the combined company's U.S. TV viewership share up to 22%, making it the largest television business in the U.S., with predicted annual revenue of $28 billion. This move gives the company a much-needed step up against media rivals Disney (NYSE:DIS) and Comcast (NASDAQ:CMCSA), as well as companies such as Amazon (NASDAQ:AMZN) and Netflix (NASDAQ:NFLX), which are ramping up content production to attract more subscribers.

Perhaps more so than the impending merger, the increasing competition among entertainment streaming companies has helped to drive stock prices down for Viacom and CBS. That being said, there is still a lot of value that CBS, Viacom and the soon-to-be ViacomCBS can offer to investors in the coming years.

Expected changes

The combined company likely will not have many major changes when it comes to operations. Viacom was originally a 2006 spinoff from CBS, so although both companies are major content producers, there is little overlap between them.

CBS offerings feature live sports, news and classic shows such as "Star Trek" and "Mission Impossible." Meanwhile, Viacom holds brand names such as Nickelodeon, MTV and Pluto TV, the largest fully ad-supported streaming service in the U.S. While CBS mainly appeals to sports fans, casual news watchers and fans of older TV shows, Viacom holds more sway among comedy fans, young people and children.

Since the two companies operate mostly in separate sectors of the media sphere, analysts predict that consolidation of operations will result in a maximum of $500 million in cutbacks on spending, with layoffs mainly being limited to administration.

Bob Bakish, the president and CEO of CBS, will be the president and CEO of ViacomCBS, while Joe Ianniello, the president and CEO of Viacom, will serve as chairman and CEO of CBS. According to the terms of the agreement, not much will change in terms of day-to-day administrative operations, even among the higher levels. The new board of directors will consist of Bakish, six independent members from CBS, four independent members from Viacom and two designees from National Amusements, which owns approximately 79% of both companies. National Amusements President Shari Redstone will be appointed chair.

Under the terms of the merger agreement, each Viacom share will convert into 0.59625 of a share of CBS, which is in line with the current stock prices of the companies relative to each other. Thus, existing CBS shareholders will own approximately 60% of the combined company, while existing Viacom shareholders will own approximately 40% on a fully diluted basis.

Value of the combined company

Viacom and CBS estimate that they will produce combined revenue of $28 billion for 2019, and analysts expect revenue to increase to $28.5 billion in 2020 and $29.6 billion in 2021. CBS and Viacom have current market caps of $13.62 billion and $8.89 billion, respectively.

Both companies have a GuruFocus profitability score of 8 out of 10. CBS has a financial strength score of 3 out of 10, while Viacom has a financial strength score of 4 out of 10. The low financial strength scores are mainly due to low cash-debt ratios.

CBS has a price-earnings ratio of 4.46, a price-sales ratio of 0.9 and an operating margin of 19.54%, and Viacom has a price-earnings ratio of 5.35, a price-sales of 0.64 and an operating margin of 21.23%.

According to their Peter Lynch charts, both companies' stock prices have recently plummeted to undervalued territory, which may make them a good buy opportunity as the merger approaches. The charts are shown below, with the top chart being for CBS and the bottom chart being for Viacom.

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Company outlook

The CBS-Viacom merger will provide two things that will boost the company's growth: a doubled market share of TV viewers and a content list that will appeal to a wide range of audiences. The combined company will reach 4.3 billion subscribers globally, with brands spanning many content categories and demographics in 183 countries and 45 languages.

CBS has a three-year revenue growth rate of 13.7%, which has largely been driven by its live sports streaming, All-Access and the uptick in popularity of its older shows. It has a return on capital of 83.96%, beating 86.58% of industry competitors.

On the other hand, Viacom has seen a three-year revenue growth decline of 0.6% as it expands its content and advertising beyond traditional television. One example of this is its recent purchase of the ad-supported online streaming service Pluto TV, indicating that Viacom intends to move in a more ad-supported direction to remain competitive. This approach appears to be working in terms of the company's return on capital, which is currently at a staggering 138.59%.

Both individual companies have posted revenues hovering around the same range from 2008 to present. When combined with their current undervaluation and their potential for a breakthrough in growth after the merger, both CBS and Viacom are worth keeping an eye on.

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Disclosure: Author owns no shares in any of the stocks mentioned.

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This article first appeared on GuruFocus.