New Liberty Media and Qualcomm

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Two transactions have occurred in Northlake client accounts as of this morning. Last week, shares of Qualcomm (QCOM) were purchased as a new investment idea. More on QCOM in a moment. Today, a merger concluded between Liberty Capital (LCAPA) and Liberty Starz (LSTZA). The new Liberty Media will trade as LMCA.
As of this morning, Schwab has converted LCAPA to LMCA on a 1:1 basis as the merger terms dictate. However, the conversion of LSTZA into .88129 LMCA is not yet reflected. It appears that Wall Street’s central depository has not yet completed conversion. I would expected that to happen sometime today. I will post further updates should there be any hangup with the LSTZA conversion.
I think there is at least 30% upside in LMCA over the next 6-12 months, so Northlake will continue to hold the shares in client accounts. The purpose of the merger is to combine the asset rich LCAPA with the cash rich balance sheet and free cash flow of LSTZA. Both stocks have traded at a significant discount to their theoretical value. A simpler corporate structure and an aggressive share repurchase funded by the LSTZA balance sheet and business operations should serve to gradually narrow the discount. Furthermore, the simpler corporate structure should give LMCA more and better options for realizing full value for its vast selection of media assets including stakes in Sirius XM, Live Nation Ticketmaster, and Barnes and Noble.
Qualcomm (QCOM) is a leading semiconductor company producing and licensing products that are used primarily in mobile applications such as smartphones and tablets. QCOM is an excellent way to play the larger trends in mobile broadband without having to pick winners and losers among the gadget manufacturers. QCOM is on virtually every major platform including Apple, Android, Nokia, and Blackberry. The company recently reported better than expected earnings and announced an outlook ahead of analyst estimates. I expect this momentum to continue throughout 2012 during which I think QCOM can reach $70. I do not expect a smooth ride given the volatility normally associated with semiconductor shares but as long as underlying business trends are sustained at least at current levels the value in the shares will ultimately be realized.
The addition of QCOM follows Northlake’s recent purchase of EMC Corporation (EMC). EMC is the world leader in storage solutions. Similar to QCOM, EMC is a winner as adoption of broadband drives demand for access to more and more and more information. EMC’s growth is contingent on internet usage, not on the success of any one of its customers. Both purchases represent a shift away from traditional media toward enablers of the digital media and internet revolution. This is a purposeful choice by Northlake as the digital world is creating uncertainty for traditional media. Better balance in client portfolios between media and technology makes sense.
Disclosure: EMC, QCOM, LMCA, LCAPA, and LSTZA are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, an SEC registered investment advisor. EMC, QCOM, LMCA, LCAPA, LSTZA, and LYV are net long positions in the Entermedia Funds. SIRI is a net short position in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, communications, and related technologies. Steve Birenberg is co-portfolio manager of Entermedia, owns a stake in the Funds’ investment management company, and has personal monies invested in the Funds.

Where I Stand on Media Stocks

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Media stocks finally caught a bid late last week coinciding with the final set of earnings reports from the group. Viacom, AMC Networks, and Disney each reported solid results and indicated current, positive trends remained largely intact. The Street remains very worried about the advertising outlook despite the positive tone of management comments. It seems as though analysts are more skeptical than investors at this point. That is probably because the stocks likely found a level at which the concerns were priced in from the perspective of portfolio managers. Equally encouraging for bulls is that the gains have held so far this week against some Europe related market selling pressure. It is still too soon to say the coast is clear. Only clarity on 2012 advertising and macroeconomics will do that.
Coming out of the quarter, I have greater respect for the concerns about the national TV ad market. I still think the ad market is going to hold at a solid growth rate for 2012 but there is no doubt that advertising has softened somewhat. Where I differ is that I think it is normal softening after the bounce off the cyclical low of 2009 has run its course. The 2011 Upfront marked the culmination of the normalization of the national TV ad market as prices fully caught up to trend. Today, trends are still positive but with upfront prices higher and the economic outlook still uncertain, scatter price premiums and volumes have eased. I see that as normal but others think it is the first sign of trouble.
Given my view, I am sticking with Northlake’s exposure to traditional ad supported media stocks. CBS and Discovery Communications (DISCK) appear to have the best near-term fundamentals so I am making no changes to current positions in these holdings. However, given some uncertainty about the outlook for advertising I have been looking for new ideas away from traditional media. The recent purchase of EMC Corporation (EMC) as outlined in the latest monthly email reflects this shift in focus.
Disclosure: VIA.B, AMCX, DISCK, and CBS are net long positions in the Entermedia Funds. The Entermedia Funds are long/short equity hedge funds focused on media, entertainment, communications, and related technologies. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia’s investment management company, and has personal monies invested in the Funds. EMC, CBS and DISCK are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.

CBS Leads More Solid Media Results

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Given the increased importance of macro issues on the stock market and record high correlations among individual stocks, I am expanding media company earnings analysis this quarter to touch on all companies and major trends, not just Northlake positions.
Media earnings season continues to roll along. The message so far is that media fundamentals are largely intact in the previously bullish zone with the possible exception of cable systems owners. However, something else is obvious. Analysts are skeptical and investors do not care about third quarter results, fourth quarter guidance, or earnings beats and guidance driven by sale of digital rights to the likes of Netflix. All that matters is that media companies, particularly those exposed to advertising, have limited visibility on 2012.
Analysts and investors are obsessing over any sign that advertising has slowed or will slow. Clearly, the extremely robust strength in ad demand and ad pricing has moderated. Ad pricing is still at premiums to prices in May’s upfront. Certainly, that is a bullish barometer. However, premiums are lower than they were a year ago at this time and comparing scatter, or spot, pricing on a year-over-year basis also indicates a deceleration. The fact that scatter pricing seems highly correlated with individual network rating performance is another sign the ad market has cooled.
The Street is clearly worried that low visibility and the uncertain macroeconomic environment will result in an abrupt collapse in the ad market in early 2012. The precedent is 2008/2009 following the Lehman bankruptcy.
I suspect this skepticism is going to continue until either the economy and ad market hold together or fall apart. Media stocks at very reasonable valuations if the bull case wins out. Upside of 20-40% is possible. The bear case is declines of similar magnitude.
We have yet to hear from Liberty Media, Viacom, AMC Networks, and Disney. Those are coming next week. Among those that have reported, I would rate CBS first, Discovery Communications second, News Corporation third, and Comcast fourth in order of attractiveness. Each has good fundamentals, arguably with upside to 2012 earnings estimates. Northlake’s individual stock strategy is to be narrow and focus on the best ideas within media. Thus, clients own CBS and Discovery. But remember, the economic outlook rules and even the best reports will make you little money until the Street is willing to take a bullish look at 2012 advertising.
Here are quick recaps of the latest earnings reports:
News Corporation beat pretty much across the board. Led by Cable Networks, all segments are on a solid footing except for Publishing. The company’s cable nets seem likely to have the highest growth rates and comments on the ad outlook were second most positive to CBS. Share buybacks are providing meaningful support to the stock. The UK scandal is on the back burner for now and seems unlikely to cause significant new problems.
Scripps Interactive (SNI) had a mixed quarter with the key takeaway being lower than expected advertising growth. Most financial measures were largely in line though as cost came in lower than expected. Management “saved” the quarter by affirming full year guidance, implying a strong fourth quarter. Analysts compute that the company needs mid-teens ad growth in 4Q to make the guidance. That seems like a stretch but one month into the quarter management probably has good visibility. Ratings remain inconsistent. Food has recovered but HGTV is still lagging and Travel is encountering its first difficult ratings period since being acquired by SNI.
DirecTV (DTV) had a strong quarter showing that there is still growth for multichannel television if you can gain market share. The free NFL Sunday Ticket promotion for new subs worked very well as gross adds, churn, subscriber acquisition costs, and monthly ARPU all were as good or better than expected. Marketing costs were up but management notes that may be a good investment as the company has 1 million new subs to target for retention a year from now versus the usual 300,000 after the start of football season. Latin America continues to show exceptionally strong growth although there was no blowout above expectations. Share repurchases remain robust.
CBS again crushed estimates due to the combination of high margin Netflix revenue and expense control. The street seems unwilling to pay for the digital revenue for the time being and is skeptical that margins can be maintained. Some of the margin gain is coming from programming which is bucking the trend throughout the industry. There was no change in the usually confident tone of management. 4Q looks very strong and upfront cancellations for 1Q12 are no worse than normal, maybe a little better. If you believe in the economy and ad market in 2012 there is no better place to invest in media than CBS.
Disclosure: CBS and DISCK are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. VIA.B, AMCX, DISCK, CBS, and DTV are net long positions in the Entermedia Funds. The Entermedia Funds are long/short equity hedge funds focused on media, entertainment, communications, and related technologies. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia’s investment management company, and has personal monies invested in the Funds.

Growth and Mid Cap Continue To Be Favored

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There are no changes to Northlake’s Market Cap and Style models for November. Mid Cap and Growth remain the favored themes. As a result, client positions dedicated to these models and currently invested in the S&P 400 Mid Cap (MDY) and the Russell 1000 Growth (IWF) will be maintained for at least another month.
For the last few months I have been expecting the Market Cap model to shift to large cap, reflecting the weak economic outlook. Most of the model’s economic indicators already favor large caps. However, the models also contain interest rate and stock market technical components. These indicators continue to favor riskier small caps leading to an overall balanced model reading that settles on Mid Caps.
Interest rates remain unusually low driven by Federal Reserve policies to support and improve the domestic economy. Low interest rates favor risk-taking and smaller companies with less access to capital. The technical indicators are specifically included to help the timeliness of the models. The huge market rally in October kept these momentum based indicators in the small cap camp. With recent U.S. economic data looking better, I feel OK about sticking with higher risk Mid Cap for another month.
The Style model still favors growth as underlying indicator movement was modest. Strong performance from value stocks (led by financials and commodities) in October’s rally moved the technical indicators from growth to value but this was offset by economic indicators moving in favor of growth. Growth is more valuable in a slowing economy as growth companies have their own earnings drivers and are less dependent on an economic tailwind. I am comfortable with growth as technology is most likely to lead the U.S. out of its economic troubles.
The models put in a solid performance last month, reversing some recent inaccurate signals. Mid Cap rose over 13% in October, ahead of the 10% gain for large cap, as measured by the benchmark S&P 500. Value slightly beat growth, up 11.5% vs. 10.8% but both indices beat the S&P 500. The current Mid Cap signal has been in place since December during which it has lagged the S&P 500 by about 1%. The Growth signal is beginning its fourth month. Thus far, it has done well, producing a return about 1% ahead of value.
Disclosure: MDY and IWF are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, an SEC registered investment advisor.

Discovery Leads Solid Media Earnings But Virgin Media Mixed

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Given the increased importance of macro issues on the stock market and record high correlations among individual stocks, I am expanding media company earnings analysis this quarter to touch on all companies and major trends, not just Northlake positions.
Several important media companies reported earnings since yesterday’s close, kicking off about a dozen reports from the media world this week and next. After the lousy news from Time Warner Cable and Cablevision last week, investors were anxious to learn if a wholesale trend change toward the bears was underway. So far, that is not the case as Discovery Communications (DISCA/DISCK), Comcast (CMCSA/CMCSK), and Time Warner (TWX) affirmed healthy industry trends. DISCK and CMCSK shares are responding well to earnings. TWX is weak but that is due to issues unique to the company (weak ratings at key cable networks). Management commentary on industry trends is constructive.
Comcast met expectations pretty much across the board. This comes as a great relief following back to back misses and poor guidance from TWC and CVC. The only notable weakness in the report was phone subscriber additions. This was a problem area for TWC but Comcast management noted that their promotional push was back to school and stressed video and high speed data. Both those sub numbers looked good.
While Comcast’s results come as some relief, investors are likely to remain on edge with cable and satellite stocks. Comcast is a long-term laggard on cable operations. As a result it has low hanging fruit that is allowing it to sustain mid single digit revenue and EBITDA growth and positive subscriber momentum even as the industry is mature and fully penetrated, feeling pressure from lack of household formation (household counts may actually be reversing), and cord cutting fears rise. DirecTV reports tomorrow, which will help to round out video trends in the near-term. Too soon to call the coast is clear but I think Comcast remains the domestic cable company of choice for investors.
DISCK reported a strong quarter boosted above Street expectations by the recent deal with Netflix. Taking away Netflix, results were pretty much right in line with street estimates and guidance. Guidance for 2011 was upped to reflect the Netflix deal. Critically, domestic advertising trends exceeded guidance, coming in up 11%. Furthermore, management guided to mid-teens growth for the fourth quarter and indicated no cancellations so far of first quarter 2012 upfront commitments. Analysts were still skeptical of advertising trends, which will remain the primary issue for the big entertainment companies that own the leading cable and broadcast TV networks. National TV networks is the primary business of most entertainment conglomerates these days.
TWX was generally constructive on advertising trends even though it reported upper single digit ad growth and guided for the same in the fourth quarter. TWX networks are really struggling with ratings which is hurting ad pricing, particularly for scatter or spot buys. DISCK management indicated that scatter pricing was up 5-20% depending on the ratings of its networks. TWX was talking scatter being up just low single digits. I would not read too much on media fundamentals into TWX dropping almost 3% today. The company is clearly lagging its peers in national TV. However, the drop in TWX shares shows that media investors remain generally scared and skeptical and that presents challenges for the rest of the group.
Virgin Media (VMED) reported mixed results. Gross subscriber additions were excellent but churn rose leaving subscribers more or less in line. ARPU or revenue per sub was also good. VMED i still growing but seems to be spending more to sustain growth as operating profits were light of estimates. In addition, management indicated capital spending was headed higher, another sign of the business economics getting tougher. I think that the Street is being too negative on capex as management seems to be spending on success based capital related to the very well received new Tivo interface. There is also the issue of how much the weak UK economy is at fault such that better economic growth later in 2012 or 2013 will fix the “problem.” I am willing to give VMED the benefit of the doubt for now as valuation reflects a weak outlook and share repurchases remain very aggressive providing good support for the stock and upside if earnings meet expectations in 4Q11 and early 2012.
We will learning a lot more in the next 24 hours. News Corporation reports after the close today. Scripps Interactive and DirecTV report before the open tomorrow and CBS reports after the close tomorrow.
Disclosure: CBS, VMED, and DISCK are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. CVC, CMCSK, DISCK, CBS, VMED, and DTV are net long positions in the Entermedia Funds. The Entermedia Funds are long/short equity hedge funds focused on media, entertainment, communications, and related technologies. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia’s investment management company, and has personal monies invested in the Funds.