Liberty Media: Addressing the Discount

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Liberty Media (LMCA/LMCK) reported an uneventful quarter.  Not much of a surprise given all the restructuring activity in the past six months as the company split into two, separating its 28% stake in Charter Communications into newly formed Liberty Broadband (LBRDA/LBRDK).  Northlake clients now own stock in both classes of stock at both companies.

LMCA/LMCK is comprised primarily of 57% of SiriusXM Satellite Radio (SIRI).  SIRI makes up about 90% of the market cap of LMCA/LMCK.  SIRI had previously reported good 4Q14 results and strong guidance for 2015 propelling its stock to quick gain of 10% early in the year.  LMCA/LMCK have followed are up strongly to begin the year as well.

LMCA/LMCK earnings reports are dull unless the company announces or comments on restructuring activities to try to create further value for shareholders.  The idea behind the split of Liberty Media and Liberty Broadband was that the prior entity was too complex with differing strategies needed at SIRI and Charter.  As a result, the old LMCA/LMCK traded at a meaningful discount to the underlying value of its assets.  Splitting into two companies, each with over 90% of its value tied up in another company, should close the discount.

As it turns out, the discount has not closed and even expanded slightly.  This was the primary topic on LMCA/LMCK’s conference call and something I have been hoping for months that an analyst would ask.  Several di but interestingly CEO Greg Maffei opened his remarks by stating that they were well aware of the expanded discount.  LMCA did buyback a little stock for the first time in several quarters although the amount was small.  Maffei was non-committal about further buybacks or actins to reduce the discount but the fact that he was so aware is quite comforting.

It goes without saying that closing the discount only makes money for LMCA/LMK shareholders if SIRI shares say steady or advance.  I think SIRI can trade to at least $4.50, maybe as high as $%, over the next 12 months based on valuing its free cash flow similar to cable companies.  If that happens, LMCA/LMCK shareholders get both the rise in SIRI and a bonus as the discount at which LMCA trades vs. SIRI closes.  LMCA/LMCK has a long, long history of closing gaps in valuation though financial and strategic actions.

LMCA/LMCK is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake regulatory filings can be found at www.sec.gov.  LMCA/LMCK is a net long position in the Entermedia Funds.  Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies.  Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s investment management company.

 

Comcast Performs Well Again Amid Regulatory Noise

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Comcast (CMCSK) reported another good quarter with mid single digit growth in revenue and operating cash flow and double digit gains in free cash flow.  Leaving aside all the noise around net neutrality regulation and the regulatory review of the Comcast-Time Warner Cable merger, CMCSK is executing very well on a consistent basis.  Investors have noticed as the stock has moved up consistently despite investors being fearful of the FCC’s new regulatory scheme and the arbitrage spread between Comcast and Time Warner suggesting the deal will be blocked.  Or maybe the fact that CMCSK shares continue to perform well means that investors are not worried about the new net neutrality regulations and do not see a lot of upside in the merger from synergies.

We are not trying to be flippant here.  Rather, we make the point that CMCSK is compelling investment under any circumstance.  There are few megacap companies able to consistently grow in the mid-signal digits with double digit free cash flow gains.  CMCSK management has proven it will take the free cash flow and give it back to shareholders in the form of dividends and share buybacks, while at the same time investing heavily in the business.  Comcast gets a lot of bad press for customer service snafus but the reality is that the company has upgraded its network, offers the best user interface, via its X1 set top box, and has the best video on demand platform of any multichannel service provider.  Customers are noticing as the company has actually added cable TV subscribers in this era dominated by cord cutting.  Broadband market share continues to rise and even with very limited price increases average revenue per customer is growing as consumers opt for higher speeds and upgrade to the X1 platform.

We value CMCSK on a sum of the parts basis using EBITDA multiples.  Valuing cable at 7x and the much improved NBC Universal at 10x would put the parts in line with peers and drive the shares to the mid-$60s.  Approval of the Time Warner Cable merger  would add a couple of dollars to the target as would either a successful legal challenge to the new net neutrality regulations or clear precedent that the FCC truly will forbear from rate regulation or unbundling of wired and wireless broadband networks.  Given strong operating and shareholder friendly management, we are willing to be on further upside in CMCSK.

CMCSK is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake regulatory filings can be found at www.sec.gov.  CMCSK is a net long position in the Entermedia Funds.  Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies.  Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s investment management company.

 

Liberty Global Clears the Air to Smoother Flying

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Liberty Global (LBTYK) faced a lot of headwinds in 2014 including slower than expected benefits of the acquisition of Virgin Media in the UK, a lengthy period with no buybacks awaiting the acquisition of Ziggo in the Netherlands, foreign currency weakness (100% of operations are in Europe, Chile, and Puerto Rico), and tough competitive conditions in the Netherlands.  Investors we also concerned with the company’s acquisition strategy toward content following several small deals.  The stock still performed well but only due to gains in the final three months of 2014.  Those gains mostly disappeared early in 2015 as investors became especially worried about the impact of foreign currency following a plunge in the Euro.

Against this backdrop, LBTYK’s 4Q14 and 2015 guidance was reassuring.  4Q14 results largely matched estimates with low to mid-single digit growth in revenue and operating cash flow.  Free cash flow came through strongly, allowing the company to slightly exceed its 2014 guidance for this important metric.  Ion a very encouraging note, Virgin Media finally hit its stride with double digit EBITDA growth as synergies kicked in against good subscriber growth.

Looking ahead to 2015, LBTYK provided reassuring guidance for revenue, EBITDA, and free cash flow growth, especially considering foreign exchange pressures.  Free cash flow received a boost from continued refinancing of the company’s large debt balance, which both lowered interest expense and extended the maturity profile.

Management also announced a large expansion of its footprint in the UK, spending about $4.5 billion over the next 5 years to reach an additional 5 million homes.  This is an unusually large build for cable but management presented a good rationale including some results on initial builds and the fact that almost the entire build out extends to homes within 50 meters of Virgin Media’s current footprint.  Analysts supported the high return on capital analysis offered by the company, and although unmentioned, I think there was some relief that LBTYK would spend money in this fashion rather than another large acquisition in cable systems or especially content.

The UK investment does lower free cash flow over the next five years during the build out, which, in turn, lowers the expectations for share buybacks.  A leveraged equity buyback strategy is LBTYK’s hallmark.  Management reassured on this front by authorizing an additional $2 billion buyback for 2016.

Running the lower free cash flow and share buyback through Northlake’s valuation spreadsheet on LBTYK resulted in surprisingly little impact on our price target.  We still see $57 later in 2015 and mid $60s as investors turn their eyes to 2016.  An even bigger payoff comes in future years assuming the Virgin Media expansion is a success.  We have every reason to believe it will be given our lengthy experience with LBTYK’s management team.  LBTYK remains one of the few large cap stocks where we can legitimately model a doubling of the share price over a 3-5 year period.

LBTYK is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake regulatory filings can be found at www.sec.gov.  LBTYK is a net long position in the Entermedia Funds.  Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies.  Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s investment management company.

 

Patience Paying Off at CBS

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CBS reported fourth quarter results largely in line with analyst estimates.  After a tough year in 2014 when operating income fell and estimates declined steadily, reporting results merely as expected provided a sense of relief.  Furthermore, management commentary on 2015 trends was confident and a little more positive than investors were anticipating.  All of this added up to a relief rally in the stock, extending early 2015 gains, and recouping quite a bit of 2014’s -13% decline in the shares.

Large TV network owners are facing many challenges as viewers spend more time with on demand viewing and increasingly popular over the top options like Netflix and Amazon Prime.  There is also a lot of fear about households cutting the cord for pay TV or shrinking their programming packages from the cable and satellite and companies.  Investors are particularly concerned about longer term trends as millennials may be “cord nevers” unlike prior generations who ultimately purchased pay TV subscriptions as they established households and families.  Taken together, the fear is lower ratings and fewer households paying affiliate or retransmission fees via their multichannel TV provider.

CBS is one of the best positioned companies to deal with and thrive in the changing TV landscape.  First, the management team, led by Les Moonves, is one of the best in the business, balancing creative expertise, corporate strategy, financial discipline, and shareholder friendliness.  Second, the broadcast TV business is less pressured by the evolving TV landscape than cable networks and CBS is almost dominated by its flagship CBS Network.  Third, the company has leading OTT option in its premium pay TV network, Showtime.  Much has been made of the rivalry between HBO and Netflix and the shareholder value each has created.  Showtime is a legitimate rival to both has been gaining share of TV viewing with many popular programs.  Finally, CBS produces a lot of content for the CBS Network and Showtime.  While the TV economic model may be fraying, one area that is growing rapidly and contributing to the challenges is a massive increase in TV content production.  CBS has recognized this for years and is a leader in creating TV content and monetizing it in traditional and emerging distribution channels.  Part of the reason CBS operating income fell in 2014 was a large increased investment in programming.  Management has proven its ability create shareholder value by investment in programming. CBS’s pipeline is being filled nicely in 2014 and 2015, setting the stage for a resumption of growth in 2016.  In the meantime, aggressive share repurchase continues, supporting EPS growth and the stock price

At a P-E of under 14, CBS shares look particularly cheap on 2016 estimates when programming investments, share repurchases, political advertising, and broadcast of the Super Bowl should lead to renewed growth in operating income and a surge in earnings per share growth.  For 2015, stabilizing estimates, a modest improvement in advertising trends, and still poor investor sentiment provide support for the shares.  CBS shares can work back to the mid-$60s over the next 6 months and higher if as we expect confidence builds in the 2016 outlook.

CBS is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake regulatory filings can be found at www.sec.gov.  CBS is a net long position in the Entermedia Funds.  Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies.  Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s investment management company.

 

 

 

Activision Blizzard: Fewer Worries Equals Blue Skies

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Activision Blizzard (ATVI) reported slightly better than expected holiday quarter results driven by good sell through of next generation video games.  Along with reported results from competing video game publishers, it appears that the better than expected sales of new video game consoles in 2013 and 2014 are now driving sales of software.  The game cycle lags the console cycle as core gamers initially spend money on hardware, likely reducing the budget available for software for at least several months.  For ATVI, there was added relief in the sales of the latest game in the Call of Duty franchise.  Despite concerns, sales at least met expectations and strongly suggest the franchise remains in good shape.

As important to ATVI shares as the results was the guidance for 2015.  Guidance fell short, mainly due to foreign currency.  The stock sold off 7-8% in after-market trading but recovered all the losses and then a little the next day.  Investors seemed to find the guidance conservative and were pleased that the company announced a $750 million share repurchase.  The guidance did exclude a couple of games, including a brand new game and Call of Duty online.

The share repurchase announcement coincided the Vivendi filing to sell their remaining shares in ATVI.  Vivendi’s stake is worth about $850 million at current prices.  Removing this overhang is a positive and one of the pillars of our bull case is that ATVI would buyback a significant portion of the Vivendi stake, boosting earnings per share and signaling management confidence in the outlook.  Thus far, no announcement about timing of the Vivendi sale or ATVI’s possible purchase of part (or all?) of the stake has been made.

Honestly, we hoped for better guidance and are a little surprised and relived that the shares have responded positively.  Regardless of our view, the action in the shares is a very good sign and clears space for the stock to catch up to the giant moves in Electronic Arts and Take Two Interactive shares.  Sometimes all it takes for a stock to act well is removal of some investor concerns.  In ATVI’s case, worries were everywhere with 2015 guidance, Call of Duty sales, and the Vivendi sale paramount.  Northlake saw these worries as opportunity because ATVI’s valuation was depressed relative to its peers and the broader software cycle should be a rising tide that lifts all boats..  Now that worries are in the rear view mirror, ATVI shares can reach our original $24 goal and upper $20s is reasonable if the guidance proves conservative as we expect.

ATVI is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake regulatory filings can be found at www.sec.gov.  ATVI is a net long position in the Entermedia Funds.  Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies.  Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s General Partners.

 

Disney: Firing On All Cylinders

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Disney (DIS) reported another excellent quarter, easily beating Wall Street estimates for revenues and earnings per share.  Especially impressive was the broad-based strength in the results, as every segment beat estimates on revenue and operating income.

Two things come to mind when reviewing DIS latest results.  First, in general, stocks tend to do well when earnings estimates are rising.  With EPS coming in at $1.27 against expectations of $1.07 and strength across all business segments, estimates for 2015 and 2016 are rising.  Second, one of the ore insightful analysts we know who follows DIS did some interesting work in 2014 reviewing prior periods where DIS got on a roll with successful film and TV content.  The work showed that when DIS was consistently producing popular content, earnings surprises tended to be large and persistent.  With Frozen and Marvel films proving hugely popular and likely extremely popular Star Wars, Avengers, and Pixar films coming in 2015, the DIS content engine seems primed for continued superior performance.  DIS has a unique business model that monetizes popular content across all of its divisions, leaving the company well-positioned for another couple of years of excellent earnings growth.

Other positive catalysts for DIS over the next year or two include opening of the Shanghai Disney theme park, continued margin expansion at the domestic theme parks, and an easing of sports rights cost increases at ESPN,

DIS shares typically trade at a premium to the market given the positive perception of the company’s brands, generally good financial performance, and the more stable earnings profile compared to more cyclical media companies.  We are adjusting our target higher to 20 times highly visibleFY16 EPS of $5.50.  This equates to $110.

DIS is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.  DIS is a net long position in the Entermedia Funds.  Steve is portfolio manager and managing partner of Entermedia, long/short equity hedge funds focused on media, entertainment, leisure, communications, and related technologies.

 

 

Apple and Google: Stocks Respond Positively for Different Reasons

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Apple and Google reported earnings last week and each stock responded very positively.  This was an interesting outcome given that Apple’s results were well ahead of expectations, while Google fell a little short of Wall street estimates.  Media Tlak has often noted how expectations and sentiment drive a stock’s immediate reaction to earnings.  Read on to get Northlake’s latest views on Apple and Google and gain a better understanding of the latest results and stock price action.

Apple reported a strong quarter, driven mainly by iPhone sales that were well above elevated expectations. More importantly, guidance for next quarter was at least as good as Wall Street expectations even though the iWatch will not ship until the following quarter. The combination of strong earnings and in-line guidance suggests that the powerful iPhone 6/6+ upgrade cycle may extend longer than originally anticipated. Additionally, Apple announced that many iPhone sales were made to customers who either switched from Android or were new to Apple. This implies continuing strength in the upgrade cycle when Apple releases the “S” versions of the iPhone 6/6+. These strong operating results give us confidence in our updated price target of $130 for AAPL.

Apple’s other segments also continue to look promising. Mac sales were strong again, offsetting recent weakness in iPad sales. It appears that iPad results may be stabilizing some as well. Early adoption of Apple Pay looks promising as well. In conjunction with digital sales from the App Store and iTunes, Apple looks to be building another highly profitable revenue streams in addition to the iPhone.

Google’s fourth quarter 2014 earnings saw financial and operating metrics below Wall Street estimates but better than the negative fears held by many following poor performance of Google stock over the last several months. Financial metrics were better than they first appeared, as the company identified material one-time expenses that were the primary cause of earnings coming in below expectations. Within operating metrics, there were some silver linings. On Google’s own sites, the volume of search was stable at high growth, while pricing continued its very slow improvement.

The valuation on the stock still appears low with upside to our target of $650. However, Google needs to report a clean quarter in-line with or ahead of expectations to meaningfully improve investor sentiment. Also, it would be very beneficial to the stock price if the company decided to return some of the excess cash balance of $86/share to shareholders through a dividend or share repurchase program, much as Apple did when investor sentiment was poor and management conviction in the health and growth profile of the company was strong.

AAPL, GOOG, and GOOGL are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.  AAPL, GOOG, and GOOGL  are net long positions in the Entermedia Funds.  Steve is portfolio manager and managing partner of Entermedia, long/short equity hedge funds focused on media, entertainment, leisure, communications, and related technologies.

Mid Cap and Large Cap Growth Remain in Favor

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There are no changes to the recommendations from Northlake’ Market Cap and Style models for February.  Mid Cap and Large Cap Growth remain the favored themes.  As a result, client positions following Northlake’s models will remain invested in the S&P 400 Mid Cap (MDY) and the Russell 1000 Growth (IWF) for at least another month.

Underlying movement was in the direction of large cap and growth, suggesting the possibility that the Mid Cap signal could shift to Large Cap next month.  This possibility plus the even stronger growth signal makes it unlikely that the Large Cap Growth signal from the Style model shifts for March.

Within the Market Cap model, the shift toward large cap was concentrated in the internal composite.  Specifically, the weak stock market in January was accompanied by deterioration in breadth (# of advancing vs. # of declining stocks) that led the Stocks Above 50-Day Moving Average and Percent of New Highs indicators to shift to large cap signals.

The Style model saw two indicators move from value to growth, while just one went in the other direction.  January’s market decline as driven by worries over the collapse in oil prices and unusual volatility in foreign currencies accompanied by strength in the U.S. dollar.  This led investors to question the sustainability of global economic growth and whether the U.S. economy could continue its solid growth path if international economies weaken.  This mixture of events favors growth stocks, which are viewed as less cyclical and economically sensitive than value stocks.

The updated Market Cap and Style models have been in use for two months and so far the signals have been accurate.  Large Cap Growth has produced a small gain, while all of the value alternatives are in the red.  All three Market Cap options are down since December 1st but Mid Cap has held up best, declining less than 1% against a drop of more than 3% for the benchmark S&P 500.  Model holding periods average four to six months, so it is early to judge the latest signals, but we are pleased that the revised models are off to a good start.

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, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.