Wednesday's Top Upgrades (and Downgrades)
This series, brought to you by Yahoo! Finance, looks at which upgrades and downgrades make sense, and which ones investors should act on. Today, our headlines feature a series of television networks -- CBS (CBS) and Walt Disney (DIS) , owner of ABC, which got new buy ratings from Nomura, and also AMC Networks (AMCX) ... which didn't. Let's start off with the winners.
CBS gets an "A"
Our first new buy rating of the day goes to CBS, which Nomura says is both "the leader in broadcast television" and simultaneously "well equipped to skilfully transition its business to a digital future."
According to StreetInsider.com , which confirmed the new rating, Nomura is picking CBS to "buy" for two primary reasons: "(1) We believe CBS is the best stock in Media to own on the theme of 2014E capital returns, owing to its publicly announced 1H14 IPO of CBS Outdoor; and (2) CBS continues to transition its revenue stream towards recurring monthly affiliate fees and in our view, higher visibility warrants a higher multiple." Reviewing these "highly visible" revenue streams, Nomura sees CBS earning $2.99 per share in fiscal 2013, followed by a 15% bump to $3.45 per share in fiscal 2014. Is that good enough to justify a buy?
I don't think so, and I'll tell you why.
First off, at a valuation of 21.5 times earnings today, CBS doesn't look like much of a bargain on 15% earnings growth. In fact, according to most analysts who follow the stock, CBS might actually fall short of that goal over the long term. (For the next five years, consensus estimates call for annualized earnings growth of less than 14%.) Additionally, even the earnings that CBS does produce aren't all they're cracked up to be. Free cash flow at the company over the past 12 months amounted to just $1.4 billion. Since reported "earnings" sit at the much higher level of $1.8 billion, this suggests the quality of these earnings isn't very high.
Valued on free cash flow, and taking account of the company's debt load, I calculate an enterprise value-to-free cash flow ratio of 31.4 on the stock -- too high by far for 15% profit growth, even if CBS can achieve it.
Real estate inflation at the House of Mouse
A second media conglomerate winning high marks from Nomura is Walt Disney, which the analyst also initiated today at buy. According to Nomura, Disney has demonstrated an "ability to monetize marquee content across businesses," and if CBS is best in broadcast and good in digital, Nomura thinks "Disney is best positioned to manage industry changes that are driven by digital technology."
Nomura's looking for growth at ESPN and Disney's theme parks to drive earnings in the coming year, with dividend payouts and share buybacks providing an additional "tailwind" for the stock. Nomura projects that fiscal 2013 earnings will amount to $3.42 per share, growing 20% to $4.10 this year.
At first glance, this sounds like a much better bull thesis than the one for CBS. On one hand, Disney costs roughly the same as CBS -- 22.1 times earnings. On the other hand, its short-term growth rate is projected to be a good one-third faster than CBS', while most analysts agree that over the next five years Disney will run neck-and-neck with CBS at 13.2% annualized earnings growth. Disney also pays a slightly superior dividend to what CBS pays out, and boasts superior free cash flow -- $6.6 billion over the past 12 months, versus reported income of only $6.1 billion.
Put all of these numbers into a pot and stir well, and what we come up with is a stock whose enterprise value stands at 21.7 times cash profits. That's significantly cheaper than the valuation at CBS. However, it's still too expensive for 13% growth. I'd actually pass on this recommendation as well.
AMCX marks the spot Curiously, the one stock of these three that Nomura does not recommend is the one I like best: AMC Networks. The programmer behind such hits as The Walking Dead and Mad Men doesn't get a buy vote from Nomura (the analyst initiated it today at only "neutral"), but to me, its price looks most attractive of the three.
AMC costs less than 19 times earnings today -- attractive for the stock's 20% long-term earnings growth potential. Similar to what we saw at CBS, free cash flow lags reported income, but only by about 9%, which makes the stock look somewhat less attractive. AMC's lack of a dividend payout and its $1.7 billion net debt load are also strikes against the stock -- and the main reasons I agree with Nomura that it's not yet cheap enough to buy.