Time Warner’s (NYSE:TWX) stock has risen substantially during the past few months, partially due to strong share buyback program and the solid outlook as well as strong cash flows from its main lines of business. Is there more room to grow?
We believe so, as our price estimate of $58 for Time Warner stands at a premium of about 25% to the market price. Media stocks have risen in general in the recent months as advertising market shows promise, and the demand for quality content continues to increase due to increasing competition between the pay-TV and alternative video service providers. This trend is positively impacting Time Warner as well. Apart from this, the continued demand for its premium network HBO, and the high dependence on stable cable networks business will ensure future profit growth for the company. We also expect international growth to play a big part.
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High Dependence On Cable Networks – Stable Business
Unlike some other media companies such as News Corp (NASDAQ:NWS) and Disney (NYSE:DIS), Time Warner is relatively more dependent on its cable networks business. This business is more or less stable and relatively less influenced by certain macroeconomic factors that are capable of swinging profits of some other businesses such as broadcasting, publishing, parks and resorts etc. This is due to the fact that a significant proportion of cable networks revenues comes from subscription fees.
With a stable or growing subscriber base and annual increments in fee per subscriber, Time Warner ensures a major portion of its revenue growth is predictable. We estimate that about 55% of Time Warner’s value can be attributed to its regular cable networks such as TNT, TBS, CNN and others. Another 20% comes from its premium network HBO’s U.S. operations.
If we look at the company as a whole, about 66% of its cable networks revenues in 2011 came from subscriptions. To understand the stable nature of subscription fee stream, we can look at how subscribers and fee per subscriber have trended over the course of the past few years. If we look at TNT, its U.S. subscriber base increased from 96.3 million in 2007 to 99.1 million in 2011. During the same period, its fee per subscriber increased from close to 90 cents per month to $1.16 per month. Similar figures also hold for its other cable networks such as TBS and CNN. Even though we believe that the subscriber base will not increase substantially in the future, the continuous rise in fee per subscriber will ensure revenue growth. The annual increase in fee per subscriber is predetermined as a part of multi-year contracts between pay-TV companies and media houses.
There is plenty of opportunity for Time Warner to expand internationally. Even though 30% of Time Warner’s revenues in 2011 came from international markets, they were primarily concentrated in the developed markets of United Kingdom, Canada, Germany, France and Japan.  Only 17% of total revenues came from other international markets including emerging market countries. Emerging markets are a large opportunity given the increasing appetite among the growing middle class for pay-TV services.
By the end of 2011, Time Warner was operating about 70 region-specific versions of its popular networks such as Cartoon Network, Turner Classic Movies, TNT, truTV, Boomerang etc. and 57 other regional networks in more than 200 countries globally. Additionally, Time Warner operates its premium pay-TV network HBO in Central Europe and other parts of the world. The company is expected to continue expanding its international presence banking on the appeal of its content and long-term contracts guaranteeing the revenue growth. Time Warner’s channels have established appeal among several demographics and programming genres. TNT is focused on drama, TBS on comedy, CNN on latest news, Cartoon Network on kids and HBO on recently released or original movies and shows. As a result, these networks are in great demand and ensure good pricing power.
Growth In Licensing
Licensing revenue growth is another area where we expect Time Warner to do well, primarily due to the broader trends of growth in international licensing of shows as well as growth of the online platforms such as Netflix (NASDAQ:NFLX), Amazon Prime (NASDAQ:AMZN), Xfinity Streampix, Hulu and others. In addition to this, Warner Brothers Television Group’s track record of producing quality original shows will help the company grab more money for its licensing deals. For 2011-12 season, Warner Bros. Television Group produced some of the hit TV shows such as The Big Bang Theory, Two and a Half Men, The Vampire Diaries and Gossip Girl.
Risk: Alternative Platforms, Pressure From Pay-TV Companies
Even though alternative platforms such as Netflix, Amazon Prime, Hulu etc. have opened up a new digital licensing stream for the media companies, there is a chance that the increasing popularity of these platforms may lead to stagnant subscriber growth for cable networks. After all, the subscribers’ viewing time is limited and if that gets shifted towards these platforms significantly, they may opt to drop certain channels from their pay-TV packages. Although, most channels are bundled together, pay-TV companies may move towards more personalized programming packages in the future to control costs for the subscribers. Time Warner faces risks especially because of its notable dependence on premium cable network HBO that boasts of new movie releases and original programming. If these two aspects make its way in online streaming services, Time Warner could be at risk as subscribers might find it valuable to drop HBO for which they currently pay a high fee per subscriber of close to $7 per month.
Furthermore, there is pressure from the pay-TV companies over the carriage fee agreements. In order to protect subscribers from price rises, pay-TV companies are pressuring media companies to reduce their proposed fee increases for their channels. This might limit their revenue growth in the future.
Our price estimate for Time Warner stands at $58, implying ale premium of about 25% to the market price.Notes:
- Time Warner’s SEC Filings [↩]