Why investors are struggling to value media stocks like ViacomCBS and Discovery
- ViacomCBS and Discovery stocks fell further, a day they dropped more than 13%.
- There are many variables -- a shift to streaming, a flight to quality, GameStop contagion, and multiple expansion -- making valuing legacy media particularly difficult.
Good luck figuring out how to properly value media stocks right now -- investors seem totally confused.
A slew of contradictory variables has made trading legacy media stocks ViacomCBS and Discovery a bit like playing roulette this year.
It's not often investors see decades-old companies worth tens of billions of dollars shedding more than 30% in two days. That's what happened to ViacomCBS on Tuesday and Wednesday, following the company's news that it's planning to raise $3 billion from new stock offerings. Discovery, meanwhile, lost more than 10% on Wednesday.
Both companies continued their slide Thursday, with ViacomCBS closing down more than 5% and Discovery off 6.8%.
The pullback can be traced to ViacomCBS' signal to the market that the company's management believes its equity may be overpriced. Bernstein analyst Todd Juenger said in a note to clients Wednesday he agreed with that assessment.
"It is not new news that we believe ViacomCBS shares are significantly over-priced," Juenger wrote. "We haven't encountered any professional investors defending upside in the stock, since it was trading at about $25."
MoffettNathanson analyst Michael Nathanson was even more blunt.
"We never, ever thought we would see Viacom trading close to $100 per share," Nathanson said. "Obviously, neither did ViacomCBS' management as they appropriately sold $3 billion worth of stock/converts at the elevated levels to help clean up their levered balance sheet and invest more in streaming."
Still, year to date, ViacomCBS is up about 85% and Discovery has risen nearly 100%. The rise in both stocks can be attributed to a cacophony of variables, making investing particularly fraught right now.
Flight to quality
Investors are assuming interest rates will soon rise as the U.S. economy heats up while Americans get vaccinated and return to normal life. So-called value companies with steady revenue, earnings and free cash flow are rising as money shifts away from growthier technology stocks and toward less risky investments.
Cable network companies have long been considered cash cows because Americans pay for cable month after month no matter how the economy is performing. But those days are over as millions of U.S. households cancel pay TV each year for a diet of streaming services. ViacomCBS' 2020 revenue fell 6.8% from a year earlier to $25.2 billion from $27 billion. Discovery's year-over-year revenue fell 4% to $10.7 billion.
While both companies may continue to be treated as "value" stocks, their big gains in 2021 are leading value investors, such as Ariel Investments' Charles Bobrinskoy, to view them as overheated.
"Fundamentally, the stock ran too far," Bobrinskoy said Wednesday of ViacomCBS. "It had gone from 3-times earnings to 22-times earnings. Things come back to Earth."
The streaming multiple shift
The holy grail for all traditional media companies has been to capture a trading multiple more similar to Netflix's by shifting their businesses to streaming video and away from the declining cable bundle. Discovery and ViacomCBS have done so this year, with each announcing a flagship streaming service to generate new growth.
Those streaming strategies, however, are not sufficient to explain the recent stock runs for ViacomCBS and Discovery.
Discovery has already informed investors that Discovery+ surpassed 11 million subscribers last month -- a good start. Still, the jury is still out on if Discovery+ will have a wide audience.
ViacomCBS officially launched Paramount+ earlier this month and hasn't given a subscriber update. While Paramount+ offers a lot of content, there's no way of knowing yet if consumers will pay an extra $5.99 (with ads) or $9.99 (without ads) per month on top of all of the other streaming services already available.
GameStop contagion effect
A more plausible explanation is the GameStop/Reddit effect.
ViacomCBS and Discovery have been heavily shorted companies as investors have been skeptical of both company's long-term prospects in a crowded media landscape with mega-competitors such as Comcast, Netflix, AT&T, Disney, Apple and Amazon -- all of which offer streaming services of their own.
The contagion effect from the recent short squeezes on GameStop and AMC Entertainment (not AMC Networks) led wary investors to cover bets on ViacomCBS, Discovery and AMC Networks.
"What's changed is [ViacomCBS] went from a net short position where there was a squeeze, and not a lot of stock available, and then the company issued a lot of new stock," Bobrinskoy said. "That put a change in the dynamic where there's not the same type of short squeeze."
A balancing act
Every media company is juggling how to balance falling cable bundle revenue with rising streaming subscriptions. Without clarity on exactly how many people will sign up to Paramount+ and Discovery+, it's extremely difficult for investors to know how to value either company.
ViacomCBS agreed last week to spend $2.1 billion each year on NFL rights that will now be available on linear CBS and Paramount+. Calculating how much revenue the company will lose from linear cancellations versus streaming additions is the industry's biggest question mark.
Programmers "who appear to abandon their linear programming obligations by rapidly shifting premium content over to their DTC platforms run the risk of getting dropped by MVPDs and/or suffering lower annual price escalators, especially as it relates to growth in retrans," Nathanson wrote, referring to multichannel video programming distributors.
In English: If media companies move too much content over to their own streaming services too quickly, revenue from pay-TV providers could drop more quickly than investors expect, as those providers push to lower payments for less exclusive or lower quality programming.
On top of everything, there may be some acquisition premium baked in to ViacomCBS and Discovery. Each remains subscale in the broader media landscape, making both companies potential targets for larger players.
With so many unknowns, even professional media investors -- such as former Disney+ head Kevin Mayer, who is now looking for media and entertainment targets of his own via a special purpose acquisition company -- are shrugging their shoulders when it comes to understanding the market.
"The market is skewed in many different ways for many different reasons," Mayer told CNBC earlier this month. "We've got to acknowledge that in any discussion that we have about this."
Disclosure: Comcast is the owner of NBCUniversal, parent company of CNBC.