How to Surf through Media Stocks

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Media/Entertainment equity holders largely fared well in 2012, watching their stocks handily outperform the S&P 500. Particularly strong performers were those companies with significant ownership in cable networks that experienced second-half rallies.

The most influential factor in whether shares will remain on an upward course is, of course, advertising outlays. Automakers and dealerships, the most prominent ad spending group, substantially upped its outlays in the third quarter. Accordingly, prospective investors should keep an eye on the expenditure plans of auto firms, as well as others, such as retailers, financial services entities, telecoms, and media conglomerates themselves.

A second important factor to look at when deciding on a specific stock is its asset dispersion; as alluded to before, cable broadcasters are currently realizing strong growth. Metrics such as viewership ratings and film receipts can affect a company’s profitability on a period-to-period basis, also.

Cable ads and affiliate fees

Among the major media consortiums, Viacom (NASDAQ: VIAB) has the largest proportion of ad-dependent cable network revenues. Its MTV, VH1, Nickelodeon, and other properties, collectively the Media Networks, eked out only a small operating profit gain in fiscal 2012, though. In turn, VIAB shares mostly tracked the broader market averages last year. Viacom’s advertising revenues declined 5% in the year, the culprit being ratings declines. Affiliate fee revenue increases helped to offset the decrease, however. Such fees have been key components in the income growth at cable businesses elsewhere across the industry.

For instance, Walt Disney’s (NYSE: DIS) affiliate fee revenue climbed 6% in fiscal 2012, supporting the operating margin. Disney had an exceptional year, with earnings benefiting also from a surge in profits at its Parks and Resorts segment. The shares rose substantially more than the S&P 500 during the year.

Additionally, there are the premium cable networks. Time Warner (NYSE: TWX) reported a 5% boost to advertising revenues in the latest quarter. The owner of HBO and Cinemax, in addition to ad-reliant cable networks and a film business, is generating rising network revenue and profits. But, struggles in its film and publishing businesses are limiting share earnings gains.

Finally, and possibly some of the best-situated for near-term profit advances, are those with almost all of their asset bases consisting of cable networks. For one, Discovery Communications (NASDAQ: DISCA) is seeing rising advertising revenues and distribution revenues (from contract rates and subscription counts) ought to resume an upward trend, with profits to follow. The likely positive trends, including strength in its International operations, appear to be partly priced into the stock. Momentum investors may want to consider DISCA shares.

Another such company is Scripps Networks Interactive. SNI is the owner of the likes of The Food Network and HGTV. Its profits have been increasing rapidly behind higher ad sales and affiliate fee rates. SNI shares were a solid price gainer in 2012 and are worth a look for the near or long term.

Where else to look

In addition to cable, other aspects of an entertainment company that would likely assist an outperformance include the following.

First, owners of traditional TV networks and stations can still be favorable investments, despite their market share losses to cable and the Internet. Broadcast networks bring in healthy cash flows and are thus equipped to repurchase shares or pay out dividends. CBS boasts many of the highest-rated programs on TV, and is also seeing rising revenues from syndication of popular programs. CBS stock may be considered for its near-term upside.

Shares of Sinclair Broadcast Group yield about 4.5%. SBGI is an owner of primarily FOX affiliated stations.  It paid a special dividend of $1.00 a share in December, as well. Be aware that station owners Belo Corp. for another, experience profit surges in Presidential election/Summer Olympics years when their ad demand picks up. As long-term investments, their appeal is restrained by the loss of share, though.

A second catalyst for media earnings is high-grossing theatrical films that typically allow for fluctuations in a studio’s profits from one year to the next. Disney and Time Warner’s box office receipts were particularly good last year, while Viacom’s Paramount had challenges. On the animated front, too, is Dreamworks Animation (NASDAQ: DWA). DWA’s earnings vary year-to-year depending on the film slate. The shares tend toward volatility.

Wrapping it up

The most attractive media investments are not only those with productive asset bases, but the companies with resources to alter their asset mixes for better profitability. Thus, the entertainment giants like Disney and CBS, having relatively strong balance sheets with access to financing are apt to provide decent returns over the long term. This strategy might well entail the continued acquisition of digital and internationally well-placed businesses, in tandem with the shedding of more antiquated properties including traditional radio or printed publishing operations.

dctotal has no positions in the stocks mentioned above. The Motley Fool owns shares of Walt Disney. Motley Fool newsletter services recommend Walt Disney and DreamWorks Animation. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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