What's Warren Buffett Watching?
Keith is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Do you suppose Warren Buffett watches much television? Maybe he likes an outdoor show like Deadliest Catch. Perhaps he enjoys Dancing With the Stars. For all I know, he might watch The Bachelorette. After all, Motley Fool editor LouAnn Lofton wrote a best-selling book based on the premise that Warren Buffett invests like a girl. Perhaps he watches TV like a girl, too. Regardless, if he watches television at all it’s probably a safe bet that he does so on DirecTV (NASDAQ: DTV). Buffett announced a $1B stake in the satellite television provider earlier this year.
The same reasons Warren Buffett likes a stock are probably good reasons for the rest of us to like it. Three of the main things Mr. Buffett looks at when investing are a company’s moat, management and margin of safety. I think that DirecTV looks iffy on two of these criteria, though. Let’s take a look.
Picture a medieval castle under attack. The moat, a deep and wide ditch filled with water that surrounds the castle, helps protect the castle from enemies. Today’s companies can have moats also - competitive advantages that protect market share and profitability. But does DirecTV?
On the plus side, DirecTV does have a large subscriber base of nearly 32 million. That number is up over 13% from the prior year. The company regularly scores at the top of industry customer satisfaction surveys. The DirecTV brand is recognized by 95% of U.S. customers.
The capital requirements for entering the satellite broadcasting market also serve as a protective barrier. DirecTV has spent billions on launching satellites and building an infrastructure with extensive coverage of the western hemisphere. The company has also invested in establishing relationships with major programming content providers.
However, this moat is neither deep nor wide. While DirecTV has a large number of subscribers, it continually battles customer churn. Its average monthly churn rate in 2011 was 1.56%, only slightly ahead of its primary satellite competitor DISH Network (NASDAQ: DISH).
Also, while the capital requirements for the industry are certainly high , there are several competitors with deep pocketbooks. Comcast (NASDAQ: CMCSA) and Time Warner (NYSE: TWX) already have cable infrastructures that cover most of the U.S.
Internet broadcasting presents a potentially disruptive element that doesn’t require the level of financial resources to compete. Netflix is viewed as a threat to satellite and cable companies. Google also has the potential to mount a challenge as it attempts to monetize YouTube more effectively.
My take is that Mr. Buffett lowered the bar on requiring a strong moat when he bought DirecTV. The company has been quite successful in capturing market share, but with strong competition and the possibility of future disruptive technologies there doesn’t appear to be a huge protective barrier for DirecTV.
The old horse racing adage “don’t bet on the horse, bet on the jockey” fits well with Warren Buffett’s investing philosophy. He buys companies with strong management and allows them to manage. DirecTV’s CEO, Michael White, appears to fit the Buffett mold.
Mr. White previously served as CEO of Pepsico International and vice-chairman of PepsiCo before joining DirecTV in 2010. He was selected as CEO of DirecTV over several internal candidates. Although he had no television experience, White brought a strong international operations background and marketing expertise.
Bringing Michael White on board appears to have paid off. The company has seen tremendous growth in its Latin American business and has made strides in improving customer experience. DirecTV shares are up 32% since he assumed the helm.
Margin of Safety
Mr. Buffett’s mentor, Benjamin Graham, probably wouldn’t approve of buying DirecTV if he were still alive. The company’s book value isn’t relevant because liabilities exceed assets. The discounted cash flow (DCF) method of valuing the stock wouldn’t bolster the case for DirecTV having a good margin of safety either.
So why would an astute investor like Warren Buffett buy DirecTV shares? One reason could be that the stock’s forward P/E is less than 9, well below the low end of its range over the past five years. My guess is that although Warren Buffett is known as a value investor, he is taking a hard look at growth in the case of DirecTV.
Analysts project annual growth at over 17% per year over the next five years. With a low P/E and solid growth estimates, DirecTV currently trades at a discount of as much as 40% below what it could reach. The U.S. market is maturing, so the company probably won’t see tremendous growth there. Management is speaking more in terms of customer retention than aggressive acquisition going forward.
However, Latin America is booming. Over 70% of the population is under the age of 40. The Latin American economies are growing, pushing more people into the middle class. There is a low penetration rate for pay TV currently. Because of the lack of fixed infrastructures, satellite (and wireless) television and internet services are a good fit.
One out of three ain’t bad
DirectTV is a strong player in its industry, but it plays in an industry with fierce competition. There simply isn’t an impenetrable moat, though. The stock really doesn’t have a significant margin of safety from a purist standpoint either. The one criteria that we can check off as satisfactory is management.
However, I tend to agree with Warren Buffett on DirecTV. The stock is attractively priced considering its potential for growth, especially in Latin America. It will likely hold its own in the U.S. And about which TV show Warren Buffett watches, after he sang and played the ukulele with the cast at Berkshire Hathaway’s annual shareholder meeting, I‘d go with Glee. Warren Buffett has a lot to sing and dance about.
Keith Speights has no positions in the stocks mentioned above. The Motley Fool owns shares of Google and Netflix. Motley Fool newsletter services recommend Google and Netflix. 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.If you have questions about this post or the Fool’s blog network, click here for information.