Charter Communications Inc.

Transcription

1 December 12, 2014 Charter Communications Inc. Current Recommendation NEUTRAL Prior Recommendation Underperform Date of Last Change 02/26/2014 Current Price (12/11/14) $ Target Price $ SUMMARY (CHTR-NASDAQ) We reiterate our long-term Neutral recommendation on Charter Communications. The company reported dismal financial results for the third quarter of Unlike most of the cable TV operators, the company improved its Internet and telephony subscribers churn rate year over year in the reported quarter and its average revenue per user also increased 2.0% year over year. Digital penetration rate was 97.7%. We believe that Charter Communications agreement to take over cable TV customers from Comcast will significantly benefit the company over the longterm. Meanwhile, the stock price has soared more than 330% in the last year and is currently trading at the high-end of the 52-week price range. We believe that Charter Communications is fairly valued at this stage. SUMMARY DATA 52-Week High $ Week Low $ One-Year Return (%) Beta 0.63 Average Daily Volume (sh) 701,155 Shares Outstanding (mil) 109 Market Capitalization ($mil) $17,893 Short Interest Ratio (days) 3.23 Institutional Ownership (%) 77 Insider Ownership (%) 2 Annual Cash Dividend $0.00 Dividend Yield (%) Yr. Historical Growth Rates Sales (%) 5.3 Earnings Per Share (%) Dividend (%) using TTM EPS using 2014 Estimate using 2015 Estimate 78.5 Zacks Rank *: Short Term 1 3 months outlook 3 - Hold * Definition / Disclosure on last page Risk Level * Average, Type of Stock Large-Growth Industry Satellite Commu Zacks Industry Rank * 108 out of 267 ZACKS CONSENSUS ESTIMATES Revenue Estimates (In millions of $) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) ,827 A 1,884 A 1,880 A 1,913 A 7,504 A ,917 A 1,972 A 2,118 A 2,148 A 8,155 A ,202 A 2,259 A 2,287 A 2,332 E 9,080 E ,368 E 2,712 E 2,753 E 2,812 E 10,645 E Earnings Per Share Estimates (EPS is operating earnings before non-recurring items, but including employee stock options expenses) Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec) $0.95 A -$0.84 A -$0.87 A -$0.41 A -$3.07 A $0.42 A $0.19 A -$0.68 A $0.31 A -$0.60 A $0.35 A -$0.42 A -$0.49 A -$0.17 E -$1.43 E 2015 $0.10 E $0.61 E $0.58 E $0.80 E $2.09 E Projected EPS Growth - Next 5 Years % 2009 Zacks Investment Research, All Rights reserved S. Riverside Plaza, Chicago IL 60606

2 OVERVIEW Founded in 1999, Charter Communications Inc. is a leading cable MSO (multi service operator) in the U.S. and is headquartered in Stamford, CT. Charter Communications offers triple-play cable video programming, high-speed broadband (Internet) and voice (telephony) services to both residential and commercial customers. The company also provides advanced services such as, video-on-demand, high definition television (HDTV) and digital video recorder (DVR). The products are primarily sold on a subscription basis to its customers. The company offers Charter TV Applications, which enable video customers to search and discover content on various devices, including the iphone, ipad, ipod Touch, and Android-based tablets. Additionally, Charter Communications also sells local advertising on cable networks and the Internet and provides backhaul fiber connectivity to wireless towers. Charter Communications operates through six reportable segments such as: Residential Video (49.3% of total revenue in the first half of 2014): This segment comprises revenues from basic and digital video services provided to the company s residential customers, as well as franchise fees, equipment rental and video installation revenues. Residential Internet (28.1%): This segment offers high-speed broadband Internet services to residential customers. Residential Voice (6.6%): This segment offers telephony services to residential customers. Commercial (10.7%): This segment consists of revenues from services offered to commercial (business enterprises) customers. Advertising (3.3%): This segment generates revenues from commercial advertising customers and programmers. Other (2%): Other revenues consist of home shopping, late payment fees, wire maintenance fees and other miscellaneous revenues. REASONS TO BUY In Apr 2014, Charter Communications and Comcast had reached a strategic cable TV agreement. Last month, Comcast cut a deal with Time Warner Cable to acquire the latter. The merged entity of Comcast and Time Warner Cable will have around 33 million pay-tv subscribers. In order to avoid antitrust restriction, Comcast has decided to divest around 3.9 million Time Warner Cable video subscribers to Charter Communications to maintain its total market share at 30% of the U.S. pay-tv industry. The total deal size stands at approximately $20 billion. The Charter Communications-Comcast deal has been divided into three parts. First, Charter Communications will acquire 1.4 million Time Warner Cable subscribers for $7.3 million in cash after the completion of the Comcast-Time Warner deal. Secondly, approximately 1.6 million existing Charter Communications and Time Warner Cable subscribers will be swapped in a taxefficient exchange to expand the geographic reach of both the entities. The third step will see, Comcast will spin-off another 2.5 million subscribers as a new entity in which Comcast will hold a 67% stake and Charter Communications will acquire the remaining 33%. Following the subscriber takeover, Charter Communication will become the second largest pay-tv operator in the U.S. with around 5.7 million subscribers. We believe that this deal will benefit Charter Communications Equity Research CHTR Page 2

3 significantly as the company will achieve necessary scale to counter competition in the intensely competitive U.S. pay-tv market. At present, Charter Communications has digitalized more than 80% of its total footprint and intends to achieve complete digitalization by the end of this year. The company has introduced its new product suite called Charter Spectrum. This product offers over 200 high-definition (HD) channels, digital picture and interactive programming guide and video-on-demand facility. With this video offering, Charter Communications bundled broadband Internet with a speed of 60 Mbps 100 Mbps and high quality telephony system. In the third quarter, the company added 68,000 new residential customers in comparison to 46,000 in the prior year period. Charter Communications is developing its cloud-based user interface to run on all set-top boxes offering advanced video navigation. The company is also developing Charter TV applications for its video-on-demand content. Additionally, in the last reported quarter, Charter Communications independently certified its new WiFi router to provide wireless services. The company is also close to launching a new set-top box called World Box which promises to offer great entertainment at a low cost. REASONS TO SELL The multi-channel video market in the U.S. is almost saturated. Roughly 87% of the total 114 million TV households in the U.S. are multi-channel TV subscribers. Furthermore, gaining customers from competitors is a difficult task as most pay-tv operators are offers innovative packages. Additionally, penetration of digital video customers is almost nearing saturation in the U.S. with 98.2% in 2013 as compared with 96.6% in Online video streaming service providers such as Netflix Inc., Hulu.com, YouTube etc., have become a severe threat to cable TV operators. Online videos provide an extremely cheap source of TV programming unless the customer is eager to view real-time programs like sporting events. This business model is gaining momentum, especially in volatile economic conditions. Liberty Media, which controls a 27.3% stake in Charter Communications, was aggressively pursuing the idea of Charter Communications taking over Time Warner Cable. However, Charter Communications lost to Comcast in the bid. If Charter Communications fails to acquire the proposed 3.9 million cable TV customers divested by Comcast, it may face severe scalability problem necessary to fight competition. RECENT NEWS Third Quarter of 2014 Financial Results Oct 30, 2014 Charter Communications Q3 Loss Wider than Expected GAAP net loss in the third quarter of 2014 stood at $53 million or 49 cents per share compared with a net loss of $70 million or 68 cents per share in the year-ago period. Quarterly, loss per share of 49 cents was significantly wider than the Zacks Consensus Estimate of a loss of 5 cents. Total revenue in the reported quarter came in at $2,287 million, up 8% year over year but slightly below the Zacks Consensus Estimate of $2,291 million. Segment wise, Video revenues grossed $1,109 million, up 5.9% year over year. Quarterly operating income was $218 million compared with $209 million in the year-ago quarter. Operating margin stood at 9.5% against 9.9% in the prior-year quarter. Third-quarter 2014 adjusted EBITDA (earnings before interest, tax, depreciation and amortization) was $783 million compared with Equity Research CHTR Page 3

4 $732 million in the year-ago quarter. EBITDA margin came in at 34.2% as against 34.6% in the prior-year quarter. During the third quarter of 2014, Charter Communications generated $520 million of cash from operations compared with $538 million in the year-ago quarter. Free cash flow, in the reported quarter was a negative $62 million against $132 million in the third quarter of At the end of the third quarter of 2014, Charter Communications had $10 million of cash and cash equivalents and $17,595 million of outstanding debt compared with $21 million of cash and cash equivalents and $14,181 million of outstanding debt at the end of The debt-to-capitalization ratio, at the end of the reported quarter was 0.99, unchanged from the end of Subscribers Statistics Residential segment: As of Sep 30, 2014, Charter Communications had million video, million Internet and million voice customers. During the reported quarter, the company lost 9,000 video customers but gained 94,000 Internet and 29,000 voice customers. Average revenue per customer relationship was $ compared with $ in the prior-year quarter. Single Play penetration was 38.1%, Double Play penetration was 29.3%, Triple Play penetration was 32.6% and Digital penetration was 97.7%. Commercial Segment: As of Sep 30, 2014, Charter Communications had 139,000 video, 294,000 Internet and 172,000 voice subscribers. During the reported quarter, the company lost 15,000 video customers but added 12,000 Internet and 8,000 voice customers. VALUATION Charter Communications is currently trading at a loss and therefore it is not possible to value the stock on a multiple basis. However, with respect to our 2015 earnings estimate, the stock is trading at 78.5x, a huge premium to both the S&P 500 and to the industry average. We believe that Charter Communications is fairly valued at this stage and will not provide above market gain anytime soon. We therefore, assign a Neutral recommendation to Charter Communications with a target price of $172 based on 78.5x our 2015 earnings estimate. Equity Research CHTR Page 4

5 Key Indicators F1 F2 Est. 5-Yr EPS Gr% P/CF CHARTER COMM-A (CHTR) Yr High 5-Yr Low Industry Average S&P DIRECTV (DTV) EUTELSAT COMMUN (EUTLF) ECHOSTAR CORP (SATS) INTELSAT SA (I) TTM is trailing 12 months; F1 is 2014 and F2 is 2015, CF is operating cash flow P/B Last Qtr. P/B 5-Yr High P/B 5-Yr Low ROE D/E Last Qtr. Div Yield Last Qtr. EV/EBITDA CHARTER COMM-A (CHTR) Industry Average S&P Equity Research CHTR Page 5

6 Earnings Surprise and Estimate Revision History Equity Research CHTR Page 6

7 DISCLOSURES & DEFINITIONS The analysts contributing to this report do not hold any shares of CHTR. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1138 companies covered: Outperform %, Neutral %, Underperform 6.1%. Data is as of midnight on the business day immediately prior to this publication. Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5 th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively. Equity Research CHTR Page 7