January 16, 2015 Viacom Inc. Current Recommendation Prior Recommendation Outperform Date of Last Change 08/10/2010 Current Price (01/15/15) $66.48 Target Price $70.00 NEUTRAL SUMMARY (VIAB-NASDAQ) Viacom reported impressive financial results in the fourth quarter of fiscal 2014 with both the top and the bottom line surpassing the Zacks Consensus Estimate. We believe that Viacom is well positioned for long-term growth as it continues to benefit from its predominant cable networks-based business model, strong affiliate fee revenue growth, increased number of share repurchase plans, multi-platform content, and is one of the fastest growing traditional ad media. We also believe that aggressive share buyback plans undertaken by the company will boost shareholders wealth. However, rising distribution expenses coupled with stiff competition from other media companies remain a concern. We, thus, reiterate our Neutral recommendation on Viacom. SUMMARY DATA 52-Week High $89.76 52-Week Low $65.73 One-Year Return (%) -19.75 Beta 1.08 Average Daily Volume (sh) 3,094,797 Shares Outstanding (mil) 410 Market Capitalization ($mil) $27,257 Short Interest Ratio (days) 2.92 Institutional Ownership (%) 78 Insider Ownership (%) 1 Annual Cash Dividend $1.32 Dividend Yield (%) 1.99 5-Yr. Historical Growth Rates Sales (%) -0.2 Earnings Per Share (%) 16.8 Dividend (%) 19.6 using TTM EPS 12.3 using 2015 Estimate 11.2 using 2016 Estimate 9.8 Zacks Rank *: Short Term 1 3 months outlook 4 - Sell * Definition / Disclosure on last page Risk Level * Below Average Type of Stock Large-Growth Industry Media Conglmrts Zacks Industry Rank * 217 out of 267 ZACKS CONSENSUS ESTIMATES Revenue Estimates (In millions of $) Q1 Q2 Q3 Q4 Year (Dec) (Mar) (Jun) (Sep) (Sep) 2013 3,314 A 3,135 A 3,693 A 3,652 A 13,794 A 2014 3,197 A 3,174 A 3,421 A 3,991 A 13,783 A 2015 3,431 E 3,378 E 3,618 E 3,919 E 14,346 E 2016 3,618 E 3,555 E 3,834 E 4,093 E 15,100 E Earnings Per Share Estimates (EPS is operating earnings before non-recurring items, but including employee stock options expenses) Q1 Q2 Q3 Q4 Year (Dec) (Mar) (Jun) (Sep) (Sep) 2013 $0.91 A $0.96 A $1.29 A $1.55 A $4.71 A 2014 $1.20 A $1.08 A $1.42 A $1.71 A $5.41 A 2015 $1.31 E $1.19 E $1.61 E $1.84 E $5.95 E 2016 $1.58 E $1.40 E $1.86 E $1.94 E $6.78 E Projected EPS Growth - Next 5 Years % 11 2015 Zacks Investment Research, All Rights reserved. www.zacks.com 10 S. Riverside Plaza, Chicago IL 60606
OVERVIEW Based in New York, Viacom Inc. (VIAB) is a leading entertainment content company that operates primarily in the U.S. and Europe. The company offers many of the world s best known entertainment brands through television, motion picture, Internet, mobile and video game platforms. Thes include MTV: Music Television, MTV2, VH1, VH1 Classic, CMT: Country Music Television, Logo, Nickelodeon, Nick at Nite, Nick Jr., Teenick, COMEDY CENTRAL, Spike TV, TV Land, BET, Rock Band, mtvu, MTV Tr3s, Nicktoons, AddictingGames, Atom, Neopets, Shockwave, Paramount Pictures, Paramount Vantage, Paramount Classics, MTV Films, and Nickelodeon Movies. Viacom is a global leader in the creation, promotion and distribution of entertainment, news, sports, and music programs. Viacom reports in two business segments as follows: Media Networks: This segment offers program services, websites and other digital media services in the U.S and abroad, and generates revenues principally from three sources: (i) the sale of advertising time on its program services and digital properties; (ii) the receipt of affiliate fees from cable television operators, direct-to-home satellite operators, mobile networks, and other content distributors; and (iii) ancillary revenues, which include the creation and publishing of music video games and other interactive products, home entertainment sales of its programming, the licensing of the company s content to third parties, and the licensing of its brands and properties for consumer products. The segment accounted for roughly 74% of the total revenue in fiscal 2014. Filmed Entertainment: This segment produces, finances, and distributes motion pictures and other entertainment content. The segment generates worldwide revenues, mainly from: (i) the theatrical release of motion pictures; (ii) home entertainment, including sales of DVDs and other products relating to the company-released motion pictures, and certain other programming; and (iii) license fees paid worldwide by third parties for exhibition rights on various media. The segment generated around 31% of the total revenue in fiscal 2014. The company s fiscal year ends on September 30 every year. REASONS TO BUY Viacom benefits from a well-balanced asset mix with entertainment content at its core. The company enhanced its brands worldwide through the creation and acquisition of hit programming, new channels, successful motion pictures, and other forms of entertainment, including video game offerings. Recently,An improving U.S. economy together with Viacom s competent management team, continue to make us optimistic about the company s future prospects. In the fourth quarter of fiscal 2014, the company s Media Networks segment performed impressively mainly buoyed by strong advertising revenues. On a year-over-year basis, domestic and worldwide advertising revenues surged 1% and 2%, respectively. We believe that Viacom is well positioned for long-term growth as it continues to benefit from its predominant cable networks-based business model, hit movie releases, and monetization of content from multiple distribution platforms. Earlier, Viacom settled its legal dispute concerning YouTube with Google. In 2007, Viacom filed a $1 billion lawsuit against Google, accusing its subsidiary, YouTube, of allowing users to upload video Equity Research VIAB Page 2
clips of popular television shows of Viacom without its authorization and thereby violating copyrights.hence, we believe that the mutual settlement of the long-standing dispute has contributed substantial cash to the company s liquidity. Recently, Paramount Pictures and Google struck a multiplatform deal to promote Christopher Nolan s film Interstellar. Post the extension of its multiplatform deal with Time Warner Cable, Viacom renewed its carriage agreement with Frontier Communications. This agreement opens up significant scope for Viacom to distribute 27 channels on Frontier Communications network. Recently, Viacom also renewed its network agreement with Verizon FiOS TV. Earlier, the company also renewed its TV channel agreement with DIRECTV for seven years. The deal generated a significant 20% rate hike for the company. Viacom is expected to receive more than $600 million over the seven-year agreement term. Higher usage of smartphones and tablets has helped the company to adopt TVEverywhere service offering. Earlier, the company also entered into a new content-sharing agreement with Sony. Per the deal, Viacom will allow Sony to stream its 22 channels on the Internet through its TVs, game consoles and Blu-ray players. Viacom is also offering video-on-demand websites to AT&T s U-Verse customers, Time Warner Cable, and DIRECTV subscribers. Viacom is thus creating a strong brand value for its TVEverywhere service. At present, the company is targeting international markets through the launch of the MTV network in Russia and Brazil while initiating the Paramount Channel broadcast in France, Russia and Hungary. In most of its markets, Viacom gained significant rating improvements. Apart from renewing its agreement with Netflix, the company signed a deal with LoveFilm, in the U.K. and Germany. Paramount Picture is also preparing to launch its own animation film studio. Following such developments, domestic and worldwide affiliate fee revenues grew 21% and 22%, respectively, on a year-over-year basis. In addition, the company saw significant success with the recently released blockbuster movie franchise Transformers 4 which garnered over $1 billion and was also the first Hollywood flick to generate the highest business in China. Based on the success of Transformer and other hit movie releases, Global Theatrical revenues increased an astounding 226% in the reported quarter as against the last-year quarter. Even, Home Entertainment business soared with the success of the Blu Ray DVD titles of the movie Teenage Mutant Ninja Turtles. Moreover, the Christopher Nolan s Interstellar was a winner at the box-office. Such successful releases along with a strong movie line-up for fiscal 2015 will certainly bolster the Film division of Viacom. Earlier, Viacom completed the acquisition of British public service broadcaster, Channel 5 Broadcasting Ltd., for GBP 450 million (approximately $760 million). The deal is expected to drive Viacom s operating income within a year. The company also distributes digital content to online video streaming companies, such as Netflix and Hulu. These businesses generate very high margins, of around 75%, while facilitating the company to significantly improve its bottom line. Management is hopeful that it will be able to expand its digital content distribution deals, both in the U.S. and internationally, in the near future. As a result, Viacom has raised its internal forecast for digital content disribution revenue, which is now expected to witness a high-single to double-digit annual percentage growth rate. Substantial investments in content and new videos in fiscal 2014 have significantly improved viewership ratings for almost all channels of Viacom. Comedy Central achieved its highest quarterly ratings while it s hugely popular Nickelodeon channel gained the top position among children aged between 2 to 11 years. With this, the channel also maintained a year over year rating improvement for 13th consecutive quarter. In an effort to boost its international presence, Viacom is planning to introduce Paramount channels in Russia and Hungary and may come with additional Nick channel launches in the later part of the year. Notably, SPIKE, VH1 and CMT witnessed double-digit ratings growth in the reported quarter. Moreover, launch of popular TV apps for smart devices will not only help fans to get closely associated with the brands but will also drive TV ratings. Around 10 million Nick apps were downloaded. In addition, the recent launch of Viacom Nick.com site for its Equity Research VIAB Page 3
Nickelodeon Channel will further enhance its network presence among viewers. Continuous launch of original content will keep on driving ratings and advertising revenues for the company. In the fourth quarter of fiscal 2014, Viacom bought back 10 million stocks for $850 million. This leaves the company with $7.05 billion under its share buyback authorization worth nearly $20 billion. Such aggressive buyback plans coupled with regular dividend payments will continue to boost shareholders wealth. REASONS TO SELL Viacom is fundamentally a content producing company, and the protection of its brands and entertainment content, as well as the laws affecting its intellectual properties are of significant importance to the company. Any major change in the regulations of the U.S. federal state and local governmental authorities, as well as the European Union may adversely affect the company s overall business prospects. The cable TV industry in the U.S. is highly matured and saturated. Viacom s flagship cable channels are already distributed and therefore chances are much limited to increase revenue by enlarging distribution channels. This reflects the company s need to sequentially improve its cable channels ratings to boost its top line. Simultaneously, Viacom must diversify its geographic presence in order to compensate the saturated domestic market. Moreover, volatile scatter advertising rates coupled with growing presence in emerging markets like India will further expose the company to foreign currency exchange rate risk. In addition, domestic and worldwide advertising revenues fell 5% and 2%, respectively, as compared to the last-year quarter while Worldwide Home Entertainment revenues declined 38% in the same period. In the last three quarters, Viacom has done extremely well in its digital content distribution business. However, in the long run, these lucrative deals with online video streaming companies may act as a boomerang for the company. Moreover, online video streaming companies have become a growing threat for cable TV operators, who may not be able to pay higher affiliate fees to Viacom as its contents can be viewed online. We believe that launch of new channels in international markets has raised distribution expenses of the company by 11%. Thus mounting operating costs will continue to impact margins for the company while moving ahead. In addition, Viacom s success is dependent on audience acceptance of its programming, motion pictures, games, and other entertainment contents. The production and distribution of these entertainment contents are inherently risky business as it is quite difficult to predict consumer s taste. Viacom s decision to acquire stocks worth $3.25 billion in fiscal 2014 coupled with its recent plan to buy Channel 5 will not only pressurize its cash position but may also expand its financial leverage. The company exited the fourth quarter of 2014 with $1 billion of cash as compared with $2.4 billion in the prior-year quarter while debt-to-capitalization ratio stood at 0.77 against 0.69 in the year-ago quarter. Recently, the company issued $1 billion debt which we believe will further leverage the company s financial position. Even Moody s Investors has slashed its rating on Viacom s long-term debt from Baa1 to Baa2 owing to the company s massive share repurchase program. Equity Research VIAB Page 4
RECENT NEWS Viacom Beats Q4 Earnings on Theater Revenue Strength Nov 13, 2014 Viacom declared fourth-quarter fiscal 2014 financial results wherein both the top and the bottom line surpassed the corresponding Zacks Consensus Estimate. Higher Affiliate Fees and Theatrical revenues have supported the quarter s impressive performance. Net income from continuing operations in the reported quarter was $732 million or $1.71 per share compared with $806 million or $1.69 per share in the prior-year quarter. Quarterly adjusted earnings per share of $1.71 surpassed the Zacks Consensus Estimate of $1.68. Total revenue in the fourth quarter stood at $3,991 million, up 9% year over year and above the Zacks Consensus Estimate of $3,922 million. Quarterly operating income came in at $1,164 million, highlighting an increase of 5% year over year. During the reported quarter, Viacom bought 10 million common shares for $850 million. At the end of the fourth quarter, Viacom had $1,000 million of cash & cash equivalents and $12,751 million in outstanding debt on its balance sheet compared with $2,403 million and $11,867, respectively, at the end of fiscal 2013. Meanwhile, the debt-to-capitalization ratio stood at 0.77 against 0.69 at the end of fiscal 2013. Media Networks Segment Quarterly revenues of $2,664 million inched up 8% year over year, mainly boosted by higher affiliated fees. Quarterly operating profit came in at $1,087 million, up 5% year over year. Annually, domestic and worldwide affiliate fee revenues grew 21% and 22%, respectively. On the other hand, on a year-overyear basis, domestic and worldwide advertising revenues fell 5% and 2%, respectively. Filmed Entertainment Segment Quarterly revenues jumped 12% year over year to $1,357 million, mainly driven by the carryover revenues from the release of the movie Transformer: Age of Extinction in the last-year quarter. Quarterly operating income stood at $213 million, indicating a decline of 27% year over year. On the other hand, Global Theatrical revenues increased an astounding 226% while Worldwide Home Entertainment revenues declined 38% year over year. VALUATION Viacom is currently trading at 11.2x our fiscal 2015 earnings estimate. This is at a discount to both the industry average and the S&P 500. With respect to our fiscal 2016 earnings estimate, the stock is trading at 9.8x, again a discount to both the industry average and the S&P 500. We believe that improvement in viewership ratings coupled with the rising affiliated fee revenues will act as tailwinds for the company in the upcoming quarters. We maintain our Neutral rating with a target price of $70, based on 11.8x our fiscal 2015 earnings estimate. Equity Research VIAB Page 5
Key Indicators F1 F2 Est. 5-Yr EPS Gr% P/CF 5-Yr High 5-Yr Low VIACOM INC-B (VIAB) 11.2 9.8 11.0 4.1 12.3 18.2 10.2 Industry Average 20.2 18.2 10.1 7.8 17.2 132.5 14.3 S&P 500 16.0 15.0 10.7 15.9 18.5 19.4 12.0 CBS CORP-A (CBS.A) 14.0 17.9 26.1 11.3 TIME WARNER INC (TWX) 17.5 14.3 12.9 6.4 19.2 20.4 11.4 TTM is trailing 12 months; F1 is 2015 and F2 is 2016, 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 VIACOM INC-B (VIAB) 8.3 8.8 2.0 55.4 3.4 1.8 4.6 Industry Average 3.6 3.6 3.6 23.6 1.2 1.3 7.2 S&P 500 5.1 9.8 3.2 24.8 2.0 Equity Research VIAB Page 6
Earnings Surprise and Estimate Revision History Equity Research VIAB Page 7
DISCLOSURES & DEFINITIONS The analysts contributing to this report do not hold any shares of VIAB. 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 1109 companies covered: Outperform - 15.3%, Neutral - 78.4%, Underperform 6.0%. 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 VIAB Page 8