News

Taking Stock

8/22/2008 8:00 PM Eastern

Cablevision Systems' latest effort to boost shareholder value could depend on one of the most trendy antidotes of the day: a stock buyback.

The No. 5 cable operator's potential solution begs one of the great dilemmas for public corporations — when is it a good time to buy back your own stock?

Share buybacks, also called share-repurchase programs, have been an increasingly popular vehicle for public companies to return some of their hard-earned cash to shareholders. And on the surface, share repurchases make sense: they reduce the number of outstanding shares, which increases earnings per share and technically raises the price of the stock. But that doesn't happen all of the time and in the cable industry, it is becoming exceedingly rare.

Cablevision, which has never done a buyback, in late July said it would seek alternatives to close the gap between the company's public share value and the private market value of its assets. One of the avenues the company said it would investigate was share repurchases. On Aug. 15, the Bethpage, N.Y.-based MSO said it would issue a 10-cent-per-share quarterly dividend beginning in September.

Cablevision has generated substantial free cash flow, money that many shareholders would like to see returned to them. So far this year, the company has generated about $320 million of free cash flow, which is expected to grow to between $750 million and $800 million in 2009. In a research report, Sanford Bernstein cable and satellite analyst Craig Moffett estimated that Cablevision would generate $6 billion in free cash flow by 2011.

2008E 2009E 2010E 2011E 2012E
SOURCE: Sanford Bernstein research
EBITDA $2,135 $2,417 $2,670 $2,901 3,133
Debt $10,675 $12,087 $13,348 $14,507 $15,667
Incremental Debt -- $1,412 $1,261 $1,159 $1,160
Free Cash Flow $554 $886 $1,198 $1,527 $1,866
Net Cash Available for Repurchases $554 $2,159 $2,152 $2,196 $2,328
Starting Share Count 290 267 186 135 102
Less Shares Repurchased (23) (82) (50) (34) (25)
New Share Count 267 186 135 102 77
Enterprise Value $17,719 $20,064 $22,157 $24,082 $26,007
Implied Equity Value $7,044 $7,977 $8,810 $9,575 $10,340
Implied Share Price $26 $43 $65 $94 $134

Of the five publicly traded cable operators, only Comcast, Time Warner Inc. and Mediacom Communications have embarked on lengthy share-repurchase programs. And while the investments have often resulted in short-term increases in stock price — usually around the time the company announces a new plan or an increase in an old one — in the long run they appear to be dismal failures.

Comcast has invested $11.5 billion in share repurchases since 2002 and in that time, it has lost a total of $3.5 billion in market capitalization, resulting in a return on investment of -127%. Time Warner, which has pumped $22.5 billion into its share-repurchase program in the same time frame, has seen its market cap dwindle by $36.5 billion, for a -260% return. And Mediacom, which has invested about $140 million in share buybacks since 2002, has seen its market cap dwindle by $980 million, for a -800% return.

Cablevision's stock fortunes over that same period were no better — even with a 50% run-up over the past two weeks to $32.56 on Aug. 20, the stock has declined 32% since Jan. 2, 2002, when it was priced at $48.01. Factor in the company's one-time dividend of $10 per share in 2007 and the decline dips to 11.4% over the same period.

Dollars Spent Market Cap Gain (Loss) Return On Investment
SOURCE: Company reports, Multichannel News research
Comcast $11.5 billion ($3.5 billion) -127.3%
Time Warner $22.5 billon ($36.8 billion) -260.9%
Mediacom $139.6 million ($980 million) -800%
DirecTV $5.8 billion $14.86 billion 150%
Dish Network $1.3 billion $5.8 billion 500%

Charter Communications, which also has not yet done a buyback, has other issues. While its stock has declined precipitously since 2002 (from $16.60 per share to $1.06), that has mainly been due to factors such as competition, its largely rural footprint and its massive $19 billion debt. Charter, which does not yet generate positive free cash flow, also uses the bulk of its cash flows to service that debt, meaning that a buyback anytime soon is not likely feasible.

For satellite-TV providers, the story is different. DirecTV Group started a share-repurchase program in 2006, pumping $5.8 billion into buybacks with a $14.6 billion gain in market cap, for a 150% return. Dish Network, which spent about $1.2 billion for buybacks between 2003 and 2006, reaped a $4.5 billion gain in market cap, an increase of 500%.

Miller Tabak media analyst David Joyce said the reason for the satellite stocks' success is that such providers generally have much lower debt and lower capital expenditures than cable operators. And while they compete against the telcos, Joyce said that the market doesn't penalize them for it. “They have more exposure to less-competitive areas of the country.”

Buybacks can have other benefits besides a boost in stock price, including sending a signal to the market that a company is confident in its future and growth prospects. “There is not a perfect correlation of buybacks and stock-price moves,” Joyce said. “Stock buybacks are really a theoretical good use of cash because the effective return is your cost of equity, which is probably in the 10% to 11% range, after tax. So it really is attractive from a financial theory point of view.”

In light of the overall economic downturn and a looming recession, investors are increasingly looking for as many new flavors as possible to improve their returns. Joyce said that one effect of buybacks — shrinking the equity base — also helps a company recover more quickly during an economic upswing.

“It should help the stock increase whenever sentiment shifts positively,” Joyce said. “The stock should go up faster.”

Shrinking the base was a key factor in Moffett's recent report anticipating that Cablevision could become a $100 stock in the next four years (see chart).

The underlying reason to initiate a share-buyback program is a fundamental belief that the stock is undervalued. But competitive fears, increases in capital expenditures, regulatory concerns and general changes in perception have all led to huge positive and negative swings in cable stock prices.

Collins Stewart media analyst Tom Eagan said that buybacks appear to have done little to improve cable's fortunes over the past five and one-half years, and that the recent clamor for buybacks is not entirely based on business acumen.

“Remember not too long ago when some folks were advocating that cable massively increase its debt?” Eagan said. “It [buybacks] is the latest flavor of the month.”

David Rudofsky, president of Rudofsky Associates and former director of strategic planning at Altria, said that for the most part, shareholders like the idea because they can enhance earnings-per-share growth. Therein lies the rub with cable operators — they aren't valued on multiples of earnings, at least not yet.

Although several companies — Comcast and Time Warner included — have posted EPS over the past few years, the industry is still valued on a cash-flow basis.

That lack of an EPS valuation can affect the success of a buyback plan, according to Rudofsky said. “From my perspective, if your company is not valued based on earnings per share, you really have to be darn sure to be on the right side of a repurchase,” he said.

True buyback-plan success can only be measured after many years, advocates say. Comcast chief financial officer Mike Angelakis said that longer periods — 10 to 15 years — are needed to more accurately gauge the effectiveness of buyback programs.

On a 10-year basis, that thesis seems to hold up — Comcast stock was priced between $10 and $19 per share in 1998, compared to $21 each today. In 1993, Comcast shares traded in the $6 to $12 range. Angelakis argued that Comcast's buyback strategy has been more than effective, based on the prices the company paid for its shares and the amount of the equity base that shrunk as a result.

Angelakis said that Comcast's objective is to offer a balance to investors — it also pays dividends.

“We are not interested in doing a buyback to get a pop in the stock,” Angelakis said. “We take a much longer view. Our company by the end of 2009 will have done $16 billion of buybacks — that's over five, six, seven or eight years.”

One cable finance executive who asked not to be named said that one important factor to consider when gauging the effectiveness of buybacks is the price at which the company repurchased the stock and the price the shares are at now.

“I think what you have to do is ask what have you spent on the program and where is your stock today,” the executive said.

But even on that front, cable's performance isn't much better. Going by that metric, Mediacom Communications had the best performance of any of the cable companies, purchasing 27 million shares since 2002 for an average price of $5.64 per share. Its stock closed on Aug. 19 at $7.56 per share.

DirecTV showed the biggest gain — its 300.1 million shares were purchased for an average price of $19.82, far below its closing price Aug. 19 of $27.86 each. Dish Network, which has been plagued by operational problems this year, bought its shares for an average of $30.38 per share, slightly above its Aug, 19 close of $30.01 each.

In contrast, Comcast purchased its 480.5 million shares since 2002 at an average price of $23.91 each (it closed at $21.49 on Aug. 19) and Time Warner bought its 1.2 billion shares for a average price of $18.75 per share (it closed at $15.72 on Aug. 19).

Rudofsky said that another reason for share buybacks could be that they are safer than dividends. A company that announces a share buyback program does not necessarily have to spend that money — most are worded that they will buy back stock as market conditions allow. But with a dividend, that money has to be spent.

And there are times when buying back shares simply doesn't make sense, a point made by Time Warner CEO Jeff Bewkes on the media giant's second-quarter conference call with analysts Aug. 5.

“We do consider the stock extremely attractive at current levels, but in light of all that we have had going on, we decided it was prudent to stay out of the market,” Bewkes said on the call.

Buybacks also may be more attractive to large institutional shareholders, who may not want a cash dividend (and the tax implications that go with it) as much as a short-term lift in the stock price.

“Portfolio managers are concerned about the next three months, the next six months,” the cable finance executive said. “We're not concerned about the next three months; we're concerned about the next five years.”

October
November