Investors Punish Pay TV Stocks on M&A and More

Comcast’s Sky maneuver, Altice debt weigh on sector
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Stocks in the pay TV sector have been taking a beating for the past three months, with the bruising especially harsh on the two newest issues in the industry: Altice USA and WideOpenWest.

Overall, pay TV distribution stocks were down about 5.4% in the first three months of the year, with WOW (down 32%), Comcast (down 16.9%) and Altice USA (down 14.3%) the biggest losers.

Comcast’s decline is relatively simple to read: Investors are interpreting its Feb. 27 $31 billion bid for U.K. satellite company Sky as proof the top U.S. cable provider is losing faith in the domestic cable business.

Comcast has reiterated its confidence in domestic cable, saying it still sees growth in the video business and that chairman and CEO Brian Roberts sees broadband as the “epicenter” of the company. As of press time, Comcast still hadn’t even made a formal offer for Sky. But still the concern spreads, with the declining state of the traditional pay TV industry, the emergence of cheaper OTT players and the uncertainty of the deal market all playing roles in the overall malaise.

Parallels With Disney Bid

MoffettNathanson principal and senior analyst Craig Moffett opined in a note to clients that the decline in Comcast’s stock price could persuade it to back off from a Sky bid, comparing the offer to its abandoned takeover attempt of The Walt Disney Co. in 2004. Comcast dropped the Disney play after about 10 weeks, when its shares fell to a point where the all-stock deal simply became too expensive.

While the Sky bid is all-cash, the pressure remains, Moffett noted.

Pivotal Research Group CEO and senior media & communications analyst Jeff Wlodarczak sees fear that the emergence of high-bandwidth 5G wireless products could be stiff competition for broadband and that operators will get overly aggressive with their wireless offerings as another factor in the decline.

Broadband growth has been slowing down. Comcast added 1.2 million high-speed data customers in 2017, down from 1.4 million in 2016, and Charter added 1.2 million residential data customers in 2017, down from 1.5 million in the prior year. Comcast launched Xfinity Mobile last year, part of a wholesale pact with Verizon, and Charter is expected to follow suit later this year.

“Investors are quite nervous about the 5G ‘boogeyman’ blowing up cable data which I view as dramatically overdone,” Wlodarczak said.

Charter stock is down 8.8% for the year and has dropped about 20% in the past month (when it traded as high as $387.50) amid rising and falling deal speculation, as well as the data concerns. Data was supposed to be the main catalyst for WideOpenWest, which began to de-emphasize its video business about a year prior to going public.

WideOpenWest, the Denver-based overbuilder, launched its initial public offering in May, the first new issue in the pay TV sector since 2015, when Graham Holdings spun off its cable unit, Cable One. WOW has had a sketchy 10 months as a public company. Its debut came quietly on May 25 at $17 per share, short of the $20-$22 per share target the company had originally hoped for. Other than a slight run-up on its first week of trading — it hit $18.31 per share on May 31 — the stock has been on a downward slide ever since.

WOW also has undergone a few significant changes in the past three months. Former AT&T Broadband (West) chief Teresa Elder was named CEO in December, after the retirement of former CEO Steve Cochran; the company completed the sale of a portion of its Chicago fiber network to Verizon Communications for $225 million and in March issued guidance that predicted 2018 revenue would range between $1.15 and $1.17 billion (compared to $1.174 billion in 2017) and adjusted EBITDA would be between $410 and $420 million (down from $437.1 million in 2017).

Evercore ISI analyst James Ratcliffe said in a note to clients that while the guidance was below his expectations, he still sees potential upside in WOW stock. But he believes investors will have to have patience.

“[W]e doubt that we’ll see evidence that the company’s investments are bearing fruit until well into 2H18, leaving little in the way of near-term catalysts for the shares,” Ratcliffe wrote. “As a result, we retain our Outperform rating, but would only recommend WOW shares for investors with a time horizon of at least six to 12 months.”

Wlodarczak was less sanguine about WOW’s prospects. “I have a lot of skepticism toward the overbuilder model,” he said.

Leverage Weighs on Altice USA

Altice USA, spun off from European telecom company Altice N.V. in June, has fallen 14% this year, weighed down by heavy leverage at the parent company and uncertainty about sustaining double-digit cash flow growth momentum.

Altice USA has addressed the leverage problem with plans to separate fully from the European parent by the end of the second quarter. That should remove any concern that it would be liable for Altice N.V.’s debt load. The separation also will remove some complexity and increase the number of shares available to the public — the “float” — from about 10% of outstanding shares currently to around 40%.

“A larger float opens up the stock to more investors, eliminates the overhang of certain investors shorting the U.S. business against the parent and sets [Altice USA] up to also return capital via aggressive share repurchase activity,” Wlodarczak said in a client note.

Wlodarczak added that Altice USA is the most levered play in the sector, so when other stocks like Charter and Comcast start to see multiple compression, Altice gets hit even harder. He believes the June separation will solve many of the leverage issues, but there is still the task of persuading investors all is well.

“It will take time to convince investors that the U.S. is a much different market than France,” he said.

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