Viacom: Still Very Challenging, Unlikely To Reprice Much Higher (NASDAQ:VIAC)


Investment Thesis

ViacomCBS (VIAC) has an overleveraged balance sheet. Even if 2020’s advertising market was to dramatically improve in the latter part of 2020, it’s difficult to see how ViacomCBS 9x free cash flow multiple is a bargain opportunity. For now, there’s no reason to get involved here. Check out this video below:

My Background With ViacomCBS

Previously, I argued strongly that I felt that ViacomCBS would have to cut its dividend. I was positively convinced of this fact, yet when its earnings were reported ViacomCBS did not reduce its dividend. Consequently, for now, I was wrong on that front.

Does this mean that I’m wrong altogether? Or am I still vaguely right? Let’s discuss this.

What Are Management’s Incentives Here? Could It Be Undervalued?

Before digging into its financial position, it’s interesting to understand management’s incentives.

Source: Proxy Statement

On the one hand, as you can see above, the executive team, asides from Chairman Sumner Redstone, have practically no skin in Viacom’s shares.

On the other hand, some of its directors have made purchases during 2020:

(Source)

Some of these purchases coming close to $200K, implying that management is confident that the share price is undervalued. This is certainly a bullish and noteworthy aspect to the story here. But not the whole story.

Putting Its Balance Sheet Into Perspective

Looking back to March, ViacomCBS’s leverage stood at 3.1x. Meanwhile, ViacomCBS noted that it continued to plow ahead and is determined to get its leverage down to 2.75x including the benefit of full run-rate synergies.

The table below is updated until March 31:

Source: 10-Q

We know that since March, ViacomCBS has been very active in the credit market and has refinanced and succeeded in bringing down some of its notes. Also, it has pushed back some of its near-term maturities.

However, in practical terms, it has not done much and its total outstanding stack is largely unchanged.

Having said that, to improve its balance sheet, ViacomCBS declared that it continues steadfast on selling non-core assets including Black Rock, its Manhattan headquarters, as well as Simon & Schuster.

The estimates for Black Rock have been put around $1 billion.

Meanwhile, I don’t suspect that Simon & Schuster would fetch much more than this figure, given its trailing twelve months revenues hit $820 million, which is essentially flat with full-year 2018 and 2019.

The publishing unit could sell for approximately 1 times sales, but I can’t see it being sold for much more than that, given the power of Amazon (AMZN) when it comes to selling e-books.

Further, Simon & Schuster’s adjusted OIBDA margins continue to compress with the passage of time. Accordingly, this publishing asset could bring in about $800 million to $1 billion, but a stable or slightly declining business isn’t worth all that much.

Valuation — Challenging To Find Any Upside Here

ViacomCBS’s trailing twelve months OIBDA was $5.3 billion down slightly from $5.5 billion for year-end 2019. Looking ahead to fiscal 2021, one of ViacomCBS’s bullish analysts is expecting around $4.4 billion of OIBDA. This is a reminder that even if the outlook improves for ViacomCBS, it’s still likely to be operating as a shadow of its former self.

The reason being that not only is the advertising market very weak at present, but consumers continue to cord-cut.

Bulls can retort that ViacomCBS is aware of these difficulties and that’s why it’s pivoting its strategy and is deterministically optimizing its streaming portfolio.

Source: Investor Presentation

And it ViacomCBS is having some success with this strategy, as you can see above. However, the crux of the problem is that a streaming strategy is nowhere near as profitable to ViacomCBS as its previous linear strategy.

Looking back up until 2018, ViacomCBS was able to reach 20% of GAAP operating earnings and it did so for a considerably long period. Presently, even if we turn a blind eye to its overleveraged balance sheet and its associated high-interest payments, ViacomCBS is unlikely to return to this high level of profitability any time soon.

Back at year-end 2019, ViacomCBS argued that it could reach $1.8 billion to $2 billion of free cash flow in 2020 and $500 million more in 2021. This would put the stock trading for just 6x times this year’s free cash flow. Bargain, right?

Well, not quite so. It’s very difficult to see how the advertising sector right now is in any way supportive of this claim of even $1.8 billion of free cash flow. In fact, I would not be surprised to see ViacomCBS’s free cash flow in 2020 come in short of $1.5 billion. Putting its stock trading for approximately 9x free cash flow already.

The Bottom Line

There’s no question in my mind that the multiple investors are being asked to pay for ViacomCBS today are fully compressed. Indeed, we know that earlier in 2020, its share price was substantially higher.

But just because it was more expensive in earlier in the year, it doesn’t necessarily mean that ViacomCBS will be more expensive over the coming two years.

Put another way, while it may bounce back to the mid $30s per share we saw earlier this year, there’s no realistic or compelling reason for it to rally 50% over the coming two years.

Ultimately, by my estimates, even while pushing asides its balance sheet, ViacomCBS is already priced at approximately 9x forward free cash flow, which I deem it fairly valued.

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Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in AMZN over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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