Analysis of four Australian media stocks

The media sector is a cyclical sector that is going through significant structural changes, particularly over the past decade. The sector is very broad with the traditional newspaper/magazine model increasingly requiring an online, tablet solution for survival.

Radio and television, both free to air and pay television, have an increasing emphasis on sports rights in many of the mature global markets. Further, film production and distribution combined with online new media solutions are increasingly playing a crucial role for future revenues.

The sector effectively captures everything from the traditional old media (although, this is more a perception) through to new media and entertainment, and has tended to be constantly evolving.

Changing times

The current developments underway are very significant due to the changes in technology and new media. It is also fair to point out that the market is still adjusting to the way it should value future earnings for the sector globally; using historical media-sector earnings is not as relevant.

The difficulty the market has with valuing Facebook (FB) is just one example that demonstrates the uncertainty in valuing new social media. Valuing the sector based on long-term growth expectations becomes increasingly difficult in the current environment. Investing in the sector is a higher leveraged (higher beta) exposure to future revenue growth via advertising.

Investing in media

For investors, the media sector is a broad landscape and one needs to invest in companies with a good mix in business that is adaptable to the changes in technology. Therefore, valuations more than two to three years out become increasingly obsolete for this sector compared with traditional defensive sectors.

It is difficult to pick the winners in this market because investors must search for evidence that earnings per share (EPS) can be accretive when investing in media stocks. Acquisitions are a way to deliver for investors, but this needs a management team with a history of delivering successful acquisitions in the past.

Ultimately, investors need good diversification in the sector across many business models and regions. Regulation also plays a key role and investors must be wary of business models that have a history of subsidising underperforming assets.

Domestically, there are many different media exposures with different models. The tables below show a selection of companies with basic metrics as well as the industry wide recommendations.

Source: UBS. Note: Past performance or forecasts are not a reliable indicator of future performance.

Taking a look at four briefly:

News Corporation (NWS)

News Corporation is the ultimate diversified global media and entertainment company. The major earnings contribution comes from television, cable broadcasting (particularly sport in key global markets) and production and distribution of motion pictures, creating a diversified, but leveraged, exposure to the sector. Print media is a very small proportion of the company’s revenues and this area is undergoing further change. News has been a better performer for the sector given the global business model and has been in our various UBS Wealth Management model portfolios over the past year.

Fairfax (FXJ)

Fairfax has been the more public underperformer in the sector given the nature of the changes in their investor profile. Their business model is heavily dependent on newspaper publishing compared to its peers. The company has a solid rural press business model with a good mix of various online businesses. Their AFR online product is a high-quality offering in the local market and in my mind very much looks like the successful Financial Times (owned by Pearson PLC) model. While hypothetical, the two would be ideal partners with a natural fit in the Asia Pacific region.

The valuations for FXJ are very compelling and for more aggressive investors there is an opportunity to accumulate towards the $0.50 level as the market continues to digest the very public cost cutting initiatives. While traditional newspaper models are clearly behind us, there will always be room for quality digital newspapers with a partial subscription model such as New Corp are currently doing via the Wall Street Journal and The Australian.

Seek Ltd (SEK)

Seek Ltd is the local online media sector success story. On a basic multiple comparison, the company trades expensively versus its peers in the sector, but it has consistently traded expensively given it has delivered good EPS growth through its lower cost online business model. It operates in various online employment business models in Australia, New Zealand and globally, particularly in South East Asia and China. It has also recently increased its stake in Mexico and Brazil, which are both key growth regions. The current price correction towards the low $6 levels in our view looks appealing.

APN News and Media (APN)

APN News and Media (APN) is a mid/small cap diversified media exposure. The company has strong regional newspaper business models (with a good digital platform) combined with radio and an outdoor advertising business with an Asian presence. It is a flat performer year-to-date and has given up the solid gains made in the March quarter. APN is indicative of the sector in general and requires signs of accelerating domestic demand, which will only come from additional local interest rate cuts, to drive an increase in advertising. The average 12-month price target by all the analysts on the street is around $0.92. I would be more than happy if this target were achieved.

The bottom line

The changing landscape of the media sector will remain a challenge for all investors. A combination of new online digital business models with a solid global presence in a mature market should be the aim.

The sector will remain a high-beta exposure going forward and there would need to be additional stimulus domestically to be a catalyst for any earnings upside. Valuations are clearly discounted, but there are many different business models and therefore risks.

Finally, the ongoing changing landscape will make it more difficult to target earnings forecasts more than two years out.

This note was written on 22 June 2012.

George Boubouras is the Head of Investment Strategy & Consulting at UBS Wealth Management, Australia.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Anyone should, before acting, consider the appropriateness of the information in regards to their objectives, financial situation and needs and, if necessary, seek professional advice.