Value isn't a word that comes to mind these days, with many cable, telecom and satellite stocks trading down as much as 40% and priced well below their asset worth. So it's a big deal that an estimated $48 billion in total new value will be created and will flow across the three sectors by 2012, as a result of changes in their core video, data and voice services.
When the dust settles on next year's mandated digital television conversion, cable will come out on top, with telcos a distant second. That contrarian forecast, challenging the prevailing market wisdom, is from a Bernstein Research study that looks more deeply into the shifts and beyond usual subscriber metrics.
"The projected economic share shift between the telcos and the cable operators--as measured by subscribers, incremental marginal earnings, or by incremental Enterprise Value--is stark; favorable to the cable industry," concludes Bernstein analyst Craig Moffett. The movement and price of their stocks reflect "a radically different future."
The simple, often overlooked reasons: cable's significantly larger coverage advantage, the telcos' late-to-the-party building of a multibillion video infrastructure, and the normal ebb and flow of new and maturing businesses. Telcos' high-margin voice business will decline and low-margin video services will grow, for a net loss of $29.4 billion in value over the next five years.
Cable will lose share of lower-margin video subscribers to telcos and satellite, but gain higher-margin voice subscribers, for a net gain of $71.6 billion in value by 2012. Satellite operators, caught in the middle as a single service provider, will realize $5.5 net gains, Moffett said. "Over the next five years, the evidence suggests that the value flow between cable and telco will be dramatically lopsided in cable's favor," Moffett says.
Although telcos will expand from 1% to 10% of the pay TV market, cable operators will more than double their share of the voice market to 37% by 2012. Telcos' clear net loss is cable's gain. In fairness, some of that is a function of each media sector's national footprint. Moffett estimates that cable's triple-play-enabled U.S. coverage is about 75%, growing to 90% by 2012. Telco fiber is available to about 5% of U.S. households, but will increase to 40% by 2010. Satellite, which is national but not ubiquitous, will cover about 75% of the country within five years.
Moffett focuses only on the common core video, voice and data services of the three media sectors without factoring in potentially lucrative businesses that could influence the bottom line, such as wireless for telcos and small and medium businesses for cable.
Not all analysts see a rosy future ahead, especially for cable. JP Morgan analyst Jonathan Chaplin studied 15 quarters of data for different stages of voice rollout, and found every carrier except for Comcast had declining margins, despite substantial increases in voice and data penetration. Cable margins will remain flat in the future, due partly to intensified program costs and capital spending. "We used to believe that cable earnings margins would expand over time as the revenue mix shifted from comparatively low-margin video to higher margin voice and data," Chaplin said.
UBS analyst John Hodulik says cable revenues and earnings through 2009 will be impeded by weaker consumer spending, slower-than-expected growth of advanced services, and increased competition. He specifically cites aggressive video service rollout by AT&T and Verizon--doubling this year and again through 2010. Cable will triple its basic subscriber losses. Comcast Thursday lowered its earnings guidance for 2008, although it expects 8% to 10% growth in its overall revenues and earnings. Those are precisely the trends that Moffett challenges in his long-view "value migration roadmap."
Cable is doing what it can to muddle through the disconcerting transition. Comcast this week announced its first cash dividend and increased its stock buyback to return a total $8.4 billion to restless shareholders by 2009. Chieftain Capital's call for the ouster of CEO Brian Roberts prompted the cable operator to lower senior executive compensation and link it to free cash flow. Comcast also is flooding the market with new video services in a major play for the on-demand market that many analysts believe is being usurped by Apple iTunes' new digital movie rentals.
Cablevision Systems' controlling Dolan family has signaled that it will try again to take the company private. Time Warner, which plans to sell off some of its 84% stake in Time Warner Cable, is testing cable's bedrock flat-rate billing. It plans to bill about 5% of its customers who use more than 50% of the available bandwidth for their excessive broadband usage. That is as close to a potential price war as we will get, according to Morgan Stanley analyst Benjamin Swinburne.
He notes Comcast's recent 6% rate increase in the face of weak price competition from telcos and satellite. "Concerns over a maturing product set have shifted to fears of an all-out price war, which we believe is unlikely," he said.
In fact, the most formidable challenge cable operators face is convincing investors that the sky is not falling.