Thursday, May 02, 2024

WBD Update - Full Post on Substack!

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We have discussed Warner Brothers Discovery (WBD) and deemed it as an interesting and cheap alternative to Disney. Share price has collapsed on the back of its heavy debt and poor earnings performance in 2023. The company is still losing money at the net income level for the past few quarters and looks like it could continue and even if it somehow breaks even, net income level will be low. As such, the stock is best valued using FCF. Here's a look at its full year 2022 results:

WBD was created in 2022 with the merger of Warner Media, which was spun out of AT&T, and Discovery. The current entity is an entertainment IP franchise powerhouse and a global media giant that operates cable TV networks with both premium entertainment and low cost family-friendly content as well as non-fiction science and lifestyle programming.

More interestingly, WBD is now home to iconic franchises like Game of Thrones, Harry Potter, Friends, Batman, Superman & the DC Justice League universe and Looney Tunes amongst others. It also houses distinguished media brands such as CNN, HBO, Cinemax, Discovery and Cartoon Network that most of us would be familiar with. As such, CEO David Zaslav estimated that WBD has 35% market share of the best content on Earth.

The investment thesis is therefore about owning such an entertainment content juggernaut which also generates tremendous amount of free cashflow at an attractive entry price today.

Let’s look at the simple financials which we skipped in the initial discussion.

Simple financials (Dec 2025 estimate, USD)

  • Sales: 42.5bn
  • EBITDA: 10.8bn, EBIT: 3.1bn
  • Net income: -0.2bn, FCF: 5.8bn
  • Current Debt: 40.0bn, Mkt Cap 21.0bn
  • ROE 16%, ROIC 9% in 2019, currently negative
  • EV/EBITDA 5.8x (Dec 25), PER currently negative
  • Past EBIT margins: 10-25%, 0% in Dec 23 and 7% in Dec 24
  • FCF yield >20%

While net income is negative, the company has been generating positive free cashflow. The slide from the full year earnings deck above showed how FCF ended at a spectacular USD6.2bn. Analysts are estimating that EBITDA and FCF would be sustained into 2024 and 2025.

Management has listed other key objectives above. While the targets were ambitious, WBD is led by a management with strong track record and we are seeing good progress. EBITDA has grown with the losses in DTC business segment gone now and 2023’s FCF has well exceeded its original target of USD4.5bn. WBD has been laser focused on FCF. If we count from its days when it was still just Discovery Ltd (i.e. since 2012), the firm has generated USD27bn in FCF cumulatively which is more than its market cap today!

1. Business Segment Updates

In the initiation, we did not discuss the segments in detail. WBD has three business segments: Studios, Network and DTC.

Studios create the core IP content and oversee the release of such content into films, TV programs, streaming services and the distribution of related consumer products, themed experience licensing and gaming. It is the engine of the WBD franchise but the segmentation sees it contributing to just 20-30% of EBITDA with EBITDA margins of 17-18%.

Networks consists of the US and international TV networks. This business is in secular decline with the disruption of Netflix and streaming. It is also the reason for the weak share price and therefore the attractive valuation. Analysts estimate that the business is declining c.5% annually. However, Networks is the main earnings generator today (c.90% of EBITDA) with EBITDA margins of >40%.

DTC which stands for Direct-to-Consumer is WBD’s premium pay TV and streaming service but is significantly weaker than Netflix or Disney at just single digit market share. In 2023, revenue grew 40%YoY reaching USD10.2bn (table below). But more importantly, EBITDA also just broke even.

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