A Rolling Cable Operator Behemoth

Charter Communications' acquisition spree has yet to translate into significant profits for shareholders

Author's Avatar
Aug 17, 2017
Article's Main Image

Charter Communications (CHTR, Financial), the $101.7 billion Connecticut-based pay TV operator, reported an impressive 136% rise in revenue year over year to $20.52 billion and a contrasting (-)89.8% drop in profits to $294 million in the second quarter (a 1.4% margin vs. 33.1% a year earlier).

Costs and expenses more than doubled or rose 2.25 times in the period while Charter also recognized lower pension benefits that dampened its profits.

"With the rollout of our new pricing and packaging completed in June, we are now offering a simple, high-value product across our 50 million passings, under one brand, Spectrum. That product is working in the marketplace, and we continue to see higher year-over-year customer connect volumes across our new footprint.

"As we move forward with our integration, more of our customers are getting better products at better prices, which will drive higher customer satisfaction, lower churn and greater value into our business." – Tom Rutledge, chairman and CEO of Charter Communications Inc.

Valuations

Charter is overvalued compared to peers. According to GuruFocus data, the company had a 170.8 times trailing price-earnings (P/E) vs. the industry median of 20.7 times, a price-book (P/B) ratio of 2.78 times vs. 2.25 times and a price-sales (P/S) ratio of 2.7 times vs. 1.5 times.

Charter also has not provided dividends in the past decade.

Average 2017 revenue and earnings-per-share estimates indicated forward multiples of 2.82 times and 99.4 times.

Total returns

Charter outperformed the broader Standard & Poor's 500 index so far this year with 37% total returns vs. 10.4%.

Recent events

Time Warner Cable acquisition

In May 2016, Charter acquired Time Warner Cable for $60 billion – $32 billion from converted shares from Legacy Time Warner to Charter and another $28 billion in cash – excluding Liberty Broadband and Liberty Interactive.

In review, Liberty Media – pre-spinoff to Liberty Broadband (LBRDA, Financial) – invested $2.62 billion in Charter back in 2013 for 27% ownership.

In connection with the Time Warner Cable acquisition, Liberty Broadband invested $5 billion for 26% ownership of Charter. Liberty Broadband was able to raise $4.4 billion from Liberty Ventures Group (LVNTA, Financial) and third-party investors, including Coatue Management LLC, JANA Partners LLC and Soroban Capital Partners LP.

Media mogul John Malone, meanwhile, owned 96% of Liberty Broadband’s Series B outstanding shares and has direct power on approximately 47% voting power. Malone also has 36.8% voting interest in Liberty Interactive. Malone is the chairman of both Liberty Broadband and Liberty Interactive.

As of the date of completion, the total value of the TWC transaction was approximately $85 billion, including cash, equity and Legacy TWC assumed debt.

BrightHouse transaction

Also in May 2016, Charter acquired BrightHouse for $12.2 billion.

Charter Communications

Charter Communications was founded 24 years ago and is the second-largest cable operator in the U.S. and a leading broadband communications services company providing video, internet and voice services to approximately 26.2 million residential and business customers as of December 2016.

In addition, Charter sells video and online advertising inventory to local, regional and national advertising customers and fiber-delivered communications and managed information technology solutions to larger enterprise customers.

The company also owns and operates regional sports networks and local sports, news and lifestyle channels and sells security and home management services to the residential marketplace.

Charter offers its customers subscription-based video services, including video on demand, high definition television and digital video recorder service, internet services and voice services.

As of December 2016, 70% of Charter’s footprint was all digital, enabling it to offer more HD channels, faster internet speeds and better video picture quality, and the company intends to transition the remaining portions of its Legacy TWC and Legacy BrightHouse footprints.

Charter’s video, internet and voice services are offered to residential and commercial customers on a subscription basis with prices and related charges based on the types of service selected, whether the services are sold as a “bundle” or on an individual basis and the equipment necessary to receive its services. Bundled services are available to approximately 99% of Charter’s passings* and approximately 61% of its customers subscribe to a bundle of services.

*Passings represents Charter's estimate of the number of units, such as single-family homes, apartment and condominium units and commercial establishments passed by the company's cable distribution network in the areas where the service indicated is offered. These estimates are updated for all periods presented based upon the information available at that time.

Charter provided services to 26.8 million residential and business customers – 4.69% higher than the prior year – as of June 30.

Charter has one reportable segment: cable services.

Sales and profits

In the past three years, Charter registered 52.6% revenue growth average and losses in fiscal years 2014 and 2015.

Cash, debt and book value

As of June, Charter had $694 million in cash and cash equivalents and $63.25 billion in debt with debt-equity ratio 1.73 times vs. 1.55 times the year prior. Overall debt increased $1.05 billion year over year while equity declined by $3.6 billion.

Of Charter’s $146.96 billion assets 74.9% were recognized as goodwill, franchises and customer relationships while book value declined 9% year over year to $46.4 billion.

Cash flow

In the first half, Charter’s cash flow from operations rose by 2.9 times the year prior to $5.79 billion brought mostly by higher depreciation and amortization in the period and no outflows in relation to deferred income taxes.

Capital expenditures were $3.7 billion leaving Charter with $2.09 billion in free cash flow compared to $325 million in the year prior. The company allocated more than twice its free cash flow or $4.73 billion in share repurchases including distributions and repurchases to noncontrolling interests amounting to $504 million.

In review, Charter purchased approximately 10 million shares of its Class A common stock for approximately $3.3 billion for an estimated per share repurchase figure of $330 per share in the three months that ended in June.

Charter also took in $1.58 billion in debt net repayments.

The cash flow summary

In the past three years, Charter allocated $8.72 billion in capital expenditures, raised $5 billion in stock issuances and $23 billion in debt net repayments and other financing activities, generated $4.04 billion in free cash flow and provided $1.62 billion in share repurchases on average payout ratio of 21.7%.

Conclusion

Charter has a more increasing dominant position in the cable business brought by its recent acquisitive moves facilitated by the media mogul himself, John Malone. Albeit unobservable in its shareholder profits, Charter has amassed a significant rise in its business revenue in recent years.

Brought by its acquisition, Charter has significant amounts of debt outstanding and nearly three-fourths of assets in blue sky elements (goodwill and intangibles). The media company, meanwhile, has kept a relatively prudent cash flow payout to its shareholders.

Average analysts have an overweight recommendation in Charter shares with target price of $392.3 per share vs. $394.49 at the time of writing. Using average revenue 2017 expectations and three-year P/S average with a 20% margin indicated a per share figure of $246.

In summary, Charter is a pass.

Disclosure: I do not have shares in any of the companies mentioned.