I wrote an article about Comcast (CMCSA, Financial) back in August. This was the conclusion:
“Comcast is a well-run, high-quality business. Management has proven adept at navigating a changing landscape, in addition to demonstrating intelligent capital allocation and operational ability over many years. Over the course of an investment lifetime, you will do quite well if you partner with high-quality individuals like Brian Roberts and Steve Burke.
Despite returning ~65% of the free cash flow generated over the past five years to shareholders in the forms of dividends and repurchases, the company remains conservatively financed relative to its peers. By my math, Comcast should generate ~$50 billion in excess FCF over the next five years (after dividends). Generating tens of billions of dollars in excess cash will give them the flexibility to quickly complete a large deal if the right opportunity surfaces. For this reason and the others mentioned above, Comcast holds an enviable hand.
My analysis leads me to conclude earnings per share is likely to increase by 10% or more per year going forward (that assumes no significant changes in financial leverage). While I don’t think the stock is a screaming bargain at current levels, it’s pretty reasonable (better than most things I've looked at as of late). If Mr. Market became a bit more pessimistic and pushed the shares lower, I’d think hard about buying some Comcast.”
At that time, CMCSA was at $40 per share. It hung around those levels before falling off a cliff in the past three months. Comcast stock has declined nearly 20% in 2018, and currently trades for $33 per share. I think this is a good opportunity to invest in the company. I won’t rehash the points I made in August. From what I’ve read elsewhere, the consensus opinion seems to be Comcast is making a mistake by going after Sky, particularly in light of the alternative (buying back a lot of stock).
Here’s how Andrew Walker of Rangeley Capital put it in a recent blog post:
“Most investors (including me!) would prefer Comcast take their leverage levels up from their laughably low current levels (~2.2x) and use the proceeds to repurchase shares. Most of us see the Sky transaction as a distraction at best and a stepping stone to a value destructive overbid for Fox at worst. Those concerns are all real. But both Comcast’s business profile and their track record puts them squarely into the 'Diversified Holdings' category (yes, they don't fit the exact definition, but I think they 100% fit the spirit / profile of one), and given the track record I’d guess it’s pretty unlikely they’d ever pursue an acquisition that actually resulted in a long term 10%+ hit to shareholder value (which is what the market is pricing in currently).”
For what it’s worth, I agree (you should read Walker's post to fully appreciate what he's saying). Repurchasing a boatload of stock at today’s prices sounds great. But I can live with the alternative. As I noted in my first article, I think you will do quite well if you partner with high-quality individuals like Roberts and Burke. I am happy to let them make the capital allocation decisions because they have demonstrated an ability to do what’s right for shareholders over the long run.
The company’s acquisition of NBCUniversal is a great example. When the deal was announced, people were skeptical (Craig Moffett said that “this deal has to be judged as a mistake”). With the benefit of hindsight, I think the results point to a different conclusion. Comcast acquired a majority stake in 2011 at a valuation of roughly $30 billion. At the time, NBCU was generating just over $3 billion in earnings before interest, taxes, depreciation and amortization. In 2017, NBC generated $8.2 billion in EBITDA – up 165% from 2009. I think you can make a strong argument that NBC is worth three times more than what Comcast paid for it eight years ago. In addition, I think it is a high-quality business that complements the cable business. I think that deal was a big win for Comcast.
Maybe Comcast would be better off if it focused on repurchases instead of going after Sky. Personally, I’m less certain about the appropriate course than many commentators. They seem 100% sure that a levered share repurchase is best. Maybe, maybe not. Time will tell if Sky gets done (and if it does, whether or not it was an intelligent use of capital). Throughout that process, I'm confident management will do what they view as appropriate for the long-term health of the business.
Conclusion
My financial model assumes mid-single-digit revenue growth and roughly 10% earnings per share growth for Comcast over the next five years (helped by a lower effective tax rate). It’s worth noting that I do not assume any meaningful change in the leverage ratio (said differently, I’m assuming Comcast remains conservatively financed relative to its peers). With those assumptions, my fair value estimate for Comcast is north of $40 per share. It’s one of the cheaper stocks I’ve come across in the past few years. I bought shares last week and plan on buying more if it keeps moving lower.
Disclosure: Long CMCSA.
