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Quarter-End Insights

Our Outlook for the Media Sector

Advertising dollars continue to move to the Internet.

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One of the key themes in the media sector has been the shift of ad dollars to the Internet and away from traditional media such as newspaper publishers and radio broadcasters. The newspaper industry has been facing this threat for several years; however, revenue took a nosedive in 2007. On the other hand, online advertising has been robust, and both traditional and online media companies have made strategic acquisitions, hoping to get a larger share of this growing pool of ad dollars.

According to the Newspaper Association of America (NAA), total newspaper-advertising revenue fell 7% in the first nine months of the year from the same period in 2006. We see this decline as a combination of industry challenges and general economic weakness in key newspaper ad categories such as real estate and automotive. Through the end of September, online advertising for newspapers was up 21% compared with the 2006 period; however, this was not nearly enough to offset the 9% decline in revenue from print ads (which represents 93% of sales). Print real estate ad dollars, down 20% in the first nine months, have been hit especially hard.

In stark contrast to the newspaper industry, online advertising continues to climb--soaring 26% for the first nine months of 2007. (We estimate that overall U.S. advertising increased at a low-single-digit clip over this same period). Both pure-play Internet firms and traditional advertising agencies made moves to improve their competitive position in the digital media space.  Google (GOOG) paid $3.1 billion for online ad agency DoubleClick,  Microsoft (MSFT) bought digital ad firm aQuantive for $6 billion, and traditional ad firm  WPP Group (WPPGY) bought 24/7 Real Media for $650 million. With Google having a clear leadership position in Internet advertising, especially in paid search, we think its competitors will continue to look for acquisitions and potential partnerships to chip away at Google.

Valuations by Industry
Our average star rating for the entire media industry is 3.46, indicating that we think the overall industry is slightly undervalued. Some of our favorite individual names are in the media conglomerates segment.

 Media Industry Valuations
Segment

Current Median Price/Fair Value

Three Months
Prior
 
Change (%) 
Broadcast TV 0.81 0.95 -15%
Cable TV 0.91 0.98 -7%
Media Conglom 0.93 0.95 -2%
Publishing 0.92 0.98 -6%
Radio 0.97 0.97 0%
Data as of 11-16-07.

Media Stocks for Your Radar
We see compelling investment opportunities in three media conglomerates, an online recruiting company, and a cable network with unique content.

 Stocks to Watch--Media
Company Star Rating Fair Value Estimate Economic
Moat
Risk

P/FV

CBS Corp

$36 Narrow Average 0.74
Time Warner $25 Wide Below Avg 0.68
Disney $40 Wide Below Avg 0.79

Monster Worldwide

$46 Narrow Average

0.75

Discovery Holding Co

$35 Narrow Average

0.77

Data as of 12-11-07.

 CBS Corporation (CBS)
CBS owns a solid mix of media assets, including the CBS television network, CBS Radio, CBS Outdoor, and publisher Simon & Schuster. With the exception of the outdoor advertising business, we expect weak revenue growth in these "old media" properties. However, we think all these businesses will generate healthy amounts of cash and, over time, we expect CBS to return most of this cash to shareholders via increased dividends and share buybacks.

 Time Warner (TWX)
Time Warner controls some of the most prominent assets in media, including Time Warner Cable, Warner Bros., HBO, AOL, and Time Inc. Most of these businesses are leaders in their respective industries and possess formidable competitive advantages. Although Time Warner's "old" media assets--film, television, and print--may not have high growth prospects, they do provide the company with generous amounts of cash. With the influx of cash, the company has invested in higher-growth areas including  Time Warner Cable (TWC), online publishing, and AOL's advertising platform.

 Disney (DIS)
The strength of the Disney brand has allowed the company to exploit its characters and franchises through box office and home video sales, theme park and resort attendance, and merchandising. The company has also aggressively built out its online presence, allowing its customers to consume additional content, play games, and buy more merchandise. However, the company's largest profit generator is its media networks, including ESPN, ABC, and the Disney Channel. While we anticipate solid performance in filmed entertainment, theme parks, and merchandising, we expect the media networks to account for the majority of the company's profit growth for years to come.

 Monster Worldwide (MNST)
Monster Worldwide is the global leader in the attractive online job recruiting industry, and we think it's doing the right things to capitalize on this profitable niche. Revenue growth has been slowing in the company's North American careers unit, but we think that's only part of the story. In our opinion, most of its growth opportunity lies in its international careers business, which now accounts for about a third of Monster's total revenue. We expect its international business will continue to generate lofty revenue growth and increased profitability.

 Discovery Holding Company (DISCA)
The bulk of the value of Discovery Holding Company comes from its 67% stake in Discovery, which boasts attractive cable networks Discovery Channel and TLC, among others. One of Discovery's key competitive advantages comes from its massive library of nonfiction content. We think Discovery's content, presented largely in documentary form, has strong universal appeal, transcending cultures and languages. As a result, Discovery is able to effectively repurpose its content to about 1.5 billion cumulative subscribers in more than 170 countries; such a large global footprint catches the eyes of advertisers.

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Michael Corty does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.