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Tune in these 4 radio plays
Soft advertising has left the radio industry with few friends on the Street. But investors with a longer-term view could benefit from steady earnings improvements.
By Robert Walberg
In a year of economic growth, presidential campaigning and summer Olympics, investors expected lots of advertising. But so far, advertisers have come up short, especially on the national front. Nowhere is this more true than in the radio business. Over the first six months of the year, national spot radio declined 0.3%. On the plus side, local radio advertising was up 3.5%, but even that gain was well below earlier Street expectations.
Unfortunately, there appears to be no significant improvement on the horizon, despite the obvious rise in political and Olympic spending. According to Cox Radios (CXR, news, msgs) president and chief executive, Robert Neil, business remains erratic. Citing an inconsistent advertising market, the company was cautious in its outlook for the third and fourth quarters of this year, expecting revenue growth in the low single digits.
Wall Street seems to share Neils somewhat pessimistic view, as analysts at Banc of America Securities, Goldman Sachs, AG Edwards, RBC Capital Markets and JP Morgan recently lowered their estimates and ratings for much of the radio broadcasting industry. Like Neil, the analysts pointed to sluggish ad sales as the primary reason for the downgrades. Jonathan Jacoby, an analyst at Banc of America Securities, noted that across the radio industry, ad sales dropped by roughly 4% in July and look to be flat in August. Again, weakness in national sales, which account for nearly 20% of industry revenue, was much to blame for the soft figures.
Dont rush the bargain hunting
A plethora of supply -- about 20-23 minutes of every hour on radio is now devoted to ads -- soft pricing and a growing number of alternative venues are among the reasons given for the lackluster advertising environment in radio. Tuned into this news, investors have tuned out the sector. The average year-to-date decline among radio broadcasters is an alarming 19%. However, most of the stocks bottomed out in July and have spent the past several weeks doing some much-needed (not to mention constructive) base-building.
With the industry in the doldrums and much of the Street having already lowered expectations, is now a good time for long-term investors to swoop in and do some bargain hunting? Looking strictly at the numbers, the answer to that question is probably no. The group trades at an average of 30.3 times estimated earnings for 2004 and 3.8 times trailing 12-month sales. Nothing compelling about those multiples, especially when you factor in the uncertain business environment over the next couple of quarters.
That said, the industry generates significant free cash flow, and, on that basis, valuations are becoming more attractive. Price activity also is improving, as Cox Radio, Clear Channel Communications (CCU, news, msgs), Emmis Communications (EMMS, news, msgs), Citadel Broadcasting (CDL, news, msgs), Westwood One (WON, news, msgs), Saga Communications (SGA, news, msgs) and Beasley Broadcast Group (BBGI, news, msgs) recently moved back above their 50-day moving averages. The industry is in the early stages of a significant technology upgrade as more companies roll out digital radio, which dramatically improves sound quality and gives stations the opportunity to squeeze several channels (news, traffic, music, talk) onto a single frequency. Though this change will have little effect on the near-term earnings picture, the long-term potential is exciting.
4 late-year possibilities
While there appears to be no urgency to investing in this beaten-down industry, there are a few names worth putting on your radar screen for some late-year bargain hunting. The first stock worthy of consideration is Clear Channel. The company owns nearly 1,200 radio stations across the country, and, with a market cap of roughly $21 billion, it is the biggest player in the group by far. Clear Channel also is well-diversified, with interests in television, live-entertainment venues and outdoor advertising. Consequently, even though the stock has been dragged down by the soft advertising environment in its radio segment, overall sales and earnings growth remain among the best in the industry. The companys valuations are also below the industry average, and it is the only industry player offering a dividend; it yields 1.38%. As industry conditions improve, the stock should have little trouble returning to the low to mid-$40 area.
Another favorite is Cox Radio. This subsidiary of Cox Enterprises owns, operates and/or provides sales services to about 80 stations in 18 different markets across the country. The stations offer a wide range of programming formats. Though much smaller than Clear Channel, management at Cox Radio is every bit as concerned with maximizing performance, as well as shareholder value. Its operating margin of 33% is among the highest in the industry, while its return on equity of 6% is about average for the group. At present, the Street expects earnings to grow to $0.69 per share in 2004 and then to $0.80 in 2005. Despite some of the fastest growth in the industry, the stocks valuations are among the lowest, making it a prime candidate for a price reversal once sentiment surrounding the radio broadcasters improves.
Entercom Communications (ETM, news, msgs) is the last pure broadcaster to make the list of buy candidates. Like the other two, Entercom derives most of its revenues (about 80%) from local advertising. Though revenue growth has been slower than originally projected, tight cost controls and improved efficiencies have positioned the company for solid earnings growth this year and next. With the highest operating margins in the industry, a competitive return on equity of nearly 8%, significant cash flow and relatively low debt, Entercom should help pace any recovery the industry enjoys.
My final selection is Westwood One. Not a true broadcaster, Westwood One supplies radio and television stations with programming and information services. The company is affected by how these industries are performing, and, as such, its stock has slumped right along with the radio broadcasters. Nevertheless it tends to enjoy more stable sales and earnings growth and should command a slightly higher earnings multiple. Thats not the case at the moment, however, with Westwood trading at 21.9 and 19.2 times projected 2004 and 2005 earnings. Down nearly 31% on the year and trading near its 52-week low, the stock represents an exciting turnaround candidate. The reversal might not occur until later this year, but when it does investors should enjoy a gain of 20% or more.
Going against the grain is one good way for long-term investors to beat the market. Right now, nobody likes the radio broadcasting industry despite earnings projected to show steady, if not spectacular, improvement over the next couple of years. Expectations are down, and that means they have only one way to go from here -- and thats up. As they do, share prices will move in the same direction. When that happens, Clear Channel, Cox Radio, Entercom and Westwood One should lead the charge.
At the time of publication, Robert Walberg neither owned nor controlled shares in any equities mentioned in this column.
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