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Morningstar | CBS Posts an in Line 2Q; All Access and Showtime Projected to Hit 16 Million Subs by 2022

CBS reported an in-line second quarter as both revenue and EBITDA met both our and consensus expectations. As expected, management didn’t take any questions about the investigation into the sexual misconduct allegations against CEO Les Moonves or the lawsuit against the controlling shareholder, National Amusements. We believe that a reunion of Viacom and CBS is unlikely to occur in the near term because of the current public spat between Shari Redstone and Moonves, the unanimous rejection of the merger by the special committee at CBS, and the ongoing investigation into Moonves. We are maintaining our narrow-moat rating and fair value estimate of $71. Given the uncertainty around the leadership at CBS and a potential Viacom merger, we recommend that investors wait for additional clarity even with shares trading in 4-star territory.

Overall revenue grew 6% year over year to $3.5 billion. Management updated its guidance for subscriber growth for CBS All Access and Showtime Now, with the services now expected to reach the target of 8 million combined subscribers by 2019 instead of the previous goal of 2020. Additionally, the services are projected to hit 16 million combined subs by 2022 in the U.S. alone. Adjusted operating margin fell to 20.0% versus 21.2% a year ago as revenue growth in high-margin areas such as retrans and reverse comp continues to be more than offset by the increased content costs at both CBS and Showtime and the increased marketing expenses for the direct-to-consumer offerings.

Ad revenue improved by 2% due largely to the acquisition of Channel Ten in Australia. Despite not having the Final Four games, ad revenue at the broadcast network was up 1% versus the same period last year. Affiliate and subscription fees for the entertainment segment grew 17% year over year driven by retrans and reverse comp growth of 25% along with growth in All Access subscriptions and third-party live streaming. CBS will have roughly three quarters of its retrans and reverse comp footprint up for renewal over the next two years, providing the firm with the ability to meet its stated 2020 revenue goal of $2.5 billion for this revenue source. Content licensing and distribution grew by 4% and the firm will own over 80% of its fall 2018 lineup, highlighting the return from the continued investment in the studio business.

We were surprised by the board’s decision earlier this week to not suspend Moonves during the investigation into the allegations of sexual assault and misconduct. While we believe that the board is loath to replace Moonves given his success and the ongoing battle with the Redstone family, Moonves’ role as chairman could cast a shadow upon the investigation. If the independent investigation by the law firms of Covington & Burling and Debevoise & Plimpton does not find any merit to the allegations, we expect that some observers will note that Moonves stayed on during the investigation and could have influenced it. Some pundits are already predicting that Moonves will only receive minimal punishment due to the lack of a suspension.