Name That Trade – CBS: How I’d Bet It Hovers

by Enis May 16, 2014 11:31 am • Commentary

CBS is a stock that illustrates the emotional roller coaster of the stock market, sometimes totally detached from the underlying businesses that the piece of paper represents.  Here is the 20 year chart of CBS:

CBS monthly chart, Courtesy of Bloomberg
CBS monthly chart, Courtesy of Bloomberg

From 1994 to 2000, CBS increased in price by more than 5 times, only to gradually decline over the next 7 years, before tumbling in 2008 and early 2009 to a low price of $3.06.  Investors in CBS had lost the majority of their investment, in what they probably thought was a secure, safe, long-term investment in an iconic American media property.

From that crisis low (in part due to forced margin selling by certain investors, including  Sumner Redstone, the founder and chairman), the stock has increased in value by more than 20 times over the course of the bull market.  The stock made a new all-time high of $68.10 in March of this year, and is currently trying to hold the $56 breakout level from its 2000 high.

More incredibly, the drastic volatility in the price of CBS stock has occurred in the past decade amid actual business results that have been remarkably stable.  In fact, overall sales at CBS have been between $13 billion and $16 billion in every single year over the past decade, including 2009.  Earnings per share has been more volatile as margins have fluctuated and share buybacks have reduced the overall share count and boosted EPS.  Nevertheless, even EPS has not been nearly as volatile as the share price, as it was around $1.40 10 years ago, went as low as $0.53 in 2009, and was $3.02 in the calendar year 2013.

What about CBS as a business?  

The company describes itself as follows in its 10-Q:

CBS Corporation (together with its consolidated subsidiaries unless the context otherwise requires, the “Company” or “CBS Corp.”) is comprised of the following segments: Entertainment (CBS Television, comprised of the CBS Television Network, CBS Television Studios and CBS Global Distribution Group; CBS Films; and CBS Interactive), Cable Networks (Showtime Networks, CBS Sports Network and Smithsonian Networks), Publishing (Simon & Schuster), Local Broadcasting (CBS Television Stations and CBS Radio) and Outdoor Americas (CBS Outdoor).

While the entertainment divisions are well known, one of the main catalysts for the stock in 2014 was the spin-off and IPO of CBS Outdoor (ticker CBSO), which started trading publicly as a standalone company on March 28, 2014.  In January, the parent company CBS borrowed $1.6 billion against the CBS Outdoor business, and promptly used those proceeds to execute an accelerated repurchase of its own CBS shares.  In fact, a big part of the bull argument for CBS over the past 5 years has been the declining share count.  Sales have only grown 15% in that time, while EPS has gone from around 0.50 to around 3.00.

Analyst expect more of the same going forward.  Sales growth projections for 2014 and 2015 are around 1%, while EPS growth projections are 15-20%.  As for CBS Outdoor, it was a small portion of overall revenues anyways:

Screen Shot 2014-05-12 at 6.38.21 AM

And a small portion of earnings as well:

Screen Shot 2014-05-12 at 6.38.48 AM

However, the main business, the Entertainment division, is feeling the effects of secular decline.  Income and sales continue to decline in that division., partially offset by the cable networks and the continual share buyback strategy to reduce the overall share count.  The advertising outlook for the classic CBS non-cable network is still declining as the younger generations switch from watching the nightly news to the internet.  Advertising revenues are declining alongside that shift:

Screen Shot 2014-05-12 at 6.40.09 AM

Despite such a tepid business outlook, Wall Street analysts are almost uniformly bullish on CBS.  There are 25 buys, 8 holds, and 0 sells.  The consistency of EPS growth, and the relatively cheap valuation (trailing 12 month P/E of 24x for 15-20% expected EPS growth), as well as the cash freed up by the CBSO spinoff are the main bullish views.  CBS is expected to buy back $6 billion of stock in 2014 alone, which would be 17% of shares outstanding, as laid out by GS Research:

CBS is on track to effectively repurchase $6 billion of its shares in 2014. CBS indicated that it expects to reduce its equity base by $6 bn in 2014, or 17% of market cap. (1) ASR: CBS completed $2 bn of share repurchases in 1Q driven by a $1.5 bn in the ASR program and open market purchases funded in part by the CBSO debt raise and IPO. (2) CBSO share exchange: While our estimates do not incorporate the pending share exchange, our sensitivity analysis concludes that the exchange may reduce CBS’ share base by 8-9% based on (1) CBS’ 81% ownership in CBSO, (2) CBSO’s current equity value of $3.6 billion, and (3) a 2.5%-12.5% discount to the current CBSO market value to ensure full participation. (3) Open market purchases: We estimate that CBS will repurchase an additional $1.3 bn shares in open market purchases through the remainder of the year. 1Q EBITDA modestly short of expectations. Despite the EPS beat, which was driven by better below-the-line items (e.g., corporate expense, taxes, other income), segment EBITDA slightly missed our expectations. Specifically, Entertainment, Cable Networks, and Local Broadcasting EBITDA missed our estimates by 2%.

Sum it all up, and CBS is more of a sum-of-the-parts story rather than a growth story.  But it’s noteworthy that the stock peaked in March shortly before the IPO of CBS Outdoor.  It looks like a situation of buy the rumor / sell the news as funds bought ahead of the positive news event.

At this juncture, while CBS looks cheap on paper based on continued share buybacks, the overall business outlook hardly looks too rosy.  When the fundamental case for a stock rests on financial engineering rather than business performance, we generally prefer to stay away.  However, given the large share buyback, if implied volatility spikes at some point in 2014, we might look at options structures that sell volatility, since the company will be in the market supporting the stock.  Here is 30 day implied vol:

[caption id="attachment_40553" align="alignnone" width="600"]30 day implied vol in CBS, Courtesy of Bloomberg 30 day implied vol in CBS, Courtesy of Bloomberg[/caption]

A move back to the mid-30s without an imminent earnings announcement would be a good spot to sell.


No interest in buying the stock, but might look at short volatility options structures if CBS vol spikes, especially on a selloff.



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