Comcast: Historically Steep Sell-Off Makes Some Sense

Source: Investing.com

To be sure, market sentiment no doubt is a factor in all four of these charts. But nearly every one of Comcast's peers is down at least 15% over the past month. And, for the most part, these are not stocks that often decline that far, that fast. In fact, historically these stocks—Comcast included—typically outperformed a falling broad market. That's not what is happening now: the S&P 500 is down only 9% over this same period, while CMCSA has fallen almost 20%.

But that underperformance comes from the market reacting to real changes in all of the Comcast businesses.

Comcast Cable, referred to in financial statements as the cable communications segment, is the core driver for Comcast stock. In 2021, it accounted for roughly 80% of the company's profit. Its importance has risen in recent years as cable profits have grown, while NBCUniversal and the theme park business have shrunk.

Looking backward, the importance of cable seems like absolutely a good thing. From 2018 to 2021, cable communications' EBITDA increased 30%. And so the simple case for CMCSA stock at the lows is that 80% of the business has increased profits at a compounded annual growth of 9%—yet the stock is priced for essentially zero growth going forward.

But, again, that growth may well be set to come to an end. Every U.S. consumer is aware of the impressive pricing power cable operators have had in recent years. The internet has become essentially a necessity, and in many markets Comcast's competition has been limited to lower-quality alternatives like DSL.

That is changing. Wireless companies are offering 5G data plans that can serve the needs of many households. Fiber “overbuilders,” like WideOpenWest, are looking to take share. Fiber is a huge part of AT&T's growth strategy going forward.

What has made cable such a great business is that incremental profit margins are high. With broadband infrastructure already built, it costs Comcast little to serve an extra business or household. It costs essentially nothing to raise prices on existing subscribers.

But when subscribers decline, or pricing turns negative, the effect reverses. Comcast loses almost every dollar of price it gives back, and substantial profit for each customer that defects. Video (i.e., cable service) and voice customers already are declining. If broadband customers do the same, the importance of broadband means that total Comcast profits are going to fall.

Investors are worried that's precisely what will happen. As one Wall Street analyst put it last month, “There is simply too much capital chasing the nation's fixed and wireless broadband customers.”

There are worries in the rest of the business as well. The theme park business—centered around Universal Studios locations worldwide—should continue to bounce back as post-pandemic normalcy returns. But theme parks simply aren't that big; even in 2019, that segment accounted for less than 8% of total profit. The same issue holds for the movie studio business, which drove roughly 2% of pre-pandemic earnings.

Television profits are set for a long, steady decline; earnings excluding losses at Peacock dropped nearly 8% year-over-year in the first quarter. Comcast clearly badly overpaid in its acquisition of UK-based Sky. At about 6% of total profit, Sky isn't moving the needle.

The Peacock streaming service in theory could move the stock. Even after the plunge in its share price, Netflix still is worth around $100 billion. A successful Peacock, thus, could garner a valuation that would account for a chunk of Comcast's ~$180-billion equity value.

But Peacock seems to be lagging somewhat. Churn is high. Net subscriber growth of 180,000 in the first quarter seems solid, but hardly spectacular. And while over time, Peacock will add to Comcast's earnings, the profit growth in streaming will, to at least some degree, be offset by continuing erosion at the legacy television networks. At the very least, if the cable business stagnates, there's not enough elsewhere to compensate.

Despite all this negativity, Comcast stock obviously isn't a short. And owning this business at 10x forward earnings certainly isn't the worst investment in the market. It's possible that competition fears are overblown—wireless broadband , in particular, has real limitations in terms of bandwith and service area.

But buying CMCSA simply because it's fallen so sharply since September, and since April, seems potentially dangerous. There are reasons why the month-long decline in Comcast stock has been more than double that of the broad market. It's not because panicked investors are selling indiscriminately. Rather, it's because the Comcast business suddenly looks very different—and far less attractive.

Investors can bet that the market is wrong—but at the very least, they need to understand why that view exists.

Disclaimer: As of this writing, Vince Martin has no positions in any securities mentioned.

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Written By: Vincent Martin