CMCSA: Cable Justifies Full EV, Option On NBCU & Sky (NASDAQ:CMCSA)

Background & Situation

Comcast is a leading cable and media company made up of three main businesses: Cable, NBCU, and Sky. Cable makes up the majority of their business; 55% of their $115 billion in revenue and 80% of $35 billion in EBITDA. I’ll give some background and the current situation before jumping into the analysis.

Cable (Xfinity brand)

Xfinity passes ~61 million homes and businesses in the U.S. and has ~34 million customer relationships (~57% penetration). The residential cable business is split into four categories: internet, video, voice, and wireless. Internet has added >1 million customers a year for the last 15 years and has ~29 million customers who generate ~$65 a month. Internet is a high margin product, Comcast’s largest EBITDA generator, and is now considered the core of their business (taking over from video). Video is in secular decline as homes cut the cord, but revenue is roughly flat over the last five years despite losing ~4 million customers. This is due to consistent price hikes to offset increases in TV programming costs. Voice customers have been declining slowly over the last five years (-3% CAGR) but this now only makes up ~5% of cable revenues. Wireless is a relatively new product for Comcast, launching in 2017 as an MVNO (Mobile Virtual Network Operator). It runs on Verizon’s network and offers cheap wireless to its broadband customers. The rollout has been very successful, adding ~1 million lines a year since launch and now operates ~4 million lines that generate ~$50 a month (a customer relationship averages ~1.5-2 lines).

Outside of the four main categories for residential, the rest of Comcast’s cable business is predominantly comprised of Business Services (they do have Advertising and Other, but those are only ~5% of total cable revenue), which is a combination of all the above, but offered to businesses. They do offer some more expansive services in this segment, such as cyber security, video monitoring, and backhaul services to mobile network operators. Business services has grown at a double digit CAGR since 2015 and management is bullish on growth going forward.

Over the last few years, the cable industry has come under pressure as the increased availability of fiber and the launch of 5G means consumers have multiple options for high-speed internet. The pandemic helped paper over this competition by accelerating the structural shift to high-speed internet and drove solid net adds for Comcast in 2020 and 2021 (~3.3 million). The concern from the market is competition will disrupt cable’s historical monopoly. Add in the pandemic pulling demand forward and the outlook for future growth is unclear. This played out in the second half of 2021, with internet adds coming in below market expectations and resulted in Comcast’s stock dropping from ~$60 in September 2021, to ~$46 today .

I’ve included a summary of the cable segments financial performance below. Capex has ranged from $7-$8 billion over the last three years (~13% of revenues).

NBCUniversal

NBCU is a leading media and entertainment company that creates and distributes visual content (TV & film), as well as operating some of the world’s best theme parks. The rise of streaming and consistent cord cutting has changed the business model for NBCU and, in 2020, they launched Peacock as its own streaming service to compete with the likes of Netflix, Disney, Amazon, HBO, and Hulu. The service has three tiers: a free offering with limited content and ads, a $5 a month option with premium content and ads, or a $10 a month no ad option. Management has said their research indicates ~80% of consumers prefer a cheaper option with a light ad load (~5 mins an hour), and they are seeing this play out with most consumers signing up for the $5 tier.

Comcast has leveraged their position in the home with the X1 and flex (set top boxes) to drive sign-ups for Peacock (they don’t require credit card info), but this hasn’t translated into many paying customers. They claim to have over 54 million signups , 24.5 million active accounts, and 9 million paying subscribers (~$10 monthly ARPU). They also have ~7 million active users who receive the service free through Xfinity or other distributors. Peacock generated ~$800 million of revenue and $1.7 billion in EBITDA losses in 2021. Management expects to increase Peacock spend to ~$3 billion in 2022, and stated on its Q4 earnings call that its goal is for, “ramping domestic content spend to $5 billion over the next couple of years, some of which will be incremental and some of which will be a reallocation
from linear programming.”

The launch of Peacock has left NBCU trying to balance a few competing priorities, mainly keeping pay-tv distributors happy while trying to push Peacock subscriptions. Legacy cable distributors pay high fees to carry NBCU’s networks, but if content is being siphoned off to Peacock, carriage fees will decline. The Media segment is undergoing a shift from a declining cash flow positive business (legacy cable) to a fast-paced dynamic industry (streaming), where they’re a smaller player.

The Theme Parks segment was severely impacted by the pandemic but recovered in 2021, generating ~50% of their pre-pandemic EBITDA. They operate theme parks in Orlando FL, Hollywood CA, Osaka Japan, and Beijing (joint venture with 30% ownership). They are also in the process of constructing an additional gate in Orlando called Epic Universe. Moving forward this business should return to solid growth and EBITDA margins (~40%).

Sky

Sky is a European entertainment company with operations across Europe. Purchased in 2018 for ~$39 billion, the acquisition has yet to add value for Comcast shareholders and is currently viewed as a rare error on an overall good capital allocation record for Mr. Roberts (unfortunately this was a very large acquisition). There have been some benefits however, such as using Sky technology to help build Peacock and using the Sky Glass project to help create their own smart TV, the XClass.

The majority of Sky’s revenue comes from their DTC business (delivered through satellite or broadband using their Sky Glass tv) where they sell TV packages such as news, sports, and premium shows. ~65% of their revenue and ~75% of their EBITDA is earned in the U.K but there are plans to expand in their other key geographies (Germany & Italy). They also offer broadband (#2 provider in the U.K.), voice, and wireless services. They have ~23 million customer relationships and are in the process of adding Peacock to their offering (starting in the U.K. and Ireland). Additionally, they recently announced a partnership to launch a streaming offering in European markets where they currently don’t have a major presence, partnering with ViacomCBS to launch SkyShowtime in 20 markets. Management has stated a goal of doubling pandemic impacted EBITDA to ~$4 billion over the next few years.

Media and Sky segment EBITDA numbers are still depressed as the U.S. recovers from the pandemic, but Comcast’s financial performance is driven by cable. Consolidated historical financial performance is presented below:

Thesis

There’s a lot of moving parts within Comcast but their future financial performance will be decided by a few key drivers. I’ll go over them below, before attempting a valuation:

Drivers

1. What does the cable industry look like in five years with increased competition, and can they continue to grow passings while slowly increasing penetration?

2. Can Comcast execute with Peacock or does it either need to be acquired or acquire another streamer to get to the scale required to compete?

3. Can Sky recover from the pandemic and begin growing despite the rise of streaming options in Europe.

Cable future

I’m a cable bull (full disclosure), so it won’t come as a surprise that I like Comcast’s cable assets. The move to high-speed internet has been a huge tailwind for the industry over the last 20 years; below is a chart from Pew Research that shows evolution of broadband connections in U.S. homes.

Comcast has added over one million internet connections a year for over 15 years (they love to say this) and has transformed their focus from video to internet. With ~80% of U.S. households now having a broadband connection, growth will not come as easily moving forward. Internet adds will likely come from new builds, edge outs from their current footprint, or government backed projects (i.e., RDOF); most of the low hanging fruit is gone at this point. Add in fiber and 5G and you get a maturing market with increasing competition.

Fiber

Let’s start with fiber. Fiber is a better technology than cable, more reliable, provides symmetrical speeds, future proof, and is slightly faster. Not a great start for a cable bull case… Despite this you will hear Mr. Roberts brush aside fiber competition with comments like:

“in fiber, which would be the first competitor, we’ve been dealing with that for 15-plus years. And fiber, just to go back, went from 0% overbuild to now 40% of our footprint is overbuild. And in that same time period, we added 22 million broadband customers, and we’re #1 market share.” Morgan Stanley Technology, Media, and Telecom Conference

You’ll be able to find similar quotes from Mr. Rutledge, CEO of Charter. The lack of concern for a slightly superior product that is increasing spending worried me at first, but looking at the data I think their comments are based on reality (even if slightly exaggerated).

Using the FCC’s website, which has data up to 2020, we can look at broadband availability by technology type by year. There is some
concern over the accuracy of FCC data (see attached article), with the major issue related to overstatement of broadband availability. I’m going to use it as I believe its directionally correct for this analysis (any overstatement of availability would be relevant for both cable and fiber) and, to be frank, I don’t have access to anything better.

Fiber availability across the U.S. was ~20% in 2016 (at least one provider of >100 mbps/10 mbps). Fast forward to 2020 and that number has more than doubled to over 40%, with cable availability staying roughly flat at ~90%. What impact has this increase in fiber had on Comcast? Not much, they’ve added 1.1 million connections a year and increased internet penetration from 40% to 49%.

Research from MoffettNathanson estimates that Comcast’s footprint with a fiber overbuilder will increase from ~34% to ~55% by 2025. So, what will be different about the next few years when compared to the recent past? I don’t think there will be much change for a few reasons:

1. Cable is the incumbent and its already in the home. A significant number of people simply don’t change their provider unless they are forced (moving), or from extremely poor service (think Altice level service). The median duration of home ownership in the U.S. is ~13 years, so being the incumbent is a meaningful advantage.

2. Cable, while being slightly inferior, provides the same service as fiber (usually slightly cheaper) and easily keeps up with speed requirements (internet is a commodity assuming it works at required speeds). Cable has consistently improved speeds using DOCSIS technology and has a path to get closer to symmetrical speeds with upgrades like mid and high splits. If cable can keep up with bandwidth requirements, the average consumer likely won’t know or care about the difference in technology.

3. The decline of video is not a huge loss for Comcast due to its low EBITDA margins. Additionally, and I think somewhat overlooked is the increase in customer satisfaction as they drop their TV packages. It’s no secret there’s a certain amount of animosity towards cable providers, especially large ones. I would argue the majority of this comes from the TV side. Internet prices have stayed pretty much flat since 2011 (adjusted for inflation) and value of the internet to a household has increased exponentially. Cable TV has gone the opposite way, offering less value and now costs >$100 a month. As people cut the cord, I think satisfaction increases as the internet becomes the product a consumer judges their cable company on. Happier customers will be less likely to switch.

4. The rollout of wireless for Comcast (and Charter) has gone extremely well and they now compete with wireless providers in the other direction (historically it’s only been one way). A MVNO with a trusted brand attached has proven to be a great way to operate in the wireless market; it allows Comcast to offer low prices, increases the value of their bundle, and it requires little capital. The brand means they can offer the benefits of an MVNO (cheap) without the stigma that usually comes with other MVNO operators (Mint, Cricket, Boost etc.). Unlimited plans start at $45 a line and can get as low as $30 when you sign up for four. This gives a customer internet and two wireless lines for ~$150 a month. Telcos struggle to match these prices due to their more expensive mobile offering (they’re an MNO).

   Details on the MVNO agreement with Verizon are hard to come by but all indications are that the agreement is perpetual in nature, requires Verizon to offer the same quality they use for their own network, and the payment structure is by the gig. Comcast has purchased some CBRS spectrum that they describe as optionality to potentially offload traffic onto their own network (they claim they are profitable without it). Lastly, their MVNO offering is capital light and allows them to scale and lock in customers quickly. Fiber overbuilders must now fend off cable from a wireless perspective (which they haven’t historically had to), wire neighborhoods with fiber (which takes time), and then try to win customers. If a significant number of customers are locked into a cable package with great value wireless, it’s going to be difficult to convince them to switch, even with introductory offers.

This thesis falls apart if fiber can offer something to customers that cable can’t (i.e., cable can’t provide required speeds). If this happens cable could go the way of DSL (obsolete), but the differential between the capabilities of cable and DSL is worlds apart from cable and fiber. I don’t think this is likely to happen and I’m bullish on cable continuing to add internet connections, even if at a slower pace.

5G

5G fixed wireless competition is harder to assess as its a relatively new threat. There have been fixed wireless offerings in the past but none of them have offered speeds anywhere near quick enough to pose a threat to cable. That has changed with the rollout of 5G. Removing the need to wire every home in the neighborhood is a large cost saving, add on the ability to use simultaneously with a nationwide wireless offering and you have scale advantages that cable can’t compete with (cable companies are regional). It will also bring in multiple competitors and sets up the potential for a 5-way battle to provide internet (one cable, one fiber, and three national wireless providers). T-Mobile has had great success so far with their fixed wireless rollout, adding the most internet connections of anyone in Q4 21 (~224k). Despite this, I see the fixed wireless threat as more around the edges than a true threat to take over as the main provider of home internet. I’ve detailed why below:

1. Having a wire into the home is still the best way to deliver fast reliable internet, and cable is already in the home. I see 5G as a great option in rural areas and the C-band spectrum appears to be the sweet spot, allowing for acceptable speeds (300-500 mbps) while connecting to towers a few miles away. Higher band freque
   ncies (mmWave) can offer speeds that compete with cable and fiber (gig+ speeds), but poor penetration limits this to dense population centers. Mr. Roberts’ comments from a recent Morgan Stanley conference seem to confirm this is their thinking too, “Time will tell, but it’s an inferior product. And today, we can say we don’t feel much impact from that. It’s lower speeds”. This comment is geared towards the T-Mobile offering and pushing back on the long-term viability of 300-500 mbps being enough bandwidth for the home.

2. T-Mobile’s offering, despite their comments about taking significant share from cable, seems to be concentrated in more rural areas; a LightReading article details a recent study by MoffettNathanson that claims “T-Mobile’s FWA subs significantly over-index in rural areas, and in areas where DSL is the only wired option.“ It would make sense that they’re adding subscribers quickly in areas where cable doesn’t offer a high-speed internet product, as they’re effectively the first high-speed provider in the area. I would expect adds to slow as they run through previously unserved areas without high-speed internet. This could reduce the ROI on potential edge outs for cable companies, but I don’t see fixed wireless taking significant share in areas cable already has an established presence.

3. Rising data usage will cap the expansion of 5G as capacity becomes strained. T-Mobile has effectively admitted (in a roundabout way) they aren’t after high usage customers with comments like:

   “Average users are using 300 to 400 gigs a month. We have mid-single digits using more than a terabyte… Their (cable) averages are only higher because they have some 10%, 20% of people that use multiple terabytes… we can support some of that”.

   Why aren’t they after all terabyte+ customers? The only reason I can think of is having to ration capacity for their wireless customers who pay ~10x more per gig. This issue is similar to satellite, where the more successful you are (more people you sign up), the less you can offer your customers. T-Mobile is dealing with this by limiting signups to keep speeds acceptable, but median household speeds rise quickly when they cut the cord, using ~2x the data of a customer with a cable TV package. So, while a threat in certain situations, a wire is still the best way to get reliable high-speed internet to an increasing amount of data hungry homes.

Increased competition is coming, but I think the overall impact for Comcast is manageable. One final thought on cable competition; the recent rise in interest rates and tighter overall credit conditions could help Comcast as it lowers the economics on some of the planned overbuilding over the next few years. Any slowdown will mean Comcast can lock in more customers with wireless lines before fiber becomes available.

Peacock

NBCU was late to the streaming industry, releasing Peacock in early 2020, claiming their unique offering was a low-cost platform that had ~5 mins of ads an hour. Their previous presence in streaming was an interest in Hulu that started out as a joint venture before becoming a minority interest after Disney’s purchase of 21st Century Fox. In 2019 they agreed to exit the investment in 2024, where NBCU can require Disney to buy and Disney can force NBCU to sell. The deal provides a floor to the sales price, resulting in NBCU getting at least $5.8 billion at exit. Comcast has taken out a $5.2 billion collateralized loan, secured by the proceeds from the sale of their Hulu stake. Additionally, as part of the deal, NBCU was able claw back content starting in September 2022 (they exercised this rate in March). So, starting in September, shows like The Voice and Saturday Night Live won’t be available on Hulu the day after they air.

The key question for Peacock is can they organize their offering and find their niche as they regain control of their content? I’m currently skeptical as I find Peacock’s offering very confusing, it feels like they’re still trying to work out what to offer customers. Streaming services like Netflix, Disney, and HBO Max all feel like they have an obvious value proposition. Netflix is a one-stop shop for ad free (at least currently) streaming of shows and movies with a huge library (from premium to low cost). HBO offers premium scripted content and movies. Disney leans on its IP and offers a library of classic content with a steady stream of premium scripted shows (i.e., The Mandalorian). Peacock has some live TV (58 channels), some premium content (Yellowstone), some binge worthy classic sitcoms (The Office) and has even released movies on the platform (Boss Baby). I have Peacock but I never use it to browse for something to watch, I normally go there to watch a live sports event, Premier League for example, or to watch something I’ve been recommended (anecdotal I’ll admit). I do think this could change over the next couple of years as content slowly trickles back to NBCU and they gain more control over their full content library. Strong cash flow from their cable assets and Mr. Roberts’ significant voting power will give them time to play out their hand if they choose. Whether this is good for investors is another question.

On the positive side, launching with an ad offering appears to have been the correct move, with others now moving to offer ad supported tiers. Even Netflix is thinking about ads after it lost subscribers for the first time in a decade. But this feels like it has more to do with the realization that streaming needs ads to be economically viable. The players in streaming are currently well-funded and spending on OTT services was ~$50 billion in 2021, with total content spend at ~$220 billion (includes sports rights, cable TV etc.). At some point though, the market is going to want to see cash flow and we potentially saw a big step in that direction with Netflix’s recent subscriber losses (are they ex growth?). A merger with another streamer would make sense for Peacock, given its small size, but it’s hard to see many suitors now that Warner Bros and Discovery have completed their merger. There were preliminary talks with Paramount (PARA), but anti-trust concerns, sparked by rhetoric from the Biden administration, put those plans on ice.

In summary, a successful standalone Peacock offering will take years to create as it renegotiates deals with distributors, claws back content from other streamers, and then must continually release hit content to keep people engaged. Over the next five years how much will this venture produce in EBITDA losses? With spend ramping to $5 billion annually, I’d guess total EB
ITDA losses for the next five years will be over $5 billion. In a unique way, I think the Netflix subscriber situation may help Peacock (going to do some wild speculating here). First, there might be an opportunity for a partnership with a large streaming service like Netflix, on favorable terms where they could move away from Peacock and return to their previous model of selling their content to the streaming service it best fits (and will pay the most). Their significant content spend (over $20 billion total) and production expertise would be very valuable to other streaming providers. Another outcome is the market starts to doubt the growth story for standalone streaming services and starts assessing them on shorter term fundamentals. A reduction in content spend, especially by pure play streamers like Netflix (they have already hinted at this) could create opportunities for Peacock, who can keep up spending due to their conglomerate structure.

Probably not surprising from the writing above, but Peacock goes in the too hard pile for me. I just can’t get my head around the future economics and the streaming industry seems to be changing daily at the moment. But, if the business can be seen as a free option, it doesn’t necessarily preclude us from an investment in Comcast.

Sky

To understand Sky’s future, a look back at its past is helpful. First, the U.K TV market differs from the U.S. in a few ways. Paying $100 a month for TV services isn’t the norm. The usual set up for a U.K household in the late 2000s and early 2010s was five free channels (two BBC channels, ITV, Channel 4, and Channel 5). Most households then either purchased a digital box which gave access to ~40 more channels for a one-time fee of ~$50, or purchased Sky (who provided TV through satellite), which would cost you ~$30-$70 a month, depending on the package. Sky also locked households in with long-term contracts, usually at least 18 months+ (they do now offer a rolling contact option called Now TV). Sky was the premium offering that provided all the channels from the digital box and then additional channels such as movies, sports, and news. There were two types of households in the U.K, those that had Sky and those that didn’t (similar to the iPhone now). Other businesses tried to encroach on Sky but didn’t have too much success. As Sky signed up more customers they could afford to pay more for rights like the Premier League, the PGA Tour, and F1. This flywheel kept spinning and Sky was generating revenue of ~$20 billion and EBITDA of ~$3 billion in 2018, the year they were acquired by Comcast.

The growth of streaming and the key question for Sky, how does the increase in options impact Sky and can they keep their status as the premium U.K TV provider (U.K. generates ~75% of their EBITDA)? U.K households only spend ~$600 a year on TV services, while this is trending upwards it’s worlds away from U.S. household spend of ~$1,700 ($1,100 on cable and $600 on streaming). The rise of streaming options like Netflix, Amazon Prime, and Disney means Sky is competing directly with these streaming services for share of the U.K’s $600 annual spend (spend could increase to account for additional content but by how much?). They did recently renew their deal with HBO for the rights to show all HBO produced content through 2025. HBO already regrets this deal and has delayed the launch of HBO Max in Sky markets as a result (U.K, Germany, and Italy). This deal is huge for Sky as it allows them to continue showing HBO’s premium content in these markets (under the brand Sky Atlantic) and can add to the offering with Peacock. Who knows what HBO will be thinking and where the streaming industry will be in 2025, the next time HBO can pull back these rights?

Sports rights continue to be a great way to keep people subscribed and sports fans in the U.K are almost forced into subscribing to Sky Sports if they want to watch a significant amount of live sports. Sky currently has the rights to the Premier League (shared with BT and Amazon), NFL, F1, Golf (PGA Tour and majors), cricket, and others. However, cracks have started to appear in their dominance of sports rights as streaming live sports grows in popularity and prices for rights keep rising. Amazon outbid them for the rights to ATP tour in 2018 (although they recently won them back), they lost a significant amount of Series A games in Italy (Italy’s top soccer league) to DAZN, and Discovery and BT Sport’s proposed joint venture could put their Premier League rights at risk next time they come up for bid (2025).

They do have some steadier businesses like broadband where they’re the #2 provider in the U.K (6.2 million households) and have launched a broadband offering in Italy. However, the changing dynamics of the streaming industry make it hard to use historical fundamentals to predict future subscriber trends. A return to pre-pandemic EBITDA appears reasonable but their position as the dominant player in the U.K. TV market looks under serious threat.

Valuation

To value Comcast I’m going to value the cable business by projecting out EBITDA to 2026, applying a EV/EBITDA multiple and include all CMCSA debt. I’ll then back into an implied value of NBCU, Sky, and other investments. We’ll then do an assessment of capex and perform a reasonableness check based on 2026 cash flow yield (everything eventually comes back to cash flow).

Cable assumptions

I’ve assumed slightly lower passings growth over the period due to slowing tailwinds and potentially decreased economics as 5G expands in rural areas, offset by potential government initiatives like RDOF. Internet revenue per customer will continue expanding at ~3% CAGR with ~600k internet adds a year through 2026 (~3 million total). Video revenue declines modestly as customers cut the cord, offset by price increases. I estimate wireless will have ~8 million lines by 2026 (from ~4 million in 2021) with a ~$55 a month a line assumption (~$5.3 billion in revenue by 2026). Business revenue increases ~4% per customer throughout the period with ~400k total adds through 2026 (2.8 million business relationships in 2026). EBITDA margins will increase to ~47%,
mainly due to total programming costs staying roughly flat as per user costs go up but video customers continue declining. Additionally, I predict Comcast will keep up efficiency gains related to customer service costs (but at a slower rate). This gets us ~$35 billion in cable EBITDA in 2026, up from ~$28 billion in 2021 and a ~5% CAGR. Note: I’ve added a more detailed model in the appendix.

Using a 9x EBITDA multiple, which I think is reasonably conservative, this implies the rest of the business is worth ~$16 billion (free of all debt). For reference, Charter’s EV/EBITDA multiple has been 9-11x over last couple of years. Capex for the cable business has averaged ~$8 billion over the last three years or ~13% of revenues. Using 13% as the capex assumption results in ~$25 billion in operating cash flow from the cable business in 2026.

Additionally, the business will have generated ~$90 billion in free cash flow over the 5-year forecast, but how that capital gets allocated is hard to predict. ~$25 billion will probably be returned through a dividend, some will go to buybacks (say ~$25 billion?) but management could pursue another acquisition, a tender offer for more shares, a spin off (who knows). To keep this simple we’ll assume the $90 billion will be returned to shareholders in some way (or they use it efficiently), so we end up with a $200 billion cable business (equity value), $90 billion of capital returned, and then NBCU, Sky, and other investments for an unknown value. All this costs us ~$215 billion today.

I’m going to let you, the reader, decide what value to place on NBCU, Sky, and other items like investments (~$10 billion+ in investments from Hulu and Atairos), but if you agree with my cable assessment, I think we’ll come to the same conclusion; Comcast is undervalued but by how much depends on your opinion of the Media and Sky assets. As I’ve stated above, I’m unsure on their future but I think the optionality is worth more than the implied value above (I would argue the theme park business is worth at least ~$25 billion alone – 10x pre-pandemic EBITDA multiple).

Conclusion

Thanks for reading (this one ran long), but to quickly summarize, I like Comcast’s cable assets but am unsure on the Media assets, including Sky. I still think there’s significant optionality on the upside, but I slightly prefer Charter at the moment as you get the cable assets, for a similar valuation, without the less predictable Media assets attached (I think both Charter and Comcast are well run). To be clear I’m bullish on both, but Charter is my preference.

Appendix