Analysis: CMCSA NFLX

Wednesday morning, before the opening bell, Comcast (CMCSA) reported a top and bottom line beat with its fiscal fourth-quarter earnings results. On the top line, sales of $27.856 billion (+26.1% YoY) outpaced expectations of $27.552 billion. On the bottom line, adjusted earnings per share of $0.64 (+36.2% YoY) edged out consensus of $0.62 per share.

In addition to the headline results, Adjusted EBITDA of $8.19 billion (+21.6% YoY) surpassed expectations of $7.8 billion, while net cash provided by operating activities increased 7.14% year over year to $5.79 billion, missing expectations of $6.8 billion. Free cash flow increased 8.64% year over year to $2.06 billion, also coming up short of the $2.74 billion consensus. Despite the miss in operating cash flow, it is important to note that the actual number is still well in excess of the company's adjusted net income, indicating higher quality earnings, and easily surpasses the company's dividend payout, giving us confidence that management not only has the means to keep paying the dividend uninterrupted, despite the debt taken on by the Sky acquisition but can do so while maintaining ample breathing room to deleverage the balance sheet over time.

On the capital return front, management repurchased 27.2 million shares in the fourth-quarter for a total return to shareholders $1.0 billion while paying out an additional $865 billion in the form of dividends. For the full year 2018, management returned a total of $5.0 billion in the form of share buybacks and another $3.4 billion via dividends. Looking ahead, management raised the company's annualized dividend by 10% to $0.84 per share for 2019. This represents the 11th consecutive annual dividend increase.

Cable Communications

Digging into the Cable results, total revenue increased to $14.128 billion (+5.2% YoY), exceeding consensus of $13.986 billion. By segment on a year over year basis, we saw growth in sales for High-Speed Internet to $4.4 billion (+10.1%), Business Services to $1.84 billion (+9.5% YoY), Advertising to $863 million (+27.7%, +3.1% YoY) - when excluding the impact of political advertising - and Other to $467 million (19.1%) that was partially offset by revenue declines for Video to $5.58 billion (-1.6% YoY) and Voice to $978 million (-3.0% YoY). Additionally, thanks to an 80 bps expansion in adjusted EBITDA margin to 40.9%, adjusted sentiment EBITDA increased to $5.78 billion (+7.3% YoY).

As we've noted previously, while the cord cutting trend continues to result in a contraction of video revenue, Comcast has been able to more than offset this trend via broadband additions. This dynamic is helping to improve profitability thanks to the higher margins provided by the company's connectivity business. To this point, CFO Michael Cavanagh noted on the call "these strong operational and financial results for the fourth quarter and full year reflect our overall focus on driving profitable growth and the benefits as our model shift more towards our higher margin connectivity businesses, residential high-speed Internet and business services."

As a reminder, management has already taken steps to address cord cutting by shifting its strategy to focus on broadband while bundling other services around it. On the call CEO Brian Roberts stated, "we expect connectivity will again be the growth engine of our cable business in 2019 and beyond with sustainable benefits to our financial results as our mix shifts more towards these margin-accretive businesses. We see lots of runway ahead and this should help us deliver another year of healthy customer and net cash flow growth in 2019," while Cavanagh added that, "having Broadband at the center of our offering and go-to-market strategy gives us of the opportunity to deepen our relationship with the customer and drive additional value by attaching other complementary products. Video is one of these important supporting parts of the bundle. Our best-in-class X1 platform enables us to compete well for customers who want the most content and a premium experience and it further underscores the value of our Broadband by bringing together the best streaming content with linear TV. However, as we saw throughout 2018, the video market remains competitive including the impact of virtual MVPDs. We expect these dynamics to continue in 2019 and remain focused on driving video in the customer segments we can serve profitably."

Customer Relations

Looking at Comcast's customer base, total customer relationships increased by 258,000 to 30.3 million. Residential customer relations increased by 229,000, while business services customer relationships increased by 29,000.

Total Video Customers fell by 29,000, less than the 62,000 drop analysts were expecting. We believe this to demonstrate the resiliency provided by the company's X1 platform as it effectively blurs the line between a traditional cable offering and newer OTT streaming services such as Netflix (NFLX) .

Offsetting the loss of relationships in Video were solid additions in high speed internet, which added 351,000 customers in the quarter, which were marginally below expectations of 356,000 additions. Despite the miss, we find the results encouraging as they continue to point to Comcast's ability to win on the high-speed broadband front, a crucial pillar of our investment thesis and a trend we believe will continue as demand for data grows in the coming years. Speaking on the call Cavanagh called out, "this performance demonstrates our Broadband offerings attractive positioning in the market which is a result of the investments we've made in product innovation and in the capacity of our network. We've raised the bar for broadband by offering gigabit speeds, the best customer equipment for wall-to-wall WiFi coverage in the home and innovative control features to help customers manage their networks and devices. We are delivering more value in our offering and utility Of Broadband continues to grow. Our customers median monthly data usage was over 170 gigabits per month for the second half of 2018, up over 30% year-over-year. We believe we are well positioned to continue to grow as the size of the broadband market increases and we take greater share with our differentiated product and highly capable network."

Importantly, the improving mix shift toward broadband resulted in a 3.8% annual increase in adjusted EBITDA per customer relationship, which, as of the end of the fourth quarter, sat at ~$64 per month.

NBC Universal

Total sales for the NBCUniversal segment increased to $9.395 billion (+7.1% YoY), exceeding expectations of $9.253 billion. By segment, Cable Networks revenue increased to $2.892 billion (+8.9% YoY), Broadcast Television revenues increased to $3.099 billion (+3.7% YoY), Filmed Entertainment revenue increased to $1.976 billion (14.0% YoY) and Theme Parks revenue increased to $1.513 billion (+3.5% YoY). Additionally, total segment adjusted EBITDA grew to $2.12 billion (+12.3% YoY).

Looking at the underlying trends, Cable Networks revenue benefited from "higher distribution and content licensing and other revenue," with distribution revenue advancing 10.3% annually "reflecting continued benefit of previous renewal agreements and improved sub trends" and content licensing and other revenue advancing 28.4% from the same time last year "due to the timing of content provided under licensing agreements." Advertising revenue, on the other hand, was flat from the same time last year "as growth from MSNBC and strong overall pricing were offset by ratings declines."

Broadcast Television sales benefited from "increased distribution and other and advertising revenue, partially offset by a decrease in content licensing revenue," with distribution and other revenue gaining 18.5% from the same time last year and advertising revenue increasing 2.1% "as higher overall pricing, record political ad sales and strong Sunday Night Football ratings, more than offset the comparison to Thursday Night Football in 4Q17."

Filmed Entertainment sales were driven by "increased theatrical and other revenue, partially offset by decreases in content licensing and home entertainment revenue," with theatrical revenue surging 189.3% YoY, "reflecting the performances of Dr. Seuss' The Grinch and Halloween," while content licensing revenue fell 8.8% from the same time last year "driven by the timing of when content was made available under licensing agreements," and home entertainment revenue fell by 14.3% "reflecting the success of several releases in the prior year period, including Despicable Me 3, partially offset by Jurassic World: Fallen Kingdom and Mamma Mia: Here We Go Again!"

Sky

As a reminder, Comcast also successfully closed on its acquisition of Sky in the fourth-quarter. Speaking on the acquisition, Roberts stated on the conference call "as our teams have come together, the brand leadership, impressive customer loyalty, premier content and innovation-driven culture that attracted us to Sky in the first place have become even more apparent. The team at Sky delivered a healthy fourth quarter, its first as part of Comcast. Sky's achievements in 2018 underscored some of the reasons we're so excited about this business. Sky grew its customer base in each of its territories with 735,000 total net additions in 2018, including a record second half of the year, bringing its customer relationships to nearly 24 million. It continues to innovate and scale its best-in-class Sky Q platform and launched a new TV offering in Italy with Sky over digital terrestrial television."

"Highlighting Sky's proven cross-selling abilities, fiber penetration increased and mobile customers continue the scale in the U.K. Sky successful original programming strategy drove strong viewing with Sky originals representing 9 out of the top 10-rated shows on its wholly-owned and partner entertainment channels in 2018. Sky enhanced its differentiated sports offering, securing Premier League soccer rights at a lower cost and Serie A in Italy with more exclusive games. And finally, the team is extending Sky's leadership and customer service while continuing to improve operating efficiency with its digital-first initiatives. We are enthusiastic about Sky's organic growth prospects as well as the opportunities created by the combined company in 2019 and beyond."

Looking at pro forma results, we can see that total revenue in the fourth-quarter increased to $5.021 (+2.4% YoY, +5.6% Constant Currency) while a 90 bps expansion in adjusted EBITDA margins led to a adjusted EBITDA of $765 million (+8.9% YoY, +12.4% CC). Within the quarter Sky saw total customer relationships increase by 164,000, which 2H19 net additions surged by 590,000 (61% YoY).

Looking at the various operating segments, Direst-to-Consumer sales increased to $3.976 billion (+0.8% YoY, 4.0% CC) while average sub-segment revenue per customer increased by 1% "driven by improved product penetration for pay TV, growth in Sky Mobile and Sky Fibre customers, as well as rate adjustments in the UK." Content sales increased to $363 million (+31.6%, 35.7% CC) "primarily reflecting the wholesaling of sports programming, including exclusive sports rights recently acquired in Italy and Germany, increased penetration of premium sports and movie channels on third party pay TV networks in the UK and monetization of our slate of original programming." Lastly, Advertising revenue declined to $682 million, however, was up on a constant currency basis (-0.3% YoY, +2.9% CC) "driven by increased sports inventory in Italy and Germany and growth in advanced advertising in the UK."

All in, the quarter was exactly what we've come to expect from Comcast, strong execution leading to consistent results. We believe management's decision to focus operations around broadband is continuing to be rewarded with higher margins and providing a greater ability to bundle cheaper, less in demand services such as video. Furthermore, we're encouraged by management's optimism regarding the Sky acquisition and reaffirm our confidence that the company's robust cash flow profile (which saw FY2018 free cash flow come in at $12.6 billion) will provide management the means to deleverage the balance sheet, which as of the end of the fourth-quarter had consolidated net debt of $108.1B (or 3.3x pro forma adjusted EBITDA). On that note, we also remind members that management has made the decision to halt its repurchase program (which has average $5.0 billion per year in the last three years) in 2019 in order to accelerate the deleveraging process. As a result, we reaffirm our One rating and reiterate our $45 target.