Analysis: VIAB T NFLX

Before the opening bell on Tuesday, Viacom (VIAB) reported a mixed headline number with its fiscal first quarter earnings result. Revenues of $3.090 billion (up 1% year over year; 4% on constant currency) barely missed the consensus of $3.112 billion, and adjusted earnings per share of $1.12 (up 9% year over year; 13% on constant currency) exceeded estimates by $0.09. Meanwhile, adjusted operating of $750 million (up 4% year over year; 6% on constant currency) topped expectations of about $694 million. Despite the light revenue figure (and this was largely due to currency), the main takeaway was that Viacom's turnaround and its return to more consistent growth was further demonstrated this quarter as the results marked the second consecutive quarter with growth in all three of these key metrics. Shares were up nicely this morning in reaction to the print and conference call.

"Through strong execution of our strategic priorities, we delivered another quarter of solid financial and operational results," said CEO Bob Bakish in the earnings release. "Beyond the growth at our flagship networks and the resurgence of Paramount Pictures, we took a major step forward in our evolution with an agreement to acquire Pluto TV. This service will create a scaled direct-to-consumer offering for Viacom and expand our opportunities in next-generation distribution and advanced advertising. With this momentum, we are progressing toward a return to topline growth in 2019 as Viacom continues to evolve for the future."

At Filmed Entertainment, revenues increased by 14% year over year to $621 million (consensus $635.5 million), and the division posted a better than expected operating loss of $90 million. Digging deeper, Theatrical revenues increased by 49% year over year to $149 million (consensus $175 million) as Paramount Pictures operating income improved year over year by $40 million - marking the eighth consecutive quarter of year over year adjusted operating income growth. Driving the results was the strong box performance of Bumblebee, which took in about $450 million in worldwide box office. Management believes the success of Bumblebee has rebooted the Transformer franchise and in a profitable manner, no less. Elsewhere, Home Entertainment revenue fell 3% to $178 million (consensus $202 million), Licensing revenue increased 3% to $220 million (consensus $232 million), and Ancillary revenue was $74 million (consensus $50 million).

At Media Networks, revenues declined 2% year over year to $2.498 billion (consensus $2.511 billion) and adjusted operating income was flat at $913 million. Digging further, Advertising revenue declined 6% year over year to $1.230 billion (in-line with consensus of $1.232 billion). Although domestic advertising declined by a slight ~3% rate year over year, the results marked a sequential improvement driven by higher pricing and strong growth in advanced marketing solutions (AMS), which grew in revenues by 54% year over year. On a full year basis, AMS is expected to nearly double in revenue and make up between 15% to 20% of total domestic ad sale revenues with the help of Pluto TV (more on this below). In Affiliate, revenue increased 3% to $1.169 billion (consensus $1.110 billion). Domestic affiliate posted a better than expected result with revenues increasing by 4.8% year over year (the fourth straight quarter with sequential improvement) driven by contractual rates increases, growth in OTT and studio production revenues, and vMVPD growth. However, revenue on the international side fell 7% due to foreign currency. Lastly, Consumer Products, Recreation & Live Events revenue fell 12% to $99 million (below consensus of $157 million), but the declines were simply due to the release of a South Park video game in the prior year.

On Pluto TV, management did not hide their excitement about this recent acquisition. To refresh what Pluto TV brings to the table, it is the largest free streaming TV platform in the country and has more than 12 million monthly active users as of December. Perhaps more importantly, over 7.5 million of those users are on connected TVs, which management said is where the most valuable inventory lives. During the conference call, Bakish outlined six key points on how Pluto TV fits the company's strategy. They are: 1) "Pluto TV will instantly give Viacom a scaled B2C offering with differentiated distribution." 2) "Pluto TV will meaningfully enhance Viacom's AMS business." 3) "Pluto TV will add an important offering for our distribution partners." 4) "The deal will unlock a large library value for Viacom." 5) Pluto TV is a significant global opportunity." And lastly, 6) "Viacom can accelerate Pluto TV's leadership in free streaming TV." As Bakish added later, Pluto TV is "a strong strategic fit with our company and it's going to accelerate our evolution on multiple levels." Overall, Pluto TV will be accretive to revenue growth and slightly dilutive to earnings in fiscal 2019. This acquisition is not expected to close until March, but excitement in how Viacom will leverage the product is growing.

Taking a look at the balance sheet, the company ended the 2018 calendar year with $8.96 billion in gross debt outstanding, down by $1.1 billion from the end of September. This represents a reduction in leverage by approximately 0.5 turns since last December. Meanwhile, the company ended the year with cash and cash equivalents of $534 million. Net cash provided by operating activities increased by $216 million year over year to $228 million, and free cash flow increased by $207 million to $191 million, driven by better working capital, higher adjusted operating income, and lower interest expense.

On guidance, management reiterated their expectation of full year 2019 total company revenue growth in the mid-single digits on a constant currency basis with growth at both domestic and international Media Networks and as well as Filmed Entertainment. Looking ahead to the March quarter, the timing of the Easter holiday will have a negative impact of approximately 100 basis points on domestic ad sales performance. Because of this, management expects March domestic ad sales performance to be like that of December's. However, full year growth in domestic ad sales is still to be expected, with "meaningful growth in Q3 and Q4".

On distribution renewals (remember, Viacom's upcoming renewal with AT&T (T) has been an overhang on the stock), Bakish reiterated how Viacom is much better positioned today than it was two years ago thanks to an improved distribution strategy and stronger brands. In support of Bakish's case, Viacom maintained the #1 share of basic cable viewing with key domestic audiences in the quarter, including the 2-49, 2-11, 18-34 and 18-49 demographics, among others.

Overall, the numbers from Viacom look solid, with year over year growth in revenues, adjusted operating income, and adjusted earnings per share. Impressively, Paramount Pictures delivered its eighth consecutive quarter of adjusted operating income improvement, and we continue to see the studio's return to full year profit as an underappreciated growth asset. Although cord-cutting pressures have hampered the media industry, Viacom fills a unique role at being a low-budget provider of original content that larger streaming services like Netflix (NFLX) sorely need. Then there is Pluto TV, a deal that looks increasingly beneficial from a strategic standpoint. In total, Viacom's results reinforce our view of how significant progress has been made in the company's turnaround, and even with shares up about 4% in reaction to the print, the stock's low price to earnings multiple is yet to fully reflect this.