Wall St. Speaks Out on Discovery Communications -- RBC Capital Markets, LLC

Key pointsStrong start to the year with a positive outlook on Affiliate Fees Advertising and cost growthDiscovery reported 1Q16 Adj OIBDA of 577mm vs ourconsensus 553mm a beat of 4 Domestic Affiliate Fee growth of 8 yy topped consensus 5 and drove the beat and should remain at 7 for the year Domestic Ad growth of 7 was also strong and with deceleration in cost growth in H2 following a rise in 2Q the company has an improved outlook for its earnings Adj EPS and FCF growth guidance at constant currency goes from 39up low doubledigitsup low teens39 to 39up at least high teens39 and DISCA now expects constant currency margin expansionRestructuring ahoyDiscovery announced a cost savings plan aimed at more efficient operations with personnel adjustments restructuring and budget reallocations towards digital The program should be completed by 3Q16 and includes 4060mm of upfront costs but should generate annual runrate savings of 2x cost We think some benefit should accrue in late 2016FX helping estimates tooIn addition to the organic guidance raise DISCA numbers will benefit from a weaker US dollar The headwind to sales and EBITDA comes down while Adj EPS goes from a modest FX headwind to a 001005 tailwind There39s a lot of moving parts that are detailed in our note but the main result is that 2016E consensus EBITDA should move up by around 5 reported 3 constant currency while Adj EPS should move up by 7 4 constant currency 2017E estimates should benefit from organic growth the circa 100m in runrate savings from restructuringGas pedalWith revenueEBITDAEPS estimates andor guidance moving up organically FX helping and cash deployment continuing we like all the cylinders in the DISCA engine Management is also embracing OTT both domestically and internationally All of this supports our target multiple of 165x CY1617 PE and 112x EVEBITDA Our 201617E EPS goes from 191218 to 204231 As a result we raise our target price to 36 and reiterate our Outperform ratingValuationWe value all of our Media stocks on a sumoftheparts basis with target multiples applied to the EBITDA of the business components Given the low visibility of various Media earnings streams and potential for lumpy outcomes SVOD and syndication sales and program writedowns we think a blend of current year and next year estimates is most appropriate We currently value Media stocks on 5050 CY1617 estimatesFor DISCA we estimate 26bn in CY1617 EBITDA This is nearly entirely from cable networks where we use an 112x EVEBITDA multiple This is a 20 premium to the peer group cable nets given the high margins and international growth After a very small contribution from Education we derive an enterprise value of 29bn which implies 112x EVEBITDAamp8212a 7 premium to the blended multiples of our Media coverage After deducting minorities and net debt and adding equity method investments we derive an equity value of 22bn Applying our yearending CY16E share count our target price for DISCA is 36 resulting in an ETR of 30 and an Outperform rating Our target implies 165x CY16E17E PE on 15 average EPS growth though EPS growth would be highteens excluding FXPrice target impedimentsSeveral factors could impede achievement of our price target and ratingThe loss of carriage agreements presents risk Discovery39s businesses depend heavily on the carriage of the company39s cable channels on pay TV operators A loss of these carriage agreements could adversely affect affiliate revenue which composes a substantial portion of the company39s total revenueA decline in advertising expenditures could materially affect DISCA39s operating results Discovery39s business has significant exposure to advertising An adverse change or decline in overall advertising expenditures could negatively affect many of the company39s business unitsMuch of Discovery39s business is based on consumer preferences for content which can be difficult to predict TV content caters to preferences and demographics While we think Discovery39s content has broad appeal its ability to grow is in part based on delivering content that resonates with consumer preferences which can change rapidly An unexpected shift in these preferences could affect Discovery39s operating results and therefore our price target and ratingInternational markets offer growth but can be significantly affected by currency movements Discovery generates about half of its revenue overseas typically generating revenue through distribution fees paid in local currency These revenues are translated back to DISCA39s reported USD results so currency movements can have a significant impact on reported earnings Discovery39s adjusted EPS does not exclude the impact of foreign currency movementsAll values in USD unless otherwise notedPriced as of prior trading day39s market close EST unless otherwise statedLink to Full Research Report including Required Disclosures and Disclaimeramp174 Registered trademark of Royal Bank of Canada RBC Capital Markets is a trademark of Royal Bank of Canada Used under licenseCopyright amp169 RBC Capital Markets LLC 2016 Member SIPCThe opinions and points of view expressed in this commentary are exclusively the views of the author and do not necessarily represent the views of MediaVillagecom MyersBizNet Inc management or associated bloggers

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Wall St. Speaks Out on Discovery Communications -- RBC Capital Markets, LLC

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