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Profitably Entertaining

For investors who are keen on investing in the media space, Zee Telefims is a good option

Sa Re Ga Ma Pa Little Champs’, ‘Saat Phere’, ‘Dulhann’, ‘Kasamh Se’, ‘Maayka’, ‘Dance India Dance’, ‘Chhoti Bahu’, ‘Agle Janam Mohe Bitiya Hi Kijo’, ‘Pavitra Rishta’, ‘Shree’ and ‘Aap Ki Antara’.

Programming on Indian television is typically filled with dollops of family drama — from scheming saas-bahu serials to never-ending reality shows. Launched in 1992, Zee is close to completing two decades and has become an integral part of the Indian television viewer’s psyche. Zee Entertainment now has a bouquet of 12 channels beaming into Indian homes: Zee Cinema, Ten Sports, Ten Cricket, Zee Muzic, Zee Premiere, Zee Studio and Zee Trendz among others. The company’s flagship channel Zee TV ranks third in the Hindi general entertainment channel (GEC) category behind Star Plus and Colours with a market share of 17 per cent (see graphic: Weekly Hindi GEC market share).

Zee is one of the more profitable networks. It has a diversified revenue mix of advertisement revenue and subscription-based revenue. With robust momentum in subscriptions, stable ad revenues, and lower losses from its sports division, Zee offers a good investment opportunity in the Indian broadcasting space. In addition, it boasts of a clean balance sheet with loads of cash and is currently trading at a reasonable valuation.

Strengths and opportunities
Zee has a number of things going in its favour. Subscriptions for both DTH and cable are robust. The company is looking at better deals with cable operators in unison with Star TV and expects better realisations when DTH comes up for renewal.
Robust subscription numbers. Subscriptions account for 44 per cent of Zee’s total revenue. Zee’s subscription revenue originates from three nearly equally split sources: direct-to-home (DTH) (36 per cent of subscription revenue); domestic cable (32 per cent); and international subscriptions (32 per cent).
Subscription revenue for both DTH and domestic cable are expected to remain strong following Zee’s recent 50:50 distribution tie-up with Star TV India. The joint venture (JV) requires both distributors to jointly distribute all their channels — 68 in all — across platforms. The large number of key channels under this combine is expected to help the broadcasters (Zee and Star) demand more from local cable operators (LCOs), thereby boosting subscription revenue.
Cable revenue to pick-up. Zee’s distribution JV with Star TV India could help both networks strike better deals with LCOs and MSOs (multi-system operators) while renegotiating rates. The company has stated its intention of negotiating with its 6,000 plus LCOs and MSOs as they come up for renewals. But it could take up to three quarters or possibly even the next financial year before results become visible.
DTH price rise next. DTH revenue for the June 2011 quarter was up 13 per cent (q-o-q). In the March 2011 quarter, DTH revenue was up 20 per cent (q-o-q). Most of this increase came from volume (growth in subscriber base) and was heavily slanted towards sports channels (on account of IPL and the ICC World Cup). In spite of these events having concluded, DTH revenue is expected to maintain its current momentum.
Zee is rooting for higher DTH rates. These rates have not been revised substantially since 2009 when it entered into a fixed-fee contract with Dish TV. The contract for the supply of all of Zee’s channels is coming up for renewal in 2012. Hence the company’s DTH revenue is expected to improve from FY13.
Ad revenues to go up. Advertisements bring in 54 per cent of Zee’s revenue. Ad revenue for the June 2011 quarter was flat (0.5 per cent y-o-y growth) on account of rising inflation, macro concerns and higher spending on cricket (already incurred on IPL and ICC World Cup) this year. But with the onset of the festive season in October (and lasting up to December), industry analysts opine that ad spends, especially by FMCG companies, will look up. In a recent report, Pratish Krishnan, analyst, BoA Merill Lynch says that ad revenue (excluding the sports division) could grow 12 per cent year-on-year (y-o-y) in the current financial year.
Strong balance sheet. Zee is a net debt free company. It has a net cash balance of around `1,400 crore which translates into cash per share of `14 (11 per cent of the current market price). The company had announced a `700 crore buyback programme at `126 commencing from July 27.

Weaknesses and threats
The sports drag. Zee’s sports business has proved to be a drag on its profitability. Losses from its sports business stood at slightly over `200 crore in FY11 (see graphic: Losses from sports). In the June 2011 quarter too, losses from the sports division came in at `56.6 crore, higher than what industry analysts had expected. Losses in the latest quarter were attributed to lower ad revenue from the India-West Indies cricket series. But with the high-cost telecast rights of the series over, the management has guided that sports losses will decline to around `100 crore this year (as against `200 crore last year). It is estimated that this division will break even some time in FY13.
Will ad spends really deliver? While Q2 and Q3 are the best quarters for ad spends, leading advertising clients from FMCG, auto and real estate currently face acute problems of their own. FMCG is fighting high input cost inflation and low volume growth. Auto, especially the four-wheeler majors, is witnessing dwindling demand. Real estate is also beset with low bookings and a slew of legal issues. If the prospects of these sectors do not improve soon, there is a possibility that ad spend hikes could be put off , in which case revenues for broadcasters like Zee will take a knock. In the worst-case scenario, ad revenue growth could fall to negative single-digit levels if the expected pick-up does not materialise. Yet these are early days. For the moment, analysts like Krishnan of BoA Merill Lynch have lowered their estimate for ad growth in the current year to 12 per cent y-o-y from 16 per cent earlier.
Cost of matching up with competition. Zee’s fortunes depend significantly on how its content matches up with that of its competitors, especially Star and Colours, both of which invest heavily in new content and on giving their channels a marketing push. They continuously broadcast fresh programming in order to attract more eyeballs. Star and Colours are both estimated to offer more than 35 hours of fresh programming per week. Zee will need to buckle up: it offers fresh programming of only 27-28 hours a week. This will mean incurring costs, especially marketing-related. Coupled with a slowdown in ad pickup, this could result in margin pressures in the ensuing quarters.

Financials and Valuations
Zee has reported an annual topline growth of 12.74 per cent over the last five years. Subscription revenue has grown at a compounded annual growth rate (CAGR) of 9 per cent annually while ad revenue has grown at the rate of 21 per cent annually over the same period. Profit after tax (PAT) growth has been higher at 22.57 per cent annually. Its most recent quarter (June 2011) saw subscription revenue grow 17 per cent (y-o-y). DTH revenue saw an uptick of 56 per cent (y-o-y). Cable revenue was up 8 per cent (y-o-y), while international revenue dropped 3 per cent (y-o-y). Hammered by losses incurred by its sports division, higher programming and transmission costs, its Ebitda margin fell 5 percentage points y-o-y to 22 per cent.
The company is currently trading at a 12-month trailing PE of 19.6. This is lower than its five-year median PE of 25.64.
Over the past five years, the company’s EPS has grown at the rate of 20.19 per cent. This gives it a price-earnings to growth (PEG) ratio of 0.97.
You may accumulate this stock on dips, provided you have an investment horizon of at least three years.