Next Thursday holds the most romantic day of the year: Valentine's Day. Usually, V-Day is a holiday composed of men and women getting suckered in to prix-fixe menus, high expectations, and movie marathons of adapted Nicholas Sparks novels. But I'm actually looking forward to this Valentine's Day, because DirecTV (NASDAQ: DTV ) will release its fourth-quarter and 2012 year-end earnings.
Last year was an outstanding one for the satellite-television provider -- with record subscriber additions and a more than 15% gain in stock price. Though we won't know for sure until next week, I'm expecting a strong finish and a great forecast cruising into fiscal 2013. Here, then, is my equivalent of a box of Russell Stover to all Fool readers.
A good year
Throughout 2012, I wrote enough praises of DirecTV's business to be a part-time PR representative for the company (I was not contacted, to my dismay). I simply cannot get enough of this business. For the first three quarters of 2012, the company added hundreds of thousands of subscribers in Latin America, as it is the only major satellite provider available in most of its markets south of our borders. In the third quarter alone, the company added a net of 543,000 users. Though a lower-margin business than its North American counterpart, DirecTV LatAm was the senior culprit in bringing third-quarter revenue to $7.42 billion -- an 8% gain over the last year. It brought year-to-date free cash flows up 35% year over year to $1.7 billion. It brought diluted earnings per share up 29% year over year to $0.90. You probably get the picture -- DirecTV had a lovely third quarter. To save you some time, the previous quarters looked pretty similar on most fronts, too.
In contrast to its chief competitor, DISH Network (NASDAQ: DISH ) , DirecTV continues to perfect its core business -- subscription-based satellite television. While DISH fights tooth and nail to launch a new wireless network into the strong headwinds of telecom juggernauts and government hoop-jumping, DirecTV is building an enormous, newly minted subscriber base throughout Latin America. In North America, it is driving up average revenue per unit through premium offerings. A year down the line, this will be the strategy for the Latin American subscriber base once it reaches a certain level of saturation. To me, it is the definition of an easy-to-understand, wide-moat, well-run, cash-generating business.
So what should we expect for its fourth-quarter earnings release next week?
Forecast is sunny
DirecTV LatAm will continue to drive top-line growth for the company with its double-digit increases across the board. The segment owns 93% of Sky Brasil, 41% of Sky Mexico, and 100% of PanAmericana. This covers the majority of countries in the region. Acquisition costs will remain high in this early-growth stage, keeping margins on the lower end but setting things up nicely for an improvement in the next couple of years.
As a whole, management expects to hit its revenue and profit targets, along with subscriber additions. As with the third quarter, fourth-quarter churn (the percentage of subscribers leaving the service) should be a bit elevated because of the company's spat with Viacom earlier in the year. Average revenue per unit is also expected to trend down a bit year over year because of a promotion the company offered for its NFL Sunday Ticket package.
For the full year, though, things are looking even brighter than originally forecasted. Because of the higher revenue per unit in the U.S. and the substantial subscriber growth in Latin America, the company is expecting greater free cash flow than initially guided and double-digit consolidated growth.
With all of this in mind, I would like to reiterate a strong buy on DirecTV stock, especially when compared with its peers.
Value and growth
DirecTV, in my opinion, is outperforming given the enormous capital outlay it must make in Latin America to build out its businesses. As these investments mature, I expect margins to expand and free cash flow to continue its rise. The company is investigating a broadband service in Latin America, which could provide even further shareholder value in future years.
With a forward one-year P/E ratio of 12, the company is on the less expensive side, though not a bargain. However, I believe the double-digit growth in Latin America and mid- to high-single-digit growth in the U.S. warrant a higher ratio. DISH, which cannot boast near the subscriber growth and has poured billions into a risky spectrum race, trades much higher at 16 times forward earnings. With a simple multiple correction, and not taking into account the earnings growth, I believe DirecTV could be worth somewhere in the ballpark of $65 to $70, or a 20% to 25% premium to today's stock price. As always, invest only in companiess you understand and that are appropriate for your risk profile.
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