Warner Bros. Discovery (WBD -2.17%) posted a disappointing third-quarter report on Nov. 3. The media company's revenue declined 11% year over year (down 8% in constant-currency terms) to $9.82 billion, which missed analysts' estimates by $520 million. Its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) declined 9% (8% in constant currency terms) to $2.42 billion. On the basis of generally accepted accounting principles (GAAP), it posted a net loss of $2.31 billion, or $0.95 per share, which broadly missed the consensus forecast by $0.45.
Warner Bros. stock dropped 13% on Nov. 4 in response to those ugly numbers, and it remains more than 50% below its opening price on April 11, the first day it started trading independently from its former parent, AT&T (T 1.02%). Should investors consider it a contrarian buy at these depressed levels?
Image source: Getty Images.
What happened to Warner Bros.?
AT&T spun off WarnerMedia, which it gained through its acquisition of Time Warner in 2018, and merged it with Discovery to create Warner Bros. Discovery. AT&T had originally expected WarnerMedia to support the expansion of its own streaming media ecosystem, but that debt-fueled effort was so costly that it was abandoned after just four years.
Warner Bros. currently owns a massive intellectual-property portfolio, but it's still fragmented, unevenly maintained, and heavily dependent on the economically-sensitive theatrical and linear TV markets. It also remains an underdog in the streaming market.
The bulls initially believed Warner Bros. could offset its direct-to-consumer (DTC) streaming losses with the steady growth of its networks and studios businesses. But as the following table illustrates, all three of its core businesses have been shrinking as they grapple with macroeconomic and competitive headwinds.
|
Metric |
Networks |
Studios |
DTC |
Total* |
|---|---|---|---|---|
|
Q3 2022 revenue |
$5.21 billion |
$3.09 billion |
$2.32 billion |
$9.82 billion |
|
YOY growth (decline) |
(8%) |
(5%) |
(6%) |
(8%) |
|
Q3 2022 adjusted EBITDA (loss) |
$2.63 billion |
$762 million |
($634 million) |
$2.42 billion |
|
YOY growth |
(2%) |
43% |
N/A |
(8%) |
Data source: Warner Bros. Discovery. Figures are on a pro forma, constant currency basis. YOY = year over year. * Certain revenue excluded by inter-segment eliminations.
Warner Bros.' total revenue also declined 9% sequentially in the third quarter, driven by quarter-over-quarter declines across all three segments. But its adjusted EBITDA still improved 37% sequentially as it implemented tighter cost-cutting across its networks and studios divisions.
What challenges does Warner Bros. need to overcome?
Warner Bros.' networks segment is struggling with declining advertising revenue as the macroeconomic headwinds cause advertisers to rein in their spending. That slowdown has been exacerbated by tough year-over-year comparisons due to the pandemic-delayed 2020 Olympic Games held in Tokyo in the summer of 2021, along with a pair of NBA playoff games in an Eastern Conference finals series that stretched into early July.
Its studios segment has been hampered by a drought of blockbuster theatrical releases this year, which coincided with difficult comparisons to the industry's robust post-pandemic recovery last year. Its closely watched DTC segment ended the third quarter with 94.9 million subscribers, representing 19% growth from a year ago and 3% growth from the second quarter. It partly attributed that growth to the record premiere of House of the Dragon in late August. However, the segment's average revenue per user (ARPU) still dipped 2% sequentially as it gained a higher mix of lower-revenue international subscribers.
By comparison, Netflix (NFLX -0.63%) and Disney (DIS -0.04%) ended their latest quarters with 223 million and 235 million streaming subscribers, respectively. But just like Disney, Warner Bros. still hasn't figured out how to replicate Netflix's recipe for squeezing out stable streaming profits each year. Instead, Warner Bros. will likely focus on cutting costs as it tries to scale up its unprofitable DTC business. But that strategy could also backfire if it axes too many projects and alienates its viewers.
A turnaround remains elusive
Warner Bros. has now posted three disappointing quarterly reports as a stand-alone company. It's still scrambling to streamline a business that was poorly managed under AT&T, and that turnaround will be challenging as its networks and studios divisions -- which were intended to support the DTC division's growth -- face grueling headwinds.
The company still owns plenty of bankable franchises like DC Comics, Harry Potter, Game of Thrones, Lord of the Rings, and Sex and the City. But expanding those franchises could be challenging as it focuses on cutting costs.
With an enterprise value of $71.4 billion, Warner Bros. is valued at just six times next year's adjusted EBITDA. Disney, which is also struggling with tough headwinds, trades at 13 times next year's adjusted EBITDA.
Warner Bros.' downside potential could be limited at these levels, but I don't think it's worth buying until a few more green shoots appear. The network and studios divisions need to generate stable growth again, and the company must present a clearer long-term road map for its core franchises instead of simply canceling pricey projects or divesting its noncore assets.
