Warren Buffett's Berkshire Hathaway (BRK.A -0.28%) (BRK.B -0.68%) started buying a stake in traditional media conglomerate Paramount Global (PARA -0.47%) in 2022. It hasn't gone so well. Though it's a small potatoes for Buffett, the stake in Paramount has likely lost over $1 billion in value, going from roughly $2.6 billion to just $1.5 billion as of this writing.
The media industry is rapidly migrating to streaming TV, and it's costing companies like Paramount billions of dollars a year to make the transition. What was once a "cheap" stock is no longer as Paramount's profits have tanked, and the dividend was slashed by 80% to shore up the financials.
At Berkshire Hathaway's annual shareholder meeting, Buffett summed up the issues facing Paramount and its TV streaming peers -- and inadvertently described the best TV streaming stock out there: Alphabet's (GOOGL 0.55%) (GOOG 0.74%) YouTube, acquired when the company was still simply known as Google all the way back in 2006.
The problem with TV streaming, in Buffett's estimation
In his response to a question about the TV streaming wars, Buffett summed up the issues in three basic points. Here's the quick recap:
- Too many traditional media streaming services launched all at once, which puts downward pressure on what they can charge their subscribers.
- There are too many screens, not enough eyeballs; basically, there's only so much time in the day, and unprofitable streaming TV is stealing time from highly profitable cable TV and movie theaters.
- Talent -- superstars, their agents, and content production companies -- always get paid first, and the costs involved with paying them are going up.
It's going to be an uphill battle for Paramount and its peers, and not everyone is going to survive -- at least not in their current form. The industry is ripe for larger, cash-rich players to acquire smaller outfits and fold them into their own streaming service.
Google's far-sighted investment is paying off in spades
This is where Google comes in, because Buffett inadvertently described the solutions Google's YouTube bet already figured out.
YouTube launched its streaming service in 2005. It was quite primitive compared to what it is today, but consider that Netflix (NFLX -3.92%) wouldn't begin its own streaming TV service for another two years (it was still mailing DVDs via the postal service). Google saw the potential and scooped up YouTube for $1.65 billion a year later in 2006.
This first-mover advantage solves for issue number one Buffett described. Many years before the TV streaming wars started and consumers were flooded with online video options, YouTube struck out with an ambitious plan and secured billions of viewers worldwide -- upwards of 2.6 billion every month, by some estimates. Netflix, in comparison, is in a very distant second place with nearly 233 million subscribers in Q1 2023.
With such a massive scale, YouTube doesn't have to play the monthly subscription game like its tiny competitors. Though premium subscriptions are a disruptive growth market for YouTube, most of its revenue comes from advertising. This also solves problem number two that Buffett described. YouTube has no shortage of eyeballs. In fact, it helped get the party started, migrating viewers away from more traditional screens (TVs and theaters) and onto web-based video. As a result, Google long ago figured the best way to turn a healthy profit was the same way traditional broadcast and cable TV did it: advertising.
YouTube generated $6.69 billion in revenue in Q1 2023, contributing to Google advertising's very healthy operating profit margin of 35%.
And then there's problem three, Buffett's statement about talent always making off with the bulk of profits first. YouTube recognized the power of user-generated content right from the get go. Rather than rely on professional production companies, individual users (and not long after, business followed suit too) could make and upload their own videos and share in the advertising revenue generated by all those eyeballs. Now anyone can be a star with a little creativity and some help (and a little luck!) via YouTube's video search algorithms.
At this stage, investors may never see Alphabet (Google) stock show up in Berkshire Hathaway's primary list of holdings. But perhaps it should. While sizable stakes in "cheap" media stocks like Paramount struggle because of the streaming TV wars, Alphabet (and its YouTube subsidiary) keeps chugging along. Buffett may not realize it, but he just described the best streaming TV media business model that already exists.
It may not be the extreme value Buffett prefers, but Alphabet stock currently trades for a very reasonable 26 times trailing 12-month earnings (or less than 25 times free cash flow). Buffett may not be comfortable investing in Alphabet, but that doesn't mean savvy long-term investors that understand how Google and YouTube work need to shy away from it.
