On- and offline media magnate Time Warner (NYSE:TWX) reports Q2 2006 earnings results tomorrow morning. Want to know what Wall Street expects to see? Read on. Want to know what really matters? Read on a bit more.

What analysts say:

  • Buy, sell, or waffle? Twenty-one analysts follow Time Warner. Twelve of them say you should buy it, and the other nine recommend just holding.
  • Revenues. They expect tomorrow's news to show that the company grew sales just 4%, to $10.9 billion.
  • Earnings. Still, Time Warner turned that into 11% profits growth and $0.20 per share.

What management says:
They say that actions speak louder than words, so in today's "forecast," I'd like to highlight an action that speaks volumes of what Time Warner management thinks about its business. Since firing up its stock buyback program, the firm has spent $8 billion to repurchase 10% of its shares outstanding ($460 million in all) -- and it ain't done yet. In last quarter's earnings report, CEO Dick Parsons announced that he has sought and received permission from Time Warner's board to expand the buybacks, as Time Warner's stock continues to lag the S&P 500's progress.

At last report, Time Warner's stock repurchase program permitted management to make $20 billion worth of investment in itself. Parsons' plan is to lay down $15 billion of that this year, and the other $5 billion next year.

The risk? Well, although Parsons exulted in the firm's production of $1.6 billion in free cash flow during Q1, even if the firm manages to maintain that rate of cash generation (and seeing as it only made $2.1 billion in FCF over the last 12 months, I'd argue it cannot), this still wouldn't suffice to finance this buyback. Time Warner currently has about $2 billion in cash, and $20 billion in debt. Give Time Warner the benefit of the doubt and assume it can generate $11 billion or so over the next seven quarters through year-end 2007. It would still need $7 billion of additional cash to finance the buyback, which could come in the form of additional debt. Given that Time Warner hasn't been able to earn more than a mid-single-digit return on equity since the year 2000, this Fool wonders whether going further into debt to invest $20 billion more in Time Warner shares is the right choice here.

What management does:
Then again, it would also remove nearly 30% of existing Time Warner shares from circulation. And those shareholders who remain shareholders would benefit from the continuing trend in improved margins we see below.

Margins %

12/04

3/05

6/05

9/05

12/05

3/06

Gross

41.9

42.3

42.4

42.2

42.6

42.9

Op.

16.2

16.2

16.1

16.3

17.3

17.7

Net

8

7.9

5.3

6.1

6.7

7.9
All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

The Fool says:
Unless, of course, the combination of rising Fed rates and interest payments on an enormous debt load combine to drag those profits down. That's my fear, and the reason I have serious doubts about Parsons' buyback plan.

For the record, Fool co-founder David Gardner, who originally recommended Time Warner's stock back in August 2002, has his doubts about Parsons' plans as well, inquiring rhetorically: "If Richard Parsons is so great, where's my reward?" Rating the company a "B-" on both prospects and price, David thinks there are many, many better places to put your money right now.

To see a few of them, all you need to do is click through this link and take a free (yes, free) trial of Stock Advisor. Do so, and you'll have full (yes, Fool) access to every recommendation we've ever made, a record of how they've performed, and our reasons for picking them in the first place.

Competitors:

  • AT&T (NYSE:T)
  • Earthlink (NASDAQ:ELNK)
  • Microsoft (NASDAQ:MSFT)
  • United Online (NASDAQ:UNTD)
  • Verizon (NYSE:VZ)
  • Yahoo! (NASDAQ:YHOO)

Microsoft is a Motley Fool Inside Value recommendation.

Fool contributor Rich Smith does not own shares of any company named above.