Sector Spotlight: Slowdown Worries Slap Down Media Stocks

When Viacom (VIA) announced last year that it would buy CBS, Sumner Redstone, Viacom's chief executive, crowed that the company would be far and away the biggest draw on the media landscape for advertisers looking to spend money hawking their wares.

And as advertising dollars poured in at a record pace while the economy continued to hum along, Redstone and his new best friend, CBS head honcho Mel Karmazin, indeed looked like geniuses for creating an advertising behemoth that could provide "cradle-to-grave" reach through its Nickelodeon, MTV, VH1 and CBS networks, not to mention its radio holdings and billboards.

But over the course of the past month, Viacom's stock has paid a price for being the big kid on the block. Since fears of an advertising slowdown began seeping onto Wall Street, Viacom -- which Merrill Lynch says derives some 65% of its EBITDA from ad revenue -- has seen its stock price tumble nearly 25% from its 52-week high, reached Aug. 4.

Bigger Problems

Viacom isn't alone. A slew of media stocks have been battered since worries emerged that ad growth would slow in the second half of the year. Some smaller media companies have already said they wouldn't match Wall Street expectations for the third quarter due to the slowdown.

Unhappy Medium Media stocks' sticky summer

Source: BigCharts

While several analysts insist that media stocks are solid bets and excellent buys at their current levels, media stocks are likely to remain depressed for the near term as investors remain convinced of their vulnerability to a slowing economy. In other words, for the time being, media stocks are stuck.

The "entertainment sector appears to be in a correction mode," Michael Kupinski, media analyst at A.G. Edwards in St. Louis, wrote in a recent report. Kupinski believes a slowing economy might be bad news for media stocks because of their increased reliance on advertising. "Our feeling is because of this heightened sensitivity, the sector will experience further profit-taking," Kupinski wrote, and he advised investors to stay out of media stocks until a more attractive buying opportunity comes up.

While the companies insist they aren't worried about a slowdown in spending, some on Wall Street say that isn't the problem. "The companies can say what they want," says fund manager Hal Vogel. "They may indeed be right to be unconcerned. But the market perception is negative, and it will prevent any significant upward stock price momentum from building."

Good Health

That said, nearly all projections of ad spending predict growth at a robust clip, if not quite as robust as the industry has experienced in 1999 and 2000. Christopher Dixon, analyst at PaineWebber, says ad spending will outpace gross domestic product growth through 2001, even when he takes into account that next year won't have the Olympics or a presidential election. PricewaterhouseCoopers, in a recent study, forecast that total U.S. ad spending will increase more than 7% next year, from $337 billion this year to $363 billion in 2001. Richard Hamilton, the chief executive of media-buying firm Zenith Media, which just released a study that projects slowing ad spending going forward, says growth should nevertheless remain healthy over the next few years.

In a certain sense, the media titans -- namely Viacom, Walt Disney (DIS) and News Corp. (NWS), each of which owns broadcast and cable networks -- are insulated against the slowdown in the second half of the year because of the way advertisers buy time on the big broadcast and cable networks.

Months before the television season even starts, the networks host "upfronts" at which they present their fall schedules to advertisers. This year, as has been the case for the past several years, advertisers set another record: Between cable and broadcast networks, the big media companies pulled in roughly $13 billion in committed dollars. That should help them offset a slowdown in advertising spending for at least the next several months. Indeed, the big TV players are probably safe, barring a recession, through the end of the TV season, around May or June.

As we approach the end of this quarter, which historically includes at least a part of the revenue from that presold advertising, it appears the big media companies will almost certainly hit their numbers. Most analysts have already built fewer ad dollars into their projections because the start of the fall television season has largely been delayed to make way for the Olympics, which are being broadcast on General Electric's (GE) NBC network. The fact that it is an election year, which generates millions of dollars in political advertising, should offset the delayed start as well. So when investors get over the slowdown worries, these stocks may be good candidates to take advantage.

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