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Warner Bros. Discovery (NASDAQ:WBD) Reports Sales Below Analyst Estimates In Q4 Earnings


Full Report / February 23, 2024

Global entertainment and media company Warner Bros. Discovery (NASDAQ:WBD) missed analysts' expectations in Q4 FY2023, with revenue down 6.6% year on year to $10.28 billion. It made a GAAP loss of $0.16 per share, improving from its loss of $0.57 per share in the same quarter last year.

Warner Bros. Discovery (WBD) Q4 FY2023 Highlights:

  • Revenue: $10.28 billion vs analyst estimates of $10.42 billion (1.3% miss)
  • EPS: -$0.16 vs analyst estimates of -$0.06 (-$0.10 miss)
  • Free Cash Flow of $3.31 billion, up 60.8% from the previous quarter
  • Gross Margin (GAAP): 42.7%, up from 37.3% in the same quarter last year
  • Market Capitalization: $23.31 billion

Formed from the merger of WarnerMedia and Discovery, Warner Bros. Discovery (NASDAQ:WBD) is a multinational media and entertainment company, offering television networks, streaming services, and film and television production.

The creation of Warner Bros. Discovery brought together WarnerMedia's extensive entertainment, sports, and news assets with Discovery's expertise in non-fiction and international entertainment. This merger was aimed to build a comprehensive media portfolio, ready to meet the changing consumption patterns and demand for diverse content across various platforms.

The company offers a wide range of entertainment options, including numerous TV networks, a collection of direct-to-consumer streaming services, and widespread film and TV production capabilities. Warner Bros. Discovery caters to the need for quality content across different genres and formats, ensuring a position in the global entertainment sector.

Warner Bros. Discovery's revenue is generated through content distribution, advertising, subscription services, and licensing. Its business model focuses on leveraging its extensive content library and global reach to deliver content to audiences worldwide.

Media

The advent of the internet changed how shows, films, music, and overall information flow. As a result, many media companies now face secular headwinds as attention shifts online. Some have made concerted efforts to adapt by introducing digital subscriptions, podcasts, and streaming platforms. Time will tell if their strategies succeed and which companies will emerge as the long-term winners.

Competitors in the local media and digital marketing industry include iHeartMedia (NASDAQ:IHRT), Cumulus Media (NASDAQ:CMLS), and Beasley Broadcast (NASDAQ:BBGI).

Sales Growth

Reviewing a company's long-term performance can reveal insights into its business quality. Any business can have short-term success, but a top-tier one sustains growth for years. Warner Bros. Discovery's annualized revenue growth rate of 31.4% over the last five years was incredible for a consumer discretionary business.

Warner Bros. Discovery Total Revenue

Within consumer discretionary, product cycles are short and revenue can be hit-driven due to rapidly changing trends. That's why we also follow short-term performance. Warner Bros. Discovery's recent history shows a reversal from its five-year trend, as its revenue has shown annualized declines of 4.5% over the last two years.

We can better understand the company's revenue dynamics by analyzing its three largest segments: Distribution, Advertising, and Content, which are 47.8%, 20.3%, and 28.8% of revenue. Over the last two years, Warner Bros. Discovery's revenues in all three segments declined. Distribution revenue (licensing fees) averaged year-on-year decreases of 1.3% while Advertising (digital ads) and Content (films, streaming, games) averaged drops of 9.3% and 6.6%.

This quarter, Warner Bros. Discovery missed Wall Street's estimates and reported a rather uninspiring 6.6% year-on-year revenue decline, generating $10.28 billion of revenue. Looking ahead, Wall Street expects revenue to remain flat over the next 12 months.

Operating Margin

Operating margin is an important measure of profitability. It’s the portion of revenue left after accounting for all core expenses–everything from the cost of goods sold to advertising and wages. Operating margin is also useful for comparing profitability across companies with different levels of debt and tax rates because it excludes interest and taxes.

Given the consumer discretionary industry's volatile demand characteristics, unprofitable companies should be scrutinized. Over the last two years, Warner Bros. Discovery's high expenses have contributed to an average operating margin of negative 7.6%. Warner Bros. Discovery Operating Margin (GAAP)

In Q4, Warner Bros. Discovery generated an operating profit margin of negative 1.8%, up 7 percentage points year on year.

Over the next 12 months, Wall Street expects Warner Bros. Discovery to become profitable. Analysts are expecting the company’s LTM operating margin of negative 3.7% to rise to positive 3.3%.

EPS

Analyzing long-term revenue trends tells us about a company's historical growth, but the long-term change in its earnings per share (EPS) points to the profitability and efficiency of that growth–for example, a company could inflate its sales through excessive spending on advertising and promotions. Warner Bros. Discovery EPS (GAAP)

Over the last five years, Warner Bros. Discovery's EPS dropped 171%, translating into 22.1% annualized declines. We tend to steer our readers away from companies with falling EPS, where diminishing earnings could imply changing secular trends or consumer preferences. Consumer discretionary companies are particularly exposed to this, leaving a low margin of safety around the company (making the stock susceptible to large downward swings).

In Q4, Warner Bros. Discovery reported EPS at negative $0.16, up from negative $0.57 in the same quarter a year ago. This print unfortunately missed analysts' estimates. Over the next 12 months, Wall Street expects Warner Bros. Discovery to perform poorly. Analysts are projecting its LTM EPS of $0.09 to invert to negative $0.45.

Cash Is King

Although earnings are undoubtedly valuable for assessing company performance, we believe cash is king because you can't use accounting profits to pay the bills.

Over the last two years, Warner Bros. Discovery has shown decent cash profitability, giving it some reinvestment opportunities. The company's free cash flow margin has averaged 11.2%, slightly better than the broader consumer discretionary sector.

Warner Bros. Discovery Free Cash Flow Margin

Warner Bros. Discovery's free cash flow came in at $3.31 billion in Q4, equivalent to a 32.2% margin and up 33.4% year on year. Over the next year, analysts predict Warner Bros. Discovery's cash profitability will fall. Their consensus estimates imply its LTM free cash flow margin of 14.9% will decrease to 12.6%.

Return on Invested Capital (ROIC)

EPS and free cash flow tell us whether a company was profitable while growing revenue. But was it capital-efficient? A company’s ROIC explains this by showing how much operating profit a company makes compared to how much money the business raised (debt and equity).

Warner Bros. Discovery's five-year average return on invested capital was 1%, somewhat low compared to the best consumer discretionary companies that pump out 25%+. Its returns suggest it historically did a subpar job investing in profitable business initiatives.

The trend in its ROIC, however, is often what surprises the market and drives the stock price. Unfortunately, Warner Bros. Discovery's ROIC over the last two years averaged 13.7 percentage point decreases each year. In conjunction with its already low returns, these declines suggest the company's profitable business opportunities are few and far between.

Key Takeaways from Warner Bros. Discovery's Q4 Results

We struggled to find many strong positives in these results. Its revenue, operating margin, and EPS fell short of Wall Street's estimates, driven by weak performance in its Studio segment (revenue dropped 17% year on year and significantly missed estimates). Its Network segment also saw a 9% drop, but its results were in line with analysts' expectations. 

The only segment that grew was its Direct-to-Consumer (DTC) business (3% year-on-year growth). That was thanks to a 51% increase in DTC advertising revenue, which mostly came from Max's (formerly known as HBO Max) ad-supported tier. Overall, the results could have been better. The stock is flat after reporting and currently trades at $9.56 per share.

Is Now The Time?

Warner Bros. Discovery may have had a tough quarter, but investors should also consider its valuation and business qualities when assessing the investment opportunity.

We cheer for all companies serving consumers, but in the case of Warner Bros. Discovery, we'll be cheering from the sidelines. Although its revenue growth has been exceptional over the last five years, its declining EPS over the last five years makes it hard to trust. And while its projected EPS for the next year implies the company's fundamentals will improve, the downside is its relatively low ROIC suggests it has historically struggled to find compelling business opportunities.

While the price is reasonable and there are some things to like about Warner Bros. Discovery, we think there are better opportunities elsewhere in the market right now.

Wall Street analysts covering the company had a one-year price target of $15.34 per share right before these results (compared to the current share price of $9.56).

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