Morningstar - Q2 2024 - 59

that traditional media companies can't
match also make these companies extremely
tough competitors.
Hampton: Streamers are rolling out plans with
commercials to lean more into digital advertising.
Explain why Amazon has an edge.
Dolgin: Amazon has an edge over some but not
necessarily all competitors. But it's nuanced.
Amazon has a track record and more experience
in selling digital advertising. It's offering
its Prime service with ads. They should have
a smoother transition than some.
The traditional companies also have a long history
in advertising. Most of them are offering
ad-supported subscription services. They're not
brand new, like Amazon's or Netflix's. They
don't necessarily have the same digital capabilities,
but they're not starting from scratch. Those
traditional companies are in a good spot
to take advantage as the ad-supported model
becomes more prominent.
Netflix is the one that's kind of last to the party.
Advertising was never a part of its business
until it started offering the ad-supported service
[in 2022]. It has more work to do to monetize
advertising. However, it's also the reason why
Netflix has a lot of room to grow. It has
probably some ground to make up in becoming
an efficient advertiser, but it leads to what we
see as mostly upside for the company.
Hampton: Netflix is developing games. Disney has
announced a partnership with Epic Games.
Can you talk about whether gaming is the right
revenue move?
Hodel: It's the right move for media companies
as a means of generating additional revenue
around their existing intellectual property,
extending the life of key franchises, key characters.
The question is what the business model
should look like. There's a long history of media
company tie-ups with gaming companies that
have had varying degrees of success.
In our view, given where we're at in the video
game development world and how specialized
firms like Microsoft MSFT-not just on
its own, but also with its Activision acquisition-
or Electronic Arts EA have become and how adept
they've become at developing games, it makes
the most sense for media companies to partner
with video game firms that have expertise
rather than try to develop games on their own. So,
to the extent Netflix is actually going to end
up developing its own games, we think that's
probably not the smartest move.
The Disney move with Epic is odd, in our view.
I think that deal kind of came out of left field.
Disney has partnered with multiple major video
game publishers to develop games around
its core intellectual property. Tying up with a single
partner seems like an odd move to us at this
point. We think the best strategy for Disney would
be to remain agnostic about which companies
they partner with for each individual piece
of intellectual property that they want to turn into
a game and leave themselves that flexibility.
Hampton: Password crackdown is spreading. Could this
lead to more subscriber sign-ups or cancellations?
Dolgin: It depends on how the companies
go about it. Because what Netflix has done, what
Disney says it intends to do, is not completely
cut off that sharer and say you're going to
be on your own, have them subscribe for yourself,
but instead saying you can still be part of
this plan. It's going to be a little incremental cost
per month. They'll pay extra and be able to
essentially share.
If that's the case, it ends up being very likely to
boost subscribers. It ends up being lower
average revenue per subscriber, but you have more
people watching.
If the company were to take the tougher stance,
it would be less clear that it would boost
subscribers. But it still seems the right thing to do.
We don't expect it to lead to big subscriber
losses. We need to get away from thinking about
what's the subscriber count and more about
what do the financials look like.
Hampton: Which streamers are telling the most
compelling growth stories to convince investors to stick
around for the next five years?
Dolgin: Putting aside the valuation of the stock,
we would say Netflix is in a class by itself,
and it's the only one that has really shown that it
can survive and thrive in this new media world.
The boost that we expect it to get from advertising
should only help. Its ability to continue growing
sales and enhance profitability looks good.
We'd say it's more of an incomplete type of
grade for other streamers. They're still evolving.
They're still trying to balance their streaming
services with those traditional linear
television networks that are still crucial to their
businesses. We think there are reasons like
their assets and content that they will figure
it out. But they're not there yet. It would be tough
to tell investors to be comfortable that the
economics associated with streaming are going
to more than offset the declining economics
of the traditional linear business.
Hampton: Name the companies that top your
favorites list.
Hodel: My favorite stock right now is Comcast.
It's trading at about a 30% discount to what
I think it's worth. My take on Comcast is primarily
related to its broadband business, which is
a little separate from the media companies that
we've been discussing, although Comcast does
own NBCUniversal. I think that the market
is overly pessimistic about the long-term growth
prospects of that core broadband or internet
access business. Comcast is in a great spot with
a very strong balance sheet enabling it to
repurchase shares aggressively. With the stock
trading where it is, we think share repurchases are
going to add a lot of shareholder value.
Dolgin: Paramount and Warner Bros. Discovery
are the most undervalued on my list. They're being
priced like they will never figure it out, and that
they'll perpetually erode. We think they have some
very valuable assets.
Disney is in between. It has many of the same
challenges as Paramount and Warner Bros.
Discovery, but it has a much higher valuation. We
think there are reasons why that valuation
is warranted, but we see it as more close to
fair value. K
Ivanna Hampton is lead multimedia editor
for Morningstar.
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