Paul Allen’s Charter Communications last week reported a third-quarter profit, an uptick in revenue, lower capital spending and a jump in Internet subscribers. So why isn’t Wall Street impressed?
Much of the reason is tied to how Charter achieved the results. The cable operator launched a month-long promotional campaign in September in which new basic, digital and high-speed data subscribers received two months of free service when they signed up, which most analysts say artificially inflated subscriber growth numbers.
That promotional campaign has the potential of undoing the progress that Charter has made in recent months to restore itself to financial health, analysts said. The concern is that new customers will drop their service once they start receiving monthly bills. Another worry: Charter could be once again attracting the types of price-sensitive subscribers from which it has been trying to sever ties.
“The strong [revenue-generating unit] additions in Q3 are not a sign of strength,” said Richard Greenfield, an analyst at Fulcrum Global Partners.
Considering the difficulties encountered by the St. Louis-based cable operator during the past year, the third-quarter results are at least some good news. Charter is still under the microscope of a federal probe into how it counted subscribers.
Charter CEO Carl Vogel said the upbeat numbers reflect “substantial progress” in the company’s turnaround and are a direct result of the “positive impact of the new management team” put in place over the past several months.
Now boasting 6.6 million subscribers, Charter last week reported third-quarter profit of $36 million, or 12 cents a share, compared with a year-earlier loss of $167 million, or 57 cents a share. Revenue rose 4 percent to $1.2 billion, while adjusted earnings before interest, taxes, depreciation and amortization climbed 5 percent to $488 million.
The company attributed the improved results to cutting of capital expenditures by 57 percent in the quarter to $239 million, as well as the addition of nearly 141,000 new high-speed data customers and 61,000 digital cable subscribers. Those factors helped offset a sharp drop in advertising revenue and a surge in marketing costs associated with attracting new customers, including the offer of two months of free Internet service.
Charter saw its programming costs rise just 6 percent in the quarter, thanks to several contract renegotiations and the collection of some outstanding liabilities. Sports programming fees weren’t included, however; Charter’s contract with ESPN doesn’t expire until the end of 2004.
Despite Charter’s return to profitability, Wall Street was largely disappointed, both because the results were still below most analysts’ estimates and because the growth was propelled by a promotional campaign. That led several analysts who follow Charter to lower their estimates for the fourth quarter.
“Specifically, we believe that the current management team is running the risk of repeating the cycle of unsustainable subscriber growth, followed by above-average subscriber losses, as the company has worked to disconnect many of its price-sensitive customers in the last two years,” wrote UBS Securities analyst Aryeh Bourkoff in a research note.
For their part, Charter officials defended their decision to launch the September promotion. “As we looked back at 2003, we did little marketing,” said Mr. Vogel. “Our goal in the third and fourth quarter is to be aggressive, including promotional offers.”
Despite the questions about its subscriber-growth strategy, there are indications that Charter has other opportunities to raise revenue. Chief among them: asset sales.
Charter is already on deck to receive $765 million in cash from its sale of nonstrategic cable systems in Florida, Pennsylvania, Maryland, Delaware, New York and West Virginia to Atlantic Broadband. And analysts expect additional sales in the future. UBS’ Mr. Bourkoff expects more system sales in the first half of 2004, “as Charter needs to build incremental flexibility to compete for the bundled product offering in 2004 as it competes with two aggressive satellite operators and with the Bells,” he wrote.