Avoid This Body-Slam

 | Dec 30, 2011 | 10:00 AM EST
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It seems at least somewhat accurate to say that the real-life cartoon wrestling pioneered by the McMahon family and World Wrestling Entertainment (WWE) has touched us all in one way or another. A husband could be an avid viewer, which drives the wife mad. Perhaps, In the late 1980s, dear ol' Dad cracked open a brew and watched Hulk Hogan body-slam a mere mortal in a live Saturday Night Main Event. Or maybe, just maybe, one is a closet wrestling fan and has a basement full of old-school rubber wrestler action figures.

To this day I find two things amazing about this phenomenon. First, WWE is still around, despite its highly scripted show format and cycles of talent transition. Second, WWE has become exceedingly ingrained in U.S. society since Vince McMahon took the reins from his father many, many years ago.

The WWE that exists today is a full-fledged media company, with operations spanning traditional television to digital to print. Unfortunately, a good portion of WWE's media properties are not clicking on all cylinders. For those that are, they're technically absent the health implied by the raw numbers. The market is quite locked into WWE's troubles, as well: The stock is down some 35% since the start of the year, a move that's decidedly un-Diva (this is what WWE calls its female wrestlers).

According to the latest Nielsen ratings, the WWE program Monday Night Raw had 4.4 million viewers, placing behind three shorter-duration reality television shows. Vince McMahon said results were "improving" on the most recent earnings release. I call his bluff, siding with my tag-team partner, the always cool Mr. Market. It's time to see what the real deal is with WWE, and try and determine if the stock's pullback has been too harsh.

How Industry Change Is Hurting WWE

Any media company, whether traditional (television, print) or untraditional (online, social media), needs eyeballs to support revenue, and these tend to stem from advertising placement or subscriptions. For WWE, its high-class yacht has sailed right into an increasingly crowded harbor of smaller, yet very powerful speedboats:

• Reality television sitcoms;

• reality webisodes;

• virtual online gaming worlds; and

• increased marketing behind major sporting events.

It's also worthwhile to add these tidbits:

• How we consume media now is vastly different from how it was done in WWE's heyday, in the 1980s and 1990s.

• I am no doctor, but I do see the attention span of children growing shorter with the rise in handheld devices. A kid could get lost in the Internet on an Apple (AAPL) iPad for the two hours on Monday night when "Raw" runs.

• Like never before, there is stuff today that competes for a family's discretionary dollars -- to the point at which visiting a live WWE event may not be even remotely feasible. Furthermore, the aftermath of the recession has lowered pay scales for many household breadwinners, or caused both parents into the workforce, which creates less time for extracurricular activities. (Shows are held at night during the week.)

• Baby boomer fathers have adult children that continue to be emotionally connected to the 1980s and 1990s superstars, and look at today's cast of characters as very subpar. That can quickly erode the bond to the sport, meaning the offspring of baby boomer children are unlikely to immerse themselves in the WWE universe.

The McMahon Bluff

To the untrained eye, WWE's financials hint at modestly improving quarters to come. But, dig into them as I did, and one is left feeling a tad as if a steel chair has been applied forcefully to the head.

• The only positive revenue growth areas in WWE's quarter were Pay-Per-View (PPV) and television rights. That is the baseline to start analytical work. Regarding PPV, the growth was driven by one event -- WrestleMania and its higher retail price. Other PPV buys declined to between 652,000 and 680,000, a real example of WWE's current in-ring talent having become stale to viewers. International broadcasts boosted television rights fees, which is fine, except that WWE is entering lower-quality venues to perform its soap operas.

• A greater number of events were held, but total attendance fell 1%. I read this as WWE going back to its usual stomping grounds, with fewer people showing up (as it also loses viewers, in other words).

• Prices were cut by 7% for international live events in order to attain a 7% increase in attendance, which is obviously disappointing.

• Consumer products and studio businesses are really struggling.

• WWE.com revenue was lower by 8% in the quarter -- a lackluster performance, especially given that the Internet is where the eyeballs are fixated these days.

Ring the Bell

WWE's stock is down for the count, and it's likely to stay that way for the time being. At a price-to-earnings multiple of 13x forward earnings, the stock is overvalued, in my view. The multiple deserves to unwind the premium typically given to media businesses, as the earnings estimates held by the Street are too ambitious. Applying my below-consensus forward earnings estimate to a fairer multiple of around 12x, WWE is roughly a $7 stock -- 24% below present levels.

A name I am more comfortable recommending is Discovery Communications (DISCA). Its brand portfolio is strong and diverse, headlined by top-rated shows Deadliest Catch, Man vs. Wild, Gold Rush and Cake Boss. In addition, the Street has already begun to mark up its earnings estimates for that name.

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