Discovery Networks Stock Is A Becoming A Pullback Opportunity Lower

 | Apr 14, 2021 06:12AM ET

Media company Discovery Networks (NASDAQ:DISCA) stock experienced a questionable price surge on the coattails of peer ViacomCBS (NASDAQ:VIAC). Subsequently, Discovery Networks shares also shadowed Viacom’s implosion and volatility as news of Archegos Capital Management margin calls triggered forced liquidation of positions in its portfolio.

The mistake would be to assume the run-up to $78.14 on DISCA shares and especially the run-up to $101.97 on VIAC had any semblance of a fair value or “reality” in the first place. The reality is that we now know that Archegos was largely the catalyst and driver behind the artificial run ups as evidenced by the complete lack of price supports on the way down. It’s a mistake to assume shares are “cheap” based on a 40-60% haircut within a month, especially when there’s been no fundamental change in the underlying company.

The real question is whether the prior run-up was justified and then assessing what is a true fair “market” value in the shares? Viacom and Discovery Networks shares are undergoing the market price discovery phase now. Keep in mind Viacom was basing around $35 and Discovery Networks around $28 in December 2020, prior to the meteoric squeeze high $101s and $78s, respectively. As benchmark indices may new all-time highs, both stocks are having difficulty gaining any steam on the upside, which illustrates that the market still feels these stocks are overvalued. A longer period of consolidation is in store as hopes for a V-shaped slingshot recovery fades.

h2 What Moves Stock Prices?/h2

This goes to my theory of stock price action being based on narrative which impacts sentiment which moves price. However, the anomaly situation is when price moves so extremely that it changes the sentiment and narrative. This happened to Viacom shares on the way up and subsequently Discovery Network shares. Investors scratched their heads questioning what catalyst was on the horizon causing shares to spike and shorts got their heads handed to them in a merciless squeeze.

h2 Archegos/h2

Family office Archegos Capital Management employed highly levered total return swaps to disguise their ownership behind prime brokers like Goldman Sachs (NYSE:GS), Morgan Stanley (NYSE:MS) and Credit Suisse (NYSE:CS). This enabled them to bypass 13-f filings required by family offices for holdings valued at over $100 million in addition to providing upwards of 8X leverage. The secondary effect is the illusion that these blue-chip investment banks were taking institutional stakes in Archegos positions implying a bullish “halo” effect for traders and investors monitoring institutional ownership updates. This further begs the question of the true motive behind the extreme buying as prices rose for 12 straight weeks. All kinds of theories and rumors were created including potential mergers, acquisitions, private equity, and news yet to hit the wires. When the market discovered the real buying demand was not based on material/news or catalysts to justify the run-up, other than a pump and (forced) dump, it punished and continues to punish shares after basically being hoodwinked. The institutional buyers of Viacom’s $2.65 billion stock offering composed of 20 million Class B common shares priced at $85 and 10 million 5.75% Series A mandatory convertible notes with liquidation preference price at $100 per-share, can’t be too happy. Keep in mind, the convertible shares automatically convert to Class B shares on April 1, 2024.

h2 Q4 2020 Earnings Release /h2
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On Feb. 24, 2021, Discovery Networks released Q4 2020 results for the quarter ending in December 2020. The Company reported earnings per share (EPS) of $0.76 excluding non-recurring items, beating consensus analyst estimates of $0.72, by $0.04. Revenues grew 0.3% year-over-year (YoY) to $2.88 billion, beating analyst estimates for $2.83 billion. Adjusted OIBDA fell (-9%) YoY to $1 billion. The Company finished 2020 with over $2.3 billion in free cash flow and a 56% adjusted-operating-income-before-depreciation-and-amortization (AOIBDA) to free cash flow conversion rate.

h2 Valuation and Growth Drivers/h2

With a 21 P/E, shares are trading at double Viacom P/E hovering around 11. Discovery has the best-in-class non-scripted content available in over 200 global markets in 49 languages reaching 800 million global daily viewers. Discovery Networks roll out of its Discovery+ streaming platform has embedded a premium in shares for the time being as its seen as a growth driver just getting started. Discovery+ direct-to-consumers membership rose from five million in December to 12 million paying customers by the end of February. The Company deems its streaming platform as it’s “next-generation revenue” generator. In Q4 2020, almost 93% of its 55,000 episode library had been watched indicating a long tail of content. Moving forward, all eyes are on the growth metrics for Discovery+. Risk-tolerant investors can look for deeper opportunistic pullback levels to consider exposure.