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Zee: Facing the heat

Jan 27, 2005

Performance summary
Zee Telefilms dismal performance has continued into 3QFY05, after it's disappointing 2QFY05 results. Both the topline and the bottomline during the quarter have registered negative growth. However, it must be noted that the current result also includes financial entries pertaining to Padmalaya Enterprises (PEPL) and Padmalaya Telefilms (PTL).

Consolidated snapshot…
(Rs m) 3QFY04 3QFY05 Change 9mFY04 9mFY05 Change
Net Sales 3,746 3,390 -9.5% 9,870 10,076 2.1%
Expenditure 2,477 2,370 -4.4% 6,686 6,970 4.2%
Operating Profit (EBDITA) 1,268 1,021 -19.5% 3,183 3,106 -2.4%
EBITDA margin (%) 33.9% 30.1%   32.3% 30.8%  
Other income 149 167 12.0% 504 412 -18.2%
Interest 122 77 -36.6% 483 230 -52.5%
Depreciation 82 70 -14.8% 234 238 1.8%
Profit before tax 1,213 1,040 -14.3% 2,969 3,050 2.7%
Tax 311 216 -30.5% 744 803 7.9%
Profit after Tax/(Loss) 902 824 -8.7% 2,226 2,248 1.0%
Net profit margin (%) 24.1% 24.3%   22.6% 22.3%  
No. of Shares (m) 412.5 412.5   412.5 412.5  
Diluted earnings per share* 8.7 8.0   7.2 7.3  
Price to earnings ratio (x)   18.8     20.6  
(* annualised)            

Company profile
Zee TV is India's first private TV channel covering nearly 30% of Indian television homes. It also reaches an estimated over 225 m people worldwide. Though the channel did not face competition in the initial years of its launch, it has been facing tough times in recent years owing to the competition from other channels like Star and Sony. With an effort at de-risking its existing business model, Zee has been spreading its wings internationally through its wholly owned subsidiaries, which would help it in increasing its subscription-based revenues. Also, venturing into production of films, selling its distribution rights and the DTH (Direct-To-Home) services should augur well for the company.

What has driven performance in 3QFY05?
Topline woes:  Zee's topline has registered a 10% fall during the quarter, which was impacted by of a 3% fall in ad revenues. However, if the Padmalaya numbers are excluded at the topline for the quarter, the fall is lesser at 1%. It must be noted that ad revenues contribute to over 50% of the company's revenues. However, the fall would have been sharper but for the 8% growth in subscription revenues, which helped curtail the decline. It must be noted that both these revenue fronts have witnessed a declining growth rate over the last three quarters, which is reflected in the muted topline growth for 9mFY05. While the negative ad revenues growth is seemingly a factor of heightened competition in the sector, where Zee's channels seem to be losing out, the slower growth in subscriptions can be attributed to the launch of Doordarshan's DTH services. Also, on the international subscriptions front, competing channels going all out to woo international viewers have seemingly affected Zee's international subscriber additions. It must be noted that popular channels like those of Star and Sony are not yet available on the Zee platform.

Further, while ad and subscription revenues form a major chunk of Zee's revenues (95%), the balance 5% is contributed by other sales & services, which include revenues from film production and distribution, syndication, education sales and sale of set top boxes. The revenues from this segment have halved during the quarter.

Operating margins fall:  Margins registered a YoY fall of 380 basis points during the quarter. The company's transmission and programming costs have decreased in absolute terms by over 10% and also as a percentage of net sales (by 50 basis points). Since this accounts for nearly 60% of the total operating expenses of the company, the fall in overall margins has been curtailed. However, while staff costs have continued to rise (up 20%) during the quarter, other expenses, which form near 1/3rd of the total operating expenditure have increased by 3% because of higher promotional and marketing costs during the quarter, thus pressurizing operating margins.

Cost break-up
(as % of net sales) 3QFY04 3QFY05
Transmission & Prog. Costs 40.6% 40.1%
Staff Costs 4.4% 5.8%
Other expenses 21.2% 24.0%
Total 66.1% 69.9%

Net profits disappoint:  Though the topline and operating level performance of the company during the quarter was rather unimpressive, a 12% rise in other income, a sharp fall in interest rates (down 37%), and a 15% fall in depreciation expenses have acted as a saviors for the company. The 30% lower tax provisioning during the quarter has also aided the bottomline.

Further, in order to inform the investors, as per the company release, during the current fiscal, PTL's financials for the last year ending 31st March 2004 was redrafted and audited again. During the re-audit of accounts, it was found that total revenue was over reported by Rs 117.5 m with corresponding over reporting of PBT by Rs 579.7 m and PAT by Rs. 403.3 m. This difference has been adjusted against the consolidated reserves of the company. This we believe is not in favour of Zee's shareholders.

What to expect?
At Rs 150, the stock trades at 20.6x annualised consolidated 9mFY05 earnings, which is at the upper end of our valuation band. The results have largely been in line with expectations and we will not be making any major changes to our full year EPS number. While at the current price the stock is fairly valued, over the long-term we continue to remain positive on the media sector as a whole. Further for Zee, the news of the regulator's decision with respect to content sharing and the hike in pay tariff are positives. However, we maintain our promoter related concerns, which makes the stock somewhat risky for retail investors.

It must be noted here that we had come out with a BUY report on the stock at Rs 140 in July 2004 with a target price of Rs 190. The stock made a high of Rs 189 during December 2004 and has corrected thereon to the current levels. At the current juncture, we would advise investors to avoid making any fresh investment in the stock till more clarity on the Padmalaya issue.

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