Zee Telefilms: A grandiose script

Recommendation: Cut exposures

S. Vaidya Nathan

Recommendation: Though the Zee Telefilms' stock is down around 67 per cent from its post-stock-split high of Rs. 1,544, shareholders can cut exposures (especially on any uptrends linked to the broad market) and contemplate a fresh look at the stock at lower levels.

Further downside appears to be in store with the poor earnings quality and grandiose plans unlikely to be viewed favourably. Zee Telefilms's performance for 1999-2000 clearly shows the strains of rising competition and pressures on profitability due its myriad business plans.

Flat fourth quarter: That the rising competition would take a toll on profitability was known for quite some time. But the growth in the sustainable earnings stream took a hard knock with the numbers moving up just 18.42 per cent in the fourth quarter. The company's reported earnings of Rs. 267.03 crores in this quarter (1998-99 Q4: Rs. 17.86 crores).

But this is largely attributable to one-time gains of a doubtful quality from a deal a wholly-owned subsidiary. The company's film and television library is valued at Rs. 2,634 crores. A small part of this library has been sold to Asia Today Ltd (ATL), a wholly-owned subsidiary, and this contributed Rs. 185.1 crores to the earnings stream in the last quarter. Excluding this, the revenue growth stream is around 22 per cent and these growth rates are hardly the kind that could justify the valuation of the stock.

The full-year show: The company's performance for full year 1999-2000 shows a tapering of growth rates compared to the past. While sustainable revenues rose around 25 per cent, post-tax earnings moved up 34.2 per cent. A doubling of `other income', from Rs. 5.56 crores to Rs. 10.08 crores, has come in handy in lifting the earnings growth rate. With operating profit margins slipping up by 1.60 percentage points, the volume growth has not been good enough to lift the earnings to a higher level. The likes of Sony and STAR Plus are in pursuit of the market for advertisement revenues and viewership. This is bound to keep the profitability of Zee's core businesses under pressure.

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A notable factor is the flat trends in interest rates despite the company making cash payouts of around Rs. 660 crores towards acquiring full control over three companies -- Asia Today's holding company, Siticable Network and Programme Asia Trading Company. Without any equity infusion and low cash generation, the company must have taken recourse to borrowings. But the interest expenses do not seem to reflect this aspect.

Consolidation, the key: What may hold the key is the consolidated picture of the various subsidiaries. The stock may still command a higher valuation till the consolidated picture emerges. But a lot would depend on the quality of disclosures by the company. In this respect, the track record does not inspire confidence. And the deal done with a subsidiary company is unlikely to help matters either. More so, as the raison d'etre for the deal has not been spelt out.

The transparency aspect cannot be underplayed since Zee Telefilms has numerous subsidiaries and associates companies which handle the forays into diverse business areas. And it is this diverse basket that the company hopes will put its revenues and earnings in a different league from what it is now.

Grandiose plans: The company expects its revenues to touch Rs. 10,000 crores and pre-tax earnings to Rs. 3,000 crores in five years. Even assuming that the consolidated Zee group's numbers are much higher than that reported for Zee Telefilms, the required growth rates appear on the high side. More so, as the business areas where the company hopes to garner these revenues are intensely competitive. Be it sports channels (expected to contribute 7 per cent), DTH (10 per cent), Cable TV (19 per cent), Internet service provider (9 per cent), international broadcasting (20 per cent), domestic broadcasting (24 per cent) and others (11 per cent).

No doubt Zee Telefilms is well placed to emerge as a major player in the convergence business. But whether this will translate into big contributions to the earnings stream remains a doubt. The kind of numbers the company has indicated for its domestic business is also of a daunting kind unless it goes on `pay' basis in the Indian market too. But a pay channel in the Indian context may lead to loss of revenue unless competitors too take the same route. Overall, the business plans unveiled by the company appears to cast more uncertainty than even the indifferent earnings performance in 1999-2000 and especially the last quarter.

ADR ambiguity: The ADR plans seem to constantly shifting in true Zee style. Now the top management has conveniently cited a promise made earlier not to dilute more than 10 per cent by 2005. Why this was not factored when the original announcement of a $1.50-billion ADR was made is what makes the argument tenuous. Not only is the offer size being scaled down, it may also be routed through Siticable, a subsidiary. These shifts do not send the right signals regarding a concrete business plan to use funds from the ADR. This factor too may weigh on the stock's valuation.