Warner Bros. Discovery's Stock Struggles: A 40% Plunge and the Buy Question

Warner Bros. Discovery's Stock Struggles: A 40% Plunge and the Buy Question

April 11 marks the first anniversary of Warner Bros. Discovery (WBD, -4.28%) as a standalone public company. However, its stock has struggled to gain investor support, plummeting approximately 40% since its inception, due to the company's substantial debt load. Let's explore two reasons why Warner Bros. Discovery's stock might be an attractive buy opportunity.

The Trouble with Warner Bros. Discovery's Stock

Warner Bros. Discovery came into existence last April, following AT&T's decision to spin off Warner Bros. Media and merge it with Discovery, Inc. The fusion created a significant entertainment conglomerate, which the market quickly soured on due to its debt.

The new firm forked over $43 billion to AT&T for Warner Bros. Media and assumed Discovery, Inc.'s $13.5 billion debt, adding up to a total gross debt of approximately $56.5 billion. While Warner Bros. Discovery has been making progress in reducing its debt, it has struggled with a key metric: the net leverage ratio. This ratio, calculated as total debt divided by the sum of the most recent four quarters of adjusted EBITDA, remained at 5 for the company at the time of the merger and continued to be the same as of the end of 2022.

In a hopeful turn, CFO Gunnar Wiedenfels stated during the company's initial launch that they could achieve a net leverage ratio of 2.5 to 3 by the end of 2024. Though Wiedenfels upheld this timeline during their last earnings call, the company will undoubtedly be motivated to pay down its debt as they paid nearly $2 billion in interest in 2022, with an estimated $2 billion expense for 2023, featuring an average interest rate of 4.3% on its $49.5 billion gross debt.

Reason No. 1 for Optimism: Intellectual Property

Warner Bros. Discovery boasts an enviable roster of intellectual property within the entertainment industry, with popular franchises such as DC Comics, Game of Thrones, and Harry Potter. In 2023, their studio division has already delivered the second-highest-grossing movie of the year, Creed III, and is anticipating blockbuster releases like Aquaman and the Lost Kingdom, Aquaman and the Lost Kingdom, and The Flash.

With an extensive portfolio of content, Warner Bros. Discovery means you can distribute your material as desired, through cable television networks like TNT and TBS or direct-to-consumer (DTC) streaming platforms such as HBO Max and Discovery+.

As of the end of Q4 2022, Warner Bros. Discovery boasted 96.1 million global subscribers, with growth of roughly 11% from 2021 to 2022. Although its subscriber count falls short of Netflix's 230 million subscribers, Warner Bros. Discovery has demonstrated impressive growth compared to Netflix's 4% gain during the same period.

In response to gaining traction, Warner Bros. Discovery relaunched HBO Max on Amazon Channels in December 2022, facilitating easier access to its flagship streaming service for Amazon Prime Video users.

Reason No. 2 for Optimism: The Company's Cash Flow

Despite the debt concerns, Warner Bros. Discovery boasts a substantial cash flow. One essential metric with which the company excels is free cash flow - the cash from operations minus capital expenditures. In 2022, Warner Bros. Discovery generated an impressive free cash flow of nearly $3.3 billion, with $2.5 billion being produced in Q4.

As a point of comparison, Netflix produced $1.6 billion in free cash flow for 2022 and projected $3 billion for 2023. Though Warner Bros. Discovery does not present a spotless balance sheet like Netflix, it has already surpassed Netflix's highest annual free cash flow in just one year of operation.

Free cash flow is a valuable metric to assess a company's potential to pay down its debt. Although management expects a negative free cash flow in Q1 2023 due to the variable nature of the entertainment industry, they expect to generate $3.3 billion to $5.5 billion in free cash flow during the entire year.

Is Warner Bros. Discovery Stock a Buy?

Warner Bros. Discovery cannot swiftly address its sizable debt situation. Nonetheless, management plans to address the issue by reducing current costs by $4 billion through 2024.

Armed with coveted intellectual property, the company can continue producing blockbuster content that resonates with fans for years to come. Look for signs of Warner Bros. Discovery meeting its robust free-cash-flow guidance in the upcoming year. If successful, the company should ultimately reach its debt goals and reward patient investors with an enticing turnaround.

Despite Warner Bros. Discovery's significant debt load, investing in finance could potentially yield returns due to its robust cash flow. In 2022, the company generated an impressive free cash flow of nearly $3.3 billion, surpassing Netflix's highest annual free cash flow. This strong cash flow could contribute to the company's debt reduction plans, as they aim to cut current costs by $4 billion by 2024.

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