Zee Entertainment Enterprises (BUY): Margins on the gradual recovery path

Zee Entertainment Enterprises’ (ZEEL) Q4FY22 print was negatively impacted due to weak ad revenues and impasse in subscription pricing though theatrical movie releases helped grow revenues. EBITDA margin was weak at 20.9% on change in revenue mix (theatricals are a low-margin business) and rise in marketing spends (for ZEE5 and movies). Despite multiple headwinds, ZEEL expects growth in ad revenues in FY23 as well as in subscription revenues with TRAI re-evaluating its tariff order. However, margin improvement will be restricted due to continued investments in content, in both TV and OTT, and higher outlay for movies. Recovery in margins will therefore be gradual. Merger process with Sony is progressing at a slow pace as it is yet to receive approval from the exchanges, which was expected by Mar’22. We have cut our EPS estimates by 17-22% over FY23E-FY24E on lower margin assumptions, and reduced the target price to Rs310 (from Rs360) as we value the stock at a P/E multiple of 20x FY24E (earlier 22x FY23E). Maintain BUY. 

•  ZEE5 showing consistent performance. ZEEL’s efforts on pricing, content and technology is benefiting ZEE5 where good performance has sustained for past few quarters. ZEE5 added 2.9mn MAUs (average net addition of 9mn per quarter in past four quarters) to 105mn and 0.9mn DAU addition (average net addition of 1.1mn per quarter) to 10.5mn. ZEE5 revenues rose 50% YoY (10.6% QoQ) to Rs1.6bn. EBITDA losses were at Rs2bn rose slightly QoQ. New users are coming directly on the ZEE5 platform, and subscription fees are significant in the revenue mix.
• Ad revenues facing headwinds: ZEEL’s domestic ad revenues rose 0.3% YoY to Rs10.7bn and were hit due to stress on margins for advertisers because of: 1) high commodity inflation, particularly for FMCG companies; and 2) slip in viewership ratings (Hindi, Tamil and Marathi GECs). ZEEL remains optimistic on ad revenue growth for FY23 despite headwinds from discontinuation of FTA channels, and sustained commodity inflation. It plans for investment in content, and is hopeful of winning back its lost viewership share in key GECs.    
• Underlying subscription revenues subdued: Domestic subscription revenues dipped 1.1% YoY to Rs7.4bn, and were negatively affected due to impasse in NTO 2.0 implementation. TRAI has initiated a consultation paper on the tariff order, and ZEEL is hopeful of price hikes for key channels. Further, discontinuation of FTA will help drive users. Company should also benefit from growth in Zee Music and ZEE5.
•  ZEEL has guided for stable to improving margins despite increasing investments: EBITDA dipped 10% YoY to Rs4.9bn, and EBITDA margin was only 20.9%, much below guidance of 25%. Company is now guiding for gradual improvement in margins as it intends to make growth investment in the following aspects: 1) content to grow viewership in key GECs (likely inflationary rise); 2) adding more content on ZEE5; and 3) movies and music. However, ZEEL does not expect these investments to make much impact on margins, and expects FY23 EBITDA margin to be stable or slightly improve. Key to watch would be: cash conversion and rise in inventory.

ICICI Securities