Warner Bros Discovery's Streaming Business Could Be Profitable Soon, but Is the Stock a Buy?

© Provided by The Motley Fool Warner Bros Discovery's Streaming Business Could Be Profitable Soon, but Is the Stock a Buy?

Profits have become the driving force for many streaming services, and Warner Bros. Discovery (NASDAQ: WBD) may be the closest to reaching that goal.

Management said its direct-to-consumer segment, which includes HBO Max and Discovery+, will be about breakeven on an earnings before interest, taxes, depreciation, and amortization (EBITDA) basis for the first quarter of the year. The milestone comes after CEO David Zaslav mercilessly cut content expenses, including several high-profile cancellations. Management tempered its guidance by noting that it'll spend more on marketing its streaming service when it combines HBO Max ad Discovery+ in the second quarter.

With Warner Bros. Discovery so close to profitable on its streaming efforts while the competition is still losing hundreds of millions every quarter, should investors look to pick up some shares of the media stock?

Cutting costs has its costs

Since the merger closed, Zaslav has cut content spending while pulling back on marketing spending, and the results are evident in the company's subscriber numbers.

The company added just 1.1 million streaming subscribers last quarter. Analysts on Wall Street were expecting 1.6 million. That follows a disappointing third quarter, when the company added 2.8 million subscribers versus 3.3 million expected.

It's worth noting that HBO Max likely got a boost in subscribers last quarter after reviving its agreement with Amazon to distribute HBO Max as a Prime Channel. Over 5 million people subscribed to HBO through Amazon prior to the decision to end the relationship.

Revenue for the segment grew just 5% year over year in 2022 on a pro forma basis. Top-line growth was just 4% in the fourth quarter, fueled primarily by advertising and content licensing. Content licensing could grow further in 2023, after the company struck deals with several FAST services to stream select content.

Despite Zaslav's efforts to kill off a lot of content, cost savings stemmed primarily from slashing the marketing budget. Practically all of Warner Bros. Discovery's Direct-to-Consumer EBITDA improvement came from lower selling, general, and administrative expenses last quarter.

The path ahead

Management sees its streaming business breaking even for the full year next year and producing $1 billion in EBITDA in 2025. The company expects the combined HBO Max/Discovery+ product to produce strong subscriber growth. Discovery content is complementary to HBO's and could serve as a driving force behind customer retention.

But keeping marketing expenses down and removing big-name content from the service is not a path to maximizing long-term profits. Subscriber growth will likely remain a challenge as other streaming competitors invest more in content, and consumers are more likely to hop from one service to another. And Warner Bros. Discovery needs a big profit engine to offset the impact of cord-cutting on its television network business.

Warner Bros. Discovery's network segment saw its EBITDA drop $900 million last year as both advertising and distribution dried up. The uncertainty in the advertising market makes management hesitant to forecast any near-term improvement. Long-term cord-cutting will continue to eat into distribution revenue, likely outpacing Warner Bros. Discovery's ability to push through rate increases with distributors.

With management putting its direct-to-consumer streaming business on a path to smaller long-term profits, it could produce very disappointing EBITDA numbers. Investors may be attracted to its valuation, with its EV/EBITDA ratio well below its peers. But growth expectations should remain low.

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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Adam Levy has positions in Amazon.com. The Motley Fool has positions in and recommends Amazon.com and Warner Bros. Discovery. The Motley Fool has a disclosure policy.