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THE STAHL REPORT

January 21, 2011

Viacom Inc.
(BUY) Price: 52-Week Range: Shares Outstanding: Market Capitalization: $42.04 $27.89-$42.63 604.5m $25,724m Ticker: Dividend: Yield: VIA-B $0.60 1.4%

Data as of 1/21/2011 The market capitalization is comprised of 51.972m class A shares outstanding at a price of $47.98, and 552.6m class B shares outstanding at a price of $42.04. Valuations within the text are based on a class B share price of $42.25.

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Horizon Research Group


Murray Stahl Thrse Byars Michael Gallant Eric Sites Steven Bregman Peter Doyle David Leibowitz Steven Tuen Derek Devens Matthew Houk Fredrik Tjernstrom

This report is based on information available to the public; no representation is made with regard to its accuracy or completeness. This document is neither an offer nor a solicitation to buy or sell securities. All expressions of opinion reflect judgment at this date and are subject to change. Horizon Research Group and others associated with it may have positions in securities of companies mentioned. Reproduction of this report is strictly prohibited. Horizon Asset Management, Inc. 2011.

THE STAHL REPORT

Investment Thesis Viacom is an asset-rich media company. In its second iteration as a publicly-traded company, after having been originally spun off from CBS in 1971, the current business is comprised of cable network channels and a filmed entertainment production company. Historically, the large conglomerate-focused media companies have engaged in a variety of corporate transactions, such as spin-offs, tracking stocks, and acquisitions, in an effort to isolate or maximize the value of certain assets that had been amassed through years of what many would consider empire building. Perhaps the most noteworthy financial engineer of this industry has been John Malone of Liberty Media, who has performed some of the more complex, yet possibly value-enhancing transactions on record. Viacom, of course, is controlled by Sumner Redstone, who at the age of 86 has undertaken his fair share of transactions as well, the most recent being the separation of Viacom from CBS in 2005. The motive was to create a separately traded company (again) whose stable network channels could be distinguished from the more challenged industries of radio broadcasting, outdoor advertising, and print publication. In the transaction sense, the objective was achieved, but the valuation benefits for Viacom shareholders have not yet been fully realized. The companys cable network channels such as MTV, Nickelodeon, and Comedy Central are assets with a wide viewer base, stable cash flows, and high operating margins. While much attention from the financial media has been placed on the strenuous relationship between the content and distribution companies, the content companies appear, by and large, to have the advantage in these negotiations. For instance, these so-called affiliate fees paid to Viacom by the cable and satellite providers have increased without interruption at a rate of 12.3% per annum since 2003. While the advantage over cable providers can be demonstrated, an even more favorable development for media content companies is transpiring at a rapid pace. That is, content is becoming increasingly available via the internet on mobile devices such as smart phones, or on tablet computers such as the Apple iPad. It is reasonable to believe that the cost of distributing this content through mobile platforms is far less than through cable systems, the latter being a demonstrably capital intensive business. In this way, Viacom could be in a position to negotiate more favorable distribution contracts with mobile or internet providers for its content, and in effect begin to bypass the cable companies, which retain a large part of the revenue derived from the content assets to fund their own infrastructure maintenance. Thus, by way of technological advancement, Viacom appears to have margin expansion opportunities for many years into the future. The problematic asset of Viacom is its Paramount filmed entertainment division. Movie production is an inherently volatile business, as the cost of production can be enormous, and the success rate, as measured by box office revenues, is entirely unpredictable.
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Compounding this fundamental deficiency is the very low operating margin of Paramount, even in years when it produces successful films. For instance, prior to 2009, the EBIT margin of this business was 1.5% - 3%. Following restructuring efforts of the last few years, the more recent operating margin was 4.9%. However, this still compares quite unfavorably to the margins realized by the filmed entertainment businesses of other media companies such as News Corp. or Time Warner, which manifest 7%-18% operating profitability. While Paramount is actively engaging other studios in distribution alliances to reduce some of the inherent volatility, and also taking measures to eliminate operating costs, the investment community still views this asset with skepticism. In fact, as described below, it is assigned no value in the current Viacom share price. An appropriate way to value Viacom is to isolate its network and film franchises. The cable networks will likely generate $8.4 billion of revenues in the 2011 fiscal year (ending September 30th). By applying the average 4x enterprise value-to-sales multiple of other pure network companies such as Scripps Interactive and Discovery Communications, one arrives at a $33.4 billion value for Viacom Networks. The subtraction of $6 billion of net debt and minority interests results in a net asset value of $45.32 per share. The current Viacom class B share price is $42.25 1, suggesting that one can currently acquire the Paramount assets, which generate nearly $6 billion of annual revenue, at no cost. However, Paramount is almost certainly not worthless. Irrespective of future film productions, its valuable film library continues to generate DVD and licensing revenue with virtually no associated cost to the company. Paramount actually acquired the live-action film studio DreamWorks LLC (not to be confused with DreamWorks Animation that is publicly-traded) in 2006. It paid $1.53 billion for this business, which produced about $1.36 billion of revenues, suggesting a revenue multiple of slightly over 1x. DreamWorks Animation, although a qualitatively different film studio, currently trades at 2.7x revenues. Despite a lack of comparative valuations, one might reasonably apply a 1x multiple to the Paramount revenues. This would create a $5.8 billion value, and raise the net asset value of Viacom to $54.92 per share, which is a 30% premium to the current share price. Such a valuation for Paramount is further supported later in this report by a simulated leveraged buyout scenario. Therefore, while given little consideration at the moment, Paramount represents a free call option that should have some future value.

The Class B shares carry no voting rights, while the Class A shares, which trade at $48.34, are entitled to voting privileges. Despite the voting premium, the Class A shares are majority-owned by Sumner Redstone, such that one who desires voting rights, and further is willing to pay a premium for this perceived benefit, would ultimately be disappointed, as the 79.9% voting control held by Mr. Redstone would negate any minority voting position gained through Class A share purchase.
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Knowing that media companies can trade at discounts to NAV for considerable periods of time, it is important to understand the current opportunity cost situation. Based on the 2011 consensus earnings estimate of $3.32 per share, Viacom trades at a 12.7x multiple. Using this estimate, the company will likely produce, after the payment of dividends, $1.8 billion of free cash flow. This represents a 7% free cash flow yield relative to the $26 billion market capitalization. Including the 1.4% dividend yield, one would earn an 8.4% after-tax economic yield during the holding period that may be required to unlock the companys embedded asset value. This rate of return would expand if the Viacom cable assets continue to grow even at the present rate. Additionally, if permitted to do so, the application of a modest amount of leverage to this position, even 20% (i.e. 1.2x leveraged), would create a double digit annual yield. Given the degree to which the companys assets appear to be undervalued, and a sufficiently attractive after-tax yield to compensate one for the holding period risk, the shares are recommended for purchase.

Company Description History Viacom was officially formed as a public company in 1971 following its first spin-off from CBS. The companys initial quest to acquire media properties began with the purchase of a 66% interest in MTV Networks in 1985. In the following year, Viacom acquired the remaining 44% of MTV Networks for merely $185,000, as the youth-oriented cable channel was still in the experimental stage at that point. Only five years later, in an effort to expand internationally, a 50% interest in MTV Europe was purchased by Viacom for $65 million. Importantly, it was during this early period of the companys history that Sumner Redstone acquired majority control through his National Amusements, Inc. vehicle. National Amusements is one of the larger operators of movie theaters in the U.S. and Europe, and acquired an 83% interest in Viacom in 1987. While enjoying the success achieved with its rapidly-growing MTV franchise, Viacom undertook a merger with Paramount Communications in 1994, in a transaction that valued the combined company at $9.9 billion. Now an established media company with considerable product distribution scale, Viacom continued to build upon its properties over the course of the next five years. Then, at the height of the Technology Boom in 2000, it merged with its former parent CBS. Several smaller network acquisitions followed, such as the purchase of BET Holdings in 2001, Noggin in 2002, and the remaining 50% interest in Comedy Central in 2003. The motive of this remarriage of assets was to utilize the considerable distribution capabilities of CBS to promote and advertise the network and filmed entertainment
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products of Viacom. CBS owns various distribution outlets, such as television and radio broadcasting channels, outdoor advertising assets, and print media publisher Simon & Schuster. However, many of the CBS assets have been under considerable pressure since the merger. The rise of the internet as a media distribution channel has disrupted the businesses of traditional media companies, which mostly rely on advertising revenue. A redistribution of advertising revenue from the print or radio industries to the internet presents a serious challenge for a company such as CBS. Thus, merely five years after the Viacom/CBS merger, Viacom was again separated via a spin-off in 2005. Using MTV and Nickelodeon as the foundation of its cable network franchise, this time around Viacom appears to be placing some focus on its filmed entertainment business. Paramount acquired DreamWorks LLC (leaving DreamWorks Animation as a separate publicly-traded company) in 2006. This brought the talent of famed movie director Steven Spielberg to the Paramount franchise, who is contracted to produce a certain number of movie titles per year. Then, in 2008, Paramount formed a joint venture with Lionsgate and MGM known as EPIX to distribute each respective studios movie titles via both a cable premium pay channel and the internet (in downloadable format). This coincides with Paramounts previous distribution arrangements with Marvel and DreamWorks, which require Paramount to fund the distribution and marketing costs of certain titles in exchange for a revenue share agreement with the original production studio. These attempts to partner with rival movie studios appear to be a cooperative effort by the industry to share in the production and marketing costs of Hollywood films, and are clearly designed to reduce the volatile earnings of this business. Business Segments The Viacom Media Networks segment comprises the companys primary cable network channels. MTV Networks reaches over 635 million households worldwide through 170 different channels. The more notable channels include MTV, MTV2, VH1, CMT, Nickelodeon, Nick at Nite, Nick Jr., Nicktoons, Comedy Central, Spike TV, and TV Land. The companys BET Networks owns channels such as BET, CENTRIC, and BET International. While these programming channels are known to most U.S. media consumers, it is important to understand the global reach that Viacom has achieved through its international expansion strategy. In fact, the companys network programs generally reach more international viewers than in the U.S. The table below demonstrates the degree to which Viacom has established its programming with the international audience. Importantly, though, it will be noted that the U.S. market still dominates the companys revenue base, as 72% of overall 2009 sales were generated domestically. This is not necessarily an accurate expression of the companys international reach; rather, it is more likely evidence, given the wide international distribution reach, that revenue opportunities have not yet been fully realized in many international or emerging markets.

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Table 1: U.S. vs. International Household Viewers


Cable Networks Subscribers (as of 9/30/10) MTV U.S. International Total Nickelodeon U.S. International Total
(in millions)

99.4 497.5 596.9

VH1 U.S. International Total Comedy Central U.S. International Total

99.0 85.6 184.6

100.5 245.2 345.7

98.9 71.0 169.9

Network revenues are generated from three main sources: advertising, affiliate fees, and ancillary. During the shortened 2010 fiscal year 2, advertising represented 54% of total Network sales, affiliate fees 39%, and ancillary 7%, respectively. As one would expect, advertising revenues are cyclical. On the other hand, the affiliate fees paid by cable operators to distribute the Viacom programming have historically been remarkably stable. This will be discussed in the subsequent section. The Filmed Entertainment segment produces motion pictures under the Paramount Pictures, Paramount Vantage, Paramount Classics, MTV Films, and Nickelodeon Movies brands. Viacom also has agreements in place to distribute and market certain titles from other production companies such as DreamWorks Animation and Marvel. Such arrangements entail the absorption of distribution and marketing costs by Viacom in return for a percentage of the movie titles overall revenue. On average, Paramount releases 14-16 films per year, including those distributed on behalf of DreamWorks Animation and Marvel. Noteworthy releases during 2010 included Iron Man 2, Shrek Forever After, Megamind, and The Last Airbender. In addition, the Paramount library of past films is extensive. Titles include Titanic, Forrest Gump, The Ten Commandments, Breakfast at Tiffanys, Indiana Jones, and The Godfather. These assets continue to provide revenues well past their actual release date in the form of home

Viacom changed its fiscal year-end to September 30, effective September 30, 2010. Thus, the 2010 fiscal year represents the January September 2010 nine-month period, while the 2011 fiscal year will reflect the October 1st September 30th full 12-month period.
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entertainment (DVD rental) and licensing (consumer products and TV licensing rights) revenues. In the 2010 fiscal year, the Filmed Entertainment segment produced revenues from the following sources: theatrical release (38%), home entertainment (28%), licensing (28%), and ancillary (6%). While theatrical release revenues provide initial insight as to the success of a movie title, it is evident that well over half of a titles revenues are generated after release in a theater. For example, home entertainment (DVD rental) and licensing revenues (distribution by cable, satellite, internet, television, etc.) are recorded after theatrical release. This recurring revenue stream is the most profitable component of film production, since the substantial advertising and distribution costs are expensed as incurred, thereby causing most films to be unprofitable directly after release. However, if viewed over the life of a film title, the recognition of revenues in the fullness of time provides a more accurate representation of profitability.

A Profitability Comparison of Network Programming Versus Film Production Media Networks In 2009, Media Networks generated 59% of the total Viacom revenues, and 93% of total operating income. Over the last five years, the companys experience has been roughly similar, demonstrating that the cable program channels are the primary component of the corporate earnings as a whole. On average, the EBIT margin of this business since 2003 has been in a consistent range of 37%-40%, as depicted below. Table 2: Viacom Media Networks EBIT Margin, 2003-2009
Operating Margin 40.2% 39.6% 37.6% 40.1% 38.6% 39.4% 40.4%

Year 2009 2008 2007 2006 2005 2004 2003

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As noted, the cable networks are dependent on advertising, and fees paid by cable or satellite providers for distribution to consumers. Since 2003, these affiliate fees have increased at a rate of 12.3% per annum without interruption. This has been a very stable source of revenue for the company. As an owner of the content, it appears that Viacom, which has other distribution options, has considerable bargaining power over the incumbent cable providers. This allows the company to increase content fees at a double digit rate annually. This could be an advantage that widens over time as well. The introduction of wireless devices capable of streaming video content presents not only a challenge for cable companies, but an opportunity for Viacom to retain more of its content revenues. Historically, cable operators were able to demand a fairly large percentage of these sales as a way to build and maintain more expansive network infrastructure. The rise of satellite television providers began to end this near monopoly. Now, wireless and internet providers, which typically have lower capital expenditure requirements, can distribute media programming via their networks. While at a very early stage, it might be asserted that Viacom could negotiate more favorable distribution terms with these providers in an effort to expand its margins. In any case, affiliate fees are expanding at a consistent rate. There is, however, some expected variability in advertising revenues, which are cyclical, but not severely so. Despite the magnitude of the 2008-2009 recession, advertising sales fell by only 6.7% during this period. Taken as a whole, cable programming proved to be fairly resistant to recession. Table 3: Media Network Revenues by Source
Year 2009 2008 2007 2006 2005 2004 2003
(in millions)

Affiliate $2,901 $2,620 $2,339 $2,050 $1,825 $1,640 $1,448

Advertising $4,405 $4,722 $4,690 $4,346 $4,035 $3,410 $2,819

The profitability of Viacoms networks might be compared to the operating margins of other media companies. While it is a competitive business, there tend to exist dominant channels or franchises for each audience market segment. There are a number of program providers such as Walt Disney, Time Warner, and Scripps Interactive, all of which have developed networks for defined audiences. Once established, the capital requirements are
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low, and these franchises have historically been vehicles for stable free cash flow. In the table below, the range of historical EBIT margins is roughly 25%-40%, suggesting that Viacom is operating at near maximum profitability. Table 4: Cable Network Industry Profitability (EBIT) Comparison

Filmed Entertainment In the qualitative sense, the variability associated with movie production is self evident. It is simply very difficult to anticipate the consumer response to a theatrical release with any degree of precision. There is, however, a countervailing factor that provides a limited degree of stability, this in the form of a studios film library. Given the extensive nature of most studios film libraries, past releases will generate revenues well into the future. This ultimately serves to mitigate the near-term volatility, which is mostly created by the accounting policies required of media companies. While some production costs can be amortized over the expected life of a movie title, advertising and distribution costs are matched to the timing of initial revenue recognition, or at theatrical release. Thus, a loss is often recorded upon release, only to be recovered in future months or years. In this way, a film library can be a quite valuable asset, and one that produces a high level of free cash flow given these accounting policies. Paramount, though, appears to suffer from company-specific deficiencies, mostly related to an inefficient cost structure, which is being addressed through a restructuring program. Since 2003, the operating margin of this segment has declined from 7.2% to a low of 1.7%, although most recently recovering to 4.5%. Paramount offers very little in the way of earnings to Viacom despite contributing 36% of total company revenues.

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Table 5: Viacom Filmed Entertainment EBIT Margin, 2003-2009


Operating Margin 4.5% 1.7% 1.9% 3.1% 2.1% 6.1% 7.2%

Year 2009 2008 2007 2006 2005 2004 2003

This can be measured against the profitability of other notable studio production firms. As with cable programming, the majority of studios are owned by the larger media companies. Direct comparisons to Paramount would be the filmed entertainment businesses of News Corp., Time Warner, or perhaps Walt Disney. Live-action films generally produce lower margins than do animated films, since animation is computer-generated, and requires little of the operating and production costs of live-action features. For instance, before being acquired by Walt Disney, Pixar produced a 53% after-tax net margin. Moreover, as shown below, DreamWorks Animation has in the past been capable of realizing a 37.9% operating margin. The average for live-action studios appears to be in the range of 7%18%. Given that there is very little difference between Paramount and say, for example, the studio of News Corp., there is certainly margin expansion potential from the current level of 4.5%. Table 6: Filmed Entertainment Industry Profitability (EBIT) Comparison

Summary Comment As a concluding remark, the diverse level of profitability inherent to different forms of media is evident in the overall margins of the following conglomerated media companies. Very high margin businesses, such as cable network programming, are being masked by assets or operations that may be in a state of decline, or that manifest earnings variability. The consequence of operating this semi-related set of businesses is ultimately a lower
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profit margin than could be achieved within a simplified or disaggregated corporate structure. Interestingly, though, rather than placing value on each individual asset segment, investors are simply assigning a multiple to the aggregated earnings, which inevitably creates a discount-to-NAV situation. Perhaps this could provide a ripe area for future spin-offs if the undervaluation persists. Table 7: Total Company EBIT Comparison
Discovery Scripps DreamWorks Animation Viacom Walt Disney Time Warner News Corp
(Most recently completed fiscal year)

35.1% 33.6% 26.6% 23.0% 17.7% 17.6% 12.1%

Valuation Share Class Structure As of October 31, 2010 there were 52 million Class A voting shares outstanding. At a price of $48.34, these shares trade at a 14% premium to the non-voting Class B shares, of which there are 553 million outstanding. Clearly the more liquid of the two classes, the following valuation discussion will be based on the Class B share price, which is currently $42.25. Incidentally, the notion of any incremental value attached to the voting rights in this situation is illusory. As a 79.9% owner of the Class A shares via his National Amusement, Inc. vehicle, Sumner Redstone remains the controlling shareholder of Viacom. The purchase of a Class A share would technically provide one with voting rights; however, the premium does not appear to justify the inevitable conclusion, which is that Mr. Redstone maintains overwhelming majority voting power. A Basic P/E Comparison Viacom currently trades at 12.7x the 2011 consensus earnings estimate of $3.32 per share. The short public history dating back to only 2005 prevents one from making any meaningful or insightful historical comparisons. However, it may be noted that the companys p/e ratio has contracted virtually every year since, beginning from a 24x multiple in 2005.

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By comparison, News Corp. and Time Warner trade at forward p/e ratios of 12.7x and 12.5x, respectively. Disney actually trades at a substantial premium, or at 16.1x forward earnings, primarily because of the superior quality of its assets, and an expected cyclical recovery in the companys theme park business. Another interesting comparison might be made to Scripps Interactive or Discovery Communications. The p/e ratios here are 18x and 16x. The premium is obviously due to a lack of exposure to old media assets such print publications, and a focus on cable programming properties. Given this set of comparable companies, Viacom trades within the 12x-13x p/e range that has been established for the diversified media companies. The Consequence of a Low Valuation Assuming for the moment that Viacom trades at a price that is representative of the value of its underlying assets, let us consider a basic return scenario, given the current 12.7x p/e ratio. Using the consensus earnings forecast of $3.32 per share in 2011, Viacom would produce $2.007 billion of net income. The companys non-cash depreciation and amortization expense of $296 million exceeds run-rate capital expenditures of $140 million, such that free cash flow would be $2.163 billion. Thus, the conversion rate of earnings to free cash flow is well over 100%, reflecting the low reinvestment requirements of its media business. Viacom recently instituted a $0.60 per share annual dividend, which amounts to $363 million per annum. Subtracting this from the cash earnings figure calculated above results in net free cash flow of $1.8 billion. In relation to the $26 billion market capitalization, the shares currently trade at 14.4x free cash flow, the inverse of which is a 7% yield. The latter, added to the 1.4% dividend yield, provides an initial 8.4% after-tax yield. Viacom is currently amid a fairly substantial share repurchase program that was temporarily halted during the Credit Crisis. In fact, the company has been an aggressive acquirer of its shares by repurchasing roughly 15.5% of the total outstanding since 2006. In addition to share repurchases, Viacom could also use its substantial free cash flow to retire debt, of which there is $5.9 billion (net of cash) outstanding. It is noted that Viacom has no tangible equity, due to $11.5 billion of goodwill relative to $9.3 billion of stated shareholders equity. Nevertheless, Viacom does not appear to be a dangerously leveraged company, in that current interest coverage is 6.9x, and was 5.3x during the depths of the Credit Crisis in 2008. Whether through share repurchases or debt retirement, the earnings accretive nature of either provides one with the prospect of a return of over 8%, assuming the p/e ratio remains constant. Since it is likely that the Viacom earnings will grow, if even considering the 13% consensus estimated growth rate into 2012, the going-in expectation might be a return of over 10% per annum. The optionality beyond this base case is described below.

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Sum of the Parts Approach The cable network assets are of great strategic importance to Viacom. Their value might be compared to the current trading price of Discovery Communications or Scripps Interactive. Discovery Communications owns the flagship Discovery Channel, as well as Animal Planet, TLC, and the Science Channel. Scripps is the operator of The Food Network, HGTV, and the recently-acquired Travel Channel. On an enterprise value-torevenue basis, the multiples are 4.5x and 4.2x, respectively. One might also refer to the transaction price of the Travel Channel acquisition completed in November 2009. It appears that Scripps paid roughly 3.9x one year-forward revenues, based on a $975 million total transaction value. On a somewhat conservative basis, then, the revenues of the Viacom cable assets might be valued at a 4x multiple. The comparable valuations are presented below. Merely for illustrative purposes, the current valuations of the media conglomerates are also provided, in an effort to demonstrate the premium at which the pure cable programming companies trade. Table 8: Comparable Media Company Valuations
2011 Est. EV/Sales 4.5x 4.2x 2.7x 2.2x 2.1x 1.8x 1.3x

Discovery Communications (1) Scripps Network Interactive DreamWorks Animation Viacom Walt Disney Time Warner News Corp (2)

P/E 16.0x 18.0x 13.7x 12.7x 16.1x 12.5x 12.7x

(1) The company's non-voting Class C shares are used to calculate the P/E ratio; market capitalization is calculated on a fully diluted basis consisting of the Class A, B, & C common shares along with the preferred shares attached to each class. (2) The company's non-voting Class A shares are used to calculate the P/E ratio

The 2011 consensus revenue estimate for Viacom is $14.16 billion. The Media Networks segment produced 59.1% of the total company revenues in 2009, such that one might reasonably apply this same attribution level to the consensus estimate. This would result in $8.354 billion of cable network revenues in 2011, which is 5.4% higher than the $7.9 billion actually recorded in 2009. At a 4x multiple, these assets would be worth $33.416 billion. As to the Filmed Entertainment segment, it generated 40.9% of the total Viacom revenues in 2009. Again, based on the current year consensus estimate of $14.16 billion, the 2011
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revenues of this business might be $5.806 billion. The only publicly traded company to which Paramount might be compared is DreamWorks Animation. However, DreamWorks produces a superior operating margin due to the cost advantage of its animated films. It might logically trade at a premium to any value calculated for Paramount. Lions Gate is also a publicly traded movie studio; however, its valuation currently reflects the lack of commercially-successful titles in its production pipeline, as well as the failed efforts of Carl Icahn to gain control and restructure the company. One might recall the acquisition of the live-action studio DreamWorks LLC by Paramount in 2006. Based on the consolidation of its financial results in the Viacom income statement, it appears that DreamWorks LLC generated about $1.36 billion of annual revenues. This implies a 1.1x multiple in relation to the $1.53 billion net purchase price. Separately, even though it should not be used in the current analysis, given the dramatically different features of both studios, Pixar was acquired by Disney for over 22x revenues. This is merely stated to provide the reader with a contextual basis for the somewhat arbitrary Paramount valuation exercise. Let us assume that Paramount is worth 1x current year revenues. This would require the buyer to pay $5.806 billion for this franchise. Let us further assume that one could orchestrate a highly leveraged structure, such that the equity contribution would be 10%. Such transactions are certainly not without precedent, even in the current environment. If the $5.225 billion debt portion were financed at 8%, the annual interest expense would be $418 million. In a restructuring scenario, the Paramount EBIT margin could well be in the 10% range, given the 7%-18% profitability of both the News Corp and Time Warner film businesses. Given $5.806 billion of revenues, and $581 million of EBIT ($5.806b x 10%), the pre-tax income would be $163 million ($581m - $418m). At a 35% tax rate, net income would be $106 million, which results in an 18.2% first-year return on the $581 million initial equity investment. While a number of different scenarios are plausible, this is provided merely as supporting evidence to the validity of employing a 1x multiple to the Paramount revenues. Under certain conditions, depending on ones return on investment requirement, Paramount could be worth even more. Nevertheless, if the foregoing analysis is accepted, the following table presents the discount at which Viacom trades to its NAV. As noted previously, the shares reflect only the likely value of the cable assets, with the Paramount franchise currently discounted to little or no value whatsoever.

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Table 9: Viacom Sum-of-the-Parts Analysis


Media Networks 2011E Revenues Peer Multiple Est. Value Filmed Entertainment 2011E Revenues Peer Multiple Est. Value Total Sum-of-Parts Value Less: Net Debt Less: Non-controlling interests Net Asset Value Shares Outstanding Net Asset Value per share Current Class B Share Price Discount to NAV Appreciation to NAV $ $ $ $ $ $ $ $ 8,354 4x 33,416 5,806 1x 5,806 39,222 5,915 107 33,200 604.5 $54.92 $42.25 -23.1% 30.0%

Investment Summary Viacom operates two media businesses with distinctly different margin characteristics. Its cable media programming assets are highly profitable and have provided a consistent source of cash flow to the company for several years. However, the filmed entertainment business that is operated under the Paramount umbrella has historically been a problematic asset due to the inherent variability of its results. Given the negative sentiment towards Paramount, the Viacom shares currently trade at a discount of over 20% to a reasonably estimated net asset value. If one is intrigued at the possibility of buying the Viacom assets at less than fair value, and is equipped with the patience required to hold these shares during the potential value realization period, the investor could be rewarded in the interim with an after-tax economic yield (free cash flow yield + dividend) of 8% or more per annum. Accordingly, the shares are recommended for purchase.

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VIACOM INC. CONSOLIDATED STATEMENTS OF EARNINGS Year Ended December 31, (in millions, except per share amounts) Revenues Expenses: Operating Selling, general and administrative Depreciation and amortization Total expenses Operating income Interest expense, net Equity in net losses of investee companies Loss on extinguishment of debt Other items, net Earnings from continuing operations before provision for income taxes Provision for income taxes Net earnings from continuing operations Discontinued operations, net of tax Net earnings (Viacom and noncontrolling interests) Net losses (earnings) attributable to noncontrolling interests Net earnings attributable to Viacom Amounts attributable to Viacom: Net earnings from continuing operations Discontinued operations, net of tax Net earnings attributable to Viacom $ Nine Months Ended September 30, 2010 9,337 4,883 2,025 222 7,130 2,207 (320) (67) (8) $ 2009 13,257 7,191 2,642 379 10,212 3,045 (430) (77) (84) (37) $ 2008 13,947 8,167 2,824 394 11,385 2,562 (482) (74) (112)

1,812 (627) 1,185 (321) 864

2,417 (762) 1,655 (67) 1,588

1,894 (620) 1,274 (6) 1,268

(10) $ 854 $

23 1,611 $

(17) 1,251

1,175

1,678

1,257

(321)

(67)

(6)

854
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1,611

1,251

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Basic earnings per share attributable to Viacom: Continuing operations Discontinued operations Net earnings Diluted earnings per share attributable to Viacom: Continuing operations Discontinued operations Net earnings Weighted average number of common shares outstanding: Basic Diluted Dividends declared per share of Class A and Class B common stock

$ $ $

1.93 (0.53) 1.40

$ $ $

2.76 (0.11) 2.65

$ $ $

2.01 (0.01) 2.00

$ $ $

1.92 (0.52) 1.40

$ $ $

2.76 (0.11) 2.65

$ $ $

2.01 (0.01) 2.00

608.0 610.7

607.1 608.3

624.7 625.4

0.30

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Horizon Asset Management, Inc. 2011

THE STAHL REPORT

VIACOM INC. CONSOLIDATED BALANCE SHEETS September 30, 2010 December 31, 2009

(in millions, except par value) ASSETS Current assets: Cash and cash equivalents Receivables, net Inventory, net Deferred tax assets, net Prepaid and other assets Assets held for sale Total current assets Property and equipment, net Inventory, net Goodwill Intangibles, net Deferred tax assets, net Other assets Assets held for sale Total assets LIABILITIES AND EQUITY Current liabilities: Accounts payable Accrued expenses Participants share and residuals Program rights obligations Deferred revenue Current portion of debt Other liabilities Liabilities held for sale Total current liabilities Noncurrent portion of debt Participants' share and residuals Program rights obligations Deferred tax liabilities, net Other liabilities Liabilities held for sale Redeemable noncontrolling interest Commitments and contingencies (Note 14) Viacom stockholders equity: Class A Common stock, par value $0.001, 375.0 authorized; 52.0 and 52.4 outstanding, respectively Class B Common stock, par value $0.001, 5,000.0 authorized; 556.5 and 555.0 outstanding,
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Horizon Asset Management, Inc. 2011

837 2,417 861 77 281 76 4,549 1,102 4,145 11,035 467 156 568 74 22,096

298 2,876 767 108 244 137 4,430 1,175 3,731 11,107 554 589 314 21,900

210 1,000 1,059 390 256 31 435 117 3,498 6,721 453 691 1,343 131

247 1,148 1,063 404 286 123 394 86 3,751 6,650 739 523 84 1,303 5 168

THE STAHL REPORT

respectively Additional paid-in capital Treasury stock, 151.5 common shares held in treasury Retained earnings Accumulated other comprehensive income (loss) Total Viacom stockholders equity Noncontrolling interests Total equity Total liabilities and equity

8,346 (5,725) 6,775 (114) 9,283 (24) 9,259 22,096

8,287 (5,725) 6,106 35 8,704 (27) 8,677 21,900

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Horizon Asset Management, Inc. 2011