Sex sells, although not as well as one might think. So-called sin stocks are frequently touted as defensive plays with big growth potential, but the (at best) lacklustre performance of the industry leaders over the last few years suggests otherwise.
There's not a huge choice of publicly-quoted porn companies. Financial institutions - wary of potentially negative PR - don't exactly flock to the flesh merchants for their business. Playboy is the granddaddy of the bunch, having floated back in 1971.
More recent players include Private Media Group, a Spanish-based company that distributes explicit content through websites, magazines, DVDs and its pay-per-view TV channels; and New Frontier Media, a California-based provider of adult programming. Both companies trade on the Nasdaq, with Private also listed on the German DAX.Beate Uhse, a German sex shop chain, has been trading on the DAX since 1999. Smaller, thinly-traded stocks abound and there has been talk that Vivid Entertainment, one of the adult industry's largest film studios, will seek a Nasdaq initial launch this year.But for now, the aforementioned are the only real investment candidates.A Private Media press release ends with the proud boast that the firm owns the “largest archive of high-quality adult content in the world'‘.The “high-quality'‘ boast may perplex those unaware of the porn world's artistic hierarchy, but it turns out that Private has won many awards at the annual adult video awards - the Oscars of adult entertainment - as well as the prestigious Award du X at the Erotica Trade Fair in Brussels.The company has 35 websites attracting more than 2.5 million visits per month, with 100,000 paying subscribers satisfied by the “high-tech odyssey'‘ on offer. Its TV channels are available to satellite subscribers in Europe, Latin America and the US.The group also operates a number of retail stores and revenues last year amounted to $43 million. Trading at $2.70 on the Nasdaq, Private is valued at $140 million and mutual fund giant Fidelity has a 7 per cent shareholding.Playboy needs little introduction. The infamous magazine remains the centrepiece of Hugh Hefner's empire, although the company also operates its own television networks and an online division.
The proliferation of ‘lads’ mags' such as FHM and Maxim has helped erode Playboy's magazine sales - newsstand purchases declined 36 per cent last year.
While Playboy's TV and online segments performed better, the company's most recent quarter still saw a loss of $13 million. For this year, analysts expect earnings of between 54-59 cent a share, giving it a forward P/E ratio in the 21-23 range. Currently trading at $12.50, Playboy has a market capitalisation of $415 million.
New Frontier Media operates by buying adult movies from other producers and selling access to them through pay-per-view channels and video on demand services. It has distribution deals on most of the major cable networks in the US. It also has the obligatory internet division, which sells content to monthly subscribers. Enjoying revenues of $43 million in 2004, the group is valued at $135 million, or $6.50 per share.Beate Uhse is Europe's largest porn retailer. It opened the world's first sex shop in 1962 and sells erotic lingerie, sex toys and videos through its mail-order catalogue and more than 200 sex shops in 13 countries.It also operates websites, a telephone sex network, a TV channel and the Beate Uhse Erotic Museum, one of Berlin's top tourist attractions. It posted pre-tax profits of €16 million on turnover of €278 million in 2004.For 2005, it expects to increase earnings by about 15 per cent. Trading on the DAX at €7.70, Beate is valued at €360 million.
Whatever one thinks of their products, it's hard to argue there's anything sexy about the companies' stock charts. Beate Uhse enjoyed a euphoric flotation in 1999; since then, its shares have fallen almost 70 per cent. The firm recently announced it would be closing its outlets in Norway due to disappointing turnover. It's New Media turnover - the supposed engine of growth for the adult industry - dropped 25 per cent last year.The company has complained of strong pricing pressures in the erotica business and of the sluggish European economies, which undermines the myths that sex stocks have massive profit margins and immunity from the economic cycle.Private Media's five-year shares chart tells a similar story, with the last few months being particularly ugly. The share price has dropped 40 per cent since last March, when it reported declining video and DVD sales last year.First quarter 2005 results, announced last month, were no better. DVD sales were down over 20 per cent, magazine sales were 14 per cent lower, internet sales decreased by 20 per cent and overall sales plummeted 26 per cent from the same period in 2004.
New Frontier shareholders enjoyed a stratospheric 800 per cent rise in 2003, but last year was flat and shares have slid 40 per cent since a February profits warning. Indeed, with a forward P/E of just 13, no debt and cash holdings of $26 million, the firm may be more attractive to value investors than aggressive growth investors.US brokerage Merriman Curhan Ford, while maintaining a buy rating on the group, recently lowered its revenue estimates for this year, citing “heightened competitive pressures'‘ from Playboy.In its favour is the fact that the share price has shown resilience recently, despite issuing a second profits warning last month. Speculation that all the bad news is already priced into the stock has been further fuelled by a substantial equity holding being built up by a New York hedge fund.Nevertheless, it takes a brave investor to dive into a company that has produced successive profit warnings.
The low P/E may be reassuring, but annual sales are 25 per cent below 2001 levels.As for Playboy, shareholders have seen stability but not growth, with the share price languishing at 2000 levels. The company endured three consecutive loss-making years before eking out a $10 million profit in 2004. At just 4 per cent, 2004 sales growth was scarcely impressive. Playboy faces a fight on two fronts - squeezed by softer material from the lad rags as well as more hardcore material from the other adult TV operators.
The porn companies can point out that the 3G mobile market is an avenue for growth. A recent report by research firm Strategy Analytics said that mobile porn brought in $400 million in 2004 and predicted a $5 billion market by 2010.
The evidence from the Far East certainly suggests large consumer demand, with South Korea's SK Telecom saying in late 2003 that 23 per cent of its traffic over its higher speed mobile network was adult content.Nevertheless, this isn't a one-way bet. Pornographic spam became a big problem in Japan, with phones constantly beeping with unsolicited messages. Download prices are high and tiny screen sizes are hardly designed with the porn consumer in mind.Nitesh Patel, an analyst with Strategy Analytics, has written that “adult services are not a killer application in waiting'‘ and that the surfeit of free porn on the internet will mean that “demand for adult material will continue to be largely made up by fixed internet services'‘. Patel sees porn making up just 5 per cent of mobile content revenues in 2010,with sport, music and media being the main area of consumer interest.
Technological developments (video, satellite TV, internet, broadband) have enabled ease of access to porn.The industry has actually been a driver of entertainment technologies - the massive success of subscription sex sites, for example, was a crucial catalyst for the online payment, verification and encryption software that has enabled online shopping. More significant advances for 3G are still unlikely to be a major catalyst for future growth.And for all the talk of new distribution channels and high margins, the companies' revenues have grown slowly, if at all. Online divisions are plagued by poor customer retention rates (most subscribers to online sex sites cancel after a month), attesting to customer dissatisfaction or to sated curiosity. Whatever the reason, such churn does not augur well for future growth rates.Increased openness regarding matters sexual, paradoxically, may actually be hurting the porn industry. Competition is fierce, as Boots has started stocking vibrators and other sex toys, and Debenhams is considering doing likewise. The Ann Summers chain has mushroomed from just five stores in 1997 to 122 outlets today.
Doing a Google on sex produces more than 200 million pages; doing the same for porn produces another 46 million pages. An estimated 2,500 sex sites are added to the internet every week.The old stigmas that surrounded adult content meant operators had little competition. Nowadays, barriers to entry into the industry are extremely low (the joke goes that the only barriers are a sense of embarrassment and the absence of a good lawyer), driving margins down.If Vivid Entertainment does float this year, investors will invariably be bombarded with sensationalist hype regarding the profitability of the porn industry. Such hype greeted the 2003 IPO of an Australian brothel, the Daily Planet, with journalists gushing that here was a recession-proof industry with huge growth potential.The company didn't play down expectations, talking of plans for a “sex Disneyland'‘ with operations around the world.
Ex-Hollywood madam Heidi Fleiss was hired as a consultant by the firm, drumming up publicity galore in the process. “Obviously the price is going up,” she predicted.
“Everyone knows sex is a good investment.” The price went up alright, doubling on day one. From there, however, it was all downhill.The company changed its name last year (it's now Planet Platinum) and put the brothel up for sale - bigger money, apparently, could be made from classy strip joints. The share price currently languishes at fresh lows, or 80 per cent off its peak. The market values the group at just A$4.3 million (€2.7 million) - a far cry from chief executive Andrew Harris's A$500 million target.It's the same story with Beate Uhse in 1999 (the offering price tripled within the first few days). Immediately prior to the bursting of the dotcom bubble, even the relatively sober Business Week was gasping that Beate offered “as close as it gets to a pure play on porn'‘ and was a “rare vehicle to invest in the booming demand for sex aids and erotica'‘.
Moral questions aside, capitalising on the growing sexualisation of the globe makes for an intriguing investment premise. The mundane reality, however, is that evidence of an unstoppable growth trend is not supported by a cursory glance at the balance sheets of the major players.
As for the defensive argument, certain products (soap, toothpaste, drugs) sell in any economic environment. They are necessities. Porno magazines and sex DVDs aren't.
Daring investors looking for the next big thing may, alas, have to look to more conventional sectors.
