JPMorgan Downgades Arbitron

Good 2009 Earnings Story; However, Changing Competitive Landscape Elevates Risk; Downgrading to Neutral
Radio broadcasters Cumulus and Clear Channel announced that after a formal RFP process for small market radio ratings they would sign a contract covering 50 markets (CCU will use the service in 17) for a new service from Nielsen rather than renew with Arbitron. Management noted the resulting impact to revenue would be $7m in 2009 and $10m annualized. If all customers in those 50 markets signed with Nielsen as well, the annual impact would rise to $11.5m.

• ARB to remain in impacted markets; hit to profits. The company plans to continue providing ratings on the 50 affected markets to win back its customers. As a result, however, the lost revenue should have a disproportionate effect on profitability, essentially going straight to the bottom line.

• PPM contracts unaffected, though ARB is still in diary negotiations with top client Clear Channel; further risk to defections. Cumulus' and Clear Channel's PPM contracts are not impacted by this decision; however, Arbitron is currently in diary negotiations with Clear Channel for a "significant" number of diary markets. CCU represented 19% of Arbitron's revenue in 2007. We see a risk that CCU and others could sign on with Nielsen in additional markets.

• Reducing estimates. We are adjusting estimates based on management's guidance above. Our 2009 EPS reduces to $1.58 from $1.73 off 8.5% revenue growth with ~160bps of EBIT margin expansion. We note that guidance assumes no further loss of business, thus we see downside risk from other defections at this point. Worst case scenario would imply risk to all small market ratings, which is about 20% of Arbitron's revenues.

• Downgrading to Neutral. While we believe yesterday's negative surprise to be priced in with shares off 10% on a negative earnings impact of ~9%, we are reducing our rating to Neutral given elevated risks associated with a new competitive dynamic in the market and an overhang as long as CCU's diary ratings contract is unresolved. We still believe this is a strong earnings growth story for 2009 (which is increasingly rare within our media universe); however, new risks will likely limit upside in the intermediate term, pushing us to the sidelines. We look for more clarity on Nielsen's intentions, CCU's contract, and ongoing PPM litigation before becoming more aggressive on shares.