Despite recent broad declines, the capital markets continue to embed substantial long-term growth expectations in the valuations of the major media conglomerates (Exhibit 1). Indeed, for large media groups, between 55 and 75 percent of their valuations at the end of June could be attributed to growth anticipated from activities that are not reflected in their current business or in analysts' expectations. This compares to 47 percent on average for the S&P 500.

One explanation for current valuations is that although the media industry is enduring a down cycle, the sector has historically created considerable value for shareholders. Encouraging signs like the strong Hollywood summer box office and the growth of broadband Internet access suggest continued potential for the industry. And even though the advertising market is in its worst recession since the 1930s, many investors are familiar with the rapid upside that well-positioned media companies can experience when advertising rebounds.

Nevertheless, the near- and midterm challenges of performing at a level necessary to rationalize current valuations are significant. For example, one familiar media company with earnings per share (EPS) projected to grow to about...