Professional Documents
Culture Documents
com Ross Sandler (Analyst) (212) 428-6227; ross.sandler@rbccm.com Ryan Vineyard (Analyst) (212) 428-6489; ryan.vineyard@rbccm.com Sun-Il (Sean) Kim (Associate) (212) 428-2363; sean.kim@rbccm.com Andre Sequin (Associate) (212) 618-7688; andre.sequin@rbccm.com Whitney Goldstein (Associate) (212) 428-6412; whitney.goldstein@rbccm.com
INDUSTRY | COMMENT
APRIL 7, 2011
Companies Previewed: The Walt Disney Company (NYSE: DIS; $42.27, Outperform, Average Risk) Discovery Communications Inc. (NASDAQ: DISCA; $40.33, Outperform, Average Risk) News Corporation (NASDAQ: NWSA; $17.56, Outperform, Average Risk Scripps Networks Interactive, Inc. (NYSE: SNI; $51.02, Outperform, Average Risk) Time Warner Inc. (NYSE: TWX; $36.24, Outperform, Average Risk) Viacom Inc. (NYSE: VIA.B; $47.36, Outperform, Average Risk) Interpublic Group of Companies (NYSE: IPG; $12.41, Outperform, Above Average Risk) MDC Partners Inc. (NASDAQ: MDCA; $16.95, Outperform, Speculative Risk) Omnicom Group Inc. (NYSE: OMC; $48.76; Outperform, Speculative Risk)
April 7, 2011
Table of Contents
Key Industry Investment Themes .......................................................................................................................................................... 3 Broader Media/Advertising Agency Industry Update and Channel Checks ...................................................................................... 5 The Modern Franchise Procedural and How It Changed Syndication (And the Economics of TV).......................................................... 6 Broadcast Network Content Cost Structure Differs from Cable Network Content Cost Structure Due to Both Total Cost per Hour and Total Hours of Original Content Run ....................................................................................................................................... 10 How Original Content Is Priced ............................................................................................................................................................... 16 Each of the Major Media Conglomerates Create TV Content for Their Own Platforms and Others....................................................... 17 How Does a TV Show Get to Profitability? 100 Episodes Is the Magic Number.................................................................................... 18 Monetizing Primetime Content ................................................................................................................................................................ 24 The Difference between Pricing on a Production-by-Production Basis Versus a Packaged Channel Unbundled Content Is Expensive for the Consumer and a Tough Proposition for the Content Providers................................................................................... 30 Many Networks Have Historically Lost Money on Advertising Alone That Is Why They Have Affiliate Fees But the Prospect of Paying Affiliate Fees Based on Viewership Rather than on Total Subscribers Is Where the Proposition Becomes Less Clear ................................................................................................................................................................................................ 34 What Is the Value Proposition to the Consumer of the Current Ecosystem? What if Over-The-Top Providers Can Offer More Non-linear, Video-On-Demand Content than Any (or Many) Linear Channel, but for a High-Single Digit Monthly Subscription Fee? .......................................................................................................................................................................................................... 36 Reverse Compensation and the Cost of Content ...................................................................................................................................... 38 Network TV Pricing Trend Proprietary Upfront/Scatter Pricing Trend Analysis Indicates Viacom and Discovery Have the Most Tailwind and Scripps Has the Most Headwind as 2011 Progresses................................................................................................ 39 NFL Lockout and the Upcoming Upfronts .............................................................................................................................................. 46 Network TV Ratings Update Surprise! Cable Taking Viewership Share From Broadcast ................................................................... 48 Network TV Market Update More Of The Same With Pricing Hot And Inventory Scarce ................................................................. 50 Local/Spot TV Market Update................................................................................................................................................................. 51 2011 Box Office Season Starting The Year With A WhimperNot Expecting Much Until The Summer ......................................... 53 Large-cap Media Company Notes ........................................................................................................................................................ 57 The Walt Disney Company (NYSE: DIS) ................................................................................................................................. 60 Discovery Communications Inc. (NASDAQ: DISCA) ............................................................................................................. 66 News Corporation (NASDAQ: NWSA) .................................................................................................................................... 69 Scripps Networks Interactive, Inc. (NYSE: SNI) ...................................................................................................................... 74 Time Warner Inc. (NYSE: TWX) ............................................................................................................................................. 78 Viacom Inc. (NYSE: VIA.B)..................................................................................................................................................... 83 Advertising Agencies Company Notes ................................................................................................................................................. 87 Interpublic Group of Companies (NYSE: IPG) ......................................................................................................................... 90 MDC Partners Inc. (NASDAQ: MDCA) ................................................................................................................................... 94 Omnicom Group Inc. (NYSE: OMC) ........................................................................................................................................ 97
April 7, 2011
April 7, 2011
linear/VOD access on cable through a living room television. Increasingly though, online content will be available through smart TV applications (Netflix is addressable through the Blu-ray player, as well as Samsung TVs, for instance). Initially, it seems as though in return for access across all platforms, some consumers might be willing to trade a broader library of choices available primarily on a traditional basis for a narrower (but good enough) library wholly on-demand through any screen. In the long run, the broader system will be starved of more premium content that a more fragmented distribution system simply cant be monetized as effectively, and the consumer could end up moving back the other way, if it means more and better content availability. The Consumer Pays More For Content Under The Current Ecosystem Than He/She Would In An Alternative System, But The Sheer Volume Of Content Available Creates Massive Consumer Benefits And We Think The Consumer Would Choose More Content Over Less. The existing TV ecosystem invests ~$30bn per year in TV programming content. We believe investors expect ~$1bn in streaming content acquisition costs for the largest (and only meaningful) online subscription video distributor. While there is at least some small portion of the consumer market that would be net ahead (paying less to consume the small amount of content they desire), the big question remains, would the vast majority of consumer rather pay 20% of the cost for an online video subscription (and this is assuming no increased subscription costs), for ~3% of the content investment benefit? We Do Not Think Consumers Will Be Fooled By Tonnage: OTT Providers Are Getting More Titles And More Scale, But They Are No Substitute For First Run Premium Content. For today, we suspect new entrants such as Netflix, Amazon, Google, etc. will seek to buy available content if for nothing else than pure library tonnage. With ~70% of Netflix streaming viewership reportedly being TV content, its become increasingly important to supply the OTT ecosystem with as much of that product as economically possible. From a pure marketing perspective, we suspect the OTT ecosystem is willing to pay for tonnage (lots of somewhat recognizable titles) even if they are on a non-exclusive basis and even if they lag years behind in terms of window parity with current TV. There is some flagship content that is necessary, but the TV tail is important if for nothing else than marketing. Its More Difficult To Monetize Non-Fiction Content In Syndication, But Format/Ancillary Opportunities Can Be Compelling. Very few producers have successfully monetized non-fiction (sometimes referred to as unscripted, sometimes as reality programming, but in actuality, its often neither) programming anywhere outside of on-network domestic platforms. Non-scripted content is often culturally contextual (though Discovery Channel has had some real success crossing over internationally with content intact). However, some producers have been able to use formats (sold in the international markets to local producers) and ancillary opportunities (consumer branded products or other licensing opportunities) to drive high margin revenues. While The Consumer May Continue To Push For Unbundled Content, The Underlying Economics Of The Industry Dont Support Unbundled Channels, Let Alone Content. On a per viewer basis, over 50% of the existing ~100 widely distributed digital basic channels would simply not be viable given current economics parameters of subscription TV. The channels with more mass reach probably work on an unbundled basis, but the rest simply do not. In The Broad Context Of Content Investments By Broadcast Investments, Retransmission Consent And Especially Reverse Network Compensation Appears To Be A Relative Bargain. While the broadcast networks invest ~$4bn annually in programming expenses versus a top 10 cable network ~$500mm, they earn roughly the same monthly affiliate fees. Further, the average affiliate fee only covers ~25-55% of the total affiliate base, bringing in 25- 50% of the effective affiliate base. While the networks could capture more of that affiliate revenue through reverse compensation, the ~$0.20 per subscriber currently sought by most network affiliates effectively generates ~33% of the affiliate fee per subscriber versus ~6x the investment in programming. Furthermore, providing $4bn of programming investment in return for ~$120-240mm of reverse compensation offers an incredibly compelling proposition for the affiliates to program their stations. They simply couldnt acquire anything close to the amount of premium first run programming that they receive from their network partners in return for that small of a programming investment. There Will Likely Be A Bigger Market For Content, But Its Unclear That Fragmentation Will Increase The Value Of The Type Of Content That Currently Provides The Bulk Of Profitability. In the existing ecosystem, the biggest advantage in the media business is arguably the ownership of content. But not all content is created equally. As the market for media consumption continues to fragment, there will be an increasing number of distribution channels for content. But, precisely because of the fragmentation, the price that any individual distribution channel can pay for that content is likely to decline.
April 7, 2011
April 7, 2011
The Modern Franchise Procedural and How It Changed Syndication (And the Economics of TV)
In 1989, a gritty New York cop drama premiered to very little fanfare. In many ways, it was a most unremarkable show. While critics appreciated it, the show finished the season ranked 46 out of ~100 network primetime shows that year. At the time, however, we didnt know that Law & Order would a) run for an astounding 20 years, b) spawn another four franchises (Law & Order: Special Victims Unit, Law & Order: Criminal Intent, Law & Order: Trial by Jury, and Law & Order: Los Angeles), and c) essentially change the face of the economics of television as we knew it for the next several decades, possibly forever. Law & Order heralded the advent of the modern, hour-long, drama-based, and self-contained procedural. By luck or design, it also coincided with a moment in time when a number of niche-oriented cable channels were seeking more general market audiences and stronger mainstream identities associated not just with situation comedies, or sitcoms, (the prevalent premium syndicated fare). The procedural ended up being the magic ingredient. Law & Order was a relatively novel format given its closed-ended procedural perspective and the absence of deep identity for recurring characters. Viewers knew little about these characters; and more importantly, they didnt need to know much about those characters in order to follow any given episode. The episodes were all self-contained. Furthermore, with cold openings that generally had nothing to do with the broader story, the viewer couldnt remember if he had seen the episode before and so could get much more easily sucked into watching a rerun. In the decade or so prior to the premier of Law & Order, closed-ended episodic drama seemed anachronistic. The biggest legal and cop shows of the prior decade were Hill Street Blues and L.A. Law, which were heavy on regular characters personal lives, inneroffice politics, and actually tended not to feature that much street or courtroom action. The project was viewed as such a long shot, in fact, that it was designed to be cut into two half-hour episodes (the investigative half-hour and the prosecution half-hour) in case the show was cancelled in short order so that there would be enough episodes to enter syndication earlier. The closed-ended episodic drama format allowed for something that had eluded TV content producers since the beginning of syndication marketthe ability to exploit scripted drama off-network in a material way. A&E paid ~$150,000 per episode for the syndication rights and really milked the show by airing it four or five times per day. Ironically, this over exposure made the show even more popular, driving ratings higher for first runs on NBC. As a result, when Universal cut its second rerun deal, this time with Turner Broadcasting's Turner Network Television (TNT), Turner agreed to a deal that would start in 2001, paying $200,000 for those original episodes and ~$700,000 for the newer episodes. Realizing how much value these programs could generate outside of the first run, in addition to the success they could bring in the first run, Dick Wolf (the creator of Law & Order) sought to create other programs whose primary goal would be to find lucrative homes on cable television in syndication. The most obvious way to approach the proposition was to design extensions from the existing franchise. These extensions of a single franchise would give any new show a huge advantageaudience familiarityand therefore a ready-made, built-in viewer base. As a result, Wolf and NBC Universal created Law & Order: Special Victims Unit, Law & Order: Criminal Intent, and Law & Order: Los Angeles. There was another show launchLaw & Order: Trial by Jurythat was not successful. However, this was clearly the exception rather than the rule. These franchise extensions ultimately drove higher license fees in syndication on cable than the original show did, mainly on the USA Network. Thus, the pattern for the franchise procedural was solidified the television industry and it would be repeated with great success, particularly by CBS.
April 7, 2011
Exhibit 1: Law & Order Franchise Syndication History
4,500 Price Per Episode (in $ 000's) 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0
$159 $159 $159 $159 $159 $159 $159 $1,300 $1,300 $1,300 $700 $700 $700 $1,300 $1,300 $1,300 $1,300 $1,300 $1,300 $1,300 $700 $700 $700 $700 $700 $700 $700
1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Law & Order CI Law & Order SVU Law & Order
Source: Broadcasting and Cable, TV By The Numbers, RBC Capital Markets estimates
At around the time of the second-cycle pick-up for Law & Order, CBS and Jerry Bruckheimer must have been taking notes when they launched CSI: Crime Scene Investigation in 2000. CSI is a similar procedural format to Law & Order (each story wrapped up neatly in one episode with little recurring character background). CSI found a home in syndication on Spike; and when franchise extension, CSI: New York, was launched, it went to Spike as well. CSI: Miami found a deep pocketed distributor in A&E.
Exhibit 2: CSI Franchise Syndication History
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009 CSI
2010
CSI Miami
Source: Broadcasting and Cable, TV By The Numbers, RBC Capital Markets estimates
April 7, 2011
More similar to the path of Law & Order, CBS found another franchise extension (sort of) in JAG and its related NCIS spin-offs. JAG was itself a military courtroom/adventure procedural. It was syndicated to USA Network in 1998, where it benefited from increased exposure and helped drive cable ratingsa similar story to Law & Orders. In 2003, during its eighth season, the series spawned the spin-off, NCIS. Whereas the JAG episodes were primarily oriented on courtroom drama, NCIS is more focused on the field of criminal investigations. This would be increasingly important for the international market where the U.S. court system is less easy to identify with than the criminal investigation world. NCIS later produced its own spin-off, NCIS: Los Angeles, which went into syndication in a somewhat ground-breaking deal after only airing six episodes.
Exhibit 3: JAG/NCIS Franchise Syndication History
4,500 4,000 Price Per Episode (in $ 000's) 3,500 3,000 2,500 2,000 1,500 1,000 500 0 1998 1999 2000 NCIS LA 2001 2002 2003 2004 NCIS 2005 2006 2007 2008 JAG 2009 2010
$750 $750 $750 $750 $750 $750 $750 $750 $1,000 $1,000 $1,000 $750 $750 $750 $1,000 $1,000 $750 $750
$2,500
$2,500
Source: Broadcasting and Cable, TV By The Numbers, RBC Capital Markets estimates
As we will demonstrate later in this report, franchise procedurals are not only major syndication earners for their producers, they provide us with the most dramatic illustration of the evolution of the market for procedurals. Procedurals, and to a lesser extent situation comedies, generally are the engine for cable TV networks. Note, while The Mentalist is not a franchise procedural (at least not yet), CBS recently syndicated The Mentalist for ~$2 million per episode to TNT, one of the highest prices ever paid per episode in off-network cable syndication. Equally as important, just as the syndication opportunity for cable took off, so did the international opportunity. While, as we show in this report later, other types of TV content syndicated well into cable (notably situation comedies, which were monetized at similar prices per episode as successful crime procedurals), only the procedurals sold well internationally. This was the other major change to the landscape. We believe these types of procedurals consistently generate another ~$2 million per episode in the international syndication market. With this evolution, programming strategies by many of the networks changed from simply creating shows that would be hits in their first run and earn some sort of modest return in syndication, to creating programming that would essentially feed the cable and international off-network syndicated beast. Many producers, most notably CBS, NBC Universal, and Time Warner, have been rewarded handsomely for this. But, while most investors are arguably now highly aware that evolving methods of TV content distribution could put the affiliate fee ecosystem in a vulnerable position, far fewer are probably aware that it could also put the syndication ecosystem, which has fed the beast so well for the past 15 years, into jeopardy as well. The content producers need the domestic cable channels to stay healthy and profitable on a linear basis in order to keep driving demand for their content. Should these channels drop off basic tiers, or simply be displaced by fragmentation in a move to greater online video distribution over-the-top, a healthy source of demand could disappear. We think the consumer is probably unaware of just how much content he has access to, due to this ecosystem. While in the short-term, there is likely money to be made with the over-the-top online distributors by selling them content as well, the content companies need to be careful not to let the tail wag the dog and cannibalize the true driver of positive economics before a new ecosystem that can monetize content just as well (or better) is fully
April 7, 2011
in place. As a result, wed expect the availability of franchise procedurals in early syndication windows to be off the table for over-thetop (OTT) in the near term.
Exhibit 4: Programming Strategy and Monetization Summary
Viacom produces its TV related content at the Media Networks (cable channel) division. Syndication likely amounts to an insignificant portion of revenue/OI
We estimate Disney generates $1bn+ in syndication sales annually, which is accounted for in the Broadcasting segment
20th Century Fox TV Studio is housed under the Filmed Entertainment segment. The TV Studio accounts for ~40% of Filmed Entertainment revenue. ~35% of TV Studio revenue is generated from syndication
Discovery produces its TV related content at the U.S. Networks (cable channel) division. Syndication likely amounts to an insignificant portion of revenue/OI
Scripps produces its TV related content at the Lifestyle Media (cable channel) division. Syndication likely amounts to an insignificant portion of revenue/OI
Warner Bros. TV Studio is housed under the Filmed Entertainment segment. ~1/2 of Filmed Entertainment segment OI ($1.1bn in 2010) is generated from programming sales to 3rd party networks and syndication
The TV Studio is housed under the Entertainment segment. We estimate CBS generates $2.5bn+ annually in syndication sales, of which ~$1bn comes internationally
Content almost exclusively distributed through Viacom Nets (MTV, VH1, Nick, etc.). Not well suited to off net syndication
Almost all current ABC studio content distributed through ABC in first run. More legacy programming distributed in syndication
All content distributed through both owned channels and 3rd parties. Mix of first run and syndication oriented
Current content almost exclusively distributed through CBS and highly suited to syndication.
Broadcast Network TV Programming Strategy Broadcast Networks None ABC Sit Com, Serialized Drama, Non Fiction (Dancing With The Stars, etc.) Original Serialized dramas and non-fiction tend to be self produced. Sit coms a mix. Primarily on network. Some monetization of sit com production in syndication. Tends to be lower as mix shifts toward serialized drama and non fiction Fox Serialized drama/dramedy, non fiction (American Idol, etc.), animated sit com Original None None None CBS Procedurals, Sitcoms, some non fiction (Survivor) Original Procedurals largely self produced, sitcoms outsourced. Content works well both on net and off net generally
Genres
Largely self produced. Primarily on network. Some monetization of sit com production in syndication. Tends to be lower as mix shifts toward serialized drama and non fiction
Highly suitable.
Ad Supported Cable Network TV Programming Strategy Ad Supported Cable Networks MTV, Nick, Comedy, BET Core franchises Mixed -MTV and Nick Original, Comedy Central original, Nick at Night, etc. Off Net syndication. ESPN, ABC Family Sports and non-fiction at ESPN with ABC Family a mix anchored with originals supported by off net syndication. Sports (non-fiction) and serialized drama. Some sit coms. Sports outsourced. ABC Family, etc. self produced anchor with syndicated content supporting. FX, Fox Sports Nets, etc. Sports and non-fiction at Fox Sports Nets with FX a mix anchored with originals supported by off net syndication. Sports (non-fiction) and serialized drama. Some sit coms. Discovery, TLC, Animal Planet, ID Food Channel, HGTV, Travel TNT, TBS, TrueTV Some original, but still mostly off network syndicated content. Increasing amounts of sports as well. Procedurals, sit coms and serialized dramas. None
Original
Original
Genres
Non Fiction, Sitcoms, Kids Varies -- some channels (MTV, Nick, etc. self produced, some Comedy Central, etc. mixed and some Nick at Night, etc. primarily outsourced) On network. Almost no original content that is syndicatable in meaningful way.
Non Fiction
Non Fiction
Sports outsourced. FX, etc. some self produced, but largely syndicated.
Self produced
Self produced
Largely outsourced
Almost exclusively on network as it tends toward serialized. Some sit com content, but none really syndicated yet.
Core franchises Mixed -MTV and Nick Original versus Comedy Central, Nick at Night, etc. Off Net syndication.
Current schedule not well suited. Serialized dramas and sports hard to syndicate.
Current schedule not well suited. Serialized dramas and sports hard to syndicate.
Some formats and shows may work Internationally. Discovery tends to program it's owned and operated channels rather than provide 3rd party programming.
Some formats and shows may work Internationally. Some tastes are more local.
Current schedule not well suited. Serialized dramas and sports hard to syndicate.
April 7, 2011
emerging competitor closer to critical mass/competitive status with the traditional ecosystem. Ironically though, the emerging digital distribution ecosystem for traditional content is least able to monetize the content, since it charges the end user a lower price.
Broadcast Network Content Cost Structure Differs from Cable Network Content Cost Structure Due to Both Total Cost per Hour and Total Hours of Original Content Run
Broadcast networks program ~16 hours per day directly (with the exception of Fox, which programs far fewer hours per day). The remaining amount of programming airtime reverts back to broadcast station affiliatesthe basic distribution mechanism for broadcasters. This stands in stark contrast to a cable network, in which 24 hours per day of a cable channels programming is supplied by the cable network. At first blush, one might expect that the cost of programming would be materially higher at cable networks since the cable network is required to program 24 hours per day, versus the broadcast networks considerably lower number of hours to program. However, broadcast networks tends to program with virtually 100% of original, first-run programming (which technically includes one rerun per season of each show) and one run per show per day. Compare this to cable networks, which typically run anywhere from 100% to 65% of acquired programming (typically older, syndicated fair) with first-run fare often multiple times in its first window. Some networks (notably TNT and USA) are running more broadcast-like original programming and some networks, such as Discovery Channel or Food Network, produce lots of first-run programming, but the bulk of cable network programming is acquired. In addition, it often includes infomercial programming in late hours, which actually generates revenue, as opposed to costing money.
Exhibit 5: Illustrative Costs of Content for Broadcast Networks
Weekday
Hours Programmed 7AM-10AM 10AM-4PM 6PM-7PM 8PM-11PM 11:30-1:30 Varies Total Number Of Hours per Day 3.0 6.0 0.5 3.0 2.5 0.0 15.0 Cost Per Hour Cost per (mm) Day (mm) $0.10 $0.20 $0.25 $3.00 $0.25 $2.50 $0.75 $0.30 $1.20 $0.13 $9.00 $0.63 $0.00 $11.25
Daypart Early Morning Daytime Early Fringe Prime Time Late Night Varies
Typical Content Morning News Talk -- Good Morning America, Today, etc. Varies, but might include Soap Operas, Game Shows. Affiliates might also air first run syndication (Oprah, etc.) Generally includes 1/2 hour of Network News First run Drama/Comedy/Reality Leno, Letterman, Jimmy Kimmel, Nightline, etc. Sports Programming Total
2 1
Comments Not "re-runnable". Also leverages off of some network news department fixed costs. Each episode can be run multiple times per year. Not "re-runnable". Provides resources to other programming -- news magazines, Sunday morning political talk shows and morning shows. Each episode can be run 2x per year. Each episode can be run 2x per year. Varies by programming type so we make some assumptions based on individual programs and hours of sports per week and exclude Olympics.
1
Weekend
Hours Programmed 8AM-9AM 9AM-12PM Varies 8PM-11PM Total Number Of Hours per Day 1.0 3.0 5.0 3.0 12.0 14.1 Cost Per Hour Cost per (mm) Day (mm) $0.10 $0.20 $2.50 $3.00 $1.85 $1.02 $0.10 $0.60 $12.50 $9.00 $22.20 $14.38
Typical Content Morning News Talk -- Good Morning America, Today, etc. Saturday Kids programming/Sunday News Talk (blended) Sports Programming
2
Comments Not "re-runnable". Also leverages off of some network news department fixed costs. In some cases, Kids blocks are managed by 3rd parties. Cost of individual programming varies heavily by network and season. Each episode can be run 2x per year.
Because this programming can be spread across multiple dayparts and include primetime programming (60 Minutes, 20/20, Evening News, Late News, Meet The Press, This Week, etc., this is very difficult to allocate. Also, costs can be spread over multiple networks. No figure is widely available for any network. We assume ~1,000 employees ~$200k/annually each and fixed costs of another ~$50mm and major talent costs of another $50mm. Other costs probably exist, but are shared with other parts of network (studios, etc.). Major league baseball ~$425mm/year for Fox, NFL ~$700mm/year for each major network, NBA ~$485mm/year for ABC/ESPN, NHL $75mm/year, NCAA $335mm/year for CBS, Other college sports $100mm/year for each network, NASCAR, costing networks that carry it ~$200mm/year, while the summer Olympics ~$1.2bn, split across NBC and it's sister cable networks. Assume average budget of ~$2bn per year, 52 weeks per year, $38mm per week, 15 hours per week, $2.5mm. We believe the Industry generates ~$22bn of annual sports rights costs with ~66% going to broadcast networks.
3 2
Weighted average -- 5/7 = ~71% for weekdays, 2/9 = ~29% for weekends.
10
April 7, 2011
Not every network programs precisely the same amount of hours per week. In particular, Fox generally programs one-third of the other major broadcast networks. Because a major component of Foxs programming costs are sports (the most expensive programming on TV) and primetime TV (the most expensive daypart to program), its cost per hour of programming is far higher than that of CBS, NBC, and ABC.
Exhibit 6: Programming Costs for Major Broadcast Networks
Program 2011 Cost Per Programming Week Costs (mm) (mm) Hours Programmed Per Week Programming Cost Per Hour (mm)
Network
NBC
$3,285
$63
87.0
$0.73
Additional Comments Provides 22 hours of prime time programming to affiliated stations: 8-11pm (ET/PT)/7:00-10:00 pm (CT, MT, AT)/6-9 pm (HT) Monday through Saturday and 7-11 pm on Sundays. Programming is also provided 7-11 am weekdays in the form of Today , which also has a two-hour Saturday and one-hour Sunday edition; one-hour weekday soap; nightly editions of News ; the Sunday political talk show; weekday early-morning news program; late night talk shows The Tonight Show with Jay Leno , Late Night with Jimmy Fallon and Last Call with Carson Daly ; sketch comedy show Saturday Night Live ; and a three-hour Saturday morning animation block under the name qubo. In addition, sports programming is also provided weekend afternoons any time from 12-6 pm. ET, or tape-delayed PT. Provides 22 hours of prime time programming to affiliated stations: 811 p.m. Monday to Saturday (all times ET/PT) and 711 p.m. on Sundays. Programming is also provided 10 a.m.3 p.m. weekdays (game shows and soaps); 79 a.m. weekdays and Saturdays (The Early Show); CBS News Sunday Morning, nightly editions of the CBS Evening News, the Sunday political talk show, a 2-hour early morning news program Up to the Minute and CBS Morning News; the late night talk shows Late Show with David Letterman and The Late Late Show with Craig Ferguson; and a three-hour Saturday morning live-action/animation block under the name Cookie Jar TV. Sports programming generally runs on weekends, though it varies -- but generally it's aired between noon and 7pm. Provides 22 hours of prime time programming to affiliated stations: 811 p.m. Monday to Saturday (all times ET/PT) and 711 p.m. on Sundays. Programming also be provided 11 a.m. 4 p.m. weekdays, 79 a.m. weekdays smf 8-9 a.m. weekend editions; nightly editions of News, the Sunday political talk show, early morning news and late night talk show; and a three-hour Saturday morning live-action/animation block. sports (or sometimes other) programming is also provided weekend afternoons any time from 126 pm (all times ET/PT). When no sports are scheduled on one or both weekend afternoons, ABC will provide 12 hours of filler programming (either reality shows or movies) in the afternoon hours, usually airing in the late afternoon between 4-6 pm ET/PT. Fox currently programs 19.5 hours of programming per week. It provides 15 hours of prime time programming to owned-and-operated and affiliated stations: 8-10 p.m. Monday to Saturday (all times ET/PT) and 710 p.m. on Sundays. One and a half hours of late night programming is offered on Saturdays from 11:00 p.m. to 12:30 a.m. Weekend daytime programming consists of the infomercial block Weekend Marketplace (Saturdays from 10:00 a.m. to noon) and the hour-long political news program Fox News Sunday (time slot may vary). Sports programming is also provided, usually on weekends (albeit not every weekend year-round), and most commonly between 12-4 or 12-8 p.m. on Sundays (during football season, slightly less during NASCAR season) and 3:307 p.m. on Saturday afternoons (during baseball season).
CBS
$3,320
$64
87.5
$0.73
ABC
$2,817
$54
92.5
$0.59
FOX
$2,216
$43
27.0
$1.58
In recent years, networks like TNT and USA have been programming several nights of original scripted drama and scripted comedy programming in primetime, but none of them come close to the ~1521 hours of primetime, non-sports original programming the broadcast networks provide. The cable networks have developed a number of original series, actually, but few of them run the typical 22 original episodes of broadcast network (they range from ~913 episodes). As a result, they put on a number of series that do not run a full, typical season. Rather, the various series essentially combine to program to a full season. As a result, for each broadcast channel series produced, the cable channels typically have to produce twice as many to match a traditional series season worth of content. Additionally, and increasingly, each of these cable networks are acquiring the rights to various professional sports leagues for some coverage. This strategy can be extremely cost effective in terms of programming costs. The cable network will spend $1-$2 million on a few scripted hours of content to anchor its schedule/franchise. The network can further re-run the original series episodes many times per week (unlike the broadcast networks, for which such a practice is unheard of). Then, the cable networks can run syndicated programming, or much cheaper original programming, for the balance of its primetime and other daypart schedules.
11
April 7, 2011
Network
TNT
3-6
NBA, NCAA
TBS
2-3
MLB
USA
2-4
House, CSI, Becker, JAG, Law & Order SVU, NCIS, NCIS LA
Westminster Kennel Club Dog Show, WWE Wrestling, collge football (Fall 11)
FX
3-6
Two and A Half Men, Spin City, That 70's Show, The Practice
Typically, the broadcast networks program 9-11 hours of scripted fiction original content in primetime.
1 2
Varies by week, but on average, in this range. Also, excludes late night and sports. Some "announced", but still in development.
Source: TNT, TBS, USA, TV By The Numbers, RBC Capital Markets estimates
For the most part, however, these cable networks (even the ones that typically feature more first-run programming), typically fill the bulk of their primetime schedules (and much of their non-primetime schedules) with syndicated, off-network programming or nonfiction original content (historically, this was called unscripted reality or unscripted documentary, but this programming has become increasingly scripted). In the chart below, we highlight the actual programming schedules for three of the most originally programmed cable networks in existence todayUSA, TNT, and TBSfor the week of March 6, 2011 through March 12, 2011. While this week may be somewhat lighter on original content than other weeks (its not a sweeps period, etc.), we think its worth illustrating just how little original fare appears on these networks relative to the broadcast networks. The syndicated content becomes extremely cost effective as well when one considers it costs, at the high end , ~$1 million per episode (see our discussion regarding syndicated programming costs later), but the costs can be amortized across a large number of runs across multiple dayparts, for each episode. For example, one episode of Law & Order, bought in syndication by TNT, may cost $1 million, but unlike a broadcast network which could amortize the cost of a single episode over only two runs over an entire season, a cable network could run the episode two times over a single day, ten times per season, and multiple times over a multi-year cycle that its purchased for. The most cost-effective content of all, however (at least in first run) is original non-fiction, also known as unscripted documentary, content. This type of content is the mainstay of channels such as Discovery Channel, History and, in more recent years, A&E. For the most part, a typical hour of this type of primetime programming costs ~1025% of a typical scripted hour. One could argue that since the cable network needs to program 24 hours per day instead of the 412 hours per day of a typical broadcast network does, it must come up with far more cost-effective programming expense strategies.
12
April 7, 2011
Exhibit 8: Average Cost per Hour of Production
3.5 3.0 (in $ mm) 2.5 2.0 1.5 1.0 0.5 0.0 Cable Original Non-Fiction
Source: RBC Capital Markets estimates
$3.0
$0.3
Broadcast Fiction
During 2010, USA, TNT, TBS, FX, A&E, History Channel, and Discovery Channel were the seven highest-rated advertisingsupported cable networks in the United States. In their rise to the top of the ratings, many industry observers (and the channels themselves) have made much noise about their migration to original, premium programming. But the chart below shows that the vast majority of primetime programming, especially on USA, TNT, TBS, and FX, which are aiming to compete directly with the broadcast networks, are still heavily reliant on a) syndicated fare, b) movies, and c) non-fiction content. These networks continue to be a primary avenue for the major premium scripted production houses (the studios controlled by the major broadcast networks as well as Warner Brothers) to monetize their off-network broadcast content highly efficiently.
Exhibit 9: Original versus. Acquired Basic Cable Programming Expenses at Cable Networks 2010 (in mm)
$7,437, 37%
$12,727, 63%
Original
Acquired
13
April 7, 2011
Exhibit 10: Programming Schedules for Week of March 6th Top 7 Rated NonSports Cable Networks, A18-49 Demo
Scripted Oriented USA TNT TBS FX A&E Syndication (Criminal Minds) Syndication (Criminal Minds) Original Scripted Series (Breakout Kings) Original Series (Intervention) Original Series (Intervention) Original Series (Heavy) Original Series (The First 48) Original Series (The First 48) Original Scripted Series (Breakout Kings) Original Series (Dog The Bounty Hunter) Original Series (Dog The Bounty Hunter) Original Series (Storage) Original Series (The First 48) Original Series (The First 48) Original Series (Beyond Scared Straight) Syndication (Criminal Minds) Syndication (Criminal Minds) Syndication (Criminal Minds) Original Series (The First 48) Original Series (The First 48) Original Series (The First 48) Unscripted Oriented History Discovery
Movie
Movie
Movie
Movie
Original Series (Flying Original Series (Ax Men) Wild Alaska) Original Series (Flying Original Series (Ax Men) Wild Alaska) Original Series (American Pickers) Original Series (Pawn Stars) Original Series (American Pickers) Original Series (Pawn Stars) Original Series (Only In America With Larry The Cable Guy) Original Series (Only In America With Larry The Cable Guy) Original Series (Top Shot) Original Series (Ancient Aliens Underwater Worlds) Original Series (Killer Shockwaves) Original Series (Predators Of the Deep) Original Series (Modern Marvels) Original Series (Swamp People) Original Series (Flying Wild Alaska) Original Series (American Chopper) Original Series (American Chopper) Original Series (Sons Of Guns) Original Series (Dirty Jobs) Original Series (Dirty Jobs) Original Series (American Treasures) Original Series (Sons of Guns) Original Series (Sons of Guns) Original Series (Desert Car Kings) Original Series (Man Versus Wild) Original Series (Man Versus Wild)
10PM 8PM Monday 9PM 10PM Syndicated Series (NCIS) Syndicated Series (NCIS) Wrestling Syndication (Law & Order: SVU) Syndication (Law & Order: SVU) Syndication (Law & Order: SVU) Syndicated Series (NCIS) Syndicated Series (NCIS) Syndicated Series (NCIS) Syndication (Law & Order: SVU) Syndication (Law & Order: SVU) Original Scripted Series (Fairly Legal) Syndicated Series (NCIS) Syndicated Series (NCIS) Syndicated Series (NCIS) Movie Original Scripted Series (Southland) Syndication (Bones) Syndication (Bones) Original Scripted Series (The Closer) Syndication (Family Guy) Syndication (Family Guy) Syndication (Family Guy) Syndication (The Office) Syndication (The Office) Syndication (The Office) First Run Syndication (Meet The Browns) Original Series (Are We There Yet?) First Run Syndication (House Of Pain) Movie Original Series (Lights Out) Movie
Movie
Movie
10PM
Movie
Original Series (Justified) Syndication (Two and A Half Men) Syndication (Two and A Half Men) Original Series (Archer) Movie
Original Series (Out Of Original Series (Ax Men) The Wild) Original Series (Modern Marvels) Original Series (Pawn Stars) Original Series (American Pickers) Original Series (American Pickers) Original Series (American Pickers) Original Series (American Pickers) Original Series (Sons of Guns) Original Series (Sons of Guns) Original Series (American Loggers) Original Series (Cops and Coyote) Original Series (Cops and Coyote) Original Series (Texas Drug Wars)
Movie
Movie Syndication (Two and A Half Men) Syndication (Two and A Half Men)
This schedule reflects less original programming (scripted and sports) than average, but even at the higher end of the spectrum (during sweeps periods or heavy sports content seasons), the amount of scripted original programming in primetime pales versus the networks.
Note that unscripted content tends to cost 50-75% less than scripted drama.
However, given their lack of reliance on premium scripted fare and their ability to re-run programming through multiple dayparts on the same day or during the same week, etc., cable networks have a very different expense structure than broadcast networks. They program many more hours but tend to have far less expensive programming costs. With the exception of ESPN, no cable network comes remotely close to any of the broadcast networks in terms of total programming expenses.
14
April 7, 2011
Exhibit 11: Programming Costs for Major Broadcast Networks and Select Cable Networks
$4,924
FX
Other cable networks enjoy dramatically lower programming expense structures. We analyzed program expense data for ~175 cable networks with approximately two-thirds of those networks enjoying coverage over ~50 million or greater total subscribers. This data suggests the difference in programming expense for most of the cable networks versus the broadcast networks is even more dramatic than the Top 10 cable network data would suggest. Where an hour of programming at the broadcast networks costs closer to $750,000 (blending dayparts), it is closer to the $10,000 level for cable.
Exhibit 12: Most Cable Channels Program Networks on a Shoestring Compared to Broadcast Networks
% Of Cable Networks With Annual Programming Expenses Of... >$200mm 15% % Of Cable Networks With Per Hour Programming Expenses Of... >$23,000 14%
<$50mm 58%
ES PN /E
<$5,700 59%
While not the focus of this report, it is worth noting that the trade-off for lower programming costs tends to be lower ratings. While the Big 4 broadcast networks represent ~4% of the total ad-supported networks with distribution to 50 million or more homes in the U.S., they capture ~40% of the primetime ratings. It takes ~three of the largest ad-supported cable networks (non-sports) to garner a similar audience in primetime as a broadcast network.
15
April 7, 2011
Exhibit 13: Adults 18-49 Ratings
20.0 18.0 16.0 14.0 12.0 10.0 8.0 6.0 4.0 2.0 0.0 ABC CBS NBC Fox 1.7 1.7 1.9 1.9
17.8
6.6
4 broadcast networks generate ~40% of total ratings of over 100 ad supported cable networks combined.
Source: Nielsen and RBC Capital Markets
Type Of Programming Scripted Drama Procedural Arc Based Sitcom Reality/Documentary Reality/Documentary -- more Cable Net Oriented Pro/Premium College Sports News
1
Commentary
Programming generally deficit financed for network distribution, but recouped in later windows Monetization generally occurs on first run. Relatively low cost content with modest "rerun" monetization. Often a loss leader to "lift" a schedule. Often a loss leader to fortify franchise.
Generally rely on initial window to drive profitability, or are basically loss leaders.
1 At high end, assume annual cost for ESPN Monday Night Football of ~$1.1bn, divided by 16 games, or ~$69mm per game. Then assume 3 hours per game, or ~$23mm per hour At low end, assume annual NBC/Versus $75mm cost divided by 82 games or ~$0.9mm per game. Then assume 2 hours per game, or ~$0.45mm per game.
Not all content is initially designed to be profitable in its first window. In fact, it generally takes five or so seasons for a big broadcast drama to fully recoup (when it goes into syndication). Additionally, content is increasingly being financed in the international market place.
16
April 7, 2011
Each of the Major Media Conglomerates Create TV Content for Their Own Platforms and Others
Each of the major media conglomerates have their own in-house TV production studios. These include 20th Century Television for Fox/News Corp., ABC Studios (formerly Buena Vista TV) for ABC/Disney, CBS Studios for CBS, and Warner Brothers TV Studios for Time Warner. Historically, these studios produced as much, if not more content for third party networks as they did for their own networks. But as the model for profitability came to rely more on syndication (and frankly, when syndication became a real upside driver for TV shows), the emphasis on creating TV for a studios affiliated network has increased. Think about it this way: historically, a studio would produce a TV show and sell it to a TV network for a fixed license fee. With no robust syndication market, if the show was a hit, the network benefited from having a hit show in first run by driving advertising around the show and the studio attempted to price the license fee such that it could make a decent enough profit to make production of the show worthwhile. That was the end of itit was basically a 10% margin type of business. There wasnt much benefit for a network to produce or own a show. In fact, there was a disincentive to self-produce: why take production risk on a show that might not last when there is so much start-up related costs associated with the pilot and first season generally? However, when the syndication market began to explode, especially with the rise a robust cable TV landscape and a burgeoning international marketplace that would pay for off-network syndication fare, a real change occurred. That is, the first run of the episode became not an end unto itself, but a promotional vehicle for the ultimate profit driver of the showsyndication. As such, the first run (which almost always happened on the broadcast network) was considered the first window. However, its always nice to have a hit show (it usually, though not always, makes money for the network that runs it) as it drives profit for a single time slot and can often lift audiences for adjacent time slots. But, if the network doesnt own the show, it cant really participate in the huge benefits that show offersmassive exposure to the first window. As a result, the first window simply becomes a means to an end. The network that doesnt feature its own content is simply allowing another studio to monetize one of its strongest assetsthe promotion of the first window. Furthermore, networks have become increasingly reliant on franchise shows (particularly in the procedural genre) that can easily beget other spin-offs. Consider, for instance, the Law & Order franchise or the CSI franchise. By owning one show that airs in the first window, there is the potential to exploit multiple billion-dollar franchise opportunities. We think CBS and NBC Universal have historically been most successful at this game while ABC and Fox have lagged. Ironically, ABC and Fox have had some very substantial success with shows in first run that translated very poorly to second runs in syndication. For instance, shows like Lost for ABC or 24 for Fox were both commercial and critical successes, driving major ratings in first run primetime. However, as we will discuss later in this report, they lacked the ability to be monetized in syndication, the most potentially profitable window for TV shows. These shows were serialized and thus were very difficult to sell into syndication. In essence, from a commercial stand point, one could argue that while these shows demonstrated ratings strength, they were a waste of the first window.
17
April 7, 2011
Exhibit 15: Using the First Run Window to Monetize Syndicated Content
Network/Studio
Where They Are Lining Their Own Pockets CSI CSI CSI Miami CSI New York NCIS NCIS NCIS LA Law & Order Law & Order Law & Order: SVU Law & Order: CI Law & Order LA Monk Dancing With The Stars Lost Desperate Housewives Glee 24 House
Where They Are Helping A Rival Studio To Exploit Content Two And A Half Men -- Owned by Warners The Big Bang Theory -- Owned by Warners How I Met Your Mother -- Owned by 20th Century Fox
CBS/CBS Studios
Billion-Dollar Franchises
NBC/NBC Universal
Disney/ABC
How Does a TV Show Get to Profitability? 100 Episodes Is the Magic Number
When a studio produces a critical mass of shows with a long run of episodes (historically 4 or 5 seasons, or ~65-100 episodes), the show is sold to local TV stations or cable networks in packages containing (typically) one chronologically continuous run of episodes. A package usually contains at least 65 episodes, which is enough to strip the show across the schedule Monday through Friday for 13 weeks. The distributor (TV station or cable network) pays one upfront fee, but its based upon a price per episode. The individual price per local station may not be terribly high for an individual show, but if 250 to 300 stations pay for the rights to show the program, the total amount of money that goes to the studio can easily be in the $1 million per episode range for a situation comedy. For shows with relatively shorter runs (not much more than an initial 65 episodes), the syndication package will contain the entire run of the show. For shows that have been on the air for longer than say, 100 episodes, the show is generally sold in multiple packages. While the value of the initial package could decrease when its renewed, the newer show package is often worth more than the first show package when the prior syndication agreement was struck. Historically, there was a lag in windows in which shows could be syndicated in broadcast and cable channels. The first window was generally dedicated to the local broadcasting stations (which tended to pay a premium) and last as much as three or four years, at which time cable channels could start showing runs of the same series. These windows have now compressed and in many cases are indistinguishable. Generally, two kinds of shows work really well in syndication (meaning there is high demand, thus license fees are very high). Those two kinds of shows are comedies (which work very well domestically but not internationally, thus upside is limited to the U.S. market) and procedural-based dramas (which work well domestically as well as internationally, thus driving more upside because there is a global market place). With procedural dramas such as Law & Order or CSI, the plot is far more important than the characters. The viewer doesnt need to have seen any prior episodes of the show to follow any other episodes of the show. This is in contrast to arcbased dramas (in its extreme, something like a night-time soap operathink Dallas, or even a show like Lost). Note, Time Warner claims that Seinfeld has generated ~$2.7 billion of syndication revenues over the past 12 years (which, given that the content has been bought and paid for should almost all be profit). Though, we arent sure how much back-end participation Jerry, George, Kramer and Elaine received. A show initially had to reach ~100 episodes, and later ~60 episodes, to be considered for syndication, because each episode will be played multiple times. Recently, a few sitcoms, including Modern Family, Glee, and The
18
April 7, 2011
Cleveland Show entered into syndication deals three or four seasons before the 100-episode mark. Similarly, NCIS:LA was syndicated for $2 million an episode after only six first-run episodes (a move that shocked many in the industry). If these early syndication vehicles continue to perform and the syndication bet pays off, it may start more of a trend away from the 100-episode standard. Wed note that some of the non-fiction based, cable-oriented shows have also been syndicated. They tend to be a more difficult economic proposition since they have higher residual/back-end components than typical broadcast content (in many cases, this makes off-network syndication cost prohibitive). The most high-profile example of this has probably been Discovery Communications in partnership with distribution platform, Debmar Mercury (part of Lionsgate), syndicating Deadliest Catch and American Chopper in a joint offering. Wed estimate these shows produced far lower off-network licensing opportunities.
Exhibit 16: Non-Fiction TV Content Comparative Production Costs (in 000s)
Examples The Hills/Deadliest Catch Survivor Wipeout/Project Runway Drive Ins, Diners and Dives
Cost Per Episode Cable Broadcast $400-$600 $800-$1,000 $250-$650 $400-$600 $800-$1,200 $750-$1,000 -
Because of limited monetization off-network, these non-fiction programs tend to be profitable on a first-run licensing basis. However, upside is available on a licensing basis for either formats ( la American Idol with its global formats) or on an ancillary merchandising basis (think Biggest Loser diet shakes). Outside of some big budget competition shows, these non-fiction based programs tend primarily to be the provenance of cable networks.
Exhibit 17: First-Run Content Monetization Drivers
Cost/Profit Profile For Network Scripted Content (in mm) Average Production Budget/Hour Average License Fee From Network Deficit/(Profit) From First Run Typical Shortfall Funding Source Upside Limited Cable $2.00 $1.00 $1.00 International Syndication Broadcast $3.00 $1.50 $1.50 Domestic Syndication "Off Net" Potentially substantial.
Cost/Profit Profile For Network Non-Fiction Content (in mm) Average Production Budget/Hour Average License Fee From Network Deficit/(Profit) From First Run Typical Shortfall Funding Source Upside Limited There are almost no cases where off-net "stripping" has occurred. International can deliver some upside.
Source: RBC Capital Markets, TV By The Numbers
Opportunity tends to come from format monetization rather than original productions.
19
April 7, 2011
One might ask, why is it that scripted content costs so much more than non-fiction content to produce for both broadcast and cable networks? The answer lies in the lack of need for writers, regular cast members, and even production facilities. You dont really need to build pre-existing sets for a non-fiction show about fishing crews (the boats already exist), addiction interventions (the cast shows up at the persons home), or pawn shop operators (they work at a pre-existing pawn shop). These writing and production facility/personnelrelated fees can make up 3050% of the budget. Additionally the cost of the cast members in non-fiction tends to pale in comparison to successful scripted content. However, there is one exception to that rule: when a show blows up into a bona fide big hit, the salaries also tend to go up materially. This will happen in the second or third season of the series.
Exhibit 18: Cost per Episode of TV Talent (in 000s)
Drama
Hugh Laurie (House) Christopher Meloni (Law & Order: SVU ) David Caruso (CSI: Miami) Marg Helgenberger (CSI) Mark Harmon (NCIS ) Laurence Fishburne (CSI) Kyra Sedgwick (The Closer) Denis Leary (Rescue Me) Gary Sinise (CSI: NY ) $400 $395 $375 $375 $375 $350 $350 $350 $275
Sitcom
Charlie Sheen (Two and a Half Men ) Jon Cryer (Two and a Half Men ) Marcia Cross (Desperate Housewives ) Teri Hatcher (Desperate Housewives ) Felicity Huffman (Desperate Housewives ) Eva Longoria (Desperate Housewives ) Dan Castellaneta (The Simpsons ) Julie Kavner (The Simpsons ) Tina Fey (30 Rock ) $2,000 $550 $400 $400 $400 $400 $400 $400 $400
Late-night
David Letterman (The Late Show ) Jay Leno (The Tonight Show ) Conan O'Brien (Conan ) Ellen DeGeneres (The Ellen DeGeneres Show ) Jimmy Kimmel (Jimmy Kimmel Live ) Chelsea Handler (Chelsea Lately ) $133 $119 $48 $38 $29 $17
Non-Fiction
Kate Gosselin (Kate Plus 8 ) Real World Contestants Cast members of Big Brother Cast Members of Real Housewives Nicole "Snooki" Polizzi (Jersey Shore ) Catelynn Lowell (Teen Mom ) Ozzy Osbourne (The Osbournes ) Donald Trump (The Apprentice )
First Cycle
$25 $0 $1 $3 $5 $5 $5 $50 -
Later Cycles
$250 $0 $1 $100 $30 $5 $1,000 $100
Broadcast late night talent is 70% less expensive per episode than drama/comedy and cable network is a fraction of that.
Source: TV Guide, Entertainment Weekly, RBC Capital Markets estimates
First run cable network non-fiction cast salaries are a "rounding error" versus sitcoms/dramas.
At the end of the day, scripted content can be incredibly lucrative in domestic syndication from sales to cable networks alone for offnetwork stripping. Wed note though, its the existing ecosystem of general market cable, such as USA, TNT and TBS, being included in basic cable channel tier packages and further being able to command strong affiliate fees that allows for the profitable monetization of this content. The largest threat to the disruption of this ecosystem is the exclusion of some of these networks from basic cable carriage (TNT, for instance isnt included in the Time Warner Essentials package) or more importantly, competition for viewership of syndicated content from online video distributors such as Netflix, or even Hulu. While there is a potentially longer term opportunity to create a similar distribution channel for premium video content online, its unlikely to be matched by the existing ecosystem. In other words, the fate of the off network syndication market is directly tied to the long-term prospects of the general market cable channels that primarily feature this type of programming. For today, its simply the only way to generate ~$2 million per hour for a procedural drama or a big budget situation comedy on an off-network basis (outside of very few special circumstances such as the recent Kevin Spacey House of Cards Netflix deal).
20
April 7, 2011
Exhibit 19: Off-Network Cable Syndication Deals
Off-net Launch Program 2005 2009 2009 Sopranos The Mentalist NCIS-LA
License Fee per Episode Channel (in mm) Licensee $2.50 $2.20 $2.20 A&E TNT USA Network TBS and Fox Stations Bravo/USA Spike USA Network TNT FX Comedy Central/ WGN America Lifetime Oxygen Network TBS and Fox Stations Lifetime Syfy/G4 G4 Lifetime SiTV TV Guide
Comments One of very few high profile serialized syndication deals and viewed as a ratings failure. Syndicated before Season 3. Remarkable, given that only a few episodes had aired before the deal was struck. TBS paying $1.5mm while Fox stations paying $0.5mm. Set a record for off network sitcom purchases and syndicated during season 3. Syndicated before season 3. TNT took a major write-down in 4Q09 Initially syndicated off-net to Tribune in broadcasting. Cable rights kicked during 2010. Syndicated after Season 4. Syndicated after Season 4. Includes rights to make Glee themed specials. Also surprisingly syndicated before the typical 4-season mark. Syndicated before the typical 4 season mark.
2010 2004 2002 2010 2004 2007 2009 2006 2009 2010
The Big Bang Theory Law & Order: CI CSI Modern Family Without A Trace Two and a Half Men 30 Rock NCIS How I Met Your Mother Glee
CBS NBC Universal Warner Brothers Fox Warner Brothers Warner Bros. NBC Universal CBS Fox Fox
$2.00 $1.90 $1.90 $1.40 $1.40 $0.80 $0.80 $0.75 $0.75 $0.50
Fox
New Adventures of Old Christine Warner Bros. Lost Heroes Desperate Housewives Prison Break Ugly Betty ABC Studios NBC ABC Studios Fox ABC Studios
Very solid ratings performers in first run that basically found "no home" in off-net cable syndication compared to procedurals and situation comedies.
Source: TV Guide, Broadcasting And Cable, TV By The Numbers, RBC Capital Markets
Domestically, content producers are also able to monetize situation comedies through local broadcast stations off-network, most often through stripping. Much like the procedural drama, situation comedies are often somewhat self-contained. While characters are generally more important than they are in procedurals, they probably arent as important as the overall storyline. Unlike with a serialized drama, a viewer can come into a sitcom cold (without ever having seen an episode before) and follow the story. Furthermore, the half-hour format of the sitcom fits scheduling needs well for adjacent access programming. Unlike procedurals, however, sitcoms rarely have broad international appeal.
21
April 7, 2011
Exhibit 20: Select Off-Network Series to Station Syndication
Off-Net Launch 2001 2001 2002 2002 2004 2005 2005 2006 2007 2009 2010
Program King of the Hill Everybody Loves Raymond Dharma & Greg Will & Grace Malcolm in the Middle My Wife and Kids Bernie Mac Show, The According to Jim Two and a Half Men Office, The How I Met Your Mother
Studio 20th Century Fox CBS 20th Century Fox Warner Bros. 20th Century Fox Buena Vista/ABC Twentieth TV Buena Vista/ABC Warner Bros. NBC Universal 20th Century Fox
OffNetwork FOX CBS ABC NBC FOX ABC FOX ABC CBS NBC CBS
License Fee/Episode ($ mm) 3.0 2.5 2.8 1.3 2.0 2.2 2.0 2.0 1.5 1.8 1.4
While syndication figures are less available on the international side, our industry sources indicate to us the major franchise shows generally index around 1x for rest-of-world versus domestic. In other words, for a show like NCIS: LA, which generated ~$2.2 million in domestic syndication revenues per episode in its first window, it should also generate ~$2.2 million for syndication in the rest of the world. But other non-procedural content is far more difficult to monetize internationally. Situation comedies, for example, while being another major staple of both off-net cable and local broadcast programming, are incredibly difficult to monetize internationally. Humor is a somewhat culturally driven sensibility and it varies from country to country. For this same reason, the film industry has tended to focus on action adventures for tent-pole movie production since it is far easier to monetize abroad than comedies. One odd hybrid method of monetization (not quite first-run and not quite monetization) of non-fiction based programming is the sale of not actual content, but rather content format. For example, The Biggest Loser may not syndicate well, nor may Real Housewives of Orange County, but the producers of that content (Fox through Shine Media Group and NBC Universal, respectively) are able to sell a format to local producers. We have also seen such an opportunity with situation comedies as well. There is almost no expense associated with a sale (they come from existing scripts and developed ideas), and they offer very little risk to the buyer since the content tends to have at least some sort of proven track record. That said, international companies have tended to fair much better in that competitive landscape than have domestic U.S. producers.
Exhibit 21: International TV Programming Sales by U.S. Suppliers
4,500 4,000 3,500 (in $ mm) 3,000 2,500 2,000 1,500 1,000 500 0
19 98 19 99 20 00 20 01 20 02 20 03 20 04 20 05 20 06 20 07 20 08 20 09 20 1 20 0 11 20 E 12 E 20 13 20 E 14 E 20 15 20 E 16 20 E 17 E
Source: RBC Capital Markets estimates and SNL Kagan
22
April 7, 2011
Exhibit 22: Content Creation/Monetization Chain
International Syndication
Additionally, new OTT distributors (such as Netflix and Hulu) are providing another new window for distribution revenues. These deals tend to be more multi-title package (or library) based, as opposed to being priced by title. Its unclear how large a market OTT could become, but it has grown to a substantial marketplace from virtually nothing in only a few short years. We expect the OTT ecosystem to be a new and highly effective platform for the monetization of content that was historically under-exploited. In the initial examples below, reflective of the first stage of evolution of the ecosystem, OTT distributors have generally taken the form of purchasing content that was historically leveraged on traditional syndicated platformsTV sitcoms and some dramasthat had essentially played themselves out in the traditional syndication world. In other words, much of this content was simply unsyndicatable: it was either too old and circulated for a new buyer to come in and pay a material price for exclusivity (in fact, in the case of the recent CBS deal, much of it was actually available for free on the web), or it was a premium serialized drama that was very difficult to syndicate.
23
April 7, 2011
Exhibit 23: Recent Online Syndication Deals
Studio/Network Online Distributor Terms
Press reports indicate ~$200mm/year, one-year deal.
Content
Comments
Disney/ABC
Netflix
Previous seasons of current series on ABC such as Grey's Anatomy , old Previously, cable channel content was series such as Lost , ABC generally not available on-line. Family/Disney Channels that have aired as recently as 15 days prior. Virtually all of this content was available for free on ad-based streaming basis at CBS.com Previously, cable channel content was generally not available on-line. Given the risqu content and limited number of runs, this content would have gone largely unmonetized through traditional distribution. First major initiative for programming on Netflix as "first window" content. Non-exclusive multi-year agreement; extension of a prior agreement that included several library series
CBS
Netflix
Press reports indicate ~10% of CBS/Paramount TV archive ~$100mm/year, two-year deal, library. Examples include Family non-exclusive. Ties, Cheers, Star Trek, etc. Content includes recent episodes of Jon Stewart, Colbert and Jersey Shore. Off network syndication rights to Nip/Tuck.
Viacom/Comedy Central/MTV Time Warner/Warner Brothers Kevin Spacey/David Fincher News Corp./20th Century Fox
Hulu/Hulu Plus
Terms unknown
Netflix
$200K/episode
Netflix
Not disclosed, but press reports indicate ~$4mm per episode, for 20 episodes.
First run syndication deal for original series "House of Cards". First season of Glee, first two seasons of Sons of Anarchy, library series such as Ally McBeal and The Wonder Years
Netflix
Terms unknown
24
April 7, 2011
Exhibit 24: Illustrative Cost Per Spot for Fall Season 2010 (in $ 000's) -- Broadcasting
Networks ABC Spot 8PM 9PM 10PM 8PM 9PM 10PM 8PM 9PM 10PM 8PM 9PM Sunday Monday Tuesday Wednesday Thursday Friday 127 210 131 115 153 101 415 204 204 134 142/151 206/190 134 94 137 87 226 140 107 167 112 150 154 109 134 134 100 272 125 111/114 193/141 117 153 121 110 91 95 81 100 121 193 81 119 91 222 142 195/113 147 156 66 213/122 99 132 122 213 91 140 121 4.0mm $33 60 75 71 60 84 68 50 50 68 62 62 84 50 65 Saturday 100 Additional Comments Saturday night ABC College Football. Grey's Anatomy on Thursday at 9 on ABC is standout.
CBS
22 30 34 16 22 37 41/45 47 100 22 40
NBC
Sunday Night Football on NBC is standout along with The Office Thursday night The Office is major driver for NBC.
Fox
253/188 259/173
High 259 226 272 Low 131 87 100 Average 197 137 149 Average For Week Average Audience -- 18 - 49 Demographic Average CPM
Fridays and Saturdays are the graveyard of TV with lowest audiences and unit cost.
Note: / delineates half hour shows. Additionally, we have not included the CW, where CPMs are ~30% to 70% lower, on average.
The other major driver for advertising revenue in a network TV program is the audience watching the show. In its most simplistic form, the revenue of a show is the total number of Ms multiplied by the CPM, or total number of 1000 eyeballs times cost per 1000 eye balls: Audience/1000 * CPM * Number of Commercials = Total Advertising Revenues In reality though, a) the network doesnt keep all the advertising units that are run in a show (in a broadcast network, ~1012 of the 32 units, which are ~30 seconds in length in any hour of prime-time programming, are allocated to the local stations, while ~22 are allocated to the broadcast network or cable network), and b) the total audience isnt the audience that is actually monetized, its rather target demographic. Generally, we speak in terms of 18 to 49year-olds for primetime broadcast networks (cable networks often have more niche demographic targets). So, the core audience population of 18 to 49year-olds is ~131 million in the U.S. A rating point represents one percent of this population in the target demo. In general, we quote audience sizes where each rating point is a percentage of the U.S. TV population in that demographic group and equals: 2.90 million viewers, 1.31 million adults 18 to 49, 0.68 million adults 18 to 34 and 1.24 million adults 25 to 54. Even for a broadcast network, the average program is monetized twice off of its original license fee. Its monetized in one premier run (usually during the Fall and Spring) and one rerun (usually during the Summer or Winter).
25
April 7, 2011
Exhibit 25: Cable CPMs and Cable Ratings Trail Broadcast, Leading to Different Monetization Models
Primetime CPMs
$30 $25 $20 $15 $10 $5 $0 Cable -- Top 10 Broadcast $13 $28 3.0%
Primetime Ratings
2.50% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% Cable -- Top 10 Broadcast 0.83%
Given that cable gets half the CPM and 30% to 50% the ratings (for a premium, top 10 rated network), the cable network needs to monetize original content more efficiently. This is accomplished through multiple runs of the same episode. Additionally, affiliate fees help defray costs that advertising cannot cover.
Source: RBC Capital Markets estimates
The chart below is an attempt to illustrate the economics of primetime broadcast TV show, assuming a range of production costs, as well as CPMs and audience levels. Note that we have made some assumptions about audience levels and CPMs across genres and seasons. Ratings are somewhat seasonal with the third quarter being lower than average. But generally, broadcast networks will average ~2.52.75 Adult 18 to 49. We think reruns tend to generate audiences ~60% of first run, on average. Comedies tend to repeat better than serialized dramas. Interestingly, the economics reflected in the chart below are not inclusive of the impact of retransmission consent payments, which when allocated to particular programs, could greatly enhance profitability.
26
April 7, 2011
Exhibit 26: Illustrative Network Original Programming Economics for Broadcast Network Primetime Shows
License Cost Per Hour (000's) First Run Commercial Units Per Hour Retained By Network Retained By Affiliate 1 Average Ratings Points Total Audience (000's) CPM Total Advertising Revenue (000's) Total Advertising Revenue Retained By Network (000's) Re-Run (Second Run of Season) Commercial Units Per Hour Retained By Network Retained By Affiliate 1 Average Ratings Points 1 Total Audience (000's) CPM Total Advertising Revenue (000's) Total Advertising Revenue Retained By Network (000's) Combined Hourly Profit (000's)
1
Hour-Long Drama Low Mid-Range High $1,500 $3,500 $5,000 Low 32 20 12 1.5 1,965 $25 $1,572 $983 Low 32 20 12 1.0 1,309 $25 $1,047 $654 $137 Mid-Range 32 20 12 3.0 3,930 $30 $3,773 $2,358 Mid-Range 32 20 12 2.0 2,617 $30 $2,513 $1,570 $428 High 32 20 12 4.0 5,240 $40 $6,707 $4,192 High 32 20 12 2.7 3,490 $40 $4,467 $2,792 $1,984
1/2 Hour Comedy Low Mid-Range High $1,000 $1,750 $3,000 Low 16 10 6 1.5 1,965 $25 $786 $491 Low 16 10 6 1.1 1,474 $25 $590 $368 ($140) Mid-Range 16 10 6 3.0 3,930 $30 $1,886 $1,179 Mid-Range 16 10 6 2.3 2,948 $30 $1,415 $884 $313 High 16 10 6 4.0 5,240 $40 $3,354 $2,096 High 16 10 6 3.0 3,930 $40 $2,515 $1,572 $668
18-49 demo.
But network programming isnt limited to primetime. For the broadcast networks, it includes many other dayparts. CPMs in other dayparts such as daytime (MondayFriday) run closer to $6, or early morning (Good Morning America, etc.) which can run closer to $18. And pricing structure for programming is obviously different for those dayparts as well. As a result, the rest of the profitability of the schedule will vary. With respect to original cable programming, the model is somewhat different. Cable networks retain a much greater portion of their advertising inventory than broadcast networks, as there are no station affiliates to share the inventory with. As a general rule of thumb, cable networks retain ~28 of the 32 commercial units per hour, with the balance going to the local MSO distributor.
Exhibit 27: Advertising Inventory per Hour Retained by Networks
30 25 20 20 15 10 5 0 Broadcast Networks
Source: RBC Capital Markets estimates
28
Cable Networks
27
April 7, 2011
Additionally, generally, an original cable show will be shown a number of times in one week. This way, a program can be monetized more effectively, since a cable network programs 24 hours per day (as opposed to broadcast network which is programmed half that level), with an audience in primetime that that can be 25% the amount. Since the cost of the programming is spread over many more hours of advertising (as well as an allocation of affiliate fees), cable networks can still be profitable despite much lower primetime audiences.
Exhibit 28: Illustrative Network Original Programming Economics for Cable Network Primetime Shows
License Cost Per Hour (000's) First Run Commercial Units Per Hour Retained By Network Retained By Affiliate Average Ratings Points 1 Total Audience (000's) 1 CPM Total Advertising Revenue (000's) Total Advertising Revenue Retained By Network (000's) Re-Runs (Multiple Runs Of Episodes) Commercial Units Per Hour Retained By Network Retained By Affiliate Average Ratings Points 1 Total Audience (000's) 1 CPM Total Advertising Revenue (000's) Total Advertising Revenue Retained By Network (000's) Combined Profitability After 2 Runs (000's) Implied Number of Runs To Break Even
1
Hour-Long Drama Low Mid-Range High $750 $1,000 $1,500 Low 32 28 4 0.5 655 $6 $126 $110 Low 32 28 4 0.3 328 $6 $63 $55 ($585) 11x Mid-Range 32 28 4 0.7 852 $8 $218 $191 Mid-Range 32 28 4 0.3 426 $8 $109 $95 ($714) 7x High 32 28 4 0.8 983 $12 $377 $330 High 32 28 4 0.4 491 $12 $189 $165 ($1,005) 6x
Hour Long Non Fiction Low Mid-Range High $400 $600 $800 Low 32 28 4 0.5 655 $6 $126 $110 Low 32 28 4 0.3 328 $6 $63 $55 ($235) 4x Mid-Range 32 28 4 0.7 852 $8 $218 $191 Mid-Range 32 28 4 0.5 639 $8 $163 $143 ($266) 2x High 32 28 4 0.8 983 $12 $377 $330 High 32 28 4 0.6 737 $12 $283 $248 ($222) 1x
18-49 demo.
The prior exhibit is based purely on an advertiser-supported model. However, most general market cable channels are dual revenue stream based, so the network is able to monetize content across both subscription affiliate fees as well as advertising. Its difficult to figure out just how much of the affiliate fee should be allocated to any specific program, since the affiliate fee applies to a 24-hour period of content access. As a result, we simply assume that affiliate fees are spread across programming on un-weighted, even basis across a 24-hour programming period, 365 days per year. Its difficult to generalize monthly cable subscription affiliate fees since they vary immensely channel by channel. But generally, the monthly affiliate fees for the top 15 cable networks (excluding sports) is in the ~$0.301.00 range. To generalize, though, we would say most top general market cable networks have affiliate revenue contributions in the $350 million to $1 billion range, while smaller, niche-oriented top networks generate ~$200-500 million of affiliate revenues.
28
April 7, 2011
Exhibit 29: Annual Affiliate Revenues and Monthly Affiliate Fees/Sub for Select Cable Networks
1,400 Annual Affiliate Revenues Monthly Affiliate Revenues Per Subscriber $1.20
1,200 1,000
$1.00 $0.80
800 $0.60 600 $0.40 400 200 0 TLC Bravo $0.20 $0.00 ABC Family Channel Discovery Channel Lifetime Television History AMC FX Network A&E TBS USA TNT
The average cable network also doesnt generally program a 24-hour schedule with its own programming. On average, wed estimate the cable networks are programming about 25% of their day (six hours) with paid programming/infomercials. Adjusting for this programming, we see the following allocation of affiliate revenue for premium programming on an hourly basis:
Exhibit 30: Allocation of Affiliate Fees on an Hourly Basis
Annual Affiliate Fee Revenue Days Per Year Revenue Per Day 1 Hours Per Day Actually Programmed Revenues per Hour Actually Programmed
1
E! Entertainment TV
$250,000,000 $450,000,000 $650,000,000 $850,000,000 $1,050,000,000 365 365 365 365 366 $684,932 $1,232,877 $1,780,822 $2,328,767 $2,868,852 18 18 18 18 18 $38,052 $68,493 $98,935 $129,376 $159,381
Assume that cable networks run 6 hours of paid programming/informercials per day.
If we assume a generic $600 million of annual affiliate revenue across all of these networks (a blend of different types of major network and their affiliate fee generation), we revise our prior analysis as follows.
29
April 7, 2011
Exhibit 31: Cable Network Programming Runs to Break-Even, Assuming Affiliate Fee Allocation (in $ 000s)
License Cost Per Hour Total First Run Advertising Revenue Retained By Network Total Second Run Advertising Revenue Retained By Network Allocation Of Affiliate Fees Per Hour Of Programming 1 Combined Profitability After 2 runs Implied Number of Runs To Break Even
1
Hour-Long Drama Low Mid-Range High 750 1000 1500 110 55 99 (486) 11x 191 95 99 (615) 8x 330 165 99 (906) 7x
Hour Long Non Fiction Low Mid-Range High 400 600 800 110 55 99 (136) 4x 191 143 99 (167) 3x 330 248 99 (123) 2x
Assumes $500mm of annual affiliate fees spread over an 18 hour programmed day (balance of programming is infomercial/paid programming).
Note, we assume higher cost programming garners higher ratings. This would imply that the typical hour-long original drama programming would need ~8 runs to break even while the typical hour-long non-fiction programming would need 3 runs to break even.
Source: RBC Capital Markets estimates
The Difference between Pricing on a Production-by-Production Basis Versus a Packaged Channel Unbundled Content Is Expensive for the Consumer and a Tough Proposition for the Content Providers
The exhibit below illustrates the extraordinary content investment on a per basic subscriber basis (the traditional base over which content costs are shared in the existing ecosystem) and on a per viewer basis (the system, we believe, consumers are increasingly pushing for). The costs on a per-subscriber basis are striking while the costs on a per-viewer basis are overwhelming.
Exhibit 32: Cost of Content Allocated across Subscribers versus Actual Viewers
Content Expenses Allocated Evenly Across All Cable Subscribers Programming Expense Per Basic Cable Subscriber $32 $32 $27 $22 $113 Programming Expense Per Cable Subscriber per Month $2.66 $2.69 $2.28 $1.79 $9.42 Content Expenses Allocated Evenly Across Viewers Allocation of Number Of Programming Viewers Expenses for 1 (mm) Primetime 2.8 60% 4.0 60% 3.0 60% 3.4 85% 13.2 Estimated Primetime Expenses (mm) $1,971 $1,992 $1,690 $1,883 $7,536 Annual Programming Expense Per 1 Viewer $700 $494 $571 $551 $2,316 Programming Expense Per Viewers per Month $58 $41 $48 $46 $193
While not completely apples-to-apples, the exhibit illustrates the advantages of spreading the cost of content over a larger number of total subscribers, versus actual viewers. The cost of Big 4 Network primetime programming on a monthly basis is ~$193/viewer versus ~$9.42/basic cable subscriber. This helps us understand the drive for bundling versus la carte content, as a proposition for the consumer.
The economics of content cost per hour for a viewer for cable channels are lower, but they are nonetheless relatively higher than one might expect on a cost-per-viewer basis. However, when spread across the total basic cable subscriber base, they become almost de minimus.
30
April 7, 2011
Exhibit 33: Cost to Program a Channel
Cost/Hour (mm) Number Of Hours/Day To Program Total Cost/Day (mm) Total Annual Cost (mm) Total Viewers (mm) 1 Cost/Viewer/Day Programming Cost/Viewer/Month Programming Cost/Basic Cable Sub/Month Average CPM
Top 10 Networks $0.075 20 $1.50 $548 0.75 $2.00 $60.00 $0.45 $5.75
Cable Top 11-50 Networks $0.040 20 $0.80 $292 0.45 $1.78 $53.33 $0.24 $3.50
Broadcast Networks Top 51-100 Networks $0.010 20 $0.20 $73 0.08 $2.67 $80.00 $0.06 $2.00 Primetime Only $1.750 3 $5.25 $1,916 3.33 $1.58 $47.3 $1.6 $32.0
For Costs, on cable, assumes multiple runs of a single show "amortized" across a total day. For both cable and broadcast networks, assume total viewers 2mm+. For broadcast, assumes primetime total viewers of an "average" network, and for cable, assumes top 20 network average, total viewers, total dayparts.
So, on a cost-per-viewer basis, programming costs per month can range from $80 per month (for relatively under-distributed networks) to $47 per month for widely distributed broadcast networks. While these costs per viewer may seem extraordinarily high (and in the grand scheme of current bundled economics, they are), in the context of advertising revenues, they arent as bad an economic proposition as they first seem. This is especially the case for the larger networks, where reach allows for much better economies of scale, even over expensive programs that are more costly on an hourly basis. In fact, its the larger networks, with their higher cost programming, that are able to cover programming costs with advertising far more efficiently than smaller cable channels. For advertising-supported cable networks (as well as broadcast networks), the top 10 networks make money as they cover their cost of programming through revenue per viewers. But this is only on a gross basis. The exhibit below doesnt take into consideration the impact of overhead.
31
April 7, 2011
Exhibit 34: Unbundled Content Cost and Ad Revenue per Month of Network Content per Viewer
Revenue Per Viewer Per Spot/Viewer Total 30 Second Spots Retained By Network/Hour Total 30 Second Spots Retained By Network/Day Total Ad Revenue/Viewer/Month Total Annual Ad Revenue/Viewer
Broadcast Networks Top 51-100 Networks $0.002 28 560 $33.6 $30.2 Primetime Only $0.032 20 60 $57.6 $2,301.7
$120 $100 $80 $60.00 $60 $40 $20 $0 Top 10 Cable Networks Top 11-50 Cable Networks Top 51-100 Cable Networks Broadcast Networks $53.33 $58.8 $47.3 $33.6 $57.6 $96.6 $80.00
Programming Cost/Viewer/Month
Total Ad Revenue/Viewer/Month
In the case of top 10 cable networks and broadcast networks where scale is larger Ad revenues can exceed programming expense. But, these expenses EXCLUDE associated overhead.
When Overhead Is Added, It Becomes Obvious that the Whole Cable Ecosystem Rests on a Bundled Basis
Much like programming expenses, overhead, which is commonly referred to as Selling, General and Administrative (SG&A) costs, can vary materially by network. On an annualized basis, for larger cable networks, we believe SG&A likely runs in the $175 million $300 million range. For mid-sized networks, they likely run closer to the $50 million$175mm range. Smaller networks, meanwhile, can run as low as $5 million annually, but are probably closer to the $10 million$25 million range.
32
April 7, 2011
Exhibit 35: Total Network Overhead and Overhead Allocated per Viewer
350 300 250 200 150 100 50 0 Top 10 Cable Networks Top 11-50 Cable Networks Top 51-100 Cable Networks Broadcast Networks $83 $21 $26.65 $240 $23.72 $300
Total Overhead
Overhead/Viewer/Month
Note: For Broadcast networks, we assume roughly 2/3 of total network overhead, allocated to primetime (same as in chart above)
While its clear that mass reach networks create a heavy value proposition for operators, when overhead is loaded in, smaller networks, which together can accumulate the same numbers of viewers of any one mass reach network (thus demonstrating their reach and popularity on a combined basis in the world of highly fragmented TV viewership), are simply not profitable on an individual basis. It becomes very obvious in the chart below that on a bundled basis, the profitability on a viewer by viewer basis for the larger networks massively subsidizes the losing proposition of the smaller networks (on a viewer by viewer basis). In other words, the bundled package is what makes the sub top 50 networks a viable, noncost-prohibitive proposition.
33
April 7, 2011
Exhibit 36: Unbundled Content, Overhead Cost and Ad Revenue per Month of Network Content per Viewer
$120.0 $100.0 $80.0 $60.0 $40.0 $20.0 $0.0 ($20.0) ($40.0) ($60.0) ($80.0) Top 10 Cable Networks
Total Ad Revenue/Viewer/Month
$103.7
$57.6 $54.8
$2.8 ($9.8)
Broadcast Networks
Programming + Overhead/Viewer/Month
Only mass reach broadcast and cable networks (top 10) create an economic proposition for channels to operate on an unbundled, la carte basis. Most smaller networks are highly unprofitable on a per viewer basis.
Source: RBC Capital Markets estimates
Many Networks Have Historically Lost Money on Advertising Alone That Is Why They Have Affiliate Fees But the Prospect of Paying Affiliate Fees Based on Viewership Rather than on Total Subscribers Is Where the Proposition Becomes Less Clear
On a pre-affiliate fee basis, as in the examples given above, the typical network makes a profit/loss as follows.
Exhibit 37: Annual Profit/(Loss) Solely Based On Ad Revenue (in mm)
Broadcast Network Top 51-100 Network $30.2 $93.3 ($63.1) Primetime Only $2,301.7 $2,190.0 $111.7
Historically, the losses at the smaller networks have been subsidized by affiliate fees across the entire subscriber base, and gains at larger cable networks have been made even greater by affiliate fees.
34
April 7, 2011
Exhibit 38: Cable Networks Affiliate Fees per Viewer
Average Monthly Affiliate Fee Average Number Of Subscribers (mm) Total Annual Affiliate Fees (mm) Implied Affiliate Fees/Month/Viewer
These would be affiliate fees per viewer required to maintain current affiliate fee structure and profitability.
Source: RBC Capital Markets and Kagan
But for the purposes of this analysis, we are not interested in whether or not the cable channel operator can maintain its existing margins or profitability. For now, we are focused on the consumer and whether a move toward la carte consumption would bring more choices at lower prices for a wide range of consumers, or just a very select few. In that context, lets assume for a minute that cable channels must now operate on a per-viewer basis rather than being able to subsidize programming costs across an entire ~100 million basic subscriber base. In order to break-even, well let the network operator figure out what his own appropriate margins are in an la carte world, though as you can see below, the network operator will have very little motivation to move to la carte because it would be giving up a tremendous amount of affiliate feeswhat would the channel operator need to charge? The good news for the consumer is that for the larger channels with broader reach, at least for break-even purposes anyway, they wouldnt need to charge anything. However, as suggested in the chart in which we looked at advertiser supported results of the generic channel model, there would be an enormous uptick for the viewer who views more than five or six channels in the top 11 50 bracket and a virtually non-economic uptick for viewers in the top 51- 100 category.
Exhibit 39: Total Potential Profit (Loss) per Month on a Per-Viewer Basis
Profit (Loss) Per Viewer/Month per Networks $10 ($10) ($70) Implied Affiliate Fee/Viewer/Month For Break-Even per Networks $0 $10 ======= $70 =======
Top 10 Cable Networks Top 11-50 Cable Networks Top 51-100 Cable Networks
Number Of Networks 10 40 50
These networks are simply not viable on an la carte, per viewer basis.
Now, we have heard many investors (and consumers for that matter) argue that the high cost of subsidizing smaller channels is irrelevant; in theory, very few people watch them. So on a per-viewer basis, very few consumers would be economically penalized by a move to la carte in terms of choice. As a result, the average cost of content to the consumer on an unbundled basis would likely go down, since there would be lots of channels nobody wants to watch, which therefore dont need to be subsidized with affiliate fees. This, to us, is where the great fallacy of la carte content for the consumer lies. As illustrated in the chart below, roughly two-thirds of the cable channel viewing audience is associated with relatively low margin-tomoney losing economics. The chart below demonstrates the total number of ratings points associated with each tier.
35
April 7, 2011
Exhibit 40: Cumulative Ratings Across Cable Networks by Tier
0.00 Top 10 Cable Networks Top 11-50 Cable Networks Top 51-100 Cable Networks
~2/3 of viewership is attributable to networks, that, on an la carte basis, represent a non-compelling economic proposition for operators.
Source: RBC Capital Markets estimates and Kagan
What Is the Value Proposition to the Consumer of the Current Ecosystem? What if Over-TheTop Providers Can Offer More Non-linear, Video-On-Demand Content than Any (or Many) Linear Channel, but for a High-Single Digit Monthly Subscription Fee?
The current TV ecosystem (whose distribution mechanism includes some over-the-air consumers, but for the vast majority, consists of Pay TV subscribers) invests ~$30 billion annually in TV programming expenses for its consumers. We would compare this to estimates for the subscription online video distributors of an estimated ~$1 billion in 2012. Today, this consists largely of Netflix, but over time, its likely to be an expanded universe potentially consisting of other players such as Amazon, Google, or Apple.
36
April 7, 2011
Exhibit 41: Programming Expenses for Current TV Ecosystem vs. Subscription Online Video Distribution
35,000 30,000 25,000 (in $ mm) 20,000 15,000 10,000 5,000 0 Television
Basic Cable Original
Source: RBC Capital Markets estimates and Kagan
$11,638
$12,727
$7,437
Granted, there is a trade off. The consumer will likely pay more for a video subscription in the traditional ecosystem than in an alternative subscription-based online video distribution model such as Netflix. Assuming a generic $60 per month cable subscription versus an online video subscription service of ~$10 per month, the consumer could conceivably save ~20% of his video subscription costs. However, by giving up a double/triple-play video service, the consumers broadband bill would likely increase ~$15. So, the net savings would be ~60%. So, the real question for the consumer is whether or not he believes the ~60% savings in monthly outlay for video services compensates for the 97% lower investment in content.
Exhibit 42: Out-of-Pocket Savings versus Loss of Access to Content
70% 60% 60% 50% 40% 30% 20% 10% 3% 0% Monthly Out Of Pocket Expense Decline
Source: RBC Capital Markets estimates
37
April 7, 2011
Wed also note that as time goes by, wed expect the market for OTT content to become more competitive, increasing either the cost to the end user for content (likely driving subscription prices higher) or the delta between programming investment in the traditional ecosystem and the emerging subscription OTT ecosystem.
4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 Top 10 Cable Network $525
$4,000
$0.61 $0.60 $0.60 $0.59 $0.58 $0.57 $0.56 $0.55 $0.54 $0.57
6% Difference
662% Difference
Broadcast Network
Broadcast Network
Despite ~6.5x the programming investment, broadcast networks only garner ~6% more affiliate fee per subscriber.
For the larger O&O groups, who provide content to only ~55% of the country, they are receiving only ~$10 million per month or $120 million per year at $0.20 per sub while the smaller O&O operators such as ABC and NBC will be receiving closer to ~$240 million per year.
Exhibit 44: Reverse Compensation versus Investment in Content
Annual Reverse Compensation Received by Broadcast Networks 300 250 (in $ mm) 200 150 100 50 0 Larger Owner Of O&O's Smaller Owner Of O&O's $120 $240 Average Annual Broadcast Network Programming Investment
$4BN
38
April 7, 2011
Network TV Pricing Trend Proprietary Upfront/Scatter Pricing Trend Analysis Indicates Viacom and Discovery Have the Most Tailwind and Scripps Has the Most Headwind as 2011 Progresses
In our 4Q10 preview note on January 21 titled A New Dtente In OTT?: RBC Media, Entertainment & Advertising Update, we introduced our proprietary network TV pricing analysis for major cable and broadcast networks in our coverage universe. Network pricing is comprised of two basic components: upfront pricing (for which inventory is typically sold in May of the prior broadcast year) and scatter pricing (which is basically the spot market). The two components multiplied by eyeballs (or ratings change) will generally point directionally (if not exactly) to broader advertising revenues for networks. But first, one must arrive at a blended (upfront/scatter) pricing metric, which is more art than science from the outside. Upfront pricing is generally quoted on the basis of a year-over-year increase (vs. the prior year upfront pricing), while scatter pricing is generally quoted on a premium-to-upfront basis, particularly in the press and in investor events. However, its virtually impossible to derive a year-over-year impact from scatter-over-upfront pricing quotes. In our proprietary analysis, we use both our proprietary channel checks as well as publicly available data (commentary typically given at investor events/earnings calls) to make our best estimate on scatter-over-scatter pricing. Wed note that upfront pricing changes are relatively transparent given both public comments and consistent data found in our channel checks. To arrive at a blended pricing (upfront + scatter), one must also know the current and prior years split on upfront vs. scatter inventory. For this, we also use our channel checks to derive the shift in inventory weightings for each category. We perform the analysis for the cable network groups in our coverage universe, as well as for the ABC and CBS broadcast networks, for which we believe we have an accurate enough data set. In doing so, we can compare which networks have a pricing tailwind vs. those facing a headwind in the 2010-11 broadcast year. We think there are two key metrics regarding pricing that could help determine how the networks (and thus the parent companies) are likely to perform on an absolute basis, as well as relative to each other. The first key metric is simply the year-over-year increase/decrease in blended pricing. The second is quarter-over-quarter acceleration/deceleration in blended pricing. Note, given the mix differences for broadcast and cable networks between upfront and scatter inventory (broadcast networks tend to have a materially greater proportion of inventory allocated to upfronts), comparisons of pricing trends between cable and broadcast are somewhat difficult. As a result, in our summary chart below, we highlight the relative performance of just the cable networks (although, later we do illustrate the analysis for the broadcast networks as well). Management commentary and our channel checks in recent weeks suggest that cable network scatter premium (vs. upfront) has remained consistent to slightly better than where it was in C4Q10; we believe C1Q11 scatter-to-upfront premium was ~20%+ for cable networks overall. For the broadcast networks, we believe scatter-to-upfront premium was slightly better than where it was in C4Q10, up ~30%+ vs. the upfronts in C1Q11. The lack of available inventory (on declining ratings) may be pushing scatter pricing higher for the broadcast networks. Conclusion: Discovery and Viacom to have the most pricing tailwind behind them on a year-over-year basis; Discovery also has the best pricing profile on a sequential acceleration/deceleration-basis from C4Q10-C3Q11. On the other hand, Scripps has the most pricing deceleration heading into the back half of 2011. We think there may have been somewhat of a lag in the scatter pricing pickup for Viacoms networks last year, and the particularly hot scatter market for MTV likely did not kick in until C2H10, making comps easier in C1Q11 but more difficult in C2H11. Discovery appears to have the most consistent scatter pricing momentum in 2010 and 2011.
Exhibit 45: Summary of Proprietary Upfront/Scatter Pricing Trend Analysis
YoY Blended Pricing Growth
Network Group Discovery Networks Scripps Networks Turner Networks Viacom Networks Average
Does not reflect potential pricing strength for NCAA
1Q11 2Q11 3Q11 8.8% 6.8% 6.5% 9.8% 5.0% 3.8% 6.1% 4.9% 4.9% 9.4% 7.7% 5.1% 8.5% 6.1% 5.1%
Network Group Discovery Networks Scripps Networks Turner Networks Viacom Networks Average
1Q11 2Q11 3Q11 20 (207) (26) (213) (472) (124) (434) (124) 0 6 (171) (254) (155) (244) (101)
Discovery and Viacom have the most pricing tailwind behind them on a YoY-basis; Discovery also has the best pricing profile on a sequential improvement-basis from C4Q10-C3Q11. Scripps has the most pricing deceleration heading into the back half of 2011.
39
April 7, 2011
In the exhibits below, we show historical commentary from management of each company regarding upfront/scatter pricing as well as a detailed analysis of upfront, scatter and blended upfront/scatter pricing trends for each of the network groups.
Exhibit 46: CBS Historical Scatter Pricing Commentary from Management (CBS Broadcast Network)
Date 16-Feb-11 4-Nov-10 3-Aug-10 5-May-10 10-Feb-10 5-Nov-09 6-Aug-09 7-May-09 18-Feb-09 30-Oct-08 Earning Call CY4Q10 CY3Q10 CY2Q10 CY1Q10 CY4Q09 CY3Q09 CY2Q09 CY1Q09 CY4Q08 CY3Q08 Commentary on Historical Performance Scatter premium up by over 35% Scatter up more than 35% over the upfront Scatter Premium up 25% (advertising up 5%) Scatter pricing up 30% over last year's upfront Primetime scatter premium up an average of 25% Scatter pricing higher than upfront, however, not as robust as it was a year-ago Softer scatter pricing; slightly above upfront, however, not as robust as it was a year-ago Scatter pricing higher than the upfront; not as high as in the CY4Q07 Forward Commentary Scatter pricing for first quarter up more than 40% over upfront Pricing at the network is robust, up 40% above last year's upfront Scatter premium projected to be up more than 30% in CY3Q10 So far in CY2Q10, scatter premium up 20% plus So far in CY1Q10, primetime scatter premium up more than 30% In CY4Q09, scatter premium up nearly 25% Stronger scatter market in CY3Q09 than in the previous quarter Scatter pricing slightly above the upfront
40
April 7, 2011
Exhibit 48: DIS Historical Scatter Pricing Commentary from Management (ABC Broadcast Network)
Date 8-Feb-11 11-Nov-10 10-Aug-10 11-May-10 9-Feb-10 12-Nov-09 30-Jul-09 5-May-09 Earning Call CY4Q10 CY3Q10 CY2Q10 CY1Q10 CY4Q09 CY3Q09 CY2Q09 CY1Q09 Commentary on Historical Performance Scatter pricing 24% above upfront levels Network scatter premium over upfront up 23% At ABC Network, scatter premium up 33% Scatter premium up more than 35% Scatter premium up more than 20% Network Scatter premium modestly ahead of the up front - Scatter premium up by roughly 10% - Significant YoY fall in scatter-over-scatter pricing Forward Commentary In CY1Q11 (till date), scatter premium up 30% In CY4Q10 (till date), ABC Network's scatter premium is up 22% So far scatter premium up almost 20% So far scatter premium up almost 30% In CY1Q10 (till date), scatter premium up almost 30% So far network scatter premium up almost 20% Well positioned for the scatter market - Scatter pricing slightly above upfront pricing - Scatter-over-scatter pricing YoY growth in high single digits At ABC Network, scatter pricing running at low double digit percentages ahead of upfront
3-Feb-09
CY4Q08
6-Nov-08
CY3Q08
Upfront pricing YoY change Scatter pricing Scatter-over-upfront Scatter-over-scatter Blended pricing YoY change
1.12
1.10
1.10
1.11
41
April 7, 2011
3-Aug-10
CY2Q10
30-Apr-10
CY1Q10
- Blended pricing slightly above the prior year - Scatter premiums averaging high teens; mid-single digits growth YoY Scatter premiums in high teens to mid-20% range across networks; sequential improvement of over 1000 basis points Scatter premium below the prior year's 20-30% premium Sequentially weaker scatter premium YoY decline in scatter premiums; however, above the upfront prices Improving scatter pricing Scatter pricing at a premium to prior year upfront - Scatter premium remains in double digit, but with a narrowed gap - YoY decline in scatter-over-scatter prices -
25-Feb-09 7-Nov-08
CY4Q08 CY3Q08
YoY decline in scatter-over-scatter prices Scatter prices above upfront and year-ago levels
42
April 7, 2011
Exhibit 52: SNI Historical Scatter Pricing Commentary from Management
Date 10-Feb-11 4-Nov-10 9-Aug-10 6-May-10 10-Feb-10 6-Nov-09 6-Aug-09 8-May-09 Earnings Call Scatter vs. Scatter 4Q10 3Q10 2Q10 1Q10 4Q09 3Q09 2Q09 1Q09 Up mid-to-high teens in 4Q; up mid-to-high teens in 1Q Up mid-to-high teens in 3Q; up mid-teens in 4Q Up in the mid-to-high teens in 2Q; up mid teens in 3Q Up high-single digits in 1Q; Up mid-teens in 2Q Down YoY in 4Q09 but now in the plus territory (mid-singles) in 1Q10 Seeing scatter pricing that is at or slightly above the level of last year's scatter in 4Q Scatter-to-scatter pricing was off YoY in 2Q Early in 1Q, scatter-to-scatter pricing declines were at 10-12%, but it has been improving steadily (not quite flat yet)
Scatter vs. Upfront Up mid-to-high 20s over upfront; In 1Q up mid-20s over the most recent upfront Up 25-30% in 3Q; up low-to-mid 20s vs. new upfront in 4Q Up as much as 25% to 30% in 2Q 2Q trending up 20-25% Up over upfront pricing In excess of mid-teens to high teens over upfronts in 4Q Scatter-to-upfront pricing is holding at 4-5% above last year's upfront in 3Q Scatter pricing has continued to hold up well over upfronts; 2Q scatter coming in a little better than upfronts
5-Feb-09
4Q08
- Scatter versus scatter for both networks is down compared to last year's very hot scatter market. Food down ~8% and HGTV down ~12% in Food up 11% over the upfronts; HGTV is ~flat in 1Q. Strategy is to 1Q maintain scatter at or above upfront - Across all networks, down ~10% in 1Q Scatter has softned in 4Q. Blended scatter pricing in 4Q up ~4% YoY Moderated from a torrid pace in 1Q/2Q - up mid-single digits in 3Q Pacing at 20-25% better than last year's upfronts in 3Q
29-Oct-08 24-Jul-08
3Q08 2Q08
43
April 7, 2011
44
April 7, 2011
Strong scatter market Scatter premium up double digits Scatter market remains strong Scatter market active throughout CY3Q with increasing scatter Double-digit premiums over the upfront pricing premiums Scatter market strengthening towards the end of CY2Q Stable scatter pricing to date Strong scatter pricing
45
April 7, 2011
"Hold period" -- upfront inventory commitments generally are not yet contractually written during this time Upfront "breaks" at end of May New broadcast year begins
We are relatively unconcerned by this potential situation because, while its technically possible to make phantom buys and cancel them, the relationship nature of the advertising business (according to both buyers and sellers in our channel checks) makes it very difficult and thus unlikely that an advertiser would choose not to honor a commitment. It would be very difficult, for instance, to see how an advertiser could cancel an upfront buy after making a phantom commitment and then expect to get fair treatment in the scatter market, or even future upfronts. Its been described to us by both buyers and sellers simply as dirty pool. That said, we think that network sellers will be working diligently to put into place far greater teeth on upfront commitments either by requiring earlier contractual execution than normal or by making it perfectly clear that phantom buys wont be tolerated in the context of long-term business. Buyers, on the other hand, will likely seek to establish material adverse change clauses that would allow for onthe-fly advertising budget allocation changes, without penalty.
46
April 7, 2011
In general though, we think the uncertainty surrounding the NFL lockout will generally lead to the kind of inventory dynamics that will put increasing upward pricing pressure on upfront inventory. This will likely be compounded by the continual downward spiral in overall broadcast network audiences, which has created an odd paradox in which pricing keeps increasing as audiences continue to dwindle. The scarce commodity of network TV audiences and their necessity in marketing continue to give broadcast networks a tremendous amount of pricing leverage. In this context, we believe the outlook for low-teens upfront pricing increases and highsingles upfront volume increases, especially for the broadcast networks, look realistic.
47
April 7, 2011
Network TV Ratings Update Surprise! Cable Taking Viewership Share From Broadcast
After what seemed like a period of stabilizing broadcast network viewership share (vs. cable), in C1Q11, cable networks once again extended its viewership share gain at the expense of broadcast nets, giving more credibility to our secular bull thesis on cable networks.
Exhibit 59: Cable vs. Broadcast 1Q11 A18-49 Ratings Share
60 51.2 50 37.6 40.6 39.6 39.6 40.6 42.1 39.5 38.6 46.3 47.1 47.3
40
43.8 33.9
36.3 42
38.2
30
20
10
1Q08
1Q09
1Q10
Broadcast
Source: Nielsen
Broadcast network ratings were soft across the board with Fox being the only network to show YoY increase in the A18-49 primetime category (up 2%). Ratings at Fox were partially helped by American Idol, which accelerated beyond expectations after the first few weeks, but results were somewhat skewed by the Super Bowl excluding the Super Bowl, Fox ratings would have been down YoY, and ratings growth at CBS (which had the Super Bowl in the prior year) would have been at least a few hundred bps better than what was reported. NBC faced tough comps given the Winter Olympics a year ago, and ratings excluding the Olympics may have been closer to flattish. At ABC, while some shows were working well, such as Wipeout and Dancing With The Stars, the aging of stalwarts like Greys Anatomy and the failure to generate a new big hit (No Ordinary Family stands out as a disappointment) continued to weigh heavily on the network. That said, of our coverage universe, Disney probably has relatively less to lose (or gain), as compared to its peers, from weakness (or strength) in the network TV side given its lower overall reliance on the broadcast network TV business. While C4Q10 broadcast network viewership had some support from robust NFL football viewership, we think the end of the football season as well as the networks inability to create new hits (CBSs Bluebloods and Hawaii Five-0 have garnered some positive results, but there has not been much outside of that) have weighed down on overall broadcast networks ratings in C1Q11.
Exhibit 60: Broadcast Network 1Q11 Ratings
1Q11 NWS FOX CBS CBS DIS ABC GE NBC -32% 1% -5% 0% 7% -24% excl. Winter Olympics 2% 4Q10 -15% 3Q10 -10% 2Q10 0% 1Q10 -2%
-20%
-1%
-6%
-4%
9%
-12%
-8%
13%
13%
-14%
Source: Nielsen
48
April 7, 2011
In terms of cable networks, Viacom continued to stand out. MTV ratings were up 60% in primetime for A18-34. MTVs ratings turn continued to be about how Jersey Shore was able to lift the broader schedule. We believe the network is trying to reach beyond docudramas such as Jersey Shore (fourth season currently under production), and launch more scripted fare, giving the network a complexion more like other mainstream cable nets, and allowing it to have a much easier time carrying its momentum into 2012 and beyond. Other than MTV, BET was able post the first quarter of ratings gain after several quarters of declines and Comedy Central ratings also gained 15% in primetime A18-49 in C1Q11. While VH1 ratings continued to decline double-digits, a wholesale reprogramming of the channel later in the year should help reverse that trend. Disneys portfolio was greatly aided by ESPN up 39% in primetime for A18-49, helped in no small part by exploding audiences for the BCS bowl games ESPN carried five of the big 5 college bowl games in January versus none in the prior year. As for News Corp., FX had a very strong resurgence in ratings (up 20% in primetime A18-49) helped by new show launches. While there will likely be some lag between ratings gains and ad growth, the ratings gain in C1Q11 (if sustained at a certain level) should help C2Q11 results. At Time Warner (Turner), CNN benefited from a very strong news cycle with the tragic events in Japan and the socio-political unrest in the Middle East. We think the rebound in CNN ratings confirmed what media buyers have been telling us for a while that the ratings issues at the network was more news cycle-related with the more extreme-leaning competitors (Fox News Channel and MSNBC) likely to gain in the absence of a major news cycle (war, hotly contested election, etc.). Discovery saw some level of rebound in ratings at its flagship Discovery Channel, while TLC ratings were more or less at a stable level. ID continued its hot streak with primetime A18-49 ratings up 50% in the quarter. Recall that somewhat soft ratings across Discoverys portfolio had a negative impact on 4Q10 ad growth the improvement in overall ratings likely allowed for improvement in ad growth as well in C1Q11. Scripps Networks two flagship channels (Food Network and HGTV) saw some level of stabilization in ratings after material declines in C4Q10 that led to the Company having to take reserves for potential future make-goods (resulting in a negative impact to 4Q10 ad growth). Travel Channel ratings continued to show solid gains - up 18% in day-part A18-49. We continue to keep a close eye on Food/HGTV ratings as the year progresses; while wed like to see a stronger rebound in Food/HGTV ratings, media buyers indicate that, relative to other networks, Scripps Networks content is clean, with almost all programming friendly to advertisers, unlike programming at other hot networks like MTV.
Exhibit 61: Cable Network 1Q11 Ratings Summary
1Q11 Thru 3/20/11 Audience Size (MM) NWS Fox News FX DIS ESPN ESPN2 ABC Family VIA MTV VH1 BET Comedy Central Nick Nick At Night DISCA Discovery Channel TLC Animal Planet ID TWX TNT TBS CNN ADSM TOON SNI Food HGTV Travel
1 2
0.197 0.495
20% 3% 6%
1% -12% 27% 0% NA
Adults 18-49, except Nick and TOON (kids 2-11) and MTV (Adults 18-34). Total Daypart vs. 4Q10
Source: Nielsen
49
April 7, 2011
Exhibit 62: Cable Network Quarterly YoY Ratings Trend
75%
55%
35%
15%
Discovery Channel
TOON
ESPN
ESPN2
Comedy Central
Nick At Night
-25%
-45%
2Q10
3Q10
4Q10
Source: Nielsen
Network TV Market Update More Of The Same With Pricing Hot And Inventory Scarce
Our most recent channel checks continue to sound a lot like what we have been hearing for the past 12 months. Strength is broad across almost all categories with no indication of a slowdown in auto. With rampant under-delivery in ratings and national dollars continuing to flood-in, the market place was among the tightest it has been in a decade, continuing to drive pricing up to nosebleed levels on minimal inventory. While broadcast network sell-outs are always in effect, cable networks tend to have more inventory availability, which generally goes to lower CPM generating direct response (DR), though we think overall market tightness has allowed cable nets to transition DR to more premium inventory. While networks continue to quote scatter-over-upfront pricing levels in the high-teens to 30%+ range (depending on the network), we think our channel checks with scatter-over-scatter pricing are more revealing of YoY pricing trends. These checks indicate scatter-over-scatter varies from the teens-to-20s range, depending on the network. As we expected, there was no material cancellation activity in the first quarter of 2011, and future cancellation activity appears minimal heading into option deadlines. Combined with an upfront-pricing increase in the high-single digit range and weak ratings, volumes for the first quarter of 2011 were likely up in the low to mid-single digits for broadcast networks and high singledigits for cable networks. In terms of the outlook for the rest of the broadcast year, it seems as if we are seeing more of the same. With advertisers so far expressing little interest in C3Q11 cancellation options and ratings trends largely consistent with C1Q11, there is too much money chasing too little inventory. According to our channel checks with buyers and sellers alike, there is some caution in the market place, especially with respect to auto should sales start dropping, it is entirely possible that national brands will pull back on advertising. At this point, however, there is nothing visible that would indicate any sort of slowdown. We think Turner and CBS were big beneficiaries in the first year of their new joint venture in broadcasting the NCAA basketball tournament.
Animal Planet
Fox News
ABC Family
ADSM
HGTV
Travel
MTV
BET
TNT
FX
TLC
ID
TBS
CNN
VH1
Food
Nick
-5%
50
April 7, 2011
Exhibit 63: Cable and Broadcast Networks Summary Of Recent Management Commentary
NWS
Cable advertising revenues grew 17% while affiliates revenues increased Currently, TV businesses benefiting from very strong advertising markets 11% Strong scatter market with pricing up more than 33% above the upfront Network advertising revenues grew 8% due to solid pricing gains in primetime and sports Scatter pricing in the quarter was up 35% US Networks advertising revenues grew 13% International Networks advertising revenues were up 12%
Robust scatter market pricing, up 40% above last year's upfront First quarter domestic ad sales to exceed fourth quarter levels Management encouraged by the improved pricing and ad trends
Domestic advertising revenues grew 10% driven by strong scatter market Momentum/acceleration expected to continue into the C1Q11 Cable networks advertising increased 21% Domestic entertainment networks grew advertising strong double digits in the quarter International network organic advertising revenue growth was in the high single digits Ad revenue for ESPN came in 34% above prior-year, driven in part by strong demand for NFL programming Scatter pricing above 24% vs. upfronts Cable revenue increased 6.9% Ad revenue was up 29.3%; up 10.2% excluding political revenues Improvements were driven by strength in automotive and political spending Management expects strong advertising growth in FY11 Domestic scatter pricing remains very strong, up solid double digits over the upfront Advertising trends are also very positive at international networks C1Q11 scatter pacing up 30% above upfronts ESPN ad growth pacing up double-digits Integration of NBCU to provide new growth opportunities in advertising and content
TWX
DIS
CMCSA
51
April 7, 2011
Local TV
BLC 22% increase in spot revenue; Local spot revenue increased 1.2%, while national increased 7.1% Near record political revenue of $35.7 Automotive revenues increased 29% and financial services, telecommunications and grocery and food products experienced double digit growth 24% increase in net revenues primarily driven by strong political advertising $28.2 million of political revenue, representing 23% of total TV advertising revenues Automotive, Financial services, Lottery and gambling, Education and media communications increased 10%, 41%, 32%, 20% and 12% respectively Television revenues increased 32.1% driven by $9.4 million in political revenue Strengthening in non-political revenue including improved automobile advertising 27% increase in total revenues $52 of political revenue Domestically, results were strong in auto and employment, while real estate continued to show slower growth Local television station revenues increased 20% Revenues were driven by higher political spending and overall improved local advertising Automotive advertising represented the next largest portion of revenue growth Ad revenue at TV stations up 20%, driven by higher political advertising demand Television stations advertisings up 28% Strength in television was broad-based led by political spending and automotive Advertising and circulation revenues declined 6.9% and 3.3% respectively Print Advertising weakness was driven by 8.4% and 18.7% declines in retail and real estate Classified revenues were down 6.6% due to weakness in real estate and automotives Print advertising declined 7%; circulation revenues down 4% By total advertising category, national and retail revenues were each down 2%, classified was down 8% Publishing revenues were down in the mid single digits In US, Classified advertising declined by just 2% as auto and employment were up 7% and 10% respectively Daily newspaper revenues increased 5.3% National advertising up 11.3%, benefiting from a range of categories. Classified revenues were down 11% mainly due to weakness in real estate, which declined 35.8% Spot revenue excluding political to grow in 2011, but at a more moderate rate than in 2010 Difficult comps in C1Q11 due to Super bowl, Olympics and political revenues in C1Q10
TVL
C1Q11 net revenues expected to be flat to down 1% due to off political cycle Excluding political and the Olympics, net revenues to be up about 4% Anticipates FY11 advertising revenue to decline to moderate and total revenue declines to mirror 2010 Expects total television revenues to be up in the very low single digits
JRN
GCI
Local advertising trends point to a growing and stable market ahead Supported by sturdy auto, telecom, and financial advertising demands Pacing up double-digits Optimistic outlook for local business in FY2011, even without the Super Bowl or political TV stations' advertising revenues are pacing to be flat
Newspapers
MNI Both national and retail advertising decline expected to be more than that in the fourth quarter
NYT
Limited visibility; advertising revenues continue to be highly volatile Circulation revenues expected to decrease in line with the declines experienced in the 2H10
GCI
JRN
Anticipates FY11 publishing revenue to decline to moderate and total revenue declines to mirror 2010
Radio
ETM Net Revenues increased by 6% National revenues continued to be strong while local revenues started to accelerate Digital revenues continued to post robust growth, up close to 50% Political revenues were $3.3 for the quarter Revenues up only slightly to $69.8 million; ex one-time non-cash revenue event in Q409 revenues up 6.2% Apart from political, continued strength exhibited nationally, with auto, education, insurance, home improvement, and restaurants driving local revenues Radio revenues increased 0.2% Strengthening in non-political revenue including improved automobile advertising Management quite optimistic about business for 2011, expects recovery in local ad spending
CMLS
With respect to C1Q11, CMI's revenues currently pacing at 2.5% up, while CMP's up at 3% Anticipates FY11 advertising revenue to decline to moderate and total revenue declines to mirror 2010
JRN
Magazine
MDP Reported 14% increase in total Company ad revenue; 30% growth in Local Media Group ad revenue, including $22 million in net political advertising, while National Media Group increased by 5% Achieved increase in net advertising revenue per magazine page; Online advertising revenues grew more than 30% Revenue from Publishing segment, including print and digital, was down to $44.6 million compared to $47.6 million in the prior year quarter Excluding the Weddings issue, print advertising revenue down $2.5 million and circulation revenue down $0.5 million National Media Group advertising revenues increase is expected to be in the mid single digits for C1Q11
MSO
FY2011 EBITDA estimates at ~$30 million, representing at least 15% growth In C1Q11, Publishing revenue expected to be up low single digits, with print ad revenue growth in a similar range and digital ad revenue growth a bit higher
52
April 7, 2011
2011 Box Office Season Starting The Year With A WhimperNot Expecting Much Until The Summer
Whereas last years box office season started with a roar (with several blockbuster releases such as Alice in Wonderland and carryover of Avatar from 4Q09), the start to the 2011 box office season has been a disappointment for the most part, with just two releases in 1Q11 barely making more than $100 million at the domestic box office (versus four film releases in 1Q10 making more than $100 million at the domestic box). 1Q11 domestic box office receipts were down a whopping 21% YoY partly due to extremely difficult comps and partly due to lower-than-expected performance from the quarters releases. This follows a disappointing 4Q10 when domestic box office receipts were down 10% YoY after three relatively decent quarters. Major Hollywood studios seem to have hit a slump in terms of being able to produce major hits, and we may have to wait till the summer to see a turn in fortunes.
Exhibit 65: 1Q10 vs. 1Q11 Tentpole Comparison
1Q10 Tentpoles
Release Date 26-Mar-10 5-Mar-10 19-Feb-10 12-Feb-10 12-Feb-10 15-Jan-10 Movie Title Studio How to Train Your Dragon P/DW Alice in Wonderland (2010) BV Shutter Island Par. Percy Jackson & The Olympians: The Lightning Thief Fox Valentine's Day WB The Book of Eli WB Total Domestic BO (mm) $217.6 $334.2 $128.0 $88.8 $110.5 $94.8 $973.9 Release Date 4-Mar-11 11-Feb-11 11-Feb-11 14-Jan-11
1Q11 Tentpoles
Movie Title Rango Just Go With It Gnomeo and Juliet The Green Hornet Studio Par. Sony BV Sony Domestic BO (mm) $113.8 $101.4 $96.9 $98.3
Total
$410.3
1Q11 Tentpoles were a disappointment overall with a decline of ~60% over the prior year
Tentpoles included films that made (or are expected to make) at least $85 million at the domestic box office. Source: Boxofficemojo.com, RBCCM research
3Q
2010 Domestic Box
4Q
2011 Domestic Box
1Q
A closer look at the monthly domestic box office performance shows that the box office slump has persisted for quite some time now on a monthly basis, each month since July 2010 was down YoY. The stellar performance in July 2010 which was helped by Toy Story 3, The Twilight Saga: Eclipse, Inception, Despicable Me, etc. faded quickly throughout the rest of 2010 and into 2011. As detailed in our 4Q10 preview note on January 21 titled A New Dtente In OTT?: RBC Media, Entertainment & Advertising Update, the 2010 winter holiday box office season was a huge disappointment and so far it seems like major Hollywood studios havent been able to buck the negative trend in 2011.
53
April 7, 2011
Exhibit 67: Monthly Domestic Box Office Trend (in mm)
$1,400 28.1% $1,200 $1,000 8.2% 4.3% $800 $600 $400 -2.0% -11.0% -3.0% -3.6% -0.3% -0.5% 13.0%
40% 30% 20% 10% 0% -9.3% -12.6% -16.9% -28.7% -17.9% -10% -20% -30% -40%
Au gu st Se pt em be r Oc to be r No ve m be r De ce m be r Ja nu ar y Fe br ua ry M ar ch M ay ar y e Ju n ua ry M ar ch Fe br Ap ril Ju ly
$200 $0
Ja nu
YoY Change
Source: Boxoffice.com
Solid International Box Office Saved The Studios In 2010 And 2011 Will Likely Continue To Show Solid Over-Indexing Internationally
Despite a soft finish to the year at the domestic box office in 2010, it was overall another solid year in terms of over-indexing of tentpole films internationally. In 2010, the weighted average domestic-to-international box office conversion was a healthy 1.43x (for films that generated over $85 million at the domestic box office). We had noted in the past that Hollywood is becoming increasingly focused on action/adventure tentpole franchises as they tend to perform much better at the international box office, with domestic-tointernational box conversion often over 2x. Our industry sources also indicate that the build-out of theaters abroad (especially in emerging markets) over the past few years has helped increase attendance in those regions, and Hollywood studios are simply taking advantage of this trend by focusing more on culturally neutral action/adventure movies. As weve noted in the past, comedies tend to perform poorly at the international box office likely given their strong ties to American culture and the fact that its difficult to translate humor; with the exception of Sex and the City 2, this years major comedy releases (Grown Ups, The Other Guys, Date Night, Due Date) indexed at much less than the average internationally, proving our point. However, comedies tend to cost much less than $100 million to make, compared to large action tentpoles that could cost well over $150 million, making the global box office hurdle for profitability generally lower for comedies. Given the earthquake in Japan, we think overall international box office receipts could see a minor negative impact for the next few months. Japan is known to be a major consumer of Hollywood entertainment content, and while studios appear to be releasing films in the country, largely on schedule, we think some level of disruption is inevitable. In 2010, the weighted average domestic-to-international box office conversion was 1.43x, improving further from 2009 (~1.25x in 2009 excluding Avatar), and steadily increasing from ~1.2x in 2005. Wed note that so far in 2011, given the limited number of theatrical releases (and the sheer lack of tentpoles), its difficult to accurately assess international box office performance. However, we dont have any reason to believe that the positive international box office conversion trend has ceased to continue.
54
April 7, 2011
Exhibit 68: Solid Over-Indexing at the Intl Box
1.45x
1.40x
1.35x
1.30x
1.25x
Excluding Avatar
1.20x
Includes films that generated $85 million+ at the domestic box office Source: Boxofficemojo.com, RBCCM research
While its difficult to accurately measure the ultimate profitability of a film based on box office figures and production costs (pre-sold international distribution rights, P&A spend, etc., complicate matters), as a rule of thumb, we generally think a film breaks even if it makes the equivalent of ~22.5x production budget at the global box office. This, of course, is more art than science and every film is different depending on financing arrangements, etc. In 2010, the weighted average worldwide box-to-production budget ratio has been ~3.7x, well ahead of our estimated 22.5x profitability hurdle. With the exception of just a few films, we think the majority of the tentpole films released in 2010 were quite profitable, especially given strong over-indexing internationally. While the ultimate profitability of yet-to-be-released films in 2011 is difficult to predict, as long as international strength continues to boost global box office receipts, we think major films should be able to sustain a similar level of profitability to what they enjoyed in 2010. Wed note that the two exhibits below are based on 2010 releases as data for 2011 so far is somewhat limited.
Exhibit 69: 2010 Box Office vs. Production Budget ($ in mm)
$1,200
Domestic Box Office International Box Office Production Cost
$1,000
$800
$600
$400
$200
$0
Includes films that generated $85 million+ at the domestic box office Source: Boxofficemojo.com, RBCCM research
55
April 7, 2011
Exhibit 70: 2010 Global Box Office-to-Production Cost Ratio
10.0x 9.0x 8.0x 7.0x 6.0x 5.0x 4.0x 3.0x 2.0x 1.0x 0.0x
Estimated profitability hurdle
Includes films that generated $85 million+ at the domestic box office Source: Boxofficemojo.com, RBCCM research
W on To de y r a Th rla Sto e nd Tw n d ry th e ilig (2 3 D ea ht S Iron 010 ) th a ly ga Ma H :E n2 al lo clip w s: se P D I n a rt H Sh e c I ow re spi ept to k ca io Tr Fo b l e n ai re n v M Yo e r e ur Aft D er ra Th T go e an n K TR ar gle C a d la sh T ON te K of rue : L id th G e g a e r Ti it (2 cy ta ns 01 0 G (2 0 ) ro 1 0 Li wn ) ttl e Up Fo s Th e M cke Th Kin ega rs e g's m La S ind st pe Th A e e S h i rb c h C e hr Th utte nd on e r e ic O Isl r le th an s of er d N G ar uy ni s a: Ja Th Va c k Sa e le as lt Vo nt s in 3D ya e ge Bl 's ac Da of th R k S y e o D bin wa Th aw H n e n T oo Ex re d pe ad nd er a D ble ue s Yo Da Th g i te e B So Dat ea e r Se ci Pe x al N Nig rc an h y Pr d etw t Ja in Th th or ck ce e eC k so of Bo it n Pe o y2 & rs Th Th k o ia e e fE :T O Fi li he ly g m Sa The hte pi an nd T r s: s ow o Th n e Re f Tim Li g h d (2 e tn 0 1 in g 0) Th ie f tte
Al
ic e
H ar ry
Po
in
56
April 7, 2011
57
April 7, 2011
Company DIS
Period
Metric
Estimate Changes New Est. Prior Est. 9,201 2,032 $0.58 9,411 2,118 $0.61
Period
Metric
Estimate Changes New Est. Prior Est. 40,988 9,276 $2.67 41,598 9,504 $2.71
Comments: Were lowering estimates primarily to account for tough Studio comps as well as impact of the Japan earthquake, though the ~$200mm Netflix deal should give some wiggle room for calendar 2011 performance the Netflix payment could add up to $0.07 of EPS on a full-year basis, which we havent explicitly modeled. The theatrical release slate for the next few weeks looks somewhat uninteresting until the release of Cars 2 and the next instalment of Pirates in the summer. There's likely upside bias to Cable Networks results as ESPN ratings have been strong (especially with respect to the BCS bowl games).
DISCA
1Q11
Comments: 1Q11 ratings trend at Discoverys major networks appear to have progressed generally inline-to-slightly better than what we were previously expecting, and therefore while were maintaining our 1Q11 domestic ad growth forecast of 15%, we think bias is to the upside. Our margin and EPS estimates are above consensus as we think Street estimates dont fully reflect the add back of $17mm in non-recurring above-the-line charges in the YoY comp. While return of capital to shareholders isnt a top priority for management currently, given the share price performance in 1Q11, we wonder if the Company was more aggressive with stock buybacks in the quarter.
NWSA
FY2011 Revenue Segment EBIT EPS FY2012 Revenue Segment EBIT EPS
Comments: Filmed Entertainment faced one of the toughest comps in F3Q11 as the bulk of the Avatar box office receipts came in the prior year quarter and the performance of F3Q11 theatrical releases were somewhat mediocre. Were revising our F3Q estimates lower to reflect the extremely tough studio comps as well as the continued "drag" from MySpace. Overall F4Q results should improve materially from F3Q, largely given that much of difficult Avatar comp will have lapped by then. NWSA is more of a FY12 story, in our view, as comps become easy (potential MySpace loss reversal, DISH/Cablevision blackout related loss reversal) and potential consolidation/acquisition of BSkyB could be highly accretive.
SNI
1Q11
Comments: Advertising/ratings trends at Scripps major networks appear to have progressed basically inline with what we were previously expecting in 1Q11, and therefore were maintaining our prior above-the-line estimates for 1Q11 and FY11. Were lowering our EPS estimates (for 1Q11 and FY11) to account for the increased minority expense arising from Tribune restoring its ownership stake in Food/Cooking partnership to 31% (from 25%) wed note that this was largely already expected.
TWX
1Q11
Comments: Results for Turner networks in 1Q11 were likely skewed due to the first year of NCAA basketball tournament we think theres limited downside risk to managements prior commentary that 1Q11 Media Networks adjusted operating income should grow modestly YoY. Currenlty, investors appear to be to much more focused on the potential risks to HBO than the positive fundamentals of the advertising market. Were taking 1Q11 estimates lower largely on difficult comps in Filmed Entertainment (and the Street may have to bring estimates down as well), but our FY11 estimates are revised slightly higher as Filmed Entertainment segment results will likely improve drastically in 2H with more tentpole releases.
VIA'B
Comments: Management has guided to double-digit domestic ad growth in Media Networks, and we think domestic ad growth accelerated sequentially despite the shift of Teen Choice Awards and Easter out of F2Q and into F3Q. Filmed Entertainment comps were generally favorable in the quarter and we think Street estimates for the segment could be revised higher over the next few weeks. Our EPS estimates for F2Q11 and FY11 remain above consensus, and our newly introduced FY12 EPS estimate of $4.11 is also significantly above consensus, despite it being based on what we think are relatively conservative assumptions.
58
April 7, 2011
Figures in thousands, except per share data. All multiples based on calendar year estimates/consensus. Source: Company reports, RBC Capital Market estimates (NWSA, DIS, VIAB, TWX, DISCA, SNI), Thomson One Analytics (CBS)
59
April 7, 2011
21NOV08 - 6APR11
HI-4MAR11 LO/HI DIFF CLOSE 124.867 47.21% 119.891
Price Target: Implied All-in Return: Market Cap (MM): Yield: Avg. Daily Volume (MM): 3-Yr. Est. EPS Growth:
40.00 35.00 30.00 CLOSE 25.00 20.00 LO-13MAR09 120000 80000 40000 PEAK VOL. VOLUME 147485.2 22258.2 15.140 42.270
Q4 $9.9 $0.46
Q1 $9.7 $0.47
Q2 $8.6 $0.48
Q3 $10.0 $0.67
Q4 $9.7 $0.45
Q1 $10.7 $0.68
Investment Opinion
Estimates Revised Lower To Account for Tough Theatrical Comps and Minor Negative Impact from the Earthquake in Japan; F2Q11 Was Likely Another Solid Quarter for ESPN, In Part Due To the College Bowl Games
Advertising appears to have remained steady across all of Disneys TV assets in F2Q11, and we think Disneys overall business trends held up well as the overall macro environment continued to improve. ESPN likely had another great quarter with ratings improving sequentially and additional carriage of the college bowl games. The studios theatrical releases were somewhat disappointing as Mars Needs Moms underperformed even lowered expectations with less than $25 million in domestic box office receipts and comps are especially tough given Alice in Wonderland, released in the prior-year quarter, eventually made over $1bn in global box office. The theatrical release slate for the next few weeks looks somewhat uninteresting until the release of Cars 2 and the next instalment of Pirates in the summer. The Parks business continued to show signs of improving trends, and the new cruise ship should begin to help results. Were lowering estimates primarily to account for tough Studio comps as well as the impact of the Japan earthquake, though the ~$200mm Netflix deal (announced in early December) should give some wiggle room for calendar 2011 performance the Netflix payment could add up to $0.07 of EPS on a full-year basis, which we havent explicitly modeled. We believe Disney remains a bestof-breed media/entertainment company that 1) is benefitting from continued favorable advertising trends (and strong ESPN ratings), 2) is transitioning to a much stronger part of the content cycle in its studio business, and 3) will likely benefit from a late-cycle turn at the Parks. One caveat is how the NFL lockout could impact business that said, even if it does, it would be temporary. We are maintaining our Outperform rating, $48 price target.
Expecting Another Quarter of Solid Results from the Cable Nets (ESPN)
ESPN advertising was up a whopping 34% in F1Q11 (27% excluding the extra two bowl games), outperforming its competitors by a wide shot. With the overall network TV pricing environment as strong as its ever been, and ESPN ratings continuing to show solid gains (A18-49 primetime ratings were up 39% in F2Q), we think ESPN ought to be able to continue to outperform its cable network peers in ad growth by at least a few hundred bps each quarter. Ad growth in F2Q11 was likely further supported by the college bowl
60
April 7, 2011
games; ESPN showed all five of the big five bowl games in January 2011 vs. none in the prior year, and the BCS Championship game in January garnered 27.3mm viewers, making it cables biggest audience in history, and demonstrating the strength of the college bowl franchise. In terms of affiliate fees, were expecting stable single-digit growth for at least the next few quarters. With no new noteworthy events (other than perhaps the five bowl games), programming expense growth was likely largely stable, allowing for meaningful margin expansion, though we continue to keep a close eye on future margins at the Cable Networks and the impact of increasing sports rights fees.
The Theatrical Releases in the Quarter Were Generally Disappointing and Comps Were Especially Difficult With Alice in the Prior Year
Mars Needs Moms (released March 11) was a huge disappointment, making less than $25mm at the domestic box office on a relatively large production budget of ~$150mm. Much of the costs of the film were probably already written off in F1Q11; however, the film likely underperformed even the studios lowered expectations, potentially warranting a further write-off in F2Q. Further, the box office performance of the other two releases in the quarter (I Am Number Four and Gnomeo & Juliet) were somewhat uninspiring. Comps in F2Q11 were also extremely difficult as Alice in Wonderland from a year ago ended up making over $1 billion at the global box office. Investors will likely have to wait until F3Q11 when summer tentpoles Cars 2 and Pirates of the Caribbean: On Stranger Tide are released, in order to get greater confidence in Disneys renewed content cycle. Were lowering Studio Entertainment estimates to account for the lacklustre box office performance in the quarter.
Exhibit 73: YoY Studio Box Office Comparison (units in mm)
F1Q10A Title Everybody's Fine The Princess and the Frog Old Dogs A Christmas Carol Toy Story / Toy Story 2 (3D) Total F2Q10A Title The Last Song Waking Sleeping Beauty Alice in Wonderland When in Rome Total F3Q10A Title Toy Story 3 Prince of Persia: The Sands of Time Iron Man 2 Oceans Total Release 4-Dec-09 25-Nov-09 25-Nov-09 6-Nov-09 2-Oct-09 Dom. B.O $9.2 $104.4 $49.5 $137.9 $30.7 $331.7 Int'l B.O. $7.2 $162.6 $47.3 $187.4 $1.6 $406.1 Production Cost $21.0 $105.0 $35.0 $200.0 NA F1Q11A Title Tron: Legacy The Tempest Tangled Secretariat Total F2Q11E Title Mars Needs Moms (in 3D) I Am Number Four Gnomeo & Juliet (in 3-D) Total F3Q11E Title Release Cars 2 24-Jun-11 Pirates of the Caribbean: On Stranger Tides (3D) 20-May-11 Prom 29-Apr-11 African Cats 22-Apr-11 Total Release 17-Dec-10 10-Dec-10 24-Nov-10 8-Oct-10 Dom. B.O $171.7 $0.3 $197.1 $59.7 $428.8 Int'l B.O. $225.5 $0.3 $354.8 $59.7 $640.3 Production Cost $170.0 $20.0 $260.0 $35.0
Production Cost NA NA NA NA
Note: box office figures represent the total reported (or expected) box office receipts of the particular film, and not the box office receipts made in the particular quarter Source: boxofficemojo.com, HSX.com
61
April 7, 2011
Exhibit 74: Orlando Hotel Monthly ADR & Occupancy Growth Trend
Orlando Hotel ADR Growth Area Jun Jul Aug Sep Oct Nov Metro Orlando 2.1% 3.6% 6.4% 4.2% 2.3% 1.0% Orlando North -4.1% -3.9% -3.2% -7.0% -6.0% -5.7% Orlando Central -5.9% -1.1% 0.4% -1.9% -8.2% -4.0% Orlando South 0.4% 1.0% -2.5% -4.2% -6.6% -0.7% International Drive 5.0% 7.1% 12.8% 13.3% 10.9% 4.9% Lake Buena Vista -4.4% 1.8% 4.1% 3.0% -0.9% 2.4% Kissimmee East 6.4% 0.3% 5.7% -10.1% -8.6% -17.7% Kissimmee West -4.2% 2.7% 0.6% 1.1% -2.3% -3.8%
Orlando Hotel Occupancy Growth Area Jun Jul Aug Sep Oct Metro Orlando 4.2% 6.8% 4.3% 12.3% 10.1% Orlando North 1.5% 2.6% 9.7% 6.5% 7.9% Orlando Central 6.3% 7.1% 10.0% 10.8% 8.8% Orlando South 4.1% 9.8% 4.5% 5.2% 5.5% International Drive 3.9% 4.8% 2.2% 16.5% 17.1% Lake Buena Vista 6.9% 7.6% 5.0% 17.4% 4.8% Kissimmee East 7.2% 16.3% 9.6% 4.3% 16.7% Kissimmee West -12.6% -1.4% -6.4% -7.7% -2.7%
Source: STR
Jan Feb 0.6% 7.7% 11.9% 1.4% 16.9% -0.2% -4.1% 0.9% 0.6% 12.0% -4.1% 7.9% 3.8% 5.2% 0.4% -5.6%
62
April 7, 2011
Exhibit 75: Estimate Changes
F2Q11E F2Q11E F2Q10A New Est. Prior Est. Reported ($ in M) Segment Revenues Cable Networks Y/Y Growth Broadcasting Y/Y Growth Media Networks Y/Y Growth Parks & Resorts Y/Y Growth Studio Entertainment Y/Y Growth Consumer Products Y/Y Growth Interactive Media Y/Y Growth Total Revenues Y/Y Growth Segment EBIT Cable Networks Y/Y Growth Broadcasting Y/Y Growth Media Networks Y/Y Growth Parks & Resorts Y/Y Growth Studio Entertainment Y/Y Growth Consumer Products Y/Y Growth Interactive Media Y/Y Growth Total EBIT Y/Y Growth Margin Less: Corp. & unallocated expenses EBIT
FY10A Reported
Average
2,693 2,693 2,412 11.6% 11.6% 9.4% 1,495 1,495 1,432 4.4% 4.4% 1.1% 4,187 4,187 3,844 8.9% 8.9% 6.2% 2,655 2,688 2,449 8.4% 9.7% 1.7% 1,482 1,635 1,536 -3.5% 6.5% 7.0% 700 724 596 17.5% 21.5% 20.2% 177 177 155 13.9% 13.9% 20.2% ________ ________ ________ 9,201 9,411 8,580 7.2% 9.7% 6.1%
12,666 10.4% 5,944 4.5% 18,610 8.4% 11,656 8.3% 6,635 -1.0% 3,137 17.2% 949 24.7% ________ 40,988 7.7%
12,666 10.4% 5,944 4.5% 18,610 8.4% 11,758 9.3% 7,020 4.8% 3,262 21.8% 949 24.7% ________ 41,598 9.3%
11,475 8.7% 5,687 0.6% 17,162 5.9% 10,761 0.9% 6,701 9.2% 2,678 10.4% 761 6.9% ________ 38,063 5.3%
1,375 1,375 1,183 16.3% 16.3% 10.6% 174 174 123 41.5% 41.4% -16.3% 1,549 1,549 1,306 18.6% 18.6% 7.3% 201 225 150 34.0% 50.2% -52.5% 156 192 223 -30.2% -14.1% 114.4% 170 196 133 28.0% 47.4% -27.7% (44) (44) (55) -19.8% -19.8% -47.1% ________ ________ ________ 2,032 2,118 1,757 15.7% 20.6% 15.1% 22.1% 22.5% 20.5% 97 99 91 ________ ________ ________ 1,935 2,019 1,666 F2Q11E F2Q11E F2Q10A F2Q11E New Est. Prior Est. Reported Consensus 9,201 9,411 8,580 9,149 7.2% 9.7% 6.1% $0.58 $0.61 $0.48 $0.57
5,167 15.5% 905 37.3% 6,072 18.3% 1,630 23.7% 901 30.0% 868 28.2% (195) -16.7% ________ 9,276 22.3% 22.6% 471 ________ 8,805 FY11E New Est. 40,988 7.7% $2.67
5,167 15.5% 905 37.3% 6,072 18.3% 1,717 30.3% 970 40.0% 940 38.8% (195) -16.7% ________ 9,504 25.3% 22.8% 476 ________ 9,028 FY11E Prior Est. 41,598 9.3% $2.71
4,473 5.0% 659 30.5% 5,132 7.7% 1,318 -7.1% 693 296.0% 677 11.2% (234) -20.7% ________ 7,586 13.7% 19.9% 420 ________ 7,166 FY10A Reported 38,063 5.3% $2.08
Source: Company reports, RBC Capital Markets estimates, Thomson ONE Analytics
Valuation
Our valuation methodology derives a $48 price target for The Walt Disney Company. We average our sum-of-the-parts analysis, DCF analysis and blended C2011/12E P/E multiple. We use a 16x P/E multiple, a level at which most comparable publicly traded companies have historically traded.
63
April 7, 2011
64
April 7, 2011
Exhibit 76: DIS Earnings Model
Segment Details - DIS Fiscal Year Ended September 30 Calendar Month Ended: in millions Segment Revenues Cable Network Broadcasting Parks & Resorts Studio Entertainment (DIS+MVL) Consumer Products (DIS+MVL) Interactive Media Total Revenues Segment EBIT Cable Network Broadcasting Parks & Resorts Studio Entertainment (DIS+MVL) Consumer Products (DIS+MVL) Interactive Media Segment EBIT (ex corporate expense) Less: Corporate & unallocated shared expenses Operating Income Income Statement - DIS Fiscal Year Ended September 30 Calendar Month Ended: in millions except per share amounts Revenues Year-Over-Year Growth Operating Expenses Segment EBITDA Less: Corporate & unallocated shared expenses EBITDA Year-Over-Year Growth Margin Stock Option Expense EBITDA (Pre-stock option expense) Less: Depreciation EBITA Year-Over-Year Growth Margin Less: Amortization Operating Income Year-Over-Year Growth Margin Equity in income of investees Adj.Operating Income including equity income of investees Less: Net Interest Expense Less: Other Expense (Income) Pre-tax Income Less: Income Tax Less: Minority Interest
Add: Tax Expense (Benefit) on Extraordinary Items
2009A Sept
1Q10A Dec
2Q10A Mar
3Q10A Jun
4Q10A Sept
2010A Sept
1Q11A Dec
2Q11E Mar
3Q11E Jun
4Q11E Sept
2011E Sept
2012E Sept
10,555 5,654 10,667 6,136 2,425 712 36,149 4,260 505 1,418 175 609 (295) 6,672 398 6,274
2,654 1,521 2,662 1,935 746 221 9,739 544 180 375 243 243 (10) 1,575 72 1,503
2,412 1,432 2,449 1,536 596 155 8,580 1,183 123 150 223 133 (55) 1,757 91 1,666
3,280 1,449 2,831 1,639 606 197 10,002 1,676 209 477 123 117 (65) 2,537 119 2,418
3,129 1,285 2,819 1,591 730 188 9,742 1,070 147 316 104 184 (104) 1,717 138 1,579
11,475 5,687 10,761 6,701 2,678 761 38,063 4,473 659 1,318 693 677 (234) 7,586 420 7,166
3,068 1,577 2,868 1,932 922 349 10,716 771 295 468 375 312 (13) 2,208 112 2,096
2,693 1,495 2,655 1,482 700 177 9,201 1,375 174 201 156 170 (44) 2,032 97 1,935
3,518 1,508 3,045 1,619 712 212 10,615 1,827 249 560 162 173 (64) 2,907 123 2,784
3,387 1,364 3,089 1,602 803 212 10,455 1,194 187 401 208 212 (74) 2,129 139 1,991
12,666 5,944 11,656 6,635 3,137 949 40,988 5,167 905 1,630 901 868 (195) 9,276 471 8,805
13,784 6,185 12,613 6,822 3,294 1,072 43,770 5,732 947 1,908 917 936 (110) 10,329 493 9,836
2009A Sept 36,149 -4.5% 28,602 7,547 270 7,277 -18.7% 20.1% 113 7,390 1,580 5,697 -23.1% 15.8% 5,697 -23.1% 15.8% 577 6,274 466 5,808 2,049 302 (38) 3,419 3,419 (112) 3,307 1,856 1,875 $1.84 $1.82 $1.78 $1.76
1Q10A Dec 9,739 1.5% 7,873 1,866 41 1,825 14.1% 18.7% 1,825 411 1,414 16.2% 14.5% 1,414 16.2% 14.5% 89 1,503 103 1,400 478 (21) 901 901 (57) 844 1,867 1,903 $0.48 $0.47 $0.45 $0.44
2Q10A Mar
3Q10A Jun
4Q10A Sept 9,742 -1.3% 7,724 2,018 99 1,919 -4.5% 19.7% 1,919 398 1,521 -4.6% 15.6% 1,521 -4.6% 15.6% 58 1,579 87 1,492 468 131 (19) 874 874 (39) 835 1,909 1,941 $0.46 $0.45 $0.44 $0.43
2010A Sept 38,063 5.3% 29,457 8,606 278 8,328 14.4% 21.9% 8,328 1,602 6,726 18.1% 17.7% 6,726 18.1% 17.7% 440 7,166 409 (7) 6,764 2,314 350 (41) 4,059 4,059 (96) 3,963 1,915 1,949 $2.12 $2.08 $2.07 $2.03
1Q11A Dec 10,716 10.0% 8,290 2,426 74 2,352 28.9% 21.9% 2,352 412 1,940 37.2% 18.1% 1,940 37.2% 18.1% 156 2,096 95 (63) 2,064 730 32 1,302 1,302 1,302 1,891 1,927 $0.69 $0.68 $0.69 $0.68
2Q11E Mar 9,201 7.2% 6,955 2,246 64 2,181 14.4% 23.7% 2,181 408 1,773 17.3% 19.3% 1,773 17.3% 19.3% 162 1,935 134 1,801 648 50 1,102 1,102 1,102 1,881 1,917 $0.59 $0.58 $0.59 $0.58
3Q11E Jun 10,615 6.1% 7,481 3,135 85 3,050 13.9% 28.7% 3,050 412 2,638 15.7% 24.8% 2,638 15.7% 24.8% 146 2,784 114 2,670 961 95 1,614 1,614 1,614 1,871 1,907 $0.86 $0.85 $0.86 $0.85
4Q11E Sept 10,455 7.3% 8,075 2,380 106 2,275 18.5% 21.8% 2,275 406 1,869 22.9% 17.9% 1,869 22.9% 17.9% 122 1,991 106 1,884 678 125 1,081 1,081 1,081 1,861 1,897 $0.58 $0.57 $0.58 $0.57
2011E Sept 40,988 7.7% 30,801 10,187 329 9,858 18.4% 24.1% 9,858 1,638 8,219 22.2% 20.1% 8,219 22.2% 20.1% 585 8,805 449 (63) 8,419 3,018 302 5,099 5,099 5,099 1,876 1,912 $2.72 $2.67 $2.72 $2.67
2012E Sept 43,770 6.8% 32,563 11,207 351 10,856 10.1% 24.8% 10,856 1,695 9,160 11.4% 20.9% 9,160 11.4% 20.9% 676 9,836 442 9,394 3,382 302 5,710 5,710 5,710 1,849 1,885 $3.09 $3.03 $3.09 $3.03
Net Income from Continuing Operations Income from Discontinued Operations Net Income before extra-ordinary items
Extra-ordinary Income/(Expenses) after tax
Net Income (Reported) Basic Weighted Average Shares O/S Diluted Weighted Average Shares O/S Recurring Basic EPS Recurring Diluted EPS Reported Basic EPS Reported Diluted EPS
8,580 10,002 6.1% 16.4% 6,616 7,244 1,964 2,758 58 80 1,906 2,678 13.5% 34.7% 22.2% 26.8% 1,906 2,678 394 399 1,512 2,279 17.5% 42.6% 17.6% 22.8% 1,512 2,279 17.5% 42.6% 17.6% 22.8% 154 139 1,666 2,418 130 89 (7) 1,536 2,336 537 831 45 174 (1) 953 1,331 953 1,331 953 1,331 1,940 1,973 $0.49 $0.48 $0.49 $0.48 1,945 1,978 $0.68 $0.67 $0.68 $0.67
65
April 7, 2011
21NOV08 - 6APR11
HI-24SEP10 LO/HI DIFF 235.991 155.13%
LO-12DEC08 N D J 2009 2010 2011 F M A M J J A S O N D J F M A M J J A S O N D J F M A HI-29OCT10 DISCOVERY COMMUNICATIONS INC LO/HI DIFF
CLOSE
40.330
11.300
81819.3 4002.2
Q3 Q4 2010 $926.0 $1,015.0 $3,783.0 $359.0 $0.37 $433.0 $1,517.0 $0.48 $1.74
Q1E Q2E $932.7 $1,032.7 $932.7 $1,032.7 $387.8 $387.8 $0.49 $0.49 $471.2 $471.2 $0.63 $0.63
Q3E Q4E 2011E 2012E $994.6 $1,089.0 $4,048.9 $4,359.1 $994.6 $432.2 $432.2 $0.57 $0.57 1,089.0 $4,048.9 N/A $475.2 $1,766.4 $1,975.1 $475.2 $1,766.4 N/A $0.64 $0.64 $2.32 $2.32 $2.73 N/A
Historical values are based upon reported data and may be different from pro forma figures. Source: Company reports, RBC Capital Markets estimates
Investment Opinion
1Q11 Ratings Rebound Is Encouraging And Proves 4Q10 Was Likely A Minor Speed Bump; Maintaining Our Above-Consensus 1Q11 EPS Estimate
1Q11 ratings trend at Discoverys major networks appear to have progressed generally inline-to-slightly better than what we were previously expecting and, therefore, while were maintaining our 1Q11 domestic ad growth forecast of 15%, we think bias to the upside. Our margin and EPS estimates are above consensus as we think Street estimates dont fully reflect the add back of $17 million in non-recurring above-the-line charges in the YoY comp. If Discoverys networks are able to sustain its current ratings momentum, we think there could be upside to guidance. While return of capital to shareholders isnt a top priority for management currently, given the share price performance in 1Q11, we wonder if the company was more aggressive with stock buybacks in the quarter. DISCA shares are currently trading at ~17x 2011E P/E, a premium to the group, but a much more reasonable level vs. the past, and therefore we feel comfortable owning the stock heading into earnings. Were introducing FY12 estimates. Maintaining Outperform rating, $46 price target.
Discovery Health Deconsolidation As Well As Certain Non-recurring Charges Last Year Could Make Comparisons Somewhat Confusing
With the launch of OWN in January, 1Q11 was the first quarter of Discovery Health deconsolidation above the line. The channel accounted for ~$80 million of annual revenue, most of which was advertising. While we believe much of the Street estimates already reflect this, we think it could create some confusion in pro forma comparisons when numbers are reported. Additionally, in 1Q10, there were ~$17 million of non-recurring charges $13 million domestic content write-down and a $4 million international acquisition-related charge. These charges actually make YoY margin comparisons easier and we dont think Street margin estimates fully reflect the add back of these charges; as such we think Street margin estimates could be revised slightly higher (both domestic and international) over the next few weeks.
66
April 7, 2011
Investors May Be Somewhat Disappointed That Discovery Isnt Returning Capital To Shareholders As Aggressively As Some Of Its Peers
With some of its media conglomerate peers (most notably Viacom and Time Warner) maintaining an aggressive stance towards return of capital to shareholders, investors may be somewhat disappointed that stock buybacks arent a higher priority for Discovery, especially given ~$1 billion annual free cash flow and debt leverage far below its target of ~2.5x. Previously, management noted that its capital allocation plans include (in order of priority): 1) reinvestment in the business (primarily programming/rebrands), 2) M&A, for which we expect Discovery to exercise its traditional discipline, and lastly, 3) return of capital to shareholders. In 1Q11, were modeling $125 million of stock buybacks, though we think bias is to the upside given the stock price performance during the quarter. Management has previously noted that the level of stock buybacks partially depends on the stock price ie, more buybacks when the stock moves lower.
OWN Off To A Somewhat Rocky Start, But Its Too Early To Judge The Ultimate Success Of The Network As Oprahs Presence Will Be Minimal Until September
OWN received some negative press shortly after its launch given that its ratings hadnt shown a significant improvement over its predecessor, Discovery Health. The lackluster ratings performance was likely one of the reasons why Discovery decided to invest an additional $50 million into the channel, on top of the $189 million it has already committed. Our channel checks indicate that DISCA is spending a great deal of energy and time getting traction from the advertising community, and DISCAs ultimate goal is to grow OWN into a top-tier cable network over the next few years. While OWNs ratings performance has been somewhat disappointing, we think its too early to judge the success of the network as Oprahs on-screen presence will be limited until her current contract with CBS ends in September 2011, after which the channel could start showing reruns of her current flagship show, and she could begin a new show on OWN. Further, we dont think OWNs current ratings performance is likely to have an impact on DISCAs near-term earnings. Wed note that in early January, management indicated that the channel could be EBITDA positive in 2011.
Exhibit 77: Estimate Changes
($ in mm, except per share data) Segment Revenue Domestic Networks PF YoY growth Distribution PF YoY growth Advertising PF YoY growth Other International Networks PF YoY growth Distribution PF YoY growth Advertising PF YoY growth Other Education, Corp. & Other PF YoY growth Total Revenues PF YoY growth Segment Adjusted-OIBDA Domestic Networks % margin International Networks % margin Education, Corp. & Other % margin Total Adjusted-OIBDA % margin PF YoY growth Reported Net Income Reported diluted EPS Recurring diluted EPS FY1Q11E New Est. 578.8 10.0% 270.3 6.0% 287.5 15.0% 21.0 314.5 7.3% 203.1 9.2% 93.8 14.3% 17.6 39.4 -1.4% 932.7 8.6% 325.2 56.2% 142.9 45.5% (55.4) -140.5% 412.8 44.3% 9.6% 201.5 $0.49 $0.49 FY1Q11E Prior Est. 578.8 10.0% 270.3 6.0% 287.5 15.0% 21.0 314.5 7.3% 203.1 9.2% 93.8 14.3% 17.6 39.4 -1.4% 932.7 8.6% 325.2 56.2% 142.9 45.5% (55.4) -140.5% 412.8 44.3% 9.6% 201.5 $0.49 $0.49 FY1Q10A Reported 546.0 7.4% 259.0 10.0% 266.0 9.5% 21.0 293.0 15.8% 186.0 6.9% 82.0 43.9% 25.0 40.0 0.0% 879.0 9.9% 293.0 53.7% 124.0 42.3% (50.0) -125.0% 367.0 41.8% 19.3% 169.0 $0.39 $0.39 FY1Q11E Consensus FY11E New Est. 2,497.4 9.4% 1,092.9 6.0% 1,310.6 13.2% 94.0 1,388.7 10.1% 831.7 9.4% 483.1 14.5% 73.9 162.8 2.4% 4,048.9 9.3% 1,461.1 58.5% 631.8 45.5% (226.6) -139.2% 1,866.4 46.1% 10.6% 951.3 $2.32 $2.32 FY11E Prior Est. 2,497.4 9.4% 1,092.9 6.0% 1,310.6 13.2% 94.0 1,388.7 10.1% 831.7 9.4% 483.1 14.5% 73.9 162.8 2.4% 4,048.9 9.3% 1,461.1 58.5% 631.8 45.5% (226.6) -139.2% 1,866.4 46.1% 10.6% 951.4 $2.32 $2.32 FY10A Reported 2,363.0 9.8% 1,047.0 8.4% 1,222.0 13.0% 94.0 1,261.0 7.6% 760.0 6.1% 422.0 24.9% 79.0 159.0 1.3% 3,783.0 8.9% 1,365.0 57.8% 547.0 43.4% (211.0) -132.7% 1,701.0 45.0% 16.2% 663.0 $1.54 $1.74 FY11E Consensus FY11E Guidance
937.8 6.7%
4,066.0 7.5%
4,000-4,100
N/A
N/A
1,825-1,900
$0.46 $0.46
Source: Company reports, RBC Capital Markets estimates, Thomson ONE Analytics
Valuation
Our valuation methodology derives a $46 price target for DISCA shares. We average our DCF analysis and our one-year forward multiples on blended 2011/12E EBITDA and EPS. We apply a 10x EBITDA multiple and a 20x P/E multiple, consistent with historical trading levels and in line with other publicly traded entertainment/cable network companies.
67
April 7, 2011
1,427.0 1,713.0 376.0 3,516.0 2,142.0 1,189.0 185.0 3,516.0 1,196.0 450.0 (182.0) 1,464.0
348.0 445.0 86.0 879.0 546.0 293.0 40.0 879.0 293.0 124.0 (50.0) 367.0
435.0 449.0 79.0 963.0 620.0 306.0 37.0 963.0 379.0 132.0 (56.0) 455.0
402.0 452.0 72.0 926.0 585.0 304.0 37.0 926.0 346.0 130.0 (58.0) 418.0
459.0 461.0 95.0 1,015.0 612.0 358.0 45.0 1,015.0 347.0 161.0 (47.0) 461.0
1,644.0 1,807.0 332.0 3,783.0 2,363.0 1,261.0 159.0 3,783.0 1,365.0 547.0 (211.0) 1,701.0
381.3 473.4 78.0 932.7 578.8 314.5 39.4 932.7 325.2 142.9 (55.4) 412.8
475.6 478.9 78.1 1,032.7 656.2 341.1 35.3 1,032.7 402.0 153.6 (59.5) 496.2
436.4 481.7 76.5 994.6 616.6 337.5 40.5 994.6 365.5 151.2 (59.5) 457.2
500.4 490.4 98.2 1,089.0 645.8 395.6 47.6 1,089.0 368.4 184.1 (52.3) 500.2
1,793.7 1,924.5 330.8 4,048.9 2,497.4 1,388.7 162.8 4,048.9 1,461.1 631.8 (226.6) 1,866.4
1,959.9 2,060.8 338.4 4,359.1 2,680.9 1,511.4 166.7 4,359.1 1,587.4 706.7 (233.0) 2,061.1
2009A Dec 3,516.0 3.2% 2,312.0 1,204.0 -8.1% 34.2% 155.0 1,049.0 -8.2% 29.8% (250.0) 0.0 0.0 12.0 198.8 1,009.8 (472.0) 2.0 (9.0) 530.8 0.0 21.2 552.0 425.5 $1.25 $1.30
1Q10A Mar 879.0 7.6% 559.0 320.0 13.1% 36.4% 34.0 286.0 16.7% 32.5% (58.0) 0.0 0.0 (5.0) (3.0) 220.0 (47.0) (4.0) 0.0 169.0 0.0 0.0 169.0 429.0 $0.39 $0.39
2Q10A June 963.0 9.3% 558.0 405.0 29.0% 42.1% 33.0 372.0 35.8% 38.6% (48.0) (46.0) 0.0 0.0 (22.0) 256.0 (41.0) (3.0) (1.0) 211.0 0.0 (105.0) 106.0 431.0 $0.49 $0.25
3Q10A Sep 926.0 8.4% 567.0 359.0 38.6% 38.8% 32.0 327.0 49.3% 35.3% (49.0) 0.0 0.0 0.0 (31.0) 247.0 (83.0) (3.0) 0.0 161.0 25.0 0.0 186.0 431.0 $0.37 $0.43
4Q10A Dec 1,015.0 5.3% 582.0 433.0 24.4% 42.7% 32.0 401.0 28.9% 39.5% (48.0) 0.0 0.0 0.0 (36.0) 317.0 (106.0) (6.0) 0.0 205.0 (3.0) 0.0 202.0 428.0 $0.48 $0.47
2010A Dec 3,783.0 7.6% 2,266.0 1,517.0 26.0% 40.1% 131.0 1,386.0 32.1% 36.6% (203.0) (46.0) 0.0 (5.0) (92.0) 1,040.0 (277.0) (16.0) (1.0) 746.0 22.0 (105.0) 663.0 429.8 $1.74 $1.54
1Q11E Mar 932.7 6.1% 544.9 387.8 21.2% 41.6% 31.2 356.5 24.7% 38.2% (48.2) 0.0 0.0 (2.5) 0.0 305.8 (101.8) (2.5) 0.0 201.5 0.0 0.0 201.5 413.9 $0.49 $0.49
2Q11E June 1,032.7 7.2% 561.5 471.2 16.3% 45.6% 30.8 440.4 18.4% 42.6% (48.2) 0.0 0.0 (2.5) 0.0 389.6 (129.7) (2.5) 0.0 257.4 0.0 0.0 257.4 411.1 $0.63 $0.63
3Q11E Sep 994.6 7.4% 562.3 432.2 20.4% 43.5% 30.4 401.9 22.9% 40.4% (48.2) 0.0 0.0 (2.5) 0.0 351.2 (116.9) (2.5) 0.0 231.7 0.0 0.0 231.7 408.7 $0.57 $0.57
4Q11E Dec 1,089.0 7.3% 613.8 475.2 9.7% 43.6% 29.9 445.3 11.0% 40.9% (48.2) 0.0 0.0 (2.5) 0.0 394.6 (131.4) (2.5) 0.0 260.7 0.0 0.0 260.7 406.3 $0.64 $0.64
2011E Dec 4,048.9 7.0% 2,282.6 1,766.4 16.4% 43.6% 122.3 1,644.0 18.6% 40.6% (192.9) 0.0 0.0 (10.0) 0.0 1,441.2 (479.9) (10.0) 0.0 951.3 0.0 0.0 951.3 410.0 $2.32 $2.32
2012E Dec 4,359.1 7.7% 2,384.0 1,975.1 11.8% 45.3% 120.2 1,854.9 12.8% 42.6% (192.9) 0.0 0.0 7.5 0.0 1,669.5 (567.6) (10.0) 0.0 1,091.9 0.0 0.0 1,091.9 399.4 $2.73 $2.73
68
April 7, 2011
125 WEEKS
NEWS CORP Rel. S&P 500 150.00 120.00
21NOV08 - 6APR11
HI-1APR11 LO/HI DIFF CLOSE 174.214 78.21% 169.935
Q1 $7.5 $0.20
Q2 $7.9 $0.12
Q3 $7.4 $0.15
Q4 $7.7 $0.17
Q1 $7.2 $0.22
Q2 $8.7 $0.25
Q3 $8.8 $0.32
Q4 $8.1 $0.30
Q1 $7.4 $0.27
Q2 $8.8 $0.29
Q4E 2011E $8.2 $8.1 $0.31 $0.30 $32.8 $32.8 $1.13 $1.14
Investment Opinion
Positive Momentum In National TV Advertising In F3Q11; Studio Comps Were Tougher Than Expected And MySpace Continued To Be A Drag, But NWSA Is More of a FY12 Story
Both the TV ad pricing environment and ratings were quite favorable for NWSAs TV properties in F3Q11, and we think both the cable nets and Fox performed solidly in the quarter, both from a top-line growth and margin perspective. On the other hand, Filmed Entertainment faced one of the toughest comps in F3Q11 as the bulk of the Avatar box office receipts came in the prior year quarter and the performance F3Q11 theatrical releases were somewhat mediocre. MySpace continued to be a drag in the quarter and we think losses were likely similar to the prior two quarters in the ~$50-60 million range. Were revising our F3Q11 estimates lower to reflect the extremely tough studio comps as well as the continued drag from MySpace. Overall, F4Q results should improve materially from F3Q, largely given that much of the difficult Avatar comp will have lapped by then. Further, NWSA is more of a FY12 story, in our view, as comps become easy (potential MySpace loss reversal, DISH/Cablevision blackout-related loss reversal) and potential consolidation/acquisition of BSkyB could be highly accretive. Maintaining Outperform rating; new $21 price target.
69
April 7, 2011
Studio Comparisons Were Very Difficult In F3Q11, But Should Get Some Much Needed Relief In F4Q11 As The Difficult Avatar Comps Are Lapped
The studio had just two theatrical releases in the quarter: Diary of a Wimpy Kid: Rodrick Rules and Big Mommas: Like Father, Like Son. While both films performed (or are expected to perform) reasonably well at the box office, comps are tough due to three theatrical releases last year (including Percy Jackson & The Olympians, which was a relatively big release) and even more so due to the spill-over of Avatar box office in the prior year note that the vast majority of the ~$2.8 billion global box office receipts for Avatar were made in F3Q10, allowing for extraordinary performance in both revenue and margins in Filmed Entertainment in that quarter. While were lowering F3Q11 segment estimates to account for the more difficult-than-expected comparisons, we think the segment could get some much needed relief beginning in F4Q as much of the difficult Avatar comps are finally lapped and several tentpole films are released animated 3D film Rio comes out in mid April and X-Men: First Class comes out in early June.
Exhibit 79: YoY Studio Box Office Comparison (units in mm)
F2Q10A Title Alvin and the Chipmunks: The Squeakuel Avatar Crazy Heart Fantastic Mr. Fox Gentlemen Broncos Amelia Whip It Quarter Total F3Q10A Title Diary of a Wimpy Kid Percy Jackson & The Olympians The Tooth Fairy Quarter Total F4Q10A Title Knight and Day Cyrus The A-Team Marmaduke Just Wright Date Night Quarter Total Release Dom. B.O 23-Dec-09 $219.6 18-Dec-09 $760.5 16-Dec-09 $39.5 13-Nov-09 $21.0 30-Oct-09 $0.1 23-Oct-09 $14.2 02-Oct-09 $13.0 $1,068.0 Int'l B.O. $223.5 $2,020.6 $7.7 $25.5 $0.0 $5.4 $3.6 $2,286.3 Production Cost $75.0 NA $7.0 $40.0 $10.0 $40.0 $15.0 F2Q11A Title Gulliver's Travels The Chronicles of Narnia: Voyage of the Dawn Treader Black Swan Love and Other Drugs Unstoppable 127 Hours Conviction Quarter Total F3Q11E Title Diary of a Wimpy Kid: Rodrick Rules Big Mommas: Like Father, Like Son Quarter Total F4Q11E Title Mr. Popper's Penguins Homework (2011) X-Men: First Class The Tree of Life Dum Maaro Dum Water for Elephants Rio Quarter Total Release Dom. B.O 25-Dec-10 $42.7 10-Dec-10 $104.2 03-Dec-10 $106.3 24-Nov-10 $32.4 12-Nov-10 $81.6 05-Nov-10 $18.3 15-Oct-10 $6.8 $392.3 Int'l B.O. $173.0 $299.6 $175.0 $61.2 $85.9 $32.5 $6.8 $834.1 Production Cost $112.0 $155.0 $13.0 $30.0 $100.0 $18.0 $12.5
Release Dom. B.O 19-Mar-10 $64.0 12-Feb-10 $88.8 22-Jan-10 $60.0 $212.8
Release Dom. B.O 23-Jun-10 $76.4 18-Jun-10 $7.5 11-Jun-10 $77.2 04-Jun-10 $33.6 14-May-10 $21.5 09-Apr-10 $98.7 $315.0
Release Dom. B.O Int'l B.O. 17-Jun-11 $61.3 $61.3 17-Jun-11 $8.2 $8.2 03-Jun-11 $216.0 $216.0 27-May-11 $35.1 $35.1 22-Apr-11 NA NA 22-Apr-11 $54.5 $54.5 15-Apr-11 $113.9 $113.9 $488.9 $488.9
Production Cost NA NA NA NA NA NA NA
Note: box office figures represent the total reported (or expected) box office receipts of the particular film, and not the box office receipts made in the particular quarter Source: Boxofficemojo.com, HSX.com
All Eyes On U.K. Culture Secretary Jeremy Hunt As BSkyB Decision Nears
The most recent media reports suggest Mr. Hunt wont make his final regulatory decision regarding NWSAs proposed takeover of BSKyB until after April 26, when the U.K. parliament resumes from recess. In early March, NWSA received provisional approval of the deal with the condition that NWSA spins off Sky News. We remain optimistic that Mr. Hunt will eventually give final regulatory approval of the deal, and we think he may be delaying the final decision somewhat to make it appear like hes giving enough thought into what is a highly politicized deal. Once NWSA receives final approval, it will have two months to negotiate deal terms with BSkyB. If the two parties do not reach an agreement within two months, NWSA could make a tender offer to BSkyB shareholders, in which case NWSA would have to tender at least half of the shares it doesnt already own within a three-months period. If NWSAs tender offer is unsuccessful, it could have the option to go hostile and purchase BSkyB shares on the open market. We think a full takeover/consolidation of BSkyB could be highly accretive to NWSAs earnings (~$0.11 to FY EPS), as detailed in our March 18 note titled Catalysts And Tailwinds For Rupert In FY12.
70
April 7, 2011
We Continue To Remind Investors That the Setup In FY12 Is Very Favorable With More Tailwind Than Most Large-Cap Media Peers
In addition to the potential accretion from BSkyB, there are several other factors (almost regardless of fundamentals) that could make FY12 an easy comp year: ~$200-250mm EBIT loss reversal from MySpace resolution. Reversal of $47 million loss from DISH/Cablevision blackouts. Estimated $58 million EBIT (or ~$0.01 EPS) accretion from Shine Group. These three factors combined could automatically account for ~7% EBIT/EPS growth in FY12, with BSkyB consolidation potentially adding another ~900bps to EPS growth.
Exhibit 81: Factors That Could Boost FY12 Earnings, Almost Regardless Of Operational Performance
($ in mm, except per share amount)
EBIT Impact Contribution To FY12 Growth EPS Impact Contribution To FY12 Growth
BSkyB Shine MySpace Loss DISH/Cablevision Accretion Accretion Reversal Blackout Reversal Total 1,679 58 225 47 2,009 3422bps 119bps 459bps 96bps 4095bps $0.11 929bps
EPS impact materially lower than EBIT impact due to incremental interest expense
$0.01 115bps
$0.06 515bps
$0.01 107bps
$0.19 1666bps
71
April 7, 2011
Exhibit 82: Estimate Changes
($ in M, except per share data) Segment Revenues Filmed Entertainment % Growth Television % Growth Cable Network Programming % Growth Direct Broadcast Satellite Television % Growth Publishing % Growth Other % Growth Total Revenues Segment EBIT Filmed Entertainment % Growth Margin Television % Growth Margin Cable Network Programming % Growth Margin Direct Broadcast Satellite Television % Growth Margin Publishing % Growth Margin Other % Growth Margin Segment EBIT % Growth Margin F3Q11E New Est. F3Q11E Prior Est. F3Q10A Reported
FY2010A Reported
1,539 1,682 2,422 -36% -31% 65% 1,456 1,406 1,168 25% 20% 2% 2,050 2,043 1,798 14% 14% 16% 915 915 954 -4% -4% 3% 2,126 2,126 2,116 0% 0% 17% 287 319 327 -12% -2% -31% __________ ____________________ 8,372 -4.7% 8,492 -3.3% 8,785 19.2%
6,505 6,530 7,631 -15% -14% 29% 4,771 4,721 4,228 13% 12% 4% 8,027 8,002 7,038 14% 14% 15% 3,624 3,624 3,802 -5% -5% 1% 8,652 8,652 8,548 1% 1% 5% 1,209 1,283 1,531 -21% -16% -36% ____________________ __________ 32,788 0.0% 32,812 0.1% 32,778 7.7%
208 263 497 -58% -47% 76% 14% 16% 21% 128 128 40 220% 220% 471% 9% 9% 3% 729 721 588 24% 23% 38% 36% 35% 33% 51 51 35 45% 45% -44% 6% 6% 4% 210 210 243 -13% -13% 268% 10% 10% 11% (154) (138) (150) 3% -8% 69% -54% -43% -46% __________ ____________________ 1,171 -7% 14% F3Q11E New Est. 8,372 -5% 1,171 -7% $0.27 1,236 -1% 15% F3Q11E Prior Est. 8,492 -3% 1,236 -1% $0.29 1,253 66% 14% F3Q10A Reported 8,785 19% 1,253 66% $0.32
893 927 1,349 -34% -31% 59% 14% 14% 18% 554 524 220 152% 138% 29% 12% 11% 5% 2,826 2,804 2,250 26% 25% 36% 35% 35% 32% 250 250 230 9% 9% -41% 7% 7% 6% 991 991 967 3% 3% 28% 11% 11% 11% (608) (575) (577) 5% 0% 59% -50% -45% -38% ______________________________ __________ 4,906 11% 15% F3Q11E FY2011E Consensus New Est. 8,433 32,788 0% 1,219 4,906 10% $0.28 $1.13 4,922 11% 14% FY2011E Prior Est. 32,812 0% 4,922 11% $1.14 4,439 29% 14% FY2010A Reported 32,778 8% 4,439 29% $1.08 FY2011E Consensus 33,024 4,919 10% $1.12 FY2011E Guidance
low double-digit
Valuation
Our valuation methodology derives a $21 price target for News Corporation. We average our sum of the parts analysis, DCF analysis, and blended C2011/12E P/E multiple. We use a 15x P/E multiple, a level at which most comparable public companies have historically traded.
72
April 7, 2011
similarly favorable terms or that News Corp. may be outbid and lose the rights entirely. A loss of one or more significant sports contracts could negatively impact News Corp.s operating results. Growth in piracy could threaten News Corp.'s business. News Corp.s business depends heavily on the protection of its intellectual property. A significant growth in the distribution of the companys intellectual property by others without proper authorization or compensation (piracy) could materially impact the companys operating results.
Exhibit 83: NWSA Earnings Model
Segment Details - NWSA Fiscal Year Ended June 30 Calendar Month Ended: figures in millions Segment Revenues Filmed Entertainment Television Cable Network Programming Direct Broadcast Satellite Television Publishing Other Total Revenues Segment EBIT Filmed Entertainment Television Cable Network Programming Direct Broadcast Satellite Television Publishing Other Segment EBIT Income Statement - NWSA Fiscal Year Ended June 30 Calendar Month Ended: figures in millions Revenues Operating Expenses EBITDA Less: Depreciation & Amortization Operating Income Gains on sale of equity investment and business Less: Net Interest Expense Equity in income of investees Other Income/(Expense) Pre-tax Income Less: Income Tax Less: Minority Interest Less: Other Misclaneous Adjustments Net Income from Continuing Operations Gain/(Loss) on disposition of discontinued operations/other net of tax Income before extraordinary items Extraordinary Items net of tax Net Income (Reported) Basic Weighted Average Shares O/S Diluted Weighted Average Shares O/S Recurring Basic EPS Recurring Diluted EPS Reported Basic EPS Reported Diluted EPS 2009A June 30,423 25,831 4,592 1,138 3,454 836 (309) 124 2,433 692 68 1,673 1,686 3,359 (7,383) (4,024) 2,613 2,615 $0.64 $0.64
($1.54) ($1.54)
2009A June
1Q10A Sep
2Q10A Dec
3Q10A Mar
4Q10A June
2010A June
1Q11A Sep
2Q11A Dec
3Q11E Mar
4Q11E June
2011E June
2012E June
5,936 4,051 6,131 3,760 8,167 2,378 30,423 848 171 1,650 393 756 (364) 3,454
1,521 765 1,606 927 1,980 400 7,199 391 38 495 128 118 (128) 1,042
1,898 1,248 1,756 1,008 2,327 447 8,684 324 29 604 (30) 410 (125) 1,212
2,422 1,168 1,798 954 2,116 327 8,785 497 40 588 35 243 (150) 1,253
1,790 1,047 1,878 913 2,125 357 8,110 137 113 563 97 196 (174) 932
7,631 4,228 7,038 3,802 8,548 1,531 32,778 1,349 220 2,250 230 967 (577) 4,439
1,503 851 1,872 856 2,046 298 7,426 280 105 659 82 178 (156) 1,148
1,809 1,369 1,974 944 2,346 319 8,761 189 151 735 (12) 380 (156) 1,287
1,539 1,456 2,050 915 2,126 287 8,372 208 128 729 51 210 (154) 1,171
1,654 1,095 2,132 909 2,134 305 8,229 216 170 703 130 223 (142) 1,299
6,505 4,771 8,027 3,624 8,652 1,209 32,788 893 554 2,826 250 991 (608) 4,906
6,721 4,779 8,927 3,753 8,727 1,187 34,095 984 611 3,277 305 976 (437) 5,716
1Q10A Sep 7,199 5,860 1,339 297 1,042 220 32 (12) 842 245 26 571 571 571 2,616 2,617 $0.22 $0.22
$0.22 $0.22
2Q10A Dec 8,684 7,173 1,511 299 1,212 253 58 (96) 921 137 30 110 644 644 (390) 254 2,620 2,622 $0.25 $0.25
$0.10 $0.10
3Q10A Mar 8,785 7,238 1,547 294 1,253 227 181 (51) 1,156 295 22 839 839 839 2,620 2,627 $0.32 $0.32
$0.32 $0.32
4Q10A June 8,110 6,883 1,227 295 932 200 177 (91) 818 2 27 789 789 86 875 2,621 2,631 $0.30 $0.30
$0.33 $0.33
2010A June 32,778 27,154 5,624 1,185 4,439 900 448 (250) 3,737 679 105 110 2,843 2,843 (304) 2,539 2,619 2,628 $1.09 $1.08
$0.97 $0.97
1Q11A Sep 7,426 6,004 1,422 274 1,148 206 94 (17) 1,019 285 34 700 700 75 775 2,623 2,626 $0.27 $0.27
$0.30 $0.30
2Q11A Dec 8,761 7,194 1,567 280 1,287 202 67 (287) 865 190 33 (114) 756 756 (114) 642 2,625 2,628 $0.29 $0.29
$0.24 $0.24
3Q11E Mar 8,372 6,921 1,451 279 1,171 212 139 (10) 1,088 348 27 713 713 713 2,625 2,628 $0.27 $0.27
$0.27 $0.27
4Q11E June 8,229 6,643 1,586 286 1,299 212 153 (10) 1,230 394 32 805 805 805 2,625 2,628 $0.31 $0.31
$0.31 $0.31
2011E June 32,788 26,762 6,025 1,120 4,906 832 452 (324) 4,202 1,217 126 (114) 2,973 2,973 (39) 2,934 2,625 2,628 $1.13 $1.13
$1.12 $1.12
2012E June 34,095 27,243 6,852 1,137 5,716 848 651 (40) 5,478 1,753 130 3,595 3,595 3,595 2,625 2,628 $1.37 $1.37
$1.37 $1.37
73
April 7, 2011
21NOV08 - 6APR11
HI-19NOV10 LO/HI DIFF CLOSE 144.154 87.32% 123.886
LO-6MAR09
18.100
5000
Q4 2009 Q1 $429.7 $1,546.7 $469.4 $152.0 $0.41 $601.7 $175.2 $1.65 $0.43
Q4 2010 Q1E $573.0 $2,067.2 $528.5 $528.5 $247.0 $873.8 $234.6 $234.6 $0.77 $2.39 $0.59 $0.62
Q2E Q3E Q4E 2011E 2012E $577.4 $562.1 $631.1 $2,299.2 $2,496.5 $577.4 $562.1 $631.1 $2,299.2 N/A $268.6 $256.1 $300.4 1,059.6 $1,177.3 $268.6 $256.1 $300.4 $1,059.6 N/A $0.69 $0.64 $0.82 $2.74 $3.15 $0.72 $0.68 $0.82 $2.85 N/A
Investment Opinion
Were Maintaining Our Above-The-Line Estimates As Overall Trends Were As Expected In The Quarter; Adjusting EPS Lower On Increased Minority Interest Expense From Tribune Restoring Its Ownership Stake In Food/Cooking Back To 31%
Advertising/ratings trends at Scripps major networks appear to have progressed basically in line with what we were previously expecting in 1Q11, and therefore were maintaining our prior above-the-line estimates for 1Q11 and FY11. Were lowering our EPS estimates (for 1Q11 and FY11) to account for the increased minority expense arising from Tribune restoring its ownership stake in Food/Cooking partnership to 31% (from 25%) wed note that this was largely already expected. Upcoming upfronts, Food Network affiliate fee negotiations, and potential opportunities to buy in the remaining 31% stake in Food/Cooking from Tribune could become catalysts in the next few quarters, but investors likely want to see a material positive turn in ratings more than anything else right now. SNI shares are currently trading at ~18.5x 2011E P/E, a premium to the group, but a much more reasonable level versus the past, and therefore we think near-term downside risk is limited. Were introducing FY12 estimates. Maintaining Outperform rating, $57 price target.
Fundamentals In 1Q11 Appear To Have Played Out Largely As We Had Previously Expected
Following a material deceleration in ad growth in 4Q10 (given accrual of forward liability for potential make-goods arising from ratings softness), ratings did stabilize somewhat in 1Q11. Food Network ratings in prime time improved each month of the quarter (better than expected) though daypart and weekend ratings were somewhat softer than expected. HGTV ratings were down slightly in 1Q11 in its key demo, an improvement from the prior quarter, and is now basically at a steady state. Travel Channel ratings continued to grow at a rapid pace. Given the stabilization in ratings, we think 1Q11 ad growth likely re-accelerated, and were maintaining our 14.5% YoY ad growth estimate for the quarter (450bps) sequential improvement. Were also maintaining our FY11E Lifestyle Media total revenue growth of ~11%, in line with guidance of 10-12%. In terms of Lifestyle Media EBITDA margins, wed note that there were ~$26.5 million of non-recurring expenses in the prior year quarter (Travel Channel transition costs and legal/marketing expenses related to affiliate deal negotiations), and were expecting ~120bps of margin expansion on a pro forma basis (excluding non-recurring items). Given much heavier programming expense in 2Q and 3Q, we expect less margin expansion in those two quarters.
Tribune Meets Capital Call And Its Ownership Stake In The Food/Cooking Partnership Reverts Back To 31%, Resulting In Increased Minority Interest Expense
Management noted that in during 1Q, Tribune contributed $54 million to the Food/Cooking partnership, restoring its ownership stake back to 31% from 25%. Recall, in 4Q10, Scripps contributed Cooking Channel to the Partnership, but Tribune was unable to meet its capital commitment ($54 million) resulting in a reduction in its ownership stake from 31% to 25%. In addition, given the reduction in Tribunes ownership stake, Scripps recorded $4.7 million less in minority interest expense in 4Q10, and a reversal would have to be recorded in 1Q11. Wed note that managements FY11 minority interest expense guidance of $125-135 million was based on Tribune
74
April 7, 2011
not making the capital call, and therefore the guidance will have to be updated, likely on 1Q11 earnings. At this point, its difficult to get to an accurate new minority interest expense figure for 1Q11 and FY11 given limited disclosure our new FY11 minority interest expense estimate is $153 million (including the $4.7 million reversal in 1Q11), which has a negative ~$0.02-0.03/quarter impact on EPS versus what we were previously modeling. However, given that management had already communicated its expectation for Tribune to make its capital call (sooner than later), we dont think the EPS reduction arising from increased minority interest expense should come as a surprise to investors. Wed also note that the restoration of Tribunes stake in Food/Cooking back to 31% could lower SNIs effective tax rate somewhat but were not sure if it will have a material impact on tax rate guidance.
A buy-in of the remaining stake in Food Network from Tribune would be accretive by roughly $0.22 to our 2011 EPS estimate.
75
April 7, 2011
Exhibit 85: Estimate Changes
F1Q11E ($ in mm, except per share amt) Segment Revenue Advertising Y/Y growth Affiliate fees, net Y/Y growth Others Lifestyle Media Interactive Services Corporate & Eliminations Total revenue Segment expense Lifestyle Media Programming expense Non-programming expense Interactive Services Corporate & Eliminations Total segment expense Segment profit (EBITDA): Lifestyle Media % margin Interactive Services % margin Corporate & Eliminations Total segment profit (EBITDA) % margin Reported Diluted EPS Recurring Diluted EPS 243.7 50.8% 7.4 16.5% (16.6) 234.6 44.4% $0.59 $0.59 243.7 50.8% 7.4 16.5% (16.6) 234.6 44.4% $0.62 $0.62 186.2 43.4% 4.9 13.0% (15.9) 175.2 37.3% $0.43 $0.43 $0.60 230.4 44.0% 235.6 98.2 137.4 37.7 20.6 293.9 235.6 98.2 137.4 37.7 20.6 293.9 242.4 89.5 152.9 32.7 19.1 294.2 293.6 328.9 14.5% 145.3 6.9% 5.2 479.4 45.1 4.0 528.5 328.9 14.5% 145.3 6.9% 5.2 479.4 45.1 4.0 528.5 287.3 27.9% 135.9 71.9% 5.4 428.6 37.6 3.2 469.4 523.9 New Est. F1Q11E Prior Est. F1Q10A Reported F1Q11E Consensus
2011E New Est. 1,465.5 13.8% 584.8 6.1% 24.3 2,074.6 208.5 16.0 2,299.2
2011E Prior Est. 1,465.5 13.8% 584.8 6.1% 24.3 2,074.6 208.5 16.0 2,299.2
2010A Reported 1,288.0 27.6% 551.4 69.2% 27.8 1,867.2 184.5 15.5 2,067.2
2011E Consensus
2011E Guidance
10-12% growth
2,274.7
2,294.5
963.7 399.0 564.6 145.8 83.9 1,193.3 1,221.1 6-9% growth flat to down 2%
903.6 48.4% 38.7 21.0% (68.4) 873.8 42.3% $2.45 $2.39 $2.79 1,053.6 46.3% 1,055.49 55-55
Source: Company reports, RBC Capital Markets estimates, Thomson ONE Analytics
Valuation
Our valuation methodology derives a $57 price target for SNI shares. We average our DCF analysis and our one-year forward multiples on blended 2011/12E EBITDA and EPS. We apply a 10x EBITDA multiple and a 20x P/E multiple, consistent with historical trading levels and in line with other publicly traded entertainment/cable network companies.
76
April 7, 2011
Growth in piracy could threaten Scripps Networks business. SNI depends heavily on the protection of its intellectual property. A significant growth in the distribution of the Company's original content programming by others without proper authorization or compensation (i.e., piracy) could materially affect the Company's operating results. The Edward W. Scripps Trust has much of the voting power. Class A Common Share holders are entitled to elect one-third of the board of directors but are not permitted to vote on any other matters. Common Voting Share holders are entitled to elect the remainder of the Board and to vote on all other matters. The Edward W. Scripps Trust holds ~90% of the Common Voting Shares, and as a result, it has the ability to elect two-thirds of the board of directors and to control the outcome of any matter that does not require a vote by the Class A Common Share holders. This could discourage others from initiating a potential merger or other value-enhancing transactions.
Exhibit 86: SNI Earnings Model
Segment Details - SNI Fiscal Year Ended December 31 Calendar Month Ended: ($ in mm) Segment revenue: Advertising Affiliate fees, net Other Lifestyle Media Interactive Services Corporate Intersegment eliminations Total revenue Segment profit (EBITDA): Lifestyle Media Interactive Services Corporate Intersegment eliminations Total segment profit (EBITDA) Income Statement - SNI Fiscal Year Ended December 31 Calendar Month Ended: ($ in mm, except per share data) Total Revenue YoY growth Less: Operating expenses EBITDA (incl. non-cash comp. expense) YoY growth % margin Less: Depreciation & Amortization Operating income / EBIT YoY growth % margin Other gains (losses) Interest, net Equity in earnings of affiliates Gains (losses) on repurchases of debt Miscellaneous, net Pre-tax income Less: Income tax Income after tax Income (loss) from discontinued operations, net of tax Net Income Less: net income attributable to noncontrolling interests Net income attributable to SNI Diluted weighted average shares O/S Reported diluted EPS Reported diluted EPS excl. discontinued ops Recurring diluted EPS 2009A Dec 1Q10A Mar 2Q10A Jun 3Q10A Sep 4Q10A Dec 2010A Dec 1Q11E Mar 2Q11E Jun 3Q11E Sep 4Q11E Dec 2011E Dec 2012E Dec
1,009.5 325.9 31.4 1,366.8 179.4 0.7 (0.1) 1,546.7 636.9 30.8 (66.0) 0.0 601.7
287.3 135.9 5.4 428.6 37.6 3.3 (0.0) 469.4 186.2 4.9 (15.9) 0.0 175.2
331.5 138.6 5.2 475.2 37.3 3.6 (0.0) 516.0 237.0 6.0 (15.1) 0.0 227.9
316.4 139.0 7.1 462.5 41.8 4.4 (0.0) 508.7 232.5 7.1 (15.8) 0.0 223.8
352.8 138.0 10.2 501.0 67.8 4.3 (0.0) 573.0 247.9 20.8 (21.7) 0.0 247.0
1,288.0 551.4 27.8 1,867.2 184.5 15.5 (0.1) 2,067.2 903.6 38.7 (68.4) 0.0 873.8
328.9 145.3 5.2 479.4 45.1 4.0 0.0 528.5 243.7 7.4 (16.6) 0.0 234.6
378.4 146.7 5.4 530.5 42.9 4.0 0.0 577.4 277.6 8.4 (17.4) 0.0 268.6
358.7 147.4 6.1 512.2 46.0 4.0 0.0 562.1 264.6 9.4 (17.9) 0.0 256.1
399.5 145.4 7.7 552.6 74.5 4.0 0.0 631.1 295.5 25.4 (20.6) 0.0 300.4
1,465.5 584.8 24.3 2,074.6 208.5 16.0 0.0 2,299.2 1,081.5 50.7 (72.5) 0.0 1,059.6
1,585.9 649.2 24.3 2,259.5 219.0 18.0 0.0 2,496.5 1,195.9 57.0 (75.6) 0.0 1,177.3
2009A Dec 1,546.7 -2.8% 945.0 601.7 -7.5% 38.9% 83.0 518.7 -10.0% 33.5% (2.5) (2.8) 18.6 0.0 (14.3) 517.7 160.5 357.2 27.7 384.9 85.5 299.3 165.4 $1.81 $1.64 $1.65
1Q10A Mar 469.4 29.9% 294.2 175.2 25.8% 37.3% 31.4 143.7 20.4% 30.6% (0.1) (8.5) 6.2 0.0 (0.6) 140.7 44.9 95.8 0.0 95.8 23.3 72.5 167.0 $0.43 $0.43 $0.43
2Q10A Jun 516.0 31.9% 288.2 227.9 37.2% 44.2% 33.2 194.7 32.8% 37.7% (1.2) (9.3) 8.4 0.0 (0.2) 192.4 60.7 131.7 10.0 141.7 35.5 106.2 167.8 $0.63 $0.57 $0.58
3Q10A Sep 508.7 39.6% 284.9 223.8 55.1% 44.0% 30.3 193.5 56.6% 38.0% 0.0 (8.8) 6.9 0.0 (0.3) 191.4 55.3 136.1 0.0 136.1 34.4 101.7 167.8 $0.61 $0.61 $0.61
4Q10A Dec 573.0 33.3% 326.0 247.0 62.5% 43.1% 30.1 216.9 68.0% 37.8% (0.5) (8.6) 8.6 0.0 (0.9) 215.4 60.1 155.4 0.0 155.4 24.8 130.6 169.2 $0.77 $0.77 $0.77
2010A Dec 2,067.2 33.7% 1,193.3 873.8 45.2% 42.3% 125.0 748.9 44.4% 36.2% (1.8) (35.2) 30.1 0.0 (2.1) 739.9 220.9 519.0 10.0 529.0 118.0 411.0 168.0 $2.45 $2.39 $2.39
1Q11E Mar 528.5 12.6% 293.9 234.6 33.9% 44.4% 30.7 203.9 41.9% 38.6% 0.0 (8.8) 7.0 0.0 0.0 202.0 66.7 135.4 0.0 135.4 35.7 99.7 169.6 $0.59 $0.59 $0.59
2Q11E Jun 577.4 11.9% 308.8 268.6 17.9% 46.5% 32.0 236.6 21.5% 41.0% 0.0 (8.8) 7.0 0.0 0.0 234.7 77.5 157.3 0.0 157.3 40.2 117.0 170.1 $0.69 $0.69 $0.69
3Q11E Sep 562.1 10.5% 306.0 256.1 14.4% 45.6% 32.8 223.3 15.4% 39.7% 0.0 (8.8) 7.0 0.0 0.0 221.4 73.1 148.4 0.0 148.4 39.1 109.3 170.5 $0.64 $0.64 $0.64
4Q11E Dec 631.1 10.1% 330.8 300.4 21.6% 47.6% 32.9 267.5 23.3% 42.4% 0.0 (8.8) 7.0 0.0 0.0 265.6 87.7 178.0 0.0 178.0 38.1 139.9 170.9 $0.82 $0.82 $0.82
2011E Dec 2,299.2 11.2% 1,239.5 1,059.6 21.3% 46.1% 128.4 931.2 24.4% 40.5% 0.0 (35.4) 28.0 0.0 0.0 923.8 304.9 619.0 0.0 619.0 153.1 465.9 170.3 $2.74 $2.74 $2.74
2012E Dec 2,496.5 8.6% 1,319.1 1,177.3 11.1% 47.2% 129.5 1,047.8 12.5% 42.0% 0.0 (35.4) 30.0 0.0 0.0 1,042.4 328.4 714.0 0.0 714.0 172.9 541.2 172.0 $3.15 $3.15 $3.15
77
April 7, 2011
21NOV08 - 6APR11
HI-18JUN10 LO/HI DIFF CLOSE 140.773 49.69% 129.549
Price Target: Implied All-in Return: Market Cap (MM): Yield: Avg. Daily Volume (MM): 3-Yr. Est. EPS Growth:
LO-6MAR09
14.347
100916.4 17682.6
Q4 $7.2 $0.52
Q1 $6.3 $0.62
Q2 $6.4 $0.49
Q3 $6.4 $0.46
Q4 $7.8 $0.68
Investment Opinion
Advertising Fundamentals Solid But Investors Are Likely To Continue To Scrutinize HBO Sub Trends In The Near Term
Our channel checks indicate the network advertising market environment basically maintained the sequential momentum it has seen over the past few quarters. Results for Turner networks in 1Q11 were likely skewed due to the first year of NCAA basketball tournament; although its difficult to accurately define the financial impact of the tournament, we think theres limited downside risk to managements prior commentary that 1Q11 Media Networks adjusted operating income should grow modestly YoY, given that the ad sales effort and rating for the tournament are generally perceived to have been better than expected. The rebound in CNN ratings (from a pickup in the hard news cycle) could help ad growth modestly, though historically ratings and ad growth have not been as directly correlated as might have been expected. With HBO/Cinemax losing ~1.6mm subs in 2010, investors appear to be much more focused on the potential risks to HBO than the positive fundamentals of the advertising market, and we think material near-term stock price appreciation could be somewhat limited until investors regain confidence in the HBO business model. Were taking 1Q11 estimates lower largely on difficult comps in Filmed Entertainment (and the Street may have to bring estimates down as well), but our FY11 estimates are revised slightly higher as Filmed Entertainment segment results will likely improve drastically in 2H with more tentpole releases. Maintaining Outperform rating, Average Risk, $41 price target.
78
April 7, 2011
Exhibit 87: Studio Box Office Comparison (units in mm)
4Q09A Title Sherlock Holmes Invictus Ninja Assassin The Blind Side The Box Where the Wild Things Are The Invention of Lying Quarter Total 1Q10A Title Hubble 3D Cop Out Valentine's Day Edge of Darkness The Book of Eli Quarter Total 2Q10A Title Jonah Hex Splice Sex and the City 2 A Nightmare on Elm Street The Losers Clash of the Titans Quarter Total Release 25-Dec-09 11-Dec-09 25-Nov-09 20-Nov-09 06-Nov-09 16-Oct-09 02-Oct-09 Dom. B.O $209.0 $37.5 $38.1 $256.0 $15.1 $77.2 $18.5 $651.3 Int'l B.O. $315.0 $84.7 $23.5 $53.2 $18.3 $22.9 $14.0 $531.6 Production Cost $90.0 $60.0 $40.0 $29.0 $30.0 $100.0 $18.5
4Q10A Title Yogi Bear Harry Potter and the Deathly Hallows: Part I Due Date Hereafter Life as We Know It
Quarter Total 1Q11E Title Sucker Punch Red Riding Hood Hall Pass Unknown The Rite Quarter Total 2Q11E Title Green Lantern The Hangover 2 Something Borrowed Arthur (2011) Born to Be Wild (IMAX) Quarter Total
$580.9
$988.3
Production Cost NA NA NA NA NA
Note: box office figures represent the total reported (or expected) box office receipts of the particular film, and not the box office receipts made in the particular quarter Source: Boxofficemojo.com, HSX.com
79
April 7, 2011
Exhibit 88: Estimate Changes
($ in mm, except per share amt)
F1Q11E New Est. 2,048 8.5% 995 26.0% 252 0.0% 28 0.0% 3,324 12.4% 2,502 -7.1% 781 -2.3% (129) 6,477 2.5%
F1Q11E Prior Est. 2,048 8.5% 995 26.0% 252 0.0% 28 0.0% 3,324 12.4% 2,629 -2.4% 781 -2.3% (129) 6,605 4.5%
F1Q10A Reported 1,888 7.5% 790 9.3% 252 22.3% 28 40.0% 2,958 9.3% 2,694 2.3% 799 -0.9% (129) 6,322 5.4%
FY1Q11E Consensus
FY2011E New Est. 8,323 8.5% 4,187 12.1% 963 2.2% 131 0.0% 13,604 9.0% 11,822 1.7% 3,611 -1.7% (889) 28,148 4.7%
FY2011E Prior Est. 8,323 8.5% 4,182 11.9% 963 2.2% 131 0.0% 13,599 9.0% 11,868 2.1% 3,619 -1.5% (889) 28,197 4.9%
FY2010A Reported 7,671 8.4% 3,736 14.2% 942 15.0% 131 54.1% 12,480 10.9% 11,622 5.0% 3,675 -1.6% (889) 26,888 5.9%
FY2011E Consensus
Segment Revenues Subscription (Affiliate) YoY Change Advertising YoY Change Content YoY Change Other YoY Change Media Networks yoy change Filmed Entertainment yoy change Publishing yoy change Intersegment eliminations Total Revenues yoy change
Adjusted Segment Operating Income Media Networks 1,177 yoy change 3.1% % Margin 35.4% Filmed Entertainment 106 yoy change -65.4% % Margin 4.3% Publishing 55 yoy change 9.3% % Margin 7.0% Intersegment eliminations (90) Adjusted Operating Income yoy change % Margin Segment Operating Income Media Networks yoy change % Margin Filmed Entertainment yoy change % Margin Publishing yoy change % Margin Intersegment eliminations Total Operating Income yoy change % Margin 1,248 -11.8% -11.8%
1,176 3.0% 35.4% 151 -50.8% 5.8% 55 9.3% 7.0% (90) 1,292 -8.7% -8.7%
1,142 22.0% 38.6% 307 43.5% 11.4% 50 -256.3% 6.3% (84) 1,415 22.4%
4,502 8.1% 33.1% 1,189 7.6% 10.1% 514 -2.4% 14.2% (400) 5,804 7.5% 20.6%
4,541 9.0% 33.4% 1,119 1.3% 9.4% 515 -2.1% 14.2% (400) 5,775 6.9% 20.5%
4,165 18.3% 33.4% 1,105 -1.1% 9.5% 526 88.5% 14.3% (396) 5,400 20.1%
1,177 -2.0% 35.4% 106 -65.4% 4.3% 55 9.3% 7.0% (90) 1,248 -14.7% 19.3% F1Q11E New Est. 6,477 2.5% 1,248 -14.7% $0.55 -10.6%
1,176 -2.1% 35.4% 151 -50.8% 5.8% 55 9.3% 7.0% (90) 1,292 -11.7% 19.6% F1Q11E Prior Est. 6,605 4.5% 1,292 -11.7% $0.57 -7.2%
1,201 28.3% 40.6% 307 43.5% 11.4% 50 6.3% 6.3% (95) 1,463 42.9% 23.1% F1Q10A Reported 6,322 5.4% 1,463 42.9% $0.61 FY1Q11E Consensus 6,532 3.3% 1,321 -9.7% $0.58 -5.5%
4,502 6.6% 33.1% 1,189 7.4% 10.1% 514 -0.3% 14.2% (400) 5,804 6.9% 20.6% FY2011E New Est. 28,148 4.7% 5,804 6.9% $2.73 13.3%
4,541 7.5% 33.4% 1,119 1.1% 9.4% 515 0.0% 14.2% (400) 5,775 6.4% 20.5% FY2011E Prior Est. 28,197 4.9% 5,775 6.4% $2.71 12.7%
4,224 21.7% 33.8% 1,107 2.1% 9.5% 515 109.3% 14.0% (418) 5,428 21.4% 20.2% FY2010A Reported 26,888 5.9% 5,428 21.4% $2.41 FY2011E Consensus 28,350 5.4% 5,889 8.5% $2.74 13.8% FY2011E Guidance N/A N/A N/A low teens
Revenue yoy change Operating Income yoy change Adj. EPS from Cont. Ops yoy change
Source: Company reports, RBC Capital Markets estimates, Thomson ONE Analytics
80
April 7, 2011
Valuation
Based on our valuation methodology, we derive a $41 price target for Time Warner. We average our sum-of-the-parts valuation, DCF analysis and blended 2011/12E P/E multiple-based methodologies. We use a 15x P/E multiple since we believe that most comparable publicly traded companies in the large-cap media segment have historically traded at this level.
81
April 7, 2011
Exhibit 89: TWX Earnings Model
Segment Details - TWX Fiscal Year Ended Dec 31 Calendar Month Ended: figures in millions Segment Revenues Media Networks Filmed Entertainment Publishing Intersegment eliminations Total Revenues Segment EBIT Media Networks Filmed Entertainment Publishing Intersegment eliminations Total Segment EBIT Income Statement - TWX Fiscal Year Ended Dec 31 Calendar Month Ended: figures in millions Revenues Year-Over-Year Growth Operating Expenses EBITDA Year-Over-Year Growth Margin Less: Depreciation & Amortization Operating Income Year-Over-Year Growth Margin Less: Net Interest Expense Other Income/(Expense) Pre-tax Income Less: Income Tax Net Income from Continuing Operations Discontinued operations net of tax Net Income Less: Minority Interest Net Income (Reported) Income from Continuing Operations attributable to TWX shareholders Adjusted Income from Cont. Operations Basic Weighted Average Shares O/S Diluted Weighted Average Shares O/S Recurring Basic EPS Recurring Diluted EPS Adjusted Basic EPS Adjusted Diluted EPS Reported Basic EPS Reported Diluted EPS 2009A Dec 1Q10A Mar 2Q10A Jun 3Q10A Sep
4Q10A Dec
2010A Dec
1Q11E Mar
2Q11E Jun
3Q11E Sep
4Q11E Dec
2011E Dec
2012E Dec
2009A Dec 25,388 -4.0% 19,970 5,418 -366.9% 21.3% 948 4,470 -246.8% 17.6% (1,166) (67) 3,237 (1,153) 2,084 428 2,512 (35) 2,477 2,088 2,192 1,184 1,195 $1.76 $1.75 $1.85 $1.83 $2.09 $2.07
1Q10A Mar 6,322 5.4% 4,627 1,695 33.9% 26.8% 232 1,463 42.9% 23.1% (296) (53) 1,114 (389) 725 725 725 725 715 1,150 1,165 $0.63 $0.62 $0.62 $0.61 $0.63 $0.62
2Q10A Jun 6,377 7.7% 4,947 1,430 16.1% 22.4% 236 1,194 19.3% 18.7% (300) (17) 877 (317) 560 560 2 562 560 580 1,137 1,154 $0.49 $0.49 $0.51 $0.50 $0.49 $0.49
3Q10A Sep 6,377 1.8% 4,808 1,569 6.0% 24.6% 222 1,347 8.6% 21.1% (299) (307) 741 (221) 520 520 2 522 520 708 1,121 1,138 $0.46 $0.46 $0.63 $0.62 $0.47 $0.46
4Q10A Dec 7,812 8.3% 6,140 1,672 16.1% 21.4% 248 1,424 18.2% 18.2% (283) 46 1,187 (421) 766 766 3 769 766 754 1,106 1,124 $0.69 $0.68 $0.68 $0.67 $0.70 $0.68
2010A Dec 26,888 5.9% 20,522 6,366 17.5% 23.7% 938 5,428 21.4% 20.2% (1,178) (331) 3,919 (1,348) 2,571 2,571 7 2,578 2,571 2,757 1,128 1,145 $2.28 $2.24 $2.44 $2.41 $2.28 $2.25
1Q11E Mar 6,477 2.5% 5,002 1,476 -12.9% 22.8% 228 1,248 -14.7% 19.3% (294) (3) 951 (342) 609 609 609 609 609 1,091 1,110 $0.56 $0.55 $0.56 $0.55 $0.56 $0.55
2Q11E Jun 6,764 6.1% 5,136 1,628 13.9% 24.1% 242 1,386 16.1% 20.5% (292) (3) 1,092 (393) 699 699 699 699 699 1,076 1,095 $0.65 $0.64 $0.65 $0.64 $0.65 $0.64
3Q11E Sep 6,741 5.7% 4,889 1,852 18.0% 27.5% 228 1,624 20.6% 24.1% (292) (10) 1,322 (476) 846 846 846 846 846 1,061 1,079 $0.80 $0.78 $0.80 $0.78 $0.80 $0.78
4Q11E Dec 8,166 4.5% 6,366 1,801 7.7% 22.1% 254 1,546 8.6% 18.9% (292) 15 1,270 (457) 813 813 813 813 813 1,046 1,065 $0.78 $0.76 $0.78 $0.76 $0.78 $0.76
2011E Dec 28,148 4.7% 21,392 6,757 6.1% 24.0% 952 5,804 6.9% 20.6% (1,170) 4,635 (1,669) 2,966 2,966 2,966 2,966 2,966 1,068 1,087 $2.78 $2.73 $2.78 $2.73 $2.78 $2.73
2012E Dec 29,245 3.9% 22,031 7,214 6.8% 24.7% 984 6,230 7.3% 21.3% (1,170) 5,061 (1,822) 3,239 3,239 3,239 3,239 3,239 1,012 1,031 $3.20 $3.14 $3.20 $3.14 $3.20 $3.14
82
April 7, 2011
125 WEEKS
VIACOM INC-NEW Rel. S&P 500 200.00 150.00
21NOV08 - 6APR11
HI-8APR11 LO/HI DIFF CLOSE 220.326 120.33% 220.326
LO-21NOV08
Price Target: 52.00 (Prior 48.00) Implied All-in Return: 11% Market Cap (MM): 28,416 Yield: 1.3% Avg. Daily Volume (MM): 3.66
2010 F M A M J J A S O N D
50.00 45.00 40.00 35.00 30.00 25.00 20.00 15.00 800 400
CLOSE
53.920
LO-21NOV08
13.000
969.7 48.3
Q1 $4.2 $0.76
Q2 $2.9 $0.29
Q3 $3.3 $0.49
Q4 $3.3 $0.69
Q1 $4.1 $1.09
Q2 $2.8 $0.40
Q3 $3.3 $0.68
Q4 $3.3 $0.75
Q1 $3.8 $1.02
Investment Opinion
Comfortable With Our Above-Consensus EPS Estimates For F2Q11 and FY11 As the Core Business Hums Along Nicely
Viacom continued to post strong ratings gains across many of its flagship networks (especially at MTV), giving us increased confidence in our above-consensus estimates in an environment where the network TV ad market remains robust. Management has guided to double-digit domestic ad growth in Media Networks, and we think domestic ad growth accelerated sequentially despite the shift of Teen Choice Awards and Easter out of F2Q and into F3Q. We think domestic ad growth could accelerate even further to a mid-teens rate in F3Q, helped by Teen Choice Awards and Easter. Filmed Entertainment comps were generally favorable in the quarter (for both theatricals and home video), and we think Street estimates for the segment could be revised higher over the next few weeks. Our EPS estimates for F2Q11 and FY11 remain above consensus, and our newly introduced FY12 EPS estimate of $4.11 is also significantly above consensus, despite it being based on what we think are relatively conservative assumptions. VIA shares continue to demonstrate exceptional value in the group, trading at just 11.5x FY12E P/E. Maintaining Outperform rating; new $52 price target.
F2Q Ad Growth Impacted Negatively Impacted By Shift of Teen Choice Awards and Easter Into F3Q, But Were Still Comfortable With Double-Digit F2Q Domestic Ad Growth Guidance; F3Q11 Should See Further Acceleration
With the exception of VH1 (which is in the midst of a programming overhaul), overall ratings across Viacoms major networks maintained their positive momentum in F2Q. MTV total day ratings were up 20%+ in its key demo and Comedy Central also posted low-to-mid single digit ratings growth in the quarter, while BET staged a successful turnaround in ratings in the quarter. VH1 ratings continued to suffer but much of the reprogrammed content is scheduled to debut in May/June the reprogramming effort has been taking longer than expected as we believe management wants to ensure that past mistakes are avoided with more robust market research. Management has previously guided to double-digit domestic ad growth in F2Q11; were maintaining our 11% domestic ad growth estimate for the quarter (100bps QoQ improvement). Wed note that the shift of Teen Choice Awards and Easter out of F2Q and into F3Q likely had a ~200bps negative impact on domestic ad growth, but were still comfortable with our current estimate as ratings and pricing trends have both been solid. Given the Teen Choice Awards/Easter shift into F3Q, we think domestic ad growth could realistically improve at least another ~200bps or so to the mid-teens in F3Q11, closing the ad growth gap with peers even further. As noted previously, while F2Q should see some modest improvement in margins in Media Networks, much of the operating leverage will likely come in F2H as programming and marketing expenses are much more F1H-weighted.
83
April 7, 2011
Quarter Total F2Q10A Title How to Train Your Dragon (DWA) She's Out of My League Shutter Island Quarter Total F3Q10A Title Shrek Forever After (DWA) Iron Man 2 Quarter Total
$127.9
$128.9
Production Cost NA NA NA
Note: box office figures represent the total reported (or expected) box office receipts of the particular film, and not the box office receipts made in the particular quarter Source: boxofficemojo.com, HSX.com
With Current Debt Leverage Well Within Target and EBITDA Continuing To Grow, We Think Theres Upside Potential To Future Stock Buybacks
Management has said that it intends to maintain a debt leverage target of ~2x. With current debt leverage already below that level and EBITDA continuing to grow, its certainly possible that the company levers up and uses the cash raised for additional stock buybacks. In the recent $500mm senior notes offering at the end of March, Viacom indicated that it intends to use the proceeds for among other things buying back stock under its share repurchase program. While management has previously indicated that it plans to use all of its $4bn share-repurchase program by FY12 (at least $1.75bn in FY11), we think theres upside potential to that goal given a debt-leverage ratio that should decline (with EBITDA growth) all else equal.
Were Introducing FY12 Estimates Consensus Appears Too Low Even On Relatively Conservative Assumptions
Our official FY12 EPS estimate is $4.11 (17% growth) vs. consensus of $3.92. To arrive at our FY12 estimates we make the following assumptions: ~7% revenue growth in Media Networks; A modest ~50bps EBIT margin expansion in Media Networks; A decline in Filmed Entertainment from FY11; and $2.25bn of stock buybacks (the balance of the $4bn authorization). VIA shares are trading at 11.5x FY12E P/E, offering one of the best values in the group, in our view.
84
April 7, 2011
Exhibit 91: Estimate Changes
($ in M, except per share data) Segment Revenues Advertising Affiliate Ancillary Media Networks Filmed Entertainment Corporate / Eliminations Total Revenues F2Q11E New Est. F2Q11E Prior Est. F2Q10A Reported
FY2010A Reported
1,060 1,057 960 850 850 783 130 130 195 2,040 2,038 1,938 922 915 886 (38) __________ __________ (38) (38) __________ 2,924 2,915 2,786
4,991 4,936 4,553 3,385 3,385 3,113 632 632 824 9,008 8,952 8,490 4,900 4,861 5,153 (151) __________ __________ (151) (128) __________ 13,757 13,663 13,515
Segment EBIT (incl. equity-based comp.) Media Networks 767 766 684 Margin 37.6% 37.6% 35.3% Filmed Entertainment (14) (14) (86) Margin -1.5% -1.6% -9.7% Corporate / Eliminations (65) (65) (64) Margin N/A N/A N/A __________ __________ __________ Segment EBIT 688 687 534 F2Q11E New Est. 2,924 5.0% 688 28.8% $0.64 F2Q11E Prior Est. 2,915 4.6% 687 28.6% $0.64 F2Q10A Reported 2,786 -4.1% 534 20.8% $0.40 F2Q11E Consensus 2,971 664 $0.60
3,672 3,650 3,191 40.8% 40.8% 37.6% 230 230 331 4.7% 4.7% 6.4% (262) (262) (265) N/A N/A N/A __________ __________ __________ 3,640 3,618 3,257 FY2011E New Est. 13,757 1.8% 3,640 11.8% $3.53 FY2011E Prior Est. 13,663 1.1% 3,618 11.1% $3.51 FY2010A FY2011E Reported Consensus 13,515 13,985 -1.8% 3,257 3,597 42.4% $2.92 $3.44
Source: Company reports, RBC Capital Markets estimates, Thomson ONE Analytics
Valuation
Based on our valuation methodology, we derive a $52 price target for Viacom. We average our sum-of-the-parts valuation, DCF analysis and blended FY2011/12E P/E multiple-based methodologies. We use a 15x P/E multiple as this is where publicly traded companies in the large-cap media space have historically traded.
85
April 7, 2011
Exhibit 92: VIA.B Earnings Model
Segment Details - VIA Fiscal Year Ended Sep 30 Calendar Month Ended: figures in millions Segment Revenues Media Networks Filmed Entertainment Corporate / Eliminations Total Revenues 2009A Sep 1Q10A Dec 2Q10A Mar 3Q10A Jun
4Q10A Sep
2010A Sep
1Q11A Dec
2Q11E Mar
3Q11E Jun
4Q11E Sep
2011E Sep
2012E Sep
Segment EBIT (incl. equity-based comp. and restructuring charges) Media Networks 2,582 Filmed Entertainment (57) Corporate / Eliminations (238) Total Segment EBIT 2,287 Income Statement - VIA Fiscal Year Ended Sep 30 Calendar Month Ended: figures in millions Revenues Year-Over-Year Growth Operating Expenses EBITDA Year-Over-Year Growth Margin Less: Depreciation & Amortization Operating Income Year-Over-Year Growth Margin Gains on sale of equity investment & bus. Less: Net Interest Expense Equity in income of investees Other Income/(Expense) Pre-tax Income Less: Income Tax Less: Equity in earnings of affiliated companies, net of tax Less: Minority Interest Net Income from Continuing Operations Gain/(Loss) on disposition of discontinued operations net of tax Other Non Recurring Items Adjusted Net Income from Cont. Operations Net Income (Reported) Basic W eighted Average Shares O/S Diluted Weighted Average Shares O/S Recurring Basic EPS Recurring Diluted EPS Reported Basic EPS Reported Diluted EPS
2009A Sep 13,764 -5.9% 11,111 2,653 -22.0% 19.3% 366 2,287 -24.4% 16.6% 444 (83) (205) 1,555 471 15 1,069 21 (311) 1,359 1,090 608 609 $2.23 $2.23 $1.79 $1.79
1Q10A Dec 4,098 -3.4% 2,857 1,241 107.2% 30.3% 149 1,092 129.9% 26.6% 105 (20) 10 977 316 (33) 694 31 663 694 607 609 $1.09 $1.09 $1.14 $1.14
2Q10A Mar 2,786 -4.1% 2,174 612 16.8% 22.0% 78 534 20.8% 19.2% 113 (28) (10) 383 138 2 243 2 243 245 608 610 $0.40 $0.40 $0.40 $0.40
3Q10A Jun 3,301 0.1% 2,429 872 30.9% 26.4% 78 794 35.5% 24.1% 104 (24) (3) 663 239 6 418 2 418 420 608 611 $0.69 $0.68 $0.69 $0.69
4Q10A Sep 3,330 0.4% 2,421 909 5.2% 27.3% 72 837 6.8% 25.1% 103 (15) 5 724 234 2 488 (299) 27 461 189 609 611 $0.76 $0.75 $0.31 $0.31
2010A Sep 13,515 -1.8% 9,881 3,634 37.0% 26.9% 377 3,257 42.4% 24.1% 425 (87) 2 2,747 927 (23) 1,843 (295) 58 1,785 1,548 608 610 $2.94 $2.92 $2.55 $2.54
1Q11A Dec 3,828 -6.6% 2,717 1,111 -10.5% 29.0% 71 1,040 -4.8% 27.2% 104 24 960 331 9 620 (10) 620 610 603 608 $1.03 $1.02 $1.01 $1.00
2Q11E Mar 2,924 5.0% 2,154 770 25.8% 26.3% 82 688 28.8% 23.5% 104 15 599 210 8 382 382 382 594 600 $0.64 $0.64 $0.64 $0.64
3Q11E Jun 3,448 4.4% 2,461 987 13.2% 28.6% 82 905 14.0% 26.3% 104 15 816 286 8 523 523 523 585 591 $0.89 $0.88 $0.89 $0.88
4Q11E Sep 3,558 6.8% 2,473 1,084 19.3% 30.5% 77 1,007 20.3% 28.3% 104 (10) 893 313 8 573 573 573 574 581 $1.00 $0.99 $1.00 $0.99
2011E Sep 13,757 1.8% 9,805 3,952 8.8% 28.7% 312 3,640 11.8% 26.5% 416 44 3,268 1,139 32 2,098 (10) 2,098 2,088 589 595 $3.56 $3.53 $3.54 $3.51
2012E Sep 14,285 3.8% 10,036 4,249 7.5% 29.7% 338 3,911 7.4% 27.4% 416 44 3,539 1,239 30 2,270 2,270 2,270 546 552 $4.16 $4.11 $4.16 $4.11
86
April 7, 2011
87
April 7, 2011
Company IPG
Period 1Q11
Estimate Changes New Est. Prior Est. Consensus 1,450 (47) ($0.12) 1,437 (47) ($0.12) 1,446 (47) ($0.09)
Period
Metric
Estimate Changes New Est. Prior Est. Consensus 6,984 684 $0.62 6,949 681 $0.61 6,955 690 $0.64
Comments: We believe much of the momentum in organic growth from 2Q/3Q/4Q10 continued into 1Q11, though the comps did/do get incrementally tougher, especially in the U.S. IPG recently had some high-profile account losses (namely, Microsofts North America media buying business) but we think the loss is manageable and momentum from IPGs existing clients remain solid. With the Company recently proving specific long-term financial targets (13% EBIT margin by 2014 on 4-5% annual organic growth), we think management will continue to focus on its operational/financial turnaround over the next couple of years. Given IPGs current net cash position and significant future FCF generation, we just dont see how IPG would not accelerate return of capital to shareholders in the future (2012 and beyond) recent positive watch in S&P credit rating (for potential upgrade to investment grade) is extremely encouraging in terms of allowing IPG increased flexibility in future excess capital deployment (through easier access to short-term liquidity). Were tweaking our FY11 estimates slightly higher and introducing FY12 estimates, with upside bias from potential acceleration in future buybacks.
MDCA
1Q11
Revenue EBITDA
196 9
196 12
189 9
860 110
860 110
859 100
Comments: With the acquisition plan now largely complete, the focus for the Company is shifting back to organic growth. We think MDC is better positioned than ever to outperform peers on top-line growth with new/improved capabilities as well as a robust business pipeline. While the recent Burger King account loss is somewhat disappointing, we think major account wins in 4Q10 (MetLife, JellO (Kraft) and Milka (Kraft), additional duties for BMW) will be more than enough to offset that loss, and we dont think FY11 guidance is at risk. Further, given that MDC has been generating 50%+ of its revenues from higher-growth digital, with think MDCA ought to trade at a premium to its larger agency holding company peers. Were tweaking our 1Q11 EBITDA estimate slightly lower (largely due to seasonality), but maintaining our FY11 estimates.
OMC
1Q11
Comments: Management previously noted ~$90-110mm of incremental severance and real-estate related charges in 2011 and ~$120mm accounting gain related to the consolidation of Clemenger in 1Q11. Were conservatively expecting the net impact to be a gain of $10mm above-the-line in 1Q11 (or ~30bps of positive impact to margins). Its unclear how the rest of the Street is modeling this charge/gain, making margin comparisons for the quarter confusing excluding the net gain, were expecting ~20bps of YoY margin expansion, and we believe the Street is expecting a similar degree of core margin improvement in the quarter. Some recent high-profile account wins as well as the fact that OMC will now have fully anniversaried the Chrysler loss/BBDO Detroit closing, should provide top-line support. Were expecting ~15mm shares of net stock buybacks in 2011 (more weighted to the first half of 2011), which should further support EPS growth this year. Were tweaking our 1Q11 EPS estimate slightly lower but our FY11 and FY12 EPS estimates remain unchanged.
Source: RBC Capital Market estimates
88
April 7, 2011
40.02 845,791
3.89 1,748,331
788.47p 5,027,672
38.40p 35.30p 45.90p 53.62p Average 9.6x 11.0x 9.1x 7.9x 19.0x 29.5x 18.9x 15.3x
USD/EUR/GBP in 000s; EBITDA for IPG excludes amortization of stock-based compensation Source: Company reports, RBC Capital Markets estimates for OMC, IPG and MDCA, Thomson One Analytics for others
89
April 7, 2011
21NOV08 - 6APR11
HI-4MAR11 LO/HI DIFF CLOSE 214.997 144.60% 202.561
LO-30JAN09
87.896
4.00 LO-21NOV08 60000 40000 20000 PEAK VOL. VOLUME 70761.8 17869.4 2.570
Q1 $1,341 $(8.3)
2010 $6,532
$0.19 $(0.15)
2011E 2012E $6,984 $7,353 $6,949 N/A $882.8 $1020.8 $883.3 N/A $0.62 $0.78 $0.61 N/A
Investment Opinion
Core Operating Fundamentals Solid Despite Some Headline Account Losses; We Think Theres Potential For Material Acceleration In Future Stock Buybacks
Overall, we believe much of the momentum in organic growth from 2Q/3Q/4Q10 continued into 1Q11, though the comps did/do get incrementally tougher, especially in the U.S. IPG recently had some high-profile account losses (namely, Microsofts North America media buying business), but we think the loss is manageable and momentum from IPGs existing clients remain solid. With the Company recently providing specific long-term financial targets (13% EBIT margin by 2014 on 4-5% annual organic growth) which we think are realistic and achievable we think management will continue to focus on its operational/financial turnaround over the next couple of years. Given IPGs current net cash position and significant future FCF generation, we just dont see how IPG would not accelerate return of capital to shareholders in the future (2012 and beyond) recent positive watch in S&P credit rating (for potential upgrade to investment grade) is extremely encouraging in terms of allowing IPG increased flexibility in future excess capital deployment (through easier access to short-term liquidity). Were tweaking our FY11 estimates slightly higher and introducing FY12 estimates, with upside bias from potential acceleration in future buybacks. We are maintaining our Outperform, Above Average risk rating, $14 price target.
Exhibit 95: Estimate Changes
F1Q11E
($ in mm, except per share data)
F1Q11E Prior Est. 855.3 6.5% 581.2 5.3% 1.4% 1,436.5 6.0% 0.6% 7.1% (46.7) -21.4% -3.3% ($0.12)
F1Q10A Reported 803.1 3.0% 538.2 -11.3% 10.2% 1,341.3 -2.9% 4.2% 1.2% (59.4) -27.5% -4.4% ($0.15)
F1Q11E Consensus
FY11E Prior Est. 3,919.1 5.7% 3,030.0 5.1% 1.8% 6,949.1 5.4% 0.8% 6.4% 681.1 24.1% 9.8% $0.61
FY10A Reported 3,709.5 10.1% 2,822.4 3.1% 2.4% 6,531.9 7.0% 1.1% 8.4% 548.7 60.8% 8.4% $0.45
FY11E Consensus
New Est. 861.3 7.3% 588.2 5.6% 2.3% 1,449.5 6.6% 0.9% 8.1% (47.0) -20.9% -3.2% ($0.12)
Domestic Revenue Organic impact Int'l Revenue Organic impact FX impact Total Revenues Organic impact FX impact YoY growth Operating income (EBIT) YoY growth % margin Diluted EPS
1,445.8
6,954.7
(46.7)
($0.09)
$0.62
90
April 7, 2011
Long-term Guidance At Recent Investor Day Event Largely Validated Our Prior View Of The Company
At the investor day event on March 24 (first in five years), management laid out long-term plans to reach 13% EBIT margins by 2014 on 4-5% annual organic growth. These goals were largely in line with what we were expecting, and the presentations from agency executives that day gave us increased confidence in IPGs turnaround story as well as the competitiveness of its agencies. Long-term guidance and highlights from March 24: 13% EBIT margins by 2014 on 4-5% annual organic growth. Margin expansion through leverage on investment in base payroll and incentives (~300bps), and leverage on occupancy expense (~160bps). There was some focus on increasing performance-based compensation in contracts as a means to drive margins at IPGs major agencies. 30% incremental revenue-to-OI conversion. $1.2 billion operating cash flow in 2014. 0.9x gross leverage in 2014. $150 million in annual acquisitions excluding earn outs. 2011 guidance maintained 9.5-10% EBIT margins on 4-5% organic growth.
Loss Of Microsoft North America Media Buying Business Somewhat Disappointing, But Its Not Indicative Of The Quality Of IPGs Agencies
On March 18, press reports indicated Universal McCann (IPGs major media buying agency) lost Microsofts North America (U.S. and Canada) media buying business to Publicis Starcom, ( http://adage.com/article/agency-news/microsoft-splits-1b-media-starcomuniversal-mccann/149485/), while retaining Microsofts media buying duties in ~35 markets outside of North America. While revenue impact hasnt been disclosed, we estimate that the business lost to Publicis generates ~$25 million of revenue (~2-3% of billings) this represents ~0.4% headwind to organic growth and roughly the same percentage impact to EPS (or less than 1 cent). While an account loss of this size could result in severance action, we dont think managements 9.5-10% 2011 EBIT margin guidance is likely to change because of this. While an account loss of this size is never good news, we think its a manageable loss. At the same time, there was some good news more recently on March 31, media reports indicated McCann Worldgroup retained the U.S. Army account (estimated ~$15 million of revenue and ~$200 million of billings) beating DaftFCB, Grey, and Y&R in the final pitch. This should help quell some fears regarding the competitiveness of McCann and give investors restored confidence in IPG following the partial loss of the Microsoft account. Wed note that the SC Johnson account (likely a top-10 IPG client; accounts for an estimated 1-2% of overall revenues) is still under a lengthy review process. We think it is highly unlikely that 100% of that is at risk and it is possible that IPG wins certain duties that it does not already have. It is too early to tell how a review will end and a review of this size could take months to complete. On the positive side, the tech/telco duty losses in mid 2009, which were a material drag on growth especially in 1H10, will likely no longer be a headwind in 2011.
Valuation
Our valuation methodology derives a $14 price target for IPG shares. We average our DCF analysis and our one-year forward multiple on blended 2011/12E "normalized" EPS and EBITDA. We apply a 15x P/E multiple and an 8x EV/EBITDA multiple, consistent with historical trading levels and in line with other publicly traded advertising agency holding companies.
91
April 7, 2011
92
April 7, 2011
Exhibit 96: IPG Earnings Model
Segment Details - IPG Fiscal Year Ended 31st December Calendar Month Ended: $ in mm Domestic Revenue YoY growth Organic impact Acquisition/divestiture impact International Revenue YoY growth Organic impact Acquisition/divestiture impact FX impact Total Revenues YoY growth Organic impact Acquisition/divestiture impact FX impact Income Statement - IPG Fiscal Year Ended 31st December Calendar Month Ended: figures in millions Domestic Revenues International Revenues Total Revenues YoY growth Operating Expenses EBITDA YoY growth % margin Less: Depreciation & Amortization Operating Income YoY growth % margin Less: Net Interest Expense Add: Other Income (Expense) Pre-tax Income Less: Income Tax Add: Equity in Earnings of Affiliates Less: Minority Interest Income from continuing operations Income from discontinued operations, net of tax Net Income Less: Dividends on preferred stock Less: Allocation of participating securities Net Income (Basic) Add: Effect of dilutive securities Net Income (Diluted) Basic Weighted Average Shares O/S Diluted Weighted Average Shares O/S Recurring Basic EPS Recurring Diluted EPS $ $ 3,786.2 3,176.5 6,962.7 6.2% 6,119.6 843.1 40.2% 12.1% 253.4 589.7 71.3% 8.5% 121.3 (3.1) 471.5 156.6 3.1 23.0 295.0 0.0 295.0 27.6 0.5 266.9 2.8 269.7 461.5 518.3 0.58 0.52 3,372.3 2,655.3 6,027.6 -13.4% 5,466.9 560.7 -33.5% 9.3% 219.4 341.3 -42.1% 5.7% 120.6 (11.7) 232.4 90.1 1.1 22.1 121.3 0.0 121.3 27.6 0.1 93.6 1.4 95.0 468.2 508.1 $0.20 $0.19 803.1 538.2 1,341.3 1.2% 1,349.6 (8.3) -73.1% -0.6% 51.1 (59.4) -27.5% -4.4% 26.1 (0.5) (85.0) (15.3) (0.6) (5.7) (64.6) 0.0 (64.6) 6.9 0.0 (71.5) 0.0 (71.5) 471.3 471.3 ($0.15) ($0.15) 961.0 656.8 1,617.8 9.7% 1,391.0 226.8 46.2% 14.0% 49.6 177.2 82.9% 11.0% 28.9 2.1 146.2 63.3 (0.6) (0.2) 82.5 0.0 82.5 2.9 (25.7) 105.3 (24.6) 80.7 473.0 544.9 $0.22 $0.15 916.7 644.1 1,560.8 9.4% 1,411.3 149.5 32.1% 9.6% 49.3 100.2 71.9% 6.4% 27.9 3.1 69.2 24.4 0.8 0.3 45.3 0.0 45.3 2.9 0.0 42.4 0.0 42.4 474.7 533.6 $0.09 $0.08 2008A Dec 2009A Dec 1Q10A Mar 2Q10A Jun 3Q10A Sep 3,786.2 3.7% 3.2% 0.5% 3,176.5 9.4% 4.6% 2.4% 2.5% 6,962.7 6.2% 3.8% 1.3% 1.1% 3,372.3 -10.9% -11.3% 0.4% 2,655.3 -16.4% -10.2% 1.7% -7.9% 6,027.6 -13.4% -10.8% 1.0% -3.6% 803.1 2.8% 3.0% -0.2% 538.2 -1.0% -11.3% 0.1% 10.2% 1,341.3 1.2% -2.9% -0.1% 4.2% 961.0 13.4% 13.6% -0.1% 656.8 4.7% 1.6% 0.4% 2.7% 1,617.8 9.7% 8.5% 0.1% 1.2% 916.7 9.9% 10.0% -0.1% 644.1 8.7% 8.6% 1.7% -1.6% 1,560.8 9.4% 9.4% 0.6% -0.7% 2008A Dec 2009A Dec 1Q10A Mar 2Q10A Jun 3Q10A Sep
4Q10A Dec 1,028.7 13.1% 13.1% 0.0% 983.3 10.3% 9.4% 0.9% 0.0% 2,012.0 11.7% 11.2% 0.5% 0.0%
2010A Dec 3,709.5 10.0% 10.1% -0.1% 2,822.4 6.3% 3.1% 0.8% 2.4% 6,531.9 8.4% 7.0% 0.3% 1.1%
1Q11E Mar 861.3 7.3% 7.3% 0.0% 588.2 9.3% 5.6% 1.3% 2.3% 1,449.5 8.1% 6.6% 0.5% 0.9%
2Q11E Jun 1,016.3 5.8% 5.8% 0.0% 727.9 10.8% 5.1% 0.6% 5.1% 1,744.2 7.8% 5.5% 0.2% 2.1%
3Q11E Sep 964.8 5.3% 5.3% 0.0% 701.0 8.8% 5.2% 0.0% 3.7% 1,665.8 6.7% 5.2% 0.0% 1.5%
4Q11E Dec 1,082.7 5.3% 5.3% 0.0% 1,041.4 5.9% 5.0% 0.0% 0.9% 2,124.1 5.6% 5.1% 0.0% 0.4%
2011E Dec 3,925.1 5.8% 5.8% 0.0% 3,058.5 8.4% 5.2% 0.4% 2.8% 6,983.6 6.9% 5.5% 0.2% 1.2%
2012E Dec 4,131.4 5.3% 5.0% 0.3% 3,221.4 5.3% 5.0% 0.3% 0.0% 7,352.8 5.3% 5.0% 0.3% 0.0%
4Q10A Dec
2010A Dec
1Q11E Mar
2Q11E Jun
3Q11E Sep
4Q11E Dec
2011E Dec
2012E Dec
1,028.7 983.3 2,012.0 11.7% 1,632.9 379.1 17.3% 18.8% 48.4 330.7 23.4% 16.4% 28.1 (17.6) 320.2 98.9 1.5 24.9 197.9 0.0 197.9 2.9 0.0 195.0 0.0 195.0 475.4 553.1 $0.41 $0.35
3,709.5 2,822.4 6,531.9 8.4% 5,784.8 747.1 33.2% 11.4% 198.4 548.7 60.8% 8.4% 111.0 (12.9) 450.6 171.3 1.1 19.3 261.1 0.0 261.1 15.6 (25.7) 271.2 (24.6) 246.6 473.6 542.1 $0.57 $0.45
861.3 588.2 1,449.5 8.1% 1,447.1 2.4 -129.4% 0.2% 49.4 (47.0) -20.9% -3.2% 29.1 0.0 (76.0) (17.5) 1.0 (5.0) (52.5) 0.0 (52.5) 2.9 0.0 (55.4) 0.0 (55.4) 475.1 475.1 ($0.12) ($0.12)
1,016.3 727.9 1,744.2 7.8% 1,495.4 248.8 9.7% 14.3% 49.8 199.0 12.3% 11.4% 29.1 0.0 169.9 73.1 1.0 0.0 97.9 0.0 97.9 2.9 0.0 95.0 0.0 95.0 472.6 547.7 $0.20 $0.17
964.8 701.0 1,665.8 6.7% 1,495.5 170.3 13.9% 10.2% 49.3 121.0 20.8% 7.3% 29.1 0.0 92.0 33.1 1.0 0.3 59.6 0.0 59.6 2.9 0.0 56.7 0.0 56.7 469.4 528.3 $0.12 $0.11
1,082.7 1,041.4 2,124.1 5.6% 1,662.7 461.4 21.7% 21.7% 50.4 410.9 24.3% 19.3% 29.1 0.0 381.9 127.0 1.0 22.5 233.4 0.0 233.4 2.9 0.0 230.5 0.0 230.5 466.2 541.3 $0.49 $0.43
3,925.1 3,058.5 6,983.6 6.9% 6,100.8 882.8 18.2% 12.6% 198.9 683.9 24.6% 9.8% 116.2 0.0 567.7 215.7 4.0 17.8 338.3 0.0 338.3 11.6 0.0 326.7 0.0 326.7 470.8 529.7 $0.69 $0.62
4,131.4 3,221.4 7,352.8 5.3% 6,331.9 1,020.8 15.6% 13.9% 209.0 811.9 18.7% 11.0% 112.2 0.0 699.6 261.9 4.0 17.8 424.0 0.0 424.0 11.6 0.0 412.4 0.0 412.4 455.3 530.4 $0.91 $0.78
93
April 7, 2011
21NOV08 - 6APR11
HI-14JAN11 LO/HI DIFF CLOSE LO-21NOV08 494.900 394.90% 437.654 100.000 19.080 771.23%
CLOSE
16.950
2.190
1316.5 916.7
Q1 $126.7 $11.6
Q2 $134.9 $18.5
Q3 $134.6 $19.9
Q4 $149.7 $20.1
Q1 $136.2 $8.7
Q2 $170.0 $18.3
Q3 $178.6 $20.4
Q4 $213.1 $38.8.
Investment Opinion
With The Acquisition Plan Largely Complete, Focus Shifts Back To Organic Outperformance
Throughout 2010, MDC stayed true to its original strategy for the year of acquisition-led growth, with the company spending about $120 million on 13 acquisitions (of various sizes) in 2010. With the acquisition plan now largely complete, the focus for the Company is shifting back to organic growth. We think MDC is better positioned than ever to outperform peers on top-line growth with new/improved capabilities as well as a robust business pipeline. While the recent Burger King account loss is somewhat disappointing, we think major account wins in 4Q10 (MetLife, Jell-O (Kraft) and Milka (Kraft), additional duties for BMW) will be more than enough to offset that loss, and we dont think FY11 guidance is at risk. Further, given that MDC has been generating 50%+ of its revenues from higher-growth digital, we think MDCA ought to trade at a premium to its larger agency holding company peers. Were tweaking our 1Q11 EBITDA estimate slightly lower (largely due to seasonality), but maintaining our FY11 estimates. Maintaining Outperform, Speculative risk rating, $21 price target.
Exhibit 97: Estimate Changes
($ in mm) SMS revenue PMS revenue Total revenue YoY growth SMS EBITDA PMS EBITDA Corporate EBITDA Total EBITDA (excl. non-cash comp.) % margin YoY growth EBITDA (incl. non-cash comp.) % margin YoY growth EBIT % margin YoY growth 1Q11E New Est. 112.6 83.5 196.1 44.0% 13.5 0.4 (4.4) 9.4 4.8% 8.6% 5.7 2.9% 7.0% -1.9 -1.0% 50.4% 1Q11E 1Q11E Prior Est. Consensus 112.6 83.5 196.1 188.5 44.0% 14.9 1.6 (4.4) 12.0 6.1% 38.2% 8.3 4.2% 55.4% 0.7 0.4% -156.4% 2011E New Est. 506.7 353.3 860.1 23.2% 82.6 42.2 (14.7) 110.1 12.8% 27.7% 92.9 10.8% 35.7% 55.1 6.4% 90.5% 2011E 2011E Prior Est. Consensus 507.1 353.3 860.5 859.5 23.2% 83.7 41.2 (14.8) 110.1 12.8% 29.3% 92.8 10.8% 34.7% 55.0 6.4% 97.1% 2011E Guidance
850-870
8.9
99.9
108-112
Source: Company reports, Thomson One Analytics, RBC Capital Market estimates
94
April 7, 2011
Loss Of Burger King Somewhat Disappointing But Theres Enough In The Pipeline To Offset It
Press reports on March 18 indicated Burger King will part with MDCs flagship agency CP+B, following major marketing executive churn at the fast food company. While financial impact to MDC wasnt disclosed, we estimate Burger King accounts for ~$15-20 million of annual revenue (~$3-5 million of EBITDA). We dont think the loss had anything to do with the quality of CP+Bs work/service (CP+Bs work for BK has historically generated a lot of buzz), and it was likely more a function of BKs own internal issues. Burger King is likely to remain a paying client until mid 2011, and even though the lost business will inevitably impact 2H11, we think the current strong business pipeline will be enough to offset the loss note, MDC did have some high-profile account wins in 4Q10 including MetLife, Jell-O (Kraft) and Milka (Kraft) at CB+P, as well as additional duties for BMW, which should further help offset the BK loss. While the loss of the account was not taken into consideration when management issued official 2011 guidance in early March, we think the guidance was somewhat conservative to begin with (and likely had enough wiggle room to accommodate one-off account losses), and therefore we dont think management will revise guidance in the near-term.
Recent Industry M&A Deal Valuations Indicate That MDC Could Still Be Undervalued
MDC has been generating 50%+ of its revenues from digital, and all recently acquired agencies have a significant digital component to them. Recent management commentary would suggest that the focus on digital for MDC is only going to increase going forward, making MDC essentially a digital agency. Transaction multiples on recent digital agency acquisitions are known to be around 10x EV/EBITDA our industry sources indicate that Razorfish was acquired by Publicis at a ~10-11x valuation in 2009, and the more recent iCrossing acquisition (by Hearst) was valued at ~9-10x. Given that MDCA shares are currently trading at ~9x forward EV/EBITDA, as a digital agency, we think the company could still be undervalued.
Valuation
Our valuation methodology derives a $21 price target for MDCA shares. We average our DCF analysis and our one-year forward multiple on 2011E EBITDA. We apply a 9x EV/EBITDA multiple, which is slightly higher than other publicly traded advertising agency holding companies, given MDC's greater exposure to digital.
95
April 7, 2011
Exhibit 98: MDCA Earnings Model
Segment Details - MDCA Fiscal Year Ended December 31 Calendar Month Ended: ($ in mm) Segment Revenue Strategic Marketing Services Performance Marketing Services Total Revenues EBITDA (excl. stock-based comp.) Strategic Marketing Services Performance Marketing Services Corporate Total EBITDA (excl. stock-based comp.) Income Statement - MDCA Fiscal Year Ended December 31 Calendar Month Ended: ($ in mm, except per share data) Revenues YoY growth Cost of services sold Gross profit Operating expense EBITDA (incl, stock-based comp.) YoY growth % margin Less: D&A EBIT YoY growth % margin Interest, net Income tax Equity in interest of non-consolidated affiliates Minority interest Income from continuing operations Income from distontinued operations Net income Diluted weighted average shares O/S Reported diluted EPS 2009A Dec 545.9 -6.6% 354.3 191.6 136.9 54.7 -0.1% 10.0% 34.5 20.2 -0.5% 3.7% (21.3) (8.5) (0.0) (5.4) (14.9) (0.9) (15.8) 27.8 ($0.57) 1Q10A Mar 136.2 7.5% 97.0 39.2 34.6 5.3 -45.2% 3.9% 5.8 (1.2) -158.9% -0.9% (7.6) (0.2) (0.1) (1.0) (10.2) 0.0 (10.2) 27.6 ($0.37) 2Q10A June 170.0 26.0% 116.8 53.2 39.1 15.8 -4.0% 9.3% 8.0 6.1 -31.5% 3.6% (8.7) (0.6) (0.0) (2.0) (5.2) (0.6) (5.8) 27.8 ($0.21) 3Q10A Sep 178.6 32.7% 122.9 55.7 45.1 13.2 -25.3% 7.4% 371.4 174.5 545.9 70.2 12.2 (12.3) 70.2 91.5 44.7 136.2 11.5 0.7 (3.5) 8.7 107.0 63.0 170.0 15.8 6.4 (4.0) 18.3 110.6 68.0 178.6 15.7 7.9 (3.3) 20.4 2009A Dec 1Q10A Mar 2Q10A June 3Q10A Sep
4Q10A Dec
2010A Dec
1Q11E Mar
2Q11E June
3Q11E Sep
4Q11E Dec
2011E Dec
4Q10A Dec 213.1 42.3% 140.9 72.2 38.1 34.1 214.6% 16.0%
2010A Dec 697.8 27.8% 477.5 220.3 156.9 68.5 25.1% 9.8% 34.5 28.9 42.9% 4.1% (32.8) 0.2 0.9 (10.1) (12.9) (2.5) (15.4) 28.0 ($0.55)
1Q11E Mar 196.1 44.0% 141.9 54.2 48.5 5.7 7.0% 2.9% 7.6 (1.9) 50.4% -1.0% (8.5) 3.6 0.0 (1.1) (7.8) 0.0 (7.8) 28.5 ($0.27)
2Q11E June 213.0 25.3% 143.3 69.7 46.3 23.4 47.7% 11.0% 8.9 14.4 137.5% 6.8% (8.5) (2.1) 0.0 (2.2) 1.7 0.0 1.7 28.6 $0.06
3Q11E Sep 211.0 18.1% 140.9 70.1 48.6 21.5 62.5% 10.2% 10.0 11.5 813.1% 5.4% (8.5) (1.1) 0.0 (1.6) 0.4 0.0 0.4 28.6 $0.01
4Q11E Dec 240.0 12.6% 157.8 82.2 39.8 42.3 24.1% 17.6% 11.3 31.1 36.0% 12.9% (8.5) (7.9) 0.0 (6.2) 8.4 0.0 8.4 28.7 $0.29
2011E Dec 860.1 23.2% 583.9 276.1 183.3 92.9 35.7% 10.8% 37.8 55.1 90.5% 6.4% (34.0) (7.4) 0.0 (11.1) 2.7 0.0 2.7 28.6 $0.09
9.4 11.3 1.3 22.8 -87.6% -2580.0% 0.7% 10.7% (8.4) (0.3) (1.5) (1.4) (10.4) (0.6) (10.9) 28.5 ($0.38) (8.2) 1.3 2.5 (5.7) 12.8 (1.3) 11.5 28.2 $0.41
96
April 7, 2011
21NOV08 - 6APR11
HI-3DEC10 LO/HI DIFF 126.245 32.16%
LO-27MAR09
95.527
CLOSE
48.760
20.090
24092.1 4655.2
Q4E 2011E 2012E $3,823 $13,416 $14,090 $3,807 $13,379 $14,051 $567 $1912 $2088 $564 $1,917 $2,093 $0.99 $3.18 $3.70 $0.98 $3.18 $3.70
Investment Opinion
1Q11 Margins Could Be Messy Due To Non-recurring Charge/Gain, But Core Top-line/Margin Fundamentals Remain Intact
Management previously noted ~$90-110 million of incremental severance and real-estate related charges in 2011 and ~$120 million accounting gain related to the consolidation of Clemenger in 1Q11. Were conservatively expecting the net impact to be a gain of $10 million above the line in 1Q11 (or ~30bps of positive impact to margins). Its unclear how the rest of the Street is modeling this charge/gain, making margin comparisons for the quarter confusing excluding the net gain, were expecting ~20bps of YoY margin expansion, and we believe the Street is expecting a similar degree of core margin improvement in the quarter. Our checks confirm that organic growth trends have been stable, giving us increased confidence that Omnicom will be able to achieve robust growth this year. Some recent high-profile account wins as well as the fact that OMC will now have fully anniversaried the Chrysler loss/BBDO Detroit closing, should also provide further top-line support. Were expecting ~15 million shares of net stock buybacks in 2011 (more weighted to the first half of 2011), which should further support EPS growth this year. Were tweaking our 1Q11 EPS estimate slightly lower but our FY11 and FY12 EPS estimates remain unchanged. Maintaining Outperform, Average risk rating, $54 price target.
Exhibit 99: Estimate Changes
1Q11E ($ in mm, except per share data) Domestic Revenue Organic impact Int'l Revenue Organic impact FX impact Total Revenues Organic impact FX impact YoY growth EBITA YoY growth % margin Operating income (EBIT) YoY growth % margin Diluted EPS New Est. 1,677.3 7.5% 1,453.7 5.8% 1.1% 3,131.0 6.7% 0.5% 7.2% 351.0 14.2% 11.2% 328.6 12.9% 10.5% $0.61 1Q11E Prior Est. 1,669.3 7.0% 1,445.6 5.8% 0.5% 3,114.9 6.4% 0.2% 6.7% 359.2 16.9% 11.5% 336.9 15.8% 10.8% $0.63 1Q10A Reported 1,592.8 5.1% 1,327.2 -1.4% 9.6% 2,920.0 2.2% 4.3% 6.3% 307.3 4.0% 10.5% 291.0 3.0% 10.0% $0.52 10.2% $0.60 319.3 N/A 3,137.9 1Q11E Consensus FY11E New Est. 7,007.6 6.0% 6,408.8 5.2% 1.0% 13,416.5 5.6% 0.5% 7.0% 1,725.0 12.7% 12.9% 1,632.9 11.8% 12.2% $3.18 FY11E Prior Est. 6,999.7 5.9% 6,379.5 5.2% 0.5% 13,379.1 5.5% 0.2% 6.7% 1,730.3 13.0% 12.9% 1,638.5 12.2% 12.2% $3.18 FY10A Reported 6,683.2 8.7% 5,859.4 3.9% 0.3% 12,542.6 6.4% 0.1% 7.0% 1,530.9 7.0% 12.2% 1,460.1 6.2% 11.6% $2.70 12.3% $3.17 1,644.7 N/A 13,410.1 FY11E Consensus
97
April 7, 2011
Non-recurring Charge/Gain Could Make Margin Comparisons Confusing, But Core Margins Likely Expanded Modestly In 1Q11 (As Expected)
Management previously indicated two non-recurring factors in 1Q11 that will likely have to be backed out in order to get to core margins. These factors include: 1) ~$90-110 million of severance and real estate-related charges (throughout 2011) in connection with the portfolio review that results in the consolidation/restructuring and/or closures of underperforming/sub-scale/non-core agencies. While the exact timing of these charges are unclear, we think the bulk of it likely hit in 1Q11 we assume the full $110 million charge in 1Q11 out of conservatism. 2) ~$120 million above-the-line accounting gain related to the consolidation of Clemenger, the marketing services firm in Australia in which BBDO increased its stake to ~73.5% from a minority stake (~46.7%) previously. The combined impact of these two items on EBIT (or EBITA) would be a net gain of $10-30 million (were modeling $10 million net gain). Wed note that every $10 million of EBIT (or EBITA) accounts for ~30bps of margins. Excluding this charge/gain, we believe margins likely expanded a modest ~20bps in the quarter, largely in line with what we and the Street are expecting. Wed further note that its unclear how the rest of the Street is modeling this charge/gain, making margin comparisons even more confusing. In terms of core margins, we think much of the margin expansion will come in 2H11.
Exhibit 100: 1Q11 Core EBIT Margins
1Q11E ($ in mm) Total Revenues YoY growth Operating income (EBIT) % margin RBCCM Est. 3,131.0 7.2% 328.6 10.5%
318.6 10.2%
291.0 10.0%
Adjusting for the $10mm net gain in the quarter, "core" EBIT margins would be 10.2%, implying 20bps YoY improvement.
Source: RBCCM estimates, Thomson One Analytics
Acquisition-led Revenue Growth Related To The Consolidation Of Clemenger Was Likely At Least Partially Offset By Divestitures Arising From The Portfolio Review
We believe Clemenger was consolidated as of February, 2011, and therefore OMC likely began to recognize acquisition-related revenue growth (from Clemenger) beginning in 1Q11. The consolidation of Clemenger also increases below-the-line expense by ~$20 million vs. 2010 (net of equity in earnings of affiliates and minority interest). In addition, Clemenger, along with other acquisitions, will likely increase amortization expense throughout this year, as weve noted previously. At the same time, the agencies currently under portfolio review account for ~$300 million of annual revenue, which could potentially be divested, at least partially offsetting the revenue gain from Clemenger and other acquisitions. Wed note that the exact timing and size of these divestitures arent known at this point, but we expect much of the restructuring/divestitures to occur in 1H11.
98
April 7, 2011
Valuation
Our valuation methodology derives a $54 price target for OMC shares. We average our DCF analysis and our one-year forward multiples on blended 2011/12E EBITDA and EPS. We apply an 8x EV/EBITDA multiple and a 15x P/E multiple, consistent with historical trading levels and in line with other publicly traded advertising agency holding companies.
2009A Dec 11,720.8 -12.3% 10,103.0 1,617.8 0.0% 13.8% 186.5 1,431.3 -17.9% 12.2% 56.3 1,375.0 -18.6% 11.7% 100.7 1,274.3 (433.6) 30.8 (78.2) (9.1) 784.2 308.2 310.4 $2.54 $2.53
1Q10A Mar 2,920.0 6.3% 2,567.0 353.0 4.4% 12.1% 45.7 307.3 4.0% 10.5% 16.3 291.0 3.0% 10.0% 24.1 266.9 (90.7) 4.7 (17.5) 0.0 163.4 306.4 311.0 $0.53 $0.52
2Q10A Jun 3,041.2 5.9% 2,564.6 476.6 4.5% 15.7% 44.8 431.8 4.9% 14.2% 16.4 415.4 4.3% 13.7% 23.7 391.7 (133.2) 10.3 (25.5) 0.0 243.3 302.3 307.0 $0.80 $0.79
3Q10A Sep 2,994.6 5.5% 2,618.1 376.5 6.1% 12.6% 44.4 332.1 7.3% 11.1% 18.0 314.1 6.5% 10.5% 29.8 284.3 (96.9) 8.2 (21.0) (1.7) 172.9 299.3 303.5 $0.58 $0.57
4Q10A Dec 3,586.8 9.8% 3,079.8 507.0 8.2% 14.1% 47.3 459.7 10.8% 12.8% 20.1 439.6 10.0% 12.3% 32.2 407.4 (139.4) 10.4 (32.0) (2.5) 243.9 290.5 295.7 $0.84 $0.82
2010A Dec 12,542.6 7.0% 10,829.5 1,713.1 5.9% 13.7% 182.2 1,530.9 7.0% 12.2% 70.8 1,460.1 6.2% 11.6% 109.8 1,350.3 (460.2) 33.6 (96.0) (8.0) 819.7 299.6 303.5 $2.74 $2.70
1Q11E Mar 3,131.0 7.2% 2,733.0 398.0 12.7% 12.7% 47.0 351.0 14.2% 11.2% 22.4 328.6 12.9% 10.5% 32.3 296.3 (101.6) 3.2 (21.5) (1.5) 174.9 283.5 287.5 $0.62 $0.61
2Q11E Jun 3,256.9 7.1% 2,732.6 524.3 10.0% 16.1% 45.6 478.7 10.9% 14.7% 23.3 455.4 9.6% 14.0% 32.3 423.2 (145.1) 8.8 (29.5) (1.5) 255.8 279.5 283.4 $0.92 $0.90
3Q11E Sep 3,206.0 7.1% 2,782.7 423.3 12.4% 13.2% 44.9 378.4 14.0% 11.8% 22.9 355.5 13.2% 11.1% 32.3 323.2 (111.2) 6.7 (25.0) (1.5) 192.2 275.8 279.7 $0.70 $0.69
4Q11E Dec 3,822.5 6.6% 3,256.0 566.5 11.7% 14.8% 49.7 516.8 12.4% 13.5% 23.5 493.3 12.2% 12.9% 32.3 461.1 (158.6) 8.9 (36.0) (1.5) 273.9 272.4 276.3 $1.01 $0.99
2011E Dec 13,416.5 7.0% 11,504.3 1,912.2 11.6% 14.3% 187.1 1,725.0 12.7% 12.9% 92.1 1,632.9 11.8% 12.2% 129.1 1,503.8 (516.6) 27.6 (112.0) (6.0) 896.8 277.8 281.7 $3.23 $3.18
2012E Dec 14,090.3 5.0% 12,002.0 2,088.3 9.2% 14.8% 197.3 1,891.0 9.6% 13.4% 105.7 1,785.4 9.3% 12.7% 129.1 1,656.3 (569.0) 29.0 (117.6) (6.0) 992.7 264.3 268.3 $3.76 $3.70
99
April 7, 2011
Distribution of Ratings
For the purpose of ratings distributions, regulatory rules require member firms to assign ratings to one of three rating categories - Buy, Hold/Neutral, or Sell - regardless of a firm's own rating categories. Although RBC Capital Markets' ratings of Top Pick/Outperform, Sector Perform and Underperform most closely correspond to Buy, Hold/Neutral and Sell, respectively, the meanings are not the same because our ratings are determined on a relative basis (as described above).
Distribution of Ratings RBC Capital Markets, Equity Research Investment Banking Serv./Past 12 Mos. Rating BUY[TP/O] HOLD[SP] SELL[U] Count 705 595 59 Percent 51.90 43.80 4.30 Count 208 134 10 Percent 29.50 22.52 16.95
Conflicts Policy
RBC Capital Markets Policy for Managing Conflicts of Interest in Relation to Investment Research is available from us on request. To access our current policy, clients should refer to https://www.rbccm.com/global/file-414164.pdf or send a request to RBC CM Research Publishing, P.O. Box 50, 200 Bay Street, Royal Bank Plaza, 29th Floor, South Tower, Toronto, Ontario M5J 2W7. We reserve the right to amend or supplement this policy at any time.
Analyst Certification
All of the views expressed in this report accurately reflect the personal views of the responsible analyst(s) about any and all of the 100
April 7, 2011
subject securities or issuers. No part of the compensation of the responsible analyst(s) named herein is, or will be, directly or indirectly, related to the specific recommendations or views expressed by the responsible analyst(s) in this report.
Disclaimer
RBC Capital Markets is the business name used by certain subsidiaries of Royal Bank of Canada, including RBC Dominion Securities Inc., RBC Capital Markets, LLC, Royal Bank of Canada Europe Limited and Royal Bank of Canada - Sydney Branch. The information contained in this report has been compiled by RBC Capital Markets from sources believed to be reliable, but no representation or warranty, express or implied, is made by Royal Bank of Canada, RBC Capital Markets, its affiliates or any other person as to its accuracy, completeness or correctness. All opinions and estimates contained in this report constitute RBC Capital Markets' judgement as of the date of this report, are subject to change without notice and are provided in good faith but without legal responsibility. Nothing in this report constitutes legal, accounting or tax advice or individually tailored investment advice. This material is prepared for general circulation to clients and has been prepared without regard to the individual financial circumstances and objectives of persons who receive it. The investments or services contained in this report may not be suitable for you and it is recommended that you consult an independent investment advisor if you are in doubt about the suitability of such investments or services. This report is not an offer to sell or a solicitation of an offer to buy any securities. Past performance is not a guide to future performance, future returns are not guaranteed, and a loss of original capital may occur. RBC Capital Markets research analyst compensation is based in part on the overall profitability of RBC Capital Markets, which includes profits attributable to investment banking revenues. Every province in Canada, state in the U.S., and most countries throughout the world have their own laws regulating the types of securities and other investment products which may be offered to their residents, as well as the process for doing so. As a result, the securities discussed in this report may not be eligible for sale in some jurisdictions. This report is not, and under no circumstances should be construed as, a solicitation to act as securities broker or dealer in any jurisdiction by any person or company that is not legally permitted to carry on the business of a securities broker or dealer in that jurisdiction. To the full extent permitted by law neither RBC Capital Markets nor any of its affiliates, nor any other person, accepts any liability whatsoever for any direct or consequential loss arising from any use of this report or the information contained herein. No matter contained in this document may be reproduced or copied by any means without the prior consent of RBC Capital Markets. Additional information is available on request. To U.S. Residents: This publication has been approved by RBC Capital Markets, LLC (member FINRA, NYSE), which is a U.S. registered broker-dealer and which accepts responsibility for this report and its dissemination in the United States. Any U.S. recipient of this report that is not a registered broker-dealer or a bank acting in a broker or dealer capacity and that wishes further information regarding, or to effect any transaction in, any of the securities discussed in this report, should contact and place orders with RBC Capital Markets, LLC. To Canadian Residents: This publication has been approved by RBC Dominion Securities Inc.(member IIROC). Any Canadian recipient of this report that is not a Designated Institution in Ontario, an Accredited Investor in British Columbia or Alberta or a Sophisticated Purchaser in Quebec (or similar permitted purchaser in any other province) and that wishes further information regarding, or to effect any transaction in, any of the securities discussed in this report should contact and place orders with RBC Dominion Securities Inc., which, without in any way limiting the foregoing, accepts responsibility for this report and its dissemination in Canada. To U.K. Residents: This publication has been approved by Royal Bank of Canada Europe Limited ('RBCEL') which is authorized and regulated by Financial ServicesAuthority ('FSA'), in connection with its distribution in the United Kingdom. This material is not for general distribution in the United Kingdom to retail clients, as defined under the rules of the FSA. However, targeted distribution may be made to selected retail clients of RBC and its affiliates. RBCEL accepts responsibility for this report and its dissemination in the United Kingdom. To Persons Receiving This Advice in Australia: This material has been distributed in Australia by Royal Bank of Canada - Sydney Branch (ABN 86 076 940 880, AFSL No. 246521). This material has been prepared for general circulation and does not take into account the objectives, financial situation or needs of any recipient. Accordingly, any recipient should, before acting on this material, consider the appropriateness of this material having regard to their objectives, financial situation and needs. If this material relates to the acquisition or possible acquisition of a particular financial product, a recipient in Australia should obtain any relevant disclosure document prepared in respect of that product and consider that document before making any decision about whether to acquire the product. To Hong Kong Residents: This publication is distributed in Hong Kong by RBC Investment Services (Asia) Limited and RBC Investment Management (Asia) Limited, licensed corporations under the Securities and Futures Ordinance or, by Royal Bank of Canada, Hong Kong Branch, a registered institution under the Securities and Futures Ordinance. This material has been prepared for general circulation and does not take into account the objectives, financial situation, or needs of any recipient. Hong Kong persons wishing to obtain further information on any of the securities mentioned in this publication should contact RBC Investment Services (Asia) Limited, RBC Investment Management (Asia) Limited or Royal Bank of Canada, Hong Kong Branch at 17/Floor, Cheung Kong Center, 2 Queen's Road Central, Hong Kong (telephone number is 2848-1388). To Singapore Residents: This publication is distributed in Singapore by RBC (Singapore Branch) and RBC (Asia) Limited, registered entities granted offshore bank status by the Monetary Authority of Singapore. This material has been prepared for general circulation and does not take into account the objectives, financial situation, or needs of any recipient. You are advised to seek independent advice from a financial adviser before purchasing any product. If you do not obtain independent advice, you should consider whether the product is suitable for you. Past performance is not indicative of future performance. . Registered trademark of Royal Bank of Canada. RBC Capital Markets is a trademark of Royal Bank of Canada. Used under license. Copyright RBC Capital Markets, LLC 2011 - Member SIPC Copyright RBC Dominion Securities Inc. 2011 - Member CIPF Copyright Royal Bank of Canada Europe Limited 2011 Copyright Royal Bank of Canada 2011 All rights reserved
101