Clouds Are Clearing...Is the Sky the Limit? - Broadcasting & Cable

Clouds Are Clearing...Is the Sky the Limit?

There's room for improvement in the second-half outlook for the TV business. But as the economy gains steam, ad revenue could accelerate.
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With the economy slowly gathering steam, the television
business expects a brighter picture in the second half of the year.

There are good reasons for the rosier hue. Most of the fundamentals of the
industry continue to point up. The advertising market improved as the upfront
approached. Subscriber and retransmission fees continue to rise. And Netflix
and other streaming video-on-demand players are supplementing the traditional
syndication business.

Internationally, developing markets are creating opportunities for programmers,
and improved business conditions in more mature markets are making
contributions to the bottom lines of the major media companies.

The stock market has noticed. As the Dow Jones Industrial Average has risen,
media stocks have skyrocketed, with many hitting all-time highs. Profits are
fueling higher dividends and share buybacks, making the stocks even more
attractive.

That said, there are reasons to temper the optimism. Advertising revenue growth
is not what anyone would call robust. After a 2012-13 TV season in which their
viewer numbers plummeted, the broadcast networks need to prove that they can
still produce hits, starting with this fall's schedule. The business model that
generates huge margins for cable programmers is under pressure from online
challengers and from a la carte advocates in Washington.

Meanwhile, technology and innovation marches on, and consumers can access video
on more devices from more sources seemingly every day. In only some of these
cases are programmers in control and able to cash in.

Here's a closer look at some of the key factors affecting the TV business in
the second half of 2013.

It's The Economy, Stupid

Still coming back from the recession, media companies are finally operating
with a more large-scale macroeconomy that has shrugged off potential land mines
in the past year or so and could now be headed for smoother sailing.

"For the first time in a while, we're heading into a summer without a fiscal
cliff or a U.S. Treasury downgrade fear or concern that the next leg in the
economy is materially down," said David Bank, managing director of RBC Capital
Markets. "I feel like there's a pretty even-keeled view of the North American
economy."

"The economy is just gradually improving," added Brian Wieser, senior research
analyst at Pivotal Research Group. "Business has sort of shaken off the impact
of the attempts at austerity, the payroll tax increase and other factors that
could have retarded ad spending. It doesn't seem like that's going to be the
case."

Instead, the industry's performance has been improving sequentially. "The
year-to-year growth rates are looking better," Wieser said.

At a recent investment conference, Viacom CEO Philippe Dauman said the economy
looked to be strengthening for the next couple of years.

"We have a good dynamic going on right now. The macroeconomy is certainly
recovering in the U.S.," he said, adding, "Despite non-recovery yet in
Continental Europe, we're using this time period to build up our international
scope with continued strategic and tactical realignment and development there."

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Better Days for Mad Men

The most economically sensitive part of the TV business is its advertising
revenue. Vincent Letang, executive VP and director of global forecasting for
media buyer Magna Global, said "We expect the economy [in the second] half to
be better than the first." Magna is predicting national TV ad revenue will be
up 2% on a full-year basis, with growth in the second half between 2.8% and 3%.

Magna's prediction is mostly based on economic forecasts, such as those
published by the Federal Reserve Bank in Philadelphia. The statistics that
correlate most closely to ad growth are personal consumption and industrial
production, Letang said. This has not been a great year so far for industrial
production, while personal consumption has been a bit more robust. Letang said
he expects both metrics to accelerate in 2014, contributing to a 4% growth in
national TV advertising dollars next year.

Till then, Magna sees broadcasters struggling in 2013, down 2% in revenue
growth in the first half and down 1% in the second half for a total drop of
1.7%. Cable, meanwhile, is expected to grow 4.2%.

For the broadcasters, the problems predictably start with lower audience levels.
"The big question is, is it just [last] season? Does it have something to do
with the quality of the shows? Or is it the beginning of an acceleration of a
real erosion of TV viewing among the youth?" Letang asked. "We think it might
be a bit of both."

Letang said that even though broadcast ratings are eroding faster than
expected-and might have to be factored into Magna's forecast in a few
months-spending and revenue won't fall nearly as far. "That's the big paradox,"
he said. "If there's a reduction of supply and demand gets stronger, you'll see
an acceleration of inflation in prices on a cost-per-thousand-viewers [CPM]
basis."

RBC Capital Markets' Bank said he would like to see a better performance from
the shows the broadcasters put on the schedule during their upfront
presentations in May. Bank added it's important for CBS to demonstrate that it
can continue to consistently generate the kind of high-quality content that
drives the syndication model. For Fox, an improved primetime schedule is needed
to stabilize the network's advertising revenue, although broadcasting isn't a
big driver overall for News Corp., where the bulk of profits come from cable.

Technology: Friend or Foe?

The business of TV is experiencing unprecedented change from consumers using
multiple devices to watch programming, and from new digital delivery systems.

Before the upfront presentations in May, a variety of Internet companies made
NewFront pitches telling advertisers that more desirable consumers are getting
entertainment, sports and news video via digital content. While online video
programming is currently the fastestgrowing form of digital media, ad spending
is expected to be $2.5 billion in 2013, according to Magna's Letang, which is
only 6.25% of the $40 billion spent on national television. "Even if the demand
for online video doubles, it's not going to change massively the outcome for
conventional TV," Letang said. That seems to be the case-for this year, at
least.

Nevertheless, digital players-in addition to writing checks for off-network and
library shows-are producing high-profile programming, such as Netflix's
resurrection of Fox's Arrested Development, and starting to soak up
viewers' time.

If this has worried executives running more traditional businesses, they are
not letting on. When Netflix let its deal to stream programming from Viacom
expire, Viacom was able to find another buyer in Amazon.

"There's never been a better time to be in the content business, at least for
the next three or four years," Discovery Communications CEO David Zaslav told
an investors' conference last month. "In the near term, what is happening here
is very beneficial for us. A lot more people want to buy our content, [there
are] new windows for our content, the U.S. is more pro"table than it's
ever been," he said.

At the same time, Discovery is buying digital video companies, including
Revision3. "People are spending time watching content on Netflix; they're
spending time watching content on YouTube. What does it all mean? We don't
really know what it means," Zaslav said. "So on the left side of our company,
we're making our channels stronger, growing our market share, monetizing it,
and we're optimistic about that great model we have. On the right side, we're
saying let's play around in this new space and see if we can get to know how
people consume content and make sure that one of our brands is in front of them
so we can learn from it and we can grow from it."

Aereo in the Air

Other media companies are also looking for ways to exploit the growth in
digital viewing. "We saw ABC roll out its Watch ABC [app]. I expect to see more
of that in the second half," said RBC's Bank. "And I want to see how the Aereo
lawsuits play out."

Aereo, backed by former TV exec turned CEO of interactiveoriented IAC Barry
Diller, has so far withstood legal challenges from the broadcast networks,
which have sued claiming that Aereo is misappropriating its signal for its
digital subscribers without paying retransmission fees the way cable operators
do. "I'm less concerned about the ad market than I am about those kinds of
things," Bank said. "The content's rich, the share shift in ratings, the
technological and legal forces at play-these are things that are going to play
out in the back half."

One clue to how digital will play out will come when a buyer is found for Hulu,
the video streaming website now being auctioned off by News Corp. and Walt
Disney Co. (A third owner, Comcast, is a silent partner under terms of a
consent decree issued when it acquired control of NBCUniversal.) Bank calls
Hulu "the best brand in online television."

Let's Not Make a Deal

Other deals are in motion that could affect the way the second half of the year
plays out. News Corp. is scheduled to split into two, separating its lagging
publishing assets from its TV and movie businesses, which will be owned by a
new public company controlled by Rupert Murdoch to be called 21th Century Fox.
Those TV assets will be undergoing a fair amount of change. News Corp. also will
be launching a new national sports channel, Fox Sports 1, a potential
challenger to Disney's dominant ESPN. It will be also launching FXX, the
younger-skewing component of FX Networks.

Other potential deals are in the wind. Sony's movie and television operations
could go into play; the ever-growing Scripps Networks Interactive could finally
complete a deal to acquire Tribune Co.'s stake in Food Network; and CBS has
been accumulating cable programming assets. One of the bigger players could
acquire one of the smaller players, further consolidating the industry.

"[On] the M&A landscape, one of these guys [might] do a big deal and we
think it's the wrong deal and our view of capital allocation could shift. That
could be a driver in the wrong direction," said Bank. "Our preferred capital
allocation tends to be return of capital to shareholders. And I think a
deviation from that, even for a good deal, could give some pause."

The Price Is Right

Wall Street likes the TV business. With the market rising in the first half of
the year, media stocks rose even further. Could that rise continue?

One thing investors like about media stocks is that revenue has become fairly
predictable, with affiliate fees and retransmission agreements being long-term
and most ad sales locked in on a year-long basis.

"There's so little that can change financial. Most ad spending is so
pre-planned and share shifts take many, many years. It's not likely we'll see a
rapid shift," said Pivotal's Wieser.

In the first half of the year, "the stock market performed really well, Wieser
said. "It remains to be seen whether or not stocks can keep up. Underlying
business performance will be OK with a pretty wide range of outcomes, depending
on which company, which sector."

In the last week the market, and media stocks in particular, pulled back. Todd
Juenger of Sanford C. Bernstein said the decline was the result of selling by
hedge funds and that there has not really been a significant change in business
conditions, despite slightly lower than expected upfront price increases for
the broadcast networks.

With the run-up of media stock in the past six months, some investors have been
waiting for an opportunity to buy, and the current dip may give them a chance.
Juenger specifically points to Discovery, which had the sharpest decline
despite its earnings being revised upward. "The question now, for all those who
said they wanted a better entry point, is: Will they still have the conviction
to buy? We believe the ‘buy on the pullback' case is very strong," Juenger
said.

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