Barrett sees beyond hard times

Jul 16, 2001  •  Post A Comment

The world according to Hearst-Argyle Television President and CEO David Barrett is simple enough.
The changes and challenges that are pounding broadcasters have created a “survival of the fittest” mentality that will make strong, creative players bigger and more powerful when economics, deregulation and technology improve.
His advice to fellow broadcasters:
Do what it takes to capitalize on your local franchises, mine your digital spectrum and streamline your traditional infrastructure. “Re-engineer local TV stations for today’s marketplace” and make the creation of nontraditional revenue a priority, he said.
But the much-anticipated next wave of consolidation will see the most prominent as well as the most disadvantaged TV station groups in play. The Hearst Corp. has indictaed it would accept dilution of its 66 percent controlling stake if Hearst-Argyle merged with another large media concern.
With his own company’s stock trading at up to a 44 percent discount from its private value and revenues declining in a weak advertising market, Mr. Barrett is reformatting his TV stations and company not just for better times but for different times.
“There are a lot of issues that this business is faced with, but someone is going to crack the code and find good solutions,” he said.
Mr. Barrett recently sat down with Electronic Media for a state-of-the-state assessment of his own company and the broadcasting industry midway through a tumultuous year.
An edited transcript follows:
EM: Analysts expect the next round of consolidation to see the merger of large, able broadcast groups like your own. Do you agree?
Mr. Barrett: We have built a very strong company. Most analysts recognize we have strong assets and a good management team. We’re good at controlling costs and we’ve got a good-looking balance sheet, and that positions us well for the next wave of consolidation when it occurs.
Everybody is always talking to one another, but we’re holding out for clarity on deregulation. We have felt all along it would be year-end or first quarter before there is clarity on some of this, such as newspaper-television cross-ownership, TV station caps and further duopoly, which could present opportunities for us.
EM: Merrill Lynch analyst Jessica Reif Cohen pointed out in a recent report that those traits make Hearst-Argyle an attractive merger candidate. She now considers your company more of a seller than a buyer, with a private market value that is between $30 and $37 a share, and you’re trading at around $20.
Mr. Barrett: She’s the only one out there saying that. I don’t want that to be the defining characteristic of our company. I cannot speculate on mergers with other companies. I can’t say we’re not selling. I can’t say what we’re buying. We have enormous flexibility in terms of what we can do.
We got into the public arena not even four years ago with the notion that we were going to be one of the consolidators, and we have been on that track. We’ve more than doubled in size since then. It is desirous for us and others to pursue station-clustering strategies.
EM: Does that mean picking off stations or buying entire station groups?
Mr. Barrett: Time will tell. Most people don’t want to sell their assets in a down year. The time to have done that was 18 months ago or probably a year from today with a better history of trailing cash flow. Most companies’ balance sheets and capital structure may not be pretty, but that will sustain them to the next up cycle. There will be political money in the marketplace next year. The first quarter will see the Olympics. There will be a stronger ad economy. It may not be as strong as in 2000 or in even-numbered years historically, but I believe it will be stronger than it is this year.
EM: Is your new NBC Enterprise partnership with NBC and Gannett the first step toward a full-blown merger with either or both of those companies?
Mr. Barrett: I don’t think it necessarily has to change from what it is now … but it’s a wide-open world out there.
EM: What about a grander alliance with Walt Disney or ABC?
Mr. Barrett: We’re ABC’s largest partner in cable networks like A&E and affiliated stations. Everybody’s got their scenarios … anything is possible but nothing is imminent.
EM: Is there a chance there might not be a traditional rebound from this ad recession?
Mr. Barrett: The ad economy continues to be very difficult. Business generally looks like it’s stopped, declined and leveled off. We’re seeing a little more activity for the third quarter. It feels like we’ve stabilized. We’re starting to see a bit more activity in the automotive category. The automotive sector is so important to television. As it goes, so go our ad revenues.
EM: Has the networks’ upfront changed anything for stations?
Mr. Barrett: That’s gone according to plan. It’s a buyer’s market, and the upfront reflected that. It didn’t really surprise anyone in terms of the reduction of overall volume and the downward pressure on rates. We’re probably in for several more quarters of a difficult ad environment. I expect we’ll see signs of a recovery later this year and in the first part of next year.
EM: Isn’t the soft national TV spot market killing stations?
Mr. Barrett: Everybody who is relying on one-revenue-stream advertising has got exposure in this kind of economy. But in the past 30 years there have been brief downturns in the television business.
We are becoming less reliant on national sales. The split now is about 50 [percent] local and 50 percent national advertising revenues. Not too many years ago it was 70 percent national and 30 percent local. I think we’re on our way to 60 local–40 national in the larger markets and 70 local–30 national in the smaller markets over the next several years.
EM: Will you revise your financial estimates for the year?
Mr. Barrett: We’re going to remain very cautious. We’re not uncomfortable with most of the analysts’ estimates for us for the year. We are going to be in line with our own second-quarter guidance. We said that revenues would be down around 10 [percent] to 14 percent and after-tax cash flow would be 41 cents to 45 cents per share.
EM: Are you considering further cost cuts through year-end?
Mr. Barrett: We’re not prepared to give our third- or fourth-quarter outlook yet. Our expenses were down nearly 3 percent in the first quarter. The second quarter should be in that same ballpark. If our expenses are below what they were last year, we’ve done some very good expense control. Our total expenses for the year are about $390 million. Each percentage point is worth $3.9 million.
EM: So that means you could cut $12 million in expenses this year?
Mr. Barrett: We’re not prepared to say, but most American businesses would be satisfied if they could contain their expense growth year to year from 2 to 3 percentage points. To have expenses down 3 instead of up 3 is fairly significant.
Over the last 15 months, we have quietly reduced our overall staffing levels by about 7.5 percent. Payroll and programming represent two-thirds of our costs. Our programming costs have been flat or marginally declining for the past three years. And our payroll costs have been relatively flat over the past few years.
EM: How will you and other broadcasters scale down budgeting for 2002?
Mr. Barrett: All of us are trying to identify cost efficiencies and scale down our operating costs to a realistic revenue level. This is increasingly a business of winners and losers. The stations with the strongest local presence will do best.
This industry has demonstrated it can adapt itself to be a more cost-effective business than it was 10 or 20 years ago. We are taking advantage of technology in the way we run television stations. We’re being much more enterprising in sales.
We’re training people to develop advertising business instead of waiting for it come to us. The first quarter, we sponsored several health fairs. We are attracting advertisers who have never before been on television.
Our stations have largely ma
intained a growing share of spending in their markets over the past few years, and that’s a result of finding new advertisers and being marketing partners with retailers in our communities.
EM: What is the future of what you call nontraditional revenue?
Mr. Barrett: We’re on our way to having nontraditional revenues be 4 [percent] to 6 percent of our total revenue within the next several years. Contrast that with networks compensation, which has historically been 4 [percent] to 5 percent of our total revenues. Through aggressive enterprise and sales efforts, we are replacing one with the other.
EM: What about programming expenses?
Mr. Barrett: Our syndicated programming costs have been declining since 1998, on a pro forma basis, when they were $61 million. This year it will be about $58 million. Next year there will be a modest percentage increase in programming due to new product we’ll probably step up and try. We’re in negotiations on some of the new game shows that would start September of 2002.
We’re looking at product from Buena Vista, Paramount and Harpo. Our priority will be to give first consideration to NBC Enterprises product that we get a first look at [during] the next 60 days.
If through that programming alliance we can develop and have an interest in the next great syndicated program, that would be very positive for our company and for our shareholders. Ultimately we want revenues from syndication and content that we own a piece of to replace or complement network compensation.
EM: How much of a setback is this economic slump to broadcasters?
Mr. Barrett: I think everyone is responding. We can talk about costs, but this is a business with very high profit margins, so the focus has got to be on revenue growth.
2000 was an extraordinary year, enormously aided by the millennium and elections. TV revenues crested there. I’m not sure any of us ought to be thinking that is the norm and benchmark for the business.
EM: Is 2001 more the norm and benchmark for the business?
Mr. Barrett: This year resembles 1998 and 1999. In the first half of the year, we’ve given back all of the gains from 2000. But this remains a business in which, if you sell a dollar’s worth of time, you can have a cost basis of 60 percent and a profit return of 40 to 50 cents on the dollar.
We believe the correct way to view the TV station growth is over a two-year period–over an odd and over an even year. It provides a more realistic snapshot of how this business is performing.
EM: So you don’t see basic broadcast economics changing?
Mr. Barrett: I think leading station operators will be able to continue to aggregate a mass audience in a local marketplace and continue to be paid a premium for our mass-market audience delivery and continue to be a high-profit-margin business on a relative basis to all other media.
EM: Where does that leave smaller broadcasters? Some are having a lot of trouble refinancing. Could there be a fire sale of distressed stations?
Mr. Barrett: There’s always a Darwinian factor at play. The strong survive, and the companies that are weak with difficult capital structures or inordinate debt will have to find other solutions. Policy will change to provide for more consolidation in TV, as it did in radio, driven by a difficult economic climate.
EM: Do you expect more deregulation and consolidation this year?
Mr. Barrett: I don’t think more deregulation will necessarily come this year, and consolidation is terribly dependent on regulation. There continues to be a disconnect between public and private multiples. If people do want to sell television assets, they’re going to have to be more realistic.
Eighteen to 24 months from now there will be fewer broadcast players. There may be some different cross-ownership allowed and a different kind of duopoly rule, and that will reinvigorate the TV station business. Because things have changed in Washington, the process may be a little slower than I would have expected it to be.
EM: What are the biggest risks to broadcasters in the next 18 months?
Mr. Barrett: The American economy and advertiser spending that goes beyond the cyclical to the secular. There is a lot of ad inventory out there, and there is some devaluation that comes into play. Advertisers are going to more sharply differentiate between the value of different kinds of inventory in a marketplace.
EM: How viable is the network affiliate model today?
Mr. Barrett: We have to reconcile the deal points of affiliation, and I’m confident that will work itself out. The business model is still solid. Our overall share of audience has been fractured, but it’s still the largest share of market, and affiliates still command a premium for the mass-market delivery of audience in the local marketplace. Even in their diminished state, you have to acknowledge the edge the broadcast networks have.
EM: Is there anything that could come out of the current dialogue between the networks and affiliates that would constitute a significant change for affiliates?
Mr. Barrett: An appropriate definition of a station’s rights to pre-empt or to protect scheduled local programming would be beneficial. If a local operator wants to sell a station and affiliated networks object to the transfer, it would be good to clarify the rights of station buyers and sellers. There are no rules to protect affiliate franchises.
EM: What should the network affiliate relationship become?
Mr. Barrett: It is evolving. Networks will continue to be principal program providers and seek out and package branded content. At issue is what the business arrangement will look like over the next five to 10 years.
A lot of the analysts offer a negative picture of the station business. Our company has increased leverage with networks and content providers. Our 10-year deal with NBC allowed us to pursue how we could partner with them in other ventures.
The NBC-Gannett-Hearst partnership allows us to develop and syndicate programming with the option of clearing it on our stations. The partnership has a potential of 50 percent coverage of all U.S. TV households to roll out programs. Profits from successful programs will more than offset the loss of network compensation over time.
Most of our affiliate agreements with ABC go to 2005, and I expect in the next year we will begin negotiations with ABC to sign new agreements.
EM: How much would more extensive TV duopoly help if it were allowed?
Mr. Barrett: The reason why duopoly has fizzled is that there simply are not enough stations. What exists now is not realistic duopoly. A more pure duopoly that would allow an operator to own more than one top station in a market would have a profoundly positive effect on the economics of the business. A company that controls the No. 1 and No. 3 stations in a market can afford to provide a different level of service. Right now there is a sameness in how schedules are built and used against eachx other. It could potentially produce more diversity of programming. An example is CBS’s programming of the UPN network and stations.
EM: What will your company look like a year from now?
Mr. Barrett: We are poised to be a consolidator in this business and a stronger force in the local television business than we are today. If that means the acquisition of additional stations or new kinds of partnerships with people, we have a very open mind in pursuing that.