Why NBC wants Telemundo now

Oct 15, 2001  •  Post A Comment

NBC’s proposed $2.7 billion acquisition of Telemundo, while a catalyst for accelerated broadcast TV station consolidation, also signals a critical change in NBC’s strategy to aggressively grow through acquisition and to continue to pursue digital interactivity.
Sources close to the company say the deal is the first in what will be a string of key acquisitions and alliances NBC will secure to broaden and increase the reach and quality of its audience. It also wants to give viewers more interactive options-from transacting with advertisers to ordering personal services-using all available interactive platforms.
The partnerships could be with a broad range of players, from telephone companies such as Verizon to cable operators such as Cablevision and AOL Time Warner to satellite companies such as DirecTV, sources said. “There are other bits and pieces coming that will take the broadcasting and cable pieces NBC has to the next level,” a high-level company executive told me.
Although NBC officials decline to elaborate on the strategy, sources say equity partnerships and acquisitions are in the offing to give NBC viewers interactivity through two-way satellite and interactive digital cable beginning next year, adding to its existing telephone and Internet pipelines.
That interactivity is important because it will distinguish NBC from other mainstream broadcast and cable players by giving advertisers and viewers a branded means to connect locally and nationally to transact for products, services and information. NBC News, marketing and advertising all will play key roles. In the process, NBC will attempt to redefine the television advertising and information business.
In other words, NBC is preparing a surprise campaign on interactivity at a time when some of the biggest media companies have reduced their focus on it in light of the dot-com collapse, weak ad market and uncertain economy. And there is no telling what that will be worth in incremental earnings growth over time.
Telemundo is an important piece of NBC’s overall expansion strategy because it offers the Peacock access to 10 million unduplicated TV households in the fastest-growing viewer and advertiser demographic amid the worst broadcast and cable ad revenue free-fall in years. The Hispanic advertising market grows an average of 18 percent annually, and audience growth exceeds 20 percent.
The Telemundo deal is not about repurposing NBC programming on yet another set of television stations-much as it already does with Paxson Communications, in which NBC holds an equity stake and a buyout option.
And this isn’t just about achieving cost savings through synergies and eliminating redundancies-although there will be plenty of that.
In the first year, NBC should be able to achieve $10 million to $12 million in savings from each of at least four major-market TV station duopolies-in Chicago, Miami, Dallas and Los Angeles-by eliminating overlapping station operations and facilities, program costs and ad sales efforts.
NBC also could squeeze out an estimated $50 million in incremental ad revenues by bundling and selling Telemundo’s broadcast and cable networks and TV stations with those of NBC. About half of those new revenues-or about $25 million-will be pure profit, according to Prudential Securities analyst Nicholas Heymann.
Overall, Telemundo should generate an estimated $170 in incremental earnings for NBC the first year, Mr. Heymann said, making it instantly accretive to NBC and GE earnings. He estimates that the acquisition multiple NBC is paying for Telemundo is closer to 16 times 2002 earnings before interest, taxes, depreciation and amortization, and not the more inflated 23 times earnings some analysts were figuring last week, based on a lower 2002 earnings estimate of $120 million.
`A whole different game’
NBC Chairman Bob Wright, who also is vice chairman of GE, said that by 2003, Telemundo will generate an estimated $250 million in incremental earnings on about $600 million in revenues for NBC and GE.
But the most important facet of the Telemundo deal has to do with the unconventional way NBC plans to use its more far-flung broadcast and cable audience reach to generate increased interest and revenues from viewers and advertisers.
“They are lining up to play a whole different game of how to add value in the media industry,” Mr. Heymann said.
“You’ll have two different target audiences-but one basic cost to supply two different sectors. But they are going for the broadest audience reach and an extension of what they can do with it,” he said.
High-level company sources say NBC wants to push the envelope so that broadcasting no longer is just a game of guessing right about scatter market trends after selling 80 percent of available upfront inventory, or about whether programs were produced and sold at the right prices.
The Telemundo deal is evidence that NBC considers audience a valuable asset-second only to branded content-which can be cultivated to render new revenue streams. NBC will leverage its broader audience with advertisers in a digital world by doing more than simply delivering eyeballs. It wants to turn viewers into interactive consumers-online, over the phone and on interactive TV-for a fee to advertisers. And NBC wants to begin doing that aggressively in 2002.
NBC has achieved the first modest stage of this process through its ValueVision operations, using telephone and online connections, and a rather undervalued fulfillment infrastructure. The collapse of its lofty Internet plans earlier this year was a blow because those plans would have carried NBC’s ambitious interactive advertising and marketing initiatives to the next level sooner.
But clearly, even in a down ad market and economy, NBC is forging ahead to use interactivity and its audience base-made broader and deeper by the Telemundo deal-to stimulate advertising and viewership. Achieving that will give NBC a long-term edge.
Let the acquisitions begin
Just as important, the Telemundo deal, financed with cash and General Electric stock, signals a renewed commitment by NBC’s corporate parent under new Chairman and CEO Jeffrey Immelt to hold onto and grow the broadcast and cable company using GE resources.
For the 15 years GE has owned NBC, it has grown the Peacock Network company mostly organically and through alliances for fear that acquisitions would dilute GE earnings. Accounting changes in rules governing goodwill make such acquisitions less of a threat to GE earnings and stock.
GE wants to grow NBC because it nicely offsets its other core industrial and financial businesses, analysts say.
While NBC contributes only about 11 percent of GE’s revenues and about 13 percent of its earnings, NBC represents a whopping three-times return on total capital invested (compared with a 12 percent return on capital invested by most media companies).
“This is a shift in GE strategy to invest in NBC and a business that will be taken to another level of value added,” Mr. Heymann said. “Growth in intellectual content, margins and synergies will follow.”
Even in the last beleaguered quarter, NBC contributed handily to GE’s bottom line. Overall, NBC reported a 13 percent decline in third-quarter operating profit to $255 million on a 45 percent decline in revenues to $1.05 billion due to the absence of last year’s Olympics.
However, NBC TV Network operating profits rose 100 percent on a 50 percent decline in revenues (again, due to comparisons with last year’s Olympic Games). NBC TV stations’ operating profits and revenues both fell 30 percent, while NBC cable operations’ operating profits and revenues were flat. Although NBC’s overall revenues and earnings will decline about 15 percent this year, analysts say they will bounce back to former highs in 2002.
Hidden in last week’s numbers is the indication that NBC is cutting an additional $150 million in costs this year, resulting in a total of $300 million in cost cuts in 2001.
But NBC understands it cannot cost-cut its way to prosperity or scale.
As the first mainstream broadc
aster to buy into the high-growth Hispanic television market, which has proven to be resilient with viewers and advertisers even in tenuous times, NBC is likely to once again come up against Viacom in other deals.
Increasingly during the next year, NBC, CBS, Disney’s ABC and News Corp.’s Fox will butt heads bidding for broadcast TV stations and groups in what is bound to escalate into a new round of rampant consolidation despite tough economic times. All these players know that broadcast economics will improve and that they can increase their profits on an economic upturn if they bulk up on scale and realize cost savings and synergies now.
NBC’s deal for Telemundo and Fox’s recent acquisition of the Chris-Craft Industries stations are the opening shots in that race.
In recent weeks, private equity groups-many of them well-known broadcast backers such as Hicks, Muse, Tate & Furst; ABRY Communications; Kohlberg Kravis Roberts; and Carlyle-have been approached by independent broadcast groups seeking an infusion of cash to make payments on their existing loans, bank covenants and operating expenses. As a result, at least $400 million in private equity could be pumped into broadcast TV stations and groups in the coming months, industry experts say.
In the meantime, some of those strained broadcasters will sell out, as witnessed by Ackerley Communications’ announced sale to Clear Channel Communications last week. Other broadcasters simply will fold, with no advertising and economic relief in sight for much of 2002.
Time to sell
A growing number of prominent broadcasters such as Young Broadcasting, wrestling with a grim earnings picture and the loss of the NBC network affiliation from its San Francisco station next year, are acquisition candidates that will be hard-pressed to hold out for the inflated sale multiples of recent years. NBC and Disney already have expressed interest in Young, especially as it offers the unique opportunity for West Coast TV station duopolies in Los Angeles and San Francisco. With the NBC affiliation set to switch Jan. 1, pressures to work out a deal are intensifying.
There are even bigger deals that NBC may now pursue with GE’s support. At the very least, NBC may pursue other Hispanic cable and production companies or TV stations to support its Telemundo interests.
But GE and NBC’s new acquisition stance will make NBC an aggressive acquirer during the next 18 months, changing the complexion of both NBC and the media industry.
Because of GE’s concern about dilution of its earnings in the past, NBC has passed up what could have been powerful alliances-if not outright mergers-with USA Networks and AOL Time Warner.
While GE does not appear eager to spin off NBC as a closely held public stand-alone company with its deal currency, it does appear ready to reach into its deep pockets and fund the select acquisitions that make the most sense. Changes in accounting goodwill amortization rules also make acquisitions palatable. But GE’s desire to retain and grow NBC makes acquisitions imperative.
In these unsettled times, larger acquisition targets could include Sony Entertainment Corp. or USA Networks, with whom NBC has had discussions, analysts say.
Sony Corp., which has resisted selling off its U.S. operations in the past, is suffering extreme blows to its earnings and stock price from which it will be slow to recover.
USA Networks, being hotly pursued by its 40 percent owner Vivendi Universal, may seek to collaborate in a U.S.-based media company, such as NBC, that complements its holdings. USA brings not only major cable channels such as USA, Sci-Fi and HSN but also the leading interactive infrastructure built on services such as HSN and Ticketmaster. Both would be highly compatible with NBC’s holdings and growth strategy.
But there also is the issue of NBC needing to achieve scale to remain competitive in a rapidly consolidating world. It must grow its distribution and content base in both broadcasting and cable to survive, analysts say, or the run the risk of becoming a buyout target.
Otherwise, even as a closely held subsidiary of GE, NBC could run the risk of becoming an attractive target for bigger players such as AOL Time Warner, John Malone’s Liberty Media Corp. or even cable operators such as Cox Communications and Comcast Corp., which are seeking ways to achieve more scale and clout as long as deregulatory forces allow.
Last week, NBC put itself in the center of the deal-making activity that despite these pressing times will abound in 2002.
“There’s a lot more deals to come,” said Bear Stearns analyst John Inch. “This is part of what I believe is a much larger strategic shift to increase the network’s presence in a lot of areas such as cable, content production, advertising and marketing. It will afford other opportunities for NBC.”
“This deal puts not only Telemundo but NBC on the path to becoming a much bigger global force,” he said.