Media firms feel disclosure sting

Apr 8, 2002  •  Post A Comment

There’s nothing like suspect financial disclosures-amid the heightened threat of a Mideast war and oil crisis-to dash already fragile investor and media company optimism about a gradual economic recovery.
The reporting and accounting debacles that sent Adelphia Communications stock plummeting more than 60 percent last week and forced Gemstar TV Guide International stock to tumble nearly 40 percent in one day are not isolated events.
They are indicative of the financial maneuvering and reporting routinely embraced by some public companies that now are coming under closer scrutiny by analysts, investors and the financial press.
As quarterly earnings reports get under way this week and companies continue to file 10-K annual reports with the Securities and Exchange Commission, there are sure to be more unsettling revelations.
To tell the truth
Public companies are coming clean, whether they have something to hide or just look like they do. They are disclosing more information at the same time as they are scrambling to bolster their heavily leveraged balance sheets. They are moving quickly to reduce debt and to replace short-term commercial paper with long-term financing to calm intense skepticism about their portfolio subsidiaries and off-balance-sheet investments. And they are struggling to stay within the confines of loan covenant pacts and investor confidence.
The result could be a stream of companies lowering their already conservative revenues and earnings targets for the year. The pressure to put the best face on their financial performance has led to some of the current problems plaguing media companies.
With earnings and revenues still depressed, the rising cost of available funds that are already tight and corporate debt rising to new highs, even the biggest companies don’t have the financial flexibility they need.
But sketchy macroeconomics aside, there still is plenty left rattling media and entertainment companies that is germane to their own industries.
Analysts said there are many routine practices, which in this post-Enron period and especially during uncertain economic times, warrant a closer look. They might include the way that advertising and promotional dollars coming from cable channels to cable systems generally are booked as ad revenues instead of as carriage payments. They might also include the claims by outside parties on a company’s cash or assets in off-balance-sheet investments or partnerships.
“This is all part of the new balance-sheet skepticism. Just because a company says something is OK is not enough,” Sanford Bernstein analyst Tom Wolzien said. “In this environment, the lack of information breeds suspicion.”
In Gemstar’s case, the company conceded in its annual report that $59 million in reported 2001 revenues hinged on the outcome of a lawsuit postponed until June, and another $20 million in reported revenues was noncash and in the form of intellectual property.
Although the over-reported revenues represented less than 6 percent of Gemstar’s total for 2001, at least two analysts lowered their recommendations on the stock. “The accounting items raise questions about the company’s revenue growth, revenue quality and revenue risk,” CIBC World Markets analyst John Cochran told clients. The company would need to generate $107 million more in real revenues just to break even at this point, he said.
Gemstar shares hammered
Despite management explanations during a special investors conference call, Gemstar stock fell to nearly $8 a share, or 90 percent below its high in August 2000.
Adelphia’s situation is far more grievous. In a full-year 2001 earnings conference call with investors, the controlling Rigas family disclosed it had used its cable company-the nation’s sixth-largest-to back $2.3 billion in personal loans made through private partnerships without properly reporting the off-balance-sheet transactions on the company’s books. The disclosure pushed the stock to its lowest level since 1997, $11 per share, and prompted an informal SEC inquiry.
Adelphia feels debt stress
It ultimately may cost the Rigas family (whose 24 percent stake has been halved to a value of about $600 million) their company and leave them struggling with more than $16 billion in debt, which may already exceed the debt-to-cash-flow parameters of Adelphia’s loan agreements. The company is delaying the filing of its 10-K annual report until it determines how best to account for the loans, proceeds from which were used by the family to acquire independent cable systems and Adelphia stock.
Wall Street’s response has been brutal and led by Goldman Sachs, which removed Adelphia shares from its recommended list due to the lack of additional disclosure or explanation by the company.
“Our fear remains that Adelphia’s problems may go beyond current disclosures,” Goldman analyst Richard Greenfield said in a brief note to clients.
The fact is there are many family controlled and closely held media companies whose business maneuvers and financial reporting will be looked at more closely. But there will have to be major changes in how much and in what manner companies choose to make financial disclosures before any meaningful, more in-depth examinations can be conducted.
As media companies have consolidated and swelled, the level of detail they have provided about their subsidiary operations has shrunk. The Walt Disney Co. is just one example. The industry’s most profitable of all television networks, ESPN, is lumped in with the unprofitable ABC TV Network in what the company calls its media networks operations, where investors will never see the $300 million-plus in advertising make-goods due to poor ratings for ABC. There are numerous such examples at nearly every media conglomerate that, while legal, are far from being forthright.
It’s been an accepted practice for public companies to disclose only as much as they have to, in ways that work in their best interest. They only reveal more than that when they have to. For instance, some analysts last week complained that they were just now getting certain details about the Time Warner Entertainment partnership with Advance/Newhouse in AOL Time Warner’s annual report (such as the Newhouse family’s ability to arbitrarily cash out of the venture on the death of one of its principals). The revelation followed a casual mention of the situation by AOL Time Warner CEO-elect Richard Parsons during a closed buy-side gathering last month. The previously undisclosed terms could lead to Time Warner Cable’s having to pay close to $10 billion in cash to dissolve its TWE partnership-while losing 20 percent of its cable subscribers.
“Is it the company’s fault for not telling us or analysts’ fault for not digging deeper, finding it out themselves and asking about it?” one prominent analyst said. “There’s plenty of blame to go around.”
Many pass the test
Mr. Wolzien conducted his own query last month, concluding that there was nothing in major media companies’ off-balance-sheet investments that was improper or suspect. The companies he examined included AOL Time Warner, Viacom, Disney, Cox Communications, Comcast Corp. and Liberty Media Group. He’s now scouring through stacks of public financial filings-a tedious exercise that not all analysts or investors will readily embrace.
There also are plenty of new moving parts to consider when assessing a company’s financial condition.
Last week, AOL Time Warner raised $6 billion in bonds-$2 billion more than originally intended-the proceeds from which are being used to pay down some debt and shift more of it to longer-term financing. Many on Wall Street were quick to speculate that even with its own financial flexibility in question, the world’s largest media company might be positioning itself for another major acquisition.
A week earlier, General Electric Co., owner of NBC, had similar motives in selling $50 billion in bonds and aggressively defending its GE Capital investment portfolio. To provide enough detail and forecasts to ease Wall Street’s mind, GE this week will conduct
its first earnings call in recent memory with investors and analysts.
The huge write-downs (mostly relating to new accounting and good-will rules) recently announced by media and entertainment companies such as News Corp., Viacom, Liberty Media and Gemstar have in some ways only served to muddy the waters. The write-downs-the biggest of which is for $54 billion by AOL Time Warner-call into question the value paid for and never realized at the time of much-ballyhooed mergers. These mergers were predicated on financial strategies and intercompany synergies that hinged on a healthy economy, advertising market and Internet space.
It still is unclear how AOL Time Warner especially is playing all of its cards at a time when none of these assumptions have materialized and when the growth of some of its core businesses-such as AOL’s Internet service-is slowing. Investors’ concerns are reflected in the new $22.50 a share low AOL Time Warner hit last Thursday.
Next month’s earnings reports are an opportunity for all media and entertainment companies to answer such questions, clarify the uncertainties and restore some of the Wall Street confidence that is being sorely tested these days.