Michael Eisner, the beleaguered chairman and chief executive of The Walt Disney Co., recently declared, “Maybe I’m crazy, but we don’t have a crisis.” Mr. Eisner is both right and wrong.
Disney has warned it will miss another quarter of earnings and revenue targets, and that it is changing the mix and size of its fractured board of directors to make it more independent. It continues to be vexed by succession issues and is struggling to protect its core businesses from further punishment by a flagellating economy. Its stock price recently hit a record low, reducing the company’s value to $26 billion.
That is tantamount to a crisis in any corporate book. But such dire woes, while collectively devastating, are correctable over time with improvements in the economy and in management and board leadership.
In fact, at a regularly scheduled board meeting later this month, Mr. Eisner and his team will present plans for governance changes and a strategic plan for steering the company over the next several years. The latter is shaping up to be a classic tug-of-war between Mr. Eisner’s traditional reliance on creative forces and the pragmatic deference to financial realities favored by others on the executive team, sources say.
This time around, Mr. Eisner may have no choice but to yield.
Factors beyond Disney’s control
That is because Disney’s real “crisis” lies deep within, at the ABC TV Network, and has as much to do with dramatic competitive and financial industry factors that are out of Disney’s control as it does with factors unique to the faltering network.
In some ways, Disney’s “crisis” is the age-old broadcast network challenge of producing and nurturing enough prime-time hits to remain financially solvent. Right now only two of the four major broadcast networks-NBC and CBS-will be profitable for the foreseeable future.
But as it turns out, ABC is the first major broadcast network headed into a new season shouldering an unprecedented mix of financial disadvantages-some of its own making and some industry-driven-that could lead to its undoing.
For starters, ABC is taking on maximum financial risk for the high number of prime-time series that Disney itself is producing internally for ABC’s schedule. Despite all broadcast networks’ contention to the contrary, comedy and drama series they produce for their own schedules generally do not cost much less than they would if supplied by outside producers. That’s simply because the bulk of production costs are tied to escalating talent expenses. The difference historically is that broadcast networks had to share the cost and risk with others.
Prime-time programming costs continue to rise between 5 percent and 10 percent annually-more than twice the anticipated growth of network TV ad revenues that support them. More than 85 percent of any broadcast network’s revenues generally are used to underwrite all kinds of program-related costs-from prime time to sports, from news to live events, according to JP Morgan analyst Spencer Wang.
The industry rule of thumb is that more than two-thirds of network prime-time series are doomed to fail. Even in a transforming television marketplace, the odds for success have not changed.
ABC’s situation is compounded by a weak foundation. It has sold its upfront advertising inventory for about $1.58 billion on weakened ratings and demographics, after having lost an estimated $350 million in advertiser make-goods last season due to falling far short of its ratings guarantees.
That is against an industry backdrop that will see broadcast network pricing grow at a much slower rate in the future and will see overall broadcast TV ad spending decline as a percentage of total TV ad spending, Mr. Wang said.
What that means is that the economic squeeze for broadcast networks will become even more unbearable in the future, and that for ABC it may become acute in 2003. The ABC TV Broadcast Network in 2002 is expected to lose at least $280 million on an estimated $2.3 billion in advertising-based revenues.
The chances that ABC’s economics will worsen in the next year-short of an unpredictable hit series such as it had with “Who Wants to Be a Millionaire”-are tied to major changes among all the broadcast TV networks that essentially come down to slower or no return on rising program costs and the falling apart of the off-network syndication model.
The major broadcast networks have ramped up internal production and ownership of more of their scheduled programs based on the notion they could make up the difference in highly lucrative off-network syndication, which flourished in years past. That simply is not happening. The dissolution of the financial interest and syndication rules that once prohibited such program ownership has so far turned out to be a bust for the broadcast TV networks.
So ABC, like its peers, has embraced a formula for potential financial disaster: shouldering more risks and costs with the chances for less return. ABC is likely to be the first of the broadcast TV networks adversely impacted by this formula.
ABC simply does not have the pipeline of legacy off-network deals, like AOL Time Warner’s Warner Bros. or Viacom’s Paramount Pictures, that were in place before business economics began to change.
“Even if it produces a hit, the windows for off-network syndication on digital cable and elsewhere have been largely filled for the time being. The pricing bonanza for such product is gone,” warns veteran UBS Warburg analyst Christopher Dixon. “That off-network syndication model no longer exists.”
The result is a business with much lower financial returns because it is unable to capture the same amount of dollars as it once did from a TV network with lower ratings, fewer hit shows to syndicate, fewer places to sell and more of the cost and financial risk to bear. “That is ABC’s biggest problem,” Mr. Dixon said.
The only way out is to change the model, taking network-owned and -controlled programs and airing them across a variety of network-owned and -controlled platforms to generate more ad revenues and better amortize production costs.
NBC has aggressively done this with its news programming and news cable channels. ABC, which has been discreet about discussing such plans, is expected to recycle its product more aggressively on its own ABC Family, ESPN and other cable channels out of sheer financial necessity.
It also is expected to engage in more time shifting of its programs across its own cable channels and other platforms, possibly even as part of the free (for now) VOD experiments being conducted by Comcast Corp. and other cable operators.
An on-demand TV marketplace
Mr. Dixon said Disney’s and ABC’s hearty embrace of these and other new practices means accelerating the industry’s “eventual migration to an on-demand television marketplace, where the idea of a back-end, separate from a current licensing period, disappears. It has to.
“If anybody running a broadcast television network thinks they can get back to the margins they once enjoyed with a syndication model, they belong in another business.”
So what does Disney do most immediately to stem further financial erosion?
Sources say Disney is considering a plan to eventually sell cumulative audience shares and ratings to advertisers for programs it airs on multiple platforms, including third-party cable networks-something experts say will be a pillar of future TV economics.
Despite its balance sheet squeeze, the company should pursue partial and whole ownership of dual-revenue-supported distribution platforms, such as cable networks. That means it will battle the likes of cash-armed peers such as General Electric Co.’s NBC and Viacom’s CBS for the few “available” cable networks, including Vivendi Universal Entertainment’s USA cable networks, Liberty’s Discovery Communications and Cablevision Systems’ Rainbow Media Group.
Mr. Wang says another potential solution is for Disney to continue acquiring more broadcast TV stations, which have better operating margins than its broadcast network and ca
n generate increased ad revenues and cash flow as a result of stronger network programming-revenues that also can be used to offset production deficits.
But the bottom line for Disney in coming to terms with its “crisis” is clearly within its grasp. “There is no substitute for producing better programs and airing them across cable and other platforms, selling the cumulative reach to advertisers and marketers,” Mr. Dixon said. “It’s as simple and as hard as that.”