ABC’s Recovery Plan

May 5, 2003  •  Post A Comment

The economics of ABC’s new fall program schedule, upfront advertising sales and contribution to Walt Disney’s vital Media Networks unit is where Wall Street’s attention is riveted, since quarterly earnings results offer little surprise or opportunity.
As ABC has dramatically demonstrated, the economics of its broadcast TV network can shape the financial fortunes of its corporate parent. But after initiating an unprecedented $1 billion profit-to-loss swing in the past several years, that has depressed Disney’s operating income during economically challenging times, it’s no wonder this pivotal juncture in ABC’s attempted recovery is of special interest to investors.
For critical reasons that are not readily apparent, fourth-place ABC’s prime-time relaunch, which could involve as many as 10 new series next fall, represents more than all of the broadcast networks’ usual costly and inefficient season crapshoot. ABC is fighting for financial survival.
Although Disney quietly reforms its broadcast and cable infrastructure to improve cost efficiency, ABC’s network is mired in enough old ways to prevent its overcoming stiff economic challenges, some unique to its own lot.
You’d never know any of it from Disney’s quarterly earnings that bury ABC network, stations and individual cable network results in the Media Networks unit, which last quarter struggled to salvage its healthy 13 percent revenue growth from the war and sports-license-related losses that resulted in a steep 25 percent decline in operating income. Even with Disney and analysts’ previously lowering expectations, the company overall reported a steeper 12 percent decline in net income, an 8.6 percent decline in earnings before interest, taxes, depreciation and amortization and a 23 percent drop in earnings per share on an 8 percent rise in revenues for the fiscal second quarter reported May 1.
Wall Street sentiment is split.
CSFB analyst William Drewry noted the ABC network essentially has met its no-growth goal this season to stop the bleeding and predicts the network could see low double-digit upfront increases, or twice most estimates. However, ad expert Jack Myers predicts even if upfront broadcast network spending increases 6.7 percent to $8.75 billion, ABC’s share will decline 6.7 percent to $1.4 billion. Soundview Technology analyst Jordan Rohan questions how Disney’s stock continues to appreciate, “almost defying gravity,” as it continues to lower guidance and as the ABC Network “remains challenging.”
To its credit, the ABC TV Network this season has built Tuesday and Wednesday night program blocks and has kept advertising make-goods in check by meeting flat ratings guarantees made in last year’s upfront-a response to the onerous make-goods and free-falling ratings that contributed to a near record $600 million loss in the 2001-02 season. Analysts said ABC can cut those losses by half in fiscal 2003.
Even in an archaic prime-time television system that defies financial logic, it still only takes one hit series to reverse a network’s financial woes, as ABC learned in 1999-2000 with Who Wants to Be a Millionaire whenthe network failed to capitalize on its ratings and profit success by not building other hit series around the show.
Some bold reforms now being suggested could help, such as returning the last prime-time hour to affiliates and same-week multicasting of some hit series.
But even then, there are reasons ABC may never regain profitability and why a radically changing TV industry may not be able to financially support half the existing broadcast and cable networks.
Increasingly diffused ad dollars, spiraling program costs and broadcast audience erosion have precipitously reduced Big 4 network aggregate prime-time profits to about $600 million, according to Morgan Stanley analyst Richard Bilotti. NBC and CBS fight over it at the expense of ABC and FOX.
At ABC, dozens of its freshman series have failed at an average episode cost of $700,000 per half-hour and $1.4 million per hour. Weaker ratings have shrunk average ad revenues per spot by 2 percent following a 30 percent decline the season before. It halted its steady audience evaporation (27 percent lost in 2001-02 after an 11 percent decline in 2000-01), but grew its 18 to 49 demographic rating. And other economic concerns complicate its turnaround, Mr. Bilotti said.
* ABC may only ever be able to break even, since meteoric sports-rights fees have permanently eroded ESPN’s profit margins. New resistance to license fee rate hikes from combative cable operators lessen ESPN’s ability to offset ABC’s estimated $500 million in sports program losses through fiscal 2006.
* With its highest-rated shows also being the most expensive, ABC must improve ratings across its entire schedule for significant profit gains.
* It must achieve pricing power with multiple hits per night to enhance the profitability of its top shows.
* ABC needs four or five major hit series, with two or three of them concentrated on any single night, “to enhance profitability of its top shows by gaining pricing power with multiple hits per night,” Mr. Bilotti said.
* The network must curb an additional $90 million in annual production deficits from the two-thirds of its prime-time lineup produced by in-house Touchstone Television without sufficient hit series syndication offsets.
* Series replacement and abandonment costs will continue to climb, with ABC acquiring at least 150 hours of additional programming to back up the estimated 540 program hours it initially announces for a new fall season.
The attendant costs can be overwhelming for a network under extreme financial pressures as is ABC. Just look at the math. Mr. Bilotti estimates ABC’s total 18 or so new series in the 2002-03 season represented a cost of about $271 million, or 29 percent of its regular series total. Its replacement costs for 13 series canceled in the 2001-02 season was $238 million, or 27 percent of its regular series total. Its top five most profitable series only generated $259 million in aggregate profits. This season, ABC’s $1.7 billion estimated prime-time program costs (about $1 billion of it in regular series) was not offset by net revenues and stringent cost controls. Even a strong ABC showing in a robust upfront this spring won’t fully offset it, he said.
All told, such stark economic realities cast ABC’s best-intended recovery plan in a whole new light.