More Work Ahead for TW’s Parsons

Feb 9, 2004  •  Post A Comment

Time Warner Chairman and CEO Richard Parsons faces the challenge of beating his own best hand. In the past year he has taken the beleaguered company further down the road to recovery than anyone thought possible, and still Wall Street is demanding the sale or spinoff of its AOL unit and further morphing of its cable systems and program networks.
“We’ve gone from a crisis state to getting things in pretty good shape,” Mr. Parsons declares at investment banking conferences and in earnings calls, having met or exceeded all of his 2003 financial targets.
“Right now the company needs to be put back on the right track-and I think we are making progress there-and then to really build up a head of steam and momentum,” Mr. Parsons, 55, said in a recent interview with TelevisionWeek. “We have the best media and entertainment assets in the world, but they can still learn about how to complement each other.”
Though Wall Street gives Mr. Parsons high marks, he must wrestle with nagging questions about Time Warner’s future, such as whether the company will become a takeover target, especially if it spins off its cable systems and ailing AOL unit.
Time Warner executives privately concede that while another merger is not unthinkable down the road, it is not imminent. Time Warner now is fixed on growing its core businesses through acquisition, although determining where to invest may be a bit more challenging than disposing of assets, Mr. Parsons conceded. Having accomplished so many of the company’s goals last year, it is important that “we’re careful not to get ahead of ourselves,” he said.
Still, investors and analysts have left little doubt about their dissatisfaction with the unexpected fourth-quarter shortfalls at AOL and cable they consider to be a harbinger of things to come.
It may be that more permanently distancing itself from AOL and spinning off its cable systems into a public entity whose currency can be used to buy more systems are the only antidotes for a media giant still struggling with the baggage from what arguably was the most bungled merger in U.S. corporate history. It may be the only way Mr. Parsons ultimately can make good on his promise for Time Warner “to exit 2004 better than it entered it.”
In the past 18 months Time Warner has shed nearly $10 billion in debt, primarily through the sale of noncore assets; has steadied annual free cash flow at $3.3 billion; has made legal peace with Microsoft for $750 million in cash and a pledge to collaborate on a solution to intellectual property theft; and has taken its second-largest group of cable systems to a new level of interactive services and profits. Time Warner’s market value is now pushing $100 billion, though that still is far short of the company’s $250 billion AOL Time Warner pre-merger high.
However, perils abound, rooted in variables over which Time Warner, despite its best defenses, has no control.
The most formidable of those is the continuing probes of AOL accounting practices by the Securities and Exchange Commission and the Department of Justice. Those investigations could at the very least render monetary fines, which, when coupled with hefty settlements of more than 40 shareholder lawsuits, could deal a formidable financial hit to Time Warner’s rebounding bottom line.
“One of the reasons we wanted to get the balance sheet in stronger financial shape was then we can deal with whatever comes in the future,” Mr. Parsons said. “I feel we are now in a position that we’ve got the flexibility and the strength to deal with whatever comes down the line.”
The outcome of the probes is impossible to accurately plan for or predict. The investigations could center on a handful of relationships or transactions at AOL or extend to other company operations. They could result in a finding of no wrongdoing or in major violations and fines.
“We continue to cooperate with [the SEC], always with a view toward trying to bring this to a close as quickly as we can because we appreciate that this is an overhang on the company and on the management, and it fundamentally doesn’t relate to anything that is happening today,” Mr. Parsons said.
He recently warned investors that Time Warner’s filmed entertainment unit will not be able to match its record-setting television syndication sales and 2003 box office and DVD performances due to franchise films such as “Lord of the Rings.”
More challenging is AOL’s continuing loss of narrowband subscribers. The company was down another 2 million to 24 million in 2003 and is expected to plummet more than 10 percent in 2004 and begin jeopardizing its annual $1 billion-plus in free cash flow.
“We have some time and ability to try some things and see if they work,” Mr. Parsons said. “We’re reasonably confident that AOL will get back on the growth track and see double-digit growth. The question is whether that can be sustained.”
One thing the company is trying is increased promotion, led by an $8 million marketing splash during the recent Super Bowl telecast that included three 30-second spots and a halftime show sponsorship touting AOL’s new broadband and premium services. Of course, the value of that promotion was compromised by the storm of controversy that followed a flash of Janet Jackson’s bare breast as halftime ended.
AOL will continue to focus on increasing ad sales. The recent and abrupt move to have Mike Kelley, a conventional advertising veteran from Time Inc.’s print ranks, replace Lisa Brown as head of AOL’s advertising effort is designed to refocus the online unit on mending its ties with advertisers.
“We have been struggling to find the right formulation to roll out the advertising initiative at AOL. Mike’s approach will be much more conventional and advertiser-friendly,” Mr. Parsons said. “You will see a lot more packaging of online advertising as part of a larger sell as opposed to being out there on its own.”
Even as an acquirer, Time Warner is aggressive but deliberate and disciplined. Mr. Parsons dismissed speculation that Time Warner will sell AOL or acquire MGM. “I would not give too much credit to those rumors,” he said.
The expansion of Time Warner Cable’s 11 million-subscriber footprint through the acquisition of Cablevision Systems (easily cable’s longest-anticipated deal) and of bankrupt Adelphia Communications (when it emerges from Chapter 11 reorganization later this year) seem just a matter of time, analysts said.
High-Priced Subs
Cablevision’s controlling Dolan family has said for years it will sell at the right price, though the family insists that is about $6,000 per subscriber, nearly twice Time Warner’s $3,600-per-subscriber value as the second-largest cable provider.
The planned public spinoff of Time Warner Cable this year, triggered by Comcast Corp.’s insistence on selling its inherited 21 percent stake in its peer, may be just the catalyst needed for a Cablevision deal, according to a new report by Bernstein Research analyst Craig Moffett.
“A pre-IPO deal-very much on the model of Vivendi/NBC-would take the form of a swap of pre-IPO equity in Time Warner for Cablevision’s cable assets,” Mr. Moffett said. “Instead of agreeing on a price for Cablevision’s subscribers, the companies would only need to agree on a ratio. The proceeds from an IPO could then be used to acquire other assets, including systems from Adelphia.”
Cablevision could emerge from such a transaction with as much as a 30 percent stake in a Time Warner-controlled entity with 13.4 million subscribers, he said. Comcast’s stake could be diluted to 15 percent, with the difference made up by swapped cable systems.
Buying more cable systems and the 50 percent of Court TV it doesn’t already own are the only logical next acquisitions.
Much of Time Warner’s efforts this year will be concentrated on the rollout of its voice-over Internet protocol service as part of a more powerful bundle of cable services that will provide huge profits and competitive edge to satellite.
“We’ve got to get that right,” Mr. Parsons said. Advanced offerings such as D
VR-equipped set-top boxes this year and the much-ballyhooed Mystro software to manage film and video downloads in 2005 will continue to give Time Warner Cable the edge. “We’re believers in cable and we’ll continue to consolidate. We are acquirers at the right price,” he said.
But by overly emphasizing Time Warner’s renewed acquisition mode, Wall Street is underestimating what has been required to get the $100 billion enterprise back on track and its disparate and demoralized employees and operations collaborating again.
“We had to get people to hold their heads up and get back in the game and start focusing on their businesses,” Mr. Parsons said. He has even been able to keep Ted Turner, the company’s most disgruntled and outspoken shareholder, in his court.
“Ted is my man. From my perspective, the term that best describes his continuing role here is senior adviser. When you have an idea, and you ask him about it, he always gives it to you straight. He’s got a good gut,” Mr. Parsons said.
The result has been delivering nearly $7 billion in free cash or 40 percent of overall earnings while continuing to grow most core businesses at a double-digit clip. Last year Time Warner invested $3 billion in TV and film production, $1.5 billion in cable capital expenditures and $4 billion in programming development and investment in cable and AOL. “We know we have to keep investing in the future. But we also appreciate the free cash that we can invest in new opportunities or to reduce our debt also is a key to our future,” Mr. Parsons said.
Now Time Warner must unravel what remains of that convoluted joint venture in helping Comcast Corp. to monetize its 21 percent stake in Time Warner Cable, with or without a cable initial public offering this year. A lot will depend on whether the SEC signs off at this time on the cable spinoff and the public sale of Comcast’s stake even before it has completed its AOL Time Warner investigation and has rendered a judgment.
“Our obligation is to make the best efforts to get the Comcast shares registered for sale to the public. We have no financial obligation to buy Comcast’s stake,” Mr. Parsons said.
Comcast most likely would prefer a more tax-efficient way to monetize its stake, sources said. “There are lots of things we’re talking about, but each one is more complicated than the next,” he said.
Company Growing
Overall in 2003, Time Warner reported a 7 percent gain in earnings to $8.8 billion on a 6 percent gain in revenues to $40 billion, and $3.3 billion in free cash flow. The fact that it achieved all of its financial targets for the year was offset by steeper-than-expected declines in AOL’s subscriber base and an unexpected slowdown in its cable networks earnings.
The company’s 2004 guidance is for high-single-digit to low-double-digit growth in adjusted operating income before depreciation and amortization, 30 percent to 40 percent of which will continue to be converted into free cash flow. AOL is expected to post low-double-digit operating earnings growth to $1.5 billion in 2004, Time Warner said.
Wall Street has been endorsing the company’s progress with a steady string of guarded upgrades and boosted forecasts.
“There is still not insignificant risk to the investment case on intermediate to long-term growth, primarily in the AOL and cable divisions. But given that the company has a lot of restructuring and asset sales behind it, the profit growth rates should pick up in 2004 and that should be a stock catalyst in a year where economic growth (and advertising) continues to pick up and recover,” said William Drewry, analyst at Credit Suisse First Boston, in a client note upgrading Time Warner to “outperform” from “neutral” in what he concedes is more of a “short-term call” on the company.
Mr. Parsons contends the company has covered even its most formidable long-term issue, intellectual copyright protection, and said there is “no silver bullet answer.”
“That’s one of the reasons we did this deal with Microsoft,” he said. “It wasn’t just the money. They are a major key in creating a digital rights paradigm, so you can control digital rights content by encryption and operating systems, so you can control what consumers can replay. If you can create the right leasing mechanism, you can do an awful lot to knock down piracy.”
The TiVo-like functionality built into the next-generation Time Warner Cable set-top boxes does not allow for flagrant ad skipping or the single-keystroke transmission of content over the Internet.
Media’s brave new world also is being reshaped by other media powers, growing in stature and influence and sometimes matching and challenging Time Warner’s own strength.
That pack is led by News Corp. and its chairman Rupert Murdoch, whose recent acquisition of a controlling 35 percent stake in DirecTV puts its Fox subsidiary in direct competition with Time Warner Cable for digital customers. Mr. Parsons said Mr. Murdoch simply is taking his cues from Time Warner’s visionary former chairmen Gerald Levin and the late Steve Ross.
“He’s building an integrated distribution and content company. His play for content is the satellite platform. It’s essentially the same theory as animates Time Warner,” Mr. Parsons said.
“We’ve got everything he’s got in terms of assets and platforms, and probably higher-quality ones. He’s a good competitor. But Rupert-who is my good friend, I think the world of the guy-still has got public shareholders to consider,” Mr. Parsons said. The one place I think where his genius is is that he does see the whole world as the game board.”