Bright Future for Affils

Mar 6, 2006  •  Post A Comment

What’s at stake in the scramble for network affiliations in the wake of the merger creating The CW Network, and more recently News Corp.’s new creation, My Network TV?

Kagan Research believes the developments are positive for the TV station business, creating stronger stations than had existed under the old UPN and WB models. Those stations gaining CW affiliations in medium and major markets could see revenues rise 5 percent to 8 percent due to higher ratings and ad rates compared with their former operations. Stations that go with My TV will get less-proven prime-time programming but more ad inventory to sell, no requirement to pay reverse compensation and the benefit of an innovative, fresh approach to programming. The launch of the two networks heightens the importance of the local affiliate at a time when investors are questioning the broadcast television model.

“For the new CW stations, the potential revenue increase is a significant figure because much of this will flow to the bottom line as profit,” said Kagan Research Senior Analyst Robin Flynn. “Program costs and most overhead costs are already covered. Assessing the impact on profitability is more difficult because that will vary greatly by the competitive dynamic in each market and the amount of reverse comp that will be paid.”

The halo effect from a CW affiliation will be greatest for TV stations with strong local news. The CW’s prime-time programming is expected to deliver larger lead-in audiences to local news, for which stations collect all the ad revenue. Ms. Flynn noted that the revenue premium from The CW could be felt as a subtraction elsewhere in the same market because some former UPN and WB stations were in danger of experiencing low-single-digit percentage declines in revenue without affiliation.

The CW benefits from cherry-picking the best programs from both UPN and The WB. My TV-which is banking on affiliating with former UPN and WB stations-starts with a clean slate and no built-in audiences. “Obviously, as hits emerge on CW and My Network, it would significantly impact network revenue and, to a lesser extent, station revenue,” Ms. Flynn said.

The network affiliation shuffle is yet another indication that the TV station business is no longer built on a solid foundation of long-term affiliations and expectations that ad revenue will increase every year.

Kagan estimates total local station revenue fell about 8 percent last year, will slip about a half of 1 percent in 2007 and decline 2.5 percent in 2009, as the accompanying chart indicates.

“Those are odd years between the election-year/Olympics advertising booms, of course,” noted Ms. Flynn. “In past decades, TV ad revenue simply showed low growth in those odd years. The good news is that going forward the increases in even years will more than offset declines in the negative odd years. So local stations in aggregate are looking at 2.5 percent compound annual growth rates in advertising over the next 10 years.”

Another piece of good news is that for this year-an election year-Kagan forecasts total TV station revenue will climb a healthy 7 percent.

The station ad revenue figures are the sum of local and national spot advertising plus network compensation. By far the smallest of the three categories, network compensation accounted for just 1.4 percent of the $21.5 billion in local station revenues last year, Kagan estimates. By 2010, the end of the forecast period, network comp is expected to account for a 0.3 percent sliver of local station ad revenue.

Expect network compensation and reverse compensation-stations paying networks and not the other way around-to be the object of bare-knuckle bargaining. In a Feb. 15 conference call with investors, LIN TV Chief Financial Officer Vincent Sadusky drew a line in the sand responding to reports that The CW expects reverse compensation. Sadusky noted LIN already programs 22 out of 24 hours where it gets four to five times the number of commercial availabilities to sell. “Even if we get only half of the ratings, it is far from a negative scenario” given the greater number of spots, he concluded.

Advertising and the dwindling affiliate compensation are traditional revenue streams. While the TV stations business is more mercurial, it is also developing three new revenue generators: Internet advertising on station-run Web sites; new digital terrestrial TV services such as multiplex channels; and retransmission fees paid by cable, satellite and telco platforms.

“The investment community is watching closely how TV stations will execute given there are costs associated with Web sites and new [digital] channels,” Ms. Flynn said. “Wall Street is looking for indicators that TV stations will be players in the digital arena.”

Some hopeful signs are evident as Hearst-Argyle told Wall Street it expects to generate $16 million to $18 million in digital net revenue in 2006 compared with just $300,000 in 2005. LIN said its Web ad revenue is cash flow-positive, though lower margin than analog broadcast ad revenue because the Web incurs start-up costs. Ms. Flynn said network TV series downloads are gaining popularity, and so local programming such as news should be able to cash in on downloads in the years ahead.

Perhaps the biggest wild card in the near future is whether My TV can make good on its promise to tweak the revenue and audience model, funneling more value to TV stations. News Corp. is clearly banking on synergies with MySpace.com-the social-interaction Web site it acquired for $580 million last summer that has over 50 million registered users-to cross-pollinate TV stations. Of course, News Corp. will have Fox Broadcasting stations lining up for cross-promotions as well.

Kagan Insights is free with sign-up at kagan.com. The 23rd Annual Kagan Radio/TV Values & Finance Summit is scheduled for March 23 at the Grand Hyatt New York.