Cable Operators

Cable Fuels Viacom, Time Warner

8/03/2007 8:00 PM Eastern

Viacom reported stronger-than-expected results last week, fueled by what they said was a strong cable upfront, in marked contrast to its chief programming rival, Time Warner Inc.

Viacom ended the second quarter with revenue up 13% to $3.2 billion, while operating income rose 6% to $702 million. Driving that growth was the Media Networks division, which includes MTV Networks and BET Networks, with a 10% revenue increase to $1.9 billion and a 3% gain in operating income to $734 million.

Total advertising revenue rose 6% in the quarter to $1.15 billion, with domestic ad sales increasing about 4%.

On a conference call with analysts Aug. 2, Viacom CEO Philippe Dauman said the cable upfront market is shaping up to be particularly strong — he said pricing increases in the adult upfront were in the low double-digits and the total dollar value was slightly higher than last year. But it could have been even higher.

“We deliberately turned away business because of the strong scatter pricing that we see ahead,” Dauman said.

Bear Stearns media analyst Spencer Wang was most encouraged by the advertising growth, which he said in a research note came despite fears of flat ratings growth at its cable networks.

“We think this confirms our thesis that ad revenues will prove more durable than ratings and that the scatter market remains quite healthy, which, along with sub growth, will mitigate the impact of recent ratings weakness,” Wang wrote.

Dauman added that fears that the kids upfront would be weak were unwarranted. Although the kids upfront isn’t over yet, Viacom projects a double-digit increase in overall dollar volume, Dauman said.

“This performance reflects the fact that we have some of the most desirable audiences for advertisers,” Dauman said on the call.

2Q07 2Q06 % Change
Viacom
Revenue $3.2 billion $2.8 billion 14%
Operating Income $702 million $661.6 million 6%
Time Warner
Revenue $11 billion $10.4 billion 6%
Operating Income $1.94 billion $1.73 billion 12%
Time Warner Cable Networks
Revenue $2.601 billion $2.625 billion -0.9%
Operating Income $634 million $611 million 3.8%

WEAK SPOT: KIDS

Time Warner had a different outlook for the upfront. While management claimed that its Turner networks — TNT and TBS — were posting strong ratings and expecting high single-digit to low double-digit increases over last year — they didn’t have the same optimism for their kids’ networks.

“The one weaker spot in the upfront, is the kids’ upfront which is pacing lower than the prior year and as a result Cartoon Network will be the only Turner network that won’t show improvement over the prior year,” Time Warner chief operating officer Jeff Bewkes said on a conference call with analysts last Wednesday.

While Time Warner appeared to report stronger results than Viacom, that was mainly due to the strength of its cable-system operations (see page 3). Revenue at Time Warner was up 6% to $11 billion and operating income rose 12% to $1.9 billion. But backing out cable systems revenue and operating income, the results were much weaker — revenue would have decreased by 11.5% to $6.94 billion and operating income would have been up just 3.2% to $1.225 billion.

At the cable networks — including Turner Broadcasting System, CNN, HBO and TNT — revenue was down slightly to $2.601 billion from $2.625 billion in 2006 and operating income rose 3.8% to $634 million from $611 million. Operating income before depreciation and amortization — OIBDA, a measure of cash flow — was up 9.5% at the networks, but that was mainly due a big decrease in programming costs, primarily due to the shutdown of its The WB broadcast TV network. Excluding the benefits of the The WB’s shutdown, OIBDA for the cable networks would have actually decreased by about 2.5% in the quarter.

Despite that performance, Time Warner management tried to put a happy face on the quarter. “Time Warner delivered solid operating results,” Time Warner chairman and CEO Richard Parsons said on the call. Parsons pointed to the company’s 20% OIBDA growth in the quarter. But that increase would have been just 1.5% without the contribution from the cable systems.

ANALYST SHOCKED

Pali Capital media analyst Richard Greenfield did not hide his displeasure with the media giant’s performance, and took management to task for their upbeat tone during the conference call in a research note last week.

“We were literally shocked at how positive management of Time Warner sounded on its second quarter conference call, after seriously underwhelming results,” Greenfield wrote.

Investors appeared to agree, driving down Time Warner shares by about 3% (62 cents per share) to $18.64 each on Aug. 1. The stock rebounded slightly to $18.90 on Aug. 2.

Viacom shares were up by 39 cents to $38.39 on Aug. 2 after their earnings call.

Granted, there are other issues besides programming networks that are weighing down Time Warner stock, mainly the performance at its AOL online unit. Investors were disappointed that AOL reported a slowdown in advertising revenue – it increased 16% in the quarter, compared to a 40% increase in the first quarter.

Other analysts weren’t as appalled as Greenfield, but most did express disappointment in its quarterly performance.

Wang said that while the quarter was mixed, he believes that the problems — mainly with AOL — can be corrected.

“We believe the issues are fixable, and it is the proper long-term decision to grow AOL’s ad business,” Wang wrote.

March