News came out in October that the Industry Minister of Canada, James Moore, is pushing for legislation to force programmers to offer channels à la carte in Canada. This comes up periodically in the U.S., and most studies have shown it's simply not a feasible option for a number of reasons.
First, minority networks would never get off the ground. Although initially BET and other minority-owned channels were embraced by multichannel operators, in recent years tight channel capacity has made it extremely difficult for any independent network to get meaningful carriage.
It took an FCC initiative that required setting aside channel capacity for independently owned minority networks in order for Comcast Corp. to complete its acquisition of NBCUniversal Media LLC. This helped get recent launches like ASPiRE and Revolt off to a decent start. Without government backing, it would likely take hundreds of millions of dollars in start-up costs for them to reach breakeven, and in an à la carte world it's unlikely they could survive in a consumer-driven "free market." Furthermore, even established minority networks would wane and could even collapse. BET is now in 91.9 million homes and TV One in 58.7 million. How many people would have sampled these and subscribed on a stand-alone basis if they weren't bundled?
It's not just minority networks that would suffer. Take a major media conglomerate like Viacom Inc., for example. The majority of its networks would be in jeopardy. In an à la carte model, MTV Jams, VH1 Classic, CMT Pure Country,LOGO, Palladia and similar small, niche networks would be unlikely to survive. Like BET and TV One, they benefit from bundling. Operators want big networks like Spike TV and MTV, and are forced to carry others.
How viewers find, select and watch television is changing. Given the prevalence of DVR usage, many viewers don't know which popular shows are on which channels. Channel surfing is going away, and sampling new networks has also greatly declined. Few viewers would sample and embrace a new network under an à la carte scheme, which would require people to choose whether they wanted to pay for unfamiliar channels.
From the consumer side, it's possible that only a small portion of the multichannel world would subscribe to even the most popular channels like ESPN, because of price. Even fully distributed, the channel costs $5.54 per sub per month, and that only includes the mothership. Adding in ESPN2, ESPNews, ESPNU and ESPN Classic, the license fee is $6.86 (see table below). The table below shows our five-year projections for the ESPN networks' license fee in the current pay TV model.
If à la carte came to the U.S., these numbers would shoot through the roof. ESPN would lose a large portion of its subscribers and would be left with two choices: cut programming expenses or jack up the license fee. We believe ESPN would choose the latter. First, the route of significantly shedding programming is unrealistic, with ESPN already locked in to long-term programming deals. Second, doing so would be impractical and potentially destructive, even if it could. The market for live sports rights has never been stronger, both in value and competition. Trimming ESPN's portfolio of live sports would dry up its deepest revenue stream and open the door for other networks to take over. As an all-sports network and the "worldwide leader in sports," we think ESPN would aim to maintain its bottom line via license-fee hikes.
If even half of Americans were willing to subscribe to ESPN à la carte (survey data has historically shown that this number would actually be much lower) the license fee would more than double.
We conducted a sensitivity analysis to show what ESPN's retail license fee could be if à la carte legislation were passed in the United States. Our analysis assumes that ESPN would lose a significant chunk of its subscribers, so we ran three different scenarios based on percentage of subscribers retained (30%, 40% and 50%), modeled in comparison to our 2015 projection of ESPN economics.
To come up with projected gross ad revenue, we first had to adjust the TV household delivery. The loss of subscribers would cause TV household delivery to decline, although we did not drop this metric significantly as this analysis assumes costs would not be cut dramatically and core viewers would buy the channel à la carte. In the model, we assume ESPN would only lose between 10% and 15% of its viewers. With viewership projected to remain strong, we kept the CPM high at $20.
In addition, our analysis assumes other revenue would remain constant, with costs trimmed marginally. Finally, cash flow remains constant to give an apples-to-apples comparison with our 2015 projection.
The results of the analysis described are shown in the table above. The data reveals that even in our best-case scenario (ESPN retains 51 million subscribers), its retail license fee would be more than 2.5x what it is projected to be in 2015 (assuming a 30% mark-up by the operator), at $16.88 per subscriber per month. If ESPN only retained 30% of its subscribers, the retail price point would be $27.19. At 40% of its subscribers, the channel would cost $20.74. This exercise shows how quickly à la carte channel charges would add up to nearly what the average customer pays for a full slate of channels in the current pay TV model. Even middle-of-the-road channels might wind up with retail price points of $10 per sub per month or so, depending on take-rate assumptions.
The same arguments over à la carte TV have been going on for ages, and although it seems like a good concept from a consumer point of view, we don't see how it would ever work. Multichannel operators' video margins are plummeting in large part due to the rising costs of sports channels. Further margin erosion due to à la carte would be untenable.
License fees are already high, and this year we have seen a number of carriage battles in large part due to rate hikes — some in the double-digits, and others in the high single-digits. As stated above, consumer viewing habits are shifting as a result of widespread DVR use, and operators are hamstrung by the ever-increasing costs to carry sports channels. While troublesome for operators, sports networks are flourishing. Live sports programming has managed to stay virtually DVR-proof. It is estimated that more than 95% of sports are watched live. As a result, networks with live sports rights are able to command huge license fees.
Our analysis in the table below shows that four of the top 10 networks with the highest license fees per subscriber are sports-affiliated. Three of them (ESPN, NFL Network and ESPN2) are all-sports networks, and the other, TNT, holds costly NBA, MLB and NCAA March Madness rights. Two of the top three were 3D networks, with 3net at $1.29 per sub, and ESPN 3D (no longer in operation) at $2.71 per sub.
With the exception of the 3D networks and NFL Network, the rest of the above top 10 are essentially fully distributed, each in the ballpark of 100 million subs and accounting for colossal license fee revenue. The table below shows the top 20 networks by total license fee revenue in 2012. The top networks in this list are similar, logically, to our above study of the top networks by license fee per subscriber; however, we expanded our analysis in this study to 20 networks to show the disparity between even the top revenue-generating networks. Four networks cracked the $1 billion mark, while nine came in below $500 million.
Overall, we expect little change in standing among these networks in our five-year projections for total license fee revenue. The only network expected to see significant movement in the top 20 is NFL Network. Currently the network is ranked tenth in our top 20 list; we project it will jump up to fourth by 2017, with total license fee revenue estimated to reach $1.41 billion.
Shifting our attention to the bottom 10 analysis of license fee revenue per subscriber, we find networks that would likely be casualties of an à la carte model. Most subscribers only receive these networks because the networks are bundled with larger ones. The networks with the smallest license fees may have a fair number of subscribers, but a better indicator of value is what operators are willing to pay to carry the channels. For instance, we estimate MTV Hits had 39.2 million subscribers by year-end 2012. It's hard to believe that would be the case in an à la carte model, given that operators are only willing to pay $0.02 per month per subscriber for the network.
The network that we are most optimistic about among the bottom 10 is OWN: Oprah Winfrey Network. Its April 2012 carriage deal with Comcast, the nation's largest cable operator, includes a subscriber fee agreement that started in January 2013. We expect OWN to elevate itself from this list in next year's analysis, even though the network had only an estimated $0.01 license fee in 2012.
With many major sports rights deals starting in 2014 and 2015, license fees for sports-affiliated networks are going nowhere but up. SNL Kagan estimates the weighted average for sports-affiliated network license fees will rise at a 6.9% compound annual growth rate between 2013 and 2017. (Only networks that broadcast major live sporting events were used in this analysis. Networks such as ESPNews, ESPN Classic, etc., were not included. Pac 12 Network was left out because it doesn't charge a license fee for its national feed.) ESPN, TNT and NFL Network are expected to remain in the top three. We also project that FOX Sports 1 will make the biggest jump out of all of the sports-affiliated networks. FS1 is apt to secure lucrative sports rights in the next few years, enabling the self-proclaimed ESPN competitor to jack up its license fee from an estimated $0.38 in 2013 to $1.37 in 2017, representing a 38% CAGR.
Taking sports-affiliated networks out of the equation, we project the cablenet weighted average license fee CAGR will be 4.1% between 2013 and 2017, up to $0.22 per sub. As the graphic below illustrates, this gain represents a much slower pace than projected for networks with sports rights.
The tables below show the relationship between license fee revenue and total net revenue for the cable sports nets and selected non-sports nets. We chose to look at our 2015 projections because most of the new sports rights deals start in either 2014 or 2015. The data reveals that license fee revenue makes up a radically larger portion of sports-affiliated networks' total revenue than non-sports-affiliated networks'. In general, non-sports nets have less of a difference between ad revenue and license fee revenue, and in many cases ad revenue is a higher percentage of total revenue than license fee revenue. For sports nets, license fee revenue trumps ad revenue in all cases except TBS. NFL Network's license fee revenue makes up a staggering 81.5% of total net revenue. Furthermore, six of the cable sports networks receive more than three-quarters of their total revenue from license fees. None of the non-sports networks come close to that. The highest is CNN at 63.4%.
Our research also includes a 10-year CAGR for network affiliate revenue per subscriber, highlighting the top and bottom 10 networks. Sports networks have dominated our other highlighted studies, but NFL Network is the only one to appear in our top 10 list. The biggest gains came from emerging networks. Other than NFL Network, FOX News was the only other major network to appear on this list.
Although the leading networks display extreme growth percentages, the license fees are still minimal. Eight of the 10 networks had a license fee of less than $0.05 in 2003. The cable network weighted average in 2012 was $0.27. RFD-TV, the network with the highest CAGR, started with no license fee in 2003 and grew to $0.03 in 2012.
On the flipside, six of the bottom 10 networks in this analysis had a higher-than-average license fee per subscriber in 2003. As the table below shows, AXS TVrepresents the biggest decline during our 10-year study period with a negative 16.9% CAGR, down from $0.74 in 2003 to $0.14 in 2012.
On the macro level, cable network affiliate revenue per subscriber has increased during our 10-year study period, at a CAGR of 3.1%. Looking ahead, we expect growth to pick up in the next five years. SNL Kagan's five-year outlook estimates that cable network license fee per subscriber will increase at a 5.6% CAGR, up to $0.35 by 2017. Although our projections are optimistic (see graphic below), we don't expect license fees to escalate without some friction.
We anticipate a string of carriage battles on the horizon as networks are trying to increase license fees for costly sports rights and to account for TV Everywhere viewing. Currently, DISH Network Corp. and Walt Disney Co. are working on a deal covering carriage of ESPN and other networks, but a permanent agreement has been elusive. So far a blackout has been avoided, although that option is not off the table. DISH has threatened to permanently drop all of the Walt Disney Co. networks, and has even intimated that it could succeed without carrying any sports. Similar spats are likely to occur going forward; however, we believe the industry is still better positioned than it would be under the alternative à la carte model.
In the tables in the attached spreadsheet, we provide a 10-year history of cable net monthly license fee revenue per subscriber as listed by 2012 average and alphabetical by network. At year-end 2012, the weighted average license fee revenue per sub was up 3.6% from 2011.
No comments:
Post a Comment