Copy

Eric Jackson's Newsletter

August 4, 2015
 
Short ESPN II: The Cable Bundle Tries To Strike Back - But Fails

Back on July 17th, in the 7th issue of this newsletter, I wrote a post titled "Short ESPN."

My argument then was as follows:

- Disney is sacking talent at ESPN because it's worried about top-line revenues and not just costs
- They've signed a number of long-term TV rights deals because they want to keep having a reason for people to tune in but those deals put them on the hook to pay a lot of money over the next decade and they'd better keep getting the sub and ad revenues to pay for it
- Over-The-Top isn't a theoretical discussion any more. Winter is here and it's real for Disney. If their sub base contracts, they're in the hurt locker.
- ESPN is a short.

Since I penned that piece, I've read other compelling views on the general idea that ESPN is doomed. Probably the best one is here from FoxSports.com (I know, I know... you're thinking they're biased but a blogger there wrote the piece and not their General Counsel or PR department).

This argument is a more compelling one than mine was. To them, ESPN is doomed because:

- America's greatest act of European socialism (the cable bundle) is coming to an end thanks to OTT cord-cutters
- Since ESPN gets the most money per sub in affiliate revenues than any other cable channel ($6.61 per sub according to SNL Kagan - and that's only the core channel not all the offshoots), it has the most to lose if people drop their bundles
- People ARE dropping their bundles; in the last 4 years (per WSJ), ESPN lost 7 million subs; that's not a huge loss but 3 of those 7 million lost were in the last year
- Presumably they are dropping the bundles for other OTT offerings - especially the under 30 demo
- What happens if the subs keep contracting?
- ESPN is on the hook for $6 billion a year in rights fees for the foreseeable future; you're going to have to fire a lot of Bill Simmons to make up the difference
- ESPN (but what they mean is all cable channels supported by the cable bundle) is a bubble which is about to pop

Today, Disney reported their latest earnings. They were disappointing. The stock dropped 6% from all-time highs after hours.

The earnings release and the subsequent call were dominated by questions about ESPN and their subs.

Here's a quick summary of concerns:

- First, as Rich Greenfield of BTIG pointed out tonight, ESPN accounts for about 1/2 of Disney's operating income. But it dropped from 51% to 46% in the first 9 months of 2014 to 2015. If the big cable bundle goes, so does Disney
- They took down their expected sub growth for ESPN from high single digits to mid single digits moving forward
- Ad revenue dropped in the quarter at ESPN 3% compared to the prior year
- Their ESPN affiliate ad revenue was up in the quarter but primarily because they started collecting toll fees from cable companies who decided to carry the SEC Network. But note in their release they say that this rise in fees was "partially offset by a decline in subscribers at certain of our networks."  I wonder what "certain of our networks" they could be referring to?
- Bob Iger basically came right out off the bat on the earnings call and discussed the elephant in the room:

"Before Tom takes you through the highlights of our businesses, I'd like to address an issue that has been receiving a fair amount of interest and attention these days and that's the rapidly changing media landscape especially as it relates to ESPN. We are realists about the business and about the impact technology has had on how product is distributed, marketed and consumed. We are also quite mindful of potential trends among younger audiences, in particular many of whom consume television in very different ways than the generations before them. Economics have also played a part in change and both cost and value are under a consumer microscope. All of this has and will continue to put pressure on the multichannel ecosystem, which has seen a decline in overall households as well as growth in so-called skinny or cable light packages.

ESPN's experienced some modest sub losses although those have been less than reported by one of the prominent research firms and the vast majority of them, 80%, were due to decreases in multichannel households with only a small percentage due to skinny packages. Overall though we believe the expanded basic package will remain the dominant package of choice for some years to come, because to the quality and variety it represents for a price that is generally considered fair and appropriate. We also see the continued development of new platforms with smaller channel offerings, which we see as a positive trend for us, since ESPN is a must-have brand as part of the initial service offering for these new packages.

Now we all know why this is, ESPN is the number one brand in sports media and one of the most valuable brands in all sports and among the most popular, respected and valuable brands in media, by consumers, advertisers and distributors. This is supported by the fact that in the first calendar quarter of this year alone, 83% of all multichannel households turn to ESPN at some point. ESPN is the most significant collection of sports program packages in the industry, and as license agreements for these sports typically run into the next decade, including the NFL, the NBA and Major League Baseball. It's coverage of college sports is unparalleled, particularly football and basketball and the first year of the college football playoff and national championship was an enormous success.

ESPN's rights to this fantastic package have 11 years to run. Now we all know how valuable live programming has become and ESPN is the leader in live programming. 96% of all sports programming is watched live and this is particularly valuable in today's rapidly changing advertising marketplace. This year's Upfront provided ample proof. ESPN enjoyed both increased demand and sell-through rates as well as pricing increases.

ESPN's embraced technology better than anyone in traditional media reaching its fans and engaging with them in more meaningful ways online and on mobile devices with its linear channels as well as with an array of additional programming, sports information, commentary conversation and very rich social media features. All of this adds up to a very strong hand and gives us enormous confidence in ESPN's future no matter how technology disrupts the media business."

Methinks the lady doth protest too much.

Sometimes, it's not what a CEO says but what he or she doesn't say.

Iger - one of the most bullet-proof CEOs out there at the moment leading Disney to being a $200 billion company for the first time ever - is basically saying:

"Don't worry about OTT and other threats to the bundle because people love our programming and we just locked that programming up for a decade. We'll make that programming available in whatever digital format presents itself."

But what if OTT and any new digital format is one-tenth as profitable as the Euro-socialist cable bundle? If you trade analog dollars for digital dimes, how do you wave your hands and change basic economics?

The analysts knew what was what though and kept hammering Iger on how he would prop up the bundle. At one point, Iger gave a very long soliloquy about how everything was awesome and Netflix was their friend, not a foe for unlocking Pandora's Box:
 

"So we look at Netflix actually right now as more friend than foe because they have become an aggressive customer of ours. I also think that products like Netflix are pretty attractive because they offer a very user-friendly, efficient and often times much less expensive way for people to watch television. I am going to say one more thing, I realize I am getting wordy, but the average American is watching about 5.5 hours of TV a day and we see that going up to about 6 hours. The reason they're watching 5.5 hours of TV a day is because of just what I just described as huge value in the multichannel product for customers and its popular and the reason we believe it's going to increase from 5.5 hours to 6 hours is because of the advent of new technology driven platforms, whether they are over-the-top, whether it's SVOD, whether it's new smaller services.

So it's a long over that way around my saying that we actually believe that with Disney, ABC, ESPN, our products we are really well-positioned. We've been among the first if not the first to offer our products on new platforms even if it's somewhat disruptive, we still believe in the expanded basic service for years to come but we are going to take advantage of opportunities. It's just hard to say when something either feels too disruptive too fast or not but when we see it, we will tell you about it."

It's all good. When the zombie apocalypse comes, our daughters will be watching Teen Beach 2, our sons will be watching Jessie, and Dad will be watching football.

When a company goes out of its way to communicate how some big immovable object is not a problem, it's a problem.

The cable bundle crunch isn't coming. It's here. Can we get some of the money back that we sunk into the new studios for SportsCenter?

Let's talk about Star Wars. Let's talk about Shanghai Disney. Let's just not talk about the part of the company responsible for half our profits which is at risk.

Watch for other cable players with similar affiliate sub fee revenue cash cows now at risk to show weakness tomorrow on the backs of this report.

The cable bundle revolution will be televised - over the top.

Two New Podcasts Recorded Yesterday:
Subscribe on iTunes or Follow on Soundcloud

Episode 14 - Victor Anthony on Internet Tech Earnings and the Potential of Tinder

I talked to Axion analyst Victor Anthony about all the recent Internet Tech companies' earnings. Who were the winners and losers among Google, LinkedIn, Amazon, Yahoo, Facebook, Pandora, Twitter, Yelp, and InterActive? We also discuss the potential for Tinder as a business and as an engine within IACI and where that stock might go in the next few years.

Episode 13 - Greg Zuckerman on Frackers, John Paulson, and the Hedge Fund Industry

For my money, Greg's the best writer at the WSJ. He's been writing about the hedge fund industry for almost 20 years. I asked him about where it's going. He also talks about his two recent business best-sellers on fracking and John Paulson.

Episode 12 - Brad Silverberg on Microsoft, Bill Gates, Steve Ballmer, and what makes a great team

Brad led the Windows 95 team at Microsoft which is now 20 years old. He's been a VC for the last 15 years. I asked him about Microsoft, Gates and Ballmer. You should hear him describe working for Bill Gates. The person who most reminds him of Gates today is Elon Musk.

Episode 11 - Mike Dauber on Venture and Enterprise Investing: Finding the next Cisco or IBM

Mike's an enterprise guy and has been a VC in the space since 08 - first at Battery and now on his own at Amplify. This is a great discussion of what's going on right now in enterprise. Mike thinks it's all up for grabs and the big traditional tech guys like IBM and Cisco are under assault.

Episode 10  - James Altucher on Jim Cramer, Larry Kudlow, and Choosing Yourself

When I first met James, I knew him as a financial guru at TheStreet.com and CNBC. He's now a much more famous self-help guy. He's also super-generous and helpful. I think you'll really enjoy this chat. His writings have helped me enormously over the last couple of years.

Episode 9 - Tim Bontemps on NBA TV Money, Twitter, and Bill Simmons

Before I went on a Twitter hiatus, I made friends with Tim Bontemps who's the beat writer for the Brooklyn Nets at the New York Post. I love basketball but I asked him to come on to discuss what's going on from a business perspective with the NBA and whether the Nets will sell. I also asked how Simmons will do at HBO.
Share
Tweet
Forward
+1
Read Later
Share
Facebook
Facebook
Twitter
Twitter
Those reading this email for the first time can sign up for the newsletter here
Copyright © 2015, Eric Jackson, All rights reserved.