Fox Corp

NASDAQ:FOXA

Earnings Call Transcript 2018-Q3

[Operator]

Ladies and gentlemen, thank you for standing by and welcome to the Twenty-First Century Fox Third Quarter 2018 Earnings Call. At this time, all lines are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions] And as a reminder, this conference is being recorded.

I would now like to turn the conference over to our host, Mr. Reed Nolte, Executive Vice President, Investor Relations.

[Reed Nolte, Executive Vice President, Investor Relations]

Thank you very much, operator. Hello, everyone, and welcome to our Third Quarter Fiscal 2018 Earnings Conference Call. On the call today are Lachlan Murdoch, Executive Chairman; James Murdoch, Chief Executive Officer; and John Nallen, our Chief Financial Officer. First, we’ll give some prepared remarks on the most recent quarter and then we’ll be happy to take questions from the investment community.

This call may include certain forward-looking information with respect to Twenty-First Century Fox’s business and strategy. Actual results could differ materially from what is said. The company’s Form 10-Q for the three months ended March 31, 2018 identifies risks and uncertainties that could cause actual results to differ, and these statements are qualified by the cautionary statements contained in such filings.

Please note that certain financial measures used in this call such as segment operating income before depreciation and amortization, often referred to as EBITDA, and adjusted earnings per share are expressed on a non-GAAP basis. The GAAP to non-GAAP reconciliation of these non-GAAP measures is included in our earnings release and our 10-Q filing.

And with that, I’m pleased to turn it over to Lachlan.

[Lachlan Murdoch, Executive Chairman]

Thanks, Reed, and good afternoon, everyone. Thanks for joining us today. Before giving comments on the quarter’s results, I’ll take just a minute to provide an update on the two transactions we announced at the end of 2017. But first, we want to note recent press reports about the potential of a further offer for our businesses. Consistent with past practice, we are not going to comment on market speculation.

And regarding our agreement with Disney, we jointly filed a preliminary proxy three weeks ago. It is a detailed filing that should answer any questions people have about this transaction. Once finalized and cleared by the SEC, we anticipate being in a position this summer to request shareholder approval for both the merger with Disney and the creation of New Fox.

Planning for New Fox is well underway and we’ll keep you posted on our progress, including announcements on the new company’s leadership team and organizational structure. In the meantime, we are making strategic investments such as the addition of key sports markets through our acquisition of 7 Sinclair stations announced this morning and our deal with the NFL for Thursday Night Football that will deliver New Fox the very best content available.

Now let me provide some highlights on the company’s performance this past quarter. A couple of things really stand out. First and foremost, the earnings power of our Cable Networks. This segment delivered 16% growth and its highest EBITDA quarter ever. While John will provide more detail from the financials, much of this strength was driven by continued double-digit affiliate revenue growth at both our domestic and international channels businesses. This growth reflects the strength of our video brands to distributors and audiences. Cumulative domestic subscribers grew year-over-year, driven by subscriber gains at our younger channels as well as the continued ramp in new virtual MVPD subscriptions.

We saw continued strength in sports and news, demonstrating the competitive advantage of our outstanding brands and content that are primarily viewed live. The Fox News Channel achieved its highest quarterly EBITDA in its history. Its younger sibling, Fox Business Network, beat its competition in viewership for the sixth consecutive quarter.

Our domestic cable sports networks were also major drivers of profitability with our local RSN and national sports networks, FOX Sports 1 and FOX Sports 2, generating double-digit earnings growth. The RSN saw higher viewership this past NBA season and ratings for the new Major League Baseball season are up as well.

We also delivered creatively, generating long-term value to the standout entertainment content we produce and monetize. At our Broadcast Network, new hits, 911 and The Resident; and strong returning shows, Empire and STAR, drove growth in season-to-date total audience over a year ago. This coming Monday, we will announce next season’s schedule at our upfront presentation and we could be not more excited by the lineup.

At FX, we had a successful run with the second installment of the American Crime Story saga, The Assassination Of Gianni Versace, and the current seasons of Atlanta and the final installment of The Americans are each performing well.

Our film studio had a great setup for the quarter with holiday releases that continued to deliver at the box office supported by industry-leading awards recognition. These include The Greatest Showman; Three Billboards; and the Oscar Best Picture winner, The Shape of Water. The home entertainment release of these films, along with the theatrical release of Deadpool 2 next week, should propel a strong film fourth fiscal quarter.

Ultimately, it is our consistent long-term investment in creative content that has propelled this company and made it unique. This quarter’s results demonstrate the success of that strategy and its ability to continue to create growth and value accretion for shareholders. John?

[John Nallen, Chief Financial Officer]

Thanks, Lachlan, and good afternoon. At the start, I’ll remind you that this quarter, we’re comping against our broadcast of the Super Bowl a year ago, which contributed about $425 million of net revenues and approximately $100 million of EBITDA in our Television segment. That said, the current underlying trends across our businesses reflect good progress toward our financial goals as reflected in this quarter’s results.

So for this third quarter, total company revenues were $7.4 billion, down $144 million compared to a year ago. Ex the Super Bowl impact, revenues grew 4% over the prior year, reflecting double-digit increases at our Cable Network segment, being partially offset by lower Television segment revenues.

Total segment EBITDA for the third quarter was $1.89 billion, a 2% reduction from a year ago. Included in this quarter’s results is an approximate $60 million charge, which is reflected in the Other segment, which reflects the modification of stock compensation expense related to the proposed Disney transaction. So absent last year’s Super Bowl contribution and the stock compensation charge this year, quarterly EBITDA grew 6%, paced by double-digit growth at the Cable Network segment, partially offset by lower results of the Film segment.

From a bottom line perspective, reported income from continuing operations attributable to stockholders of $876 million or $0.47 per share increased from the $0.44 per share reported in the prior year. Adjusted EPS in the current quarter was $0.49 versus a comparable $0.54 in the prior year. However, this year’s adjusted results of $0.49 includes a $0.02 per share charge from that transaction-related stock comp expense that I just referred to. Additionally, our share of increased Hulu losses negatively impacted this year’s earnings by $0.04 per share.

So now turning to the performance at our operating segments. The Cable Network segment’s EBITDA was $1.68 billion, up 16% on revenue growth of 10% and expense growth of 6%. Domestic cable revenues increased 10% overall, led by affiliate fee growth of 10%, which was supported by higher average rates across all of our domestic brands and continued subscriber growth at our expanding networks. Ad revenue increased 3%, reflecting the continued strength of Fox News, partially offset by fewer episodes of original series at FX.

EBITDA at our domestic channels increased 15% over the prior year from the strong growth across our entire portfolio of brands. You should note that sublicensing of Big Ten rights this quarter increased domestic cable revenue growth by 3 percentage points and expense growth by 5 percentage points with no effect on earnings.

Reported international cable revenues grew 9%, led by a 14% increase in affiliate revenue. International advertising revenues were about level with last year as continued growth at STAR entertainment and the international channels were offset by the impact of substantially reduced cricket matches on STAR Sports. Reported international EBITDA increased 23%, led by a more than doubling of contributions at STAR TV.

In our Television segment, EBITDA was $78 million, 59% below last year and principally reflects the absence of contributions from last year’s Super Bowl. Separately, lower NFL results this year from the ad revenue impact of reduced postseason ratings and three fewer games than last year were offset by higher contributions from double-digit retransmission consent revenue growth and improved entertainment results.

At the Film segment, third quarter EBITDA of $286 million was $87 million below last year, primarily reflecting lower TV production contributions owing to a substantial increase in the number of new first year drama series delivered and their related deficits as well as the absence of the prior year SVOD licensing of American Crime Story.

Additionally, the current quarter includes a loss of approximately $20 million supporting the release of Marvel Strike Force, the first game produced by our new mobile game studio, FoxNext. We are encouraged by this inaugural release. And as we continue to build out this business, we expect the aggregate investment in support of its future growth to approximate $100 million in this fiscal year.

At the film studio, results were in line with last year and included the successful performance of our holiday movie film slate carrying into the third quarter, led by The Greatest Showman, Three Billboards and The Shape of Water.

And lastly, from an overall balance sheet perspective, we ended the quarter with $7.4 billion in cash and $20 billion in debt, with our capital allocation priority remaining focused on the Sky acquisition.

And with that, I’ll turn it over to James.

[James Murdoch, Chief Executive Officer]

Thanks very much, John and Lachlan. Good afternoon, and thanks, everyone, for joining us today. With three quarters behind us in the fiscal year, we’ve made considerable progress on a lot of different fronts and we feel that the business is in very good health. As Lachlan and John said, we’re focused on moving all of our businesses forward: driving improvements in the viewer experience; making our content more available, not less, both inside and outside the home; and pushing ourselves creatively to build long-term value with our IP while driving up the value of our overarching video brands; and, more importantly, creating a more engaged advertising experience.

For example, over the last several months, we renewed a number of important RSN partnerships. We’re readying the direct-to-consumer Fox News products and have developed a strong number of pilots and scheduling for the next broadcast season. In addition, we’re making great progress internationally. In the Indian TV business, our entertainment channels achieved significant regional market share growth over the past year in two of the largest regions while launching the number 1 national free-to-air channel in the country, Star Bharat.

Our sports channels are growing at a fast clip, including driving massive scale of our mobile platform, Hotstar, which saw its reach exceed 140 million in the month of April and is currently showing more than 2.5x growth in IPL watch time over last year. Overall, Hotstar continues to thrive as the go-to digital video platform and is now seeing 1 billion minutes of daily watch time regularly. To put Hotstar’s scale into perspective, we had 7 million concurrent live streams during a single IPL match this season, which is likely the highest ever for a sporting event on a streaming service in the world.

We’re very comfortable that we’ll hit our $500 million EBITDA target at STAR TV. We had decided, however, from the strong quarter in the year, to continue to increase our investment in Hotstar, which for the year, will be about $50 million. As we proved with the IPL, leveraging standout sports with strategy, we’ve demonstrated time and again that it can drive strong returns for the business. And we expect no less from recent investments in other sports rights such as the NFL’s Thursday Night Football or the recently acquired extension of the BCCI rights in India.

Turning now to Sky, which recently reported strong results. The group continues to see strong demand for its products and services with the continued development and rollout of Sky Q in millions of homes across the UK, Ireland, Italy and, as of this week, Germany.

Now as the founding shareholder of Sky, we remain committed to our bid to buy the remaining Sky shares we do not own and expect to receive UK regulatory approval in a month or two. Comcast has just begun its regulatory process and we think it’s very reasonable for Comcast to undergo a robust regulatory review, which could take months. The Comcast review would be appropriate given the important role Sky and Sky News play in the UK media market. Given Comcast’s fit for Sky, we’re considering our options, with a further announcement to be made in due course. While we’re obviously focused on a number of important transactions ahead of us, we’re no less focused on driving all of our businesses forward.

And with that, we’re happy to take your questions.

[Reed Nolte, Executive Vice President, Investor Relations]

Hi, Ryan. We’d be happy to take questions from the investment community if you could tee it up.

[Operator]

Okay. [Operator Instructions] Our first question will come from the line of Rich Greenfield with BTIG. Please go ahead.

[Rich Greenfield, BTIG]

Hi, thanks for taking the question. We have a lot of investors wondering, is the Disney Fox transaction the only one you’ll consider? Or are you still open to competing offers from third parties? And then I just have a quick follow-up.

[Lachlan Murdoch, Executive Chairman]

Rich, it’s Lachlan. As I said in my opening comments, we’re not going to kind of engage in a lot of speculation around this, but I can say that we are committed to our agreement with Disney and are working through the conditions to bring it to closing. In addition, our directors, though, of course, are aware of their fiduciary duties on behalf of all shareholders.

[Rich Greenfield, BTIG]

Okay. In the Disney proxy, it made it pretty clear that you preferred both the Disney currency over competing stock offers and that you also needed a significant break fee or the break fee it seemed was very important to protect Fox and its shareholders from the perceived regulatory risk. If – as you said, if the board that you just mentioned at least have the fiduciary duty to listen to other offers, would you have interest in an all-cash offer with significant regulatory protections? Or is Fox only interested in stock deals at this point?

[Lachlan Murdoch, Executive Chairman]

We’re not – yes.

[James Murdoch, Chief Executive Officer]

Rich, it’s James here. I think – yes. I think I just want to reiterate here, the directors are very aware of their responsibilities.

[Rich Greenfield, BTIG]

So cash is certainly on the table?

[James Murdoch, Chief Executive Officer]

Look, I don’t think we’re going to comment further on what Lachlan said, I think pretty succinctly and very clearly.

[Rich Greenfield, BTIG]

Thank you very much.

[Reed Nolte, Executive Vice President, Investor Relations]

Thanks, Rich. Operator, next question please.

[Operator]

That comes from the line of Jessica Reif with Bank of America. Please go ahead.

[Jessica Reif, Bank of America]

Thank you. I’m curious what your comfort level is with leverage, whether you need more cash for Sky or other assets like the TV acquisition you announced today? And then, secondly, can you talk about how your upfront approach will change? I mean, as you guys said, your presentation’s next Monday, so it’s right around the corner. Will you sell on a unified basis? Or will you split the approach between Broadcast and Cable, given the pending transaction?

[John Nallen, Chief Financial Officer]

Jessica, it’s John...

[Jessica Reif, Bank of America]

I guess, we can start leverage and I’ll talk to the upfront.

[John Nallen, Chief Financial Officer]

Yes. So it’s John. I’ll start with the leverage question. I think you know us well enough that we operate our balance sheet in a very conservative way. We take pride in our solid investment grade rating and any actions we take, we’ll have that in mind and we’ll look to retain that. So I don’t think you should expect us to really change our leverage profile dramatically.

[Lachlan Murdoch, Executive Chairman]

And then, Jessica, on the upfront here, we couldn’t be more excited going into Monday with the schedule that we’ve put together. I think last year, we coined the term and made the comment that Fox would own the fall, particularly with the strength of our then very strong football, but also Major League Baseball and postseason. This year, we’re going in reverse in our football so we’ll be in an even stronger and more enviable position. And as I said, the schedule, which is just being finalized now, couldn’t be stronger and I think we’ll have a tremendous autumn. We will be selling as we have in past years aggregate across both the Broadcast network and the Cable assets as well.

[Jessica Reif, Bank of America]

Can I just follow up then? Is there any change in your operational focus in the interim period like away from direct-to-consumer or toward something else?

[James Murdoch, Chief Executive Officer]

Jessica, we’re operating the business to drive it forward. I mean, look, a regulatory process that is unfolding with respect to these transactions. And in the meantime, we’re running the business on a business-as-usual basis in terms of focusing on the velocity of doing, focusing on new product development as well as executing across the world in what’s, as you know, a pretty diverse and dynamic business. So there’s no shift in what we’ve been doing vis-à-vis these transactions, if that’s what you mean.

[Jessica Reif, Bank of America]

Great, okay. Thank you.

[Reed Nolte, Executive Vice President, Investor Relations]

Thank you, Jessica. Operator, next question please.

[Operator]

Next question comes from the line of Michael Nathanson with Moffett. Please go ahead.

[Michael Nathanson, Moffett]

Thanks. I have two. First one’s on the 7 stations you acquired. I know you won’t give me the actual retransmission rates of those stations versus where we are now, but can you talk a bit about the magnitude gap between the stations you acquire and how you monetize around a station’s retrans? And then how quickly can you turn that retrans money on after acquisition?

And then, secondly, on cord-cutting, we spent most of the past three years worrying about cord-cutting. You’re now at a point where you’re seeing increasing growth in subs. Can you talk a bit about how big the virtual businesses is for you in terms of sales coming from virtual MVPDs? Any idea where the subs are coming from?

[Lachlan Murdoch, Executive Chairman]

Look, I’ll start with just the stations and, again – but I don’t want to go into too much detail around the – our retransmission agreements and affiliation agreements. But the purchase multiple of these stations, when you add in what is effectively an automatic step up in retransmission, means that we’re buying stations at about a 7.5 multiple and that will drive – it will add about $350 million of revenue to the station group and about $112 million of EBITDA through that.

[James Murdoch, Chief Executive Officer]

Yes. And Michael, with respect to the kind of – the pay TV universe domestically in the U.S., I think we’re seeing very strong growth, as we said last quarter, around digital MVPDs, these new entrants. And I know – I mean, you say over the last three years, you’ve been worried about these declines. I think you will know that we always thought that the increase in downstream competition would actually expand the market and the growth in subscribers from new entrants would actually be able to drive volume in the business while our – increasing our ability to monetize our rates due to the strength of our brands and our investment in the content would also kind of compound. That’s why you see another quarter of double-digit growth in terms of our affiliate revenue.

At this point, so this is a little bit after the close of the quarter, we’re over – we were seeing over 4 million, a good bit over 4 million digital MVPD customers in that kind of universe. And I would say, from what we can tell, the cable deterioration is not as fast as the DBS in telco. Deterioration of a subscriber base and how much of that is shifting to digital MVPD and how much is new customers in the market, I think it’s split. We are also seeing a lot of the so-called cord nevers, acquiring really attractive bundles from the new entrants, particularly YouTube TV and Hulu Live, which continue to grow really well. So we couldn’t be more excited about the affiliate universe. And I think it just goes to show that new competition and lower barriers to entry is what drives real innovation for customers and that competition can expand the overall marketplace. We would expect it to continue.

[Michael Nathanson, Moffett]

Thanks, James. Thanks a lot for that.

[Reed Nolte, Executive Vice President, Investor Relations]

Thank you. Thank you, Michael. Operator, next question please.

[Operator]

That comes from the line of Stephen Cahall with Royal Bank. Please go ahead.

[Stephen Cahall, Royal Bank]

Yes, thanks. Maybe first, on Fox News, it sounds like pricing is really strong there. I know we’re in a tough comp period. So I was just wondering if you could give us a sense of do you expect ad revenue to accelerate as we enter the midterm election season in the back half of the calendar year. And as you launch direct-to-consumer, if you could give us any indication of how CPMs compare on that versus linear and how much of that will be dynamically advertised?

And then secondly, I think you announced one of these stations you’re acquiring is a CW affiliate in Miami. That’s a pretty big NFL market. Would you expect to keep that as a CW? Or is there an opportunity to convert that into a Fox affiliate over time? Thanks.

[Lachlan Murdoch, Executive Chairman]

Steven, first let me deal with the end first. In Miami, we’re not going to announce some – any plans for that CW station yet. We’re looking forward to getting hold of it and we expect this transaction to close with Sinclair in probably six months to nine months. So there’s time to work on that, but we’re not making any announcements of any affiliation changes today.

In terms of the Fox News comp, I think one of the importance things to mention is, as you said, the comp is difficult with – when you compare them to a year ago, so the first 100 days of this presidency and what were incredibly record-breaking ratings. I should say though, however, that if you look April to April, so actually just outside of this quarter we’re reporting, last April was the last month where Bill O’Reilly was leading our primetime before he left the channel. And if you look April to April, we’ve held our ratings incredibly well. We’re basically flat with last year. And I think that’s a real testament to the strength of the brand and, obviously, the strength of the talent on air. So we feel very strongly about that.

In terms of D2C, obviously, the advertising on the D2C platform when we launched it, we expect to be able to drive significantly higher CPMs.

[John Nallen, Chief Financial Officer]

And Steven, it’s John. To your question about local races and the impact, that impact will most notably be felt by us at the stations where we’re over-indexing in the amount of races that are in our existing stations. So it will be much more positive there than on Fox News, although Fox News should enjoy some of it as well.

[Stephen Cahall, Royal Bank]

Thanks.

[Reed Nolte, Executive Vice President, Investor Relations]

Thank you, Steve. Operator, we have time for one more – one last question.

[Operator]

Okay. And that question will come from the line of Alan Gould with Loop Capital. Please go ahead.

[Alan Gould, Loop Capital]

Thank you. John, I was wondering, could you give – can you break out a little bit the results of the Cable operations in RemainCo versus the Cable operations in New Fox?

[John Nallen, Chief Financial Officer]

Alan, we’re not...

[Alan Gould, Loop Capital]

Could you give some color on it?

[John Nallen, Chief Financial Officer]

Yes. At this point, we’re not going to separate out the companies. As we look toward getting closer to a closing and the filing of the Form 10 of New Fox, which is probably in the fall, that’s about the time that we’ll start to separately report on that.

[Alan Gould, Loop Capital]

Okay, thank you.

[Reed Nolte, Executive Vice President, Investor Relations]

Great. Thanks, Alan. Thank you, everybody, for joining today’s call. If you have any further questions, please give Mike Petrie or me a call. Thanks.

[James Murdoch, Chief Executive Officer]

Thanks very much, everyone. Have a good day.

[Lachlan Murdoch, Executive Chairman]

Yes. Thanks, everyone. All the best.

[Operator]

Okay. Ladies and gentlemen, as you heard, that does conclude today’s conference. Thank you for your participation. Today’s call was recorded for replay. If you’d like to call the replay, it’s available today at 6:30 through May 23 at midnight. You can dial the AT&T replay system by dialing 1-800-475-6701 and entering the access code 446188. International callers dial into the United States at 320-365-3844. You may now disconnect.