Henry Schleiff – President & CEO
Brian Stewart – EVP & CFO
Mindy Tucker – IR
Analyst – Smith Barney
Sal Muoio – SM Investors
Alan Gould - Natexis
Crown Media Holdings, Inc. (CRWN) Q3 2008 Earnings Call November 6, 2008 2:00 PM ET
Good day ladies and gentlemen and welcome to the Crown Media third quarter earnings conference call. (Operator Instructions)
I would just like to take a moment to remind everyone that statements made on this conference call may be forward-looking statements as contemplated by the 1995 Private Securities Litigation Reform Act that are based on management’s current expectations, estimates, and projections.
Forward-looking statements are subject to risks and uncertainties which could cause actual results to differ materially from those projected or implied in the forward-looking statements. Such risks and uncertainties are detailed in the company’s filings with the Securities and Exchange Commission including the risk factors included in the company’s 10-Q report for the 3-month ended September 30, 2008, and the company’s 10-K report for the year ended December 31, 2007.
Any forward-looking statements are made only as of the date of this conference call based on information known to the company’s management. The company is not undertaking any obligation to update any forward-looking statements.
I would like to turn the call over to Mindy Tucker.
Good afternoon everyone and welcome to Crown Media’s third quarter conference call. With me today are Henry Schleiff, Crown Media’s President and Chief Executive Officer, and Brian Stewart, Executive Vice President and Chief Financial Officer. Henry and Brian will make some comments about the operating results and financial performance for the quarter and for the year to date and then we’ll open the call for questions.
I would like to remind everyone that our press release which contains information on non-GAAP measures was distributed this morning and is available through the Investor Relations section on our website at www.hallmarkchannel.com. In addition, our 10-Q will be filed sometime this afternoon.
Now I’d like to turn the call over to Henry Schleiff.
Mindy, thank you and good afternoon everyone and thank you all for joining us today. With the first three quarters of 2008 completed, the good news is that Crown Media’s crown jewel Hallmark Channel, and our newly launched Hallmark Movie Channel have never been more successful.
The bad news of course is that we have never faced stronger and more diverse competition in growing the delivery of our key demographics and related ad revenues nor a more challenging economy in which to increase our EBITDA and related cash flow.
Certainly our wholesome, buoyant and beautifully produced original programming continues to deliver excellent ratings helping us to expand the audience in our key demo groups and to maintain our top 10 position.
Moreover with all of our major distribution renewals in place, many for several years out, we now have the luxury of being able to turn our efforts towards the successful internal growth and expansion of Hallmark Channel and more importantly the rollout of Hallmark Movie Channel along with Hallmark Movie Channel HD.
Finally with respect to our advertising revenues we completed a very positive upfront for the coming season and even further expanding our roster of premiere advertising clients all before the increasing apparent problems in our economy surfaced in August and September.
Indeed notwithstanding challenges and issues beyond our control I am confident that our business will continue to grow and will continue to deliver strong operating results and that we will deliver positive industry leading financial results the remainder of 2008.
I’m very pleased to be able to report to you once again that Hallmark Channel finished another record-breaking quarter with success in delivering record audiences in both prime time and total day as well as our key demographic groups of adults and women.
For the third quarter of 2008 Hallmark Channel maintained its position as a top 10 cable channel ranking 9th in prime time tied with CNN, and the Cartoon Network and ranked 10th in total day ratings tied with TBS.
More importantly Hallmark Channel delivered an increase over the third quarter of 2007 in its audience in both of women and adults 18 to 49 as well as 25 to 54. This is particularly noteworthy because all overall ratings are important our advertisers are increasingly focused on the delivery of these demographic groups.
More specifically with respect to our ratings for the month July, Hallmark Channel ranked 7th in prime time and 10th in total day and recorded its highest delivery ever of women 18 to 49 in total day.
Similar success was achieved in the month of August, with the channel ranking 9th for prime time. September completed the quarter with the channel ranking 10th in prime time, marking the 28th consecutive month in the top 10 for prime time.
For the year, through the end of the third quarter Hallmark Channel is ranked as the 9th highest cable channel in prime time and 10th highest cable channel in total day.
Hallmark Channel has now been a top 10 cable network in prime time for over two straight years. During this period we’ve successfully extended a brand that appeals to a unique audience; an audience that has been consistently growing and one that recognizes the value and quality of the distinctively wholesome and appealing programming that can be found only on Hallmark Channel.
This has certainly helped entrench Hallmark Channel as a top 10 channel along with such longer established and more deep-pocketed entertainment channels as TBS, TNT, and LifeTime.
Once again we can attribute this consistent success directly to the popularity of our original programming and to our ability to maximize ratings with a mix of classic series, theatrical films, and cost efficient marketing. Indeed we had a number of very successful original programs which premiered during the third quarter.
In July we aired A Gunfighter’s Pledge which earned a 2.3 household rating; the highest rated ad-supported cable movie of the week and which provided the momentum for the success of our entire western month.
Going into the Olympics our delivery of households, adults and women, were all up over last year in part going to the success of our original programming led by Dear Prudence, staring Jane Seymour, which for example earned a 1.5 in just its repeat.
In September For The Love of Grace, earned a 2.2 household rating as the highest rated ad-supported cable movie of the week premiering against hurricane-related news and the announcement of Sarah Paling as the VP candidate, both of which took much of the audience that evening.
I should also note that our originals continue to perform in the fourth quarter with Ladies in the House, staring Donna Mills and Florence Henderson, and Generation Gap staring Ed Asner, both scoring a 1.9 household ratings making both such originals the highest rated cable movies of the day and week in which they played just last month.
Moreover overall our original movies for the year-to-date have hit a new ratings high and led Hallmark Channel to account for two of the top 10 ad-supported cable original movie premiers. In addition Hallmark Channel delivered the number one original movie among women 25 to 54 and in total three of the top 10 original movies among upscale audiences defined as adults 25 to 54 with household incomes in excess of $75,000.
Our originals have averaged a 2.0 household rating to date this year compared to an average household rating of 1.6 for the same period last year.
Clearly our strategy of working with a number of new and talented television movie producers is paying off in huge rating dividends for both our viewers and for our networks’ advertisers. We have made a specific effort to improve our performance among women 25 to 54.
One strategic move has been to reposition Murder She Wrote in the last fringe timeslot and on Sunday into prime time from 9:00 to 11:00 pm in order to capitalize on viewer habits developed when the series aired in this timeslot on CBS for over 10 years.
After only 11 weeks our delivery in this period among women 25 to 54 is up 47% and among adults 25 to 54 up 30%. We’re obviously very pleased with this performance demonstrating the right kind of classic series can make a significant and immediate impact in the delivery of key demos.
We will look to repeat the success of this scheduling move in delivering such key demos by similar such moves with baby boomer favorites Cheers, and in 2009 I Love Lucy and Golden Girls as they become available.
Our schedule for the remainder of 2008 is filled with many more original movies which we are very confident will continue to draw audiences of all ages. As we approach the most exciting holiday season for original programming we are premiering nearly twice as many original movies as we premiered during last year’s winter holiday season.
Our schedule for the remainder of the year includes the premiers of exciting originals staring such talent as Jacqueline Bissett, Tom Arnold, Shondra Wilson, Ben Vereen, Dixie Carter, Hal Lyndon, Diane Cannon, Henry Winkler, and Candace Cameron Bure.
As we have done in the past with some of our original programming we plan to support two of these premiers with extensive national off-air media campaigns. The campaign in July for A Gunfighter’s Pledge was extreme effective supporting a nearly 100% increase in household delivery and delivery of adults and women 25 to 54.
Our marketing department has developed the unique ability to stretch our marketing dollars far beyond their actual buying power which of course is a key factor in the success of our business model.
We’re also expanding into other areas of the digital world and attracting a younger audience. Over the summer we launched Hallmark Channels first ever hosted online series devoted to behind the scenes news and events regarding our family friendly original movies and Hollywood theatrical films.
This new feature entitled Hallmark Channel On Location showcases informal and intimate interviews with stars, writers, producers, and directors as well as on set stories all providing a close-up look at the magic of movie making.
This new half hour programming premiered online in August with segments also appearing on Hallmark Movie Channel. Going forward every Hallmark Channel original will have on location coverage providing highly appealing content to further increase traffic to our website as well as more original programming for Hallmark Movie Channel.
In addition we have just begun to stream a second season of our original series Adoption. Our first episode premiered on our website just this past Sunday celebrating National Adoption Month. We plan to stream 14 new episodes this season. The first season of Adoption which was posted online last year helped double the traffic to our website and lent its stay on the site.
Looking ahead to next year we recently announced the acquisition of the rights to 80 family friendly movies from 20th Television including a host of Academy Award winning films with timeless appeal across all generations.
The deal includes such films as Big, Cocoon, Home Alone, Mrs. Doubtfire, My Cousin Vinny, Cheaper By The Dozen, Dr. Doolittle, Working Girl; we are extremely excited about this deal which will help us expand our programming library, increase our ratings, and attract a younger audience.
These movies are indeed a perfect fit for the Hallmark family friendly brand which will enable us to attract new advertisers and spur even further distribution for both Hallmark Channel and Hallmark Movie Channel.
As we consider the prospects for the remainder of this year and next, its important to consider the impact of the economic issues that we are all facing. In terms of programming we believe that our family friendly brand and uplifting and wholesome stories are the kind of entertainment that Americans will be craving.
In general it is expected that in an economic downturn most Americans will spend more time at home and with family. Hallmark Channel and Hallmark Movie Channel offer the ideal programming for families to share together with positive messages and poignant stories.
The film package from 20th Television is packed with films perfect for this escape as well as the many family films original movies and Hallmark Hall of Fame programming that we have to offer on our two networks.
Let’s talk a little bit about distribution, which at the end of the third quarter Hallmark Channel had 84.8 million subscribers representing an increase of nearly one million homes of where we were at the beginning of the year.
Our attention over this past year and a half has probably been focused on the renewal of our distribution agreements and with that now achieved we can expect our growth to be gradual as we are now a fully distributed network.
We continue to add subs on a monthly basis and currently stand at 85.7 million subscribers. Indeed there are just a handful of networks with over 90 million subs and while we plan to be one of them through hard work and determination, it will take just a little time.
Over the past 18 months I have reported the successful renewals of our distribution agreements with Comcast, Time Warner, Direct TV, EchoStar, Cable Vision, and NCTC. Most recently we announced the renewal of our agreement with Charter with just under five million subs.
This early renewal of this agreement set to expire at the end of this year avoided a lengthy negotiating process and preserved valuable management resources. We have now completed the renewals of all of our significant distribution agreements until the end of 2009 when our agreement with NCTC expires.
In total these renewals will contribute to the continuing growth in our subscriber revenues and although we still believe Hallmark Channel is undervalued, relative to its competitors, we are certainly pleased with the rather substantial progress that we have made here.
For the third quarter our subscriber [free] revenues nearly doubled continuing to reflect the favorable terms of our renewals and the significant improvement to our bottom line. With these renewals we have successfully solidified our distribution base and locked in a predictable revenue stream of subscriber license fees.
While this represents a tremendous accomplishment for distribution of Hallmark Channel, I do think the most exciting story here is the explosive growth of Hallmark Movie Channel. In April as you know we launched the high definition version of Hallmark Movie Channel home of the greatest family movies of all time.
At the end of the second quarter Hallmark Movie Channel including both the standard and high definition versions had over seven million subs. With the very significant launch on Cable Vision in August, Hallmark Movie Channel had over nine million subscribers. At the end of the third quarter Hallmark Movie Channel is in 12 million homes representing a 50% increase in the five months since its launch.
In each of our distribution agreement renewals we positioned Hallmark Movie Channel as an attractive addition to the channel lineup and our efforts are obviously paying off. Despite the tremendous competition in the marketplace from emerging channels as well as established networks, to occupy limited bandwidth, Hallmark Movie Channel has had significant launches on Comcast, Time Warner, Cox, Cable Vision, and Verizon systems, with the additional benefit from organic growth on existing systems.
Looking ahead, we have a solid pipeline of new launches on hand for continued growth. Among women 18 and over Hallmark Movie Channel ranked number one tied with LifeTime Movie Network. Hallmark Movie Channel also ranked number one among all adults with a high interest in subscribing to [multiple] services.
In addition Hallmark Movie Channel ranked second among all adults who subscribed or might subscribe to digital cable or who are interested in satellite dish service.
Based on this viewer support and demand we will continue to push the expanded distribution of Hallmark Movie Channel throughout the US and indeed I very much look forward to reporting the continued growth in subs on this new and uniquely appealing network.
Advertising sales, our strength and success in programming and distribution continue to support the growth we have had in advertising revenues. More specifically for the third quarter advertising revenues increased nearly 5% over the third quarter of 2007.
For the year-to-date, advertising revenues are up 14% over last year maintaining our industry leading pace of double-digit growth. As I reported to you previously the upfront market this year was particularly strong for cable. Broadcast, despite a continued weakness in audience share completed deals with single-digit increases in CPMs but were generally flat in terms of revenue.
The overall cable market with a somewhat more positive outlook with respect to ratings was rewarded by clients with CPM gains generally in the 3% to 9% range. Hallmark Channel did very well both in terms of volume of business and increases in CPMs. The volume of the business that we completed in the upfront was up by 22% over last year to a total of $116 million as the result of a combination of higher ratings and slightly higher percentage of inventory sold.
Our CPMs were also higher, up 7% at the top of the range shared by other premier cable channels. As we look at the results for the remainder of the year, in the first half of 2009 the solid foundation we have built with the upfront season combined with our strategic decision to sell a higher percentage of inventory will help offset what we see as a softening in the scatter market.
While CPM increases are up 61% for the third quarter as compared to the upfront pricing, our volume has been adversely effected as the larger economic issues facing all industries are also having an impact upon us and our clients.
Indeed we’ve seen many of our competitors significantly reduce their estimates for the year. On a relative basis however I believe that our channels are well positioned to succeed in this challenging environment and continue to compare favorably to such competitors.
On the one hand our most important industry sectors are packaged goods, pharmaceuticals, discount retail, and entertainment, industries where consumers have traditionally continued to spend dollars even in an economic downturn.
In fact, clients in the packaged goods sectors have historically spent more advertising dollars in down economies in order to maintain or even increase market share. In making the difficult decisions about where to spend precious ad dollars, advertisers are likely to embrace the increased value of adults 25 to 54, those consumers who have the money to spend and make the decisions where to spend it.
I should also note that although we’ve had some success in the financial services and automotive industries these factors have never represented more then a relatively small portion of our advertising revenues.
Finally in this area we have also been very pleased by our ability to participate in this past election with advertising time sold to both candidates. Advertisers also understand that in these challenging times Americans return to the fundamental priorities of family and home and in this environment the programming offered by Hallmark Channel and Hallmark Movie Channel naturally takes on greater resonance, offering a particularly safe haven for our advertisers and services.
In that regard our programming continues to also be a leader in terms of length of [inaudible] an important measure for advertisers in evaluating whether viewers are actually watching their commercials. In all three quarters of 2008 Hallmark Channel ranked number one among all major ad supported cable and broadcast networks. In households adults 18 to 49 and adults 25 to 54 for length of [tune].
In fact for the past 15 straight quarters Hallmark Channel ranked number one in all key demos for length of tune. Moreover when we examine another important measure for advertisers, audience retention, we have equally impressive results this year. Specifically for the first half of the year we ranked number two in audience retention, in overall households as well as in adults and women 25 to 54 for the third quarter of this year.
We moved into the top position in this category. Clearly at a time when advertisers are carefully assessing their return on their investment Hallmark Channel presents a particularly attractive and effective environment and that is why with our increase in third quarter ad revenues we are successfully bucking the overall downward trend.
Looking at the full year for 2008 with our previously established momentum, we expect to achieve double-digit growth in advertising revenues for the full year, although we do not anticipate that we will maintain our typical industry leading 20% plus growth that we’ve been able to deliver in the past.
However I will say that we are seeing success in the fourth quarter with the calendar year upfront process and while this only accounts for a small portion of our overall advertising revenues we expect that we will be able to achieve an 8% to 10% increase in volume for such calendar year deals as compared to last year.
And now let me turn things over to our CFO, Brian Stewart.
Thank you Henry, as Henry indicated in the third quarter of 2008 Hallmark Channel continued its strong ratings performance and continued to realize the financial benefit of the distribution agreements we renewed earlier in the year.
In a very challenging economic environment Crown Media delivered strong financial results highlighted by the continued significant growth in our operating income.
Since you all have the detailed financials that are included in the press release I’ll review some of the operating and financial highlights for the quarter. Total third quarter net revenue of $64.5 million increased 17% from $55.3 million in the third quarter of 2007 and total year-to-date revenue has increased 25% over the same period of 2007.
Total subscriber revenue of $14.2 million was up 93% from $7.4 million in the third quarter of 2007, again this increase reflects increased in per subscriber rates and in the total number of paid subscribers that resulted from our recently renewed distribution agreements and contractual rate increases from our other agreements, and a decrease in subscriber acquisition fees applied against our revenue.
Total third quarter advertising revenue was $50 million, an increase of 4% from $47.8 million in the third quarter of 2007. As Henry mentioned our very strong scatter market has resulted in significant CPM increases over both 2007 rates and rates for the third quarter 2008 inventory that we sold in the upfront.
Crown Media’s advertising revenue growth was impacted by the current economic conditions with some softening of our general rate prices and a more dramatic effect on the rates for our direct response advertising.
Notwithstanding these difficult market conditions our scatter rates as mentioned were up 61% over upfront rates for the same period. Although we expect softness in advertising rates to continue for the rest of 2008 and into 2009 we feel confident in our ability to deliver double-digit ad revenue growth for full year 2008 over 2007.
Although this growth rate may not be the strong double-digit growth rate that we’ve reported in the past we will continue to set ourselves apart as an industry leader in a very challenging environment. On the expense side, total cost of services for the third quarter of 2008 decreased 25% to $39.1 million from $51.9 million in the third quarter of 2007.
Within cost of services, third quarter 2008 programming expenses decreased 21% to $36.7 million. This significant decrease was primarily due to the expiration of our programming agreement with the NICC at the end of 2007 and the renegotiation of other third party programming agreements throughout 2008.
We expect full year 2008 programming expenses to be lower then 2007 resulting from the elimination of the NICC programming expenses and these amended agreements. Third quarter 2008 cost of sales were $7 million lower due the absence of subscriber acquisition fee amortization as the launch support payments we’ve made over the years are now fully amortized and the remaining amortization is being netted against revenue.
Also during third quarter 2008 we reduced our estimate of residual and participation liabilities by $4.7 million and $1.1 million relative to the third quarter of 2007. Marketing expenses for the quarter were $4.6 million, an increase from $3.6 million in the third quarter of 2007. In each of the third quarter 2007 and 2008 we supported one original movie with our off air consumer media towers with slightly more media and promotion activity around the 2008 marketing effort.
We continue to expect 2008 marketing costs to increase at single-digit rates over 2007. Strong revenue growth and lower operating costs resulted in significant increases in our adjusted EBITDA for the third quarter of 2008 to $8.7 million from and EBITDA loss of $6.5 million in 2007.
Cash provided by continuing operating activities totaled $24.6 million for the third quarter of 2008 compared to $5.4 million for the third quarter of 2007.
As we look to the rest of 2008 we expect increases in ratings supported by a strong slate of original movies, our typically strong and aggressive holiday marketing and promotional campaigns, and the traditional resonance of our holiday programming with our views. This ratings boost and the resulting increase in advertising revenue combined with a continued focus on cost control will result in positive EBITDA again in the fourth quarter and we continue to expect our full year 2008 EBITDA to exceed $50 million.
Although we expect the current economic conditions to negatively impact the advertising industry into 2009 we expect our advertising revenue to significantly outpace industry growth rates next year. We expect significant revenue increases from Hallmark Movie Channel, as the universe for that platform grows to over 20 million subscribers.
In this challenging economic environment we continue to focus on cost control and efficiencies and expect nominal expense growth in 2009. Although we are largely a fixed cost business we are focused on opportunities to manage and defer costs in the event the economic downturn is more severe and longer then expected.
Through this revenue growth and a focus on cost management efforts, as previously stated, we continue to expect our 2009 EBITDA to exceed $80 million. From a liquidity standpoint as we’ve talked on previous calls our credit facility of $90 million has been reduced and is now at $50 million at the end of September, 2008.
The outstanding balance on the credit facility on September 30 was $35.2 million and since September 30 we have made additional reductions to the facility from cash flows from operations. The current outstanding balance on the facility is about $25 million. We expect to continue to reduce the credit facility from our cash flows from operations in the fourth quarter and throughout the remaining term of the facility which expires May 31, 2009.
The excess capacity under the credit facility gives us adequate protection in the event of a dramatic slowing in our advertising revenue which again we don’t anticipate even in this challenging environment. The waivers under our Hallmark Cards notes have been extended with new expirations in October of 2009.
With our near-term liquidity secure we will continue to work with Hallmark regarding a long-term restructuring of the existing facilities to ensure the optimal capital structure to support the long-term growth of the company and increase in shareholder value.
So in conclusion in the third quarter of 2008 Crown Media again benefited from increased subscription revenue, resulting from our renewed distribution agreements, substantial increases in advertising revenue from increased ratings and CPMs, and reductions in our overall operating costs, all resulting in substantial increases in our EBITDA.
As we have discussed the continued significant growth of Hallmark Channel, advertising revenue, contributions to earnings from our renewed distribution agreements, and continued focus on operational efficiencies and cost management, combined with the growth potential of the Hallmark Movie Channel, both in standard definition and in high definition, all present tremendous opportunities for revenue and earnings growth at Crown Media again even in this very challenging economic environment.
With that I’ll turn it back to Henry.
Thank you Brian, in summary let’s just take a quick look at what I consider to be the three key areas of our business; programming, distribution and advertising.
Clearly our programming on Hallmark Channel offers and exciting lineup of original movies combined with classic series, favorites along with popular theatrical feature films, all of which appeal on a very fundamental level to our ever growing audience.
Our results in 2008 continue to extend our position as a top 10 cable network in prime time, now for 28 consecutive months. The growth the Hallmark Channel has experienced in terms of ratings demonstrates that viewers recognize that Hallmark Channel is one of the very few destinations where they are guaranteed a predictable, family friendly viewing experience.
As Americans deal with the unprecedented financial challenge our country is facing our wholesome and uplifting programming represents the ideal antidote to the difficult realities of life. And in these times as we all appreciate the values of home and family, viewers across the country will increasingly turn to the family friendly programming and values our channels and our brand represent.
Our ever popular holiday theme programming will be airing throughout the fourth quarter followed by our newest addition of appealing feature films including Mrs. Doubtfire, Ice Age, Home Alone, and Big. In economic downturns, this is just the kind of entertainment Americans will be craving. Certainly this distinctive combination of family friendly programming in a traditional and wholesome brand are important for our viewers which in turn will appeal to our advertisers and distribution partners.
Over the past 18 months we have renewed all of our major distribution agreements providing us with predictable and attractive stream of increased subscriber fee revenue, most of which will drop to the bottom line. With the successful renewals of these agreements behind us we can now focus on the growth of Hallmark Movie Channel as well as the continued expansion of Hallmark Channel.
We have already experienced tremendous progress in this area with launches of Hallmark Movie Channel standard definition and high definition in just the past few months on Time Warner, Cable Vision, Cox, and Verizon.
Since the launch of Hallmark Movie Channel just five months ago, we have expanded our distribution by nearly 50%. We have several other deals currently pending which will take us to over 20 million subs next year. And accordingly I look forward to announcing the continued growth of this distinctive and appealing channel.
With success this past year in ratings growth and distribution expansion, its no surprise that we’ve been able to maintain our growth in advertising revenues relative to our competitors. Although we are seeing some softness in the scatter market, our strong results in the upfront season and our strategic decision to sell a higher percentage of our inventory has helped to insulate our business from the effects of the economic challenges.
In these difficult times our extremely positive brand image combined with our distinct ability to attract a baby boomer generation audience with its enormous purchasing power and continued growth adds up to a unique appeal for advertisers. Our emphasis on industry sectors, which consumers will continue to support, and our lack of vulnerability to industries which will be negatively impacted will contribute to our resiliency to the economic downturn.
Combine this with the appeal of our programming in the current environment and I believe we have the right stuff to withstand and even maintain our profitability in the face of down economy. Despite the broader trends in the marketplace, I am highly confident that with our established momentum we will be able to deliver another year of double-digit growth from Hallmark Channel and continue to expand upon the strong foundation of clients that we have already established for Hallmark Channel.
As we look ahead to the remainder of 2008 and beyond we will of course continue to be focused on pursuing our goals in a fiscally responsible way. One which enables us to maximize our revenues and reduce our debt while keeping a close eye on the requisite cost structure of our business.
As we have previously stated we expect that we will be able to generate in excess of $50 million in adjusted EBITDA for 2008, $80 million in adjusted EBITDA for 2009, an increase year-over-year of 60%. And that we will continue to grow and be even more profitable in the years to come.
At this point we are now ready for your questions.
(Operator Instructions) Your first question comes from the line of Analyst – Smith Barney
Analyst – Smith Barney
Operationally a lot seems great, my concern is that the stock is at a five year low and as you’ve been stating for the last half hour, you’ve really come in quarter after quarter with great numbers but as far as valuation and sponsorship of the stock it’s a very different story. As we watch it the stock price gets thrown around like a baby in the ocean, I was wondering what your plans are to correct this in the future?
We are operating I think on all pistons. Our job is to run the company in the most efficient and the most profitable for you the shareholders as possible. There has been a long-term disconnect I believe not only in our stock but in other stocks, I think, between their performance and in fact stock price.
So holding aside if you will this economic environment which we can get into, its just very, very hard, impossible to bridge that disconnect. All we can do as management if you will is do the right thing. I think our choices, our production, I think the way we’ve monetized it, you’ve been complimentary about our securing if you will, our distribution base, we’ve literally done everything we can and I would think in a more economically rational environment that would be reflected.
But in fairness that is not the case, no one can argue with the price that you now see of our stock and I believe that’s exacerbated in this environment where, in which there are all sorts of illegitimate and illegitimate questions and demons. But all we can do frankly is to do what we do best and that is run this company in your interests and in the interest of all of our shareholders.
I think one of the aspects of, to your question, its certainly difficult to sometimes how and why the stock trades, certainly the fact that it’s a thinly traded stock and as a company that has a fair measure of debt, so to the debt question we’ve talked about this in the past, certainly the plan going forward as we mentioned the continue to hit the operating benchmarks that we’ve established, continue to grow our bottom line, and increase our cash flow and with that growing and stable cash flow we think that we will be in a position to refinance that debt sometime in the future.
Now when that is in this marketplace becomes difficult to exactly determine but certainly having a patient and capable banker in the form of Hallmark has worked to our advantage in this difficult market and we do think that as we look through October of next year, that gives us plenty of time to again establish that record of cash flow growth and continue to look for ways to refinance and restructuring that debt so that it makes more sense with the operations of the company.
Your next question comes from the line of Sal Muoio – SM Investors
Sal Muoio – SM Investors
You started out the call by talking about a more difficult competitive environment in your demo, could you elaborate on that?
I think what you’re seeing is notwithstanding the “economic environment” which is in and of itself challenging you’re seeing fairly substantial investment in original programming in many cases one hour dramatic series by any one of a number of cable networks. I actually think cable has done a reasonably good job in vanquishing or holding its own, against broadcast networks, but I think our average viewers in competition are increasingly watching a variety of cable networks which are in turn figuring out what we understood early on that its about the brand.
And the way to determine, create, expand and really shop your brand is with original programming so from a competitive point of view, we see LifeTime certainly doing more in the world of movies and beginning to actually launch some original movies at LifeTime Movie Network. We certainly see significant investment at TBS in terms of its roster of one hour series and TNT. And although as I mentioned somewhat jealously that some of these networks have always been deeper pocketed and some are longer established, virtually all of them are longer established then ourselves. We do compete with them. The viewer doesn’t know that we may have more or less resources and that we have been around longer or shorter, they just want to look at the alternatives that are on that evening.
So it’s a very competitive marketplace with features being bought expensively in the first window. We don’t do that. We have what we consider to be a very conservative and I believe smart business model which as you know, I believe is appropriate for us. We have shied away from what we consider to be the roulette game of investment in one hour series where there will be some winners from time to time. I think Madmen among others, certainly a great example of that, and many others not quite as successful.
We think we have a very good model in the creation of additional original movies and as we have over the year and with our Board’s approval increased our model, historically from 18 to 20-something to now 30 original movies a year and certainly considering even greater investment there. That seems to work very well for us and that is our calling card. But it is a heck of a competitive marketplace when you get to cable and I’m confining my remarks to cable. I’m not even getting into the competition for your discretionary leisure time which obviously now exists in the internet and virtually everywhere else.
Sal Muoio – SM Investors
More so in your target demo as well or--?
Our target demo is a little younger and hipper then perhaps the same age group was several years ago so we see greater VCR penetration in our target demo, we see the need and in fact I think we’re doing a reasonably good job of trying to even play to a younger demo.
We’ve got some movies as you will see, I’m particularly encouraged the audience listening here, over the next eight to 10 weeks of really movies that are aimed quite clearly at that younger female, we say 25 to 54 and that’s exactly what we want to continue to deliver. In some cases even younger then that. But absolutely, I think that’s an audience that we increasingly demo wise want to get our median age down to.
Sal Muoio – SM Investors
When you say younger, what do you mean? I thought that is your target demo?
It is our target demo. We actually like to get that into the lower 50s. Our median age is above 50 now, and we’d like to get that down even to the low 50s and frankly optimally over time even below that.
Sal Muoio – SM Investors
You both mentioned several times an emphasis on keeping an eye on costs over the next year, are you talking about programming or what are you talking about here? You were talking about reinvesting in programming to expand and you are in movies, but what are you--?
The short answer is that we are, for historic reasons among others, we have always been a very lean company and that we as you know, the average cable company independent which has by definition its own ad sales and distribution force is generally in a 300 plus employee category. We’re about 170 today and that’s through no attrition, over the last couple of months. So we’ve always run our operations in a very efficient manner. Our major costs has always been programming. And what we are continuing to do is to examine that to see what we can either forgo in the future, what off network series that we may or may not renew, because they’ve been expensive, and therefore enable ourselves to more efficiently use some of what we do have on the shelf and perhaps play some more product that we may not be playing.
And to continue to do what we think do what we do best is to produce these low cost original movies which again we license, we don’t own because we think again from a cost effective matter, these deals are very attractive to us and by licensing them we can exhibit more which I think we can better monetize.
But that’s been the principal area of our cost has been programming.
A few other specifics, on programming largely certainly our biggest cost in a largely fixed cost structure and most of our programming obligations are relatively far forward so there’s not a lot that we can do in the near-term to impact our programming expense. A few of the things that we did this year and that we focus on continually is looking at that programming model, looking for parts of our inventory that maybe we’re not fully utilizing, looking for chances to potentially license the exclusivity that we may have for particularly title or series where we don’t think that that exclusivity is as strategic for us as it might have once been.
So those are some of the near-term things we can do in programming but again not a lot that we can do there and also we are a fairly lean organization so when we talk about cost its largely about costs management as opposed to necessarily taking out significant costs. Part of the way that we manage those costs going forward and we’re spending a lot of time on this right now is understanding the scale of investment for the Hallmark Movie Channel, clearly that’s going to be a big part of our growth going forward in terms of ad revenue and on our bottom line but some amount of investment will be required at some stage of the Movie Channel’s growth to really optimally growth that business.
We’re carefully looking at those marketing and promotional costs. There are some things that we would in some marketplaces in a strong market, some expenditures that we’d be entering into now and early in 2009 that we likely will defer until we have more certainly about the right timing for those investments when the distribution is actually there at that 20 plus million subscriber mark.
So those are just a couple of examples of how we’re looking at the business to understand the right timing of investment and how to best strategically use and leverage the different assets we have.
Sal Muoio – SM Investors
Do you expect to get to the 20 million mark sooner or later next year?
Sal Muoio – SM Investors
The beginning of the year or the end?
Sometime in 2009, not to be too coy about it, we don’t want to be locked into too much specific guidance but it really as you know comes in fairly significant chunks of growth and its dependent on a couple of key deals both on the cable and satellite side so the timing of exactly when those deals get done is sometimes difficult to predict but we do think there’s clearly the reception of the service and by the operators its been very strong and very positive. We think we’ll get those deals done but don’t want to be locked into too much specific timing on just when that will happen.
Your next question comes from the line of Unidentified Analyst
Obviously on a per sub basis and on all the metrics we look at, the cash was relatively low, it seems as though the equity value doesn’t get a fair value in the public market just because of a lack of liquidity and the name which has always been an issue, and obviously you can’t split the stock given where it is, in order to attract a larger pool of investors, what if anything are you doing to address that has a company ever considered doing a rights issuance or anything like that to raise cash at a low price even though it would be dilutive initially to existing shareholders, use the cash to pay off the debt and then increase the flow so that more people can get involved in the name. It doesn’t make sense to be a public company if the liquidity doesn’t increase, has the company ever considered going private, or becoming a part of any of the larger organizations especially given the environment we’re in.
I think in summary you’re right, certainly a thinly traded stock has its own complications and that certainly creates some challenges to the ability to get out and market to new investors and get new names and groups interested. There are some complications as you know with the tax structure of the company which consolidates with Hallmark Cards that has traditionally provided a very effective source of financing for the company historically but creates some restrictions on our ability to be as flexible with some of those additional issuances as maybe we otherwise would be.
So given some of those restrictions the strategy has continued to be focusing on the operations, increasing the cash flow of the business, and we think that that will simultaneously do a couple of things. One it will allow us to pay down our debt and put us in a position to restructuring our debt so that we can have again the capital structure that fits the size of the business and our expected growth but it also gets us to that point where we can have probably somewhat more attractive to some of those strategic investors that I think, hard to know what rationales were but I think its safe to say that strategic investors and anyone looking at the company would be less interested when we were at negative cash flow and then clear distribution profiles then strong and growing and proven cash flows with a fairly solid distribution foundation.
All of that operational strategy I think feeds back into the enterprise value and the ultimate stock value but again is done with a focus more on the operations given some of those restrictions on what we can do with the stock.
As far as your relationship with Liberty Media, could you comment on that at all? Give us a sense of what they’re thinking because given their direct TV investment everything else would seen wrapping the Hallmark Channel around that at some point would make a tremendous amount of sense because since you have a unique network in that the demographics are great, its non controversial, its family friendly and ratings are improving in a very tough environment, can you comment on that relationship?
Certainly in the normal course of it being a huge or a significant shareholders we’ve had any number of conversations about any number of issues and they’ve been quite complimentary of our improvement, our success, and operations over the last years for sure but I wouldn’t characterize them as anything substantively past that. They certainly know who, what, where we are. Our job again is really just to run the company and to create and maximize our EBITDA and cash flow let alone every other aspect of the company that Malone is familiar with and wherever, whatever that means to others that’s great. But nothing else beyond that.
Your next question comes from the line of Alan Gould - Natexis
Alan Gould - Natexis
Your estimate of going from greater then $50 to $80 million of EBITDA what kind of advertising growth do you have baked into that assumption?
Without getting too specific we think that our advertising growth next year will be inline with our growth this year, again a lot of moving pieces in the marketplace but certainly it will be a double-digit ad growth next year.
Alan Gould - Natexis
Cable investors have been surprised with private companies in the past specifically I’m talking about what happened with Viacom and National Amusements. Is there any way you can give us some more transparency on Hallmark because we have no idea what kind of debt or derivatives or anything else could be lying back there.
The short answer is no, as a private company they guard their financials very closely and I don’t believe that and certainly historically they have not released any specific financials around the company and I don’t believe that that policy will change.
Alan Gould - Natexis
Can you just give us some sense on this whole advertising tsunami, it started out with hitting the newspapers and then the radio stocks and over this year was the local TV stations and you listen to News corp and now its hitting pretty severely in national TV advertising, how do we have confidence that cable advertising isn’t the next thing to turn negative as an industry.
Without being coy, I just think its always dangerous to quote generalize or to read generalizations into certainly an encourage analysis so in any situation including the advertising marketplace that we’re facing there are going to be those who outperform and maybe even exceed expectations which will be a function of a variety of factors. I’m not going to project what others are looking at, I will say and I think I indicated in our last call with respect to at least one large multi network company that I sure am happy to have our audience. I really like the fact that however we got here, I love the idea that we’re dealing with an older more mature, financially very well off audience and in a marketplace in which there are still going to be any number of players, packaged goods, pharmaceuticals, who traditionally will look at this as an opportunity to increase market share.
That certainly is what prior economic down cycles have indicated. So if you’re coming out with your new cereal, your new whatever brand of toothpaste, you may well look to increase share in this marketplace and spend accordingly. And I think that our network, I think our audience, I think the halo of our brand, I think the substantive research about length of tune for our audience creates a perfect storm in terms of our offering what we have to offer an advertiser.
I say that, understanding that these are across the board grey challenging tough times. You would of course love to have the benefit of a full tide floating all ships. But I do think not to extend the analogy I do think that we at least are in a position because of (a) the brand, (b) programming that supports the brand, and (c) a historic appeal to a demographic that I think will be watching television on television and on cable let alone support it as I say by hard cold research statistics that we can present to agencies.
I think we will, and I’ll say it demurely which is hard for me, better weather this storm then most others which is why we are projecting the kind of growth in EBITDA that we suggest for next year.
Alan Gould - Natexis
Some of your competition has said starting October 1 or the month of October there was a meaningful decline from where we were in the third quarter, did you notice that in October as well?
Yes, we’ve certainly seen, I note from compatriots if you will, that in fact in some cases there’s been options considered, pulled, delayed, what have you. We have had some of that but again not to the degree of others. There’s no question that it seemed to us across the board that October offered tougher sledding in terms of the scatter market in particular. But we remain cautiously optimistic in part in our case and again I’m being totally idiosyncratic to Hallmark Channel, I mentioned in passing that we have a substantially larger number of original movies that we are playing through November and December, then we did last November and December.
I think this time of the year for us has always been a great time of the year for us because of our holiday theme programming so we will not do as well as we did last year by any stretch of the imagination but I think we will do better then many others.
Alan Gould - Natexis
Can you tell us what your cancellations were for the fourth quarter?
Its been fairly miniscule, we’re looking really more at first quarter and certainly well under 5% to 7% in terms of those options and as I say, its been more about not so much options being pulled but more about a request in most cases for a delay of the date in which those options could be pulled. But to date they have not been even remotely material.
We don’t see any other questions, so again we thank you for your support and for your good questions and we look forward as I say to a very strong finish this year and a good start to next year notwithstanding the challenges that we have and in deed benefiting from the brand and programming that has served us all so well.
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