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Viacom (NASDAQ:VIAB)

Q3 2013 Earnings Call

August 02, 2013 8:30 am ET

Executives

James Bombassei - Senior Vice President of Investor Relations

Sumner M. Redstone - Founder and Executive Chairman

Philippe P. Dauman - Chief Executive Officer, President and Not Independent Director

Wade Davis - Chief Financial Officer and Executive Vice President of Strategy & Corporate Development

Thomas E. Dooley - Chief Operating Officer, Senior Executive Vice President and Director

Analysts

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Alexia S. Quadrani - JP Morgan Chase & Co, Research Division

Richard Greenfield - BTIG, LLC, Research Division

David Bank - RBC Capital Markets, LLC, Research Division

Brian W. Wieser - Pivotal Research Group LLC

Anthony J. DiClemente - Barclays Capital, Research Division

Marci Ryvicker - Wells Fargo Securities, LLC, Research Division

Jason B. Bazinet - Citigroup Inc, Research Division

Benjamin Swinburne - Morgan Stanley, Research Division

Tuna N. Amobi - S&P Capital IQ Equity Research

Andrew Borst - Goldman Sachs Group Inc., Research Division

Operator

Good day, everyone, and welcome to today's Viacom Third Quarter 2013 Earnings Release Teleconference. As a reminder, today's call is being recorded.

At this time, I'd like to turn the conference over to the Senior Vice President of Investor Relations, Mr. Jim Bombassei. Please go ahead, sir.

James Bombassei

Good morning, everyone, and thank you for taking the time to join us for our earnings call for our June quarter. Joining me for today's discussion are Sumner Redstone, our Chairman; Philippe Dauman, our President and CEO; Tom Dooley, our Chief Operating Officer; and Wade Davis, our Chief Financial Officer. Please note that in addition to our press release, we have slides and trending schedules containing supplemental information available on our website.

Now I want to refer you to Page #2 in the web presentation and remind you that certain statements made on this call are forward-looking statements that involve risks and uncertainties. These risks and uncertainties are discussed in more detail in our filings with the SEC. Reconciliations for non-GAAP financial information discussed on this call can be found in our earnings release or on our website.

And now, I'll turn the call over to Sumner.

Sumner M. Redstone

Good morning. It is truly a great pleasure to welcome you to VIAB's conference call today.

As you know, this morning, we reported solid growth, due once again to VIAB's powerful entertainment brands and the work of our truly extraordinary executive team. The winds of change are all around us, but even as the distribution landscape evolves, the value of content and the creativity that drives its success has never, never been greater.

VIAB's content is in strong demand, with key audiences in both new and established pathways. Our management team is leading a creative resurgence at Viacom, while continuing [ph] execution, drive efficiency, and as evidenced by our expanded buyback program, return value to shareholders.

Now, I would like to turn this call over to VIAB's outstanding leader, my friend, my colleague, the wisest man I have ever known, Philippe Dauman.

Philippe P. Dauman

Thank you very much, Sumner. And good morning, everyone. Thank you for joining us today to discuss the third quarter of our fiscal year.

The June quarter was a strong one for Viacom. The results we announced this morning attest to that. And as I will discuss in a moment, the significance of our performance goes beyond financial results. We saw great creative and operational success throughout the quarter and positive signs that our momentum will continue.

Thanks to our sustained investment in original content, we continued to see sequential ratings improvement at a number of our key networks. Nickelodeon is clearly on the way back, with new live-action and animated hits that fueled robust ratings. We completed our upfront negotiations early and very successfully, achieving significant volume increases in a difficult market. We also struck a distribution deal with Amazon in which we received great value for our content and gained a strong promotional platform for our consumer products. And Paramount Pictures launched 2 commercially successful and critically lauded tentpoles with Star Trek Into Darkness and World War Z.

Tom and Wade will go into greater detail in a moment, but let me briefly recap Viacom's financial performance for the quarter. Revenues increased 14% to $3.69 billion and operating income grew 20% to $1.09 billion. Adjusted net earnings from continuing operations attributable to Viacom increased 24% to $635 million. Adjusted diluted earnings per share from continuing operations were up 33% to $1.29.

We increased our quarterly dividend to $0.30 per share from $0.275 per share, effective with the dividend paid July 1. We also repurchased $700 million of stock in the quarter, under what was our $10 billion share repurchase program. We are today announcing an increase in the size of our buyback program from $10 billion to $20 billion.

Given our improving operational and ad sales performance, improving U.S. macroeconomic environment and the attractive interest rate environment, we are comfortable returning to our target leverage ratio prior to the recession. As a result, we are increasing our target ratio to the 2.75 to 3.0 range.

Viacom's stock is a very good value. Our share buyback remains very accretive. And we will continue to aggressively return capital to our shareholders. Accordingly, given the added balance sheet capacity from our new leverage target, we will augment our current buyback pace with the purchase of an additional $2 billion of our stock over the next several months. The pace of our open-market purchases, which are part of the $20 billion program, will be subject to regulatory limits on trading volume. After December 31, we anticipate that our buybacks will return to a pace comparable to our most recent quarters.

Moving on to our Media Networks. Revenue in the segment grew 13% to $2.57 billion, thanks to growth in both advertising and affiliate revenues. Domestic advertising revenue increased 6% on the strength of continued ratings improvement among our networks. For the September quarter, we expect to see continued sequential improvement in ad revenue growth.

For the adult upfront market, we secured mid-single-digit volume growth by moving early while also improving our mix of advertisers. We saw a great outcome on the kids side, too, where we maintained volume and increased our share in a market that was down overall.

Domestic affiliate revenue grew 28% in the quarter, thanks to the benefit of our digital distribution agreements and rate increases. Core domestic affiliate growth, which excludes digital distribution, increased in the high-single-digit range. We expect total domestic affiliate growth of 10% for the full fiscal year.

In June, we completed a landmark multiyear agreement with Amazon for distribution of a broad selection of library programming from across our brands. The deal not only reinforces the value of our content, it also validates our view that the digital distribution market remains strong and growing and will enhance the overall economic environment for must-have brands and programs. It is also noteworthy that our programming on Amazon Prime Instant Video will live in a network-branded environment, one that connects audiences with our many consumer products available through the world's leading online retailer.

We continue to mine digital distribution opportunities abroad as well, where we recently renewed our agreement with Netflix in Latin America. And as part of our broader Amazon agreement, we struck a deal with LoveFilm in the U.K. and Germany.

Our ratings resurgence is a big part of the story, so let me take a moment to touch on highlights at a few of our networks. At Nickelodeon, our sustained investment in new original content, driven by a reinvigorated programming and development team, led to significant ratings gains. Nickelodeon was up 11% in its core demo for the quarter. Nickelodeon also drove viewing among kids 2 to 5 in the quarter, as the network strategy to move preschool programming from Nick Jr. to Nick in key dayparts continued to pay off.

Several new Nick shows emerged as hits right out of the gate. The live-action comedy, Sam & Cat, from Nick's marquee hit maker, Dan Schneider, is performing very well in its debut season, as is the animated series Sanjay and Craig, which has the offbeat sensibility of many of the network's most iconic hits. Haunted Hathaways, another live-action series, premiered in the current quarter to more than 3 million viewers. These new hits are significant, not only for their big viewership, but also for their strategic timing. Each will be well established with audiences in advance of the holiday season, Nick's most critical quarter from an ad sale standpoint. We'll have new episodes of these new shows; new series, Rabbids and The Thundermans; and new seasons of Fairly Odd Parents, Teenage Mutant Ninja Turtles and Legend of Korra in the fourth quarter of the calendar year, as well as several preschool premieres and holiday specials.

July marked Nickelodeon's sixth straight month of year-over-year ratings growth. With ratings stable and growing, Nickelodeon is striving to raise the bar. We will continue to fuel the pipeline, investing in promising original content, new producers and new talent to increasingly diversify the programming mix. We are very optimistic that Nickelodeon's upward trajectory will continue.

We are optimistic that Nick at Nite will continue its recent growth streak as well. In the June quarter, Nick at Nite ratings were up 29% in its core demo. And nearly every show in the Nick at Nite lineup increased ratings over last year. Full House, in particular, has brought the network significant strength in prime that is carrying throughout the schedule.

MTV saw the successful return of several hits in the third quarter, including Awkward, Catfish and Teen Wolf, which is attracting series-high ratings in its third season. We increased the marketing push behind the new season, responding to ratings trends, which show that highly serialized shows can often capture significant new viewership in season 3.

MTV continues to build out a balanced schedule of hits in its critical 10 Spot time period. Most recently, we established a strong position on Thursday nights with Ridiculousness, which continues to build viewership and repeat well across dayparts. MTV also expanded the Guy Code franchise in the third quarter with the premiere of Girl Code, another cost-efficient series that strengthens our Tuesday night female programming block and repeats well.

MTV held its summer pilot screenings at the end of July, featuring a significantly higher volume of potential series, reflecting not only our stepped-up investment in more original content, but also the healthy output of our new development team. MTV is currently reviewing these pilots, and you will start to see some of those series on the network in early 2014.

CMT delivered a stellar performance in the third quarter. The network increased ratings by 29% in its core 18 to 49 demo, making it 1 of the 5 fastest-growing entertainment networks in cable for the quarter. This success is the culmination of our ongoing efforts to transform CMT's programming. The network completely revamped its development team, creating a tri-coastal group in Nashville, Los Angeles and New York with increased expertise in areas including brand development, field production and talent casting. The new team has doubled CMT's programming output while only incrementally increasing costs, with a focus on bold, highly repeatable shows that harken back to the network's country music core and echo its themes.

Dog and Beth: On the Hunt is a great example and has emerged in its first season as the network's top series. It's brought a lot of new viewers to CMT, helping lift ratings across the schedule. There's a lot of room to grow at CMT, and we see great things ahead.

At BET, the first-ever BET Experience in June was a creative and commercial success. The 3-day festival in Los Angeles attracted more than 100,000 visitors and featured many unique sponsorships that connected marketers with the BET audience in new ways. The event gave the BET Awards a big lift, airing the show to 7.8 million viewers, its second-highest viewership total ever. The BET Awards also provided a strong promotional platform for a new season of The Game; and TV movie Being Mary Jane, starring Gabrielle Union, which BET has picked up as an ongoing series. I'm happy to share that we will present the BET Experience again next year.

Our brands continue to drive the conversation on social platforms. The BET Awards generated nearly 10 million tweets, for example. In June, we entered an ad partnership with Twitter through its Amplify product that will launch during MTV's Video Music Awards, another social powerhouse, and roll out across our brands to further monetize our enormous Twitter footprint.

We are doing equally well in the branded app space. The Nickelodeon app has reached 3 million installs in less than 6 months, remarkably quick, and is seeing strong user engagement. The app was well received by our marketing partners at the kids upfront. The MTV app has already been downloaded more than 0.5 million times since its launch in mid-June and is attracting significant advertiser interest, not only in MTV's full-length programming but also for its MTV Other content studio, which struck a marketing partnership with Starcom.

COMEDY CENTRAL and VH1 will launch branded apps by year's end. And COMEDY CENTRAL's newly launched Stand-Up app has drawn significant downloads and user time spent. Speaking of COMEDY CENTRAL, I want to take this opportunity to congratulate the network for earning 18 Emmy nominations. It's a new record for comedy, which is always well represented at the Emmys.

Finally, Viacom International Media Networks continues to be flexible in its market-to-market approach across the world. We are moving to full ownership models for MTV in Brazil, Russia and Italy, acquiring full operational and editorial control of the brand in these key markets. We see solid long-term opportunities for an owned and operated MTV in these markets, bringing them closer into our centralized global structure to ensure that the network is programmed with the best possible mix of international and local content, resulting in the strongest possible representation of the iconic MTV brand.

Moving on to our Filmed Entertainment segment. Revenues increased 15% to $1.16 billion in the third quarter. Paramount Pictures launched 2 strong tentpoles in Star Trek Into Darkness and World War Z, which are on their way to nearly $1 billion combined at the worldwide box office. Operating results in this segment were negatively impacted by the timing of distribution costs associated with World War Z and Star Trek Into Darkness.

The next quarter will show significant profitability for Paramount, including from these 2 films. They will likely be moderately less than we anticipated, due to the crowded tentpole schedule this summer and the delay of certain film licensing deals into next fiscal year. For 2014 fiscal year, Paramount will bring several hit franchises back to the big screen with Anchorman 2, a new Paranormal Activity, Jackass Presents: Bad Grandpa, and Transformers 4; and launch high-potential new tentpoles with Jack Ryan and Ninja Turtles.

Next fiscal year, we'll also see several projects enter the pipeline at Paramount Television. Last week, we named Amy Powell as President of the new television studio, adding to her duties as Paramount's head of Digital and its Insurge Pictures unit. And this week, Paramount Animation made news on 2 upcoming projects for 2015: First, the release date for the SpongeBob SquarePants movie has been set for February 13, 2015. And in late May 2015, Paramount will bring another exciting animated feature to theaters with Monster Trucks, which will be directed by Chris Wedge, the Oscar-winning director of Ice Age and Epic.

In closing, it was a pivotal quarter for Viacom in which our consistent investment in great content ultimately fueled strong top and bottom line growth. In fiscal 2013, we are investing more than ever in new content, more than $3 billion for our networks in total. Our networks are bringing more and more original content to their screens, resulting in ratings momentum and healthy growth in our principal revenue stream. Paramount Pictures presented 2 successful summer tentpoles and looks to fiscal 2014 with a promising slate.

We remain steadfastly committed to delivering value and are very pleased to be returning even more capital to our shareholders.

Thank you. And with that, I'll turn it over to Wade.

Wade Davis

Thanks, Philippe. Before I take you through our operating results, I want to note that our earnings release and web presentation summarizing the results for our June quarter are available on our website.

Now, let's take a look at our segment results. At our Media Networks segment, revenues in the quarter were up 13% compared with the prior year, with domestic revenues up 15% and international revenues up 4%. Foreign exchange had a 2-percentage-point unfavorable impact on international revenues. The increase in revenues in the quarter was principally driven by increases in affiliate and advertising revenues. Page 10 of our web deck provides a breakdown of our Media Networks revenue performance.

Domestic advertising revenues were up 6% in the quarter, and international revenues were down 6%. The decrease in international advertising was largely driven by softness in Europe.

In terms of affiliate revenues, domestic revenues increased 28% in the quarter, while international revenues were up 16%. Excluding the impact from the timing of product available under digital distribution agreements, domestic affiliate revenues grew high single digits. Growth in international revenues was due to rate and subscriber increases, new channel launches, as well as growth in digital distribution revenue related to the timing of product availability.

Expenses increased 6% in the quarter. Within expenses, programming expense grew 5%, distribution and other expenses increased 47% and SG&A expense was up 2%. The increase in distribution and other expenses was largely driven by participation associated with a digital distribution deal. Excluding the impact from the deal, distribution and other expenses were up 5% in the quarter.

Media Networks adjusted operating income was up 24%, and the adjusted operating income margin was 45%, up approximately 390 basis points compared to the prior year. The margin increase was driven by top line growth of 13%, partially offset by 6% growth in expenses.

Moving to Filmed Entertainment. Revenues were up 15% in the quarter, principally driven to higher theatrical -- principally due to higher theatrical revenues. Page 12 of the web presentation provides a breakdown of Filmed Entertainment revenues.

Worldwide theatrical revenues increased 64%, primarily due to higher carryover revenues from the March quarter release of G.I. Joe: Retaliation, as well as higher revenues from the current quarter's releases including Star Trek Into Darkness and World War Z.

Worldwide home entertainment revenues declined 10%, reflecting lower revenues from carryover titles. Worldwide ancillary revenues increased 6%, primarily due to the sale to Disney of the distribution rights to the 4 Marvel films that we previously released theatrically.

Filmed Entertainment generated adjusted operating income of $17 million in the quarter, as compared to $46 million last year. The decline in operating income principally reflects distribution costs associated with the release of World War Z at the end of the quarter, partially offset by the benefit from the Marvel distribution rights sale.

Now touching on corporate. Expenses increased $11 million in the quarter. The increase relates to higher deferred compensation cost driven by the appreciation in our stock price. Excluding deferred compensation costs, corporate expenses were substantially flat in the quarter.

With that, I would like to turn the call over to Tom.

Thomas E. Dooley

Thanks, Wade, and good morning, everyone. I'm going to talk about our cash flow, our debt profile and the return of capital to our shareholders. And I'll also cover the seasonal factors impacting our September quarter.

For the quarter, we generated $728 million in operating free cash flow, compared to $197 million of operating free cash flow last year. Page 5 of the web deck provides components of the free cash flow.

The increase in operating free cash flow in the quarter was principally due to lower cash taxes and higher operating income, partially offset by higher working capital utilization. Cash taxes benefited from the retroactive reenactment of provisions allowing for accelerated deductions related to domestic film and TV production expense. The unfavorable working capital variance in the quarter was principally due to the timing of collections associated with product made available under a digital distribution deal.

Now turning to our debt. For the most part, it is fixed rate, with an average cost at quarter end of 4.6%. In terms of our short-term funding, to the extent we have incremental borrowings, we are funding this in the commercial paper marketplace at an annual rate of approximately 25 basis points. We had no variable rate borrowings outstanding at quarter end.

As for our leverage, we ended the quarter with $8.9 billion of debt and capital leases outstanding and $1.1 billion of cash and cash equivalents on the balance sheet. Our leverage ratio at the end of the quarter was 2.3x. At June 30, our $2.5 billion bank revolver was undrawn.

Our commitment to return capital to shareholders continued in the June quarter, as we returned a total of $834 million of capital back to our shareholders between our buyback and dividend programs. Philippe has already addressed our increased buyback authorization and our continued aggressive capital return going forward.

Now, let's turn to some of the seasonal factors impacting the remainder of the fiscal year. For fiscal 2013, we anticipate domestic affiliate revenue growth of 10%. Accordingly, in the September quarter, affiliate revenue growth will be in the high single digits. For the full year, we continue to expect high-single-digit growth rates for Media Networks programming expense. In terms of non-programming expense, we will continue to drive efficiencies throughout the organization in order to preserve and enhance our margins.

Moving on to taxes. Given the strong performance of our films overseas, we now forecast a book tax rate of 34% for 2013. As for cash taxes, due primarily to the retroactive reenactment of provisions related to film and TV product that I mentioned earlier, cash taxes will be significantly lower than book taxes for fiscal 2013. Accordingly, we see strong free cash flow growth for the year.

In summary, we are encouraged as we continue to make progress in improving our ratings and our ad sales performance. We are investing in original content, with a focus on improving those demos and dayparts that have the greatest impact on ad sales. We are also investing in our organization and our infrastructure in order to engage and monetize our audiences as they increasingly embrace consumption of our content on digital platforms. As we do this, we are gaining additional insight into our viewers, enabling us to provide unique opportunities and additional value for our advertising partners. With the increase in the size of our buyback program and our target leverage ratio, given the low capital intensity of our business and our focus on driving margins and free cash flow, Viacom continues to demonstrate a strong capital allocation discipline and a commitment to driving shareholder value.

With that, I'll turn it over to your questions.

Question-and-Answer Session

Operator

[Operator Instructions] And we'll take our first question from Doug Mitchelson with Deutsche Bank.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Philippe, with the U.S. outlook gaining visibility, can you refresh the outlook for international growth? I think, over the last few years, you've emphasized an international margin opportunity. And there's a wide variety of growth rates among the various media companies in terms of international cable networks. Where should Viacom shake out looking forward? And how do you drive that business?

Philippe P. Dauman

Doug, the -- our international networks have been hurt this year by the slow environment in Europe. We had negative ad sales growth in the quarter that just ended, although we expect that we'll turn back to positive ad sales growth in this quarter. And as we are launching new networks, which we have been doing, and turning certain networks into wholly-owned networks, we expect the performance to improve as we go forward. In the meantime, we're using this opportunity to expand our footprint and really build value for the future. There's a lot of value there, and we're building very valuable assets, really, across all continents right now.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Do you see a point where...

Thomas E. Dooley

And as the foreign markets recover, especially in Southern Europe, I think the group is very well poised to really take advantage of that and put up some very significant growth statistics.

Philippe P. Dauman

Yes. And meanwhile, we'll continue to drive affiliate revenue growth in our international footprint.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Do you see a point where international growth is actually accretive to the overall growth rate for the division?

Thomas E. Dooley

Absolutely.

Philippe P. Dauman

Absolutely.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

And then, just a clarification. The July repurchases pace was a little bit slower. And I -- you gave a lot of details around increasing the buyback. But just timing-wise, does that mean that $700 million pace isn't the right number for the September quarter in terms of the -- in other words, we're trying to figure out is it $700 million a quarter, plus $2 billion? Or is it a little less than $700 million this quarter because July was less?

Philippe P. Dauman

Well, we have a blackout period ahead of the earnings, so that accounts for the what appears to be a slower pace at the beginning of the quarter. But we -- as we discussed the last earnings call, we had budgeted for $700 million of buyback in this quarter. Obviously, today, with the announcement of the augmented buyback program, we will add $2 billion over the next several months to our normal $700 million pace for this quarter and next quarter.

Operator

And next we'll go to Alexia Quadrani with JPMorgan.

Alexia S. Quadrani - JP Morgan Chase & Co, Research Division

You've got some very favorable sort of industry trends in the back half of the calendar year now through December with a pickup in kids-oriented films and then the 2 competing video game console launches. How should that -- I mean, should that impact have an incremental sort of boost to how we should think about advertising revenues for sort of the next sort of 5 months or so?

Philippe P. Dauman

Well, certainly, we do have a favorable environment generally and a favorable environment as it relates specifically to Nickelodeon ratings. As you recall, in last year's December quarter, we had -- we were having ratings issue, so we were unable to meet demand in that we didn't have enough inventory to meet the holiday season advertising demand. So as you point out, we have more inventory to sell, as our ratings have improved. And as you correctly pointed out, particularly in the games area, there are a lot of new consoles and big games interesting kids.

Alexia S. Quadrani - JP Morgan Chase & Co, Research Division

And then when you're looking at the ratings at MTV, could you give us some color? Is there a more meaningful pickup between the sort of the standard day ratings we typically see and either the C3 or maybe even the C7 kind of data that you may get that would potentially be a benefit if we do see a change now from sort of a C3 to a sort of C7 system down the road?

Philippe P. Dauman

Well, we certainly get -- I mean, right now, we monetize C3. We certainly see, across many of our networks, a lift when you go to C3. And we've been investing in our programming in our key networks, where there are revenues to be had. So our ratings performance has improved, and MTV included. If you look at the beginning of this fourth quarter, our ratings are up year-on-year across -- pretty much across-the-board, with the exception of Nick Jr., where we strategically moved some programming off, onto Nickelodeon.

Thomas E. Dooley

Alexia, we've also had good strength, very good growth in ratings in primetime demos across certain key monetizable networks, which really helps us drive advertising sales, as the value of ratings in those times period is critical for us.

Operator

Next we'll go to Rich Greenfield with BTIG.

Richard Greenfield - BTIG, LLC, Research Division

I'm wondering -- you made this big change in where you sell your digital rights in the U.S. And I think, Philippe, you took a lot of heat for selling to Netflix originally. There was a lot of skeptics saying that, that's why Nickelodeon ratings were down. And clearly, Nickelodeon's rebounding, regardless of your digital deal. But wondering, as you look at the early data that you're seeing from Amazon, what is the actual utilization of your content look like during the current few months of this contract versus what you were seeing? I mean, Amazon appears to have far fewer streaming users than Netflix. Do you look at that kind of exposure of your content being positive, negative for -- in terms of what happens to your ratings? Just, how do you think about that dynamic? Because you obviously made the choice to sell to Amazon versus Netflix.

Philippe P. Dauman

Well, yes, we were in discussions with all players in the digital distribution universe. And we ended up with Amazon in this particular case for the content that we licensed to them because of the great dynamics of the overall deal. And to your specific question, yes, Amazon Prime today has significantly less reach than Netflix. Obviously, our content will help drive their sub numbers up, which is why they were very interested in our content. And as I mentioned in my remarks, we also like the Amazon environment in that our brands are brought out more clearly in the Amazon Prime environment than they are in the Netflix environment. But we continue to do business with Netflix around the world and expect to do so in the future. We said previously that it's hard to measure the impact on ratings, but we did look at a number of our streams, and even if you assume that it was all cannibalistic, it had a -- it would have a very modest impact on ratings. So we never thought that was a major factor. But overall, the -- we're extremely satisfied with the Amazon deal, both for monetary and nonmonetary reasons.

Richard Greenfield - BTIG, LLC, Research Division

And you can still sell content to Netflix from Nickelodeon and your other networks. You just have certain exclusivities, but we could still expect a deal from you in the U.S. for some of the Dora content and other Nickelodeon titles?

Philippe P. Dauman

Well, we have -- we do have some degrees of exclusivity. We have a lot of content available to license to all distributors concerned.

Thomas E. Dooley

Of course, as you know with your kids, kids are going to consume -- certain kids are going to consume content on tablets. And you have -- if you want your content to have a shot at being consumed, you have to have it on a tablet. So we're aggressively putting our content up on tablets through distribution partnerships and also using now the Nick app, which has been phenomenally successful, because we want kids to be able to consume our content wherever they want to consume it.

Operator

[Operator Instructions] Next we'll go to David Bank with RBC Capital Markets.

David Bank - RBC Capital Markets, LLC, Research Division

A couple of questions on the digital side. The first is, could you break out on the domestic advertising base generally, how much of your advertising revenue comes from the digital side versus the traditional -- what we call the traditional side? And then can you talk about the sequential trends in the growth of those areas? And I guess, lastly, can you talk about, are you doing anything -- or have you been doing anything over the last kind of 6 to 9 months that's been particularly different about how you monetize your digital inventory?

Philippe P. Dauman

David, yes, we don't break it out because the way we sell now, we sell multi-platform packages to our major advertisers. So when we have a campaign, that campaign, for many of our advertisers, will live across multiple platforms. And as we roll out, as Tom mentioned, apps across our different brands, that is a part of what we offer. So the distinction that used to be made between digital and so-called traditional revenues is just blurring. The same goes for the creation of content. Those lines are blurring as well organizationally within our company. We have really folded in the organization such that we talk less about the manner of distribution and focus more on how we reach consumers, both from a creative standpoint and from an engagement standpoint. So it all works together. Clearly, in terms of the sequential trend, we have been increasing our resources in presenting content, creating content and providing richer opportunities for our advertising partners to engage consumers.

Thomas E. Dooley

David, also, from a trend point of view, display in terms of its importance is going down, and video inventory is going up in value and up in volume. So that plays to our strong suit as we continue to emphasize that across our house.

David Bank - RBC Capital Markets, LLC, Research Division

And I guess, just one quick follow-up. If you think about the measurement, because as Philippe said, you're -- these are really integrated products now, are you selling the digital portion on an OCR basis? Or are these -- are there still sort of different currencies for those impressions? That's my last question.

Philippe P. Dauman

We're not participating in the OCR system, which we believe has a number of flaws, but what we are able to do, we have first-party data on our digital distribution. So we provide -- we can marry the first-party data that we have with, for example, traditional Nielsen ratings on our television screens. And increasingly, you will see the importance of first-party data growing, and as well as other third-party data sources growing. So the -- that all works to our benefit, because we have a lot of viewing that is not measured by traditional sources.

Thomas E. Dooley

David, there is an emergent currency that is growing fast in alternative currency to the industry standard.

Operator

Next we'll go to Brian Wieser with Pivotal Research.

Brian W. Wieser - Pivotal Research Group LLC

First, one follow-up on your comments around working capital and just to get a sense of, are the digital distribution deals generally featuring payment terms that are somewhat more pushed out than, I guess, your affiliate fees with conventional distributors? Semi-relatedly, have you been seeing any pushback from marketers in terms of their payment terms? Certainly have heard a lot of the noise around that with the global ad agencies. And then I'll just ask my other unrelated question to that. You mentioned the BET event. I was curious, what percentage -- or can you characterize, how much of your ad sales are in any way attached to or bundled with or otherwise assigned to traditional ad sales are paired with nontraditional marketing sales?

Philippe P. Dauman

As far as the lag between recognition of revenue from the digital deals and the payment, it's really a function of the fact that accounting...

Wade Davis

Syndication accounting takes place.

Philippe P. Dauman

Yes. So those, the accounting rules require you to record revenues associated with content when it's available and payment terms are normal. They normalize over the course of the deal, as are traditional deals. So there's no difference from a collection-of-fee standpoint as far as that goes. As far as the payments from advertisers, Wade? [indiscernible] we're doing -- we don't see an issue there from our standpoint, or in terms of collections.

Wade Davis

None whatsoever.

Philippe P. Dauman

And as far as BET Experience. BET Experience was an unusual and very successful effort on our part to have -- to turn what was the BET Awards into a multi-day experience where we had a number of concerts, stand-up comedy, panels, promotional opportunities for advertisers. So in that particular case that you cited, we had a lot of nontraditional marketing opportunities that were tied to our event. At the same time, the excitement surrounding the whole weekend experience really was a part of driving our ratings. So it just -- it provided a lot of marketing value for our television show, which made it very successful from an advertising sales standpoint.

Thomas E. Dooley

And Brian, to the extent of the classification of the revenues, the revenues that were advertising revenues or advertisers buying time in, around that event were classified as advertising. And our participation in other revenue streams were classified, for the most part, as ancillary.

Brian W. Wieser - Pivotal Research Group LLC

I get it. What I was trying to get at, I guess, is it's -- certainly as I look forward a few years, post all the changes with the agencies, it seems that one of the more important things that media owners are doing, I guess, is events like this. So just trying to get a sense of to what degree that offering more, let's use the word native, sort of marketing activities are playing out in your universe?

Philippe P. Dauman

Well, in general, integrated marketing is a huge selling point for our company. We have a lot of events. We have a lot of shows that lend themselves to in-show marketing and related marketing on social media and elsewhere. So that's been a part of what we do. And that -- and the importance of that keeps growing.

Thomas E. Dooley

A great example of that would be a car company who is at the event with their automobiles. This gives them an ability to have a physical presence tied to an advertising buy around the event. To Philippe's point, this integrated marketing concept is becoming more and more and more important and a major area of emphasis for us and other large media companies.

Philippe P. Dauman

Not to mention the fact that the marketers, our clients, love to come to these events. They really get to see our brands live with their fans. So it just creates a great sales opportunity as well.

Operator

Next we'll go to Anthony DiClemente with Barclays.

Anthony J. DiClemente - Barclays Capital, Research Division

Just a couple of questions on the longer-term financial model. I think you guys have said in the past that you expect, over the longer term, high-single-digit to low-double-digit growth in affiliate fees. I'm just wondering if you could affirm that, if you still see that, and do you think next year has a chance of achieving that level of growth, even incorporating the Amazon comp? And then I actually have a couple of quick follow-ups.

Philippe P. Dauman

Anthony, yes, we continue to see high-single-digit to low-double-digit affiliate revenue growth next year and for the foreseeable future.

Anthony J. DiClemente - Barclays Capital, Research Division

And on programming expense growth, I think, Tom, you said in your prepared comments, high-single-digit growth for fiscal '13. With all the content that you're investing in going into next year, how do you think that programming expense growth in '14 will compare to '13? Is it -- is there anything you could tell us directionally on that?

Thomas E. Dooley

Yes, we'll still be in the mid- to high-single-digit range. We're actually in the midst of budgets right now. We have good visibility on that. So we think that'll be the case.

Anthony J. DiClemente - Barclays Capital, Research Division

Okay, great. And then last one, Philippe, I mean, I feel like with each successive acceleration in the buyback program, we're sort of getting the message, this is a creeping LBO. And I just wonder, do you ever foresee a situation in the future where you took in all the public float and Viacom were not a public company? Wondering what you think about that potential at any time down the line.

Philippe P. Dauman

Yes, I'm not a long-term prognosticator in that way. I just focus on the here and now. And here and now, we believe our stock is a great value, the dynamics of our business are strong and we have a lot of financial capacity. So we are just focusing on building value and returning capital to our shareholders. So this is an opportune time, particularly given current interest rate conditions, to return even more capital to our shareholders.

Operator

Next we'll take a question from Marci Ryvicker with Wells Fargo.

Marci Ryvicker - Wells Fargo Securities, LLC, Research Division

I have 2. Obviously, the increase in your target leverage ratio and the buyback is clearly a sign of your and the board's confidence in improving trends. So just, what is giving you this confidence now? Is it due to personnel changes? Is there anything else? So that's the first question. And then the second thing is, how should we think about the mix of reality versus scripted programming at MTV? Any color on what the mix is now and how this might look over time?

Philippe P. Dauman

Marci, yes, we -- our confidence is informed by the fact that, yes, we have added a lot of programming talent in our ranks. And as we look at the lineup today and going forward, we have real programming momentum across, really, all of our networks. That gives us confidence. We've just been through a very successful upfront season, and that gives us, certainly gives us confidence as we look forward into next year. And we see good underlying dynamics. Even though many would like the growth to accelerate in the U.S. economy, we do see good dynamics there. So that gave us confidence in going back to our traditional leverage ratio. As far as MTV goes, we will continue to have a mix of reality and scripted programming. We've had really good success with the scripted programming which we introduced just a few years ago, with shows like Teen Wolf and Awkward. And as you look into next year, you will see additional scripted and reality. And as you know, at MTV, we also have a revamped programming and development team. And from what I've seen so far, there's just a lot of exciting development ahead in both genres.

Operator

And we'll take our next question from Jason Bazinet with Citi Investment Research.

Jason B. Bazinet - Citigroup Inc, Research Division

You guys have clearly taken market share in terms of ratings, but if I went back, if -- I don't remember how many quarters ago it was, 6 or something, there were some discussion about sampling anomalies or whatever with Nielsen. And so I guess my question is, as we think about the ratings improvement that you guys are showing, is it really one-dimensional and is it -- it's just better shows taking market share? Or is there another dimension that's helping you as well, with the tailwind maybe coming from sampling changes that occurred at Nielsen?

Philippe P. Dauman

We have no visibility on the -- on what Nielsen does, so we -- the only thing we have visibility on is the quality of our programming. We know that we have stepped it up in that area. And we're just at the beginning. We changed our programming team over the course of the last year, 1.5 years. And they have been working assiduously on working with new producers, new creators. And there's just an awful lot in the pipeline. So we tend to -- we try to focus on what we can control and what we have knowledge of. And whatever the measurement system, that will drive our future.

Operator

Next we'll go to Ben Swinburne with Morgan Stanley.

Benjamin Swinburne - Morgan Stanley, Research Division

I just -- I have a couple of questions going back to sort of figuring out the financial firepower of the balance sheet here. Tom, can you just remind me -- remind us specifically the leverage calculation? Are you talking gross debt? And what are the sort of contingent liabilities that the agencies include that we need to be mindful of as we think about that new leverage level going forward?

Thomas E. Dooley

Yes, the different rating agencies have different leverage calculations, what they include. We include our commitments that are visible on our -- in our disclosure, in our 10-K and 10-Q. We use gross debt, not net debt. And we feel that's somewhere in between some of the more traditional textbook definitions of leverage and some of the rating agencies'. So each rating agency has a different one, and you will have to go to them. We've been working and chatting with the rating agencies on this construct. And they will be issuing their commentary on it after this call.

Benjamin Swinburne - Morgan Stanley, Research Division

Okay. And then I think, post the $2 billion add-on, you'll be within that 2.7 to 3. So maybe you can just verify that, or if you agree or not. And going forward, beyond that, as you said you'd return to the $700 million a quarter run rate, do you plan to sort of stay within that new range, sort of at fairly strictly? And if so, should we be thinking about using any additional capacity for more buybacks as you grow the business? Or should we also be thinking about leaving some room for things like M&A and stuff?

Philippe P. Dauman

Yes, Ben, let me take that. The -- our target is the leverage ratio, so that as our -- so we are managing to that leverage ratio, which we will stick with. And as we do that, we continue to invest in our business. We -- our M&A is, continues to be very limited and very targeted, it tends to be small-bore and very additive and still gives us a lot of capacity. We expect, as we said, to continue at a comparable pace as we look forward, but what we will continue to do is to evaluate it each quarter and we -- and then we announce, as we always have, what we intend to do in the following quarter when we have these earnings calls. But our current expectation is continuing at a comparable pace, which is -- which could be at the $700 million range or it could be a different number, it could be more as our business expands, or less. It really depends on what -- it's really matching to our investment-grade leverage ratio.

Thomas E. Dooley

Ben, it's critical to note that we continue to manage this with a very keen eye on the cash flow-generation capability of Viacom. As we've demonstrated in the past in the last downturn, we dramatically de-levered the company within 12 months by applying -- by tapping into the share buyback program and diverting those resources to de-lever the company. So it's -- we understand very much how we can use the accordion of the free cash flow of the company, which is very strong, to mitigate any financial uncertainty that we see coming down the road.

Benjamin Swinburne - Morgan Stanley, Research Division

And maybe just one business question. You've talked over the years about moving away from acquired programming a bit. I think you guys bought Scandal from ABC. And I also know, or I've been reading, that The Simpsons maybe come available for cable syndication. Can you just talk about your appetite for acquired and maybe the rationale behind the Scandal acquisition?

Philippe P. Dauman

Well, the Scandal was a very well-constructed deal. We continue -- we will continue to have a mix, particularly depending on the networks, between original programming and acquired programming. In general, across our network portfolio, the mix toward original programming will increase. In the case of Scandal, it was a unique opportunity where we have the prior seasons, which will start to air actually later this month, and building up to the new season on ABC, where we will get the right to show the episodes 8 days after it's aired on the broadcast network. So it works well for them, for their marketing purposes and is just a great acquired programming buy, it really fits into the BET brand. But we'll -- we continue to look at shows that work for our networks that have been created before. But overall, when we look at our entire portfolio, we're gradually increasing the original part of the mix.

Operator

We'll take our next question from Tuna Amobi with S&P Capital IQ.

Tuna N. Amobi - S&P Capital IQ Equity Research

So for Philippe, I was very curious by your comment that the Q4 profit on the film side, much as you're expecting the 2 tentpoles to obviously be major contributors, but you alluded to the crowded tentpole summer, which we've heard more than a few times, so I was wondering how that might -- what's your philosophical thinking on that and how that kind of might affect your future release strategy around the summer? Obviously, last year, you guys were -- had a not-so-wonderful summer, and you've rebounded strongly. So I'm just kind of wondering how you'll kind of position your future films in that context? And I have a follow-up.

Philippe P. Dauman

Well, we always look at the proper dating of our films and so the dating changes as we see what our competitors do. This summer just had a particularly high volume of tentpole pictures from all the studios combined, and that's not going to recur every year. So that was -- some other studios' films were really shaken up by that, where they didn't succeed. We were fortunate that we had 2 strong tentpoles in Star Trek and World War Z that did really well, one a previous franchise, one a new franchise. So we have -- we hoped to drive the viewing of those 2 tentpoles for a longer period of time, to drive the profitability even higher. And the crowded schedule limited the run of a lot of pictures this summer, ours included.

Tuna N. Amobi - S&P Capital IQ Equity Research

Okay, that's fair enough. And separately, on the Media Network margins, how should we think about that? Obviously, you had a very major margin expansion in the quarter and I -- granted, some of that is coming from the digital distribution. But you also talked about a $3 billion in content spend, which I'm trying to connect the dots in terms of the potential impart -- impact on margins. And I guess the first thing is, in terms of that $3 billion, how much of that is kind of your kind of run rate or natural spend, as opposed to kind of an evolution of some of the factors you talked about, the blurring of the lines in content investments across your networks? So if you can all kind of put it all together to understand the context of your margins, that would be very helpful.

Thomas E. Dooley

Tuna, the $3 billion is consistent with the guidance we have given in terms of increasing the rate of change of content spend, so there's nothing new about that number. That's a number that we've had all along and the number that we've been talking about when we tell people we're going to increase in the mid-to-high single digits. So that's what's included there, that has afforded us the opportunity to dramatically expand our original content. That has been very, very successful across all the networks that we're doing it on and gives us the confidence that our ratings will continue to improve and continue to improve in timeframes, so like primetime, when we can sell that at higher revenue levels than previously. So all that is driving what I believe is a great strategy on how we invest in content, invest in programming, to drive the top line growth, which results in better margins.

Tuna N. Amobi - S&P Capital IQ Equity Research

Does the SVOD market dynamics affect your thinking in that regard, in terms of the investment, in terms of amount and type of programming?

Thomas E. Dooley

SVOD is another marketplace, that once again shows up, for the most part, on the affiliate line. And to a great extent, we believe if you make great programming, that great programming translates across all marketplaces.

Operator

We'll take that question from Drew Borst with Goldman Sachs.

Andrew Borst - Goldman Sachs Group Inc., Research Division

I wanted to ask about the potential for consolidation among cable and satellite companies domestically. And I realize you don't want to comment on your specific contracts, but I was wondering if you'd be willing to share some general thoughts about what happens to the affiliate contracts in the event of consolidation among 2 cable or 2 satellite companies. Would the contracts get folded together? Or do the 2 contracts kind of run in parallel until expiration?

Philippe P. Dauman

Well, look, as you correctly point out, it's hard to get into specifics. We have to see what the deals are, and every contract is different. So we -- what we focus on is just continuing to create great content, have great brands and provide great value to our viewers and to the distributors. And whatever the size of the distributor, we have -- we always have additional functionality and content to work with them on.

Andrew Borst - Goldman Sachs Group Inc., Research Division

Okay, and maybe one quick follow-up, if I might. Again, sorry, back on margins within the Media Networks group. I think, when you back out the digital deal, it looks like you guys are, expanded margins nicely in the quarter year-on-year. And it occurs to me, it sounds like the international margins are probably still a drag. I was wondering if you could confirm that they are kind of holding you guys back a little bit, but as things maybe pick up from a macro standpoint into next year, that, that could be a real source of opportunity?

Philippe P. Dauman

Clearly, international margins in our Media Networks business are lower than our domestic margins, but they will -- those margins, over time, will continue to grow.

Andrew Borst - Goldman Sachs Group Inc., Research Division

Yes, I just meant, Philippe, if they were compressing sort of year-on-year in the international margins because of the top line weakness.

Thomas E. Dooley

Drew, they are a drag mathematically on the overall margin. And when we get resumption of growth in the international space, they will become accretive to our margin growth.

James Bombassei

We want to thank everybody for joining us on our earnings call.

Operator

And that does conclude today's conference. We thank everyone again for their participation.

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