Playboy Q3 2009 Earnings Call Transcript

Playboy Enterprises, Inc. (PLA)

Q3 2009 Earnings Call

November 5, 2009 11:00 am ET

Executives

Martha Lindeman - Investor Relations

Scott N. Flanders - Chief Executive Officer

Alex L. Vaickus - Executive Vice President and President - Global Licensing

Linda G. Havard - Chief Financial Officer, Executive Vice President - Finance and Operations

Analysts

David Bank - RBC Capital Markets

Presentation

Martha Lindeman

Good morning and welcome to the third quarter 2009 conference call. If you need a copy of our press release and earnings supplement, you can look on our website at www.peiinvestor.com, or you can call Brian at 312-373-2432.

During the call today, we will be making forward-looking statements pursuant to the Safe Harbor provisions of the Securities Litigation Reform Act. These statements reflect our current beliefs and plans. They are not guaranteed and they involve risks and uncertainties that could cause our actual results to differ materially from those discussed today. We are under no obligation to update these statements.

I refer you to the Safe Harbor language in today’s release, as well as the risk factors in our securities filings which describes some of the factors that could cause our results to differ materially from today’s discussion.

During the call today, we may make reference to non-GAAP measures. Additional information, including a reconciliation to the related GAAP measures, is included in today’s earnings release.

On the call today, we have our CEO, Scott Flanders; Alex Vaickus, who was recently named Playboy’s President; and of course our Chief Financial Officer, Linda Havard. Scott will lead off for us this morning.

Scott N. Flanders

Good morning, everyone. When I started here four months ago, I knew the Playboy brand was an unusual and amazing asset. But in meeting with our partners and licensees in international markets, I have had the chance to see first-hand how truly powerful Playboy is, particularly in its global appeal.

I’ve also seen just how flexible this brand can be in terms of the products and services that can be aligned under its banner and how great an affinity it creates with consumers.

I believe that we have not yet realized the full potential of the brand. There is obvious growth potential in licensed products and particularly the location based entertainment or clubs business. But I think we can create momentum in other businesses as well.

As a first step, I am working to change the company’s culture. I am encouraging our people to more aggressive, more entrepreneurial, and more creative. I also have asked them to move out of their silos of their individual businesses and to think and act as if they operate across divisions. I am determined to create a more results oriented environment.

As part of that effort, I named Alex to the newly created position of President. This new organizational structure will more tightly integrate our businesses, creating a more collaborative work place that fosters creativity, drives growth, and not incidentally focuses on profitability.

As President of our successful licensing business, Alex has been an effective steward of the brand. He knows how to grow a business, as demonstrated by his success in turning licensing into our highest margin and most profitable business. I am confident our media business will similarly benefit from his experience and talent.

Like other companies, Playboy is working against a changing and challenging media landscape in a weak consumer economy. As a company that is a relatively small player, particularly in the publishing and TV businesses that are dominated by multi-brand companies, we also face challenges that are unique to our size and lack of scale.

I believe it is paramount that we determine what we can do best and handle the remainder through partnerships with others who can provide the expertise or volume that we need to operate as efficiently and effectively as possible.

This could mean creating joint ventures or it could mean additional outsourcing. Our options are varied and we are in conversations with a number of potential partners. I expect to have something concrete to report to you shortly.

Cost-cutting also remains a focus. Although much work has been done already, we will continue to look at opportunities to reduce overhead expense, particularly related to support functions and corporate overhead. At the same time, we want to continue to invest in the initiatives that benefit the brand and the bottom line, such as our content and creative teams.

The media businesses are all about creating and acquiring compelling content that audiences will pay to consume. This is something that we do well and that I expect will remain a core in-house competency. We have already seen a fresh new attitude begin to emerge in the magazine and the November cover of Playboy Magazine featuring Marge Simpson is a good example of that.

To help build a bridge across our businesses, I am planning to create a greenlight team that will ensure all of our content is representative of the brand in terms of quality and positioning and ideally transferable across our multiple distribution platforms.

As I have said repeatedly since joining the company, I believe that Playboy Magazine plays a critical role in supporting the brand and we will remain a magazine publisher. But we cannot continue to lose significant sums of money in this business. Two weeks ago, we told our advertisers that we will be lowering our rate base which will help reduce the magazine’s losses and Alex will give you more details on that in a minute.

I want to return the magazine to at least break-even, if not to profitability, but we will need to take even bolder steps to accomplish that goal.

In digital, the most powerful profit opportunity is our subscription pay business. This is about content but also about direct marketing, finding potential subscribers, converting them into customers, and retaining them for long periods of time.

We also plan to take advantage of new revenue streams created by social networks, including interactive games. We are working on ways to capitalize on our popularity on Facebook, where we have well over 1 million fans, the largest of any media brand.

In addition, our mobile initiatives in the Americas are gaining traction and we are encouraged by what we see.

TV was for many years the growth driver of this company. Online competition has changed this business, probably for good. But I believe that TV has a future and should remain a profitable and crucial piece of our content offerings. We are working to improve buy rates and operating margins with a particular focus on Playboy TV.

We are currently looking at ways to reposition the channel and will keep you updated on our progress.

Licensing is expected to remain our most profitable and highest margin business. In consumer products, we need to be more aggressive about finding new product lines, territories, and particularly strong licensees.

We recently met with Cody’s management to review their plans for our line of fragrances. They are a great partner -- global, experienced, creative, and marketing oriented. We will look for more of these kinds of partners who can provide the scale needed to accelerate our growth.

Our entertainment venues, our clubs, may offer the single biggest potential of all but again it’s a question of finding the right partners and getting beyond the current tight capital markets, which tend to stifle significant new investments. This will be an even greater focus for the company in the future.

We have made some important first steps but we have a lot of work ahead of us. I will turn this now over to Alex who will cover the quarter’s results and describe to you some of the specific actions we are taking in each of our operations.

Alex L. Vaickus

Thank you, Scott. On a segment income basis, third quarter 2009 results were down from last year, reflecting a roughly $14 million decline in revenues, which was almost completely offset by the significant cost savings initiatives implemented over the last 12 months.

Credit is due particularly to our media businesses in this regard, which reported combined segment income higher than last year’s results. In the entertainment group, we saw improved profits in the quarter on a lower revenue base. The top line was adversely affected by a $2 million decrease in domestic TV revenues, in part because of continuing consumer migration from our network movie services to the more competitive video on demand platform.

This is a trend you have seen over the past two years that will continue. Although we do expect the pace of the declines to slow.

Although buy rates on this platform have deteriorated, we continue to rebrand and reinvest to keep our product line fresh. We recently launched a new network that sources Internet content from top online sites, giving our TV viewers the best content the web has to offer.

At the same time, we are looking to reduce our cost structure further by consolidating networks as appropriate. We think this right-sizing of the network suite achieves needed cost reductions while also offering distributors and viewers the lineup they need.

Although we saw a decline in Playboy TV revenues this quarter, in part due to a price decrease by one of our largest distributors, the overall number of subscriptions to the network has remained stable, despite the economy. We also are getting more help from the distributors in terms of merchandising and placement, including the movement of Playboy TV on demand into the premium category adjacent to other subscription channels such as HBO and Showtime.

Distributors are increasingly recognizing the nature of Playboy TV as a mainstream premium channel and are displaying it accordingly.

As Scott mentioned, we believe that Playboy TV has a promising future, particularly as a subscription video-on-demand option. The Playboy brand offers a unique opportunity to create programming experience, and we already are at work on a development plan to establish a stronger point of difference for Playboy TV.

Historically, our international TV business has been a high margin business, in part because we are licensors as well as owner operators in some markets. And in part because we have repurposed the content created for the domestic market for use overseas.

We need to do a better job of producing the programming that will appeal to even more viewers globally, to tap into even more territories. And that will be one of the first missions of our greenlighting team.

In the third quarter, we saw an increase in other entertainment revenues, which includes our [Alto Loma] production company that benefited from the launch of Kendra reality show on E!, and from sales of The Girls Next Door into foreign markets. In October, season 6 of Girls Next Door premiered to the highest ratings of any season thus far and Kendra already has been picked up for the 2010 season.

We are working on a variety of other scripted and reality shows, including another spin-off of the Girls Next Door.

In the 2009 third quarter, the print digital group also reported higher segment income on lower revenues, reflecting a range of cost reduction activities over the past year.

With our decision to combine the July and August issues into one editorial package which was published in the second quarter, we produced only two issues of Playboy Magazine in the third quarter compared to three in the prior year. This was primarily responsible for the expected decline in circulation and advertising revenues as well as an offsetting reduction in paper, printing, and other production expenses.

Two weeks ago we announced that we will lower the rate base of the magazine effective with the January issue from our current $2.6 million to $1.5 million, a number that will result in lower advertising and circulation revenues but will save us millions in production and distribution costs.

We also will combine our January/February issues into one rich editorial package which will be recognized in the fourth quarter 2009, meaning that we will only publish two issues in the first quarter of 2010.

The print advertising market remains difficult and we expect to report a 38% decline in advertising pages in the fourth quarter. While reducing circulation and frequency will help reduce expenses, they will not push the magazine to break even, much less profitability and we are diligently looking for additional opportunities to evolve the business model with the demands of the market place while continuing to serve both readers and advertisers.

It is clear that readers, and particularly our target audience of young men, use media differently than they did years ago. We began consolidating our magazine online, mobile, and social networking operations earlier this year when we moved the editorial operations of print and digital under a single leadership. Last month we did the same for the management oversight of these businesses, another step towards more efficient consolidation.

This was another difficult quarter also for our digital business, as revenues of our large, profitable, and high margin subscription pay sites were off by nearly 20% versus the same period last year. The downturn was in part due to our focus on successfully relaunching the free site, which was completed earlier this year and the resulting lack of attention paid to traffic, conversions, and retention on our pay sites.

We have now corrected course and October results indicate that we are beginning to see a turnaround in the trend. Modest profit improvements in third quarter 2009 digital advertising, international, e-commerce, and mobile results helped to offset the pay site decline.

In licensing, third quarter revenues and segment income both declined due to the weak economy and lower royalties, particularly from our Western Europe licensees, as well as a trademark issue that we have experienced in Latin America.

We entered Latin America only a year-and-a-half ago or so and saw strong product rollout. Unfortunately, counterfeiters are quick to capitalize on our success and have sent fake product into the market. This is a brand issue that we face globally and we will be as aggressive in our pursuit of trademark infringers in Latin America as we are elsewhere.

On a quarter over quarter basis, third quarter 2009 segment income actually increased nicely over the second quarter. I believe we will see trends begin to improve and that we will record year-over-year growth in revenues and segment income in the coming fourth quarter.

Let me share with you some reasons for my optimism.

In June, we completed the first year of our partnership with Cody, which has been a tremendous success for both companies. Sales exceeded targets and the fragrances have earned a strong market share, particularly in Western European markets where the rollout was accompanied by an effective TV campaign. In both Italy and Germany, Playboy fragrances are market leaders. Sales are continuing to trend nicely, including repeat purchase rates and Cody is working on the launch of another variant of the men’s fragrance, as well as additional men’s grooming products, such as bath and body products and antiperspirants, many of which are expected to launch in 2010.

We believe that Cody is well on its way to becoming one of the largest licensees and as Scott indicated, our goal is to duplicate this kind of success with other similarly strong licensees.

Despite the difficult economy, we have been hard at work putting new deals in place. We are expanding our geographic reach and recently inked a deal for apparel accessories and swimwear in India, and recently completed arrangements for the launch of the Playboy energy drink in selected areas of Asia, the Middle East, and Africa before the end of this year.

While international markets traditionally have accounted for approximately 80% of our consumer product royalties, we are also starting to gain some traction here in the U.S. once again. We recently completed a co-branding deal with Mark Echo for t-shirts and launched our line of [nutri-ceuticles] domestically to a very impressive early selling.

We are also gaining entry with some products into new U.S. distribution outlets, even some mass merchandisers. And to better serve our regional apparel and denim partners, one of our key licensees recently opened a U.S. showroom in Los Angeles.

In spite of the declines in year-to-date licensing results, the fundamentals of the licensing business remain strong. We continue to add a steady stream of new deals. Our products are in 15,000 plus doors globally. Margins remain strong and we fully believe we are well poised to resume meaningful, long-term growth in this business as the economy begins to turn around.

The 2009 fourth quarter also is expected to mark the opening of our second location based entertainment venue, which will be located in Cancun, Mexico, one of the most popular destination resort areas for both U.S. and international tourists. The 12,000 square foot Playboy Cancun will be strategically located between the hotel zone and the most populated residential area of the city. It will feature electronic gaming, a restaurant, dance floor and bars, and will showcase an international mix of DJs and live music entertainment. This integration of night life and gaming in one property is a new concept for Cancun.

Our partners are well known operators of entertainment and gaming venues in Mexico and we are confident that their experience, our brand, and the alluring Cancun location will combine to create a successful project.

We are also proceeding with plans for our first half 2010 opening of a Playboy branded property in South Beach, Miami which will include an oceanfront boutique hotel, lounge, and restaurant. It’s a terrific location and it fulfills our requirements for an entertainment venue which is that we create the right deal with the right partner in the right place.

We are also working with a number of other potential partners and we plan to increase both the pace and the number of entertainment venue agreements as the economy shows signs of a turnaround.

And now I will turn this over to Linda.

Linda G. Havard

Thanks, Alex. Good morning, everyone. In the 2009 third quarter, we reported corporate expense of $5.5 million. This was up $900,000 from $4.6 million in the prior year period.

Cost savings measures that we undertook during 2008 and into this year were masked by a favorable adjustment in last year’s third quarter that was related to the performance of our deferred compensation plans. That plan was terminated earlier this year, so we won't see any impact going forward.

Last year’s third quarter corporate number also reflected higher cost recoveries from mansion functions than in the 2009 third quarter.

Below the segment income line, we reported $0.5 million of restructuring expenses this quarter, largely as a result of closing our New York office. We indicated on our second quarter conference call that we expect to record modest quarterly restructuring charges through the remaining term of the New York lease. The good news is that we are beginning to see some interest in our Fifth Avenue space.

For the third quarter, we reported adjusted EBITDA of $6.8 million. That was up from $6.1 million last year. Traditional EBITDA, unadjusted for cash programming investments and TV, was also higher in the current year quarter at $11.5 million versus $7.6 million last year.

We ended the quarter in a strong cash position, with approximately $27 million in cash and equivalents. That is slightly higher than at June 30th and very consistent with where we were last year at the same time. In addition, we have no revolver borrowings.

And now I will turn you back to Scott.

Scott N. Flanders

Thanks, Linda. I appreciate that many of you are eager to hear specific numerical targets related to our future. I am not prepared to do that today. We are still working on our 2010 budget and there are lots of moving pieces related to agreements that are in development. I can't give you quantifiable goals but you can hold me accountable for accomplishing three things in the near term -- one, creation of a corporate culture that engenders a greater sense of urgency in our drive for profitability; two, announcement of a partnership or joint venture that demonstrates my underlying philosophy regarding the development of a new business model; three, completion of additional cost-cutting initiatives. The next time we speak, I will give you more information on both my strategic plans and our outlook for 2010.

Now let me open this to questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question will come from David Bank from RBC Capital Markets.

David Bank - RBC Capital Markets

Thank you. Good morning and thanks for all the color. A couple of questions -- first off, can you talk about -- I guess for the second time we are seeing the compression of two issues into one issue where I think we saw August/July becoming one issue and now it looks like we are going to see January/February become one issue. Can you actually quantify what you expect to save from an OI perspective this time around, given the experience you just had by compressing the two issues? And is there a signal here that if this is such a good strategy, why don’t we kind of just do it all the time?

The second question is if you -- you said that the girls next door premiered to I think the highest ratings that it’s ever premiered to in its sixth season. How is it holding up and what is going on with rating trends in the property? What does it tell you about the strength of the brand?

And I guess the last question is I appreciate your limited ability to give us more quantifiable targets but can you give us a quantifiable target on when you will give us quantifiable targets? So I guess a kind of timeframe in which we expect to hear more quantifiable targets. Thank you for all the questions.

Scott N. Flanders

Thanks, David. On the -- starting with the magazine question, about $1 million was save in the July/August issue as reductions in manufacturing and shipping expense were partially offset by higher editorial costs than we would have with just one standard monthly magazine. But -- and it was successful enough and received positively enough by our readership that we determined to do this again. But there is a -- there’s some offsetting factors that we have consider if we were to evaluate doing so on say a moving to a six times per year publishing cycle. And that is you have the risk of losing newsstand presence and not being able to deliver a consistent reach and frequency to the advertiser base and also our subscribers over more than 50 years have come to expect a monthly issue of Playboy arriving in their mailboxes.

And so I believe that we are unlikely to reduce frequency beyond 10 times per year.

With respect to the TV question, I’ll punt to Alex.

Alex L. Vaickus

David, as we said, the ratings for the first episode of girls next door this year was the highest of any of the seasons. As with most series, the numbers actually come down a little bit as the season progresses but they still remain pretty strong for us and what we think really shows the strength of the franchise is the fact that Kendra has already been picked up for a second season and we’ve got another show that’s a spin-off of the original Girls Next Door in development. So it continues to be we think a strong and ongoing concept for us.

Scott N. Flanders

And the timing will be before year-end.

David Bank - RBC Capital Markets

Okay. All right, thank you very much, guys.

Operator

(Operator Instructions) It appears that we have no further questions at this time.

Martha Lindeman

Thank you all for joining us this morning and we look forward to talking to you before year-and and telling you a little more about our plan. Have a good day.

Operator

This does conclude today’s teleconference. Thank you for your participation. You may disconnect at any time and have a wonderful day.

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Comments

[Talavera:]

So much hype for this loser stock PLA.

Nov 25 11:06 PM