Comcast-NBCU and the Future of Interactive Advertising

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 |  Includes: CMCSA, DIS, GE
by: Diane Mermigas

Advertising is not a big part of the proposed merger of Comcast (NASDAQ:CMCSA) and NBCU -- yet.

It represents only about 20% of the new NBCU's total revenues, a figure the new owners intend to change. The road to revenue growth is paved with interactive ad riches -- a long, twisted path through cable, online and mobile. The big question is, how long will it take for those options to ramp up?

The new NBCU will be a top 10 provider of online content with 82 million unique monthly users to its news, women's/lifestyle, sports and entertainment sites, where revenues are minimal. Traditional advertising contributes to about half of NBCU's overall revenues, but only about 5% of Comcast's consolidated revenues.

"With advanced advertising revenues expected to exceed $4 billion over the next four years, Comcast will likely make addressable/ advanced advertising a high priority during 2010 and 2011," said Stifel Nicolaus analyst Christopher King.

The new NBCU will control about one-fifth of TV viewing in the U.S., a one-third stake in the leading online video service Hulu and full ownership of Comcast's online video service Fancast. It will provide Comcast and other cable operators with tremendous scale to roll out Project Canoe, an addressable ad program providing advanced local advertising solutions.

Trials targeting consumers by geographic location -- as well as needs and interests -- using the cable set-top box have been successful so far, supported by major marketers including Procter & Gamble (NYSE:PG) and Kraft Foods (KFT). The hope is that marketers will pay a premium for such targeted interactive connections, which they can continue to mine over time.

Critics say antitrust authorities could seek restrictions on the new NBCU's cable-broadcast monopoly in local retransmission and content carriage, plus the sale of local advertising packages.

The pressure to roll out local interactive advertising and hyper-local, news, sports and information will drive NBCU and Comcast -- its new 51% controlling owner -- further away from the static ad-dependent broadcast TV businesses.

"Comcast could have increased incentive -- promoting its multichannel services -- to move popular broadcast programming off the networks and onto its cable channels, something that has happened in the industry even without the integration of content and distribution," King said. Disney's (NYSE:DIS) decision to shift "Monday Night Football" from ABC to ESPN is one of many moves that are collectively undercutting broadcasting's foundation, he said.

Fitch Rating's 2010 predictions call for consumers to continue relying on live broadcast TV even as they shift more of their viewing online. Fitch expects at least one of the broadcast networks (most likely NBC or ABC) to convert to a cable network by 2011, which would provide a second subscription revenue stream.

One of Comcast's challenges will be addressing NBCU's legacy non-cable businesses, which are in steep decline. Earnings before corporate overhead are expected to dive 31% to $491 million in 2010 after plummeting 66% to $708 million in 2009, according to Bernstein Research analyst Steve Winoker.

By comparison, earnings from NBCU's cable networks will increase 12% to $2.2 billion and 10% to $2.4 billion in 2010, although that is half their pre-recession growth rate. With the addition of Comcast's content assets, the new NBCU's combined cable networks will generate about $3 billion in annual operating cash flow, growing at about 15% at 51% margins.

To preserve what Comcast COO calls the new company's "crown jewels," the new owners must reduce NBCU's overall expenses (heavily weighted by legacy businesses) and accelerate nascent paid content and interactive advertising revenues from online and digital mobile. Neither will happen overnight.

The NBC broadcast TV network and stations represent a sizeable portion of NBCU's $16 billion in annual operating expenses. Broadcast is expected to generate only about 8% of the new NBCU's operating cash flow, generating about one-third of the revenues.

Broadcast advertising revenues at the NBC TV Network are expected to decline to $3.5 billion (down from $4.5 billion in 2008), due to the recession, fourth-place ratings and the absence of Olympics telecasts. The Olympic Games generally boost overall income by around $700 million.

NBC-owned TV station revenues will decline 18% to $990 million this year and are not expected to rise to more than $1.1 billion annually through 2012, according to CitiGroup analyst Jason Bazinet. There is speculation that the network will operate at a loss this year, underscoring the broadcast industry's deteriorating single-income economics.

The combined cable channels will yield 82% of operating cash flow on only 40% of revenues on much less operating costs. Although the rate of growth is expected to slow, the cable networks' affiliate fees (from cable, satellite and telco providers) has increased an average annual 12% and advertising revenues 7%, the companies said.

Clearly, Comcast seeks to aggressively expand on-demand, pay wall, streaming online options and addressable advertising with cable and other content. Subscription and pay content fees already outdistance ad revenues across all media. Other cable operators also will benefit from a more rationalized online distribution model, addressable advertising and more favorable VOD release windows, observes Bernstein Research analyst Craig Moffett.

Although the weak economy will continue to slow such transitions, Park Associates forecasts that "advanced TV advertising" (including VOD, DVR and addressable commercials) could reach $130 million by late 2010 and exceed $4 billion within five years. That would comprise one-eighth of all cable, satellite and telco provider television ad revenues, Park said.

In many ways, the new NBCU will provide a snapshot of developing interactive content and ad models, and the shift away from the struggling broadcast business.

Disclosure: None