Doug Shapiro - SVP, IR
Jeff Bewkes - Chairman & CEO
John Martin - EVP & CFO
Spencer Wang - Credit Suisse
Michael Morris - UBS
Ben Swinburne - Morgan Stanley
Rich Greenfield - Pali Capital
Michael Nathanson - Bernstein Research
Tuna Amobi - Standard & Poor's Equity Group
Doug Mitchelson - Deutsche Bank
Alan Gould - Soleil Securities
Time Warner Inc (TWX) Q4 2009 Earnings Call February 3, 2010 10:30 AM ET
Hello and welcome to the Time Warner's Fourth Quarter and full year 2009 earnings call. At this time all participants are in a listen-only mode. (Operator Instructions). Today's conference call is being recorded. If you have any objections you may disconnect at this time.
I will now turn the call over to Doug Shapiro, Senior Vice President of Investor Relations. Sir, you may begin.
Thanks a lot and welcome to Time Warner's 2009 fourth quarter and full year earnings conference call.
Before we begin, there are several items I need to cover. First, we refer to certain non-GAAP financial measures. Schedules setting out reconciliations of the historical non-GAAP financial measures to the most directly comparable GAAP measures are included in our earnings release, and trending schedules. These reconciliations are available on our website at timewarner.com/investors. The reconciliations of our expected future financial performance are also included our website.
Second, today's announcement includes certain forward-looking statements which are based on management's current expectations. Actual results may vary materially from those expressed or implied by these statements due to various factors. These factors are discussed in detail in Time Warner's SEC filings, including its most recent annual report on Form 10-K and further reports on Form 10-Q. Time Warner is under no obligation, and in fact, expressly disclaims any obligation to update or alter its forward-looking statements, whether as a result of new information, future events or otherwise.
Lastly, just please keep in mind that the company has presented the operating results for Time Warner Cable and AOL as discontinued operations for all periods presented.
With that let me turn the call over to Jeff.
Thanks, Doug. Good morning everyone and thanks for joining us. We began 2009 with an ambitious agenda and we achieved what we set out to do. So as a result, Time Warner is better positioned today than ever. We've got strong operational and financial momentum and there is increasing evidence that industry trends are going our way.
And now I think we are structured to run our businesses more aggressively than ever. We delivered very strong adjusted earnings per share growth last year despite the worst recession in most of our lives. Our Networks and Film businesses posted record profits driven largely by the strength of our content and that performance underscores two things that we have discussed before.
Demand is growing with the kind of high quality contents that we make as consumers enjoy more choices, it also shows how our unique combination of scale, brands and talent enables us to institutionalize success in hit-driven businesses.
In 2009, we approved the efficiency and productivity of businesses by reallocating resources. We substantially raised our investment in programming and production, and that's critical to drive our revenue and extend our competitive position, and we still increase margins by significantly reducing overhead expense.
While we're doing that, we strengthened our balance sheet last year as well while doubling our return of capital to shareholders. Free cash flow totaled almost $3 billion and we returned over $2 billion of that or more than 70% to our shareholders through dividends and share repurchases.
We also spun off Time Warner Cable and AOL, and that allowed us to focus all our energy in resources on what we do best, making and distributing the most compelling branded content on traditional and emerging platforms and monetizing it better than anyone else. In 2010 and beyond, we will build on this foundation.
As you saw in this morning's outlook release, we expect to grow our adjusted EPS mid-teens in 2010. We will do that by executing even more aggressively on the four operational priorities that I've discussed with you before. The first is leveraging our scale and brands to create the highest quality content and monetize it better than anyone else.
Second, make our operations more efficient by allocating resources to the best and most productive use. Third, we're going to keep expanding internationally. And fourth, we're developing new business models that capitalize on changes in consumer usage and technology well at the same time ensuring when possible that they are additive and not cannibalistic, we are going to talk more about that.
In practice this means that we will again spend more on programming and production in 2010. We will invest more in new digital initiatives and extend our brands internationally and we will do that while keeping our overall expenses relatively flat.
And I'd like to expand on what that means at each of our four divisions. So I'll start with Turner. We made considerable investments in original programming last year to make sure that our networks become even more attractive for our viewers our advertisers and our affiliates. We had a lot of successes. Last year TNT's original drama [screwed] ratings in the same times last five, over 50% over the prior year. And three of its new original series ranked in cables top 5.
Just to pick one of them TBS debuted the well past Tonight Show to double digit gain in its time slot and in its first few weeks it out delivered most other late night talk shows in the valuable 18 to 34 demo.
However, not every new original or acquired theories worked or connected with viewers as much as we would have like. We are making changes where necessary and remain confident as we have been that will attract growing audience or over the long term.
In 2010, just to give you view of that we will bring back kid shows like The Closer and leverage the TNT, while developing new original drama, such as the new series from Steven Spielberg and George Clooney. We will also expand our original programming lineup on TBS. I'd like to point out that we expect our entertainment networks to grow ad revenue for the year, even without a major rebound in rating trends which we will be working to do it well.
At CNN, we invest tremendous resources on news gathering to deliver the most comprehensive non-partisan news and analysis in the industry and do it across all platforms. If you've watched CNN during the tragedy in Haiti, you know that the depth and breadth of our coverage is unparallel.
CNN's ratings vary depending on the news environment. We typically outperform our pierce significantly during major news events as more people turn to CNN than anywhere else. And we have lower ratings when the news cycle is slow. But CNN's position as the premium, biggest-reach, multi-platform brand in the news business enables us to consistently command premium pricing from advertisers.
In fact, despite of ratings declines this last year compared to the record performance in the 2008 election year, CNN again grew its profits by double digits in 2009. This year we expect another year of strong profit growth at CNN.
HBO, the performance at HBO last year illustrates that its value proposition has never been better. It aired four of the six highest rated shows in its entire history and it grew its subscriber base for the year despite the recession. This year HBO is bringing back the next season of our highest rated shows, including True Blood, Entourage, Hung and Big Love.
Well to view The Pacific, the highly anticipated mini series from Steven Spielberg and Tom Hanks, that's the companion to Band of Brothers and we will premier Martin Scorsese's Boardwalk Empire which is poised to be HBO's next breakout kids show.
Both, Turner and HBO will keep expanding internationally this year too. Turner's international business currently operates more than 100 feeds across 200 countries. We will expand organically by launching new feeds in new markets and adding new distributors. We will also make acquisitions where it makes sense. For example we recently agreed to acquire NDTV Imagine which is a general entertainment network in India. It will significantly increase our presence and scale in that region.
HBO has over 33 million subscribers internationally. That's at HBO Latin America, HBO Asia and HBO Central Europe. And it's the leading pay-TV provider in each of these markets. We plan to extend this lead as we rollout new features like On Demand.
Altogether we expect our international cable networks business and related content sales to generate more than $400 million of adjusted OIBDA in 2010. And they are set to grow even faster than our domestic networks. In TV, as in film and magazines we are leading the charge to develop digital business models that enhance the value of our content, both for us and for consumers.
In 2010, both Turner and HBO will continue to pioneer the industry-wide 'TV Everywhere' initiative which is basically TV On Demand and on broadband. Turner will be in trials or commercial launch with every major distributor this year, cable satellite and telco and you will soon hear more about HBO's rollout of its streaming service [HBO.com] which will offer three times the content of what's on HBO On Demand today.
Now let's move over to our studio. Warner Bros performed phenomenally last year too, shattering records everywhere it turns. It broke the all-time global box-office record with more than $4 billion in sales. Seven films crossed the $100 million mark domestic box-office in 2009, that's also a record, including the latest in the Harry Potter franchise, Sherlock Holmes, The Blind Side and The Hangover. The Hangover was the best selling R-rated comedy ever at the box-office and on home video.
Even with declines in the home video category industry wide, this performance helped power Warner Brothers to its most profitable year ever, roughly $1.5 billion in adjusted EBITDA and even after a record 2009 slate, we are very optimistic about this year's film slate. 10 fall releases include the seventh Harry Potter, Sex and the City 2, Inception a film from Christopher Nolan who directed the Dark Knight, Due Date from Todd Phillips who gave us the Hangover, Clash of the Titans and Guardians of Ga'hoole which is a 3-D CGI film based on the popular Young Adults books series.
In the next few months, you'll also hear more about our plans to mine more aggressively the deep catalogue of DC Comics characters across Warner Brothers' theatrical, home video, TV and games divisions and across our other divisions as well.
Turning to the television production business, very important business. As you may know, in most years, Warner TV production contributes as much as half the profits in our filmed entertainment division. This year, Warner will continue to develop and foster the relationships with A-list writers and directors that's made us the number one provider of broadcast TV programming for 18 of the past 23 years. And that's enabled us to produce hits like Two and a Half Men and Big Bang Theory which are the two top comedies on TV right now.
We see encouraging secular dynamics this year and over the next several years. With recent signs that broadcasters may be able to secure our cash carriage fees and NBC’s recent decision to resume broadcasting scripted programming at 10 PM and the robust marketplace for both original and off network programming on cable, demand for high quality scripted programming seems to be going up, and that is right in Warner TV's sweet spot.
Last year, we parlayed our leading position at the box office and on TV into the number one share in the home video business for the ninth consecutive year, that included Warner's being number one in every category, standard definition, Blu-ray high def, VOD and electronic sell-through.
In 2010, we'll continue to lead the transition of the home video business to digital, which carries higher gross profits for us than physical DVDs. We're also actively working with distributors to make sure that we can offer consumers convenience and a compelling value proposition while ensuring that we're appropriately compensated for our intellectual property.
Overall, due to the strength in our film slate, our expectations for another strong year in TV production and our progress in home video business, we believe that Warner Bros is set to deliver another year of very strong profits coming up in 2010.
On to Time Inc, we recently announced that we and several other publishers have formed a consortium to develop common technology standards for reading print content on tablets and on other e-reader devices.
We view these devices as a key way to transition the dual revenue stream print business model to digital. And as these readers grow in popularity, they are proving that consumers will pay for quality content and these readers enhance the kind of content that we can deliver. And as they improve functionality, they hold increasing promise as an advertising medium.
Just as in our TV and Film business, we intend to lead the way in determining how digital business models evolve here too. Operationally, Time Inc. faced pretty challenging advertising climate last year, but there were clear signs of improvement in the fourth quarter. And testifying to the strength of Times content and brands, in 2009, Time Inc. grew its share of advertising and grew its share of readership.
This year Time Inc. will continue to reduce its cost structure. The restructuring that we undertook in the fourth quarter should generate about a $100 million in savings on a run-rate basis in 2010 and years after and at the same time, that we are building that in, Time Inc. will continue to distance itself from its competitors by investing in its biggest brands and in high quality editorial content.
Now John, in a minute will talk more to you about our financial performance in 2009 and our plans for 2010 and our balance sheet. But before I hand it off to John, I would like to touch on how we're approaching our capital management this year.
Philosophically, I think one of our most important jobs is to actively manage our capital to enhance the organic returns of our businesses and maintain a strong balance sheet as we go on. In line with this goal, our Board increased our dividend and authorized an increase in our remaining stock repurchase authorization to $3 billion.
As a result, we now provide by far the highest dividend payout ratio and the highest yield of any of our peers in media and we are on pace to return even more capital in 2010 than we did last year. These steps reflect our confidence in the future of high quality content over the long term, confidence in our strategic and competitive position, and confidence that we can deliver steady superior returns to stockholders year by year and over the long term.
We think that the more you know about today's Time Warner, the more you will share this confidence and we are looking forward to talking more with you about this in detail across each of our businesses at our Investor Day that we have scheduled in late May. We will be sending out details soon. With that I'd like to turn the call over to John.
Thanks Jeff, and good morning, everyone. And let me begin by saying that there are slides that are now available on our website to help you follow along with my comments. And beginning on the first slide you will see some brief highlights and observations, some of which Jeff has made already. Despite the difficult environment we had a number of important financial achievements in 2009 and we did accomplish all of our objectives.
First, we delivered strong financial performance, next we completed the spins of both Time Warner Cable and AOL and further we maintained a very strong balance sheet while both investing fully in our businesses and increasing direct returns to shareholders.
Our fourth quarter results allowed us to deliver adjusted EPS of $1.83 for the year and that compares to our full year adjusted EPS outlook of at least $1.75. This EPS figure was also a significant improvement over 2008.
We also continue to generate significant levels of free cash flow with a very high full-year conversion ratio of 50% of adjusted OIBDA. And this enabled us to return $2.1 billion to shareholders through both dividends and share repurchases and that represented over 70% of our precash.
And as Jeff mentioned our board authorized both an increase in the annual dividend to $0.85 a share and an increase in our remaining share-repurchase program to about $3 billion. And as we look ahead we are very, very encouraged by both, improving macroeconomic trends and the strong competitive positions of our businesses and we intend to maintain the leadership positions by further improving our operating efficiency and by allocating resources towards areas of higher growth and better returns.
This year, we'll use our balance sheet strength to fund even more investment in our businesses, we'll improve our capital efficiency and we are on course to return even more capital directly to shareholders. This is all reflected in this morning's outlook.
This next slide shows our consolidated fourth quarter and full year financial highlights. Fourth quarter revenues increased 2% as higher content and subscription revenues more than offset an 8% decline in advertising revenues. And while advertising was down for the quarter, this did represent a sequential improvement from the 10% drop in the third quarter of 2009 and it did represent the smallest decline that we saw for the entire year.
It's also the first quarter of overall revenue growth since the second quarter of 2008, so we are quite pleased with that. Adjusted OIBDA was up very nicely in the fourth quarter and our film studio was a big driver of the growth. Now you do see some pretty large year-over-year profit growth variances in our fourth quarter reported results, please remember that in last year's fourth quarter, we incurred an approximately $270 million of legal charge related to the sale of our winter sports teams.
Over the course of the past year, we have talked to you also about the impact that we've experienced from higher pension expenses as well as unfavorable foreign currency exchange rates and the impact that those have had on our results. For the full year, pension and FX taken together were at almost 600 basis points drag on our adjusted or EBITDA growth.
Operating expenses which include cost to revenues and SG&A fell by an approximately $1 billion last year for the full year. Margins climbed more than 200 basis points and were higher at three out of our four operating divisions. This reflects our continued cost efforts across the entire company. Full year adjusted EPS was up almost 30% over the year ago results.
And now let me turn to our segment highlights and we are going to begin with a discussion of our networks. We did have another very strong year at both HBO and Turner and they each recorded their highest annual profits ever. The Network segment represented nearly 60% of the company's profits in the quarter and almost 70% of the profits for the full year. Adjusted OIBDA grew 29% in the quarter and 15% for the year and keep in mind these comparisons reflect the legal charge from a year ago that I just mentioned. And in this year they also reflect a $100 million programming write down at Turner and the consolidation of HBO Latin America.
Now let me briefly expand on the programming write down for a moment. This was a management decision to take one show off the programming schedule and while programming decisions like this are an ongoing way of doing business here, we don't anticipate incurring anymore write downs of anything close to this size for the foreseeable future.
As expected advertising revenue declined modestly in the quarter at the networks that were down 4% and although the [scatter] market was very strong for us the decline resulted from difficult comparisons at our news division and as against last year's US Presidential election as well as the impact of lower CPMs in the 2009, 2010 upfront
and to a lesser extent lower ratings of the domestic entertainment networks.
Looking at the first quarter, scatter pricing is very much above upfront levels. We expect the advertising revenues of the networks to be up in the first quarter compared to the first quarter of 2009 and that's despite continued top comparison with CNN against the inauguration in last year. Subscription revenue growth of 11% in the quarter and 10% for the full year reflected a consolidation of HBO Latin America and rate increases at both Turner and HBO. And as Jeff mentioned HBO finished the year with its highest year end domestic subscriber base ever. The decline in content revenue for the quarter was due to lower video and syndication revenue at HBO's original programming including Sex and the City and The Sopranos.
Looking ahead we are very optimistic that HBO's slate of original programming will beat to growth in content revenue and that's going to begin this year.
Before I move on I do want to note as Jeff said that we did recently agree to apply a majority stake in NDTV Imagine, it's one of the leading general entertainment networks in India. India is a country where we see significant opportunity in the coming years and as Jeff described NDTV should help our competitive position their significantly. For 2010 however, NDTV is expected to be a drag in OIBDA profits of about $40 million that was standing matter and despite this we anticipate our international cable networks will be a driver of growth in 2010 as we anticipate that markets to improve
Moving over to film, Warner Brothers had and absolutely amazing year setting a record for full year profits. This was the seventh straight quarter of adjusted OIBDA growth at our films entertainment division. Adjusted OIBDA lost 41% in the fourth quarter driven by the successful home video releases of Harry Potter and The Half-Blood Prince and The Hangover and the strong theatrical performances of the Blind Side and Sherlock Holmes.
Our games business within that division was also contributed to growth in the quarter and we expect to continue in the coming years. Games now generates for us over $500 million annually in revenue and it has helped the margins.
Thanks to our continued efforts to streamline costs, margins climbed over 200 basis points for the year and heading into this year we have no doubt, we don't doubt our difficult comparisons in this division against the very strong performance last year just to point out a couple of things. One item affecting on 2010 comparisons would be the impact of our decision to self distribute New Line Films overseas instead of pre-selling the rights which is what New Line used to do.
This should enable us to realize increased profits overtime but for timing and accounting reasons its going to result in a drag of more than a $100 million on OIBDA this year. In addition, 2009's results included approximately $75 million of combined benefits related to [accrual] of participation expense in the resolution of an international tax matter and we wouldn't anticipate similar benefits to recur in 2010.
Now having said all of that and despite this, let me reiterate what Jeff said which is that we do expect Warner Brothers to once again deliver very, very strong corporate levels again in 2010 and here is why. First, we are optimistic about the strength and the quality of the films late this year. Second, while we expect sales of standard definition DVDs to remain somewhat challenged, we expect continued growth of higher margin Blu-ray, VOD and electronic sell-through to help offset this pressure.
And we will be releasing a greater number of titles into home video this year. And lastly, we expect our TV business to have another very, very strong year in 2010 helped by a growing TV syndication pipeline.
We really didn't have any significant new availabilities of syndicated programming last year in 2009, but we will have several in 2010 including Two and a Half Men on Cable, New Adventures of Old Christine, The Closer, and Supernatural and will also continue to take a hard line on costs in this division.
Looking at our Publishing division on the next slide. Time Inc's fourth quarter was affected by the tough ad environment, with advertising down 12% in the quarter. This did represent however, a significant sequential improvement rather in year-over-year trends. Domestic advertising revenues were down 9%, and most of this decline was due to fewer ad pages with ad rates down only in the low single digits.
As you know Time Inc's domestic magazines are operated in three units, and just wanted to note that the Style and Entertainment unit was our strongest performer in the fourth quarter with revenue growth that People Magazine helping keep ad revenue for the Group essentially flat. Most of the advertising softness in the quarter was concentrated in our News segment.
Looking ahead to the first quarter, print advertising trends have improved, and that's relative to the fourth quarter and has been largely driven by higher volumes. Our Style and Entertainment Group remains our strongest performer and is tracking up solidly for the quarter. We also saw a sequential improvement in subscription trends in the fourth quarter and that was primarily at newsstand.
Although subscription renewal rates improved in the last few quarter's, our year-over-year growth rates are still being affected by the lower renewals at the height of the credit crisis in the fourth quarter of 2008, and the first quarter of 2009. Adjusted with our publishing unit increased 27% in the quarter, as lower revenues and higher pension cost were more than offset by cost savings initiatives and lower restructuring charges. On the cost side of the equation, we expect as Jeff mentioned that the restructurings that we took last year should generate about $100 million of cost savings this year.
Turning next to our 2010 outlook on the next slide. Overall, we expect to return to revenue growth in 2010 due to an improve ad environment steady and healthy subscription revenue trends and a promising content (inaudible). We will increase investments in programming and production will drive our growth this year and over the long term.
Channel fund these increased investments in this businesses will remain focused on containing overhead expenses and that should definitely benefit operating margins, this is all reflected in the outlook we released this morning and as you saw on the release we expect full year adjusted [OIBDA] increase in the mid teams over the base of $1.83.
From modeling purposes let me just add that we do expect our booked tax rate to move back up to closer to the 38% range. And it's also worth noting that beginning in the first quarter of this year our intention is to shift away from adjusted OIBDA as being the primary and key profit measure for the company and we'll be focusing more and more on adjusted operating income.
We believe that adjusted operating income will be more meaningful metric for the company going forward and is also consisting with our increased focus on return on invested capital and [admires] the shift that we have been making and we've made internally for purposes of measuring our own performance.
Turning next to the next slide, we delivered nearly $3 billion in free cash last year and our conversion ratio was 50%. This is lower than the year ago period, we did expect that and that's as a result of higher cash taxes and fluctuations of working capital offset by lower net cash interest or cash taxes increased due to higher taxable income and the run off of tax attributes that benefited us in the past.
Recall that our capital benefit in 2008 for lower TV and film productions spending and that was due impart to writer strike that was going on. Our reduced cash interest is in principally the lower debt levels in 2009.
And I ask you to move to the last slide which just shows the [low board] of our net debt balances. We ended the year with a little over $10.5 billion in net debt, that's about half the level that we had at the beginning of 2008, and it was more or less unchanged from the end of the third quarter.
In the quarter free cash flow generation was offset by continuing returns to shareholders through our regular dividend and ongoing share repurchases. We ended the year with about $4.8 billion in cash on hand, that's a significant reduction form the $7 billion that we had as of the end of September and the reduction was principally due to the retirement of $2 billion debt maturity in November as well as our continued dividend and share buyback programs.
In 2009, we significantly enhanced our balance sheet strength and that allowed us to meet three key objectives. First, we increased investments and programming production in CapEx by more than 15%, second, we more than doubled the returns to shareholders and third, we maintain strategic flexibility. As we look ahead, our philosophy on balance sheet management has not changed, and will not change, but our objectives will evolve somewhat.
In 2010, we intend to invest even more in our businesses to bolster their competitive position and drive long terms growth. At the same time, we'll improve the efficiency of the balance sheet through further reduction of cash balances and by carefully managing our debt maturities and we are making a great commitment to provide direct returns to stock holders. This is evident in the boards' decision to raise the dividend and increase the share repurchase program. We also believe it's important to maintain strategic flexibility and now that we have complete the AOL separation, our leverage ratio was about two times and that's closer to our long term target of about 2.5 times.
We plan to maintain as long term leverage target at the 2.5 times level as we believe a strong balance sheet is a competitive advantage. So that concludes my remarks. Thanks for listening and I will turn it over to Doug who will start the Q&A portion.
Hey (inaudible) please get started with the Q&A and ask them to please limit themselves to no more than one or two questions so we can get to as many people as possible. Thank you.
(Operator Instructions). Or first question comes from the line of Spencer Wang from Credit Suisse.
Spencer Wang - Credit Suisse
I have a two part question on cable networks. Jeff you talked about managing the businesses more aggressively and I know some of your peers have been more aggressive than you on growing affiliate rates. So I was interested in your view on or philosophy on affiliate rate growth for the Turner Networks and what leverage do you have to bring to bear in negotiations with the distributors. And then for John, just on the cable margins, given the investment in programming you talked about, should we expect cable margins to be up in 2010 excluding the programming write-down in the fourth quarter. Thank you.
We have been planned to be as aggressive as possible on affiliate rates. The outlook for affiliate position at both HBO and Turner are pretty strong and has been strong and I think you have to look at comparisons on any year-to-year basis depends on where somebody starts at and if they have lower base rates, they are in a bit of a different situation. We basically have the strongest suite of networks across HBO and Turner in the television world and majority of our revenue under both HBO and Turner is under multi-year contracts with built in escalators.
Our strategy as we've been discussing has been to invest heavily to make the networks compelling value propositions. I think that's equally true of HBO as Turner. Turner with the strength in programming and its reach across CNN Headline, truTV, Cartoon Network, TNT and TBS is in a very good position to capture the economic upside, let's say as all those networks become more important and reach and the success of their programming continues to be successful.
So, we are very confident about our rate moves going forward including in relation to competition and we do think that the moves towards TV everywhere will simply support the growth in affiliate fee revenue as well.
Hey Spencer, it's John. Getting to your second question, we've been talking now for sometime about an ongoing program towards management of the network group that would consider margin improvement as a way of an ongoing program for architecture. We did experience nice margin improvements this year and not withstanding the fact that we anticipate increasing our investment programming which we think is critically important.
The order of magnitude of that increase is not going to be overwhelmingly significant and we're going to continue to try to reallocate funds from SG&A or overhead to be able to fund the programming investments and while we don't have a crystal ball exactly to what the advertising environment is going to do because that obviously will ultimately effect margins, we would anticipate that the trends that we've been seeing in the business which has been margin increases should continue.
And our next question comes from the line of Michael Morris of UBS. Michael, you may proceed.
Michael Morris - UBS
Follow-up on network since specifically at HBO, can you talk a bit more about the revenue growth profile at HBO? And specifically I believe I understand where you are on subscriptions currently, but you have new initiatives, HBO goes streaming service. Will those be incremental revenue streams for you? And I am particularly thinking about your investment in Content. So, if you up your investment in Content, but additional subscribers in the traditional model don't give you incremental revenue, how is that economically accretive for you beyond just additional DVD sales for example? Thanks.
Let to subscriptions first and put the Content on top. So basically as you look at when you can do history or the current feature at HBO, every time you put an enhancement multiplex, then VOD, then high def and now HBO going broadband, you strengthen the consumer satisfaction usage and demand for HBO and you support the ability of the entire distribution structure to appropriately capture that whether they do it in across the base pricing or whether they do it in some other form of price capture. So from a consumer point of view, we think it's important and has increased the strength and position of HBO that consumers get all these enhancements without discrete charges for certain aspects of HBO.
What that then translates to is very strong pricing power for HBO at the affiliate level and if you look right now, this year or last year '09, 2010, will be same. Very strong sub growth and pricing and marketing growth of HBO through telcos who understand the power of what premium can do.
And I think cable operators are going to refocus their efforts on premium TV categories and putting out these enhancements in order to remain competitive. So what it all translates to is very strong, across-the-board revenue growth for HBO, both subscriber growth and pricing growth at wholesale.
What you then do is take the platform that provides to create an ever larger budget for original programming, which you see in HBO's current slate, and it turns it into a successful, it will be The Pacific, Boardwalk Empire, Hung, True Blood, et cetera which will then resume a long-term growth in content revenue. So the overall architecture is a fairly powerful one.
The only thing I would add, I think the beginning part of your question was directed at revenue, HBO has historically and should continue to be able to produce sort of topline revenue growth in the mid-single digits. The biggest variation to that is content revenue, which had been declining over the past few years because of the pipeline of original programming.
I said in that my remarks, content revenue is expected to be up in 2010 and we think that that's the beginning of what we hope is a sustainable trend, and then due to really, really terrific management of investment spending and costs in general, generally speaking HBO has experienced margin enhancement year-after-year-after-year and we would expect that to continue.
Our next question comes from the line of Ben Swinburne of Morgan Stanley.
Ben Swinburne - Morgan Stanley
John, you may have touched on this a little bit in your prepared remarks, but could you give us a little color on the puts and takes for cash, cash flow in 2010? I don't know if you expect cash flow conversion to go up versus the '09 50% rate? Any comments on CapEx and working capital and cash taxes would be helpful.
Jeff, on the Turner front, you talked about CNN and premium pricing on ad rates. I guess when we look at the ratings, they look like they are down quite a bit, ratings don't tell us the whole story for any cable network, particularly in the news segment. But how are you thinking about programming on CNN and the management team and the strategy there? Are you happy with the direction of the network or is there anything, any decisions you are making now to think about tweaking that model at all?
We are not providing any specific guidance as it relates to 2010 free cash flow, but having said that, I am happy to share with you some observations of expectations. The first is, and this is probably the most difficult thing for us to forecast, the specifics on working capital because they can vary quite a bit. We do have a long history I think of managing working capital very tightly and efficiently.
We don't see anything in this year that would make us assume that anything is going to change and in fact I would anticipate that the free cash flow that is being generated from our divisions is very likely going to go up even year-over-year. And what's embedded in that also, you ask specifically about CapEx, we don't have a very capital-intensive company. CapEx represents only a very, very small percentage of our overall revenue, and having said that our goal is to keep that CapEx as flat as possible this year as we have done in the past.
The one area where we do anticipate cash usage to go up is cash taxes where we are not anticipating that we are going to get as much benefit from tax planning and certain state tax law changes that we got this year. So that number could be up and overall like I said we are not giving guidance. I don't think the number is going to be materially different from where we were this year.
On the question on Turner, I think you are asking about ratings program and performance, how happy we are with our position and direction. Generally, I'm very happy with where we are competitively on all three of those. The question on ratings, let's get into, because they are not the only thing but of course they are important.
They are bit of a blunt measurement and there are number of things besides ratings that play into ad revenue and competitive position in affiliate revenue, mix of programming, how much original versus acquired in any given month or quarter, and the mix of scatter versus upfront sales did work their way into the numbers, the level of guarantees on advertising, sellout levels did vary depending how we are looking at economic trends as we saw a lot of variability this year, sponsorships and integrated ad buys online, and what part that plays which changes quarter-to-quarter depending what the programming is. And then you go through the different categories, let's take news. We had a huge year in '08, not as good as in prime time in '09, but some pretty good numbers in other parts of the schedule and a great performance in news online.
So when you take that and put it to money, ad sales and pricing with clients is pretty good and profits were very good. So of course, you would rather take all those things and add to those benefits, even higher ratings and we will work on doing that, but there is a bit of a difference in what CNN tries to do as a news service on all of its platforms 24 hours a day versus what some of our “cable news competitors” try to do.
At the end of the day we are interested, of course, in having a strong brand for the long-term and having it produce earnings more than ratings.
If you go to entertainment, basically very strong success as I tried to describe in my upfront remarks on originals. Originals are a pretty important part of the branding and the future of all these networks as they move beyond the TV, then you dial into VOD international and TV everywhere and so forth, so that kind of success with key shows and franchises at TNT and TBS and even at the Adult Swim and truTV is very positive for the long run and shows that the management is focused on the right thing.
One of the important drivers I think at least to these questions is acquired programming. It's a big part of a big reach cable network economics and so in a period like we had this fall where some of our acquired programming didn't work so well. And you may go out of money on acquired programming. So we're not totally hitting then you need to move the line up a little which we are doing. I don't think it’s significant, I am not complacent about it, but we think we know how to fix it in the case of TBS which had (inaudible) didn't work as well as we thought it will take a little longer to rotate out but I don't think it's a “structural problem” for the success at the Turner Network.
And our next question comes from the line of Rich Greenfield of Pali Capital. Rich you may proceed.
Rich Greenfield - Pali Capital
Thanks. Just wanted to follow up on a few questions; one, looking at HBO, if you’ve listened to the cable operators over the last several months, all of them are talking about the kind of a pervasive slow down in premium channel sales and whether that's HBO or Showtime or Star, I hear you on the RBOC side of growth, could you just comment on how the subscriber growth is so strong with kind of all of the multi-channel industry talking about the slowdown, where is the disconnect there, and is it mostly coming from price, et cetera, or they are actually growing HBO subs even while other subs fall off the cliff?
And then the other question, John, you are talking about keeping CapEx relatively flat but yet CapEx I think was down almost 20% year-on-year, wondering what actually drove that CapEx decline of 20% and is there any reason why CapEx should be at the $500 million to $600 million level versus $400 million or $500 million. What's actually in there that's keeping that number even at that level, given the lack of capital intensity of your business? Thanks.
Good question, I think you had a lot of the answer in the question for HBO. Basically it was net growth overall when you count all the distributors, most of the growth was in telco, there are some strong cable MSO performances too, but there were some fairly under performing cable affiliates, I am not going to call them out, they know who they are, and they will probably decide that it’s in their interest to start getting the benefits there our other distributors are getting out of focusing on premium.
So basically, it’s working at HBO in terms of subs. We haven't seen -- I think you have actually heard more chatter about premium softness, than has actually happened even in the cable side. Or if it’s happened, it’s happened to our competitors not to HBO.
On the CapEx question, being down year-over-year didn't come naturally, it literally came from hard management and it is a level, a new level that we are going to measure our performance against going forward and that's the level that I am saying we ought to be able to keep as close to flat as possible.
As far as what's in that number, and it's in $500 million, $600 million range, it's a lot of money being put towards technology. Remember at our Turner networks, we are supporting a global news gathering operation. And as Jeff said a 100 feeds reaching 200 countries, I mean it's a very, very big global business, and we also have capital each year that we set aside to support expansion in our businesses. We have to find places for people to sit, buildings and so on and so forth.
But beyond that there isn't any one or two huge numbers, it’s just comprised of a bunch of little things that add up.
Can we get the next question please?
And our next question comes from the line of Michael Nathanson from Bernstein Research. Michael, you may proceed.
Michael Nathanson - Bernstein Research
Thanks. I have a couple for John on advertising at Turner. John, in the past you have helped us to mention the change in growth rates between news entertainment and between domestic and international. I wonder if you could shed some light on what's going on between all those different buckets at Turner in fourth quarter.
Sure. In the fourth quarter, as we said, we reported down 4%. The biggest contributor to the decline was in news and the biggest contributor there was in domestic news and that represented somewhere around half the decline. Domestic entertainment and kids taken together actually in the quarter was down very modestly, and there was somewhat of a moderation of the declines in international. Remember that through the first three quarters of the year, international was pacing behind where domestic was. International in part helped by FX rebounded a little bit in the fourth quarter was actually up a little bit.
Looking into the first quarter and again it’s still early in the quarter, we caveat that, but as we said, we are seeing improved trends virtually across the board.
We're seeing, we think domestic entertainment is up. News is pacing much better although it's got a very difficult comparison with the Inauguration and International is pacing better as well. The one area that remains somewhat soft for us which we think is more of an industry trend than company specific is Kids, and we have been talking about that all year with you.
But our Kid's business, a growing percentage of that business is really coming out from Adult Swim where we've been very successful in ratings and we are growing advertising there too. Do you want more on that?
Michael Nathanson - Bernstein Research
Yeah the only question was basically, Sports News is really hot, can you talk a bit about, what are seeing on the Sports level with NBA? Your sports advertising growth, how much of that is the driver?
I'm not going to hit at the specifics of sports and advertise, but I would tell you the rating is terrific. I think season to date, NBA is up nicely year-over-year, we started off the season in a terrific position and we see this as being an area that is going to be highly attracted to advertisers and we are very optimistic about the business prospects this year in that area.
And our next question comes from the line of Tuna Amobi of Standard & Poor's Equity Group. Tuna, you may proceed.
Tuna Amobi - Standard & Poor's Equity Group
I have two questions as well. So on the first one, it's regarding the windowing strategy, so I think Jeff, it's fair to say that Warner Brothers has been one of the most aggressive and in blazing its trail with some of the new technologies and strategies what I did their in VOD, or even the recent deal that you guys had with Netflix, so I think, kind of beg the question, why you still one of the studios still holding out with Redbox, do you have thoughts on thoughts on perhaps whether certain channels might be more cannibalistic as opposed to incremental and any current thought there would be helpful in terms of the overall strategy.
And separately on the DC comics initiative it seems like you have a bunch of paddles in the [works] right now can you talk a little bit about the upcoming release strategy there I know you are working on Green Lantern then The Flash, Wonder, Justice League those titles any time frame and how you see the economics of the overall comics really this kind of affect in the studio margins as a whole and any multi platform implication would also be helpful for that area.
On the home video day and day VOD, Redbox networks all of that. Basically on VOD which is the highest yield in terms of margin of the convergence when you go up, sale DVD such better than that Watson Redbox. We essentially released all of our titles day and day on VOD in the United States 2009 that was point, it certainly was the reason that we ranked number one in VOD. What it didn't hurt us in terms of ranking number one in physical DVD sale ran off basically every category. So, we think that we are hopefully providing an example of what can work in putting out rational windows, we want to make our titles available to consumers in the highest quality earliest to windows most conveniently to them when they buy and they ran them on every means they buy physical they ran them electronically and so forth. And what we are doing is basically setting up all the appropriate ways to do that, taking the lowest margin approaches that would be something like very low price rental and putting it in window terms after the higher margin ones.
We can't go in because of their litigation with Redbox; I can't really talk too much about what we are discussing with them. But as with all emerging platforms when there is TV fell in the publishing we want to provide consumers with the best choices and we want to do it in a way that gives us fair economics, I think its pretty clear as an example that the deal that Warner struck with Netflix which puts them into a win-win position and which also however allows the early window for higher margin distributors, it's a pretty good example of how this works when its working the right way.
If you go to your question on DC, we are going to have a fairly interesting set of announcements and presentations pretty soon like in a matter of weeks I think. About our plans for DC and basically if you look across the title of the whole band of hits whether its Batman, The Dark Knight, Green Lantern coming up, Superman, there have been a huge number of franchised films that have been part of the Warner [tent pole] strategy that's been the reason for Warner's unparallel high and consistent earnings advantage over the other studios and DC has already been a part of that and we are now going to outline an even more expansive plan for that in the coming months.
Tuna Amobi - Standard & Poor's Equity Group
Okay, I'll wait for that then. Thanks.
And our next question comes from the line of Doug Mitchelson of Deutsche Bank. Doug, you may proceed.
Doug Mitchelson - Deutsche Bank
Thanks just two questions, one Rupert said yesterday he was out of the MGM deal and he had no interest in Miramax so I am just wondering if Time Warner is the one that drove them out of the MGM deal and whether your interest is in film libraries and then separately, people are still obsessed with the concept of over-the-top video and I am just curious, do you see over the next few years for Turner and HBO starting to wholesale or retail those networks through online streaming. So not TV everywhere but rather supporting new Pay TV distributors like an Apple or Amazon and I guess how does HBO go sort of layer in with that. Thanks.
Yes, two things. First MGM and Miramax. We don't comment on potential deals and we feel comfortable with our strategic position and scale before considering anything like MGM or any of those other libraries. So we don't need to do anything. We'll just continue to be disciplined and opportunistic about these things. Any deal if we were to do one would need to provide strategic benefits and strong return in relation to other choices that we have and you'd have to figure risk in figuring out what any returns would be on an acquisition.
On the second question, I love that question, over-the-top, the people that are going to Over-the-Top with us and not really them and I think it's really important to emphasize and we have sent this in so many ways across our networks, our film division and our publishing company, that we're going to make our content available to consumers in the brands they love, the way they like to use them, in every manner of interactive and on demand method and in most cases, we're going to be doing that without incremental charges for makings those things available digital to our subscribers.
Now if you talk about new, I think you used the phrase digital distributors we love new distributors. The ones you mentioned are not distributors, they are device manufacturers and what we're very interested is harnessing every kind of distributor that can get our content to consumers and we think its great when people come up with new devices and screens on which our consumers and leaders and viewers can watch their favorite media, but if the are not distributors, they are not particularly powerful in the chain.
And our next question comes from the line of Alan Gould of Soleil Securities. Alan, you may proceed.
Alan Gould - Soleil Securities
Jeff do you see interactive advertising by the MSOs and the distributors having any impact on you as a program or over the near term, meaning the next say three years?
Not much but we will commit.
Well, (inaudible) hour so thank you very much for joining us and we'll talk to you next time.
This concludes today's Time Warner's fourth quarter and full year 2009 earnings conference call. Thank you for your participation. You may now disconnect and have a great day.
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