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Executives

Philippe P. Dauman - Chief Executive Officer, President and Director

Thomas E. Dooley - Chief Operating Officer and Director

Sumner M. Redstone - Founder and Executive Chairman

James Bombassei - Senior Vice President of Investor Relations

James W. Barge - Chief Financial Officer, Chief Accounting Officer and Executive Vice President

Analysts

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

Vasily Karasyov - Susquehanna Financial Group, LLLP, Research Division

Barton E. Crockett - Lazard Capital Markets LLC, Research Division

John Janedis - UBS Investment Bank, Research Division

Brandon Ross - BTIG, LLC, Research Division

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Jason B. Bazinet - Citigroup Inc, Research Division

Anthony J. DiClemente - Barclays Capital, Research Division

James Dix - Wedbush Securities Inc., Research Division

Michael Nathanson - Nomura Securities Co. Ltd., Research Division

Viacom (VIA.B) Q4 2011 Earnings Call November 10, 2011 8:30 AM ET

Operator

Good day, everyone, and welcome to the Viacom Fourth Quarter Earnings Release Teleconference. Today's call is being recorded. At this time, I would like to turn the call 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 the quarter and fiscal year ended September 30.

Joining me for today's discussion are Sumner Redstone, our Chairman; Philippe Dauman, our President and CEO; Tom Dooley, our Chief Operating Officer; and Jimmy Barge, 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.

Let me 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, everyone. I'm really pleased to join you today to discuss Viacom's 2011 fourth quarter and year-end results. I'm certain you've seen the numbers by now and know that it was a strong, a very strong positive quarter and another truly outstanding year for Viacom. Most impressive was the balanced performance we saw from our Media Networks and Filmed Entertainment division.

Our television brands are strong, getting strong and strong and stronger. And Paramount is building a new stable of film franchises with worldwide appeal. Viacom is currently on a roll. We have a smart programming, investment strategy. We have a disciplined operation approach. And most important, we have the best possible management team led of course by Philippe Dauman for our shareholders in the short-term and over the long life. Now I'd like to turn the call over to Philippe who is certainly one of the wisest, most brilliant CEOs in the media industry. Philippe, take over.

Philippe P. Dauman

Thank you very much, Sumner.

Good morning, everyone. I'm glad you could join us today. As we mark the end of our fiscal year, I'm pleased to report that Viacom is stronger than ever. We continue to manage our business with maximum efficiency to expand margins across the board, for both the short and long term. Key to that success is our singular focus on content, and we are building on that foundation. Viacom is consistently investing in new programming to grow our brands and deepen our audience relationships. We are developing our international operations to unlock long-term growth, particularly at Paramount, which is taking advantage of global opportunities on the film side, and at Nickelodeon, which is building a robust global consumer products business. We are aggressively distributing our brands across all platforms to capture incremental monetization.

Our Media Networks continue to benefit from the dual revenue streams and affiliate sales which we expect will continue to grow annually at high-single digits to low-double digits for the foreseeable future and advertising.

In Filmed Entertainment, we are executing on our franchise and brand-centric development and release strategy. This, coupled with ongoing operational discipline, is resulting in a stable, creatively successful cash flow generator. This morning, I will briefly review our financial results for the fourth quarter and the full year and provide highlights from our divisions. Tom and Jimmy will provide more detail, and then we'll gladly take your questions.

As we discuss our results this morning, we will speak to the adjusted numbers.

Consolidated revenues grew 22% to $4 billion in the fourth quarter, with Filmed Entertainment revenues up 46% and Media Networks up 8%. Our fiscal 2011 revenues were up 12%, driven by a 10% gain in Media Networks revenues as a result of a 10% increase in advertising, a 12% increase in affiliate revenues and a 15% increase from Filmed Entertainment, primarily due to significant gains in theatrical.

Viacom's net earnings from continuing operations grew 33% to $614 million in the September quarter and diluted earnings per share were $1.06, up 41% over the prior year. For fiscal 2011, net earnings from continuing operations rose 22% to $2.25 billion and diluted earnings per share were $3.78, a 25% gain over the prior year period. Our operating free cash flow exceeded $2.6 billion for the fiscal year.

No one has a crystal ball, but we manage Viacom to be well positioned in every economic environment. We are constantly looking for opportunities to increase efficiencies and adapt our organization.

In the fourth quarter, we made restructuring moves in our Media Networks and at Paramount, particularly in our international activities. These moves, which resulted in a $130 million charge in the quarter, will, in addition to reducing our overhead costs, help us capitalize on emerging business trends and execute faster and more efficiently in response to the continued evolution of global entertainment markets.

At the same time in late October, we announced the creation of more than 100 new positions in worldwide accounting, finance and other corporate support functions in the state of Tennessee near our current CMT network headquarters. We were able to create not only significant efficiencies in the move, but also bring jobs onshore.

You can expect us to continue to manage our businesses aggressively to capture more opportunities, better monetize across platforms and drive margin expansion. Shareholders can also count on us to maximize free cash flow and return capital in the form of dividends and share repurchases.

In 2011, we increased our quarterly dividends 67% to $0.25 per share and we also bought back $2.5 billion in Viacom shares under the $4 billion repurchase program. Today, we announced that our board has approved a major expansion of our repurchase program by increasing it to $10 billion. We expect to complete this program in approximately 2 years. This demonstrates our focus on growing our returns to shareholders and our strong confidence in our ability to continue to generate significant excess free cash flow, even as we invest steadily in our business.

Now let's talk about how our divisions performed in the quarter. Our Media Networks are strong, with leading brands that are as vibrant as ever. We continue to invest in programming, the research that informs it and the marketing that fuels it.

For the quarter, our advertising revenues were up 7%, both worldwide and in the U.S. For the full fiscal year, ad revenues were up 10%, driven by 10% growth domestically.

Many of our channels achieved double-digit ad revenue increases this quarter, positive momentum that was tempered somewhat by ratings issues at select networks. This softness is related primarily to the performance of extended repeats of acquired programming. As we have noted in the past, audience preferences are shifting as they continue to seek more fresh original programming. Our focus on investing in original programming that we own and control, along with ongoing scheduling refinements and more selectivity in acquiring third-party programming, will help us aggressively address this issue.

While still early in the quarter, we expect to see continued operating momentum and strong bottom line results in our Media Networks segment. Ad sales growth will face some headwinds from a slight softening in volume in the current scatter market, although, pricing remained strong and from ratings issues at certain networks, including an anomalous situation I will discuss later. Any impact will be offset by continued strong affiliate revenue growth in the quarter from both traditional and digital sources and from continued cost discipline.

Studios continue to be a very strong advertising category for us and growth in the number of film releases should help in the current quarter. We're also making progress in non-endemic categories. In fact, auto and insurance were top 10 categories for us in 2011 and top 5 in year-over-year growth.

This mid-September, we have experienced an inexplicable drop in Nickelodeon's ratings which are historically very predictable. We have had extensive discussions with Nielsen to determine the causes of this anomaly and we have been working side-by-side with them to understand and rectify the situation. The Media Rating Council, the industry's independent auditing organization, and our joint invitation is also investigating this aberration in the kids ratings. Investigation includes evaluating independent set-top box data which shows meaningfully different viewership trends. We will continue to work intensely with Nielsen and the MRC until we have a satisfactory resolution even as we move rapidly to mitigate the situation with the introduction of a great deal of fresh animated and live-action content into the Nickelodeon pipeline.

Before quarter's end, Nick will premiere 15 new episodes of returning and new series, including the recently launched Kung Fu Panda: Legends of Awesomeness.

In distribution, we continue to expand our reach through traditional and emerging platforms. As a result, worldwide affiliate revenues continue to be a reliable and strong growth driver for the company. They're up 11% this quarter and 12% for the year.

Our domestic affiliate revenues reflect rate increases from traditional distributors and groundbreaking deals closed with new distributors. Digital distributors continue to present very attractive partnerships for us. They're high margin and they allow us to monetize library content, in effect creating a new syndication window for our franchises. And there's a lot of room for growth in the U.S. and internationally.

We continue to increase distribution for EPIX which will result in growing long-term profitability for this innovative, multi-platform motion picture pay service.

We're also working with our distributor partners to create new access points for our consumers. With Verizon FiOS, we launched authenticated sites for MTV, Comedy, Nick and VH1 with on-demand content. Sites for Spike and BET will be coming soon. With Cablevision, our linear networks are available for in-home streaming via tablets and certain other Internet protocol-enabled devices. We're also working to further enhance the linear viewing experience through initiatives like Interactive TV and 3D.

We will continue to experiment with new distribution models across platforms as long as we are able to measure the audience and secure reasonable economic turns.

The popularity of our brands has allowed us to pioneer new content and lives across the screens, on air, in theaters, online and on mobile. Our franchises live at the intersection of entertainment and social media and drive today's constant cultural conversation. The record-breaking 2011 VMAs are a great example. The show was MTV's most watched ever. It drove an enormous amount of social media activity and gave us a big ad sales win. Overall, MTV achieved its seventh consecutive quarter of year-over-year growth and its highest-rated fourth quarter since 2007.

Jersey Shore was the #1 show for our core 12 to 34 demographic. The network's diversified fleet is working, with ratings for scripted programming up 90% over the same period a year ago, thanks also to breakout hits Awkward and Teen Wolf.

In the current quarter, the return of Mike Judge's Beavis and Butthead generated strong ratings, averaging a 2.2 rating among 12 to 34s and 2.7 million total viewers, performing very well with males, even with its premiere at bat against game 6 of the World Series.

At CMT, we're expanding to a second night of original programming to build on the success of Sweet Home Alabama on Friday nights. Comedy Central achieved double-digit ratings growth in September. The Roast of Charlie Sheen was Comedy Central's most watched telecast ever and drove the network to the highest-rated and most-watched week in its 20-year history. The Daily Show and Colbert Report's late night domination continue, as Jon Stewart and Stephen Colbert were the highest-rated late-night cable host in the fourth quarter.

In the current quarter, Tosh.0 is up 9% over its previous spring cycle, and our new hit, Workaholics, is building a strong following, up 87% over a year ago.

At BET Networks, it was another record-breaking year ratings for both total day and prime time with key gains in the adult demo. In the current quarter, that momentum continued with BET's newest scripted series, Reed Between the Lines, which premiered back-to-back episodes to a combined 6.2 million viewers. The BET HIP-HOP AWARDS 2011 drew in 4.1 million viewers. And on November 29, BET and CENTRIC will simulcast the SOUL TRAIN AWARDS 2011 hosted by Cedric "The Entertainer".

CENTRIC, now on its second year, posted its best prime time performance yet, delivering double-digit viewer gains in the fourth quarter. The network is also among the top 10 fastest growing cable networks.

Fueled by research and refined brand filters, VH1 and Spike are making good progress. In VH1, ratings grew in the fourth quarter from strong performances of Basketball Wives 3 and Single Ladies and the momentum continues. October marks VH1's fifth consecutive month of year-over-year growth, with prime time ratings in the 18 to 49 demo increasing 45% and total viewership growing 34%.

Coming up, we have more original premieres, including Mob Wives, Love & Hip Hop 2 and the T.I. Project.

Spike is doubling down on original reality programming, building a cost-effective slate that targets a broader audience. The strategy is showing results, with ratings up 10% in prime, thanks to new originals including Auction Hunters and Bar Rescue. TV Land, while experiencing some rating softness, is also expanding its original programming line up with the return of Hot in Cleveland and the premiere of The Exes at the end of this month.

Nickelodeon, the number one cable network for 66 quarters and running, has cable's top animated series in SpongeBob and a trio of live-action hits in iCarly, Victorious and Big Time Rush. At Nick at Nite, ratings have been helped by newly acquired Friends, which in the current quarter has already approved this time period by 10% versus a year ago.

Over the next 12 months, Nickelodeon will air 500 original episodes, its most ever as it continues to expand with properties like Teenage Mutant Ninja Turtles, Winx and Beatrix Potter. The Nickelodeon brand is usually supportable and ripe for expansion across on air, online and mobile, as well as consumer products, particularly in international markets where we have lots of headroom. That brand extension includes Nickelodeon's newest initiative, Nick Mom, a new 360-degree brand which we announced yesterday. Nick Mom was inspired by research showing that the first generation of parents who grew up watching Nickelodeon have a strong association with the brand, particularly its humor. Nick Mom will launch in the fall of 2012 as a programming block on Nick Jr.

Moving to Viacom International Media Networks, we're are making solid progress in our goal of reaching 20%-plus margins in 2013.

We are now seeing margins in the teens, thanks to consistent operating discipline, solid contributions from all revenue categories and targeted strategic initiatives like our recently announced new joint venture with SBS Media Holdings, Korea's only privately owned free-to-air broadcaster. The alliance will crate a new SBS MTV Channel and make Nickelodeon the first children's channel to be offered by SBS, unlocking significant advertising affiliate and licensing opportunities in this lucrative market.

Programming investment and brand extensions are also paying off. MTV U.K. saw ratings gains of 20% in the fourth quarter driven by Jersey Shore, the highest rated show in the channel's history, just great news for our biggest ad market in Europe. In Mexico, we're driving higher ad revenue growth as a result of our investments in the successful telenovela format with hits like Grachi on Nickelodeon and Popland on MTV.

The European Music Awards, which aired on November 6, were a cross-screen hit, live from Belfast and hosted by Selena Gomez, the show featured performances from Lady Gaga, Bruno Mars, Justin Bieber, the Red Hot Chili Peppers and Coldplay.

Early ratings indicate growth of 30% over last year's show, with an unprecedented number of online votes, almost 160 million via our global EMA voting campaign. And our international footprint continues to expand. We're launching Paramount channels in several territories over the next year or so, and we have plans to launch 6 new comedy channels, adding to 14 we already have outside the U.S.

Now let's move on to our Filmed Entertainment division. Paramount Pictures has had a fantastic quarter and a milestone year. The studio's success has affirmed our strategy of a reduced release slate, a focus on franchises and the leveraging of Viacom brands. Transformers: Dark of the Moon was the studio's first film to gross $1 billion [Audio Gap]. It's now the fourth highest worldwide grossing movie of all time and Paramount's highest grossing international release ever. Transformers' performance was also a strong contributor for fourth quarter gains across home entertainment and ancillary markets.

In the current quarter, we scared up another blockbuster franchise release with Paranormal Activity 3, a highly profitable and usually successful title for us. Paranormal is the highest U.S. opening for a horror film, as well as the best October debut ever, with a $53 million domestic opening. The film also did sizable business internationally.

It generated about $175 million at the worldwide box office so far. We've got a lot more coming on the franchise front. Mission: Impossible The Ghost Protocol starring Tom Cruise, directed by Brad Bird and produced by J.J. Abrams is coming to theaters in December. We're also developing ideas for Paranormal Activity 4 and Transformers 4. J.J., in addition to his Mission Impossible duties, is also focused on developing the next installment of our Star Trek franchise for potential release in 2013.

Paramount is adding value throughout Viacom. Together with our Media Networks capabilities, Paramount is responsible for creating a valuable new asset in EPIX. Paramount channels also will help fuel our future robust growth at Viacom International Media Networks. And its new animation division will work hand and glove with Nickelodeon to enhance both businesses and fuel significant growth in our company-wide consumer product efforts.

Across our divisions, creativity is alive and well. At Viacom, we apply in intelligence, all intelligence we have in our audiences to create compelling content that resonates with our diverse audiences around the world. We are proactive and disciplined in how we distribute and monetize that content.

We see data on a disproportionately high viewing of our content on new platforms, whether it's online or on mobile, and we look forward eagerly to the day when better measurement and monetization of that viewing becomes a reality because we know that this will open up significant incremental revenue opportunities for our company on a worldwide basis.

Viacom is fit, lean and always focused on shared strategic priorities. With a one-two punch of [Audio Gap] excellence and operational discipline designed to grow our margins, we have the financial strength and balance to adapt to changing market forces, go the distance and deliver ever greater value to our shareholders.

With that, I will turn it over to Jimmy.

James W. Barge

Thanks, Philippe, and good morning, everyone. I hope you've all had a chance to review our earnings release and web presentation, summarizing the results of our September quarter and our fiscal year 2011. Our 10-K will be filed shortly.

This morning, I'm going to take you through our operating results in more detail. My remarks will focus on adjusted results from continuing operations. Adjusted results exclude from this year's September quarter restructuring charges of $130 million on a pretax basis and $90 million after-tax, as well as $52 million of discrete tax benefit, primarily related to prior year audit settlements.

Last year's September quarter, adjusted results excluded $27 million in tax benefits that were principally related to the disposition of certain assets.

And let's take a look at our segment results. Media Networks revenues increased 8% to $2.13 billion in the quarter. Domestic revenue increased 7% and international revenues increased 11% in the quarter.

Foreign exchange had a six percentage point favorable impact on international revenues.

Page 11 in our web deck provides a breakdown of our Media Networks revenue performance. As Philippe mentioned, domestic advertising revenues grew 7% in the quarter. International advertising increased 8%, with foreign exchange improving the growth rate by seven percentage points.

International ad sales in the quarter were impacted by strength in Latin America, offset by softness in Asia. As we said in our last earnings call, we had fewer integrated marketing events in the September quarter as compared to our June quarter.

In terms of affiliate revenues, domestic revenues increased 9% while international revenues increased 16%. Foreign exchange favorably impacted the international growth rate by 7 percentage points. The growth rate in the quarter was predominantly driven by rate increases.

Now moving to ancillary revenues. Worldwide ancillary revenues declined 3% in the quarter, principally due to lower home entertainment revenues. Media Networks adjusted operating income of $958 million in the quarter increased 10% over last year. The operating margin of 42% improved 80 basis points over the prior year. The movement in the margin was driven by top-line growth of 8%, partially offset by 6% growth in total expenses.

Within expenses, programming expense grew 5% while SG&A expense grew 8%. Foreign exchange negatively impacted the growth rate for programming expense by approximately 1 percentage point and the growth rate for SG&A expense by approximately 2 percentage points in the quarter.

The growth in SG&A expense in the quarter was principally due to higher advertising and promotion expense, related to the marketing of new and returning original series, as well as increased spending on audience research.

Now moving to Filmed Entertainment, revenues in the quarter increased 46% to $1.8 billion. Page 13 of the web presentation provides a breakdown of Filmed Entertainment revenues.

Worldwide theatrical revenues increased approximately $400 million to $770 million in the quarter. The increase in theatrical revenues was principally due to the strong worldwide performance of Transformers 3, which was released on June 29, partially offset by carryover revenues in the prior year's quarter from films including Shrek Forever After.

Worldwide home entertainment revenues increased 26% to $511 million in the quarter. The increase reflects a greater number of current quarter releases. During the quarter, we released Transformers 3 domestically, as well as THOR and Ringo, as compared to Iron Man 2 in the prior year's quarter. TV license fees increased 5% to $391 million. The increase in TV license fees in the quarter was due to higher pay TV and network TV revenues, partially offset by lower foreign syndication revenues. Ancillary revenues increased 49% to $121 million, primarily due to higher digital revenues.

Filmed Entertainment generated adjusted operating income of $185 million in the quarter as compared to income of $52 million last year. The $133 million increase in operating income principally reflects the strong theatrical and home entertainment performance of Transformers 3, as well as the pay TV availability of some of our theatrical releases.

Now moving below operating income, total company equity losses from investments were $11 million in the quarter. The losses in the quarter principally relate to our investment in EPIX. On a full year basis, EPIX was profitable.

The reported tax rate in the quarter was 28%. The reported rate was favorably impacted by $52 million in discrete tax benefit. For fiscal year 2011, the adjusted effective tax rate was 34.3%, reflecting 160 basis point improvement over the prior fiscal year's adjusted rate. The reduction in effective tax rate is primarily driven by an improved international versus domestic mix of income in our operations. With that, I'd like to turn the call over to Tom.

Thomas E. Dooley

Thanks, Jimmy, and good morning, everyone.

I'm going to touch on our full year results and some of the restructuring actions we recently took which put us in a very good position for next year. I'll also talk about our cash flow, our debt profile and the return of capital to our shareholders, as well as seasonal factors impacting 2012.

Now turning to the full year results. 2011 was a great year. At Media Networks, we had a strong top line performance, growing advertising 10% and affiliate revenue 12%. During the course of the year, we added new distribution partners on digital platforms and there continues to be opportunities to add partners, both domestically and internationally. Media Networks adjusted operating income increased 14% to $3.8 billion, and the margins improved by 150 basis points to 42%. The international part of our Media Networks business generated approximately $200 million of profitability for the year and achieved mid-teens operating margins.

On Filmed Entertainment, revenues increased 15%, and the studio generated adjusted operating income of $341 million. This translates to an operating margin of 6% for the studio. As Philippe mentioned, we generated full year earnings per share of $3.78, and we produced $2.6 billion in operating free cash flow.

Also, we were aggressive in returning capital to our shareholders and we are comfortably below our targeted 2x leverage ratio. For the full year, we repurchased 56 million of our shares for an aggregate purchase price of $2.5 billion. We ended the year with 558 million shares outstanding. Between our buyback and dividend programs, we returned a total of approximately $2.9 billion of capital back to our shareholders, which is a return of approximately 12%. Right now, given everything we see, we believe the high levels of capital return to be sustainable into the future.

If you calculate diluted earnings per share using our year-end share count, full year EPS would be 5% higher than what we reported just based on the lower number of shares.

Now touching on our restructuring. In the September quarter, we took actions to address our cost structure by improving our efficiency and reducing our headcount in a number of areas across the company. These actions resulted in a $130 million restructuring charge in the quarter. The steps we took put us in a good position for next year even if we experienced a slowing economy. The restructuring will result in approximately $140 million of annual cost savings, approximately $100 million of which will be realized in fiscal 2012.

Now moving on to our debt. For the most part, it is fixed rate, with an average cost of 5.8%. To the extent we have incremental borrowings, we are funding this in the commercial paper market place at an annual rate of approximately 40 basis points. We had approximately $400 million of commercial paper outstanding at quarter end.

As for our leverage, we ended the quarter with $7.4 billion of debt and capital leases outstanding and approximately $1 billion of cash and cash equivalents. At September 30, our $2 billion bank revolver was undrawn. Our leverage ratio at the end of the quarter was 1.8x. Based on our target leverage range, we have excess borrowing capacity. The only financial covenant in our bank revolver requires that interest coverage for the most recent 4 fiscal quarters to be at least 3x. At the end of the quarter, our interest coverage was approximately 10x. If you look at our maturity profile, we have only $850 million of fixed rate debt coming due through 2015.

Given our free cash flow profile and the lack of substantial subsequent maturities, we are in a secure position to weather any market turmoil and continue to return capital to our shareholders.

Now I'd like to talk about some of the factors impacting the 2012 fiscal year. Philippe talked about the ad sales marketplace. In terms of our affiliate revenue, on an annual basis, we've continued to see revenue growth in the high single-digit to double-digit range based on fiscal 2011 affiliate revenue base which includes incremental digital agreements. Given that revenue recognition on some of the digital deals is tied to product availability, quarterly affiliate revenue growth will not be as linear as it has been in the past. Accordingly, in the December quarter, we expect the affiliate revenue growth to be at a rate in the mid-teens. We anticipate that Media Networks' 2012 programming expense will grow in the mid to high single-digit range. Our restructuring actions and ongoing expense management will enable us to continue to grow our margins as we invest in our brands and programs.

At Filmed Entertainment, last December's quarter benefited from the sale of the distribution rights to the Avengers and Iron Man 3 to Marvel. The December quarter of this year will be impacted by the timing of P&A expense related to the theatrical release of Mission Impossible and The Adventures of Tintin at the end of the quarter.

Accordingly, the studio's December quarter will face difficult bottom line comparisons on a year-to-year basis. However, we do see healthy growth in profits at the studio in the March quarter.

For 2012, we are forecasting a book tax rate of 35.5%. We will refine this as we go through the year and get a better sense of the domestic versus international profitability mix.

In terms of cash taxes, given the sunsetting in December of accelerated deductions related to film and television production, we expect cash taxes to mirror book taxes for the year.

In terms of our stock buyback program, we are on pace to purchase approximately $700 million of stock in the December quarter, and we expect to repurchase at least $2.5 billion for fiscal 2012.

Looking ahead at the studio's development pipeline, Paramount continues to grow its portfolio of film franchises. In December, the studio will release Mission: Impossible Ghost Protocol on a worldwide basis, as well as release domestically The Adventures of Tintin, which is a Nickelodeon-branded collaboration. In April, the studio will re-release James Cameron's TITANIC in 3D in conjunction with Fox. Paramount is also planning the sequel to G.I. Joe, and J.J. Abrams is currently focused on developing the next installment of Star Trek. In addition, the studio continues to work on the creation of a new franchises, such as World War Z starring Brad Pitt.

As for our Media Networks brands, Paramount is developing a Nickelodeon-branded live-action movie based on the Teenage Mutant Ninja Turtles franchise. Also, starting in 2014, Paramount released 1 CGI animated franchise per year through our recently launched animation division headed by David Stainton.

To wrap up, in fiscal 2011, we generated strong top and bottom line results. We grew our operating margins and aggressively returned capital to our shareholders. While we have recently experienced rating softness, we remain committed to investing in our brand and strengthening their competitive position. We continue to operate with a focus on investing in organic opportunities in our core businesses in order to drive earnings per share and free cash flow. We believe that this operating focus, combined with an aggressive capital return program of our share buybacks and dividends, will drive value for our shareholders over the long term. So thanks for listening now, and we'll turn the call over to your questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] We'll go first to Michael Nathanson with Nomura.

Michael Nathanson - Nomura Securities Co. Ltd., Research Division

I have a couple for Philippe. Philippe, as long as you've done these calls, you've always provided a forward advertising number. Why didn't you do that this time, if you give us a range of what we could expect? That would be one question.

Philippe P. Dauman

Well, I've cited in my remarks some of the factors. There is some softness that we're seeing in the volume in the scatter market. We've had the ratings issues, principally that anomalous situation at Nickelodeon, during important selling season for Nickelodeon. So and it's also an early day in the quarter. You know that this is a big quarter as we get into latter part of November and into December. So I think the issues that we had probably will leave us short of the double-digit growth that we had aspired to. But it's really too early to tell where we'll fall exactly in the growth during that time.

Michael Nathanson - Nomura Securities Co. Ltd., Research Division

Okay, and then if you could talk a bit about -- you mentioned disappointments in some of the extended repeats and acquired programming. So as you move away from acquired program into more originals, can you talk about what the margin impact would be, maybe on a network-by-network basis -- without giving the network details, but is this a profitable switch relative to margins or will margins go down as you invest more in originals and move away from extended repeats?

Philippe P. Dauman

No. As You know, Michael, we have, even in the recession, we were able to maintain our margins. And outside of that period, we've been growing our margins in our Media Networks segment. So this has been a gradual process. We are not walking away from third-party acquisitions. We have to be more selective in buying those that will play out better. It's not that they don't work initially. It's that they don't run as long. They've always fallen off after a period of time and that period of time is getting shorter. So as we go forward, for those of our networks, because some of our networks are 90% original programming or more. But as we look at networks that are more dependent, or have historically been more dependent on third-party program, take a TV Land, we have been moving gradually as we get off the third-party acquisition to produce shows like Hot in Cleveland, The Exes. And as we build that library -- those, by the way, play well in repeats for us, and we own them, we can sell them to digital outlets and traditional outlets around the world. So in this new world of distribution where there is more revenue opportunity, this will play out well for us both in current ratings and ad sales and will play out well for us in future revenues. So it's a good short-term and long-term strategy, but we are basically doing it in a gradual way. But as we've been ending these past deals, we have more firepower to direct toward original programming.

Operator

We'll go next to Doug Mitchelson with Deutsche Bank.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Just a couple of questions. On Nickelodeon, you mentioned third parties set-top box data showing something different in the drop that Nielsen is showing. Can you just give us a sense of whether that third-party set-top box data showing Nickelodeon ratings flat or up or just not declined as much as Nielsen? I'm just sort of curious relative to the 15%, 20% decline that Nielsen is showing...

Philippe P. Dauman

Yes, because we're working very closely with Nielsen and MRC. I don't want to go to too much details, but let's just say that we wouldn't have had any conversation with either of them based on the set-top box data that they're examining. That's the reason everybody believes there's an anomaly. We're making good progress, and certainly, we've seen some improvement over the last several days, and I expect that to continue particularly because our Nickelodeon people are not sitting still, and we happen to have in the hopper, before this arose, a lot of new programming. So the combination of those 2 should help quite a bit.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

So it's nothing like when young males disappeared 4, 5 years ago and they were gone for 4 months...

Philippe P. Dauman

No. This is really an anomaly . Unfortunately, it was a particularly bad time that this occurred. It was a pretty sudden occurrence in mid-September. The timing was unfortunate. I believe it's a short-term phenomenon. One that people besides ourselves recognize to be highly unusual and we're just working it through as expeditiously as possible.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

And then on the margin comment, maybe I'm sort of digging a little bit too much, but given international margins are in sort of a strong growth period. I don't know if, Tom, if you want to respond to this. As we think about fiscal '12, should we think about both domestic and international margins for Media Networks as growing or is international really driving the overall growth?

James W. Barge

Both areas will grow. We're pretty confident in that.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

And international sort of on a steady track, the 200, 300 basis points improvement per year.

James W. Barge

International has done a great job under the leadership of Bob Backish to really drive improved profitability and better strategies across the global marketplace.

Sumner M. Redstone

I mean, the international story is a very good story, both in terms of velocity of growth as we go forward and just the long-term value creation. We are reaching greater scale in many markets and really rationalizing our operations around the world and we have many opportunities to launch new channels and exploit new distribution opportunities. For international, the opening up of markets through digital distribution is a very significant opportunity given the difficulties that exist in certain markets for traditional distribution.

Operator

We'll go next to Richard Greenfield with BTIG.

Brandon Ross - BTIG, LLC, Research Division

It's actually Brandon Ross for Rich. Couple of questions. First, is the weakness in repeats being driven by the availability of content? And do platforms like, Netflix, meaning, is the cash from digital not all incremental here?

Philippe P. Dauman

Well, in terms of our programming that we own, that we are selling at digital outlets, it is incremental because we've been very carefully managing the windows on our content. Now whether the fact that there's a lot of content, new content available across the board, just in traditional, if you look at what all the networks are doing now, there's more original programming on a number of channels, whether you have dramas on AMC or original investments in many other networks out there. So there's a lot of choice and people expect more fresh, original programming. And obviously, taste in genres evolve. When people feel so uncertain, they've gravitate to comedies and that's why you've seen a resurgence in comedies. So there's clearly something going on because of the availability of programming, not just on digital, but on traditional distribution modes, where repeats are just not playing as well. Not necessarily the second, third, fourth repeat but the 15th or 20th repeat of a show that we used to be able to do.

Brandon Ross - BTIG, LLC, Research Division

And just a second question, now that EPIX is available on Roku, would you guys think about launching a direct-to-consumer business, given that all the distributors are not distributing EPIX?

Thomas E. Dooley

Right now we're focused on expanding our distribution traditionally -- we, as we have been expanding distribution and whether the benefit that we do offer is distribution on any device for authenticated customers, we -- on broadband, obviously, we have the Netflix 20 million plus subscribers. The exclusivity window on that deal will open up next year and that will open up additional opportunities. So with the increased ways in which consumers can look at the EPIX content will drive incremental revenues. The cost structure is pretty well set. The only variability there is how the movies perform that it's committed to buy.

Operator

We'll go next to Barton Crockett with Lazard Capital Markets.

Barton E. Crockett - Lazard Capital Markets LLC, Research Division

I was wondering if there's any way to quantify the impact in advertising from the anomalous Nickelodeon ratings issue? I mean, is there anything that you can really quantify? That's one question. And then on a share repurchase, you'll need to get $10 billion, 2 years. You're doing $2.5 billion in year one. Are you trying to signal that this is going to be very back-end loaded or is it just kind of a measure of conservatism in your guidance for this year?

James W. Barge

We said that these $2.5 billion in 2012, so that leaves some flexibility there. If you want to answer the other one...

Philippe P. Dauman

In terms of -- Nickelodeon, again, because of time period it does impact it, and we said we have aspirations of having double-digit advertising growth in this quarter. That really took that off the table, but obviously we're trying to manage as well as we can including the rest of the quarter on Nickelodeon with all the fresh programming to mitigate the impact. In any event, the total impact, given all the other things going on in the company, as Tom mentioned, we are going to have a very healthy teens growth in affiliate revenues in the quarter. We have the benefit of solid cost efficiencies. So when you put it all together, we have strong operating momentum going forward. It's a little blip in the quarter, but it's not, in my view, a fundamental event in terms of our operating momentum, given everything else that's going on around the company.

Operator

Our next question is from Anthony DiClemente with Barclays.

Anthony J. DiClemente - Barclays Capital, Research Division

First off, for Tom, you mentioned affiliate growth in the high teens in the first quarter. Just wondering if you could give us a little more granularity on the drivers there, how much of that is incremental growth driven by your digital deals? And even on the traditional side, if you could split out rate and units, basic assumption might be flat unit to subscribers and then rate increases in the mid-to-high single digit. I'm just wondering if you could confirm those types of assumptions? And then I have a follow-up.

Philippe P. Dauman

I'll take that Anthony. As far as our growth in the quarter, a lot of it, as Tom indicated in his remarks, are driven by recognition of digital revenues under the deals that we have, as well as some incremental additional deals. We are in constant discussions. We don't go in just -- we don't go in on the traditional deals. We don't go in as some do on what the specific deals we're doing or what's involved there. On the traditional side, we have healthy rate growth. It's largely rate increases. We're getting more subs on some of our networks that aren't fully distributed. Again, I'm very pursuant to fill that deals that we have. And as digital viewing on traditional distributors increases, that gives more sub-growth for some of our digital tier-driven networks. So it's a combination of things but largely rate increase on traditional side and digital revenues.

Thomas E. Dooley

About 80% of the growth is coming from rate increases, about 20% is unit increases and the unit increases, as Philippe just indicated, as cable operators put more digital boxes out there, that expands our channel capacity in the digital world. So that's where we pick up the additional unit even though the aggregate amount of unit of subscribers might be declining.

Anthony J. DiClemente - Barclays Capital, Research Division

And then a follow-up for Philippe on this measurement issue with Nielsen. It does seem as though we've been hopeful and talking about better measurement on tablets, on smartphones, on mobile devices for a while. I'm just wondering what is the current plan in place, and what is the timing in place for Nielsen to start measuring this viewership? I mean, clearly it's important for kids -- all of us have a -- kids, they're watching this content on iPads and I just wonder, what is the plan for Nielsen? What is their plan to start integrating? We went through the cycle of C plus 3 [ph] and we got -- I think the industry got where it wanted to go on DVR playback. I mean, what's the plan on mobile measurement?

Philippe P. Dauman

Well, Nielsen will be better able to answer what their plan is. Obviously, everyone in the industry has been pushing for this to happen because if you are a content and brand owner such as we are, we would like to get our content out there as much as possible and have it measured because that is the currency. So that's certainly been an impediment of, so-called, full TV Everywhere. There's some other

issues such as security and the like. But this is a very significant issue and this is why we have to have the right economic arrangements in TV Everywhere kind of situations now in an environment where we can't get advertising monetization on those because of lack of measurement. So Nielsen is telling all of us that they're working on the issue. But I still am not in the position to give a date when it's really not going to happen.

James W. Barge

And Anthony, there's some folks in the industry that believe over the next 12 months, they will incrementally add features and build up over that period of time to get a better measurement of that consumption and then in 24 to 36 months, there'll be the whole notion of inserting commercial dynamically as a possibility, which could be a very positive development for everybody in the advertising business.

Anthony J. DiClemente - Barclays Capital, Research Division

Yes, I mean, that's a lot of months.

James W. Barge

It's going to take time.

Philippe P. Dauman

We're actually going to see it happen because we believe we'll do very well in that environment.

Operator

Our next question is from Jason Bazinet with Citi.

Jason B. Bazinet - Citigroup Inc, Research Division

I just have a question on the buyback, just to make sure I'm doing the math that. Free cash, assume no working capital swings, free cash flow after the dividend payment's about $2 billion a year. And I think you said you're doing about, you target about $7.2 billion of this buyback over the next 2 years. Are you essentially saying your going to be taking on debt of about $1.5 billion a year over the next 2 years, or do you think free cash flow is going to grow because of some swing in working capital?

Philippe P. Dauman

Jason, we have operating momentum. Our leverage ratio, as Tom indicated, closed out the year at 1.8 below our 2x target. We are going to have to increase our leverage just to stay up to that 2.0 target given our operating momentum. So the buybacks will be funded, both by our free cash flow and our borrowing back up to that 2x leverage point as our operating growth takes down our leverage ratio without that additional debt.

Jason B. Bazinet - Citigroup Inc, Research Division

So you don't...

Philippe P. Dauman

If you look at 2011, that's what happened in 2011.

Jason B. Bazinet - Citigroup Inc, Research Division

Okay. You don't anticipate going above 2x temporarily even?

Philippe P. Dauman

No, we set that as a target and we're going to hold ourselves to that.

Operator

We'll go next to Alexia Quadrani with JPMorgan.

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

Just to follow up on your comments on the fiscal Q1 advertising market. Could you give us a sense of roughly what percent of inventory you do have available for scatter or put another way, how much in the December quarter you sold in the upfront? And in the most recent cancellation period, were the options exercised in the normal level?

Philippe P. Dauman

Cancellations were at the normal level, nothing unusual there. Tom, you want to...

Thomas E. Dooley

And right now, we have a very little scatter left and the marketplace has been pretty dynamic, so the scatter has pretty much sold out. There's some left at, sort of, the last couple of weeks to be able to fill out the movie studios, so we have about 20% less, I'd say, of our total scatter inventory.

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

And then you just talked about the -- all the original programming hours on Nickelodeon coming out. Any sense on, I guess, timing on when we should see that rollout?

Philippe P. Dauman

Well, we have 50 episodes for the rest of this year and about 450 episodes for the following 3 quarters.

Operator

We'll go next to John Janedis with UBS.

John Janedis - UBS Investment Bank, Research Division

Two quick questions. First, assuming there is some sort of error in the Nickelodeon measurement, is there any way to recapture some of the lost revenue? And then secondly, Philippe, I think you talk about scatter pricing up in the mid-teens above the upfront a few weeks back. Is that still the case?

Philippe P. Dauman

Yes, in terms of recapturing lost revenue, unfortunately because of that sales period, this is where toys companies and everybody else is looking to advertise for the holidays. So to the extent that there were shortfalls in the range in Nickelodeon, this is why it's taking our number down for the quarter. We had to make it up to them, so that's something you can't recapture. And I always believe in looking forward, so we'll go through that blip, it's not material to overall company and we will move on. What was the other question?

James W. Barge

Scatter teams.

Philippe P. Dauman

Scatter pricing continues to be strong.

John Janedis - UBS Investment Bank, Research Division

With similar levels you spoke about at the recent conference?

Philippe P. Dauman

Now we obviously have the new upfront -- the pricing in scatter market is above the new upfront prices.

Operator

And we'll go next to James Dix with Wedbush.

James Dix - Wedbush Securities Inc., Research Division

I'm just wondering if you'd give a little color on advertising categories? Are you seeing any categories with kind of continued strength in demand, as opposed to somewhere you think there might have been some pull forward into the upfront out of the scatter market of their buying? And then I guess a longer-term question, you mentioned your increased investment in research on programming. And I'm just wondering if you think over time that's going to help you get more consistency in your ratings or monetization over time?

Philippe P. Dauman

Well, we are seeing strength in the movie category given the number of titles, given the types of titles that are coming out, whether it's the family titles or the youth-oriented titles. It's a good quarter for the movie category. Toys, strong category in this quarter. This is why it's so vexing to have this issue I've mentioned. And we've been seeing good growth these non-endemics, which in term of the long run is a good trend for, us because those -- we clearly have a low market share that's why the fact that autos and insurance were within our top 5 growing categories year-on-year. It's an important phenomenon for us in the long run and when we are working to continue to build as we maintain our strong share in categories like movies, like toys, like QSRs, like telecom. As far as investment in research and programming, yes. We take a look in our brand direction. We've looked back historically and how we finalized the BET and MTV brands. And we're applying those same tools to all of our networks so that we can -- we're never going to have complete consistency. It is show business, you are subject to consumer taste. But staying close to our consumers creating programming that we own, that we develop, should overall improve our performance over the long term.

Thomas E. Dooley

Our research and in terms of what we know about kids, teens, young adults, our millennial research has been a key asset as we share that with some of our key advertising partners. And that really does pay off in spades because they're very interested in the behavior of those targeted demographics and how they're going to impact their businesses into the future. And so that's a key linkage that we have and I think a significant advantage we have.

Operator

And we'll go next to Vasily Karasyov with Susquehanna Financial Group.

Vasily Karasyov - Susquehanna Financial Group, LLLP, Research Division

I was wondering how big of an opportunity is consumer licensing revenue for you internationally? You are one of the biggest players in the world and that's a very high margin revenue stream. Can you tell us how much you expect it to contribute over the next couple of years, and if you see any opening opportunities there?

Philippe P. Dauman

Yes, it's a big opportunity. It's one that obviously has to build up. We'll see it grow over the next couple of years timeframe, but it really should grow significantly beyond that time period. And what we've done is we've beefed up our international licensing operation. We've secured talents from other organizations. And most importantly, we have acquired new international property so that we can compete well on the girls aisle and the boys aisle across different toy and soft goods categories. Teenage Mutant Ninja Turtles will be fueled by -- which was a great consumer products franchise in the past. We think we can make it bigger than it was in the past, fueled by the Nickelodeon show, by the Paramount movie, by enhanced distribution. And the expansion of Nickelodeon, not just the Nickelodeon channel, but Nick Jr. and other channels on an international basis will give us additional marketing platform to drive that. So it's a major focus at Nickelodeon, but also at Paramount. We are very excited about that opportunity and should significantly contribute to our bottom line and asset value over the long term. So we want to thank everyone for joining us for our earnings call.

Operator

That does conclude today's conference call. Thank you all for your participation.

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