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Disney (DIS)

Q1 2006 Earnings Conference Call

February 6th 2006, 4:30 PM.

Executives:

Wendy Webb, Vice President of Investor Relations and Shareholder Services

Bob Iger, Chief Executive Officer, President

Tom Staggs, Senior Executive Vice President, Chief Financial Officer

Analysts:

William Drewry, Credit Suisse

Lowell Singer, SG Cowen

Doug Mitchelson, Deutsche Bank Securities

Anthony Noto, Goldman Sachs

Aryeh Bourkoff, UBS

Jessica Reif Cohen, Merrill Lynch

Kathy Styponias, Prudential

Michael Nathanson, Sanford Bernstein

Douglas Shapiro, Banc of America Securities

David Miller, Sanders Morris Harris Group

Spencer Wang, JP Morgan

TRANSCRIPT SPONSOR
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Operator

Good day, ladies and gentlemen, thank you for standing by, and welcome to the Walt Disney First Quarter 2006 Earnings Conference Call. My name is Carlo, and I will be your coordinator for today's presentation. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of today's prepared remarks. At that time, if you would like to ask a question, you may do so by pressing '*' '1' on your telephone. If at anytime during the call, you require audio assistance, feel free to press *' '0' and a conference coordinator will be happy to assist you.

I would now like to turn the presentation over to your host for today's conference, Wendy Webb, Senior Vice President, Investor Relations and Shareholder Services. Please proceed, ma'am.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

Good afternoon, and thanks for joining us. Hopefully by now all of you have seen two press releases from us, one regarding Disney's fiscal first quarter results and the other regarding the ABC Radio transaction. On this call with us today are Bob Iger, President and Chief Executive Officer; and Tom Staggs, Senior Executive Vice President and Chief Financial Officer. Bob will lead off followed by Tom, then we will open up the call to you for Q&A. We'll try our best to conclude the call before 5:30 pm Eastern Time so let's get started. Bob?

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Bob Iger, Chief Executive Officer, President

Thanks, Wendy. Before I talk about our results I want to cover, excuse me, a few broad-ranging subjects. First, a week ago yesterday two journalists from ABC News were severely injured while covering the war in Iraq. And while I realize that thousands of people, American servicemen, other journalists are actually putting their lives on the line there, this one hit particularly close to home and so our thoughts go out to the families of Bob Woodruff and Doug Vogt.

Turning to Pixar, which obviously has occupied a tremendous amount of our time and has gotten a significant amount of attention, I want to say just a few things about it, some consistent with what was said earlier, some kind of a postscript on the announcement that was made. As you know, feature animation is clearly a cornerstone of the Walt Disney Company. We talk about our primary strategic priority and that's creating great content so clearly buying Pixar is extremely consistent with that strategic priority. And given the fact that they are so incredibly successful at feature animation, this fits extremely well with our company's strategic priorities generally speaking.

We are very happy with the talent that comes along with this deal, led by Ed Catmull who run animation for both Disney and Pixar and of course John Lassiter who is an incredibly talented director and John will also have a role as a creative advisor to Walt Disney and Imagineering, putting his very talented eye on a lot of the creative activities at our parks. We believe that the combination with Pixar provides us with great promise for the future across not just our studio business but a number of our businesses. Clearly it strengthens our asset portfolio, it improves our ability to attract and retain talent and it enhances the ability to deliver technically sophisticated and engaging content. We're going to be releasing "Cars" the next film from Pixar on June 9. I'm pleased to say that we screened cars for a number of people in Detroit over the weekend, on the evening before the Super Bowl to rousing applause, so we're really excited about the release of that film and then "Rattatooey" will be the next Pixar release probably in the summer of 2007.

Turning to my scripted remarks about our earnings, I mentioned earlier that creativity, innovation is our number one priority as a company from a strategic perspective. Our other two priorities are applications technology to use to make our product better and also to enhance its distribution, and then of course growing the Company globally and a lot of things have happened at the Company against those strategic priorities since our last earnings release back in the latter part of 2005. So our focus is on creativity and innovation, much of it behind the Disney brand which has led to strong consumer response across our businesses. By directing more resources to producing Disney branded content we reinforce our overall brand strength in family entertainment and provide more opportunities to expand Disney in global markets.

At the Walt Disney studios we released the first installment of the "Chronicles of Narnia, The Lion, the Witch and the Wardrobe" in partnership with Walden Media to great commercial success globally. To date this film has become one of the largest grossing Disney live action films in history with worldwide box office of $649 million to date. This box office result reflects the enormous franchise potential of this property which we expect will continue with the release of our second film in the series which called "Prince Caspian" and that's slated to hit theaters in December of 20007.

Beyond the studio our video games unit experienced strong results with its Narnia offering last quarter, selling 2.2 million units at retail. And because it is part of our strategic shift to self-publishing we're capturing a much higher percentage of the gross receipts than we did under previous licensing relationships. Again with universally appealing content driving Narnia, the long term potential of franchises like this for existing businesses like our parks and consumer products in addition to emerging businesses like the iPod and HD DVD is obviously significant.

Our media networks group continues to record strong performance driven by outstanding programming. ABC tied for first place among adults 18 to 49 during the November sweeps due to the quality of its programming which is driving both critical and commercial success, series such as "Desperate Housewives" "Lost" "Grey's Anatomy" "Extreme Makeover: Home Edition" and more recently "Dancing with the Stars" demonstrate the value of great content and we own these scripted dramatic series which provide us with enormous opportunities to pursue new business models domestically and internationally, and by the way I thought we had a pretty good Super Bowl yesterday and the airing of" Grey's Anatomy" after the game had fantastic results. I didn't root for Seattle or Pittsburgh so I was rooting for the commercials and for the ABC spots and I was proud of the work that was done by both ABC in promoting its shows and by the Walt Disney Company particularly the spot about "I'm going to Disney World".

ESPN also enjoyed strong ratings during the quarter with the last week of the quarter becoming ESPN's highest rated week in history, underscoring the ongoing incredible appeal and value of the network to consumers, distributors and advertisers. In all of 2005 the combined audience for ESPN's four-most widely distributed networks reached a record high and we're very pleased to see fiscal 2006 is off to a solid start. However as strong as our first quarter was it is important to note that we're managing our businesses for the long term, not quarter by quarter. And this means our decision-making in some instances may challenge well established business models or practices in the near term so that benefits can be captured over the long run. And the Apple iPod deal that was announced during the quarter is a clear example of our vision for the digital future.

Our relationship with Apple positions our company in the forefront of emerging distribution platforms that satisfy people's demand for our content in an entirely new way and given our first move or position with Apple and the strength of our ABC Disney channel and ESPN content our long form programming is among the top video purchases at the iTunes store, with over 2.5 million downloads to date. Our early success clearly illustrates how valuable content is when married with great platforms and great consumer electronics.

Distributing our content on iTunes also was the right deal for Disney based on the platforms environment and protection for our content, the economics of the deal, and the consumer experience, all of which remain key factors as we look to new means to apply technology to extend the distribution for our content. And while these results are encouraging we believe the real benefits of our leadership position will likely be realized in the future when handheld wireless devices will be more widely adopted and we strike new deals that potentially yield a major additive revenue stream for our content. You should look for us to be active in this area.

Along these lines, we're furthering our multi-platform approach to extending the ESPN brand with our MVNO initiative, mobile ESPN which began its wide national launch yesterday on the Super Bowl. Mobile ESPN is the first mobile phone offering with Internet access designed to meet the specific needs of sports fans by giving each fan real time access to personalized scores, stats, breaking news, audio, and video highlights and unique ESPN content. We do not take responsibility for putting any marriages in jeopardy with this phone in the marketplace. This venture also is an important step in the direction of getting closer to our consumers as we will have a direct relationship with our mobile ESPN users versus through a distributor. In addition to diversifying our overall revenue mix at ESPN this relationship opens the door to significant opportunities to market new products and services directly to our consumers based on their interests and generate new revenue streams well into the future.

An important component of ESPN's ongoing success is our ability to deliver fans the best in sports programming. And to that end, ESPN, along with ABC sports struck a content-rich agreement with NASCAR in December and extended their long-term relationship with World Cup soccer. In a competitive environment where rights fees are on the rise its critical that we are selective and strategic in our approach to content acquisition. In addition, its essential we serve our fans with great sports programming when and where they want it. ESPN is a brand that extends across multiple platforms from TV to print to broadband and wireless, therefore our programming deals include a broad array of rights to provide content to power all these businesses.

Disney also ended the quarter on a high note in our parks segment with our domestic resorts setting a record for holiday season attendance. This was due to the strength of our industry-leading theme parks propelled by the ongoing excitement of our 50th anniversary celebration which continues throughout this fiscal year. Going forward we're enhancing our parks with innovative entertainment experiences in a balanced measured way that keeps capital expenditures manageable while driving increased attendance and higher margins. Furthermore, by having John Lassiter as the principal creative advisor to lend his expertise to the creation of new attractions worldwide we will be in a stronger position to more fully develop our franchises from the movie screen to a more emersive 3D entertainment experience at our parks.

For its full quarter of operation Hong Kong Disneyland experienced very strong attendance during this December holiday period and extremely successful results for last week's Chinese new year holiday including four consecutive days in which the park was sold out. With guest satisfaction measurements at Hong Kong Disneyland resort extremely high, we have a strong basis to build affinity for the Disney brand in the region. And our efforts are not limited to the park. We also are increasing our investment in local content with our recent announcement of our first Disney branded live action film produced entirely on the mainland in partnership with China film as well as further content development through our consumer products and wireless offerings.

Lastly, as discussed in the past, our radio business is among the best managed in the industry and has generated great results. However, given our strategic priorities, the merger of these assets with Citadel Broadcasting makes sense for Disney. Together ABC Radio and Citadel Broadcasting are a perfect strategic fit that will create one of the country's largest radio station groups. Our proposed combination of the ABC Radio business with Citadel Broadcasting underscores our commitment to maximizing the value of our assets for shareholders while focusing our capital and management resources toward our core businesses. Looking to the future, we continue to carefully monitor and analyze consumer behavior and new technology developments to assess how best to evolve our businesses, either by adapting current business models or creating entirely new ones.

More and more consumers are demanding content across multiple platforms and to drive growth we know it is essential that we deliver our content on well-priced and well-timed basis to our customers globally. Although it's difficult to predict what models will prevail in a digital world, as a company we won't let traditional practices get in the way of best serving the interests and demands of our consumers and we're committed to innovation and experimentation as is relates to new media developments. This means we fully understand the value of taking intelligent risks when a compelling new opportunity arises, just as we did with Apple's iTunes. We do not intend to watch consumer behavior change while our business models lag.

In closing, we believe that adopting a consumer-focused, long-term approach is the best way to manage and grow our businesses and deliver strong and consistent returns on invested capital. It enables us to keep our eye on the horizon, thereby building real growth and creating true value in the years to come. And now to provide the financial details, Tom Staggs.

Tom Staggs, Senior Executive Vice President, Chief Financial Officer

Thanks, Bob. As Bob mentioned the ABC Radio group represents a great set of assets. And under John Hare and his team this business has consistently delivered industry leading performance. Last year ABC Radio generated $200 million in operating profit for us. That said, we believe we've the right strategic partner and an efficient deal structure that allows us to optimize the value of this business for our shareholders. As part of the transaction, we anticipate leveraging the ABC Radio business and retaining the proceeds from that 1.4 to $1.65 billion borrowing. In addition, our shareholders will receive stock in the radio business that will equate to approximately 52% of Citadel's total post transaction shares. We'll distribute this new stock to our shareholders either through a spin or a split off depending on market conditions at the time the deal closes. The combination of debt that we expect to raise on the ABC Radio entity and the stock we will receive based on Citadel's current price comes to roughly $2.7 billion. Assuming that we receive regulatory approvals and a positive IRS ruling we expect the transaction to close sometime this fall.

The ABC Radio and Pixar transactions are obviously separate decisions and events but the two transactions are evidence of our focus on allocating capital towards our strategic priorities and especially those endeavors that can enhance our long term competitive advantages. The benefit of this capital allocation approach is also illustrated by our theme parks performance, where investments we have made in new hotels, attractions, and entertainment most recently in connection with our 50th anniversary celebration are paying off.

Our parts performance in Q1 which included record holiday attendance was a highlight of the quarter. On a fully consolidated basis theme parks revenues were up 13% and profits rose 51% with double-digit increases coming at both our domestic and partially owned international resorts. The 50th anniversary celebration is resonating especially well at the Disneyland resort where attendance for the quarter was up 18%. We saw increases in each guest segment with local and domestic visitation both up by more than 20%. Per capita spending at our Disneyland parks was also up by 18%. On the hotel side West Coast occupancies increased by over 6 percentage points to roughly 96%. And per room spending grew by 11%. At Walt Disney World we also saw positive trends, attendance grew by 5% for the quarter led by 15% growth in international visitation. Per capita spending at our Florida parks rose by 3%. Hotel occupancy was up modestly to 83%, with per room spending up 9% due primarily to increased room rates. Looking ahead, rooms on the books at our domestic parts for Q2 are trending slightly ahead of last year, however, it's worth noting that the later timing of Easter this year results in eight fewer vacation days in Q2 this year than last.

As Bob mentioned Hong Kong Disneyland also contributed to this quarter's favorable performance, especially since last year at this time we were recording preopening expenses for Hong Kong that dampened our results. At media networks the continued creative success at the ABC network in Q1 is showing in viewership as well as financial results. For Q1 primetime revenues were more than 35% above Q1 last year driven by ABC's strong ratings, last year's, last spring's successful upfront and scatter CPM's that were up high single digits versus up front levels.

The ad market has remained strong so far in Q2 where we're seeing CPMs trending low double digits ahead of up front pricing. Ad sales at our TV stations increased by 3% for the December quarter and for Q2 so far our TV stations are pacing 8% ahead of last year driven by Super Bowl ad sales. Our cable networks continue to deliver robust ratings and we saw double digit growth in add revenue at both ESPN and ABC Family in Q1. Total revenue for the cable group was up only modestly as ESPNs carriage agreements caused us to defer more than 100 million more in affiliate revenue from Q1 versus what we deferred also year.

As the preeminent brand in sports media, ESPN continues to build value for our shareholders. The March quarter for ESPN has gotten off to a good start with this year's college bowl season and ad sales so far in Q2 at ESPN are running mid-single digit percentages ahead of the prior year. At our other cable channels we continue to invest in programming and we're seeing this investment pay off in solid ratings even though that spending has dampened current results somewhat. For calendar 2005 the Disney channel is rated the number one basic cable network in prime time with kids 6 to 11 and teens 9 to 14 for the third consecutive year. At ABC Family, as I mentioned, we generated double digit ad growth again in Q1 although our programming investment more than offset those gains. At the studio, as anticipated we faced difficult comparisons to last year's December quarter which included the theatrical release of "The Incredibles" and "National Treasure" and a relatively stronger slate of home video releases. Those differences showed up in our financial results. Nonetheless Q1 was a success creatively for Disney branded titles in the studio, led by the tremendous performance of "Chronicles of Narnia" and strong results from "Chicken Little".

We believe that two of Disney's key advantages are the strength of our brands and our ability to leverage successful contend across a range of businesses. These advantages were evident in consumer products this quarter where operating profit at Buena Vista games increased substantially in Q1 due to the success of games based on the "Chronicles of Narnia" and "Chicken Little". We're pleased with our progress in video games and see this business as another area where we can leverage our brands and content to generate future growth. The start of fiscal 2006 has been exciting and gratifying for us in many ways and going forward we believe we are well positioned to continue delivering growth and improving returns for our shareholders.

With that goal in mind, I'd like to touch on some of the key drivers and swing factors that will likely impact the rest of the year. As we mentioned during our last earnings call we expect our growth in fiscal 2006 to be heavily weighted toward the latter half of the year, due in large measure to a number of factors that will impact our second quarter. At ESPN we expect to defer a little over $40 million more in revenue from Q2 until later in the year versus what we deferred last year. At ABC the Super Bowl will generate a net operating loss of approximately $20 million given the impacts at both the network and our stations.

In consumer products, you should recall that in last year's March quarter we booked $40 million for the recognition of license guarantee revenues from Mattel which together with our increased investment in video games will create difficult comparisons for this segment in Q2. At the studio, fiscal 2006 will benefit from a solid creative start "Chicken Little" to be released on home video on March 21, and "Narnia" to be released on home video on April 4, however in Q2 home video comparisons will be challenging again as Q2 of last year included the release of "The Incredibles" which was the best selling video title of 2005 plus "Bambi" and "The Village". Beyond Q2, we look forward to two of the most anticipated films of the year including "Cars" which opens on June 9, and "Pirates of the Caribbean" "Dead Man's Chest" on July 7. Of course, no one can predict box office’s performance with a certainty and market dynamics could impact our studio performance but overall we expect meaningfully improved results for 2006 due to a better performing theatrical slate as well as lower spending at Miramax.

In the second half of the fiscal year we expect robust growth driven by a successful summer at our studio, continued momentum at ABC and ongoing strong visitation at our theme parks. The fundamental growth at ESPN coupled with recognition of the revenues deferred in the first half of the year will have a significant positive impact on the second half as well.

With so many positive prospects ahead, and barring a change in our outlook or the economy we look forward to delivering our fourth straight year of double digit earnings growth in fiscal 2006. Assuming continued strength in the climate for our businesses we also remain confident in our ability to deliver double digit compound average EPS growth through at least 2008 off the strong base we established in 2004. Consistent with our confidence in the future the Disney Board recently increased our total available share repurchase authorization to 400 million shares. Given our current expectations we intend to repurchase in excess of $5 billion worth of Disney shares over the next 12 months target buying as many shares as we're issuing in the Pixar transaction by the end of fiscal 2007. In the December quarter we repurchased 49 million shares at a cost of roughly $1.2 billion. This is an exciting time for our company. We're taking bold steps to create powerful, high quality content, and new opportunities to distribute that content. At the same time we remain focused on operational excellence and efficiency and most importantly on building on the unique relationship that we enjoy with our customers while creating lasting value for our shareholders. With that I'll turn the call over to Wendy for Q&A.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We're ready to take the first question, operator.

Questions-and-Answer Session

Operator

Operator Instructions And our first question is from the line of William Drewry with Credit Suisse.

Q - William Drewry

Hi, thank you. Just two questions. One, could you talk about, Tom, what the total incremental investment spending will be this year for the, for the MVNO? And also for video games? And then also wondering if you could talk further as you get to the second half of the year you still sound pretty bullish on the parks. Should we expect to see incremental margin growth at the theme parks as you continue to price up and also see volume gains as well?

A - Tom Staggs

Sure. So with the, with regard to MVNO, we had said at the outset of the year that we expected in excess of $130 million of investment spending at MVNO. My gut right now is that it will be something a little north of that, although it's difficult to know until we've launched both products but I would expect a number somewhat higher than that expectation at the beginning of the year. With regard to video games, we'll be spending over $100 million in development of video games which is roughly a doubling versus what we spent last year. And then with regard to parks, we do expect margin growth for the year as a whole. And obviously in the first quarter we took a good step in that direction. The 50th anniversary has really been a powerful celebration for us. And we assume that that will continue to work. And therefore it bodes well for the park for the remainder of the year.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

Thank you. We'll take the next question please.

Operator

Our next question is from the line of Lowell Singer with SG Cowen.

Q - Lowell Singer

Thanks, good afternoon. Two questions, first, Bob, can you talk a little about what you think ABC needs to do in preparation for the upfront. It seems like you've had some nice successes this year, you've also had a couple shows that have gotten off to good starts and faded a bit and I'm wondering what the key steps are they need to take? And Tom can you talk a little bit about the domestic international split at theme parks? I notice you didn't put that data up in the release and I'm wondering if that is something you'll continue to release and if you can give us that data on the call, that will be helpful, thanks.

A - Bob Iger

Well, right now ABC is experiencing double-digit increases over the upfront and everyday part and primetime is running in the neighborhood of 11 to 12%. And we believe that what's driving it is the deliverance of great upscale demographics. So ABC for instance is the number one network in households with incomes of 75 grand, households with income of 100 grand, four years of college, et cetera and so on. And while a lot of the shows that are on ABC, particularly home makeover and dancing with the stars are kind of universal in appeal what ABC has managed to do, primarily by programming quality programs is to deliver demos that advertisers feel they must have. And so in speaking with the ABC sales group, they are extremely bullish about where they will stand in the upfront.

Now it's still early to predict what the upfront is going to look like. But they at least feel great about how they are positioned going into the upfront. They basically are at the front of the line when it comes to getting calls from sponsors seeking to buy spots, again because of the upscale demos and it doesn't hurt to have shows that are getting as much attention for their quality like "Lost" and "Desperate Housewives" and I, so I think they're in great shape. And I, if we can add to that which, I'm hopeful with a few of the shows that we've got coming up, that will be icing on the cake.

A - Tom Staggs

Lowell, the, I wasn't sure whether you were asking about the international parks operations or international attendance so I guess I'll give you a two for. The, at Walt Disney World international attendance was up in the mid-teens sort of area. And so we continue to see nice growth there. Disneyland it was up mid-to high, well, high single digits international attendance so, again, strong although the greatest growth at Disneyland was really in domestic attendance and residence which I had mentioned. With regard to the international operations, if you just look at the consolidated income statement you'd see a little over $400 million in revenues coming from Euro Disney and Hong Kong Disneyland and about $16 million impact to the operating profit line, again, $388 million of expenses. So that will give you a sense on the drivers there. So, as I mentioned in the prepared remarks, we saw very strong double digit growth from the domestic parks and then that was aided by the improvements that we saw in the international parks as well.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We'll take the next question, please.

Operator

Our next question is from the line of Doug Mitchelson from Deutsche Bank Securities.

Q - Doug Mitchelson

Thank you very much. Bob, you mentioned that sports rights fees are on the rise and Disney needs to be selective and the cable network segment revenue growth slowed a bit to 9% after you add back the 105 million ESPN deferral. So with slowing revenue and rising costs investors are worried that ESPN might not be able to grow profits next year. Any clarity you could provide as to ESPN's growth prospects next year?

A - Bob Iger

Yes, we're still looking for double digit growth from ESPN, not just the next year but in the next few years. We have been aggressive but selective in the rights that we've gone after. And the fact that we've done eight year deals for the NFL and NASCAR and World Cup soccer and also we have baseball, basically positions ESPN to use this great programming and when you couple it with the NBA by the way to really strengthen the brand and as ESPN's subscription fees continue to rise, and their brand strength grows because of the affinity to all of these great program acquisitions we actually believe that we'll be able to grow advertising by delivering better ratings. And the ratings for ESPN last year as I mentioned in my remarks were quite strong. So double digit growth is what we're anticipating from ESPN. And we're pleased with how they're positioned both from a programming perspective, from a brand perspective, and in terms of their use of new technology.

A - Tom Staggs

Yes. The one thing I'd add to that is with regard to ESPN growth, I think there had been some concern, we talked about ESPN growth that would be, that would average double digits through 2009 and to exactly what Bob was saying just so people understand, if we thought that one of those years was going to be dramatically off that pace, we would try to indicate that in our guidance so I, it would be exactly what Bob said, we still believe that the way those years will roll out will be generally consistent with that pace, depending, of course, on the relative strength of advertising and the other impacts during the course of those years.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We'll take the next question please.

Operator

Our next question is from the line of Anthony Noto with Goldman Sachs.

Q - Anthony Noto

Thank you, very much. Bob and Tom two questions, first, Bob, strategically do you see ABC as strategically important today as it was in the past and if so what could have caused that to change for it to not be as strategically important as it has been in the past? And then, Tom, I was wondering if you could update us on the home video market? I know that was a lot of comments that you had back in the September timeframe and I was wondering when we may see a bottoming on what the current trends are both for the Walt Disney Company and then sort of at the industry level? Thanks.

A - Bob Iger

Well, first of all, Anthony, I would be remiss if I did not congratulate you on the birth of your twins. That's what I would call true double digit growth. So congratulations. Rather than talking about, I realize I'm going to be a little bit evasive on the question, the strategic value of ABC past versus current or future, let me talk about current or future. Because ABC has been kind of part of different companies over the years. I believe that ABC Television, and that is the network combined with the television stations is a very valuable strategic asset for the Company. And what it does is it enables us through the reach that those stations and the network provide in combination to basically invest in great content and then to use that content not just on those platforms but on new platforms technologically, iTunes a perfect example, iPod but also to grow the Company outside the United States. And so when "Desperate Housewives" launches in China for me that's a great step from a strategic perspective and so we're looking really at a kind of three-prong brand approach for the Company. And that's Disney, which is clearly, first and foremost in our minds in terms of value, ESPN obviously a huge profit driver and a very, very important brand for the Company long term, and then ABC Television. And the reason I'm saying television is I'm differentiating it from ABC Radio. Our intention is to focus on these core assets of the Company and to use our capital allocated aggressively to basically build up the Company's portfolio of great programs and then exploit them aggressively outside the U.S. and on new platforms domestically.

A - Tom Staggs

With regard to the question on home video, I think that clearly our total units were down somewhat for the quarter, which drove the tougher comparisons. But if you look at the, and that had really to do with the slate that we had out there in the marketplace for the quarter. If you look at industry conversion rates, they actually looked to us like they improved modestly in the fourth calendar, our first fiscal quarter. And so we're cautiously optimistic about that. Last year the overall home video market was roughly flat with the prior year, and it, it looks like the first quarter was not inconsistent with that sort of a trend. So overall the market seems reasonably stable and conversions are up a little bit. Our quarter suffered a bit because of the slate that we had out there.

A - Bob Iger

And just to add to that, I'm actually bullish about next generation DVD. I realize that it's going to go through some, a bit of a challenge period because of the competing platforms and the fact that we have to penetrate the market with new players and new software or movies. But seeing it, I saw it at CES, the Consumer Electronics Show and I've seen a fair amount of demos here at the Disney lot recently, when you watch one of our movies or a TV show on a high definition DVD it is a great experience. And I have to think that that's going to be, one, good for our business because of the obvious and it is also going to be great for consumers. It is something I think that is going to ignite the marketplace. And I think the DVD side of it, even though we're programming a lot of live programming and HDTV, I think the DVD side is going to go a long way to stimulate penetration of HD in general in the marketplace.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We'll take the next question, please.

Operator

Our next question is from the line of Aryeh Bourkoff with UBS.

Q - Aryeh Bourkoff

Yes, good afternoon or good evening, just a few questions. One, I was wondering for the film division could you give us a breakdown of the performance in the quarter, particularly theatrical versus home video and within home video maybe a breakdown between new releases and library titles? And secondly, I was wondering if you could give us an update on the cable networks in particular ESPN's negotiations with Comcast and Time Warner? I have the impression that it was close but just looking for an update there. And then lastly, any sort of Internet assets out there that you are looking at or targeting for enhancing the growth profile of that division? Thanks.

A - Tom Staggs

Well, what I will say about the breakdown at the studio is that the biggest driver of the year-over-year change came in the theatrical area, but we also saw lower results at domestic home video, international home video was up just a little bit. The, with regard to the home video marketplace we had nice, very strong results from Cinderella which compared reasonably well to "Alladin" last year and so those are the biggest pieces of the library. But, but there was, greater depth in the new releases this last year than there were this year. And so that was a bigger part of the driver there.

A - Bob Iger

On the cable front a lot of details have already been worked out between Time Warner and Comcast and Disney but there's still some details to go. Because we're talking about long term deals with many moving parts in a world that technology is making more and more complex, there is some pretty interesting issues on the table in terms of the role of the distributor versus the role of the programmer. And while I'm a little bit frustrated at the pace, because it's just taken a long time, I'm not concerned about the ultimate outcome.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

What about Internet?

A - Bob Iger

I don't think we would, sorry, we wouldn't comment about anything specific we'd be looking at in the Internet category. We obviously are fairly aware of developments in that business. And consider a lot of possibilities. And that's an ongoing process.

A - Tom Staggs

Yes. I think what we said in the pass was that we were open to that, to acquisitions along those lines. And we really would be looking for reach in audiences that we think are consistent and comparable to, or compatible with our existing operations and that are leverageable across the range of content activities that we have but, as Bob said, I don't think we'd point out anything in particular at this point.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We'll take the next question then please.

Operator

Our next question is from the line of Jessica Reif Cohen with Merrill Lynch.

Q - Jessica Reif Cohen

Hi, thank you. A couple questions. On animation could you just fork through again what the expectations would be for Disney animation per annum versus Pixar? Like at what point will Pixar actually ramp up, it sounds like '07 for sure is one film, so just wondering when you really expect them to be, if ever, two films a year? And then on the kind of divestiture front, did, Bob you mentioned that TV stations are kind of hand-to-hand with the network but you have ten stations versus everyone else's, significantly larger station group. Do you think you have enough? Sounds like you need to keep them, but do you think you have enough stations? And then finally given the success of Hong Kong just wondering if there's any movement on another China location, another theme park?

A - Bob Iger

Right. Okay. Let's see. Theme park first, nothing to report there. By the way, Jessica, I congratulated Anthony, I would be remiss if I didn't congratulate you on the birth of the new Disney princess, Vanessa, so congratulations. On theme parks we've had ongoing discussions, ongoing and ongoing and ongoing with the Chinese Government about a park in Shanghai, and nothing new to report there. The TV station side, we have ten stations. They, most of them are in great markets, well, they're all in great markets, some of them are in bigger markets than others and they are powerhouses in terms of ratings, performance and also economically and while I think it would be nice to have more we don't feel it is essential and every time we've looked at potential acquisitions in that space we felt that the prices being paid were just a little bit too high and since our relationship with our affiliate base is relatively healthy there doesn't seem to be a need to own or control more. The first question on Pixar and Disney animation, we're not being all that specific in terms of numbers except to say that the goal is to release approximately two films a year. There will be some ebb and flow in that regard as we focus on ultimately when the deal closes on the sequels that we're, that we plan to make. We expect, for instance, when the deal closes that Pixar will take over the production of "Toy Story 3". And we know that there will be some other development activity at Pixar in terms of sequels. And we are going to focus on quality, particularly in this space. It's incredibly important. And while I think we'll be satisfied with quantity, the quantity that we produce, the focus is making sure particularly because these films tend to have such an impact on people's perception and the Disney brand that we're making the right films and releasing them at the right time.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We'll take the next question please.

Operator

Our next question is from the line of Kathy Styponias with Prudential.

Q - Kathy Styponias

Hi, thanks. I have a couple questions as well. First Tom if you can potentially or possibly clarify with the ABC Radio transaction, does it or does it not include the ABC Radio networks? Second, Bob, I'm wondering if you can give us a sense, basically monetizing content over new platforms is a key strategic priority for Disney. So I was wondering if you can give us a sense of how much you're currently generating in revenues from these types of platforms and how big you think these could grow over the next three to five years? And then finally, with respect to rights as it relates to your film library for areas like broadband, does your agreement with Starz preclude you from putting certain titles of your catalog titles to make them available on iTunes or is it considered a completely different animal? Thanks.

A - Tom Staggs

Well, on the first question, the proposed combination with Citadel does include the ABC Radio networks and formats. And with regard to ABC News content it's by way of a license agreement whereby they would for at least ten years be the, distributing on terrestrial broadcast radio the ABC News content. Its possible that ABC News would be elsewhere via different mechanism.

A - Bob Iger

To the two questions about really content over new platforms, we don't get into much detail about the agreement with Starz publicly but I can tell you that we have the ability to make available to the public on a VOD basis movies that are also available through the Starz platform. And a period of time actually before the Starz window kicks in, again on a VOD basis. In terms of monetizing content over new platforms, and how high or how big that could be, my sense is that it can be very big and very high. I can't, we're not going to be specific about it. We're already starting to see some relatively decent revenue flow from some of the activity in this space. I think today that, while we say they are significant, like, 2.5 million downloads on iTunes, in reality it's still baby steps as these new devices and these new platforms penetrate the market. It's clear that consumers are going to use new platforms and new devices to access content all over the world. And the more they do that, the more opportunities we have to move that content on new platforms to these consumers.

In some cases it will be incremental revenue to the Company and in other cases it won't be. What is clear, and this is something we're learning from the iTunes experience, is that people will pay for the convenience of either gaining access to content that they missed before or for mobility. Very, very clear. And I think you're going to see that pattern continue. Particularly as new generations of people move into the marketplace that are much more used to adopting these new technology platforms than their parents' generations were. So I'm very, very bullish. It speaks volumes in my opinion about great content but it's also important that we put that content out on the right platform and that means not only well-timed and well priced to market but a platform that provides us with a very user friendly environment, user friendly for the consumer, user friendly for the program provider, one that really respects the value of intellectual property and one that generally speaking we feel has a really good chance of succeeding. We could make dozens of deals in this area right now but quite frankly, a lot of entities that are coming forward are providing us with opportunities that we feel will be short lived because we don't think their platforms are going to survive.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

Next question please.

Operator

Our next question is from the line of Michael Nathanson with Sanford Bernstein.

Q - Michael Nathanson

Thanks, I have one for Bob and one for Tom. Bob, I was wondering, what impact do you think the new NFL Network is going to have on ESPN ratings and advertising> And then for Tom, when I look at your income from affiliates line it was down year-over-year and cable networks is a big part of that. So if you could just give me some color on what happened in the quarter?

A - Bob Iger

I think it's, in all likelihood the NFL on, the NFL channel is not going to have any impact on ESPN ratings or advertising. ESPN will have "Monday Night Football." It will be extremely well programmed and positioned and promoted on the ESPN platform and so I'm sure that ESPN is going to do quite well with it. And the eight games that are on the NFL channel or network which I, obviously will have great value to that network I don't see impacting ESPN negatively at all.

A - Tom Staggs

With regard to the equity and affiliates line, the biggest part of that decrease, far and away actually the biggest part of that decrease is in the various channels, many of them international where we own minority stakes. The big channels, A&E, History Channel, Lifetime and E! had slightly softer results year-over-year but not, but weren't different by very much at all. So the, at the end of the day we're still very comfortable with where those channels sit, and the fundamentals underneath them.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We'll take the next question, please.

Operator

Our next question is from the line of Douglas Shapiro with Banc of America Securities.

Q - Douglas Shapiro

Okay, thanks. Also one for Tom and Bob. I, it may be obvious but Tom, I'm just wondering should we assume that this 1.4 or 1.65 billion is already earmarked for the buybacks that you've already disclosed? And then for Bob, you mentioned that you don't intend to let existing business models stand in the way as consumer tastes change. I was just wondering if maybe besides the iTunes deal you can talk about more specifically what you might see on the horizon and maybe more specifically with regards to windows? Thanks.

A - Tom Staggs

Well, with regard to, we haven't earmarked those funds for anything other than operating the businesses and reinvestment in the business. The share repurchase decision is one that we've made separate and apart from the transaction. We obviously take into account our overall liquidity and debt position when making those decisions. But the, I think the, those specific funds we haven't earmarked at one specific place or another.

A - Bob Iger

In terms of other deals that we're looking at, there are many. We're really looking at everything. Some I think that will be quite significant. But I don't want to really get that much more specific. In terms of windows, it comes down to one very obvious thing. I hate to sound cliched but we're watching consumer behavior change right before our eyes and technology is causing that. And yet a lot of these businesses are very wedded to old business models and practices and habits and relationships and it behooves the whole industry to really look at what consumers are doing and how they are changing and not let these other models get in the way of it. It tricky because you are putting relationships on the line. In some cases we're putting current business models on the line and so there's risk associated with it and we're trying to find a balance.

I know that I have been fairly outspoken on the subject of windows. I actually believe that you are going to see a fair amount of change in windowing of product, whether it is movies or television product. iTunes is one example of that. Where it is going to come, when it is going to come, I'm not 100% sure except I believe that there's an inevitability to it. The other thing that I really hope is that when it comes to the theatrical window for motion pictures, it's clear that that window creates a lot of value. That the experience of going to a great movie in a great theater on a big screen is a memorable experience. And we'd like that to continue. But the world is getting a lot more competitive than ever before. People's experiences watching these movies in the home has changed a lot thanks to these new technologies, big flat screen TV's and HD television. And so I think the industry has to pay heed and make sure in a more competitive market that we're serving the consumer better, either by getting product to market faster or by making the initial experience better. And so I think when it comes to movies, I think it would be important for the whole industry to make sure that the movie going experience is enhanced, its one of the reasons why we're as supportive of digital cinema as we are, that that is a great experience and that it is preserved because ultimately if it is not that is when there will be that much more pressure on windows.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We'll take the next question, please.

Operator

Our next question is from the line of David Miller from Sanders Morris Harris Group.

Q - David Miller

Yes, hi. Bob, two specific questions for you. In your conference call with Steve Jobs a couple of weeks ago, I'm not certain that the question was answered regarding the fate of Disney's current CGI slate, post "Chicken Little", which obviously includes "American Dog", "Rapunzel Unbraided" et cetera. Projects that you guys gave major lip service to at last year's analyst meeting. What is the fate of those projects exactly? Do you see outsourcing those to Pixar? Or do you see keeping them in-house as, call it Disney-owned projects? And then also with regard to "Monday Night Football" next year there are some reports that Al Michaels may not want to join Joe Theisman in the ESPN booth this fall, and instead prefers to stay with John Madden which I believe he's going to NBC in that Sunday night package. Just given your sports background with the old cap cities, number one does this matter and, number two, do you see this at all affecting CPM's and ad rates going into the June cable upfront? Thanks very much.

A - Bob Iger

Well, I thought we did answer the question, the first question you asked, the intention is to release "A day with the Robinsons" sometime next Christmas season and then a year later" American Dog" and we don't intend, unless there are unforeseen circumstances to change the release schedule for those films. Once the deal closes John Lassiter and Ed Catmull will take a good look at everything we've got in animation, both films that are in production and in our development slate, and under their leadership they'll make decisions about ultimately what gets made and when it gets released.

One of the things that is obviously attractive to us about this deal is that the talent at Pixar, including John and Ed, and the technology, can be applied in a variety of different ways to the pursuits of Disney animation. And when you think about the Pixar deal you have to think about it in terms of movies themselves, and three specific categories. One, the fact that we will own 100% of the Pixar films, starting with "Cars" should the deal close in time, which we hope it will.

Two, it's all, in all likelihood it will be Pixar that will be making the sequels and since they made the original films we like the fact that they will be making the sequels, we think that's the right place to make them by the right people. And then, three, the talents of John Lassiter and Ed Catmull and others when applied to Disney animation should improve our prospects for our Disney films. Now on top of all of that as the impact of great animation for the Company because animation is such a wave maker for this company, either perception of the brand or the ability to exploit it across so many platforms. So all of this is still kind of up in the air in terms of what gets released when except for the two films, but we're very, very bullish about the prospects of Disney animation going forward with Pixar and under the leadership of Ed and John. In terms of Al Michaels he just finished the Super Bowl yesterday where I thought he did a great job. I worked with Al for years at ABC Sports, he is a friend and a neighbor and I don't, his future with the Company is under George Bodenheimer who runs sports for the Company, I, and any decisions that are made regarding Al will be made by George and there's nothing more I can really say about that.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

We have time for just one more question, operator.

Operator

And our last question is from the line of Spencer Wang with JP Morgan.

Q - Spencer Wang

Thanks, good afternoon. Two quick questions, Bob can you just, some broadcasters have been getting cash for retrans, can you just walk us through your current thinking about using the ABC stations for that? And then secondly Tom CapEx in the quarter was about 200 million. Is that a good run rate for the year? Thanks?

A - Bob Iger

We give MSO's the opportunity to pay cash for retrans and basically the retrans deals only. And in almost all cases they opt for an omnibus deal that includes distribution of all of our other content, in some cases in new technologies. The relationship that we've managed to strike with these MSO's is, I think, beneficial to both sides economically and otherwise, we've managed to grow our businesses, both the multiple system operator business and cable and satellite business as well as the program business and I don't want to comment about what others are doing, but we like the way our negotiations have unfolded in the past and are unfolding in the future where we're actually getting value from retransmissions but it's coming in another form. And whether in the future there will be a time when there's a charge directly for it by us, I'm not 100% sure. Certainly possible. But by and large we're quite comfortable with the balance that we've struck with these operators.

A - Tom Staggs

With regard to capital expenditures, you may have noticed that our domestic parts were down in terms of their capital spending by about $50 million in Q1 this year versus Q1 of last year. Part of that was timing. I think that the best assumption right now is that for our domestic theme parks the capital expenditures for the year as a whole will be not that different than what you saw for the year as a whole last year. Of course the international parks will be down considerably having finished the initial build out of the Hong Kong park, as we told you to anticipate. So I think the best way to think of it is, think about it is taking our domestic operations, capital expenditures will be up a bit at media networks so for the year overall we might be up little bit in capital there and then we'll be down with our international parks operations for the year as a whole. So that puts you a little bit above the run rate you saw in the first quarter due to the timing on the theme parks domestically.

Wendy Webb, Vice President of Investor Relations and Shareholder Services

Thanks for joining us today. Note that a reconciliation of non-GAAP measures referred to in this call to equivalent GAAP measures can be found on our Investor Relations website. Let me also remind you that certain statements in today's press release and on this conference call may constitute forward-looking statements under the Securities laws. These statements were made on the basis of management's views and assumptions regarding future events and business performance as of the time the statements were made and management does not undertake any obligation to update these statements. These statements are subject to a number of risks and uncertainties and actual results may differ materially from those expressed or implied in light of a variety of factors, including factors contained on our annual report on Form 10-K and in our other filings with the Securities and Exchange Commission. This concludes today's conference call.

Operator

Ladies and gentlemen, we thank you for your participation in today's conference. This concludes your presentation and you may now disconnect.

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Source: Disney F1Q06 (Qtr Ending Dec 31, 2005) Earnings Conference Call Transcript (DIS)
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