Hearst-Argyle Television, Inc. Q4 2007 Earnings Call Transcript

Hearst-Argyle Television, Inc. (HTV)

Q4 2007 Earnings Call

February 22, 2008 9:30 am ET

Executives

Harry T. Hawks - Executive Vice President, Chief Financial Officer

Tom Campo - Investor Relations

David J. Barrett – President, Chief Executive Officer

Analysts

Marci Ryvicker - Wachovia Securities

Lee Westerfield – BMO

Jim Goss - Barrington Research

John Blackledge – JP Morgan

John Kornreich - Sandler Capital

Tracy Young - Bear Stearns

Presentation

Operator

Thank you for participating in the Hearst-Argyle Television, Inc. fourth quarter earnings call. (Operator Instructions)

Your host this morning is Harry Hawks, Executive Vice President and Chief Financial Officer. Also participating are David Barrett, President and Chief Executive Officer; and Tom Campo, Director of Investor Relations. I would now like to turn the call over to your host, Harry Hawks.

Harry T. Hawks

Welcome to our fourth quarter 2007 earnings call. This morning you will hear from both David Barrett and me regarding our financial and operating performance. Then the two of us plus certain other members of our management team will respond to your questions.

First, we need to take care of the legal and administrative details.

Tom Campo

We will be discussing forward-looking information and we refer you to the cautionary language that we detailed in the Safe Harbor Statement in our earnings release, which was released earlier this morning and which is also posted to our corporate website, hearstargyle.com or to most any finance websites.

We will be discussing non-GAAP information during this call. And in compliance with Regulation G, we provide tables within the press release reconciling this non-GAAP information to GAAP measures. Cautionary language is also provided in our SEC filings also accessible via our website. The company undertakes no obligation to update this information.

Once again, we want to welcome those of you who are listening to the webcast, which will be archived on our site. And with that, I will toss it over to David Barrett.

David J. Barrett

We appreciate you being with us today for a discussion about our fourth quarter and full year ‘07 financial results which, as Tom referenced, we released earlier this morning.

As you’ve noted in our release, we concluded ‘07 with a better than expected performance in Q4, giving us a welcome lift at year-end, and signaling better things to come in ‘08. Q4 political spending in New Hampshire and Iowa was very strong in advance of the New Hampshire primary and the Iowa caucuses, and indeed our total political revenues at WMUR, Manchester and KCCI in Des Moines were at record levels.

One of the hallmarks of our company is our commitment to political coverage at the local and national level and I thought that WMUR and KCCI certainly distinguished themselves throughout both of those campaigns. We were involved in debates, and a lot of the video, a lot of the reportage that most of you saw across the country, emanated in part from our stations in Manchester and Des Moines and they’ve really acquitted themselves very well with the excellence of their coverage.

Consistent with what we have told you over the past six to nine months, the number of our mid to smaller market stations primarily located in the Midwest had been achieving consistently improved performance during the year.

They concluded the year with record revenues, six of our stations achieved record revenues, and I think achieving such an accomplishment in ‘07 is indicative of just how strong these stations are in terms of their brand impact, their local news performance and their over-indexing of network and syndicated dayparts, as well as the engagement they have in their communities.

During the fourth quarter, we benefited from double-digit ad spend gains in pharmaceuticals, attractions and telcom categories and single-digit gains in the restaurant category, financial services and retail. Automotive in Q4 was down 1%, weak but better than the double-digit declines we previously experienced earlier in ‘07.

Continuing to make good progress on our digital media efforts, revenues were up 25% in Q4 over prior year. I draw your attention to the table we provided in our release in respect to website traffic statistics, I think it’s impressive, I hope you will take a look at it carefully. On a day-to-day basis as I review our traffics stats, I’m struck by how significant the medium we’ve created with our websites.

On Wednesday, two days ago, we had 1.5 million visits and 7.3 million page views. We had 165 video visits with just over 300,000 video page views. The prior week, because of local news and weather events, which drove page views, we peaked over 11 million page views on several days.

This is an extraordinary medium and our stations are really learning how to optimize the opportunity on the web to attract traffic. When you consider our strategic website progress, our digital multicast weather channels, our 30 YouTube channels and our WAP protocol mobile efforts, we’re very well positioned in the digital space.

You may have read that Terry Mackin, who has headed our digital efforts for the past few years, and before that served as one of our group heads, has left the company to become President of the Univision Station Group. We wish Terry all the very best in his new challenge, but be assured we will be staying the course with our digital efforts.

Terry has assembled a vibrant team, a hard working team, and they will be pursuing the strategies we’ve committed to as a company. In the coming weeks we will be naming a successor to lead these digital initiatives.

With the financial performance of our midsize stations and lots of positives on the digital side, they are very good news indeed and encouraging, as are the facts we’ve noted in our release about the rating strengths we have as a company in most every one of our markets.

Top rankings among ABC affiliates, 17 of 18 affiliates in the top 50 markets that over-indexed their networks primetime ratings, number one local news ratings for every single newscast in the market at six of our stations, and near sweeps of local newscast at several other stations, are among the many achievements we’ve had at the competitive level of the stations.

The top tier leadership we’ve long said that is essential to success is being accomplished in most of our stations. That plenty of positive things going on, but still these are challenging times as we are impacted by many extraordinary factors somewhat beyond our control.

NBC’s weekend ratings are troublesome to us and the writer strike certainly prevented networks and stations from generating interest in ratings for the scripted programming that is still a vital genre in prime time. And we remain concerned about the overall economic condition of the country, the housing slump, volatile credit and capital markets, high energy cost and higher unemployment are issues of concern for all American consumers.

We talked about this on our October call and is obviously still an issue today. Our opportunities are best realized in times of high consumer confidence when consumer spending stimulates increased ad spending. The generally weak and uncertain economic conditions we are currently experiencing are not optimal for our business or for most other businesses that I can think of.

In respect to ‘08, we assuredly do anticipate a year of solid growth and strong performance by our stations. Political will be a driver for sure for many of our stations and we are off to a good start and the summer Olympics in Beijing will give us a revenue boost in August, which is typically an otherwise relatively quiet month. When all is said and done we are inextricably linked to the US macro economy and our upside will be influenced by domestic economic conditions.

As has been consistently the case over the past 10 years, our company performs in the top tier of comparable companies that will be the case again in 2008. I consider our company and our stations to be best-of-class, and our capital structure, our balance sheet, and our disciplined financial stewardship, along with the consistently strong competitive performance of our stations, are distinct differentiating and competitive advantages for our company.

There is no doubt that these are turbulent and challenging times, but no other television company is better positioned to compete, to create and to capture business opportunities that will continue to be available in the local TV space, as well as in the local digital media space.

I will ask Harry to add his comments and color, and then we’ll be happy to take your questions.

Harry T. Hawks

Given the detail in the press release and the detail of David’s comments, I would like to use my time here for the next few minutes to address three recurring and/or topical subjects that we respond to on a recurring basis.

First is to talk for just a moment about the normal cyclical pattern of our revenues in response to many questions we get on a frequent basis. For those of you have followed us for a few years you are aware that we earn a substantial amount of political advertising largely during even number years giving us a very if you will lumpy revenue trend line.

First please appreciate that political coverage and political revenue are a real business for us. It’s certainly not accidental. We work very hard at this, make a substantial investment of capital and expense in this leading effort and we earn our leading share of political revenue. It is deliberate and no accident.

The second point therefore is that we encourage you to look at our results over periods of at least two years to understand how that cyclical pattern affects our revenues, earnings and cash flows. To facilitate this we provide three comparative years on the income statement and the statement of cash flows in the press release.

The second comment is with respects to broader market credit woes, if you will the capital market volatility. Barring any significant transactions for us, we have no required financings in 2008.

There is a $90 million regularly scheduled principal payment during the fourth quarter of this year that can easily be funded by either free cash flow or by availability on our existing line of credit, which is currently priced at LIBOR plus three-quarters. Just for the record, yesterday 90-day LIBOR was at 3.09%. So, if we were to reuse the revolver to fund that $90 million payment, at least yesterday it would be at a price of less than 4%.

As you can see from the press release, on Page 4, in the liquidity and capital resources section, even in a lower revenue odd number year like 2007, we have plenty of liquidity to fund capital investment in the company, substantial amount of debt reduction and indeed a return of capital to stakeholders through dividends and share repurchases and the like. We believe that our financial flexibility looking ahead to 2008 is certainly more than adequate.

Third, and the sort of final comment here is just some explanatory comments about the financial statements that may help you as you build your 2008 models for us. The first has to do with the practical effects, if you will, of our adoption of FIN 48, which deals with taxes. We, and the rest of corporate America who adopted FIN 48 have the same problem, and that is a very volatile tax provision rate quarter by quarter.

The full year of 2007, the rate was 36.2%, but the quarterly provision was all over the place, as high as 48% in the first quarter, as low as 17% in the third quarter, averaging out for the year at around 36%. We have given guidance that the provision will be about 39%, but as you try to calculate or estimate quarterly EPS please give effect to the volatility of FIN 48 because it will make a difference.

The second point as you look at the financial statement in the press release you’ll note that the share count in the fourth quarter is substantially higher than the share count and for the full year. That is correct, that is not a typo.

That in the fourth quarter and every quarter in fact we are obliged to do a dilution, an anti-dilution test with respects to convertible preferreds we have in our capital structure, and some quarters we consider conversion of the converts, other quarters we don’t, and it all depends on whether it’s worse for us or better for us. If it’s worse for us we do it, if it’s better for us we don’t. So, that’s all that is, that’s why there is a different share count in Q4 but not the full year.

Lastly, regarding free cash flow, because of the even and odd year dynamic of the very large amounts of political, it’s good to note that political is cash in advance so you do get different working capital implications for those of you that calculate the free cash flow even to odd years. In other words, you can have a higher revenue year with a lot of political in it and finish the year with a lower accounts receivable balance, because those sales were done in cash and there are no receivables.

And you’ll note of course in the guidance we have given an outlook for a lower level of CapEx in 2008. Obviously, as we said in the press release, given the economic uncertainties, we have not given any revenue guidance for this year. With that, we would be happy to take your calls at this time.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question is from Marci Ryvicker - Wachovia Securities.

Marci Ryvicker - Wachovia Securities

Can you remind us how much Olympic revenue you booked during the last Summer Olympic Games and do you have any expectations for this year? There are a lot of different revenue opportunities for the TV broadcaster to generate incremental revenue. You have digital channels, Internet sites, potential mobile, and retransmission consent. Out of all of these opportunities, is there any one that you consider more of a near-term catalyst than the others.

David J. Barrett

In ‘04, Summer Games were in Athens, we did just under $20 million net. And in ‘00 we did $18 million. And I think I had said last year, maybe in October we have an expectation that we’ll do better in Beijing because I think the venue will be highly interesting.

They’ve time-shifted some of the events, notably the swimming events, at least will be viewed live in primetime. So, I think that the interest in America for the Olympics being staged in China will give us an opportunity to have increased Olympic revenues at our 10 NBC-affiliates.

And then in terms of the revenue opportunities, I continue to believe that the digital opportunity is our most significant growth potential. We have very impressive products. We’ve got very impressive traffic statistics. I think we, like everybody else, is challenged as to how fast we can drive revenue to be better in step with the quality of the products and the audience we’re generating there.

And one of our strategies this year is to really focus on revenue development that our stations on the digital side, in terms of reallocating bodies, creating some new positions, we’re putting in place a couple of dozen sales reps and support staff across our group of stations, they are going to be very much dedicated to driving digital revenues.

We are also implementing a very impressive sales training initiative that can help this new generation of digital sellers and help our old generation of television sellers better understand how to capitalize on revenue opportunities in the digital space, so I would point to that as the area with the most upside at the moment.

Operator

Your next question comes from Lee Westerfield - BMO.

Lee Westerfield - BMO

Harry, if you can repeat what you said about that the seasonality of taxes? I think you were referring to the 2007 tax seasonality. Will the same pattern be what you expected this year or are you simply saying to expect wayward tax effective rates on a quarterly basis, if you can touch on that and I will get to the next.

Harry T. Hawks

Yes, the short answer is yes. There will be and this is consistent for us and everyone else in corporate America, it’s not unique to us. You will see much higher levels of tax provision in the first half of the year, lower levels in the back half, and as we have given guidance in the press release, the full year provision, we are estimating at this time to be around 39%, but you should expect Q1 and Q2 provisions to be materially higher than that, falling off in Q3, normalizing in Q4.

So, sorry for the complexity but we didn’t invent FIN 48. We just have to live with it.

Lee Westerfield - BMO

Of your retransmission revenues that are contracted, what percentage of your household reach do your current contracts reach, or inversely what percentage of your reach are not yet governed under new retransmission contracts?

David J. Barrett

Well, I don’t have a specific percentage, but I think the way to express this is that in the fourth quarter, our agreement with Comcast will be revisited and most of the others will as well. We indicated that we did a deal with Cox in the third quarter of ‘07. But most of our deals are up, come the fourth quarter of ‘08. Steve Hobbs is next to me and he’s just given me a note that says he does know the percentage, two-thirds of our retrans deals come due fourth quarter ‘08 through ‘09.

Lee Westerfield - BMO

On political advertising for this current cycle, in the 2000 and 2004 election cycles, I know New Hampshire had later timing than it did this go-round. To what extent, and it’s fine print question, but to what extent do you think the shift into December as opposed to in January for advertising in New Hampshire what’s the difference this go-round versus the last two election cycles?

David J. Barrett

Well, we did well more in New Hampshire, I’m not going to be specific about our number in that market, but we did well more than was the case in ‘04 and well more than our budget, for the full primary season. Yes, some of it fell in late November and December and indeed some candidates were running throughout the year, literally we got about 15 months of spending out of the New Hampshire primary, which was unprecedented.

A portion of it, Lee, did fall into the first week of January and it was significant, most avails on that station out there were used for political advertising in the home stretch. So I know what you are driving at, how much do you back out of your ‘08 model because of what ran in the calendar year ‘07 and I’m not going to be able to be totally specific with you guys, but you have all been better handicappers of our political anyway without my help.

Operator

Your next question comes from Jim Goss - Barrington Research.

Jim Goss - Barrington Research

In that fourth quarter diluted EPS calculation, you do have the higher shares, what is the add-back though, is it preferred interest of some specific amount?

Harry T. Hawks

Yes. The way you do the math there, is you would add back the number of shares attributable to the convertible preferred, which is about 5.1 million shares, but if you do that of course then you would eliminate the interest or dividend expense I should say associated with that, which runs on an annualized basis of $9.75 million per year and obviously per quarter it’s one-fourth of that, that is pre-tax and therefore you would tax adjust it to calculate the EPS impact.

Jim Goss - Barrington Research

On the political issue with the Super Duper Tuesday, how did that work out in terms of giving you more or less in political advertising than you expected and can you talk about how this season seems to be developing following up on, the way all of the seasons have since the Bush-Gore election reminded us about the electoral system and everything got very specific about whether a state is in play or not and whether it got dollars or not?

Can you give a little more color on what you are seeing in the political process right now for the primary season and what you might expect in the general elections?

David J. Barrett

Yes, Let me back up to South Carolina and Florida. We did about what we expected there. There was nothing extraordinary that occurred in terms of spending levels in South Carolina. In Florida, of course the Democrats weren’t really competing although in retrospect they probably wish they were.

On the Super Tuesday February 5, we saw some fairly significant revenues in California. Some of that was certainly presidential, but there were also some significant ballot initiatives. There was an Indian gaming ballot referendum there that was very, very significant for us at KCRA and to a lesser extent in Monterey. So, I would say we did a little bit better, Jim, on February 5th than we expected was the case, but it was not all driven by presidential spending.

We are seeing a fair bit of activity in Ohio. In Cincinnati we’ve got one station in the state of Ohio that will be the key spot as we’re all reading on March 4th. We don’t have a property in Texas, but Ohio, Cincinnati will see some significant activity there.

I don’t think there is going to be much presidential spending in the Mississippi primary on March 11 and then, we are talking about Pennsylvania on the 22nd. I suppose that if Hillary Clinton was able to make a comeback and win in Ohio and Texas, Pennsylvania would then become very important and there have been few requests for avails, but no one has booked any time there at all.

Recall in the past, I have said that presidential has been about 25% of our total, if I could look back to ‘04 and even look back to ‘00. This year it may a little bit higher, but the biggest driver in this is going to be the combination of state races for Senate, for Governor and ballot initiatives. That business is going to occur third quarter and the first few days in the fourth quarter in October and in the first few days of November.

Last time around, we had, I want to say eight of our states were key electoral states and New Mexico was one such. Wisconsin was one such station where there was a real jump ball on the electoral votes. Missouri and Ohio and Florida were three others.

We have a number of states that will be very close calls for electoral votes in the fall campaign and that will induce, I think a fairly high level of spending from whoever the final nominees are, whether it’s McCain versus Clinton or Obama, they will target their money in those states.

The other factor that’s come into play now that McCain is the presumptive nominee from what it appears and if Obama in fact does eliminate Clinton before the convention we are going to see more spending from the 527 organizations that raise their own money and spend their money in a very aggressive way. It’s my understanding that spending with the 527s is really not going to open itself up until the races and the candidates are presumptively clear.

Operator

Your next question comes from John Blackledge – JP Morgan.

John Blackledge – JP Morgan

Looking into the first quarter and first half of ’08, are the Florida, California, East Coast markets, are they worse than they were in the fourth quarter? Are any other markets weaker than in first quarter and first half than in the fourth quarter?

And then on the category side, are any weaker, are they still soft in the first quarter? And then obviously you were unable to provide full-year revenue guidance, but given that we’re two-thirds of the way through the first quarter, I am wondering if you can give us a sense of how the first quarter is pacing?

David J. Barrett

California markets and Florida markets are continuing on as they were second half of last year, which I had characterized as soft. I think Boston is marginally better than was the case in the third and fourth quarter of ‘07. I think some of these bigger markets are still very much impacted by overall economic conditions.

Automotive, which I referenced in my remarks, that was down 1% in the fourth quarter is down more than that in the first quarter, but the appearance is of pacing at the moment. Although we are not quite two-thirds of the way through the first quarter because March represents the single biggest contributor to the quarter I’m not going to take the bait and hazard a forecast or any guidance on what the first quarter revenues will be.

John Blackledge – JP Morgan

What’s your margin on your digital business?

David J. Barrett

Margin on the digital business is 31.5%.

Operator

Your next question comes from John Kornreich - Sandler Capital.

John Kornreich - Sandler Capital

Is that retransmission consent revenues, is that considered part of your “digital revenues”?

David J. Barrett

No, it is a separate line item, we break it out separately and I report it.

John Kornreich - Sandler Capital

About programming payments, it’s leveling off, it has been level, and will continue to be level. Can you discuss the why of that? Is it due to a mix change in acquired programming? Is it due to softening pricing in acquired programming? And to what extent is this simply due to a change of mix between internally produced programming versus acquired programming?

David J. Barrett

Most of the program we acquire is still first run and I would say it’s a function of us negotiating satisfactory deals with the syndicators, implicit in that is that the increases have been modest. I do think, John, as we’ve said all along and it finally begins to reveal itself, we have got some benefits, if you will, of scale, when we sit down with the CBS television distribution or the Time Warner people.

I say CBS thinking of King World, which is where most of our syndicated programming has come from, but we’ve managed to put in place fair to satisfactory deals on the renewal. I think it’s a function of the recognition that we’ve got the scale and the important time periods and the important markets

Our stations tend to over-index on what the national numbers are, ratings numbers are for that syndicated product, which infers higher value for the barter in syndication, because it’s running our platform and that’s all a factor in the negotiation process.

John Kornreich - Sandler Capital

Is there any discernible mix change between what you’re buying and what you’re internally producing, is that a factor?

David J. Barrett

No, that isn’t a factor. The one thing to remember is with the addition of KCF in Orlando, we acquired some off-network comedy programming in half-hour program blocks, which typically have been more expensive than the first run that is typical, the Oprahs, the Dr. Phils, and the Entertainment Tonights that run on our affiliated station.

So we’ve got the station in Kansas City, the second station in Sacramento and the second station in Orlando that buy a different kind of product than is typical with our network affiliates and so is the case for WMOR, the station that we manage for Hearst in Tampa that’s an independent. But otherwise the same kind of programming that we are running at our network affiliates has largely stayed in place.

There have been one or two markets where we have introduced 4:00 pm newscast, because we haven’t been happy with the kind of syndicated product that’s been available to us or happy with the price point and to that extent it moderates what the programming cost is. It becomes a cost of news for us, but the incremental cost of adding that extra 30 minutes or 60 minutes is very modest, but I’d hasten to add that we aren’t doing many of those 4:00 o’clock shows. So you know, weight that very lightly in your calculations.

John Kornreich - Sandler Capital

Is there anything in looking at your portfolio and then looking at two or three years where you’d like to maybe get somewhat more geographic balance, I know you have a lot but would you desire more geographic balance or maybe strengthen the representation in the third major network that you are somewhat light in?

David J. Barrett

I think we are generally satisfied with our geographic balance, we are weighted heavily in favor of ABC and NBC, we’ve only got two CBS, we don’t have any FOX stations, but I think it’s more a case of looking at market opportunities than network affiliate opportunities. We are in the deal flow, we are aware of what’s out there, but we wanted to be very disciplined in what we have pursued.

We have said in the past that most of our business is concentrated in top 75 markets, some have said why are we in some of these smaller markets but, in fact, some of these smaller markets are very profitable little stations. They are very stable. There is less volatility in those markets.

So although that was not an area where we would probably expend any additional capital to expand. We’ve been very happy with how our operators have performed in some of these markets in size 75 though 123 and I’m thinking of Monterey and Fort Smith, to name two.

Operator

Your next question comes from Tracy Young - Bear Stearns.

Tracy Young - Bear Stearns

In 3Q you had said for the auto category that spending for the dealer ad groups and manufacturing was down, while local dealers were up. Did you see the same trend in 4Q? In terms of your capital expenditure guidance it looks like there is a $12 million difference. Could you remind us what the difference could be?

David J. Barrett

In terms of the automotive same trend continued from Q4. And in terms of capital, our outlook is for about a 20% reduction in capital expenditures in ‘08 and that’s a function of us completing some facilities that we were involved with, new facility in Baltimore, and some work that we finalized in New Orleans, and in Kansas City, the building we did there.

So we had what I will call some extraordinary facility investment over the past couple of years that is moderated. We intend to roll out a couple more HD stations, to do local news in HD and some of our larger markets we’ve got five under our belt right now, four or five and those are contemplated in the $44 million CapEx outlet we’ve provided, Tracy.

Operator

At this time I show no further questions.

David J. Barrett

Well, thank you for joining us on the call this morning. Have a great day. Thank you.

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