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Martha Stewart Living Omnimedia, Inc. (NYSE:MSO)

Q3 2012 Earnings Call

November 2, 2012 8:30 am ET

Executives

Katherine Nash – Corporate Communications

Lisa Gersh – President and Chief Executive Officer

Kenneth West – Chief Financial Officer

Analysts

Michael Kupinski – Noble Financial Capital Markets

David Bank – RBC Capital Markets

Operator

Good morning and welcome to the Martha Stewart Living Omnimedia Third Quarter 2012 Earnings Conference Call and Webcast. Your hosts for today’s call are President and Chief Executive Officer, Lisa Gersh; and Chief Financial Officer, Ken West. All participants will be in a listen-only mode until the question-and-answer session of the call. At the request of Martha Stewart Living Omnimedia, this call is being recorded. Anyone with objections should disconnect at this time.

At this time, it is my pleasure to introduce Katherine Nash, VP, Investor Relations and Corporate Communications of Martha Stewart Living Omnimedia. Katherine, you may begin when ready.

Katherine Nash

Thank you, and good morning, everyone. Welcome to Martha Stewart Living Omnimedia’s third quarter 2012 earnings conference call.

Before we begin, let me remind you that our discussions will contain forward-looking statements, which are made pursuant to the Private Securities Litigation Reform Act of 1995, as amended. These statements are not guarantees of future performance and involve certain risks and uncertainties which are difficult to predict.

Actual future results and trends may differ materially from what is forecast in forward-looking statements, due to a variety of factors, many of which are described in our SEC filings. Also, non-GAAP numbers are reconciled to GAAP in an attachment to our press release, which appears on our website at marthastewart.com.

Thank you. And now, I’ll turn the call over to Lisa.

Lisa Gersh

Thank you, Katherine, and good morning everyone. Along with the third quarter results which came in about as expected, we’re going to discuss yesterday’s announcement and the impact these initiatives will have on our overall business performance.

As you know, yesterday afternoon, we announced several important restructuring actions we’re taking in our media portfolio to accelerate our ability to deliver our consumers the content they need and want via the delivery mechanisms they are using more and more. I’ll go into more detail on that announcement shortly and Ken will cover the financial implications. But I want to lead off today’s call by saying that we believe these actions coupled with the repositioning of our broadcast business are very important necessary and positive developments for the future of MSLO. Not only do they reduce our operating cost, which is of course very significant as we pursue our path to profitability, they will help our company continue to be a leading provider of expert lifestyle offerings to consumers in both the U.S. and abroad.

We are confident in these steps we are taking for resetting the table and restoring sustainable growth. That confidence is based on what we view as the underlying strengths of our business, our brands, Martha’s large and loyal audience, our strong retail partners, and the amazing ability of the company to generate creative, engaging, evergreen content and ideas that we can monetize across our media and merchandising platforms.

As everyone know, the economics of the media landscape are changing and we’ve taken important steps to evolve as well. The actions we have taken this year in broadcasting where we reorganized the broadcast group to enhance our penetration beyond the traditional TV platform and the new ones we announced yesterday in publishing are key parts of this evolution.

I’d like to spend a few minutes highlighting these changes. We have transitioned the print publication of Everyday Food from a stand-alone monthly to a five times per year supplement in Martha Stewart Living. At the same time, we are expanding the reach of our Everyday Food content across multiple digital platforms, including online via our Everyday Food with Sarah Carey video newsletter, which provides a simple dinner recipe and instructions in your inbox everyday.

Overall, these moves will increase the reach of this title and give it a more frequent digital-focused presence. MSLO is also pursuing branded video and recipe content distribution deals with retail and advertising partners as part of integrated marketing packages. We’re also in discussions regarding the potential sale of Whole Living. Whole Living is a high quality publication and I’m very proud of the (inaudible) MSLO behind this title. However, as we pursue our strategy for restoring sustainable profitability to our publishing group, we have determined that we cannot continue to support this title.

Regardless of the outcome of the sale discussions, we will be eliminating the cost of printing Whole Living. The publishing moves in total will drive an estimated $33 million to $35 million reduction in annual operating costs. When we combine the publishing savings with the savings achieved in our broadcasting business earlier this year, we are removing an estimated $45 million to $47 million in annual costs from our media businesses overall.

These are significant savings that position us to restore sustainable profitability. As important as those actions are on the cost side, they are also incredibly important on the revenue side. We have put in place a highly experienced ad sales force and with this move, we will be centralizing our sales staff’s focus on our flagship titles and therefore be in the best position to generate the advertising improvements we are looking for.

We’re making targeted investments in our digital activity, including the digitizing of our content and putting the right sales resources in place to market our digital inventory. Over the longer-term, the cost effective emphasis on digital video and mobile create and align new revenue opportunities based on exactly the kind of deeper, more frequent and more interactive engagement advertisers are seeking and willing to pay for.

Two weeks ago, we kicked off a major branding sponsorship initiative at MSLO, American Made, a multi-faceted program celebrating America’s entrepreneurial spirit embracing small business and spotlighting American artists, artisans and innovators. The inaugural American Made program presented by Avery Dennison and The UPS Store, and also sponsored by Toyota and J.C. Penney culminated with a feature in Martha Stewart Living honoring 10 up and coming businesses in an event in New York City featuring Mayor Bloomberg and the U.S. Small Business Administration Chief, Karen Mills.

We pointed out to the audience that American Made was about the 28 million small businesses in the U.S., which employ 16 million Americans. The program generated significant positive media attention for MSLO and sponsors in outlets such as CNBC, CNN, USA Today and the Wall Street Journal to name a few. American Made is truly an embodiment of MSLO and it will be an ongoing brand and content platform for the company.

In broadcasting, we’re focused on driving new opportunities with our content. While we exhibit the business of daily live television production, we are still maintaining a strong presence on linear television. Martha Stewart's Cooking School launched on PBS just a few weeks ago. The program is being aired in more than 92% of the country and in all top 50 markets. It’s off to a fantastic start. We are already averaging 1 million viewers per episode, which is 65% higher than the PBS average for that time period and trending up from there.

We are also distributing our how-to content through short-form video production, which is both cost effective and highly relevant to consumers. We’re leveraging our library of content on digital platforms like Hulu and The AOL On Network. In addition to Everyday Food with Sarah Carey, we will soon be launching our first web-focused series with Martha called Countdown to Christmas. We are also working with Fullscreen to have them optimize and manage our video content on YouTube and build audience.

We have a lot to offer on these platforms, including an evergreen library of more than 29,000 how-to short form videos featuring Martha, Emeril and other MSLO experts. In addition, last week we announced the new partnership with Fremantle Enterprises, a key player in the global content and brand space, to co-develop television and digital video programming featuring contemporary lifestyle personalities.

We also expanded and renewed our long-standing television distribution deal with Fremantle to deliver our content outside of the U.S. In merchandising, we continue to generate solid profitable growth. Design work with J.C. Penney continues on track and as J.C. Penney has indicated in the recent public comments, we are expecting to launch in the stores in spring 2013. We also continue to actively explore international partnership.

To wrap up, the major moves we announced yesterday were difficult, particularly for the impacted employees, but necessary and very positive steps for the company as a whole. We have moved to a content business profile that reaches consumers in the ways most relevant to them leveraging a lower fixed cost platform and a strategy to invest opportunistically in initiatives that engage our audiences and deliver revenue. These moves combined with a robust and growing merchandising business leave us encouraged about the direction of the company entering 2013.

I am going to ask Ken now to review the financial results for the quarter.

Kenneth West

Thank you, Lisa, and good morning. Summarizing our third quarter results, total revenue was $43.5 million, a decrease from the $52.2 million a year ago, as expected, reflecting lower publishing and broadcasting revenues which more than offset growth in merchandising revenues.

Adjusted EBITDA loss was $4 million in the quarter, compared to a loss of $2.3 million in last year’s quarter. And during the third quarter, due to continued softness in the print publishing industry and our lower advertising revenues, we recorded a non-cash impairment charge of $44.3 million in our publishing segment.

Our third quarter operating loss in 2011 was $9.3 million and included a $3.8 million restructuring charge related to changes in executive management and professional fees. Basic and diluted net loss per share was $0.76 in the 2012 third quarter compared to $0.18 loss for the third quarter of 2011. Excluding impairment and restructuring charges in the respective periods, net loss per share was $0.09 in 2012 and $0.11 in 2011.

Now, taking a closer look at our segment results for the third quarter, publishing revenues were $27.6 million compared to $33.2 million in the prior year’s quarter. Print advertising revenues decreased $2.9 million and digital advertising decreased $1.3 million in the quarter compared to prior year levels.

Print revenues were lighter due to continued challenges in the advertising market. Both the print and digital results also were affected by the mid-year timing of our sales force build-out and total circulation revenues declined modestly compared to the prior year quarter due to soft newsstand and the inclusion of the special interest publication in the prior year period.

Adjusted EBITDA loss for our publishing segment was $6.2 million compared with a $2.8 million loss in the prior year’s quarter. Broadcasting segment revenues were $2.7 million compared to $6.6 million in the third quarter of 2011, reflecting our move away from higher fixed cost television programming, as Lisa mentioned a few moments ago.

Broadcasting adjusted EBITDA was approximately $400,000 in the quarter, an improvement from the $800,000 adjusted EBITDA loss in the year ago quarter. The elimination of our cost structure around live production allows us to generate improved profitability even at significantly lower revenues.

As Lisa noted, we have moved to a model that emphasizes both linear television programming, but with minimal production cost via short-form digital video. As you know, however, that the digital platform relationships with distributors such as Hulu and AOL On generate revenue to MSLO in the form of advertising revenue shares which will be recorded in our publishing segment. The PBS program will be reflected in our broadcasting results starting in the fourth quarter, though it is not a material contributor to either revenues or expense.

Our merchandising segment revenues increased 7% to $13.2 million in the third quarter. Growth was driven by a design fee from J.C. Penney and the Martha Stewart Home Office line with Avery. We did see continued softness at The Home Depot, primarily around soft flooring. Merchandising adjusted EBITDA expanded 17% over last year’s third quarter to $8.6 million, evidencing continued profitable improvement.

Adjusted EBITDA loss in our corporate segment was $6.8 million in the quarter, including legal and other professional fees of approximately $0.6 million compared to a corporate adjusted EBITDA loss of $6.2 million in the year ago quarter. Total corporate expenses in the quarter were $8.2 million, down from $11.6 million in the prior year’s third quarter.

Looking at our balance sheet of September 30, we had $51.6 million in cash, cash equivalents and short-term investment and no debt.

Let’s now turn to our outlook. Including the fourth quarter effects of the actions announced yesterday in our publishing business, revenues from publishing are expected to be down in the single-digit percentage range compared with the prior year’s fourth quarter and will represent a significant sequential increase over this year’s third quarter. While we expect print to decline from prior year’s levels, we expect digital to be approximately on par with last year’s fourth quarter. Because of this weakness, we’re currently projecting that Q4 adjusted EBITDA for our publishing segment will be slightly below break even.

Unfortunately, the timing of our new ad sales team’s arrival didn’t position us to be in front of 2012 budget and we are seeing the impact of that in our current results. Our ad sales team, however, is currently engaged with marketers as they plan their 2013 print and digital budget. As we look out to 2013, we’re optimistic that we will begin to see results from their efforts.

In broadcasting, we expect Q4 revenue to show an increase over third quarter levels, though it will be down significantly compared with the prior year due to the fact that we delivered new programming under the Hallmark agreement last year. Broadcasting is anticipated to deliver positive adjusted EBTIDA in Q4 versus a loss last year.

In merchandising, Q4 revenue is expected to grow over 15% higher than both last year’s fourth quarter and this year’s third quarter. Adjusted EBITDA will grow at a higher rate to an EBITDA margin of approximately 70%. Our margin expectations for the year while strong have been tempered somewhat by the weakness The Home Depot began experiencing with our soft flooring products earlier this year, which has persisted into the back half of the year.

Corporate expenses are expected to be in the range of $7.5 million in the fourth quarter, which is an increase over the prior year primarily due to anticipated higher legal and other professional fees. Taking these segment forecasts into consideration, we are anticipating reporting higher adjusted EBITDA, but a slightly lower net income in the fourth quarter compared with the prior year result.

I want to reiterate Lisa’s comment on the estimated annual cost we will be removing from our media business of approximately $45 million to $47 million. The turnaround of our publishing business has been challenging, but we now have an improved cost structure and a focus on our two top brands, Martha Stewart Living and Martha Stewart Weddings, providing us with the opportunity to gain operating leverage when our ad sales strategy takes hold.

This concludes our prepared comments. Thank you for joining us on our call today. We’ll now turn it back to the operator for Q&A.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Your first question comes from the line of Michael Kupinski with Noble Financial.

Michael Kupinski – Noble Financial Capital Markets

Thanks for taking the question. I think many of us understand the issues about letting people go, but I think, in this environment it’s – I think you’re making the right strategy to right size the business. Can you talk a little bit about the revenue implications for the Whole Living and maybe the shift to Everyday Food, what we might see, might be the revenue impact, I have the estimates roughly $20 million, $25 million in revenue for Whole Living, I was just wondering if that, if I am a little off on that number, if you can just give me some thoughts on that?

Kenneth West

Michael, good morning, this is Ken. In the past and we’re going to continue this consistent behavior in the sense we have never broken out the specific profitability, revenue or any other element by title. As you know, we report on the segment which is the publishing group. So what I’d like to lead you to is the fact that since we’ve talked about the cost savings that we expect to generate from these actions on an annualized basis, by looking at our history of losing money in our publishing segment, you can imagine that the revenues for EDF and Whole Living are less than the $33 million to $35 million of cost that we’re taking out of the business. But I don’t think it’s appropriate to comment further in regard to title by title.

Michael Kupinski – Noble Financial Capital Markets

Okay. And then if we were to look at your prospects for 2013 in the publishing group for your remaining titles, are you anticipating that taking these actions with Everyday Food and Whole Living that the rest of your publications will be profitable then?

Kenneth West

It’s our anticipation that with the ad sales team that we have put together and the reactions that we’re seeing from the marketers and the advertisers in discussions for the last three months, we believe that 2013 will be a much improved result over 2012.

Michael Kupinski – Noble Financial Capital Markets

And then in terms of the merchandising with Home Depot being a little soft, what are your expectations as you go into 2013 with your merchandising business? Obliviously, you’re looking forward to perform fairly well in the fourth quarter, what are your thoughts as you cycle into 2013? Particularly, I know that you mentioned that right now at least you don’t have an international distribution; there is prospects there, any thoughts in terms of what you could see the merchandising business grow in 2013?

Kenneth West

Michael, it’s a little bit early to give some indications in regard to 2013, but I think we’ll be able to do that when we release our fourth quarter, the final results for the year we’ll have some good insight into what the market is looking at that point and we’re really looking forward to a lot of expansion, specifically looking at J.C. Penney launching in the spring of 2013. So we have some good things ahead of us and we’re looking forward to it. Lisa, do you want to comment further?

Lisa Gersh

Yes, I was just going to add that as we’ve announced, we will be launching with J.C. Penney in the spring, so we will see some growth in our merchandising numbers from that already announced arrangement with J.C. Penney and we continue to look for ways to expand and grow our merchandising business both domestically and internationally.

Michael Kupinski – Noble Financial Capital Markets

Final question, is there anything, any updates on the Macy’s situation?

Lisa Gersh

There is no current update on the Macy’s litigation other than what’s already been publicly disclosed.

Michael Kupinski – Noble Financial Capital Markets

Okay, all right. That’s all I have, thank you.

Lisa Gersh

Thank you, Mike.

Kenneth West

Thanks, Michael.

Operator

Your next question comes from the line of David Bank with RBC Capital Markets.

David Bank – RBC Capital Markets

Hey, thank you very much guys, thanks for all the information. A couple of follow-ups in maybe, slightly different way to ask the question I think Michael was asking which is you’ve been really helpful in giving us a sort of gross expense number, but it’s still a little difficult to translate that number into a net impact on the income statement. And so I guess, I would start with, let’s go to the broadcasting business where that’s, that was a much earlier initiative in terms of restructuring and taking out $12.5 million of cost at this point, I would think you’d have a much better idea of what the net impact to the broadcasting income statement would be for 2013 on taking out the $12.5 million of cost. Can you talk about it, because you’re sort of half way through that process now?

And then where you see the upside in terms of non-linear programming distribution, can you give us an example of one of these distribution platforms like AOL, where a sense of the economics that you’re getting out of those businesses? And then for publishing, I understand you can’t really identify title by title what revenue is, but could you give us a little bit better sense of what $35 million of operating expense reduction could mean to earnings for the division? And then, I guess last is sort of a time frame, do we assume that January 1, 2013, the slate is kind of clean and you’ve completed the restructuring by then? Thanks very much.

Lisa Gersh

Ken, do you want to take all, but the video distribution portion question?

Kenneth West

Sure, absolutely. So David, those were your only questions, let’s see? So starting backwards, so as far as starting on January 1, 2013, yes, we believe that’s going to be a clean slate going forward. The initiatives that we’ve announced last night and this morning we talked about are actions that have been taking place, they’re done, and are about to be closed also.

As far as the publishing, I know you’re rewording the question that Michael had raised before, but again, we’re not going to give any specifics in regard to the revenues associated with those two titles or the other remaining two titles. Just you have to be comfortable with the fact that the revenues were less than these costs that are being taken out of the business and we’ll give you a little bit more guidance when we go into providing guidance for 2013. And am I forgetting one of the questions?

David Bank – RBC Capital Markets

On the Broadcasting side I guess, so I think it’s a fair point on publishing, it’d be a little bit tougher, push a little bit harder maybe on broadcasting because you’re deeper into the implementation of that restructuring. And so if you kind of go back to what you initially told us which looks like it’s really materialized, 12.5 somewhat million dollars of cost savings, what has that meant on a forward 12-month basis from a net EBITDA perspective, how much are you ahead from that cost reduction on a kind of annualized run rate?

Kenneth West

Okay. Well, principally as we’ve talked about, I think, in the most recent call or the one before that, we said that we’ve gotten out of the fixed rent associated with the separate studio and majority of the staff associated with this physical live production of the Martha Stewart Show which was aired exclusively on the Hallmark Channel.

So to the extent if we have no programming beyond the cooking, the Martha Stewart Cooking School which is airing on PBS, there is really no principal cost and if we replace it with nothing, there would be no principal revenue. So the losses that we’ve experienced in the past are behind us and we do not expect to have continued loss in the future. The question will be what will be replacing it on linear television. And Lisa, do you want to comment further in regard to what opportunities we have for 2013 without giving any specific guidance?

Lisa Gersh

Yes, of course. I mean, with respect to linear television, as you know we launched earlier this beginning of last month Cooking School on PBS, which we talked about, which is having very successful results in terms of ratings and we’re very, very pleased with the show and the outcome of that show. And we have a bunch of other initiatives we’re working on in terms of long-form television. We’re not looking, as we said in previous calls, to recreate a television production unit. We’re looking to partner with outside producers to have them produce it, so we won’t be taking on the production company expense, but we will have linear television opportunities. But the other big opportunity for the company is we are building a business around short-form video, which can be played across multiple platforms, particularly the web, and it is very cost efficient process. The revenue is generated from partner licenses, sponsorship and other partner advertising revenue shares, such as The AOL On model. We’ve talked about a bunch of these deals that we’ve executed in terms of distributing this content.

We’ve already, by way of example, been producing short-form video since early February with our Everyday Food brand, The What’s for Dinner? Videos with Sarah Carey which have been very successful. We’re launching our first ever web series called Countdown to Christmas, which is a 12-part series featuring Martha demonstrating advice, tips and inspiration for the holiday season. And that series is being backed by seven brand name sponsors and it’s currently in production.

So this gives you an idea of what we’re looking at. It’s a licensing model rev share and it also gives us an ability to effectively monetize our library. And we’ve, as you know, we’ve invested in digitalizing and tagging our library, so that we have access to that incredibly valuable content and we will because of our facilities we have production facilities (inaudible) be able to create additional short-form video.

David Bank – RBC Capital Markets

Okay, that’s definitely helpful. and I hope you could just (inaudible) one last question and put it in a perspective that I’ve been sitting and doing the earnings from my kitchen for the last week. So thanks for being patient with me, but I guess just kind of a final thought or a question from me would be, these are some very, very material structural changes to the company that we’re taking about and we know they’ve been incredibly difficult to implement, but if there’s anything more you could tell us for sort of modeling purposes going forward, I think it’s still kind of hard to get your arms around what we’re unleashing in terms of earnings power from the structural changes and maybe it’s just, we’re going to get more on the fourth quarter earnings call, is that something realistic to expect?

Kenneth West

Yes, I think David, you are right. And I appreciate the fact that you’ve only raised that one specific question twice after Michael wasn’t successful in getting a different answer. We do expect to give you much more information for 2013 when we put it altogether and see what those specific opportunities are, but you have to rest with the fact that we’re taking some large costs out that exceeded the revenue, so we’re taking some EBITDA losses out of the business to make this publishing segment more profitable.

David Bank – RBC Capital Markets

Okay, thank you so much guys.

Kenneth West

Sure, thanks David.

Operator

(Operator Instructions) And at this time, there are no further questions.

Kenneth West

All right, operator, let’s wrap up the call.

Operator

And this does conclude today’s conference call. You may now disconnect.

Lisa Gersh

Thank you.

Kenneth West

Thank you.

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