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Dish Network (NASDAQ:DISH)

Q3 2012 Earnings Call

November 06, 2012 12:00 pm ET

Executives

Robert E. Olson - Chief Financial Officer, Principal Accounting Officer and Executive Vice President

R. Stanton Dodge - Executive Vice President, General Counsel and Secretary

Joseph P. Clayton - Chief Executive Officer, President and Director

Charles W. Ergen - Co-Founder and Chairman

Thomas A. Cullen - Executive Vice President of Corporate Development

Analysts

Marci Ryvicker - Wells Fargo Securities, LLC, Research Division

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Amy Yong - Macquarie Research

Stefan Anninger - Crédit Suisse AG, Research Division

Jason B. Bazinet - Citigroup Inc, Research Division

Craig Moffett - Sanford C. Bernstein & Co., LLC., Research Division

Philip Cusick - JP Morgan Chase & Co, Research Division

James M. Ratcliffe - Barclays Capital, Research Division

Bryan D. Kraft - Evercore Partners Inc., Research Division

Operator

Good morning. My name is Heidi, and I will be your conference operator today. At this time, I would like to welcome everyone to the DISH Network Corporation Q3 2012 Earnings Conference Call. [Operator Instructions]

Thank you. I would now like to turn the call over to Mr. Robert Olson. You may begin your call, sir.

Robert E. Olson

Thank you, Heidi. My name is Robert Olson. I am the CFO at DISH Network. I'm joined today by Charlie Ergen, our Chairman; Joe Clayton, our CEO; Tom Cullen, Executive Vice President; Bernie Han, COO; Paul Orban, our Controller; and Stanton Dodge, our General Counsel. Before turning it over to Joe for his remarks, I would like to have Stanton cover our Safe Harbor disclosures.

R. Stanton Dodge

Thank you, Robert, and good morning, everyone. As you know, we invite media to participate in listen-only mode on the call and ask that you not identify participants or their firms in your reports. We also do not allow audio taping and ask that you respect that.

All statements we make during this call that are not statements of historical fact constitute forward-looking statements, which involve known and unknown risks, uncertainties and other factors that could cause our actual results to be materially different from historical results and from any future results expressed or implied by such forward-looking statements. For a list of those factors, please refer to the front of our 10-Q. All cautionary statements that we make during this call should be understood as being applicable to any forward-looking statements we make wherever they appear. You should carefully consider the risks described in our reports and should not place undue reliance on any forward-looking statements. We assume no responsibility for updating any forward-looking statements.

And with that out of the way, I'll turn it back over to Robert.

Robert E. Olson

Thanks, Stanton. I'd like to now turn it over to Joe for his remarks on our third quarter results.

Joseph P. Clayton

Thanks, Robert. And good afternoon to you on the East Coast and good morning to our West Coast participants.

The third quarter brought to a close my first full year as DISH CEO. And I believe that we are on track with the commercial revitalization and the transformation of DISH evolving from an engineering-driven organization to more consumer-focused approach. Putting the customer first and giving the consumer what he or she wants is a winning formula for success. Today, we are clearly focused on embracing change, embracing technology and embracing the consumer. DISH is indeed better off today than just one short year ago.

While I am pleased with our commercial transformation of the DISH brand and improvement in subscriber trends, there is still much more work to be done in terms of our financial performance. It is no secret that the pay-TV industry continues to face a difficult economic environment in a more price-sensitive marketplace. The pay-TV business is now at a maturation point. The days of double-digit growth in our business are over. Going forward, we must deal with single-digit growth, and even that rate assumes that the economy rebounds and new home formations restart. Faced with slow subscriber growth plus faster-than-inflation programming cost increases, there is no question that the entire industry will have to rethink its current business model and strategy.

At DISH, we continue to develop a portfolio of assets that will serve as the foundation of our future growth, and that brings us to our wireless initiative. First, our wireless spectrum status is generally unchanged. We continue to work with the FCC on the AWS-4 rulemaking process. The FCC chairman has publicly stated that we will have a decision by the end of the year, and Charlie and Tom will take your questions on wireless in a few minutes.

Now let me briefly give you all an update on Blockbuster. During the second quarter conference call, I told you all that we were going through a transition period with Blockbuster as well, and I enumerated the actions that we had taken to improve the business. While we did incur a small operating loss in the quarter, I believe that we are properly positioned to capitalize on a seasonably stronger fourth quarter. We've already made investments in a new merchandising strategy and improved in-store displays. We'll also have a deeper inventory and high-impact titles that will be released during the fall selling season. This has been accomplished by negotiated -- negotiating improved trading terms with most of our studio partners.

As we move into the fourth quarter, which is traditionally the highest-performing quarter for all retailers, we expect revenues to improve above and beyond the seasonal impact due to our new marketing and merchandising initiatives. And going forward, we will focus on individual store profitability and the execution of our long-term strategy.

Now let's move on to the third quarter DISH highlights. First, we showed improvement in our subscriber performance. In the third quarter, we had gross activations of 739,000. This is a sequential improvement of 11% over the previous quarter and a 13% improvement over last year. We lost approximately 19,000 net subscribers from the end of the second quarter, giving DISH a total of 14,042,000 subscribers as of September 30. Now while disappointed in the loss of even 1 customer, we were 92,000 net additions better than our 2011 third quarter results.

We're also pleased with our churn performance. It came in at 1.8%. While this is higher than last quarter, this is again an improvement over 2011. This was accomplished despite a number of significant headwinds in our business: the AMC channel's takedown; several difficult local retransmission negotiations, with Sinclair and Gannett being the largest; and a brief Big Ten Network takedown. While unsettling for our customers, we took these actions to stem the tide of spiraling programming costs and thus minimize price increases for our customers. Obviously, we were not alone. Other pay-TV providers had similar high-profile takedowns in the quarter.

Now as part of our effort to provide additional programming value to our customers, we were pleased to announce that DISH and the Pac-12 Network entered into an agreement making DISH the only satellite provider to offer Pac-12 sports programming, including football and basketball events. This new agreement also provides DISH with exclusive category sponsorship for Pac-12 athletic programs, such as stadium signage and logo rights with each of the member schools.

We were also focused on subscriber quality in the quarter. We continued to gradually increase the mix of DVR and IP-connected subscribers in our customer base. Again, this growth was primarily driven by the Hopper, our award-winning whole-home HD DVR, supported with an aggressive marketing campaign. Not only have our national TV commercials, radio spots, newspaper ads and billboards been well received by the buying public, but so have our online and e-commerce marketing efforts. In fact, we exceeded 2.3 million Facebook likes, surpassing our satellite TV competitor by over 500,000. This time last year, we were just slightly over 2,000 likes, so we are making great progress here.

Our customer service metrics continued to improve in the quarter. On top of the main news that the ACSI, the American Customer Satisfaction Index, ranked DISH first among the nation's largest satellite and cable providers in customer satisfaction, J.D. Powers' 2012 Residential Television Service Provider Satisfaction Study showed that DISH had made steady gains on a regional basis. Although we stayed flat in the south, we made improvement in the East and North Central regions, and we finished #1 in the Western region. We believe that customer service will ultimately be one of DISH's competitive advantages as we move forward. Again, our focus is on the customer.

Now I want to highlight additional returns from our drive for operational excellence. DISH was recently recognized by CIO magazine for our successful billing transformation project. Their annual award recognizes organizations from around the world that exemplify the highest level of operational and strategic excellence in information technology.

As I mentioned during the first quarter call, our 2-year program literally transformed our operational support systems, including our customer billing system. IVR and our workforce management process sufficiently assigns and manages thousands of DISH daily installation and service jobs nationwide. Our IP organization, according to InformationWeek, also landed in the top 100 best information technology innovators in the country. And lastly, our CIO, Mike McClaskey, was recognized with the 2012 transformational CIO award from the Enterprise CIO Forum. So clearly, this effort was Herculean, leading to increased flexibility, productivity and efficiency in our DISH operations.

Another highlight of the quarter was the national introduction of our dishNET broadband services. We launched this product with great fanfare at a 12-store regional retailer, Cowboy Maloney's, in Jackson, Mississippi. The significance of Cowboy Maloney's is that it also served as the launch site of satellite TV back in 1994 and the introduction location for Sirius Satellite Radio in 2002. I guess big satellite things just seem to happen in Jackson. But more importantly, we will be able to provide high-speed Internet to the nearly 15 million rural Americans with no or slow broadband access.

It's not only our intent to provide an Internet solution to this underserved market but to give customers faster speeds, greater capacity and the convenience of bundling with video, which is an obvious win for customers but also a win for DISH as bundled customers have a lower churn rate. Like wireless, this move to provide broadband in a capital-efficient manner is clearly on our strategic road map. Our dishNET service began October 1, and we'll give you all an update at our next analyst call.

And finally, let me address an out-of-quarter event that impacted our third quarter results. That's our settlement of the VOOM litigation last month. As you all may know, we agreed to pay $700 million to resolve all pending litigation with VOOM. Additionally, the agreement calls for Cablevision to transfer certain of its wireless licenses to DISH. And finally, we entered into an agreement to bring the AMC channel back to DISH, as well as other AMC Networks channels including IFC, WE tv, the Sundance Channel and Fuse.

In summary, with the exception of the litigation expense accrual associated with the VOOM settlement, our third quarter results were generally consistent with the trends during the last few quarters.

Now to provide you all with greater details on our financial performance, here's our CFO, Robert Olson.

Robert E. Olson

Thank you, Joe. I'm going to start by reviewing the impacts of the VOOM settlement on our financial results. Even though the settlement was reached in late October, this was a type 1 subsequent event, which requires it to be reflected in our third quarter results. There were 3 separate elements to this agreement, which we evaluated to determine their fair market value: the settlement of the outstanding litigation, the purchase of certain spectrum licenses and a long-term programming agreement. Based on this work, our third quarter income statement reflects $730 million of litigation expense associated with the VOOM settlement.

Adjusting for taxes using a rate of approximately 38%, the VOOM settlement had a $453-million impact on net income in the quarter. Adding this amount to our reported net loss of $158 million yields an adjusted net income of $295 million, which was down 8% versus third quarter last year. The year-over-year decline was largely due to higher programming costs and increased activations this year, which drove up total acquisition spending.

Our reported EPS for the quarter was a loss of 30 -- $0.35 per share. Adjusting for the VOOM settlement, our fully diluted EPS was $0.65 per share.

As Joe mentioned, we continued to make progress in several areas in the third quarter. Our gross activations were up 83,000 versus third quarter 2011 and up 74,000 compared to last quarter. Churn also improved slightly year-over-year, although it was up sequentially due to normal seasonality and the programming issues that Joe mentioned. The result was a loss of 19,000 net subscribers in the third quarter in what is typically a tough quarter for DISH and the industry.

Subscriber-related revenue was up 1.2% year-over-year in the third quarter, driven by slightly higher average subscribers and slightly higher ARPU. The year-over-year increase in ARPU was driven by higher hardware-related revenue. ARPU was down $0.54 sequentially due to fewer pay-per-view events this quarter.

Subscriber-related expenses increased by 6.3% in the third quarter versus last year. This increase was due largely to higher programming expense. Programming costs were primarily driven by increases in our contractual rates.

Blockbuster had a $12-million operating loss in the quarter driven by weaker revenue per store. Some of this revenue shortfall was due to seasonality, as the business is normally stronger in the first and fourth quarters. As Joe mentioned, we have numerous initiatives underway to improve revenue. We ended the third quarter with approximately 850 domestic stores.

Our SAC for the quarter was $805 per activation, which was up $16 versus third quarter last year. This increase was largely driven by higher brand advertising expense associated with marketing the Hopper set-top box. SAC was roughly flat sequentially.

Administrative expenses were down $52 million year-over-year in the third quarter. This reduction was a result of fewer Blockbuster domestic stores this year. G&A expenses for the DISH pay-TV business were roughly flat year-over-year.

Interest income was up $26 million year-over-year, driven by higher balances of cash and marketable securities and by the mix of marketable securities. Other income increased $50 million in the third quarter relative to 2011, driven by gains on the sale of marketable investment securities.

We generated $424 million of free cash flow in the third quarter and roughly $1.35 billion through the first 9 months of the year. We expect free cash flow will be negative in the fourth quarter due to the litigation settlement, which was paid on October 23.

There were a few major changes in the balance sheet relative to second quarter. The VOOM settlement drove an increase in the litigation accrual on the balance sheet ending September 30. We also issued an additional $1 billion of debt on July 26. The proceeds from this debt largely ended up in cash and marketable securities.

Let me now turn it back to Joe before we start Q&A.

Joseph P. Clayton

Thanks, Robert.

I believe that today's third quarter results clearly show that we continued to make progress. Unquestionably, there is much more work to do, but we are committed to growing high-value subscribers, increasing revenue and investing for long-term growth.

Thank you all for joining us today for our Third Quarter Earnings Call. Now we'll open it up to your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Marci Ryvicker of Wells Fargo.

Marci Ryvicker - Wells Fargo Securities, LLC, Research Division

Great. I have 2 questions. One is strategic and then one is for Robert in terms of modeling. So, Robert, you said churn was up sequentially due to normal seasonality and programming issues. So assuming that you don't have big programming issues in the fourth quarter, should we see a higher amount of year-over-year improvement in churn for the fourth quarter?

Robert E. Olson

Well, Marci, we generally don't provide forecasts. However, the fourth quarter churn will be lower just due to normal seasonality. We obviously had a little bit of carryover effect of the AMC dispute into the -- into October. But as we've talked about in prior calls, we continue to manage the churn to balance the retention spending with the customer satisfaction and keeping overall churn at reasonable levels.

Marci Ryvicker - Wells Fargo Securities, LLC, Research Division

Okay. And then the second question is for Charlie. DIRECTV has been pretty vocal about their desire to merge with DISH. So what are your thoughts about a potential transaction? And do you think this would be more difficult with a Democratic administration versus Republican?

Charles W. Ergen

I don't know. It's pretty -- I mean, obviously, it's one of the things that, I think, probably both companies have to consider. You've got a basically mature video business that's very competitive, with the power structure being more on the programming side than the distribution side, and then tremendous distribution coming -- almost unlimited distribution power coming from broadband and the Internet, which neither one of us have a lot of assets in, so I think it's something that probably both companies will look at. I don't think it would make -- if -- first of all, we're not having discussions about that. It's not an active thing. But I don't think either administration -- if a transaction made sense, I don't think either administration would block it if it made sense, if it was good for the American public. If it wasn't, both administrations would block it. So I don't think that really makes much difference. I think it's more a factor of, if you look at any transaction -- at least my experience with the government has been, any transaction that you look at, ultimately they weigh the effect on competition and innovation in the market. And they look at that -- every deal is different and they look at that in its totality. And if the deal makes sense, they approve it. And if it doesn't, they put conditions on it to make it make sense. Or if it really doesn't make sense, then they just don't approve it. And I'd leave that up to the experts, but I think it -- my personal opinion, it's probably a doable deal no matter who the administration is, under certain circumstances. And there's probably circumstances where it's not a doable deal.

Marci Ryvicker - Wells Fargo Securities, LLC, Research Division

Do you think the SiriusXM merger helps your case?

Charles W. Ergen

The which merger?

Marci Ryvicker - Wells Fargo Securities, LLC, Research Division

The SiriusXM.

Charles W. Ergen

Oh, the Sirius. Yes, I mean -- I think every merger is different. But yes, that one is pretty much on point. That was a situation where 2 companies had -- and Joe can speak to this better than I can because he was there. But 2 companies who were in a relatively mature business, had tremendous competition kind of -- had competition from direct regular radio and had tremendous competition coming from iPads and -- I mean, iPhones and other forms of radio. So that one is close to on point.

Operator

Your next question comes from the line of Doug Mitchelson from Deutsche Bank.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

Two wireless questions, one for Charlie and one for Tom. Charlie, there's some concern among analysts that DISH will end up investing a lot of capital on a wireless build-out. How should investors think about potential cost of any wireless build-out? And I guess I'll probably just go ahead and ask for Tom. I just imagine that you guys -- when you realize you'd win DBSD and TerreStar, you didn't think it'd be late 2012 before you had any visibility on terrestrial rights for that spectrum, right? So my point is, you've had a lot of time, probably more than you expected, to explore wireless business models and undertake discussions with potential partners. So the question is, how far along are these conversations with potential wireless partners at this point, given all the time that you've had?

Thomas A. Cullen

Hey, Doug. It's Tom. I'll comment on the second part. Obviously, this has taken longer than we had originally forecast. We continue to work with the FCC, and we'll see how that transpires over the next several weeks. As far as industry partnerships, I think we've been pretty public. And we've concluded we clearly aren't going to go this alone in a greenfield build. And the only way to put this spectrum to use effectively in a commercially viable way is through a partnership. So yes, we have had discussions with pretty much all of the players you would think would be natural partners for us. That being said, since October 1, we've seen 2 pretty significant announcements that would modify the landscape of the wireless industry in the U.S. You both -- you know what I'm talking about. Both the T-Mobile and the Metro merger as well as the Softbank intent to acquire 70% of Sprint puts us in a -- I would say, a delayed position in terms of meaningful conversations with those players as they pursue their own regulatory approval process.

Charles W. Ergen

Yes. And this is Charlie. I think, just to add on what Tom said, I mean, obviously, we're disappointed in the delay in getting our license approved. I mean, obviously, it's gone on a lot longer than we -- everybody anticipated. Certainly, than we anticipated for a relatively noncontroversial -- and finally, there's lots of precedent in terms of what we're trying to do. So having said -- and obviously, the landscape has changed materially in the last -- with the Japanese coming into the market and obviously Deutsche Telekom with Metro. So we'll have to wait and see and we'll have to -- ultimately have to wait and see what the FCC decides and whether we have the technical flexibility to enter the marketplace. And as a new entrant against 4 very large incumbents, you can't -- you got to kind of -- the FCC, you would have liked them to have gone a little faster, but the Chairman has always said that it's going to be at the end of the year, and I think they'll probably do it by then. And you hope to get a technical flexibility so that you don't take away spectrum from us or give it to somebody who's already an incumbent, who has a lot of spectrum already. And you hope that they play it fair and down the middle and consistent with what they've done in past practices. If they do that, then we think there's a lot of opportunity for us in the marketplace. And we obviously have a large cash balance, and we're ready and willing to invest that in this business. If it makes sense and we have a high likelihood of success in that -- in the business plan, then we're going to do that. If we don't, then we're not going to do that. And we're not going to get in the business just to get in the business. We're going to get into a business because the FCC has allowed us, as a new entrant, to have the technical flexibility to get in the business that and that we find some -- we find people who are like-minded in where we want to go in terms of people who probably already are in the business in terms of partnerships. So I think you should -- I think investors shouldn't be concerned -- well, I shouldn't say -- I don't think you should be concerned. Based on our track record, we don't normally spend money unwisely and we don't normally take exuberant risk. So I think that we would be prudent about it. And I'm -- and I guess the way you should look at it and the way I look at it is I'm awfully glad that we have some optionality in the wireless space, because obviously we're in a mature business today and to grow our business -- I think the world has changed and video has gotten very competitive. And I think you have to redefine your business every 10 or 20 years, and I think we're in a position to do that. So I like where we are. And we'll just have to wait on the FCC and see whether they're giving us the flexibility to enter the business or not, or whether they're trying to take -- or whether they end up with rules to take spectrum away from us.

Douglas D. Mitchelson - Deutsche Bank AG, Research Division

And sorry to take so long, but just a follow-up on the modification of the landscape. Has the change that's taken place recently impacted your plans at all, or what kind of returns do you think you can get out of the wireless business?

Charles W. Ergen

Well, I guess the biggest impact is that Sprint kind of changed directions with the Softbank investment and takeover from Japan in the sense that they then went to FCC and became more aggressive on the H-Block, which is 5 megahertz adjacent to us, which is a guard band today and it's not used by anybody. There's no standard for the H-Block. There's no 3GPP, there's no chipsets for the H-Block. They've been very aggressive to try to limit -- to an unprecedented level limit our out-of-band emissions in our adjacent frequency. So that's been a little bit of a difference. And they've gotten very aggressive there. I don't think that the FCC -- and the FCC is taking a look at that, but I think -- at the end of the day, I don't think the FCC is going to take away 5 megahertz or render 5 megahertz of ours useless and give it the Japanese, who, with their Clearwire investment, has over 200 megahertz of spectrum. That just wouldn't make any sense if you really want a new entrant into the business. And so that's kind of the last -- I think that's the big thing to be decided. And I think that slowed things down because that became a very aggressive approach by Sprint. And you can just read the ex partes on our side and their side to get -- I don't want to get into long technical explanations about it, but the ultimate kind of decision is, do you take -- if you were to -- really an unprecedented decision and going against maybe 20 years of FCC precedent to take a band that we have today and suddenly restrict it by -- to us to 1/500 of our power level to open up 5 megahertz that only Sprint could use just wouldn't make a lot of sense. But that doesn't stop a company from trying, and it certainly doesn't stop -- you just never know what happens in Washington, I guess, you'd say, I guess. But I think that common sense would -- we'd feel comfortable that, ultimately, the FCC will make the right decision there. And if they do, then I think we have the technical flexibility to move forward in the marketplace.

Operator

Your next question comes from the line of Amy Yong from Macquarie.

Amy Yong - Macquarie Research

Charlie, can you talk about your plans and how you plan on creating value for the spectrum you'll receive from Cablevision? And then also can you just provide some details around the AMC programming contract and what kind of leverage, if you had at all, in the negotiations?

Charles W. Ergen

Okay. First, the spectrum that we're acquiring from Cablevision is kind of the mirror image. We own about half the country, and that particular spectrum is exactly the same spectrum we use for our DBS. So we go up to the satellite. So it's again spectrum that we think that could be -- we think can be used terrestrially because we use it for satellite today. And with the Cablevision spectrum, we'll own virtually all the United States. There's a few small areas that we won't own. And so we think that it has use. If we're able to enter the wireless business, we think it has a lot of strategic value with what we're trying to do in the wireless business. And it also provides some -- we also would be in a position to make sure that it doesn't interfere with what we and DIRECTV do today through satellites. So it's not too dissimilar than what we did with DBSD and TerreStar in the sense that it's spectrum that's already used for satellites that could be used terrestrial. We don't place a lot of value on it today. There's a lot of hoops we'd have the jump through and a lot of testing we have to do and which we're doing to -- there's a lot of creativity, I think, involved to be able to use it and some advances that you'll have to make in technology that we think are doable. And we'd have to be allowed to get into the wireless business. But all those -- if all those things happen, then we think that the spectrum could -- ultimately could have the -- a high value for us. As far as the settlement itself, I think that our analysis of it was, based on the judge's orders to the jury and stuff, that we really had no -- very little chance that the jury would side with us. It was pretty much a stacked deck against us, as normally -- as it normally is when you have this full application [ph] order. So I think that, with that said, we looked at it and said this settlement makes sense for us. We probably would have lost probably not the kind of amount of money they were asking for, but we would have been through an appeal process that would have gone on for 3 or 4 more years. And based on our experience in TiVo, we ended up about -- we ended up with TiVo where we probably could've ended up 5 years earlier, right, and we wasted a lot of time for lawyers and management time on something that probably could have been settled. And I think, from that -- based on that experience, we just decided that we didn't want to go into another 3- or 4-year appeal process where we'd probably end up about where we ended up. As far as AMC, Joe could speak to this more, but we probably would have had a positive quarter from net adds had we not taken down AMC. The product -- if AMC continues to produce shows like Walking Dead, which is kind of off the charts in terms of people viewing it, then that will be a fair deal for us. And if not, if they don't -- if they stub their toe, then we probably paid too much for their programming going forward. But it is an intermediate-term type agreement. And I know our programming folks have always liked the AMC folks and they get along pretty well. And I think we're now in their camp to try to help them as a partner be as successful as they possibly can. And absent the litigation, we probably never would have gotten to that point, but we are kind of are where we are. And I think, at the end of the day, our decision was that we needed to put the litigation behind us and focus on the real opportunity that we have in terms of building DISH Network and then also entering the wireless business.

Operator

Your next question comes from the line of Stefan Anninger of Crédit Suisse.

Stefan Anninger - Crédit Suisse AG, Research Division

I have 2, and I'll keep them brief. The first one is just about your balance sheet. You have an awful lot of cash on your balance sheet at this point and also a fair amount of debt capacity. As you look forward and you think about partnering with another player, is it necessary to carry all that cash? Or are there better uses for it, for example, perhaps a dividend? And then my second question is about Clearwire's spectrum at 2.5 gigahertz. As you look at that spectrum and the opportunities on that spectrum, what opportunities do you see there? Clearly, Sprint sees an opportunity there, perhaps, with the new investment. How do you view that spectrum as an opportunity going forward perhaps for you?

Charles W. Ergen

Do you want to take the balance sheet question, Robert?

Robert E. Olson

Oh, sure. So, Stefan, it's true, we did have a lot of cash on our balance sheet. And as you know, we've historically been pretty lightly levered in terms of our borrowing capacity. We've talked to this question probably almost every call, which is we -- as a company and in conjunction with our board, we discuss options for our cash. And obviously, one of those options is to reinvest in the business. Another option is, as you pointed out, to pay a dividend. And so we -- and we've talked, on previous calls, about one factor that we obviously keep an eye on is tax policy. So all of those factors are being evaluated. And at the end of the day, we're just simply trying to do the best thing for the shareholder.

Thomas A. Cullen

Stefan, this is Tom. Regarding Clearwire's spectrum or, frankly, any other spectrum, to us, that's a second-order consideration. We first need to understand the starting point of where we are with the S-band and what the conditions would be for us to enter this market through a partnership. We're obviously cognizant of moves that have taken place since mid-October, when Softbank moved on Sprint. And then subsequently, Sprint moved to take control of Clearwire, so that's now theirs to control. And we know that Softbank has aspirations, apparently, for that spectrum, as they use it in Japan. And we're -- we understand the capabilities of the spectrum, but as I said at the beginning, we really have to understand where we are on the first investment we've made before we can consider options to move in other directions.

Operator

Your next question comes from the line of Jason Bazinet from Citi.

Jason B. Bazinet - Citigroup Inc, Research Division

Thomas, on sort of the applicability of the Sky Angel sort of proceedings going on at the FCC, is that relevant to you at all in terms of how that plays out?

Thomas A. Cullen

Okay. I think -- I don't know if everybody heard that, but the question was about the Sky Angel proceeding at the FCC and whether that was relevant. The answer is yes, it is relevant in the sense that what Sky Angel has done is they're basically claiming to have IPTV over-the-top rights because they had some rights to broadcast it via satellite and because they are -- they believe they're defined as an MVPD. And so that would have relevant -- that proceeding would have relevance to all of the MVPD players and potentially people who aren't in the business today if the definition were to change or if Sky Angel were to prevail. So it's worth watching, and predicting outcomes is -- in Washington is a difficult game, so -- but as usual, they will pick winners and losers on that and somebody will win and somebody will lose.

Jason B. Bazinet - Citigroup Inc, Research Division

Am I right in sort of -- if the FCC rules in favor of Sky Angel, it could bring on more competition. But it is not reasonable to assume that it could dramatically lower your SAC costs and raise your cash flow by a substantial amount? Or is that misguided?

Thomas A. Cullen

Well, I think there'll be a lot of unintended consequences from that, and some would be good. And like you said, I think SAC -- I think there probably would be potentially more competition. I think that potential already exists today. So I'm not sure that it -- but it just may go a little faster. And I think it may -- it would change some dynamics for certain homes where SAC would be less, or things you could do with the programming would be different. I mean, I think, from a big picture perspective, the industry is struggling with, how do you take a market that's extremely profitable for the content owners today and where it's pretty much fully distributed to 90% of the kind of homes in the United States -- and do you want to change that model into a different paradigm of over-the-top IPTV, potentially with new entrants, where short term you might be able to get some added revenue, but you ultimately would affect the revenue that you get from the current people who built that infrastructure and are your current partners? So how do you do that? And so you see programmers struggle with what they -- the owners of Hulu struggle with how they do that, as you saw Starz struggle with how to do that with Netflix. And each of those -- each -- I think each of those programmers will come to -- perhaps, there could be some different conclusions, but it looks like the industry right now is focused on kind of a win-win situation for the current environment, which is authentication, which means as long as you pay me for your programming today, then you can -- that you get more flexibility in how you can watch that programming, both inside the home and perhaps outside the home. And so I think we have to -- we keep our eye on that. We continue to look at technologies and companies that are involved in over-the-top transmissions and -- but that -- we're a small player in the distribution side of it, and the content owners are ultimately going to decide what's the best strategy for them. And I guess Sky Angel is just one really small piece of that in terms of that decision. I think the other decisions are, I think, like Aereo -- is it Aereo or Aereo -- the -- can you put over-the-top -- can you put broadcasting networks over-the-top? That's a big decision too, where they -- we were -- initially had won the initial battle. And whether they win the war or not is another question. But if that were to happen, that would be pretty dramatic change in the way the business runs, at least for local networks, because you certainly would have -- you certainly would have retransmission consent agreements go away or come down a lot in terms of price.

Operator

Your next question comes from the line of Craig Moffett with Sanford Bernstein.

Craig Moffett - Sanford C. Bernstein & Co., LLC., Research Division

I want to return to something Joe said in the intro remarks where, Joe, you talked about slowing subscriber growth or little or no subscriber growth and rising programming costs being a recipe for contracting margins. How do you think about that? I mean, how do you think about what you do about that? Obviously, you suggested that your wireless strategy is part of the solution, but can you say more about how it's part of the solution? And have you gravitated more toward a fixed wireless broadband network, as opposed to full mobility, because of that? I'm wondering if you can just elaborate a little bit on that commentary.

Charles W. Ergen

Craig, I think -- this is Charlie and I'll take it a little bit. I mean, I think that -- look, we're not -- we don't put our heads in the sand. I mean, I think, when you don't raise your price and you've got programming costs that go up that -- according to industry statistics of 6% to 10% a year, your margins are going to contract. So what can you do about it? There's really 2 things you can do. One is you can improve your product and make sure it's a better product. And I think that Joe and his team have done a pretty good job with the Hopper in terms of making a really great product that, as soon as people understand it, they -- it would be the product of choice. It is the best set-top box kind of user interface system in the business today. A second thing, I think, you can do is you can start taking things like authentication and things that you have -- that most people have the rights to today and make sure that we give customers a better experience both inside and outside their home. And of course, we do that with Sling outside the home. So you continue to make a better product and you compete. And I think that our subscriber losses are less than most in this industry, and I think we're better positioned kind of going forward to maintain where we are. And of course, the third thing is we have the ability to raise price next year because we didn't raise price this year. So we have a pretty good path to increasing our margins, although we have to be prepared for that fact that, any time you raise price, you give customers a reason to look elsewhere. So all those factors considered, I think the core business is pretty good stable -- in pretty good shape. The wireless side of it gives you another opportunity for a lot of reasons. It gives you another opportunity for another revenue model, whether that be fixed broadband or whether that be -- or fixed wireless or whether it be mobile wireless? Obviously, you'd -- fixed wireless probably doesn't work in a lot of parts of the country economically, but mobile broadband's -- but mobile wireless certainly does. You have another chance to go to a customer and get another revenue stream. You also have a chance to give them a customer experience that's similar to what they get in the home at a quality of service that you can control. So it gives you a lot of reasons why somebody might want DISH Network and they can take their TV with them everywhere and get a quality of service that they otherwise couldn't get, and one bill that takes care of their fixed and mobile needs. So in certain parts of the country, you'd be more competitive than others. And so we like the optionality that we have now. It's really -- it's been frustrating. I mean, I would have liked to been sitting on a conference call at the beginning of this year, telling you exactly kind of how we'd see ourselves going forward. So it's been excruciatingly slow in terms of getting to where we need to get to, but I think we'll have decisions in the -- before the end of the year. And then I think, give us 30 days once we get decisions for us to say, "Okay, now based on all that data, here's where we think we're going to go." And so I'm hopeful that the next time, our next quarter conference call, we'll be able to give you some real insight into kind of the direction we think we're going. I -- the only thing you can do strategically is put yourself in position that if certain things happen, you can take advantage of that. And I think we've done that. And I think that we have half a dozen options of where we want to go as a company, and I hope that all those options will be good for our shareholders. So -- and that's a much better situation than sitting here -- if we just sat here with a video business, with satellite and that's all we had, you'd have -- you might have only one option going forward. And it's probably good for shareholders, but it'd probably only have one option. And so I'd rather have multiple options because then you can pick the best one that has the highest return.

Operator

Your next question comes from the line of Phil Cusick with JPMorgan.

Philip Cusick - JP Morgan Chase & Co, Research Division

Two, if I may. First, to follow up, Charlie, on the spectrum side. You mentioned in your Q the potential for a shift in that band. And in the filings in the past, you talked about a delay as long, as I believe, 18 months. How do you minimize that delay? Can you work with vendors today and work with the standards bodies today to start getting ready for that potential?

Charles W. Ergen

Yes, I -- the shift you're talking about is that -- if you could free up the H-band spectrum to be usable, that would be a good thing, right? We'd all like to do that, right, because it would increase another 5 megahertz spectrum for a country that's low on spectrum. And one way that we looked at that with the FCC and all the technical people and with the government is to shift 5 megahertz of us up to -- our low band up 5 megahertz. The ultimate conclusion that everyone has come to is that, that doesn't help because the shift would be interfered by other government users. And so there would be -- that shift would not increase 5 megahertz of spectrum. So the other -- so that doesn't look like it's going to work. So then you're back to, do we have to stay where we are? And by the way, if we did shift, it would delay us somewhere between a year or 2 at the 3GPP conference and delay us getting in the marketplace, which would be in a -- which would probably be a deathblow to what we're trying to do. The next -- so then you go back to, can you somehow make H-block work in the current environment? We've offered through our discussions, and obviously, you can read about those in our filings, is we believe that H-block could be used at low power for femtocells and small cells and it could be used. And it could have value and it could be used. Sprint has come in now with Softbank in a different discussion in terms of saying, "No, we want to protect it for full power." But in doing that, the result -- cutting through all the technical stuff and cutting through all the mumbo-jumbo, the result of that would be to render 5 megahertz of our spectrum useless so that the net effect would be to take away 5 megahertz from us and give 5 megahertz to Sprint, who would be the only likely bidder on the H-block because it's adjacent to where they are. So -- and you'd have to go against years of FCC precedent to take a band that is unused today and suddenly protect it by imposing incredible power limits that -- on us that really haven't been done before on a usable band. The second thing that would happen is that, if the H-block would have to go through the 3GPP process itself, and so it's undetermined whether you'd ever be able to use the H-block and it's undetermined whether you'd ever get much of a spectrum value from it because there'd only be one bidder and -- likely bidder in Sprint-Softbank. And then you'd get asked the question, should Sprint, with their Clearwire at -- now control of Clearwire, gives them, I think, 250 megahertz of spectrum. Would -- do you need to give them 5 megahertz more spectrum and take away 5 megahertz from the new entrant who would essentially have 40 megahertz of spectrum? So I don't think that's a practical outcome, but that certainly is worth looking at and making sure that we should look at every way that H-block could be used, and I think we've offered real practical solutions to that. We certainly would bid in an auction for low power, as I would think others would bid, because it would be usable for what we really need, which is more capacity in the cities. So that's the -- that's kind of where the discussions -- or I think the discussions are going on today, is between the staff and the FCC. And ultimately, the Chairman has to decide, and he has to decide. I hate to say it again, but the government does pick winners and losers. Would they pick Sprint as a winner over a new entrant? Maybe, but I would hope not.

Philip Cusick - JP Morgan Chase & Co, Research Division

Okay. And then second, if I may. Robert, you had a pretty big working capital drawdown this quarter. How should we think about that in terms of being temporary and reversing in the fourth quarter? Or is that pretty sustainable from here?

Robert E. Olson

Well, Phil, as we discussed, I would expect free cash flow being negative in the fourth quarter because of the VOOM litigation. Over the last couple of years, we've had favorable working capital because our cash taxes have been less than our book taxes. This is -- we've -- over those years, we've benefited from bonus depreciation, clearly. Going forward, it's -- well, it's -- quite frankly, it's unclear what the situation will be in Washington, whether bonus depreciation will continue in some form or another. But we continue to work very hard on really all elements of working capital. I think we have some room to improve inventory over the next year. We've been a little bit high on inventory as we've made the transition to the Hopper. Once that stabilizes, we've got some opportunities there. So without giving you a direct forecast quarter by quarter, in general, we manage working capital pretty tightly, and we think we can do a pretty good job going forward.

Operator

Your next question comes from the line of James Ratcliffe with Barclays.

James M. Ratcliffe - Barclays Capital, Research Division

Regarding AutoHop, I know you're in litigation on this, but if we assume that your right to offer the service is sustained in the court, what do you think the impact this has on broadcast economics? Do you think that this fundamentally, over time, makes ad viewership lower and then broadcasting becomes a less profitable business? Or do you think the balloon gets squeezed and we see it, the dollars, emerging in affiliate fees instead?

Charles W. Ergen

This is Charlie. I think I'll take that one. I think that you've seen a couple of programmer -- broadcasters talk about the fact that the DVR is their friend. And Hopper is just a better operating DVR in the sense that people watch more of their shows and they don't all skip -- about half of them skip commercials. So if you get more people watching, then you still have -- you have half the people -- the dirty secret is half the people skip commercials whether it's the Hopper or somebody else's. We just allow you to do it with a push of the one button. Somebody else makes you push a button 3 or 4 times. So I think that it's unclear, other than I think I -- other than the data seems to show and the broadcasters seem to say recently that the DVR is actually a positive for them in terms of more viewership that maybe is not being measured today and the fact that only about half the people actually skip commercials, and net-net, they come out ahead. Having said all that, I think that, ultimately, the broadcasters are in fact our partners. We're not going to go out there and try to do something that would be -- at least knowingly, we wouldn't go do something that would be very harmful to their total economic model because, ultimately, as you say, it would show up in other forms. And we want -- obviously, broadcaster's content is something our customers want. So I think there's other things you can do. If you -- once the litigation is over, where you're actually working together to say, "How can we do the kind of things where, as an example, we can target ads to customers, so they're not -- so people don't want to skip them, and do it in a way that customers feel better about and want to watch more commercials?" And you make them better and we can have viewer measurement as to what works and what doesn't work, in that you have more of partnership agreement where -- with the programmers so that you can do things that make sense for both companies. But we're going to have to get through the litigation first before we get there. I mean, I think, again, this is -- we don't always take principled stands, but the fact of the matter is we believe the American public has the right to change the channel. We think they have the right to record a show, and we think they have the right to push a button to skip a commercial because not all commercials are intended -- I don't want my family -- certainly when my kids were young, I didn't watch -- want them watching all those commercials. Some are very offensive. So I think you have to have the right to skip the commercial. And I think that's where we differ today. And we think the broadcasters, at least in the lawsuit, have said, "No, customers don't have the right to do that." And I think we have to take a stand for the consumer, because if we don't, nobody else is going to do it. So I think it's one of the things what customers like about DISH.

Operator

Your next question comes from the line of Bryan Kraft with Evercore Partners.

Bryan D. Kraft - Evercore Partners Inc., Research Division

I had 2 questions, one on ARPU. Can you just talk about whether the sequential ARPU decline was also driven by increased credits issued to customers during the AMC dispute and the other programming disputes? I know you mentioned pay-per-view was a driver, but was wondering if this was also a factor. And then secondly, what kind of traction have you gotten in selling the Blockbuster digital and DVD-by-mail service into the DBS subscriber base? I mean, has this strategy worked at all? And if you strip out the financial impact of the stores, what does the digital and DVD-by-mail business look like? How big is it? Is it profitable? If you could you talk about that, it'd be great.

Robert E. Olson

Bryan, this is Robert. I'll address your question on ARPU. The majority of the sequential decline in ARPU was indeed driven by pay-per-view events, as I mentioned. There was a small impact, clearly, due to waivers and adjustments associated with the AMC dispute. However, once again, the majority of that was just seasonality and really the lack of major boxing events in the third quarter. With regard to the question on Blockbuster, we offer the Blockbuster @Home product to new customers. And what we've seen with that offer is it's very similar to the take rates on premium channels. So we offer it for a few months to new customers. Some of them decide to continue, some don't, but the performance of those customers and the performance of that product is very similar to what we see on premium channels.

Thomas A. Cullen

And just on the Blockbuster By Mail piece -- it's an element of the Blockbuster @Home, and about 1/3 of the customers utilize that service.

R. Stanton Dodge

Okay, operator, that about wraps up our time. So thank you, everyone, for participating. And we'll talk to you next time.

Charles W. Ergen

Thanks, everybody.

Operator

This concludes today's conference call. You may now disconnect.

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