Crown Media Holdings, Inc. Q2 2008 Earnings Call Transcript

| About: Crown Media (CRWN)

Crown Media Holdings, Inc. (NASDAQ:CRWN)

Q2 2008 Earnings Call

August 6, 2008 11:00 am ET


Henry Schleiff - President and Chief Executive Officer

Brian Stewart - Executive Vice President and Chief Financial Officer

Mindy Tucker - Investor Relations


Chris Ferris – Natexis Bleichroeder

Sal Muoio – SM Investors


Good day ladies and gentlemen and welcome to the Crown Media Second Quarter Earnings Conference Call. [Operator Instructions]. As a reminder, this conference call is being recorded.

I would just like to take a moment to remind everyone that statements made on this conference call may be forward-looking statements as contemplated by the 1995 Private Securities Litigation Reform Act that are based on management’s current expectations, estimates, and projections. Forward-looking statements are subject to risks and uncertainties which could cause actual results to differ materially from those projected or implied in the forward-looking statements. Such risks and uncertainties are detailed in the company’s filings with the Securities and Exchange Commission including the risk factors included in the company’s 10-Q report for the 3-month ended June 30, 2008, and the company’s 10-K report for the year ended December 31, 2007. Any forward-looking statements are made only as of the date of this conference call based on information known to the company’s management. The company is not undertaking any obligation to update any forward-looking statements.

I would like to turn the call over to Mindy Tucker.

Mindy Tucker

Thank you. Good morning everyone and welcome to Crown Media’s Second Quarter Conference Call. With me today are Henry Schleiff, Crown Media’s President and Chief Executive Officer, and Brian Stewart, Executive Vice President and Chief Financial Officer. Henry and Brian will make some comments about the operating results and financial performance for the quarter and for the year to date and then we’ll open the call for questions.

I would like to remind everyone that our press release which contains information on non-GAAP measures was distributed earlier this morning and is available through the investor relations section on our website at In addition, our 10-K will be filed sometime this afternoon.

Now I’d like to turn the call over to Henry Schleiff.

Henry Schleiff

Good morning everyone and thank you all for joining us today. With the first half of 2008 completed, our business has never been stronger. Our wholesome, poignant, and beautifully produced original programming continues to deliver excellent ratings helping us to expand our audience in our key demographic groups and to maintain our top 10 position. With all of our major distribution renewals now complete, we have turned our efforts towards the successful internal growth and expansion of Hallmark Channel, and more importantly, the roll-out of both Hallmark Movie Channel along with Hallmark Movie Channel HD. Finally, with respect to our advertising revenues, we completed a very positive upfront season and even further expanded our roster of premier advertising clients. Indeed, I am confident that as our business continues to grow we will deliver strong operating results as well as very positive financial results for 2008.

In that regard, I’m pleased to be able to report to you that once again Hallmark Channel finished another record-breaking quarter. For the second quarter of 2008, Hallmark Channel delivered its highest second quarter ever in terms of household delivery for both Prime Time and Total Day. More specifically, Hallmark Channel finished the quarter ranked 9 for Prime Time and 10 for Total Day extending this ranking for the year-to-date through June. We were able to generate double-digit increases in the delivery of each of our key demographic groups of women and adult ages 18 to 49 and 25 to 54.

June was particularly an outstanding month and marks our 25th consecutive month in the top 10 for Prime Time. In other words, Hallmark Channel has been a top 10 cable network for over 2 straight years. During this period, we have successfully extended a brand that appeals to a unique audience, an audience that has been consistently growing, and one that recognizes the value and quality of the distinctively wholesome and appealing programing that can be found only on Hallmark Channel. This has certainly helped entrench Hallmark Channel as a top 10 cable channel alongside such long established and deep pocketed entertainment channels as TBS, TNT, and LifeTime. Once again, we can attribute this consistent success directly to the popularity of our original programming and to our ability to maximize ratings with a mix of classic series, theatrical films, and cost-efficient marketing.

For the year to-date, we premiered 11 original movies including 4 new installments in our very successful original mystery movie series. For the year to-date through June, Hallmark Channel ranked No. 1 with more original movie premier hours than any other ad-supported cable network. Despite efforts by our competitors who are recognizing the value and attraction of the original movie format, Hallmark Channel remains the clear leader in this area accounting for more than 25% of all original movie premier hours on ad-supported cable networks ahead of LifeTime, Sci-Fi Channel, ABC Family, and Oxygen.

Indeed, even in a month where most of our competitors across the board in both broadcast and cable television exhibited some of their new and strongest shows, a performance coming out of the May swings for the first week of June with significantly higher than even last year led by the positive ratings of our original movie McBride Requiem which ranked third among households and was the most watched McBride in Hallmark Channel history, Hallmark Channel increased 40% in Prime Time ratings during this period. Moreover, our original movies for the first half of this year had hit new ratings high and let Hallmark Channel to account for 4 of the top 10 ad-supported cable original premiers. In addition, Hallmark Channel delivered the No. 1 original movie among women 25 to 54, and in total, 4 of the top 10 original movies among upscale audiences defined as adults 25 to 54 with household incomes in excess of $75,000.

Overall, our originals have averaged 2.0 household rating to date this year compared to an average household rating of 1.6 for the same period last year. Notably, our ratings have increased significantly in each of our key demo groups. When we look at our ratings overall for a week or a month when we premier an original movie versus a week or a month without a premier of an original movie, our ratings in every key demographic group increase again by double digits. Indeed we see a benefit not only in the time period when an original movie premiers but a positive halo effect that impacts our entire schedule. Clearly our strategy of working with a number of new and talented television movie producers is paying off in huge ratings dividends for both our viewers and for our network’s advertisers.

With our original movies and classic series, Hallmark Channel enjoys a uniqueness in today’s environment. In spite of the development and increased penetration of new television technologies, the need for the traditional family-friendly broadcast television experience remains strong, and indeed has actually grown. Notwithstanding to a variety of mobile platforms and options available today, a full 70% of all television viewing continues to take place in either the family room or living room. Given that context in recognizing the increased coarsening of television contents, Hallmark Channel continues to capitalize on the ongoing utility of the television set, be it small or big screen, LCD or plasma. The ability to sit back, relax, and enjoy a matched-flow television experience without having to have your hand on the remote when viewing in mixed company.

Additionally, Nielsen rankings indicate the new television currency of C3 retention and length of tune are the most impacted by program content and matched flow between programs and commercials. Hallmark Channel’s success in this area is underscored by the fact that for over 3 years and 14 consecutive quarters Hallmark Channel ranks No. 1 in Prime Time for length of tune amongst all ad-supported cable network and for the year to-date through June 2008 leads virtually all ad-supported cable channels and for that matter broadcast networks in original movie C3 retention.

Furthermore, since our launch, the average household rating in demo delivery for Hallmark Channel’s original movies have increased each and every year for the past 7 years, going from a 0.8 household rating in 2002 to 2.2 household rating for the past 12 months. Our appealing in wholesome original movies underscore our brand, attract both viewers and advertisers, and set Hallmark Channel apart from a crowded and highly competitive marketplace.

Notwithstanding the top attributes consistently describing Hallmark, it is not surprisingly, the top attributes consistently describing Hallmark Channel in our national tracking studies year after year continue to be “can trust for all ages” 97%, “high quality” 95%, and “contains a positive story that stays with me” 94%.

In early April, we launched Hallmark Movie Channel in high definition, a state-of-the-art cable network featuring the greatest family movies of all time. Hallmark Movie Channel HD is dedicated to bringing viewers a mix of classic theatrical feature films, presentations from the acclaimed Hall of Fame Library, the very depths of our own Hallmark Channel original movies, and a variety of special events. By the way, Hallmark Hall of Fame films will appear every Sunday night in Prime Time on Hallmark Movie Channel which will be exclusive destination for the high definition on core performance of these award-winning programs, one of the very cornerstones over the years of the Hallmark ratings.

Our schedule for the remainder of this year is filled with many more original movies which we are confident will continue to draw audiences of all ages. Our first original movie of the third quarter, A Gun Fighter’s Pledge, starring Luke Perry had a very strong debut with a 2.3 household rating on Saturday, July 5, 2008. We used this original programing along with an extensive off-air marketing campaign to attract the solid audience for the month of July with a focus on Western movies in program. Our efforts paid off with Hallmark Movie Channel ranking No. 7 out of all ad-supported cable networks in Prime Time for the month. Our schedule for the remainder of the year includes new installments of our murder mystery movie series and the premiers of exciting original starring exceptional talent such as Jacqueline Bisset, Tom Arnold, Jane Seymour, Donna Mills, Florence Henderson, Cicely Tyson, Ed Asner, and Richard Roundtree. In May, we had an opportunity to showcase some of this talent at the industry-wide NCTA show where we came off with our best appearance ever with substantial amount of press interested in both Hallmark Channel and especially Hallmark Movie Channel. We made a similar impact just last month at the Television Critics Association press tour in Los Angeles.

We are also expanding into other areas in the digital world and attracting a younger audience. We recently announced Hallmark Channel’s first ever hosted online series devoted to behind the scenes news and events of our family premier original movies and Hollywood films. This new feature entitled Hallmark Channel On-Location will showcase informal interviews with stars, writers, producers, and directors, as well as on-set stories all providing a close-up look at the magic of movie making. This new half hour program premiers online Friday, August 15, 2008, with segments also appearing on Hallmark Movie Channel.

In terms of distribution, at the end of the second quarter, Hallmark Channel had 83.2 million subscribers representing an increase of nearly 650,000 homes over where we were just 1 year ago. I should note here that we achieved this increase notwithstanding the loss of approximately 1 million subs in the period of January to June due largely to a Nielsen adjustment correcting their over-statement of a number of Echo Star subscribers which has impacted all fully distributed channels. Our attention over the last several months has properly been focused on the renewal of our distribution agreements, and with that now achieved, we can expect further growth to be gradual as we are now a fully distributed network. Indeed, there are just a handful of networks with over 90 million subs and while we certainly plan to be one of them through hard work and determination, it will just take a little time.

Over the past year, I’ve reported the successful renewals of our distribution agreements with Comcast, Time Warner, DirecTV, Echo Star, and NCTC. In May, we announced the renewal of our distribution agreement with Cable Vision with 3 million subscribers in some extremely important markets in the New York metropolitan area. Cable Vision will also have the right to distribute both the standard and high-definition versions of Hallmark Movie Channel. In total, these renewals will contribute to the continuing growth in our subscriber revenues and although we still believe that Hallmark Channel is undervalued relative to its competitors, we are certainly pleased with the rather substantial progress that we have made here. For the second quarter, our subscriber fee revenues increased over 120%, most of which dropped to the bottom-line. With these renewals, we have successfully solidified our distribution base. Our next renewal does not come up till the end of this year. It will be with Charter which accounts for just under 5 million subs. I can assure you that our distribution team is currently in active negotiations and I am confident that we will again reach an agreement on mutually satisfactory terms.

In April, as I had mentioned, we launched the high-definition version of Hallmark Movie Channel with the greatest family movies of all time. At the end of the second quarter, Hallmark Movie Channel including both the standard and high definition version had over 7 million subs. At the end of July, this number jumped to over 9.1 million subs. With a very significant launch this past weekend on Cable Vision, Hallmark Channel will have an excess of 10 million subscribers. We are also distributed on Time Warner in San Antonio, Austin, and Waco, Texas, throughout New York City, as well as key cities in Wisconsin, it should be noted that the result of the most recent data research study indicates Hallmark Movie Channel has the highest awareness among viewers as compared to 27 digital and emerging cable networks in most mid-size networks included in the study. Among women 18 and over, Hallmark Movie Channel ranked No. 1 tied with Lifetime Movie Network. Hallmark Movie Channel also ranked No. 1 among all adults with a high interest in subscribing to bundle services. In addition, Hallmark Movie Channel ranked second amongst all adults who subscribe or might subscribe to digital cable or who are interested in satellite digital service. Based on this viewer support and demand we expect further dramatic growth in the distribution of Hallmark Movie Channel throughout the rest of this year by virtue of our newly signed agreements with Comcast, Cox, and NCTC.

Our strength and success in programing and distribution have contributed to the significant growth we’ve had in advertising revenues. More specifically, for the second quarter advertising revenues increased 15% over the second quarter of 2007. Our CPMs in the scatter markets were up nearly 80% over the upfront continuing to outpace the market. As you may be aware from reports in the media, the upfront market this year was particularly strong for cable. Broadcast despite continued weakness in audience share completed deals with single digit increases in CPMs, but were generally flat in terms of revenue.

The overall cable market with a somewhat more positive outlook with respect to ratings was rewarded by clients with CPM gains generally in the 3% to 9% range. Hallmark Channel did well both in terms of volume of business and increases in CPMs. The volume of the business that we completed in the upfront was up by 22% over last year to a total of 116 million as the result of a combination of higher ratings and slightly higher percentage inventory sold. Our CPMs were also high, up 7% at the top of the range shared by other premier cable channels.

I mentioned that we sold slightly more inventory in this upfront than we did last year. The volume of advertising time that we sell in the upfront is always a very critical decision our extremely talented advertising sales team led by Bill Abbott must take a read of the market based on where it is today, as well as where it will be in 6 months, in 12 months from now, and must also accurately estimate the demand that made this for our channels in the future against what they may be able to lock in ahead of time. In the past, we’ve typically sold slightly less than half of our inventory in the upfront season. While this season, we chose to sell approximately 53%, still allowing us to hold back just enough to benefit from the significant gains we’re seeing each year given the solid annual increase in ratings and distribution experienced by Hallmark Channel since its launch in 2001. Our ad sales team has consistently made the right call on this as you’ve seen by the reports of our scatter market gains of anywhere from 50% to 80% over upfront numbers. In part, we recognize that as our growth in ratings and distribution begins to slow, we cannot expect this same increase in demands for our time throughout the year to continue at the extraordinary rates we’ve seen in the past. In addition this year our advertising sales team has seen a strong appetite for the upfront but a softening in the scatter market.

Given that our business is not immune to the broader trends that are currently affecting the economy, it is likely that for the balance of the year our advertising revenues may not quite equal their historic industry leading 17% to 22% rate of growth, a potential shortfall which, however, we would expect to be able to cover by savings in other areas of the company. Having said that, our ad sales team has certainly read the market key leads and has come away with what I consider to be the best possible results; high single-digit growth in CPMs and a significant increase in volume. In addition, they delivered nearly $10 million in business from new advertising clients including Microsoft, Met Life, IHOP, IKEA, H&R Block, and Nivea. We were also successful in securing nearly 20 movie entitlements, movies that are associated with exclusive advertisers representing a significant increase from last year. Advertisers appreciate these opportunities because of the value in being exclusively associated with the Hallmark brand while viewers show their appreciation with higher ratings. Overall, our results in the upfront market demonstrate that advertising clients, both old and new, recognize the value in our brands, in our demographics of baby boomers, and in our family friendly appealing programs.

And now, I’d like to turn things over to our CFO, Brian Stewart.

Brian Stewart

As Henry has indicated, in the second quarter of 2008, the Hallmark Channels continued their strong ratings performance, concluded a successful advertising upfront market, and enjoyed the benefit of the recently renewed distribution agreements. These factors contributed to a very strong second quarter 2008 financial performance for Crown Media. For the 3 months ended June 30, 2008, total net revenue of $71.5 million increased 28% from $55.9 million in the second quarter of 2007. Total subscriber revenue of $14.6 million was up 124% from $6.5 million in the second quarter of 2007. This increase reflects increased rates and numbers of paid subscribers from our recently renewed distribution agreements and the contractual rate increases from our other agreements. As we previously discussed, we expect Crown Media’s full year subscriber revenue to increase substantially over 2007 as a result of our renewed distribution agreements. Total second quarter advertising revenue was $56.6 million, an increase of 15% from $49.3 million in the second quarter of 2007, and year-to-date our advertising revenue was up 19% over 2007. As Henry mentioned, the very strong scatter market has resulted in significant CPM increases over both 2007 rates and rates for the second quarter of 2008 inventory that we sold in the upfront. Crown Media’s advertising revenue was also driven by increases in ratings, nominal increases in distribution, and increased advertising sales on the Hallmark Movie Channel.

The second quarter continues the network’s history of tremendous advertising revenue growth and as Henry we expect the weakening economy to continue to put pressure on advertising demand and rates and we expect slower growth in the second half of this year. However, we continue to expect advertising revenue growth rates in 2008 in the mid teens over 2007. Total cost of services for the second quarter of 2008 decreased 19% to $39.2 million. Within cost of services, second quarter 2008 programming expenses decreased 7% to $35.6 million from $38.4 million in the second quarter of 2007. The decrease in the second quarter 2008 programming expense resulted primarily from the termination of our programming agreement with NACC. Adjusted for this NACC programming, our second quarter 2008 programming expense would have increased by about 3% again excluding the NACC programming quarter to quarter over 2007. We continue to expect full year 2008 programming expenses to be relatively flat compared to 2007 again resulting from the elimination of the NACC programming expenses.

Second quarter 2008 cost of sales was $7.8 million lower due to the absence of subscriber acquisition fee amortization as the launch support payments we’ve made over the years are now nearly fully amortized and the remaining amortization is being netted against their own subscriber revenue. Other cost of services including amortization of our satellite capital lease increased $3.6 million in the second quarter of 2008 from $2.1 million in the second quarter of 2007.

SG&A expense for the second quarter of 2008 totalled $11.9 million, down 16% from $14.1 million in the second quarter of 2007 and that was primarily due to a reduction in our share based compensation expense. Marketing expenses for the quarter were $2.1 million, a decrease from $4.1 million in the second quarter of 2007. As we previously discussed, our marketing expenses are subject to the timing of air support of our original movies with off air media, and in the second quarter of 2008 we did not support any of our original movies with off air consumer marketing promotions as we did for one movie in the second quarter of 2007 resulting in that fairly significant variance. We continue to expect 2008 marketing cost to increase at single-digit rates over 2007.

Our adjusted EBITDA for the second quarter of 2008 was $19.7 million, an increase of $18.6 million over the second quarter 2007 EBITDA of $1.1 million. Cash provided by continuing operating activities totalled $16.7 million for the second quarter of ’08 compared to $4.7 million for the second quarter of ’07, and Crown’s net loss for the quarter was $5.9 million or $0.06 a share versus a loss of $43.7 million or $0.42 a share in the second quarter of 2007.

From a liquidity perspective, as we’ve discussed on previous calls, our credit facility of $90 million was reduced to a $60 million commitment on June 30th of this year. The outstanding balance on the credit facility at June 30 was about $54 million, and since June 30th, we’ve made additional reductions to the facility from our cash flow from operations, and the current outstanding balance is approximately $48 million on the $60 million facility. We expect to continue to make reductions in the outstanding balance on the credit facility from cash flow from operation throughout the rest of 2008.

So, in conclusion, in the second quarter of 2008, Crown Media again benefited from increased subscriber revenue resulting from our renewed distribution agreements, from substantial increases in advertising revenue resulting from increased ratings and CPMs, and reductions in our operating costs, all resulting in substantial increases in our EBITDA. Additionally, with a significant reduction in interest expense, our net loss was substantially reduced from the second quarter of 2007. As we’ve discussed the continued significant growth of Hallmark Channel advertising revenue contributions to earnings from our renewed distribution agreements, a continued focus on operational efficiencies and cost management combined with the growth potential of the Hallmark Movie Channel, both standard definition and high definition, all present tremendous opportunities for revenue and earnings growth of Crown Media. And again, despite a very challenging economic marketplace, we continue to expect full year EBITDA to exceed $50 million and our cash flow to exceed $44 million for full year 2008.

With that I’ll turn it back to you Henry.

Henry Schleiff

Thanks Brian. In summary, let’s take a quick look at what I consider to be the three key areas of our business: Programming, distribution, and advertising. Clearly, our programming on Hallmark Channel offers an exciting line-up of original movies combined with classic series favourites along with popular theatrical feature films, all of which appeal on a very fundamental level to our ever-growing audience.

2008 is off to an excellent start, with the continued position as a top 10 cable network. The growth of Hallmark Channel has experienced in terms of ratings demonstrate that viewers recognize that Hallmark Channel is one of the very few destinations where they are guaranteed a predictable, family-friendly viewing experience. We’ve developed a brand based upon original and theme programming, complemented by classic series and feature films with a focus on the holidays. We have an ambitious programming schedule for the remainder of 2008, with a total of 30 original movies for the year, more than 2 a month, and plan to continue to meet the viewer demand for positive stories with wholesome and uplifting conclusions.

We’ve already added the very popular series, 7th Heaven, to our schedule earlier this year and have secured the addition of the perennially popular Cheers which will begin airing this October as well as baby boomer favourites, I Love Lucy, which will be added to our schedule at the beginning of 2009 and Golden Girls shortly thereafter. Our new sister network, Hallmark Movie Channel, offers the greatest family movies of all time. Launched in HD just in April, this channel has a unique appeal and helps to fill the void across America today for wholesome uplifting entertainment. Certainly our distinctive combination of family friendly programming and our recognizable brand are important not only for our viewers, but also for our advertisers and distribution partners.

With the successful renewals of all of our major distribution agreements behind us, we can now focus on the growth of Hallmark Movie Channel as well as the continued expansion of Hallmark Channel. We’ve already experienced tremendous progress in this area, with launches of Hallmark Movie Channel Standard Definition and HD in just the past few months on Time Warner, Cablevision, Cox, and Verizon. We have several other deals pending, and I look forward to announcing the continued growth of this distinctive and appealing channel.

With success this past year in ratings growth and distribution expansion, it’s no surprise that we delivered another quarter of double-digit growth in advertising revenues. Our extremely positive brand image combined with our distinct ability to attract the baby boomer generation audience with its enormous purchasing power and continued growth adds up to a unique appeal for advertisers. Our results in the upfront market were very positive, with strong growth in both CPMs and volume, as well as a solid roster of new clients. Despite the broader trends in the marketplace, I am highly confident that we will be able to deliver another year of double-digit growth for Hallmark Channel and continue to expand upon this strong foundation of clients that we’ve already established for Hallmark Movie Channel.

As we look ahead to the remainder of 2008 and beyond, we will of course continue to be focused on pursuing our goals in a fiscally responsible way, one which enables us to maximize our revenues and reduce our debt, while keeping a close eye on the requisite cost structure of our business. Indeed, we’ve had an excellent start to 2008 with significant increases in ad revenues and subscriber license fees, generating nearly $20 million in EBITDA for the second quarter.

Our business model is a very positive and a very attractive one with a relatively fixed cost structures. I believe we have finally entered a more mature phase of this model with the majority of the increases in our advertising revenues and subscriber fees now falling to the bottomline.

At this point, I’ll turn these proceedings over to the operator to assist us with the question and answer part of the call.

Question-and-Answer Session


[Operator Instructions]. Your first question comes from Alan Gould from Natexis Bleichroeder.

Chris Ferris – Natexis Bleichroeder

This is Chris Ferris on for Alan Gould. I was wondering if you guys could delve a bit deeper into the advertising trends you’re seeing. Are there any particular ad categories that are soft, and when did you really start to see the weakness creeping in? Secondly, Henry, you’ve tackled the programming challenges which is evident from the rating success you’ve seen, and you’ve successfully renewed the carriage agreements. I think the next big issue is for you guys to address the balance sheet. Can you give us some sense as to how you might start to deleverage that balance sheet, especially now that you have this nice free cash flow? And then finally, Brian, you touched a bit on expense trends, and maybe I missed it, but could you talk about the SG&A outlook for the rest of the year?

Henry Schleiff

Brian, I think it was largely financial. I’ll maybe add to your response.

Brian Stewart

Chris, just going through the advertising discussion. As you can see through our results through the second quarter, the impact that we’ve seen in the advertising market really didn’t start taking effect at least in our business until we started getting into the third quarter scatter. The second quarter scatter, as Henry outline, was very, very strong for us, but as we were in the second quarter and beginning to book business for the third quarter and are now in the third quarter seeing some scatter business, but for the fourth quarter, we certainly see softening in those rates. It’s, we believe, substantially less dramatic than what some of the other participants in media and even in the network space have seen, so we think that the downside for us is going to be relatively limited, but we have started seeing softening in the third quarter, and as you’d expect, it seems to impact our direct response piece of our business first and work its way up into the general rate business, but again we think the impact on us is going to be less than the rest of the market, and again, we still think that we’ll be able to get to our middle teens growth for the full year. In terms of the capital structure, that the risk of being somewhat repetitive, it really is the story that we’ve been discussing over the last few quarters, which is what we believe the right approach is for the business today, to focus on improving cash flow, continuing to focus on our operations to make sure that we’re focused on maximizing our cash flow, but also positioning the business for continued growth, and if we continue to establish that track record of substantial growth in cash flow, we think that as we get into the second quarter of 2009, when we begin to have expiration of the J.P. Morgan facility and other events that lead to a natural restructuring of our existing debt, we’ll be extremely well positioned. We’ll have an established track record of laying out expectations, meeting those expectations, substantially growing the cash flow of the business, and hopefully then be in a market place that’s a little more attractive for discussions around refinancing. So the strategy for now is to continue to focus on the operations of the business for 2008 and that will set us up, and in hopefully first half of 2009 to start looking at our options in terms of restructuring our existing debt. The benefit that we’ve got today is that our existing debt, with the exception of the J.P. Morgan facility, is cash-deferred interest as you know, so we’ve got the luxury of some time to wait out a not entirely favourable credit market and continue to focus on the operations of the business.

In terms of SG&A, again, we see our costs essentially tracking our plan. I know that as we look at the other costs of services, there were a couple in the quarter, a few anomalies in terms of our other cost of services, but on balance, our non-programming costs will grow between 5-6% for the full year. Again the SG&A expense gets a little bit tricky to track quarter to quarter because it’s subject to fluctuations in the stock price related to our stock-based compensation, but on balance, we see our costs growing again at 5% or 6% and are expecting to manage that number very closely as we look at an ad revenue number that may come in slightly under where we had at one point hoped it would be.

Chris Ferris – Natexis Bleichroeder

Is that inclusive of the $7 million of NICC legal costs that you have, the 5-6% number?

Brian Stewart


Henry Schleiff

Chris, I would add one aspect to Brian’s answer. I think some of what you’re seeing in the third and fourth quarter is a combination of factors in terms of the softening of the scatter markets. Two major factors, I think, and I think the mix is very, very important for you and others to understand. Clearly, the economy, first and foremost. It’s the opposite of a full tide floating alls ships. I think all of us suffer across the board in varying degrees depending upon the category, but I think whether it’s pharmaceutical, film, right across the board, or your own packaged goods, you’re going to feel some impact of the economy. The other factor, I think, is audience erosion, and I think that’s a very, very important that we have to understand. We are fortunate. Hallmark has and will continue to appeal to that baby boomer demographics. As you’ve see, statistically, our ratings or audience has either stayed or grown in size. Our audience indeed appeal to our key demo. Women 25 to 54 and adults 25 to 54 have been good. Where you are seeing the most “damage,” or the greatest loss, I think, and perhaps to some extend surprising the market place, is where your audience is a younger audience. That audience is and we’ve been very consistent in saying it on these calls and publically, that audience is migrating from television to a variety of other platforms, to a variety of other forms of entertainment, so let me say it this way. I am happy not to have the double whammy of the economy and attempt to appeal to a younger audience. I think the economy is somewhat cyclical. No one is going to sit here and project or predict when it rebounds or to what it rebounds, but I will say that I am very, very happy with our audience focus because I think and I’ve been consistent, our audience will continue to grow especially in its appeal through our programming.

Chris Ferris – Natexis Bleichroeder

Are you still expecting your adjusted EBITDA to exceed $50 million for the full year?

Brian Stewart



[Operator Instructions]. Your next question comes from Sal Muoio from SM Investors.

Sal Muoio – SM Investors

I think I have the same questions exactly, but maybe slightly different. Your first 6-month EBITDA is $34.3 million. Your target is $50 million. I know that the environment is more difficult than it was in the first half of the year, but it still seems like it should be a pretty easy target for you to meet, unless there’s something…are there any swings in expenses that you’re just not aware of yet for the third or fourth quarter or anything else, or is it that you expect the business to be slow. It seems like the target is still a little low, given the first 6 months even with the economy the way it is, and then I have maybe a couple of other questions.

Brian Stewart

Well, Sal, in terms of a couple of expenses that will trend slightly different in the second half of the year than the first, one is marketing. Again, most of our consumer marketing spend is around media towers that support our original movies, and that will be to some degree weighted in the second half of the year as we get into our holiday season. Our promotion and marketing expenses are somewhat higher in that fourth quarter than in other quarters of the year. The other trend, and it’s a little difficult necessarily to see in the financial statements, but we talked last quarter about the timing of our original movies, and both the dynamic of how we fund those movies and then how those movies will impact our P&L. The funding of those movies in 2008 was disproportionately weighted to the first half of the year, so that’s where you see a little bit of a disconnect between our EBITDA and our cash flow because we funded those movies, our 2008 slate of original movies, more in the front part of the year. The delivery of those movies is actually going to be weighted more toward the second half of the year, which is to say that we’ll have amortization related to those original movies in the second half of the year that will be a bit higher than the first half of the year. So those are two fairly significant expense items that will trend up a little bit just by the nature of the timing of the business and the sequencing of the business in the second half of the year relative to the first half of the year. It’s also, again, just trying make sure that we’re being relatively cautious in how we look at the balance of the year and what we see in terms of advertising, but we do think that we’ll exceed that $50 million number, but again it’s a challenging environment with a lot of the year left.

Sal Muoio – SM Investors

Just another question on the current scatter market, just more detail on perhaps by categories. I know order was not a big part of your mix, but maybe you can walk through that in some more detail, and then I wanted to also ask about what you’re seeing as far as scatter cancellation rates.

Henry Schleiff

I don’t think we’re seeing a particularly impactful negative in any particular segment. Obviously, given our audience, we’ve always done particularly well in pharmaceuticals and packaged goods, less only in entertainment, movies, and what have you, so I wouldn’t think loud any particular sector, if you will, to say that it’s up or down. The interesting question, I think, Sal, will be and we’re get yet to see any clear evidence of how this will play out, but what strategy is implemented especially as we get to later in the third and fourth quarter holiday season, how retail handles the issue of going for market share. Traditionally, in a situation like this, there’s a fair division of strategy with some coming down on spending more money frankly in the world of advertising to gain market share, and in that situation, we are obviously a beneficiary.

Brian Stewart

And on the cancellation, Sal, the scatter markets by their nature are more spot markets, so we don’t see much in the way of cancellations there. To some degree, certain of our upfront agreements come with cancellation options. To be honest, it’s a little bit too soon to tell whether or not those will be exercised at a different rate this year than previous years, but we don’t expect to see anything different there than what we’ve seen in the past.

Sal Muoio – SM Investors

And then, could you walk through just the incremental economics for the high-def movie channel, perhaps for this year and next year?

Brian Stewart

We’re a little cautious in how we talk about the economic impact of the movie channel, because the way that the economics of that channel will work is there will be if any in the way of subscription fee, Sal. There will also be little if any in the way of incremental costs specific to that platform. For the most part, that will be a platform that we’ll leverage existing infrastructure to some degree, existing programming rights, so there’s not much in the way of incremental cost or sub-revenue, so what’s left is the advertising revenue, and the revenue from advertising for that platform will come initially based on distribution, not unlike the Hallmark Channel, but even more directly related to distribution because it won’t have the Nielsen ratings. It won’t be sold on a ratings basis. It’ll be sold on just a reach basis, so the advertising revenue that we get from that platform will be a direct result of how many subscribers we have. As we talk, we’ve grown that platform from just about 5 million subscribers to just under 10 million subscribers. How that grows will be in fairly large chunks. It will be launches on relatively large platforms, and so when those launches take place, that’s when that ad revenue will follow, and it will follow fairly directly, but our ability to predict the exact timing of those launches is somewhat limited, so all that’s a long-winded way of saying we’re a little cautious in how we talk about revenue for the rest of the year or revenue for 2009 from the movie channel, just because it really is dependent on those launches. As Henry outlined, the reception to the channel from affiliates and from viewers is very positive, very favourable, so we are on track for those launches and think that we’re poised for some significant growth over the next 12 to 18 months, but it’s a little hard to predict the exact timing of when that growth is going to be.

Henry Schleiff

Just to add to that. Brian is absolutely right. In a word, it’s a game of distribution. The good news here is that nobody is out there to my knowledge in the market place offering financially a more attractive deal to the operator, and I think what it does come down to is literally the limitations they have, be it satellite or cable, on bandwidth, and As those opportunities open up you’ve seen a lot in the press recently in the battle especially among the satellite distributors each one trying to say that incorrectly perhaps that the game is all about the number of high definition networks they’re offering. We think that this is in the grand scheme of things quite interestingly a very propitiously time to launch. It’s got a great brand, that is to say Hallmark on it, that combination of greatest family movies of all time distinguishes it just enough from Hallmark Channel itself which of course is a mix of classic series too, and I think it will be well embraced by the subscribers and viewers, and the reason I say that is obviously the independent third-party research which I mentioned in my earlier comments is coming back off the chart strong in terms of our appeal, especially an appeal to the subscriber that both coaxial cable and the satellite distributor are trying to appeal to as well as other players, so I think it is something that all three want to have in their distribution package. I think it is perfectly timed. I think we have to be patient because it is not up to us to find the bandwidth, but I think this is something that in their own interests the operators are going to want to have.

Sal Muoio – SM Investors

You still expect something in the range of $0.50 to $1 of advertising annually per sub or something at this level of subscribers?

Henry Schleiff

Well, it grows exponentially as you know, Sal. I think at its current number we’re probably looking at a buck or so a sub, and I think if we go from 10, 20, to 30 million subs, that goes up to above 50, about 75.

Mindy Tucker

Okay I don’t think there are any other questions. So we’d like to thank you all for joining us this morning and we look forward to speaking to you in the fall.

Henry Schleiff

We’ll see you then. We look forward to seeing you on the fourth quarter call.

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