MSG Networks Inc.
Q1 2019 Earnings Call Transcript

Published: 3 Nov 2018

[Operator:]

Good morning. My name is Christine, and I’ll be your conference operator today. At this time, I would like to welcome everyone to MSG Networks Fiscal 2019 First Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. And I will now turn the call over to Ari Danes, Investor Relations. Please go ahead sir.

[Ari Danes:]

Thanks, Christine. Good morning. And welcome to MSG Networks’ fiscal 2019 first quarter conference call. The company’s President and CEO, Andrea Greenberg, will begin this morning’s call with a discussion of the company’s operations. This will be followed by a review of financial results with Bret Richter, the Company’s EVP, Chief Financial Officer and Treasurer. After their prepared remarks, we will open up the call for questions. If you do not have a copy of today’s earnings release, it is available in the Investors section of the company’s corporate website. Please take a note of the following. Today’s discussion may contain statements that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that any such forward-looking statements are not guarantees of future performance or results, and involve risks and uncertainties, and that actual results, developments and events may differ materially from those in the forward-looking statements as a result of various factors. These include financial community perceptions of the company and its business, operations, financial condition, and the industry in which it operates, as well as the factors described in the company’s filings with the Securities and Exchange Commission, including the sections entitled Risk Factors and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained therein. The company disclaims any obligation to update any forward-looking statements that may be discussed during this call. Lastly, we will discuss certain non-GAAP financial measures on today’s call. On Pages 5 and 6 of today’s earnings release, we provide consolidated statements of operations and a reconciliation of operating income to adjusted operating income. In addition, on Page 8 of the earnings release, we provide a reconciliation of net cash provided by operating activities to free cash flow. With that, I will now turn the call over to Andrea.

[Andrea Greenberg:]

Thank you, Ari, and good morning. We’ve started our fiscal year with the solid performance that reflects our continued commitment to building on our financial, operational and strategic successes. For the first quarter, we generated approximately $164 million in revenues, an increase of 4%, and $85 million in adjusted operating income, an increase of 3%, both as compared to the prior year periods. We believe our unique position as an operator of two of the country’s most successful regional sports and entertainment networks, will help drive another strong year of revenue, adjusted operating income and free cash flow. Live sports is clearly among the most valuable content in our industry. And this year, we expect once again to deliver approximately 500 live games across MSG Networks. This includes an unmatched line up of fall and winter sports featuring the New York Knicks, Rangers and Highlanders, New Jersey Devils, and Buffalo Sabres. This past quarter also marked the start of our NFL coverage. With MSG Networks serving as a regional sports home of the New York Giants and Buffalo Bills, delivering exclusive pre-and-post game content, including expert commentary and player interviews. In addition to our gaming coverage, we've remain focused on broadening our appeal and deepening the connection we have with our viewers. This season, we’ve introduced fresh content that features a diverse range of talent and provides access and insight to players, coaches and celebrity fans, a new format and from a unique point of view. This includes several new series we launched this fall as part of our MSG Shorts lineup, including among them Unfiltered, which gives viewers an entirely new perspective on our coaches and players in unfiltered conversations and connections, where popular athletes and celebrities connect on a variety of topics with engaging conversations around sports, food and fashion. We also recently announced an expanded content partnership with Complex Networks, further strengthening our MSG Shorts programming block, with 80 new episodes from several of Complex’s popular shows, including Sneaker Shopping and Hot Ones. In addition to developing new and fresh content for our various platforms, we continually explore other opportunities to engage the wider audience. Just a few weeks ago we introduced new enhancements to MSG GO, including features designed to improve the user experience and drive utilization and length of tune. For example, MSG GO now offers for selected Knicks home games, Knicks mobile view, which enables viewers to watch a live stream that is fully optimized for mobile viewing. While still early in this season, we’re seeing healthy overall increases in viewership on MSG GO. Another area we remain focused on is incremental advertising opportunities. We’re already seeing strong demand from the legalized Sports Gaming segment, which we believe represents an exciting new space that can drive increased content, viewership and advertising revenue. We also continue to have broader success with our branded content initiatives. In addition to our ongoing partnerships with companies such as Anheuser-Busch, BMW and Squarespace, we recently reached several new agreements to create new custom content with premier brands such as Ford and General Motors. We are happy with the progress we’ve made, and believe we are well positioned to grow advertising revenue over the long-term. Lastly, with respect to our viewing subscribers, we experienced a low single digit percentage decrease in our first quarter as compared with the prior year period. While this year-over-year percentage rate of decline increased as compared to the fiscal 2018 fourth quarter, it is improved relative to where we were last year at this time. In summary, we are pleased with our start to fiscal 2019, and expect another year of solid financial results. Furthermore, we remain confident. We will continue to create long-term value for our shareholders. I will now turn the call over to Bret, who will take you through our financial results.

[Bret Richter:]

Thank you, Andrea, and good morning, everyone. I’d like to start by focusing on our results for the fiscal 2019 first quarter. Total revenues of $164.5 million increased $7 million or approximately 4%. This was mainly driven by a $6.5 million increase in affiliate revenue, primarily a result of higher affiliate rates, partially offset by the impact of a low single-digit percentage decline in subscribers. Direct operating expenses of $66.7 million, increased $3.6 million or 6%, as compared with the prior quarter, primarily due to higher rights fees expense, and to a lesser extent, higher other programming-related costs. The increase in rights fees expense mainly reflects contractual rate increases and a full quarter impact from the step-up in rights fees expense related to the Buffalo Sabres as compared to a partial quarter impact in the year ago period. The balance of fiscal 2019 will reflect a more normalized percentage rate of growth for Sabres rights fees expense. SG&A expenses of $16.9 million, increased approximately $1.3 million or 9% as compared with the prior year period. The increase was primarily due to higher advertising and marketing expenses and higher employee compensation and related benefits, including an increase in share-based compensation expense. Adjusted operating income of $84.6 million, increased 3%, as compared with the prior year period due to the increase in revenues, partially offset by higher direct operating expenses, and to a lesser extent, higher SG&A expenses. With respect to our balance sheet, as of September 30, 2018, total cash and cash equivalents were $170.1 million. Total debt outstanding was $1.1 billion. And our $250 million revolver remained undrawn at quarter's end. As of September 30, 2018, net debt was approximately $932.4 million, and our net leverage ratio declined to 2.7x, trailing 12 months adjusted operating income. Our average interest rate for the quarter was approximately 3.6%. Reported free cash flow from continuing operations for the three months ending September 30, 2018, was $62.1 million. During the fiscal first quarter, we made principal payments of $93.75 million, which included a mandatory payment of $18.75 million in accordance with the terms of our credit agreement as well as a $75 million voluntary prepayment. Our credit facility provides for a total of $75 million in mandatory principal payments over the next 12 months. In terms of the company stock repurchase program, we did not repurchase shares during the quarter. We currently have $136 million remaining under our authorization and plan to remain disciplined and opportunistic with our share repurchases. With regards to taxes, our fiscal year 2019 financials will reflect the full impact of the recent Federal Tax Reform Act. In addition, we recently changed our tax year to align with our fiscal year. This change does not impact our overall tax liabilities. However, it does impact the timing of cash tax payments and resulted in lower cash tax payments in our fiscal 2019 first quarter as compared with last year, and is expected to result in higher estimated cash tax payments in our fiscal second quarter as compared with the prior year period. On a full year basis, we continue to anticipate at least a 20% reduction in cash taxes payable on income from operations before income taxes due to Tax Reform Legislation, as compared to the amounts that would have otherwise been payable under the prior law. I will now turn the call back over to Ari.

[Ari Danes:]

Thank you, Bret. Christi, can we open up the call for questions?

[Operator:]

Sure. [Operator Instructions] And your first question is from Bryan Goldberg of Bank of America Merrill Lynch.

[Bryan Goldberg:]

I was wondering if you could give us a little more perspective on the overall Pay TV universe. What you're seeing right now in terms of just overall sub trends at the traditional and virtual streaming platforms? And then, if possible could you provide us an update where things stand with the potential for new distribution agreements with vMVPDs, like a YouTube or Hulu?

[Andrea Greenberg:]

Sure. Hi, Bryan. Well, on some additional perspective, as I said, in our prepared remarks, we did see a low-single-digit percentage rate of decline in viewing subs. In this quarter that percentage rate of decline did increase as compared to last fiscal fourth quarter. But I have to say just some additional color; it remains improved relative to where we were a year ago. It remains substantially improved as to where we were relative to two years ago. And a sight from last quarter, this is the lowest quarterly rate of decline that we’ve experienced in our three years as a standalone media company. So I hope that gives you some additional color. On the vMVPD negotiations, Adam, do you want to…?

[Adam Levine:]

Yes, I’ll jump in on that one. So on the new opportunity there, I think, we just reiterate we are pleased with the progress we made over the last year, we were able to expand our distribution of MSG GO to include all of our major distributors. And we have the two launches on new OTT distribution platforms. And we’re obviously focused on all opportunities to enhance the distribution of our networks, including with the new and additional OTT distribution. We’re pursuing all opportunities that appropriately value our content. And that makes sense for us. We’re in discussions with a number of them. But I don’t have anything specific to report to you at this time. I’d just additionally add that, I think -- we think it’s important for any operator to compete in this market to have our content.

[Operator:]

Thank you. Your next question is from Alexia Quadrani at J.P. Morgan.

[David Karnovsky:]

Thank you. This is David Karnovsky on for Alexia. If we would look at your affiliate growth, that appears to be pretty consistent with last quarter, stripping out all the one-time adjustments. I know in the prior earnings call, you had flagged or started to the quarter for sub trends. So just wondering if you saw sequential improvement through the quarter, and if so what drove that?

[Andrea Greenberg:]

I think that the previous answer may answer your question. We’ve seen, aside from last quarter, the best quarter we had since we’ve become a standalone company.

[David Karnovsky:]

Okay. And just separately, you've disclosed your carriage agreement with OTTs at the end of next year, and you potentially have others in that timeframe. I know you’ve gone through a lot of these renewals. Can you say, in your experience, how much the performance of the Knicks and Rangers at the time you go into negotiation plays a factor? And historically if this impacted leverage that you have with the distributors? Thanks.

[Andrea Greenberg:]

So, Adam, do you want to take that?

[Adam Levine:]

Yes. Sure. So, I think, we said we’re -- we believe we're well positioned for -- to grow our affiliate revenue. Team performance is a factor, but it's cyclical. I think as you know our team -- we think all of our teams have strong and loyal fan bases, and our affiliates know and understand this. So we have a long operating history and healthy long-term relationships with our distributors in the marketplace, and we’re always talking to them. We have five teams in the major professional leagues, and have over 500 live events. So we've got lots of content out there, and different teams will perform at different levels. And we’ve previously noted last year, we’ve completed renewals with several distributors, including a major distributor. And we had said we're pleased with those agreements. We've also grown our partnerships in the last year, including our MSG GO, and sponsorship with our distributors. And so, I think, it’s just the ongoing commitment we have to delivering value that gives us confidence in our ability to renew payment in the future, and that’s been our experience in the past as well. So we’re not -- key performance is a factor, but it’s not necessarily a driver.

[Operator:]

Your next question is from Brandon Ross of BTIG.

[Mark Kelly:]

Hi, this is Mark Kelly on for Brandon. Thanks for taking the question. There's a couple quick ones on sports betting for us. What early advertising benefits are you seeing from the legalization of sports betting in New Jersey thus far? And maybe if you could discuss some potential opportunities, you hope to see from sports betting, for instance, if you think you can participate in the transaction at some point and/or integrate your video feed with betting? Thanks.

[Andrea Greenberg:]

Got it. Well, let me say that we’re seeing extremely strong demand from the legalized sports betting sector. For both traditional media spots and also for other creative integrations with our programming, we've already, if you watch our air, you’ll see we’ve already concluded spot deals with FanDuel, with William Hill, and with DraftKings. And we continue to talk with others. I think you’ll see, as we move forward are announcing more and more deals, some of which will include creative integrations with our products and with our other programming. So we see it as having the potential not only to contribute significantly to our advertising revenue base, but also to increase fan engagement and viewership for us, a very exciting time for us. As far as transactions that really hasn’t been our focus to-date. This is new, as you know. But the sports betting rules continue to evolve, and we’re closely monitoring all developments.

[Operator:]

Your next question comes from Vasily Karasyov of Cannonball Research.

[Vasily Karasyov:]

Since it’s a new fiscal year, I thought I would try the capital allocation question again. So you’re done with deleveraging, free cash flow generation is there. Would this be a good time for you to tell us how you're thinking about using your free cash flow and balance sheet capacity going forward in terms of buybacks, target leverage, and what -- anything that could help us understand the midterm trajectory here. Thank you.

[Bret Richter:]

Sure, Vasily, I’ll take that. I think we’re going to find them. We’re going to be consistent with what we said historically; maybe I can add a little bit more color with regards to what we do. As we said we continually assess a wide range of factors. If you look at last quarter, during the fourth quarter, we allocated nearly $14 million to stock repurchases, and we were able to acquire approximately 1% of our outstanding shares. This quarter, we determined that paying principal on our term loan was a valuable action on our part, allows us to increase the ownership for assets of our shareholders, and reduce our exposure in interest rates and what has been and they continue to be rising interest rate environment. I mean with regards to the program, generally, we look at share repurchases as an investment. And we consistently maintain a preference to be disciplined and opportunistic in the market as opposed to buying a fixed dollar amount of stock on a periodic basis irrespective of where the stocks trading. We don’t plan to become a programmatic purchaser of our stock and allocate a certain amount of capital each quarter. I think importantly, that’s not to say we think the stock is expense, and we're very conscious that our ability to generate significant amount of free cash flow attributes directly to the value of our equity. I guess one of factors, maybe just in this period, we’re in a little bit of unique period of time given the M&A landscape with respect to our sense, and we thought that there was some value in us maintaining maximum flexibility in the event even an unlikely event that there was something for us to do in this market. But overall, I am very comfortable with our capital allocation decisions to date. We’ve got a strong balance sheet, a business that drew up north of $200 million of free cash flow last year. And we have significant resources that we can deploy to generate value for our shareholders.

[Vasily Karasyov:]

And the target leverage, would you be willing to talk about that?

[Bret Richter:]

No. See again, it’s a dynamic process. We don’t have a specific number that we’re targeting.

[Operator:]

Thank you. Our next question comes from Michael Morris with Guggenheim Securities.

[Michael Morris:]

I know you guys don’t speak to specific carriage agreements. But I am wondering if you would be able to share whether you have any major existing agreements that expire during fiscal '19? And how we should think about that relative to the size of your overall sub base? And then I’ve a couple on your mobile business as well, please.

[Adam Levine:]

Yes, I’ll take this one. This is Adam. We’re not going to get into the specifics. We just -- I think we’ve said that the deals are typically multiple years to aggregate expirations. We said before and, I reiterated earlier that we had agreements that we renewed last year, including a major distributor, and we were pleased with the outcome there, but nothing further to add on that at this point.

[Michael Morris:]

And then on mobile, Andrea, you spoke about this a bit in the upgrades there. But I'm curious, can you tell us your long-term television rights for local games -- do you also have the exclusive rights in the local market for mobile as well as it pertains to the games? And then also, as we think about highlights, we’re increasingly seeing highlights of sports games and leagues on services like Facebook et cetera. What are your -- what's your ownership or what are your rights as far as highlights are concerned on mobile devices in the local market?

[Andrea Greenberg:]

Okay. I think, Adam …

[Adam Levine:]

Yes, I’ll take this one as well. So we’re the exclusive local media rights holder for the teams. So the team can’t grant anyone else the right, but together our products with. So for mobile, that's true we’re the local exclusive rights holder. And if there was some kind of products related highlight, that’ll be the case. It’s conceivable if somebody could distribute some postgame highlights whether it’s under fair use or some other legal constructs or potentially nationally under a deal with the NBA. But we’re comfortable with the rights and protections we have on our rights agreements with the teams. We’re not necessarily in the highlights business. I think we would say highlights have, to certain extent, become a commodity. And we believe viewers are coming to our networks and platforms for the 500 live professional games that we deliver a year and the exclusive content and the access that we provide for their favorite teams. And that’s something that only we can deliver.

[Operator:]

Your next question comes from David Miller with Imperial Capital.

[David Miller:]

Andrea, just a couple questions for you. The slight downtick in advertising revenues year-over-year, kind of de minimis, but just wondering, is that just due to the slight downtick in subscribers? Or was there something else going on with the programming mix in the quarter that there was a downtick? And then, as you guys gain more traction with the virtual vMVPDs making you more of a national RSM? I’d like to call it kind of like a Big 10 network because there are Rangers fans, and Knicks fans all over the place, even out here in California. What kinds of changes in programming do you see coming down the pipe, given that you’re about to achieve more of a national RSM status? Appreciate it. Thanks very much.

[Andrea Greenberg:]

I’ll take the second one first. Our live game rights are gated to our territory. So even as we are distributed on the OTT platform, we’re gated to our market for our core product. As far as new programming, we’re experimenting with that right now. As I’ve, I think, highlighted in many of our calls, we’re looking to secure a younger and broader audience. We’re experimenting with different personalities, different lengths of content. We’ve introduced this new, I think, very innovative MSG Shorts block, where our content is 5 to 7 minutes, quick hit, produced with a different feel. And we’ll continue to do that. This is content that, as we said in the past, we expect it will be accretive to our bottom-line. And what’s great about us is I think we’re nimble and we’re trying a lot of different things to see what resonates to bring in a broader audience.

[Adam Levine:]

And Dave, I’ll take the advertising question. I appreciate the question, particularly given the description we put in the release. But I think it’s important that in regards to our overall company, there’s really almost nominal movement this quarter, I mean advertising revenue is essentially flat. We’re talking about $100,000 movement. There’s a lot of factors that impact that. This is our seasonally slowest quarter with regards to pro product. And I am not going to dissect what many think, now it’s a tens of thousands of dollars of movement to net to a very small movement for the overall company. I don’t think this is the story here.

[Andrea Greenberg:]

And let me just also add that, as we said, we are very, very focused on advertising revenue opportunities, not just with organic growth from our new content, but also with branded content initiatives that we’ve been going hard at. With our digital boards outside our studios that we introduced about 18 months ago, I think, with new digital products, with new categories, sports -- legalized sports betting. Again, an enormous opportunity for us we believe. New premier partners, Ford, General Motors, BMW that are not just coming to us to buy spots, but are coming to us to create content with them, so an area of focus for us. And I feel really confident that we're well-positioned for growth.

[Adam Levine:]

Christie, we have time for one last caller.

[Operator:]

Sure. Your final question is from David Joyce of Evercore.

[David Joyce:]

I was just hoping you could just provide a little more color on the trends of the renewal conversation these days. How can we think about the trade-off between price and minimum guarantees as you go into these conversations?

[Bret Richter:]

Yes, I’ll take that one. So I can’t really get into the specifics of the agreements or potential negotiations. But we’ve had success achieving broad distribution, and with achieving affiliate revenue and rate growth with appropriate protections in our contract. Negotiations regarding the rates and these kinds of protections really have always been part of our renewal discussions and still continue to be a part of those discussions in the future. As I said, we had renewals last year, including major one where we were pleased with the outcome. And those pieces rate and minimums were part of that discussion. And I’d just also say that we have long-standing positive relationships with these partners. We're in regular communication with them. We’re comfortable we’ll be able to reach agreements with protections that are appropriate and that properly value the networks as the deals come up for renewal, consistent with our history. And just further reinforce that we expect to generate continued affiliate revenue growth in the future.

[David Joyce:]

Thanks. And just one final thought on the advertising opportunities that, Andrea, that you were talking about. What was the past betas to advertising? Is it becoming like 10% or 12% of your total revenue growth? Is there anything structurally that would hinder advertising becoming that important for you?

[Andrea Greenberg:]

As I said, we’re focused on growing our advertising revenue base, particularly from new types of opportunities, new clients, new forms of advertising, and we expect that revenue stream to grow in the future. We continue to do this.

[Operator:]

Thank you. This does conclude our Q&A session. I will turn the floor back over to Ari Danes for any additional or closing remarks.

[Ari Danes:]

Thank you all for joining us. We look forward to speaking with you on our next earnings call. Have a good day.

[Andrea Greenberg:]

Thanks everyone.

[Operator:]

Thank you. This does conclude today’s conference call. You may now disconnect.