Summary:

Busy Lazard Capital analyst Barton Crockett says there’s enough margin thickness and consumer elasticity to sustain 8 percent annual program fee increases for another dozen years. But as the system reaches its limits, Crockett also finds that programers like Disney will be hit hardest.

50s Family Watching TV
photo: AP Images

Media companies worried about their ability to continue collecting increasingly fat affiliate fees from cable and satellite distributors can rest easy.

According to a Wall Street research memo published Monday, the existing pay TV model will continue to spin off high single-digit program licensing fee increases for these conglomerates for the next dozen years or so.

Over time, however, large media companies buttressed with revenues from myriad smaller cable channels will see their models start to falter, as the pay TV business moves inexorably away from program bundling to a la carte selection.

Lazard Capital analyst Barton Crockett’s memo suggests there is enough tolerance in the margins of pay TV service providers, as well in the personal finance budgets of cable and satellite subscribers, to maintain the pay TV model until at least 2024.

In the graphic above, Lazard factors in 8 percent annual program licensing fee increases and determines that return on investment capital for pay TV distributors doesn’t fall below 15 percent until at least the middle of the next decade.

“We often hear investors push back on this idea, saying that pay TV services can’tafford to keep paying higher rates for content … [But] program fee hikes can either be offset by pay TV service pricing growth, cost savings elsewhere, or come out of margins,” wrote Crockett.

But eventually, these “cost savings elsewhere” will entail ditching channels that, relatively speaking, subscribers don’t care about as much.

And this is where Crockett’s research gets interesting.

Working with Clear Voice Research LLC, Lazard Capital polled 2,240 pay TV subscribers in late May, asking them which channels — if pulled off their service — would make them most likely to cancel their pay TV subscription.

More than 40 percent said they’d ditch their service if broadcast channels ABC, CBS and NBC were blacked out. Loyalty was also high for top cable channels, such as ESPN (34 percent) and Discovery (29 percent).

But then Crockett went further, endeavoring to determine each media company’s “share” of that loyalty (see chart above). Comcast/NBCUniversal — which houses NBC, as well as powerful cable assets like USA Network — scored highest on the so-called “Loyalty Index,” with a 17.3 percent share of all pay TV audience loyalty, while AMC Networks — which includes AMC, and niche channels IFC and WE TV –scored lowest with only 3.2 percent.

Then, Crocket, using data from services like SNL Kagan, cross-referenced his loyalty index to the actual affiliate fees the conglomerates get paid from cable and satellite services — and the whole thing got flipped on its ear.

The Walt Disney Company, for example, gets paid the largest share of pay TV affiliate money at 26 percent, or $8.4 billion. But it only accounts for 9 percent of adjusted consumer loyalty share, according to Crocket, with more niche cable assets like ABC Family and Disney XD offsetting the power of lynchpins like ABC and ESPN. Based on the loyalty index, Disney is due for a 65 percent affiliate fee haircut, to about $2.9 billion.

Crockett finds that AMC Networks, meanwhile, is actually underpaid by about 87 percent based on its loyalty share.

Crockett concedes there’s little real-world application for this science yet, with conglomerates like Comcast and Viacom continuing to sign longterm deals with distributors replete with high-single-digit annual fee increases.

But what happens down the line, when distributor margins — and consumer wherewithal — finally do reach their limits? Will Disney still have the leverage to make distributors and their subscribers pay for Disney XD?

“If the TV ecosystem ever does start to crumble, our TV Network Loyalty Index suggests that CBS looks more insulated than Disney,” Crockett added.

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