Studio Report Card: Warner Bros.
Levin's TW strategy paying off
Time Warner chairman Gerald Levin was a big winner in 1998, as many of the corporate initiatives he has put in place over the past two years paid off in a soaring stock price and an upgraded credit rating.
For the year, Time Warner is expected to report roughly 10% higher cash flow (earnings before interest, taxes and amortization) of $4.4 billion on 9% higher revenues of $26.8 billion, according to ING Barings analyst Fred Moran.
For the first nine months, to Sept. 30, TW reported 13% higher cash flow of $3.09 billion on 10% higher revenues of $19.374 billion.
HIGH POINTS: Earnings growth was driven by Time Warner's cable businesses -- both its cable networks and cable systems. Cable systems' cash flow rose 16% to $1.24 billion for the first nine months, better than most other cablers, and a big plus for cable CEO Joe Collins.
The growth was largely due to rate increases, pushed through by most of the industry, designed to pay for new services now beginning to come online. Analysts say it is not clear why Time Warner squeezed out more growth than other cablers, although it may be cost-savings coming from consolidation of cable systems acquired in recent years.
Cable networks such as TNT, TBS and CNN have also been big profit drivers, increasing cash flow 16% to $339 million, reflecting growing advertising revenues for cable webs, which are making a big push to get parity with broadcast webs.
At Warner Bros., Bob Daly's television division enabled the studio to overcome a poor year at the box office with massive syndication gains on series like "ER" and "Friends" in the television division. As a result the studio increased cash flow 25% in the first nine months to $403 million, and a similar rate of increase was expected for the fourth quarter.
Another standout performer in 1998, although not yet reflecting in earnings, was the WB network, which was the only broadcast web to post gains in audience share. WB continues to lose money, increasing its loss for the first nine months to $78 million compared with $60 million, reflecting the gradual rollout of the network.
From a corporate point of view, TW's senior management team of Levin, president Richard Parsons and chief financial officer Richard Bressler can all take credit for Standard & Poors' upgrade of TW's credit rating to the "solid investment grade" of BBB status.
Levin had long made this a priority, as a higher credit rating enables companies to lower borrowing costs and allows more investors to buy its public debt.
The upgrade reflected work done over the past two years by the top exec team to get TW's balance sheet into better shape, keeping capital spending flat both in areas like cable and at the film studio.
That discipline has enabled Time Warner to improve its key financial ratios like the debt-to-cash flow ratio, which now hovers around 3 from a high of 6.6 several years ago. While the absolute level of debt has stayed in the $16 billion-$18 billion range, cash flow has jumped from about $2 billion to above $5 billion.
The turnaround at Time Warner is also reflected in its stock price, which rose almost 100% through the year and prompted a two for one stock split. In contrast, News Corp. rose 18.5%, Disney fell 9.1% -- TW even beat Viacom's rise of 80%. It ended the year at $62.06 making it the best performing stock in the entertainment sector.
LOW POINTS: Warner Music began a recovery but continued to lag behind the rest of the company. In the first nine months its cash flow fell 8% to $288 million although cash flow began climbing again in the third quarter. Levin had promised enough of an improvement in the fourth quarter to ensure Warner Music's profit was up for the year as a whole.
THE FUTURE: Levin predicts a continuation of the financial improvement, culminating in a full year net profit for the first time in many years. Massive accounting charges for goodwill amortization has kept TW's bottom line in the red since the merger of Time Inc. and Warner Communications, but the cash flow has risen so much a net profit is in sight.
Cable systems may find it difficult to maintain profit growth in 1999 at a par with 1998 because the cost of rolling out new services like Internet access is expensive. But growing the range of services available on cable will provide much of TW's future growth.
Aside from Internet services, TW plans to start rolling out second-generation digital cable boxes later this year that will have video on demand potential. The few cablers already offering digital cable have found it enhances penetration of premium movie channels by increasing multiplexing opportunities, so digital should help TW's HBO unit as well, good news for HBO CEO Jeff Bewkes.
The other big area of growth is telephone service. Time Warner is expected to announce a joint venture with AT&T/TCI by early in 1999 through which TW's cable systems will be used to provide telephone service, guaranteeing TW a royalty fee that analysts estimate could amount to $200 million in coming years.
Otherwise, Ted Turner's basic cable networks are expected to continue doing well, as startups like Cartoon Network increase distribution. How much of an impact the NBA lockout will have on Turner networks is unclear, analysts say.
