Member Mailing: Warner Bros. Discovery, Sinclair & David Zaslav's Vision for A Smaller Bundle
In May 2020 Discovery CEO David Zaslav used the Q1 2020 earnings call to argue the pandemic had proven that the cable bundle “is a huge subsidy that's being paid for sports”. He hoped that cord-cutting during the pandemic “might put pressure on some of these big sports players that are bundling and forcing and leveraging and jamming, to say even in this moment, 'All right. Enough. Go ahead. And I'll give you more flexibility to give America what they want, a chance to buy a multi-channel and broadcast package without stuffed sports.'"
It is worth revisiting this quote after the first Q1 2022 earnings call for Warner Bros. Discovery, where Zaslav told investors, “We now have the same or in many cases, the largest reach on television in the US.” So, going off of his 2020 comments, it would seem like the next logical objective for Warner Bros. Discovery would be to leverage its scale to drive this alternative bundle into the marketplace.
It is also worth revisiting it after Sinclair Broadcasting’s recently announced deal with Charter for continued distribution of its Regional Sports Networks (RSNs), and soon-to-be-launched Direct-to-Consumer (DTC) service. There has been ongoing speculation that Sinclair’s $9B bet on RSNs will fail, and this deal went a long way to quash that speculation. But, it also may have quashed Zaslav’s vision for a tighter bundle for consumers at a time when Warner Bros. Discovery has maximum leverage to deliver one.
Key Takeaways
In a rough market for streaming, the linear model remains appealing to management and investors
Advertisers' slow to shift spend to CTV has incentivized Warner Bros. Discovery to focus on its linear business over streaming
CEO David Zaslav had ambitions for a smaller bundle in 2020
Sinclair’s current RSN struggles and Warner Bros. Discovery's scale may push MVPDs to adopt smaller bundles
But, all trends point to Warner Bros. Discovery prioritizing advertisers over consumers, especially in streaming
Zaslav in 2020: Let Discovery Live In A Smaller Bundle
The original context of Zaslav’s comments in 2020 was the real-time pandemic experiment of whether the linear could prevent cord-cutting without live sports:
As I've said for a very long time, sports works differently outside the U.S.. When people want sports, in most cases, it's on Premium, and they're making the choice to pay for it. Here we have an over-stuffed bundle where sports has been stuffed in and leveraged in, which is one of the reasons why we see this -- the challenge that the U.S. marketplace has been seeing, where subs are flat or slightly growing around the world and declining here. It's because between $20 and $30, sometimes more of sports rights are being paid by consumers and they're not getting.
And so right now, consumers in this difficult time, this really highlights the idea that there is a huge subsidy that's being paid for sports. And now at a time when they're paying the subsidy, which creates, I think, even more of a challenge when people say: "Why am I paying that?" And that may be one of the reasons why you're seeing some people disconnect.
He later added when asked to clarify his points on the sports “subsidy”:
And now, for two months, people have been enjoying cable for two months, so it raises two questions. What am I paying all that money to sports for? But also, it's a great product. I'm spending a lot more time, and I'm really, really enjoying. So what we should have in the U.S. is what everyone else has, which is a bundle of content that doesn't have sports that would be very affordable and we would likely see a very quick turnaround in this issue of subscriber loss, because we're saying take it for $80, take it for $100 or don't take it at all….
The “great product” Zaslav was selling and that consumers were “really, really enjoying” in 2020 was Discovery channels (and yes, that's a sales pitch, not a fact). But, more generally, what Zaslav was pitching then is a bundle with Discovery channels as a default and sports as an opt-in, as it works elsewhere in the world: “When people want sports, in most cases, it's on Premium, and they're making the choice to pay for it”.
That’s the “what we should have” argument that Zaslav was laying out, then. It was an aspirational argument, but it also highlighted a hope that perhaps the pandemic could force a change to the economics and packaging of the linear bundle.
Zaslav in 2022: All-in on Linear Advertising
Fast-forward to the Q1 2022 earnings call for Warner Bros. Discovery, and Zaslav is now overseeing a much larger company with 20+ linear channels and two major streaming services. Rich Greenfield of Lightshed Partners asked Zaslav how he would balance the trade-off between the decline of the linear business and the growth of streaming.
Zaslav’s answer has generated a bit of discussion. It’s worth walking through it point by point.
1. Advertisers still find linear inventory “most effective”
Zaslav’s main point is that advertisers are incentivizing Warner Bros. Discovery to maximize the returns on linear, even if streaming and and Connected TV (CTV) inventory may be the future business of Warner Bros. Discovery:
Well, first of all, we've been growing our traditional business. We recognize that 4% of subscribers are down and viewership on the platform is down. But when our competitors are taking content off constantly of that platform, it gives us an opening for us where we're doing a lot of original content on. We're obviously, all original of the CNN. Sports is live and tune in and then we're doing original on food, on home, on Discovery and so, and we see it outside the US. Long-term, there's no question that the business is challenging, but CPMs are increasing, advertisers still are looking for -- they are chasing and chasing for inventory, because it's the most effective inventory in long-form video.
And look, remember, broadcast for a period of 20 years was declining and CPMs were increasing. I was at NBC in the mid-'90s when Welsh was saying this can't continue. We can't have smaller and smaller audiences and make more and more money. And I think he was right or maybe he will be right eventually, but it's almost 30 years later and the advertisers are still paying more than the hurdle rate of decline.
That is not a point about the bundle directly or indirectly. But rather, advertisers continue to incentivize companies like Discovery to focus on their linear businesses over streaming.
IAB data released at this week’s Newfronts confirmed Zaslav’s read: CTV will account for 36% of total time spent with linear TV and CTV combined in 2022, but only 18% of total video ad dollars are being spent on CTV vs. total video spend, which includes CTV, linear TV, social, and short-form video.
2. Streaming may be a growth engine but really is a financial hedge
Where does that imply that streaming fits into the Warner Bros. Discovery model? Both Zaslav and his CFO Gunnar Wiedenfels sent mixed messages. Zaslav said:
So, we will be leaning in with efficiencies and effectiveness to our traditional business, which we think -- which generates an awful lot of free cash flow, we will be leaning in as a maker at Warner Bros Television where we're selling, we're an arms dealer and we could sell content and we're selling because we're the best producer of content. We're selling content and getting prices in bidding wars to get that content, and we'll continue to do that. And then right down that middle lane, we'll be building that important growth engine of starting with HBO Max and Discovery+ and what we have across Europe.
Wiedenfels added:
“I happen to believe that the linear platform is going to be around and will coexist with our other platform for very, very long time, but should have changed for that trend, accelerate and we're positioned with more than 100 million homes on the direct-to-consumer side. Should we see more price inflation on the content side? We'll be benefiting from that with one of the top TV studios in the world. So there's a lot of flexibility. And I think it's anyone's guess how some of these trends are developing but I think we're as well-positioned as anyone in this game.”
This implies that, despite its expanded reach, Warner Bros. Discovery’s ambitions for both an RSN-free and perhaps ESPN-free bundle and for winning in streaming may be on hold. Instead, its ambitions appear to be more focused on maximizing advertising and affiliate revenues, tighter cost management and free cash flow. [1]
3. It about ad spend, not a new bundle
Zaslav closed out with this sales pitch about having the largest reach and largest inventory:
And finally, I'll just say that, that traditional platform, the other night during the playoffs we reached more than 50% of the people that were watching television across our platforms. As Gunnar said, there's a lot of money being spent to try and reach an audience. We now have the same or in many cases, the largest reach on television in the US.
It could be this is an ad sales-heavy pitch with Upfronts looming. But, Upfronts loomed in 2020, and Zaslav chose to make a pitch for a smaller bundle, then. A smaller bundle would allow then-Discovery and especially now-Warner Bros. Discovery to capture more of the economics of the bundle.
What changed? I don’t think anything changed, per se. Rather, there is little reason to rock the boat around affiliate deals. There are more reasons to leverage Warner Bros. Discovery’s scale to capture as much of the remaining linear ad dollars as possible while the imbalance between CTV and linear spend lasts.
Why Zaslav May Be Keeping An Eye on Sinclair
Last month, Sinclair announced a deal with Charter (over 30MM residential customer relationships) for continued carriage of Sinclair’s owned local broadcast stations: Tennis Channel, 19 Bally Sports RSN brands, Marquee Sports Network and the YES Network.
So, if there is any one good reason why David Zaslav is not talking about leveraging the reach of Warner Bros. Discovery to force a smaller bundle for consumers, that may be it.
That said, Sinclair is not out of the woods yet. Its Diamond Sports Group still faces a risk of bankruptcy after the difficult financials of the pandemic - including a $4.2B write-down of its of a $9.6B purchase price. Sinclair announced in this morning’s earnings it had consolidated Diamond Sports Group the subsidiary overseeing the Bally Sports RSNs and its soon-to-launch direct to consumer (DTC) app. [2] This was required due to the recent loan agreements that DSG entered into effect March 1.
The new entity seems to be more DTC-oriented with a new Board of Directors that “has a ton of experience in local sports rights and streaming services”. But, the new app still has to succeed with its target subscribers. The concern has always been price, and today it announced that the app will cost $189.99 annually or $19.99 per month. That is lower than the $23/month rumored last summer and which I wrote about last June), but still expensive relative to Netflix or HBO Max.
One gets the sense that Zaslav and his team are watching them closely because of the uncertain future that Sinclair faces may create two opportunities for Warner Bros. Discovery to push MVPDs to adopt a smaller broadcast package:
Ratings for Sinclair’s RSNs continue to decline with cord-cutting (which seems to be already happening), and/or
Sinclair’s DTC offering succeeds (which I think will be unlikely because it faces a marketing challenge, as I wrote in A Short Essay on The Connected Future of Make-Goods & RSNs).
If one believes both outcomes are likely to probable, as I do, we may soon be hearing Warner Bros. Discovery trying to push for consumer-friendly, more cost-effective bundles.
Why?
At a time when both consumers and investors seem to be adjusting their bullishness on the future of streaming, it may be a win-win for everyone.
Conclusion
It may have been a poker-type “tell” when Zaslav told investors on the Q1 2022 earnings call, “the other night during the playoffs we reached more than 50% of the people that were watching television across our platforms.” Because it made Warner Bros. Discovery sound an awful lot like an MVPD bundle that isn’t an MVPD bundle, and therefore it reminded me of his Q1 2020 pitch for a smaller bundle.
Those two calls are notable for another shared theme: the discounting of streaming business. Its scale and its promise as a growth engine are talking points, but Zaslav and Wiedenfels spent more time focusing on financial discipline to generate free cash flow. They also left the growth story a bit ambiguous at the end with Wiedenfels’ “it's anyone's guess how some of these trends are developing”.
Last, I think it is also worth noting how Zaslav’s more consumer-centric Q1 2020 remarks, and his more advertiser-centric Q1 2022 remarks. His predecessor Jason Kilar took a consumer-centric approach to an extreme - writing letters to moviegoers on Medium during the pandemic - and it seems core to the DNA of the WarnerMedia Zaslav has inherited.
It may be premature to judge one quarter into the business. But, as I have learned while writing PARQOR Member Mailings, the prioritizing of the advertiser as the target customer over the consumer has been a reliable poker-type “tell” that management is failing to build an optimal media business for the 21st century.
Footnotes
[1] Wiedenfels opened the call with a bit of a dig at previous WarnerMedia management:
Starting with the bad news, Q1 operating profit and cash flow for WarnerMedia were clearly below my expectations. And given that Q1 performance and previously unplanned projects in sight, I currently estimate the WarnerMedia part of our profit baseline for 2022 will be around $500 million lower than what I had anticipated. However, with the positive offsets of a couple of hundred million dollars on the Discovery side of the combined company.
[2] That will now be a soft launch of the DTC in June (in Miami, Tampa, Kansas City, Milwaukee and Detroit), and a full launch in September, as John Ourand of Sports Business Journal reported on Monday.