In Q2 2023, PARQOR will be focusing on three trends. This essay covers:
The definition of scarcity is continuously evolving away from linear and towards walled gardens.
Media companies have millions of consumer credit cards on file. What are they building for their customers?
A reminder that this newsletter is now The Medium from PARQOR. It's the same newsletter focused on three to four key trends per quarter, but it is now oriented a bit more narrowly.
And, as you may have figured out, the new branding is a nod to Marshall McLuhan's "The medium is the message" and my focus on the moving pieces of media's evolution from wholesale to retail models.
PARQOR will remain the corporate brand, and I will be building out membership services under that brand.
I could argue the most notable detail to surface in the recent debacle at CNN — which led to the sudden departure of CEO Chris Licht — is the staff’s resistance to change. As New York Magazine writer Shawn McCreesh recently asked in “Was Everybody Always Out to Get Chris Licht?”:
“These are powerful incentives that Licht (and [Warner Bros. Discovery CEO David] Zaslav) messed with; why would any of the talent now, after everything, want to engage with Trump in a way that won’t please their cheering sections or their bank accounts?”
The day before that piece, there was a Wall Street Journal article entitled “Top CNN Anchors Criticize CEO Chris Licht’s Leadership”. It highlighted “concern” from staffers and talent about “the high level of involvement by Zaslav, who has been much more hands-on than previous owners of CNN.” The article closed out with a counter from a “person close to Zaslav” who “pushed back on the idea that Zaslav’s level of engagement was inappropriate, noting that unlike previous owners who ran the media conglomerate like a holding company, Zaslav is heavily involved in all operations.”
The story, at its simplest, is of a new CEO (and his billionaire mentor and backer, board member and shareholder John Malone) who believes that the CNN editorial approach should “ air a wider range of political viewpoints, including from conservatives.” But lurking in the background is a deeper question of incentives: effectively the CNN staff are communicating to Zaslav through both backchannels and their resistance to change that he has not incentivized them to change the direction of the business.
This could reflect objective insubordination by rank-and-file CNN employees. The media stories offer plenty of evidence of that, but there is also evidence of Warner Bros. Discovery nipping insubordination in the bud (so long, Don Lemon). It could also be a failure of Zaslav to incentivize employees. There was behavior that seemed like insubordination but it is rational because there is no better business model in media than “free money”, and Warner Bros. Discovery management failed to incentivize them to believe otherwise.
Both scenarios raise the same question: why should anyone acquire a legacy media company in the twilight of the “free money” era?
Key Takeaway
The lesson from CEO David Zaslav’s failed experiment with CNN is it may be too costly to acquire and then reorient an entire organization in a new direction. But CEO Robert Iger incentivized managers to pivot Disney to streaming in 2017, and now he faces the question of whether his streaming-centric strategic vision was right.
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Total time reading: 9 minutes
The Fiduciary vs. Visionary framework
I wrote about a version of this problem last September in “Can Disney TikTok-ify or Amazon Prime-ify Itself?”
A campaign by activist investor Dan Loeb was concerned that "Disney directors don’t have enough experience in digital advertising, the monetization of consumer data and other areas that could help Disney boost profits as the company becomes more technology-focused.”
I argued Loeb’s campaign was suggesting that the board did not understand Chapek's vision. It may have had the wrong collective skillset to guide Disney management toward outcomes that deliver both user and shareholder value. That, and the fact that Chapek had historically been more fiduciary than visionary as an executive, had left me skeptical.
But, I then recalled something Disney CEO Bob Iger wrote in his autobiography “The Ride of A Lifetime”. After buying BAMTech to become Disney’s streaming back-end, he set about building an entirely new incentive structure for executives. The purpose of the incentive structure was to reward them for helping Disney pivot towards streaming. The incentive structure involved Iger deciding how much stock each executive would be rewarded. It based the award not on revenue but on how well the executives were able to work together.
He describes his sales pitch to a skeptical board compensation committee:
"I know why companies fail to innovate," I said to them at one point. "It's tradition. Tradition generates so much friction, every step of the way." I talked about the investment community, which so often punishes established companies for reducing profits under any circumstances, which often leads businesses to play it safe and keep doing what they've been doing, rather than spend capital to generate long-term growth or adapt to change.
"There's even you," I said, "a board that doesn't know how to grant stock because there's only one way we've ever done it." At every stage, we were swimming upstream. "Its your choice," I said. "Do you want to fall prey to the innovators dilemma' or do you want to fight it?"
Iger believed Disney was not going to be able to pivot to streaming and survive the acceleration of cord-cutting trends without a realignment of managerial incentives and the backing of the board of directors.
The innovator’s dilemma
Doug Shapiro, Senior Advisor BCG, made an interesting, if not important point about this dilemma of misaligned stakeholders in a recent essay:
Often, firms get disrupted not because they don’t understand the disruption process, see it coming or know what’s at stake. They don’t even get disrupted because of the difficulty of changing internal processes. They get disrupted because companies operate in complex ecosystems of stakeholders with misaligned interests: employees (including well-paid, powerful executives), unions, vendors, distributors, “complementors,” board members, shareholders, etc. This is why disruption can be virtually impossible to head off even when you see it coming from far away.
This is an alternative lens on both The Visionary vs. Fiduciary framework and the point that Iger was making. This PARQOR framework highlights how visionaries are more agile decision-makers than Fiduciaries, who may be constrained by corporate strategy, operations, or finances. Shapiro is saying that the problem lies beyond constraints: different stakeholders may buy into a vision but each need more than better compensation to pivot in the direction of driving a different outcome.
Iger’s point was a mix of both: compensation and tradition are constraints, but ultimately he needed the board to help bully his way into aligning the interests of core stakeholders internally. Otherwise, Iger envisioned Disney was facing a darker future (though, arguably the operational messes at Disney suggest the future has played out worse than he had envision).
Operating Income > Aligning Stakeholders
The ultimate obstacle to properly incentivizing and realigning stakeholders may lie in operating income.
Both Warner Bros. Discovery and Disney rely heavily on their linear businesses for operating income. For Disney, $1.8 billion of operating income came from linear networks in its last fiscal quarter. That accounted for 45% of operating income before losses from direct-to-consumer, and about 32% after those losses are accounted for (both are in the same division, Media & Entertainment Distribution). The rest almost entirely comes from its Parks and Experiences. For Warner Bros. Discovery, $2.3 billion of its $3 billion in EBITDA came from its linear networks divisions in Q1 2023, or over 75%.
For Disney, streaming produced over $4 billion in losses in 2022, and for Warner Bros. Discovery, direct-to-consumer produced around $2b million in losses.
The implicit point in Iger's book is that he had some of the best talent in the entertainment industry in-house, they were neither digital natives nor streaming-savvy, and for obvious economic reasons they were not going to bet their futures on a business likely to produce losses for the near future, perhaps beyond. But he needed them on board for the pivot to streaming to succeed.
A similar dynamic played out at CNN but at the scale of a lone cable channel. Zaslav understood that he had some of the best in the news industry in-house, more were digital natives and streaming-savvy than Disney’s executives in 2017. For both obvious economic reasons, they were not going to bet their futures on an editorial vision likely to produce losses for the near future, perhaps beyond. That is, unless Zaslav had incentivized them to do so in ways similar to Iger with Disney management in 2017.
Effectively, any proposed shift in direction away from the model which worked for CNN two years ago risked executives’ and talent’s salaries, if not careers. Where else can a legacy media executive go in the era of cord-cutting and profit-seeking at cable channels?
CNN executives and talent would not follow Licht’s lead because Zaslav failed to incentivize them to prevent worst-case outcomes from happening.
EBITDA vs. Brands & core franchises
There is still no better business model in media than cable networks. It just happens to be in long-term decline, and with cord-cutting trends accelerating. Mergers and acquisitions in media seem inevitable for reasons similar to why the merged entity Warner Bros. Discovery now exists: more mergers of cable networks aggregate “free money” and therefore boost EBITDA.
But the other defensible value proposition is intellectual property (IP), or the “core brands and franchises” that Robert Iger likes to talk up as Disney’s competitive advantage in streaming. Amazon’s motivation for its purchase of MGM for $8.5 billion which priced the library of video content at $3.4 billion. The library includes more than 4,000 film titles and 17,000 TV episodes, including franchises like James Bond, “Rocky” and “Legally Blonde”.
Zaslav is betting that a third-party company is going to value both the recurring revenues from over 70 million homes and Warner Bros. Discovery’s library of IP that includes DC and Harry Potter. Paramount Global controlling shareholder Shari Redstone seems to be making a similar bet with its portfolio of cable networks, and IP like Taylor Sheridan’s Yellowstone universe, “Star Trek”, and Spongebob Squarepants .
MGM saw nearly $5 billion in goodwill in its $8.5 billion price tag, which is defined as “the established reputation of a business regarded as a quantifiable asset.” So Library sales offer lucrative exit strategies if MGM-to-Amazon is precedent. But not one seems to be willing to part with their libraries, only.
Lessons
The right managerial incentives and aligned stakeholders are a necessary condition for successfully navigating the changes accelerated cord-cutting is delivering (a loss of 5 million to 6 million households, or 11% of households, estimated). But even when one gets the incentives right, as Robert Iger did in 2017, there remains the question of strategic direction. Since 2017, Iger has both departed and returned, structured and then thrown out a reorganization, and now is fighting growing negative investor sentiment about his pivot to streaming.
It raises the question: When the market leaders are proven to have gotten a pivot wrong after they first seemed to have gotten it right, why should anyone acquire and attempt to evolve a legacy media company in the twilight of the “free money” era?
The lesson from Zaslav is that trying to pivot a cable network without the proper incentives is a fool’s errand. The lesson from Iger is that even with the right managerial and stakeholder incentives, one may be driving the business in the wrong direction. Any third party buying a legacy media company now or in the future will find tactical organizational wins.
But "free money" is so existentially important to the business models of these companies that long-term strategic wins will play out more as a litany of variable costs in perpetuity.
AMC Networks executives → Netflix
On this last point, I thought it was notable that Netflix poached the co-heads of AMC Networks scripted series the other week. The division has worked on “The Walking Dead” spin-offs, and the Anne Rice universe. It is also responsible for upcoming AMC shows like “Parish”, “Monsieur Spade” and “Orphan Black: Echoes”, and produced Apple TV+’s new drama “Silo”.
The sense is that Netflix could buy AMC Networks, whose enterprise value is $2.7 billion or just over 1.4% of Netflix’s current market capitalization. AMC Networks does not have much IP to offer — building a library has never been a strategic priority as it has generally preferred licensing titles. Even hits like “Mad Men” (Lionsgate) and “Breaking Bad” (Sony) were produced by and licensed from third parties.
Netflix could buy AMC Networks, thereby buying these original productions and any and all distribution deals AMC has with third parties. The burden would be on Netflix to adapt a wholesale-first model and operational culture into its retail-first model and operational culture. Instead, they took a surgical step, hiring the talent who makes the decisions on which scripted series to approve. I don't think we can this rule out as an incrementalist move.
Through the lens of Zaslav and CNN, Netflix management may be skeptical that there is any upside in acquiring the asset over the talent, even with a need for a content library. Through the lens of Iger and Disney, it may be easier for Netflix to hire and incentivize the individual executives than to acquire declining businesses in order to buy the library.
The key challenge would be reimagining and realigning incentives for all stakeholders to reorient the entire business. But, as I noted above, those stakeholders are primarily linear and not digital talent. Any acquisition of AMC Networks *as is* would be a human resources initiative first, and an exercise in extracting library value, second.
Either way, it is a warning signal to legacy media executives who are hoping for an exit strategy. After the surprise departures of Chris Licht from CNN and Bob Chapek at Disney, the lesson is that these businesses may work best the way they are because the “free money” model incentivizes all stakeholders to sustain that outcome.