Sinclair, Inc. Q3 FY2020 Earnings Call

Greetings and welcome to the Sinclair Broadcast Group Third Quarter 2020 Earnings Conference Call. As a reminder, this conference is being recorded.

Thank you, operator. Participating on the call with me today are Chris Ripley, President and CEO; and Rob Weisbord, President of Broadcast and Chief Advertising Revenue Officer. Before we begin, Billie Jo McIntire will make our forward-looking statement disclaimer.

Certain matters discussed on this call may include forward-looking statements regarding, among other things, future operating results. Such statements are subject to a number of risks and uncertainties. Actual results in the future could differ from those described in the forward-looking statements as a result of various important factors. Such factors have been set forth in the company's most recent reports filed with the SEC and included in our third quarter earnings release. The company undertakes no obligation to update these forward-looking statements. The company uses its website as a key source of company information, which can be accessed at www.sbgi.net. In accordance with Regulation FD, this call is being made available to the public. A webcast replay will be available on our website and will remain available until our next quarterly earnings release. Included on the call will be a discussion of non-GAAP financial measures, specifically, adjusted EBITDA, adjusted free cash flow and leverage. The company considers adjusted EBITDA to be an indicator of the operating performance of its assets. The company believes that adjusted EBITDA is frequently used by industry analysts, investors and lenders as a measure of valuation. These measures are not formulated in accordance with GAAP and are not meant to replace GAAP measurements and may differ from other companies' uses or formulations. The company does not provide reconciliations on a forward-looking basis. Further discussions and reconciliations of the company's non-GAAP financial measures to comparable GAAP financial measures can be found on its website, www.sbgi.net. Chris Ripley will now take you through our operating highlights.

Good morning, everyone. The last 8 months, since the arrival of COVID, have tested all of us in numerous ways, requiring us to react quickly to a changing and challenging environment. Amidst all the upheaval that COVID has caused, I could not be more pleased with how our company has met these challenges head-on, ensuring our customers and consumers are receiving the quality content programming that has defined Sinclair over its history. Our third quarter results were better than we expected, with adjusted EBITDA of $736 million, which is almost double last year's as-reported third quarter level and 15% higher than pro forma third quarter 2019, which assumes we owned the RSNs for the entire quarter. As compared to our third quarter 2020 guidance, adjusted EBITDA was 19% above the upper end of our range, while adjusted free cash flow was $551 million in the quarter. Lucy will get into the finer details of the financials in a few minutes, but first, I want to give you an update on each of our segments, starting with Broadcast. The strong political ad environment was a standout in the third quarter, outperforming our expectations and more than offsetting the decline in Broadcast and other core ad revenues, which was in the middle of our previously provided guidance. The political strength continued right up until Election Day, with the total company recording approximately $363 million of political advertising this year, a 35% increase over the previous record year of 2012. Despite crowd-out from political, September core ad revenues improved over July and August for the segment. The rate of subscriber churn in the third quarter improved slightly as compared to second quarter churn. Year-over-year subscription churn on a same-station basis in the third quarter for the Broadcast segment was in mid-single digits. During the quarter, we continued to see substantial progress in multiple ATSC 3.0-related activities. Next-gen TV has rolled out in 8 of our markets, and the industry goal is to be in 25 of the top 40 markets and 45 total markets by the end of 2021. We have received the first next-gen mobile foam prototypes with full 3.0 functionality, another important milestone in giving broadcasters access to mobile audiences for the first time. Also, the groundwork has now been laid for national datacasting, enabling the integration of broadcast and broadband delivery in the cloud. It is exciting to see the industry continue to move next-gen forward and the FCC publicly support this efficient spectrum policy. In fact, the commission has touted the benefits of ATSC 3.0 as it is seeking to streamline how broadcasters can more easily provide broadcast internet services. The FCC has laid the groundwork for a new and competitive datacasting pipe that merges broadcast and broadband services and will support broadcasters as they compete and provide complements to existing technologies, including 5G. Preparation for the January launch of the National Desk, our new headline news service, continued during the quarter. The service will appear on approximately 50 of our myNET and CW stations across the country as well as our free ad-supported app store. The effort embodies what we do best at Sinclair, provide viewers timely and meaningful content using our vast network of resources to produce unique and differentiated programming that can be utilized on multiple platforms. The National Desk will cover stories of local importance and national interests that are unfolding in real-time and will be focused on the stories themselves and not on commentary. We couldn't be more excited to begin our next chapter of news reporting at Sinclair. In our Local Sports segment, the revenue for the quarter exceeded our guidance as advertisers embraced the return of live sports in late July. Segment ad revenue exceeded our third quarter 2020 guidance and was up 27% for the quarter as compared to pro forma 2019 quarter, which assumes we owned the RSNs for the entire quarter. For political, though a small part of the ad base aided the increase as did the inclusion of Marquee. Absent those 2 factors and despite less game inventory than in the third quarter last year, core advertising increased mid-single digits. Subscriber churn in the third quarter for the Local Sports segment was high single digits. Unfortunately, the RSNs were dropped recently by YouTube and Hulu. In the case of YouTube, they had already dropped the larger cities at the end of February. Since they recently increased consumer pricing, we were surprised that they also dropped valuable content on the heels of that price increase. Despite the fact that there are currently no live, regular-season games on the RSNs, as COVID has pushed back the start of the NBA and NHL seasons, we have received a fair amount of emails and calls regarding both platforms dropping the RSNs. There may be even more of a consumer backlash when the league seasons start back up. Together, YouTube and Hulu made up approximately 10% of the gross RSN distribution revenue for the month of September. The loss of these 2 virtual distributors, elevated subscriber churn, and the impact of COVID and the economy have contributed to us taking the noncash impairment charge this quarter in this segment. Lucy will cover this in more detail in just a minute. While it is true that churn has been higher than what we expected when we made the RSN purchase, it is important to remember that the growth opportunities we envision for the business did not revolve around expectations of growth in subscribers, although our churn assumptions at that time would certainly not have anticipated the effects of COVID or the challenges of DIRECTV. What excites us most is the opportunity to capitalize on initiatives to monetize future growth opportunities in legalized sports betting, advertising, digital, programming, and other distribution platforms, including direct-to-consumer. We have already made good progress on several of these initiatives. For example, we are utilizing content from Stadium and Tennis Channel to provide incremental live and recorded sports programming to the RSNs. Work continues on a new sports app intended to give viewers a more dynamic and personalized viewing experience. The app is an important part of our growth strategy for the RSNs as people increasingly choose to access live games via digital means. The increased functionality of the app will allow for greater activity and superior viewing experiences that we expect will eventually include the ability to participate in sports betting and other gamification activities such as social games focused on fandom. Our new platform will monetize the hundreds of millions of impressions that are currently not being optimized on the existing digital platform. We plan to launch the new app at the beginning of the baseball season in the spring. I have talked previously about the gamification of the sports viewing experience. We have taken steps in this direction as well. J.R. McCabe just joined Sinclair as our Chief Business Officer of direct-to-consumer and Gamification. His hiring, along with a minority investment we recently made in Playfly Sports, is intended to help diversify our revenue streams, tapping into fast-growing sports-related industries that complement our existing sports businesses. Playfly recently combined 3 companies that excel in providing multimedia rights solutions for college, high school, and e-sports into one larger company. They are now a leading company managing exclusive college and high school sports across the United States. Our Playfly investment fits well with our efforts around creating interactivity and gamification elements in sports content, enhancing viewership and engagement. Now I'll turn it over to Lucy to go through the financials in more detail.

Thank you, Chris. First, some housekeeping items to note. As a reminder, the RSNs were acquired in late August of last year, and so 2019's third quarter reported results do not reflect a full quarter comparison. As such, in many cases, I will speak to pro forma 2019 results, which is a more meaningful comparison and assumes we own the RSNs in those periods. I will also be referencing certain pro forma numbers for our Broadcast business, which reflects the CL 2 stations, Harlingen and Lexington, this year. Of course, the as-reported numbers can be found in our earnings release from this morning. Also, as we discussed on last quarter's earnings call, distribution revenues in the Local Sports segment reflect an accrued deduction for the estimated rebates to be paid to the MVPDs based on the minimum games delivered. The rebate amount in the third quarter was $128 million. And for the year, the accrued revenue deduction is estimated to be $371 million, which gets paid after 2020. Offsetting this amount are overpayments owed to us by the teams, which reduces sports rights cash payments and which are expected to be realized in 2020. As Chris mentioned, the resurgence of COVID, the lack of a vaccine, and the resulting economic impact makes visibility for the business extremely low. We will not be providing guidance or commentary around financial expectations for 2021 at this time. During the third quarter, we estimated an impairment loss on the Local Sports segment of approximately $4.2 billion relating to goodwill and definite-lived intangible assets of $2.6 billion and $1.6 billion, respectively. This was driven by a decline in distribution revenue brought on by several factors, including the recent loss of 2 virtual MVPDs as well as elevated levels of subscriber erosion, influenced by numerous factors, including fragmentation of content distribution platforms, shifting consumer behaviors, the current economic environment, and the COVID-19 pandemic. In addition, the company estimated the deferred income tax benefit of approximately $1.1 billion for the quarter in connection with the impairment loss. The company is in the process of finalizing the impairment analysis and related tax impact, which will be completed in time for the filing of the third quarter 10-Q. The impairment loss and related tax impact do not affect the company's cash position, cash flow from operating activities, or debt covenants. Now turning to the third quarter, consolidated company results, and what a quarter it was. We beat our expectations for media revenues, adjusted EBITDA, and adjusted free cash flow. Consolidated media revenue for the third quarter increased 42% or $449 million from the third quarter of 2019 due to the inclusion of a full quarter of the Local Sports segment. On a pro forma basis, total company media revenues of $1.516 billion declined $53 million versus last year's third quarter media revenues of $1.569 billion, but were up 5%, excluding the distributor rebate on incremental political ad revenue. On a pro forma basis, total advertising revenues increased by 17%, while core advertising declined mid-single digits, which was better than our third quarter guidance. As compared to guidance, media revenues were above the upper end of the range we gave on our last earnings call by $23 million. We expect full-year as-reported 2020 media revenues to be in the $5.828 billion to $5.853 billion range with fourth quarter revenues benefiting from the strong political ad environment. Consolidated media operating expenses in the third quarter were $1.289 billion or $1.286 billion on a pro forma basis, which was an increase of 22% compared to last year's pro forma $1.057 billion, as sports rights amortization expense increased due to a shift in timing and mix for league play. Versus our guidance, media operating expenses were below our expectations, primarily due to cost control measures. Third quarter adjusted EBITDA, which excludes the impairment and nonrecurring legal litigation, COVID transaction, and regulatory items of $13 million, increased 97% to $736 million, due in large part to the inclusion of a full quarter of the Local Sports segment. On a pro forma basis, adjusted EBITDA of $735 million increased $96 million from last year's $639 million, driven by lower sports rights payments and higher advertising revenue. Adjusted EBITDA for the quarter was $115 million higher than the high end of guidance. We expect full-year 2020 adjusted EBITDA of $1.857 billion to $1.878 billion. Third quarter consolidated adjusted free cash flow, which excludes the impairment and the nonrecurring items, was $551 million, which was $140 million above the high end of our guidance. Pro forma free cash flow of $550 million was $199 million over the third quarter 2019 pro forma free cash flow of $351 million. We expect full-year 2020 adjusted free cash flow of $1.113 billion to $1.139 billion. Diluted loss per share on 75 million weighted average common shares was $42.66 for the quarter, reflecting the impairment taken in the quarter. When adjusting for the impairment and the other nonrecurring items, diluted earnings per share was $2.13 for the quarter. Neither credit silo's revolver was drawn during the quarter. In September, we entered into a 3-year, $250 million accounts receivables facility in the Diamond silo, providing for incremental low-cost funding for general corporate purposes and potential acquisitions. As of the end of the quarter, the balance borrowed under the facility was $74 million and was $196 million at the end of October. We have not repurchased shares since our last earnings call. But as a reminder, for the 9 months year-to-date, just over 19 million shares, representing 21% of the total shares and almost 30% of the float as of year-end 2019, had been repurchased. Now for the segment details. For the Broadcast and other segments, third quarter. Political was more than 30% higher than our expectations and the primary driver for the 12% increase in media revenue versus the same period last year. While core advertising was within guidance, political was $105 million compared to our expectation of $75 million to $80 million for the quarter. Distribution revenues increased 9%, reflecting guidance. For the Broadcast and other segment, media revenues totaled $817 million, which exceeded the high end of our guidance range by $12 million. Media expenses were $21 million higher in this year's third quarter versus last year, primarily on network programming fees, but were better than our guidance on cost control measures across most expense categories. Adjusted EBITDA of $271 million was a $62 million increase over the prior year period and, again, exceeded our expectations. Turning to the Local Sports segment for the third quarter. Media revenues for the segment of $727 million were more than double the prior year period, aided by a full quarter of RSN results versus a partial period a year ago. Compared to guidance, media revenues came in at the top end of the range. Excluding the $128 million distributor rebate accrual, media revenues were only $2 million below last year's pro forma revenue of $858 million even though the prior year included 1 month of DISH carriage fees. Breaking this down further, the decline in distribution revenue to $597 million was offset by the pro forma total advertising revenue increase of 27% versus last year, which includes Marquee, higher political revenues, and increased revenue per game. Local Sports media expenses of $801 million were $211 million or 36% higher than pro forma third quarter a year ago, with the vast majority of the increase due to the timing of sports rights amortization expense, with the MLB's regular season being played solely in the third quarter of 2020 in addition to having NBA and NHL games in the third quarter of this year. Media expenses were about $10 million less than guidance due primarily to lower promotion and production expenses. Diamond also paid less in management fees to STG during the quarter than guidance, which had assumed certain allocation of expenses that DSG ended up paying for directly. Local Sports adjusted EBITDA of $464 million for the quarter was higher than pro forma results of $425 million last year and well above our guidance range of $402 million to $410 million, and that's due primarily to the timing of the sports rights payments, team rebates, and higher advertising revenue. Now turning to the consolidated company balance sheet. Consolidated cash at the end of the quarter was $632 million, including $266 million at STG and $346 million at Diamond. Total debt at the end of the third quarter was $12.463 billion, and the net leverage ratio for consolidated Sinclair at quarter end was 6.5x. Sinclair Television Group's first lien indebtedness ratio on a trailing 8 quarters was 2.5x on a covenant of 4.5 and 4.3x on a net leverage basis through the bonds. Diamond's first lien indebtedness ratio on a trailing 4 quarters was 6.8x on a covenant of 6.25x, as a reminder, which only springs if the revolver is drawn over 35%, and Diamond's total net leverage was 8.8x. Okay. So I'll take a couple of those, and Chris can talk to the outlook for the retrans. So yes. So YouTube and Hulu did represent approximately 10% of our most recent months' gross distribution revenues in the local sports segment. On the RSN side, we really only have about 5% of the subscribers that come up next year. Then on the Broadcast side, we have about 25% that come up next year, primarily in the back half of the year. Then the underlying network subs would be about 50%, which occur in the first half of '21. So just to give you some sense of the cadence there. And then, look, as Chris mentioned in his remarks, the Broadcast churn was about mid-single digits year-over-year. In the third quarter, the RSNs were high single-digit year-over-year churn. Our fourth quarter estimates do reflect some slight improvement in sequential quarter churn on a same-station basis. And then just on the impairment question, we're not going to get into assumptions that went into our calculations. Just know that we've followed the accounting guidance in how to calculate that.

All right, John, so to the other part of your question, look, on the one hand, we were certainly disappointed that Hulu and YouTube made the decision they did. It seemed contrary to their previous stance. Hulu, for instance, picked up Marquee at the beginning of this year. If you look at all their advertising, it's very focused on live sports. But on the other hand, due to COVID, the timing of their renewals was such that we don't have any live sports right now and probably will not have live sports until the beginning of next year. That's sort of a moving target right now based on what the NBA and NHL are trying to figure out for those seasons. And then as I think you all know, virtual MVPDs are still very much a proof of concept. They're running at negative margins. So cost control is a big focus for all of them, and I think that's what drove their current decision-making.

So, Dan, let me take out the why we have in our estimates for the fourth quarter a little bit better subscriber churn. That's really following what we saw as the third quarter progressed for the reporting that we had. But mainly, if you look at the public disclosure of the traditional MVPDs, most of the large ones have already reported their third quarter numbers, and remember, we're on a little bit of a lag to them, there are sequential quarters. Q2 versus Q3 showed improvement by about a full percentage point. So again, given what they are saying for their video subscribers, that's why we've built our estimates to show a little bit of improvement as well.

Yes, in terms of your second question, Dan, I can't get into specifics for obvious reasons. But our stance and positioning right now is very similar to what it was in the summer when we did the exchange offer. We look to be opportunistic. We have plenty of liquidity and headroom. So there's no need to do anything. We're not out there soliciting any sort of response from any of our various stakeholders. But of course, if they have proposals to put forward, we listen to those.

So what I would say is, what we've done this year, we were one of the first ones to really take an active stance on cost control measures in the early part of March, and the company has done a great job. Without getting into how much is permanent and how much is temporary, there's a lot that goes into this. Some are variable direct expenses, some are delayed or deferred, some are actually permanent. But the way we think about it - if I were to compare our internal budget for the full year pre-COVID up against now what our guidance looks like, across the entire company for both OpEx and CapEx, ignoring the rebates - we've been able to reduce our OpEx and CapEx expenses by several hundred million this year. While we're not going to talk about '21 estimates, it really depends on what happens here with the state of the economy and the COVID pandemic as far as what that cost structure looks like going forward.

Yes, and then just in terms of these virtuals coming back, there definitely will be another conversation to be had with them when we have visibility on the NBA and NHL return. Of course, we can't predict what that outcome will be, but we know that, that will change the dynamic.

So Lucy, maybe you could just give us a little bit more color on the Q4 expectations on sub-churn being a little bit better. It’s contrary to what I think a lot of investor expectations are. If you can give us any thoughts on why you have confidence in making that statement embedded in your guidance.

Yes, Aaron, every month has picked up, which is encouraging, especially with the record political spending and crowd-out that the core has been able to strengthen. It's too early to tell in the fourth quarter as we come down from this record political spending and COVID spiking. November appears to be the strongest month since pre-COVID since we've gone into this pandemic. We want to hold off and see the core advertisers returning from the crowd out. We didn't expect to see this political, but it came in big droves in the last few weeks, which caused this crowd-out.

And has the auto category continued to improve?

Yes, it's continued to improve, and we expect it to improve. It's kind of the haves and the have-nots. Those that have been selling during the pandemic are being allocated those cars. So we saw a strong Tier 2 with the Sports segment, and Tier 3 is coming back as well.

Yes, so right now, the cash that's sitting on the balance sheet is the echo of the facility we had in place at the end of September. So that $196 million is more reflective of the run rate of what you would expect. We would look to use those for general corporate purposes and potential acquisitions.

Okay, great. Just on the 50% of the subscribers coming up on the reverse side in the first half of 2021, are these renewals long enough in duration where you think your network partners are going to bake in your expectations for the step-up in NFL rights into the negotiations?

Yes, we're not seeing that as part of the discussion. I think we all recognize that the networks will have to pay to keep NFL, and that appears to be the expected outcome. Thank you all for joining today. If you should need more information or have additional questions, please don't hesitate to give us a call.

This concludes today's conference. Thank you for your participation. You may disconnect your lines at this time.