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Economics

Economics

By the Project for Excellence in Journalism

Though 2006 was a difficult year for cable news in terms of audience, it was a better one financially. The reason is that the economics of cable news are not entirely tied to annual audience trends. They are connected to multi-year contracts cable channels have with cable systems that distribute their content. After Fox News renewed its contracts in 2006 and began to reap the benefits of a decade of growth, the economics of cable news are poised for some important changes.

Five major economic trends stand out for 2006:

  • Fox News was expected to overtake CNN as the profit leader in cable for the first time, with only more growth projected for the future.
  • The reason, in part, is that Fox News began to sign new contracts that tripled the license fees it received from cable providers. The new contracts, replacing the 10-year deals it signed when it launched in 1996, put the cable news channel into the highest levels of subscription fees for the first time.
  • Meanwhile, the other cable channels also expected to see profits jump.
  • For all Fox News’s momentum, CNN, whose financial figures are combined with Headline News, still had the largest revenues.
  • MSNBC, meanwhile, was projected to generate meaningful profits for the first time.

While the numbers are impressive — particularly Fox News’s financial milestones — they do not come without questions. First, Fox News was expected to overtake CNN in profits in 2005 as well, but fell short, so the accuracy of projections remains a question.1 The second is more long-term. With all channels losing audience in 2006, has the cable industry as a whole — beyond just news — begun a downward curve?

The number of cable households that are subscribers has barely increased in years, inching just 1% or so every year in the last five.2 With no new audience, advertisers aren’t paying what they used to. Cable networks are no longer able to get the significantly higher rates they are accustomed to, and ended up with only a 2% gain in the 2006 advertising “upfront” period.3 In addition, the slowdown in advertising revenue and growth means each network or channel spends more on self-promotion to maintain its position.4

So far, the industry has stayed ahead of those downturns and convinced analysts it can weather the storm. According to projections for 2005-2010, basic cable (beyond just the news channels) will see a 78% growth in revenues despite the economies of scale and leveling-off of subscribers.5 The cable news channels have been faring equally well in projections.

Profits

By the bottom-line measure, profits, cable news is doing well indeed, and analysts see more of the same in the immediate future.

Kagan Research, the media research firm, projected that the four cable news channels would earn $699 million in pre-tax profits in 2006. That would represent a jump of 32% from 2005, when they generated $529 million.

Fox News was projected to become the most profitable channel, overtaking CNN for the first time. Kagan expected Fox News’s operating profits to grow more than 30%, to $326 million, from $244 million in 2005.

CNN, whose figures include Headline News, was projected to see a growth of almost 14%, to $310 million from $272 million in 2005.

While MSNBC isn’t anywhere near the level of the other two channels, its estimates continue to be optimistic. Kagan expected profits at MSNBC to rise to $64 million in 2006 — a leap of almost 400% from the $13 million it made the previous year, and a sign that the news channel will, at long last, become a contributor of some value to NBC television’s bottom line. One caveat is that MSNBC has fallen short of projections before.

Cable News Profitability
1997 – 2006, by Channel
pie chart sample
Design Your Own Chart
Source: Kagan Research, LLC, a division of Jupiter Kagan Inc.

One significant trend that emerges from those numbers is that Fox News has been steadily narrowing the gap in profits with CNN every year, and at a much faster rate than analysts projected. In 2004, Fox News’s profits had been projected to be $97 million behind CNN’s, and in 2005 some $56 million behind. Actual figures show the gap was $58 million in 2004 and $28 million in 2005.

Thus, even if the gains in 2006 are more modest than projected, Fox News has achieved in ten years what it took CNN 25 years to accomplish.

It should be emphasized, again, that financial data for 2006 are estimated or projected, since actual annual figures for a calendar year come out six months later. Comparing actual 2005 figures against projections (in last year’s Annual Report) shows how far off the mark projections can be.

Kagan Research’s projections for profits are a case in point. Fox News made about $4 million less than projected ($244 million rather than $248 million), a slight variation. MSNBC, in contrast, made only half of what analysts expected it to — $13 million, not the projected $27 million. CNN’s actual earnings fell short by about $30 million of what it was projected to make — a profit of $272 million, not the projected $304 million.

Revenues

One reason for Fox News’s strength is that in tandem with profits, revenues are also rising rapidly. According to the annual profiles released by Kagan in July 2006, Fox News’s revenues were projected to grow 23.4%, nearly identical to the 23% of 2005. That is nearly triple the projected revenue growth at CNN. In dollars that would come to $754 million, up from $610 million in 2005.

CNN and Headline News, on the other hand, continue to bring in the highest revenues in cable news, but the growth in recent years has slowed to single digits.6 Kagan’s projections for CNN include both CNN and CNN Headline News because they are sold as a package to advertisers and distributors. They do not include the revenues CNN earns from its other operations, such as CNN Radio, CNN International or NewsSource, its subscription service that provides newsfeeds to local stations.7

The two channels were projected to bring in $985 million in total revenue in 2006, a 7.6% increase over the previous year’s $915 million (a 9% increase over the year before that).

MSNBC, meanwhile, continued to lag well behind the other two channels in financial performance. Kagan Research projected MSNBC would take in $269 million in revenues in 2006, a 7% jump over the previous year. (In 2005, incidentally, its revenues fell short of projections: $251 million against a projection of $261 million).

One can also get a sense of the accuracy of projections for revenues from the actual results of 2005.

Cable News Revenues
2005 vs. 2006, in $ millions

2005 Projected 2005 actual
(projection vs. actual)
2006 projected
CNN
878.2
915.2 (+37)
985.3
Fox News
614.8
610.8 (-4)
754
MSNBC
261.3
251.4 (-9.9)
268.8

Source: Kagan Research, LLC, a division of JupiterKagan Inc.

Seen against projections, CNN fared better than analysts expected. Fox News, on the other hand, falling short by about $4 million, and MSNBC’s were about $10 million lower than projected.

Revenue Streams

To understand all this, it is important to recognize how cable economics work. Unlike broadcast television, which depends entirely on advertising, cable news has two revenue sources of basically equal weight — subscriber fees, paid through the cable systems, and ad revenues. That is why cable companies can make substantial revenue and profit with much smaller audiences than broadcasters.

A breakdown of the two tells the story of where cable news’ economics are headed.

License Fee or Subscriber Revenues

The less obvious revenue stream in cable, license fees, is the money paid by the cable systems to carry the channel. These are long-term deals negotiated in advance on a per-subscriber basis irrespective of how many subscribers actually end up watching the channel. If a cable company enlarges its audience, it can renegotiate those license fees upward when contracts come up for renewal.

The year 2006 marked the 10th anniversary of Fox News and the beginning of its process of renewing license-fee contracts. When the channel launched in 1996, many of the 10-year contracts it signed gave the channel 25 cents for each subscriber, roughly half what CNN makes.

All through 2005 and 2006, Fox News executives were quoted as saying they would like a revised rate of $1 a subscriber — an unheard-of increase in fees in the industry. While analysts believed that such a hike was unrealistic, Fox News executives used the channel’s Nielsen performance in arguing for it.

Their confidence has borne fruit. Fox News managed to triple its current fees in the first of its renewal deals, with Cablevision, currently the sixth-largest cable operator in the U.S. After much speculation in trade magazines,8 the two sides agreed on a rate “upwards of 75 cents per subscriber” in October 2006, according to Broadcasting & Cable.9

Their new contracts are five-year deals. Initial media reports said that Fox News was negotiating for cable systems to carry both the news channel and its proposed new business channel (see News Investment). There was also talk of retransmission fees for the Fox broadcast network. Eventually, however, trade magazines reported that the final deals did not include carrying the business channel or the retransmission fees.10

The new rate makes Fox News one of the top five most expensive cable networks in terms of license-fees. At the top is ESPN, which charges $2.96 per subscriber per month, followed by TNT at 89 cents, Disney Channel at 79 cents, Fox News and then USA at 60 cents. CNN currently gets 44 cents.11

The Merrill Lynch analyst Jessica Reif Cohen, who had expected Fox News to get 50 cents a subscriber, estimated that the new rates could give Fox News $2.4 billion in affiliate revenue between 2007 and 2010. This represented a jump of 23%, or $450 million, more than the projections that were made before the deal.12

Kagan Research, whose 2007 projections were released before the deal and don’t take into account the renegotiations, estimated Fox News would earn 30 cents per subscriber in 2007 and earn subscriber revenues of $330 million. But based on the new rates, there is bound to be a huge difference.13

The October deal with Cablevision was followed by similar deals with DirecTV and National Cable Television Cooperative (NCTC). It also set the stage for future renewals, which promise to be just as fiercely negotiated. Fox News now has to deal with operators such as Time Warner Cable, Cox Communications and Comcast. Peter Chernin, President and COO of News Corp., was quoted in September 2006 as saying he expected “tough, tough, tough negotiations” with cable operators.

Cable News Monthly Revenues Per Subscriber
1997 – 2006, by Channel
pie chart sample
Design Your Own Chart
Source: Kagan Research, LLC, a division of Jupiter Kagan Inc.

Indeed, the Fox News deal, to some degree, highlights the love-hate relationship between cable operators and cable channels. Such negotiations over license fees and contracts have become increasingly combative. Operators argue that while news channels are ubiquitous in cable, they are actually watched by relatively few of the subscribers and that with their audiences now declining, Fox News doesn’t warrant the kind of license fees it is asking for.

Another consequence of the deals is likely to be a re-enactment of the CNN vs. Fox News rivalry on the economic front. CNN, losing audience to Fox News the past six years, could face some stiff resistance from cable operators when their current deals expire, especially because the operators are resigning themselves to the huge increases they will have to pay Fox News.

Cable News Revenues & Expenses
2006
pie chart sample
Design Your Own Chart
Source: Kagan Research, LLC, a division of Jupiter Kagan Inc.

Kagan estimates CNN will take in $515 million in subscriber revenues in 2007, at its current rate of 45 cents for each subscriber. That would be an increase of $31 million over its projected 2006 revenues of $484 million.

MSNBC suffers from both the lowest subscriber rate and the fewest subscribers. At a rate of 15 cents apiece, it is projected to earn $162 million in 2007, up from the $152 million it was expected to earn in 2006.

Advertising Revenues

The second revenue stream for cable news, of course, is advertising. Advertising revenues in cable are based on whether the channel appeals to a higher-income target audience.

The appeal of cable news has always been that it attracts well-educated, relatively affluent viewers, an audience with purchasing power that advertisers want. This niche positioning largely determines advertising rates. And while their rates can’t be as high as those of the broadcast networks because of smaller audience than broadcast networks, cable news channels compete well on rates with general-interest cable channels such as sports or entertainment, which boast much larger audiences.

So how did the channels fare in 2006? Fox News was expected to reach another fiscal milestone. If estimates prove accurate, it will have overtaken CNN for the first time in advertising revenue.

According to projections by Kagan Research, Fox News was expected to take in $454 million in 2006 from advertising. That would top CNN’s projected $424 million (and far exceed MSNBC’s $114 million).

It would also represent a 31% growth over 2005, more than twice that of CNN (13%) and more than four times that of MSNBC (7%).

Net Ad Revenue of Cable Channels
2000 – 2006, in $ millions

2000 2001 2002 2003 2004 2005 est. 2005 actual 2006 est.
CNN
412.8
445.9
359.8
399.2
317.4
334.9
375.9
423.5
Fox News
51.2
59.9
109.8
208.6
257
336.1
345.3
453.6
MSNBC
138.8
115.7
98.4
113.1
111
114.7
106.4
114.4

Source: Kagan Research, LLC, a division of JupiterKagan Inc.
Note: Net Ad Revenue refers to revenue generated after discounting the commission that goes to ad agencies.

There is however, at least one big caveat. Projections for 2005 indicated a similar leap for Fox News that never materialized. In that year, Fox News was expected to take in $336 million, scraping past CNN’s expected $335 million. But actual results showed that CNN did better than expected and bought in $376 million in 2005. Even though Fox News took in $345 million, it remained almost $31 million shy of CNN.

What’s more, other analysts think Kagan’s projections are overly optimistic for Fox News. According to a report by Jessica Reif Cohen of Merrill Lynch in September 2006, Fox News’s ad revenue for 2006 was expected to be $421 million and to increase at an average of just 4% a year in the next four years.14

How is it that CNN can charge ad rates close to those of Fox News with a much smaller audience? The answer, as we have noted in earlier reports, is that Madison Avenue apparently continues to covet CNN’s audience type.

CNN’s historic lead in advertising revenue can be attributed to both familiarity and performance. It commands a substantial cumulative audience and remains the channel of choice for breaking news events, making it appealing for advertisers who want a guaranteed audience.

How long that might continue is an open question.