Pay TV paying off in down economy

HBO and rivals are thriving by being original

The global economic crisis has affected entertainment industry bottom lines, but there has been an exception.

It's not a hot new media kid on the block. It's the unsexy 35-year-old pay TV biz, which has held its own and even experienced growth the past couple of years.

"During tough economic times, consumers look for value," said Eric Kessler, co-president of HBO, the largest pay service. "For less than two movie tickets or the price of a DVD, they receive a full slate of theatrical films for a month, plus all of HBO's award-winning original programming."

HBO not only boasts the most premium subscribers, but the Time Warner-owned paybox also has the biggest profit margins. In 2009, it received an average of $6.25 a month from 41 million subscribers, generating operating revenue of $3.84 billion against operating expenses of only $2.48 billion, according to analysis by SNL Kagan using Nielsen data.

That per-subscriber figure is much higher than for any of its competitors. Showtime and Starz have experienced rapid growth, but not all subscribers are the same. Showtime receives an average of $1.59 a sub, and Starz gets $2.03 a sub.

How has pay TV prospered while others withered?

"It's a cheap form of entertainment, a lot cheaper than taking your family to the movies," said Deana Myers, senior analyst at SNL Kagan. "So even when times are tough, you don't necessarily cancel that."

Despite its success, techno futurists love to predict pay TV is doomed by the coming era of movie downloads and a generational shift to 24/7 all-access. That brings a snicker from Matthew Blank, chairman and CEO of Showtime since 1995.

"We used to get the question of viability as more basic cable channels became available in more places, but the past couple of years proved the point," he said. "When the economy went south and ad-supported networks were challenged, we had tremendous growth. The subscription model seems to be rejuvenated."

Recent stories about efforts by some cable operators to carve out a "premium" VOD window incorrectly suggested pay TV is an obstacle and so could be threatened. In fact, showing a movie 30 days after it hits theaters would come out of the theatrical window.

"The people standing in the way of a premium window is not us," Kessler said. "It's the theater owners."

Such a window might benefit pay TV. "What that would do is trigger our windows a little earlier," Kessler said.

It also could spotlight the value pay TV offers. "If people pay 20, 30 bucks for one film versus getting a whole month of content for $15, that's a much different experience," Starz Entertainment president and COO Bill Myers said.

There could remain an issue over the right to sell electronic downloads during the 18-month window most pay TV services own. Sony is a backer of the Digital Entertainment Content Ecosystem, a coalition of players including software, hardware, retail, electronics and entertainment companies -- notably without pay TV involvement -- that is creating uniform specs for a "digital rights locker" into which consumers could tap for programs and movies from various sources.

Sony chief technology officer Mitch Singer, president of the DECE, said rights issues haven't been sorted out, but the parties expect to have a "framework" done by year's end. Then it will be up to providers to use it.
 

Kessler shrugged off the threat. "The studios, in creating economic models, understand the value of a healthy pay TV category," he said. "It contributes billions to studio coffers."

Starz recently renewed deals with Sony and Disney that include rights across broadband platforms. Myers admitted it was a tough negotiation, in part because the studios have been reselling streaming rights to Netflix.

Most of all, though, the issue was price.

"We're all taking a look at how the markets work," he said. "The idea you can access movie content now on the Internet or electronic sell-through or on a rental basis means more people have an opportunity to look at that content earlier, so we're looking to ensure the values we're paying for make sense."

Showtime refused to renew with Paramount in 2008 over pricing for movies. The CBS Corp.-owned paybox has increased its emphasis on original programming while acquiring films from such indies as Summit, the Weinstein Co. and, more recently, DreamWorks.

"The fact that movies are available in so many places means they become less and less important to us," Blank said. "We've played valuable movies on our network for years and have seen a devaluation by our consumers. Nobody knows where the big titles are playing, but they know where 'Weeds' is, where 'Californication' is, where 'The Tudors' is, where 'Nurse Jackie' is."

Showtime's  sub count rose from 12.4 million in 2003 to 18.1 million today.

Showtime's latest challenge is to keep building on its success in originals with Robert Greenblatt being replaced by David Nevins as president of entertainment.

As well as Showtime has been doing with originals, HBO remains the dominant force in pay TV and has used that status to reinforce the value of its brand to consumers. After a lull following the end of "The Sopranos" and "Sex and the City," the network has scored recently with such shows as "Hung" and "True Blood," the latter a vampire tale so hot it has sold more DVDs of past seasons than "Sopranos" or "Sex" ever has.

The HBO and Cinemax networks have seen a rise in subscribers from 40.5 million in 2006 to 41.4 million in 2009, according to SNL Kagan. Kessler said it is more important to HBO that it has seen 10% compound growth in operating income during the past 10 years, with profit margins rising from 22% to 32%. He put last year's adjusted operating income at $1.2 billion.

"There's no question that original programming, which started off for everyone as a brand play, a way to differentiate yourself from other movie services, has certainly evolved into more than that," said Michael Lombardo, HBO's president of programming.

Added HBO co-president Richard Plepler: "It's not just original series that are important. Documentaries are important; sports programming is important to the brand. And our movies are still important to the brand."

HBO is locked into long-term deals for movies with Universal, Fox, DreamWorks Animation and sister studio Warner Bros.

Pay deals remain an integral part of studios' business plans, especially in the face of a DVD revenue decline. Pay TV will fork over $2.5 billion this year for current and library movies to fuel a business that generates about $10 billion at retail for cable, satellite and telco providers.

Meanwhile, HBO and other pay TV services aren't waiting for technology to overtake them.

HBO, as part of the Time Warner-led "TV Anywhere" initiative, is set to launch HBO Go, which will allow subscribers to authenticate and watch HBO on all types of devices.

Showtime recently launched a "three-screen interactive viewer experience" to promote "The Real L Word." It uses online and mobile but also social networking sites.

No pay TV service is more about multiplatform than Epix, launched by Paramount -- after Showtime balked at its price for movies -- along with Lionsgate and MGM. On June 16, Epix rolled out the first broad-scale system allowing subscribers to access content in all types of media after authentication.

Still struggling to get carriage, Epix reaches about a third of U.S. TV homes. But CEO Mark Greenberg insists he is not concerned.

"We want to bring the pay TV model to a younger demo," he said. "A lot of these kids never had cable and are used to watching on the Internet. We have created a way for them to do that and be pay TV subscribers."

Epix also is doing originals and drawing on the features and libraries of its owners, as well as a deal with Samuel Goldwyn. Despite the history behind its birth, Greenberg said the service pays the same rates for movies as HBO or Showtime, in part because of legal obligations to talent to charge fair market value.

HBO, meanwhile, is the only pay TV service that is an international brand, in part because it owns so much content. The channel beams to 53 nations, and its programming sells to broadcasters worldwide. While near saturation domestically, Plepler said, "Our international business has doubled in the last three years."

So while the sky-is-falling crowd write headlines declaring pay TV will be roadkill, the reality is it has contracts that give it long-term control of movies and an expanding audience worldwide and across generations.
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