Laura Martin, Senior Entertainment & Internet Analyst at Needham & Company, joins Michael Beach to discuss the latest bull and bear cases in the TV sector and how networks are balancing profitability with the shift towards streaming. Watch our latest Screen Wars Thought Leader Interview here and read the full transcript below!
MB: Hey Laura, welcome to Screen Wars.
LM: Thank you. I love being here.
MB: Excellent. Give us the story on Needham & Company, who your customers are, and how you make money.
LM: Needham & Company is a broker dealer. We have three main divisions: Investment, banking, and sales & trading. I’m in the research division, so I publish what’s called sell side research, buy, sell, and hold on a specific number of companies within an industry. My industry is media and I also cover large tech. That includes Apple, Amazon, Google, and Facebook. There are about 25 analysts working at the company, and some of them cover industries like biotech, crypto, or cannabis. They are all in research and have specializations. We also write recommendations by sell-hold in the research department here.
MB: The outstanding research you produce is a must-read for our team, and I really like your point of view. We’re wrapping up earning season right now. What has stood out to you so far?
LM: What stood out to me so far is the bifurcation size. CTV has been the driver in digital, and it has slowed down a lot. Companies with the most pure play CTV, like Roku and Vizio, missed, whereas Trade Desk, which is 40% CTV, was up 23%. Bigger is doing better than smaller. Also, CTV has not been the key driver it was for the last two years, and is underperforming more, like mobile and desktop, which is a real turnabout from the past.
MB: Do you think that’s more performance based versus branding, or is there something else there?
LM: I think it is performance based. Advertising is turning, but performance comes back first because it’s a clear return on investment. Brands come back slower, because they want to see that consumer demand is healthy. Meanwhile, with performance, you can invest $20 or $40 on Facebook, and if you sell $40 worth of stuff, you will spend $20 the next week because you are selling $40 worth of stuff. Performance is faster in both directions. I think what’s happening is that search and social, which are bottom of funnel, are coming back already and brands are slower as evidenced by a very mediocre upfront market.
MB: It’s starting to finally show up. It looks like the gravity of declining inventory, reach, and ratings is finally starting to catch up with the upfront season.
MB: Since you’re on linear and streaming together, who are you bullish for and who are you bearish for? Specifically in the TV sector.
LM: I’m in charge of picking stocks, and right now, I really want to invest 100% in ad-driven stocks. If you limit me to the linear TV ecosystem, then I want to be with whoever has the most ad revenue as a percent of total. For example, Disney has theme parks, consumer products, and linear TV. That’s not great. 70% of ESPN’s revenue comes from subscriptions and payments from Comcast, and only 30% from advertising. That means that only 11% of Disney’s total revenue comes from advertising. I don’t like that because I want to add as much leverage to the ad cycle as possible. I like Roku, which is 80% advertising, and they have $2 billion in revenue of device sales. I like Trade Desk, Double Verify and Magnate a lot, because 100% advertising.
So when the ad cycle turns, it takes Wall Street analysts, like me, about eight quarters to catch up with the earnings per share over delivery. Because advertising revenue is so profitable. We just lag. So the stocks just keep moving up, and earnings revisions go upwards, because we can’t keep up with how profitable ad dollars are. That’s where I want to be. I want to get the most ad revenue you can give me, putting money to work in the stock market today in my space.
MB: Is that always the case, or is it just the cycle we’re in now?
LM: Just right now. I’ve been really negative about the ad cycle for 18 months. I would recommend buying Apple since it’s safe. But I think the ad cycle is now turned. Now, I would say to get out of anything that isn’t 100% ad driven, including Apple and Amazon, and just play the ad cycle in media.
MB: Obviously, you’re bullish on advertising. Do you see an advantage to being a linear company that’s ad focused, moving into streaming, or streaming Pure Play, with where TV is going?
LM: The problem is that you have to be globally scaled, and you have to have sister subsidiaries because streaming is not making money right now. If you’re a Pure Play streamer, like Netflix, that’s an issue because it’s completely unclear. Luckily, with the writers and the SAG on strike, all these companies are going to over deliver, at least in free cash flow, maybe even earnings. But if they weren’t on strike, they would have huge losses. This is something that Wall Street does not like. So it’s better to have a sister subsidiary, like E-commerce at Amazon, or linear at Paramount, or Warner Brothers Discovery, which has the film studio. Streaming is still losing money across the board, so it is really nice to have sister subsidiaries that can subsidize those losses.
MB: All right. If you were running a legacy media company right now making the transition to streaming, how aggressive would you be in that transition? Thinking about the innovator’s dilemma here. How fast would you move to that risk disrupting profits and cashflow, for the sake of moving into streaming?
LM: This is the Disney answer, right? Which started three years ago. It works for a while, driving its valuation up multiple times, for maybe 12 months. The issue today is that linear TV is past its level of maturity. It’s shrinking now, but it still is a massive cash cow, while streaming is no longer growing. We have saturation. People are net disconnecting from streaming. They have too many services, it’s too confusing. They can’t find the content they want. So we’re getting a rebundling in streaming to make the go-to-market proposition easier for the consumer to choose.
We have one market that’s mature and one that’s past mature. That means that revenue growth goes negative, and investors struggle with that. If I buy a share today, and your revenue will grow 10%, I’m going to be able to sell the share for 10% more next year, assuming the valuation multiple stays constant. But as soon as you have negative revenue growth, it becomes a big problem. Nobody wants to buy your shares because next year you’d have to sell them at a cheaper price. So if we have a mature business, the only way to drive EBITDA and EPS growth is to consolidate. So you should bundle in streaming to make the value proposition easier for the consumer to pick you and to make it harder for them to disconnect. This increases the lifetime value, the bigger your bundle.
And from a profitability point of view, if the top line isn’t growing, the only way to get investors back into these stocks, is to do what Discovery keeps doing. They bought scripts, ripped out 30% of the total cost structure, and bought Warner Brothers. Now they can report growing, earnings per share and profitability, even if the top line is not growing. But, technically, the top line grows because you have just added a new company. So the top line grows non-organically, and the earnings per share and operating income grows a lot faster.
Wall Street can invest in that because it is growing. I can sell my stock for more money a year or two from now. This industry has to continue getting larger. There must be a bigger bundle of a smaller number of choices, that also makes competition a little less onerous, which means your losses in streaming will decrease. I think this industry needs to consolidate and get bigger, because it is competing with Apple TV and Amazon, which are enormous.
MB: Absolutely. A few months back, at your conference, we were talking about who could be a buyer for Paramount. The group was split between a streamer like Amazon or Apple, and private equity. It looks like Disney put a “for sale” sign on ABC recently. What’s your take on that? Do you see the same decisioning there, with a buyer more likely than the other?
LM: I think private equity could buy the ABC O&O stations. It has become very common to sell O&Os. They have nice big free cash flows, and they still have around 40% margins. They should be able to lever them and pay down the debt, which is different from streaming, which doesn’t make money. I don’t know if there is a strategic buyer that isn’t up against the federal limits of their reach. So I don’t think that a strategic buyer could be a viable buyer for the Disney O&Os unless they get a waiver. I don’t know how likely that is in this administration, but it is an interesting asset for private equity, because of the enormous free cash flow that the O&Os throw off.
MB: We were talking earlier about consolidation and cost-cutting. If your top line isn’t growing, you have to improve EBITDA. Some companies are talking about cutting content costs. If you were a sports heavy group on the linear side, do you see a path to growing profitability? For instance, what’s the future of ESPN?
LM: To answer the first question, the strikes really aid sports because the strikes stop all new entertainment content. This pushes people back to either the linear TV ecosystem, Fubo, DirecTV, or the NFL Sunday Ticket, which is now at YouTube TV. The only new content on television that you haven’t seen before are sports. So the strike pushes viewing to sports, and it makes sports more valuable in the short-term until the writers and actors go back to work. It takes both of them to start up entertainment production. It’s bad for Netflix because it’s not hedged, it only does entertainment. They’ll try to make stuff offshore. But anyway, sports are going to be the most benefited.
All these companies that are not growing anymore are over levered. The free cash flow goes through the roof because your cost of goods sold for content goes to zero against your will, increasing the amount of free cash flow. Warner and Paramount both said that their free cash flow is $100 million dollars higher, and the writers were the only ones on strike in June. And they said that they will save between 200 to $300 million of free cash flow per quarter that the strikes persist. It’s not really a long-term, tenable solution, but as long as nobody has new content, you’re not in a worse position than your streaming competitors, but sports are in a better position; news as well.
I think the strike will last at least through the end of the year, because even if they solve it by October, it’s unlikely that they will work through Thanksgiving and Christmas. By de facto we’ll get back to work in January, and I think until then sports are going to have the highest ratings on television again.
MB: Fascinating. We also talked at the conference about the classification of YouTube as TV. Do you consider YouTube to be TV? If so, or if not, why?
LM: The most interesting question that I talk about with investors currently is, does the shift to attention metric commoditize content? Which is to say, money has not followed time spent. The ad revenue has not followed viewing into streaming. This is in part because that high quality content is commanding a premium CPM over user-generated content. Now there is this big move in the digital world to redefine everything as attention and not impressions. And YouTube is going to hugely benefit from redefining attention as a key metric to buy ads, because a third of their viewing of connected television, almost up to 35 years old, is done on YouTube.
We’ll lose part of the $60 billion that the demo over 50-years-old brings from premium content on a normal linear TV channel to some user-generated content. That’s how I think that plays out. I think attention undermines the fact that content quality is much more expensive in one realm than another.
MB: Yeah, and the traditional networks are completely against that. You can see the new measurement standards and everything cuts YouTube out of the picture.
LM: They’re trying to define YouTube and TikTok as not content. We’ll see how long that lasts, because that goes against the movement in the IAB to talk about attention, which would commoditize the content quality.
MB: Excellent. I’ll get you out with a couple more questions. Being at one of your panels recently, what’s your favorite question to ask panelists or people on webinars?
LM: My favorite question to ask to panelists is, what should we be talking about that we’re all missing? Or framed another way, what will happen one year from now that no one of us were thinking about? Because really smart people are thinking about this attention thing. Does it commoditize the quality of content, and thereby benefit some of these digital guys? It’s a very insider question, but I think it’s a really important question as we try to move the industry towards attention. That’s my favorite question. What should we all be talking about that everybody is missing? And usually an expert has a point of view on whether people are not talking enough about video games, or consolidation, or whether a company is going to buy ESPN. People typically have a point of view on something that they think people in the ecosystem are not talking about enough.
MB: What should we be talking about that we’re missing?
LM: Let me reframe that and answer the question, what are the best questions to be asking? The best question is, can old media persist? Because now it has to compete with Amazon, Apple, YouTube, and Meta, first, and second, with generative AI. Nobody’s missing that question on generative AI, but there is a school of thought that says it is going to be as big as the internet. That means there is going to be an enormous number of winners and losers.
Media is a little protected because it’s a content first business, as opposed to a tech first business. However, there is a lot of user-generated content already using it to increase their content footprints and rapidly update their content. Nobody’s missing the question about generative value, but it could be a massive valuation shift within media. And then, the size of the FANGs and their global scale. They have network effects, which gives them a huge moat and barrier to entry, and they have unlimited cash. Apple has $90 billion of free cashflow a year. They could write a check for the Walt Disney Company from cash and pay for the entire thing within 24 months. Is there any competitive advantage to being small? And in this case, the definition of “small” is the size of Paramount, and Warner, and maybe even Disney.
MB: Yeah. I see two trends tying together, generative AI, and the YouTube attention user-generated content. If you look at the strike, they’re trying to limit this technology coming into Hollywood. And then you’ve got the other side of the equation, the user-generated content: YouTube and TikTok, where they’re going to adopt it as fast as possible. If they redefine that as attention, and as TV, they’re going to have even more of a cost advantage than they have now, which is incredible. It’s fascinating how one group is rapidly trying to go away from this, and the other side of the equation is adopting it immediately.
LM: That’s a really great point that a lot of people are not talking about. The user-generated content people on Instagram or TikTok are using it. Tabula said that 100% of its ad buyers now are pressing the link that says, “Have generative AI edit my headlines.” And they find that, when someone uses generative AI to perfect and personalize the headlines, it’s a different headline than if I did the same process. They only make money on click-through rates, and they are seeing a 7.5% increase in those. So the generative AI does a better job than humans in writing headlines. If the user-generated people are using it faster, and it’s better because it’s using literally a trillion inputs from large language models, basically the premium content becomes less effective because they’re not using it.
MB: Yeah. It’s amazing. Well, Laura, I’ve really enjoyed this talk. Where can our audience find you?
LM: [email protected] is my email. And of course, they can always reach out to you because you know how to find me. You have all my coordinates, and I’m happy to talk to anybody who’s interested in these fields.
MB: Yeah, 100%. Well, I’m really grateful for your time, and I know our audience is going to love this conversation.
LM: Thank you very much. Have a great day.
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Laura Martin received her BA from Stanford and her MBA from Harvard Business School, and she holds a Chartered Financial Analyst (CFA) and a Chartered Market Technician (CMT) designation. Martin began her career at Drexel Burnham Lambert in media investment banking, followed by Capital Research & Management, where she advised $100 billion and managed a $500 million portfolio of media stocks. She moved to Credit Suisse First Boston in 1994 as the senior media analyst, where she was nationally ranked by Institutional Investor in 1999, 2000 and 2001. In 2002, Martin moved to Paris to become EVP of Financial Strategy and Investor Relations for Vivendi Universal. In 2004, she founded Media Metrics, LLC publishing equity research on the largest entertainment, cable and Internet stocks in the U.S., where she was nationally ranked as “Best of the Independent Research Boutiques” by Institutional Investor for many years. In 2009, Martin moved to Needham & Company, LLC, where she publishes research on the largest Internet and Entertainment companies.
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