Knowledge Bridge

//Ulrikke Albertsen /August 10 / 2012

Pay TV model proving most viable business strategy for multichannel players

Over the past few decades, the television market in the United States has become increasingly competitive with several business models vying for success. Here at the Knowledge Bridge, we put the business models to the test, comparing them based on audience share, advertising rates and financial structures. In the competitive and mature US market, the pay TV model is emerging as the most viable business model. The relatively stable income from subscribers seems to be giving companies following the pay TV model an edge over broadcasters reliant solely on advertising income. We’ll look at these strategies and how lessons from the US and other markets in the West might help television companies in emerging markets develop sustainable business models.

Broadcasters losing share as competition grows

Our research showed that over the past few decades, multichannel video programming distributors (MVPDs) in the US – which includes cable television (CATV) as well as direct-broadcast satellite (DBS) and now internet protocol television (IPTV) – have been steadily eroding broadcast network audience share. The four major US broadcast networks, ABC, CBS, NBC and Fox, have been steadily losing viewers since the 1980s, while pay TV – primarily ad-supported cable networks included in basic, non-premium cable packages such as USA, ESPN, CNN and MTV – have been gaining them. The major challenge for television companies is that total television viewing has remained relatively flat since the early 1990s, meaning that the more players are fighting for the same eyeballs, creating an increasingly competitive market.

In terms of total viewership, broadcast networks seem to have lost the battle. The total basic cable audience share already surpassed that of network TV in 2002, and since then it has continued to rise, both in terms of primetime and total day viewing. SNL Kagan, an American research company, expects the basic cable audience share to reach 70% of overall TV viewing in the US by 2016-2017.

Despite the fact that broadcast networks will command less than a third of the market in terms of overall viewing, SNL Kagan says that individually the networks will continue to provide widely viewed content to large audiences. However, both the internet, as well as IPTV, and multichannel TV services have clearly caused the American audience to splinter. “Gone are the days when the nation gathered around television sets in the evening to watch, say ‘The Cosby Show’ or ‘All in the Family’ and then chat about it the next day at work,” explains Horace Newcomb, professor of telecommunications at the University of Georgia. Gone are the days of a mass audience with a handful of choices. In the next few decades, technology will create an era of personalised information where everyone with view what they want when they want. This will only increase the pressure on broadcast networks to maintain their audience share at the size and consistent level that they had in the past.

Broadcasters still able to charge ad premiums

Not only are pay TV services, including cable and satellite, beating network TV in terms of audience share, but predictably, pay TV is also winning in terms of total revenue. Not only did overall pay TV revenues first surpass those of broadcast networks in 2008, but the gap will continue to grow, according to SNL Kagan. By 2016, network TV is projected to generate around $25 billion, while cable TV will reach almost $40 billion.

Pay TV might be winning in terms of overall revenue, but network broadcasters ABC, CBS, NBC and Fox can still take some solace that they still come out on top in terms of advertising revenue in the US. Even though cable TV has surpassed network broadcast TV in terms of audience share, broadcasters still attract roughly two-thirds of total TV ad spend. Broadcasters are able to charge much higher ad rates than cable outlets. The difference in ad rates is down to the difference in audience size for individual channels. Audiences are more fragmented across the dizzying number of channels available via cable or satellite, and no individual cable channel can match a broadcast network in terms of eyeballs. As a result, broadcast TV creates higher value value for advertisers and therefore charges higher rates. Broadcasters charge on average $10.25 per thousand viewers, while cable TV is able to take only half, $5.99, according to eMarketer.

Diversity of revenue benefits pay TV

However, our research found that pay TV businesses generally have the strongest financial and operating results because their revenue streams, in most cases, are split between advertising and subscription revenue. Broadcasters might be winning the advertising game, but they aren’t able to charge their viewers the relatively pricey subscription fees, often around $100 a month, that the MVPDs of pay television can. This diversity of revenue both taps into cable TV’s steady subscriber growth and increasing audiences over the past decades, while lessening the cyclicality inherent in the purely ad-based model of network stations. Put simply, advertising usually declines during a recession, but subscriptions provide pay TV providers a buffer from the ups and downs of the economy. That’s why NBC’s former chief executive, Jeff Zucker says, “ The cable model is just superior to the broadcast model.”

Comcast, the largest distributor of cable programming in the US and the owner of NBC Universal, for example, generates the majority of its revenue from its subscribers. In 2011, subscription fees made up an entire 86% of its cable division’s total revenue. However, it is not just large cable networks like Comcast that win in the pay TV model. Individual cable networks, such as the 24-hours news station CNN, also benefit from the pay TV model by charging MVPDs and other carriers so-called affiliate fees – shares of the subscriber payments. In 2011, a channel as widely watched as CNN could charge $0.57 per subscriber, accounting for approximately 50% of the channel’s total revenue. This contrasts with the revenue mix of the leading broadcast network, CBS, which generates 63% of its total revenue from advertising but only 12% in affiliate fees.

Pay TV revenues driving boom in original programming

Subscription and affiliate fees are clearly driving the growth of the cable industry. The rising revenue is able to fund program development and attract new viewers. Total payments from affiliate fees on the US TV market were approximately $32 billion in 2011, which was about 50% more than the total advertising spending on cable TV the same year. Premium cable businesses, like HBO and Showtime, are even managing to build their businesses without advertising revenues whatsoever. It only takes one brief look at the current Emmy nominations to recognize how cable channels, especially premium cable, are beating network TV in terms of talents and program recognition. In the past five years, the number of original programs aired on cable networks have increased significantly, growing 52.2% from 2007 to 2011.

The networks trying to adapt to these changes in the US television market. In the past, broadcasters were content simply to extend their research by allowing free carriage on cable and satellite. However, as subscription fees have grown in size and importance as a source of income in the US television industry, networks, such as CBS, have started to charge affiliate feeds too.

However, the highly competitive US market continues to evolve, and low barriers to entry bring high risks to the businesses involved. The new game changer, the internet, might bring pressure on the pay TV model. Content owners prefer to be aggregated in a bundle of channels through distributors like Comcast because that provides them valuable affiliate fees, but the internet has opened up the opportunity for the ala carte distribution of video programming. With consumers demanding more choice and customisation and the proliferation of free or low-price online video platforms, this might bring pressure on the more expensive pay TV model. Can MVPDs continue their current premium pricing to sustain premium content and the pay TV industry in the US with the rise of insurgent internet video platforms?

That might be the question in the mature, competitive US market, but emerging markets may develop in other ways. In the Middle East, pay TV via satellite is quite mature and very competitive. Although pay TV is on the rise in countries like Russia, it is a possibility that these markets will go immediately towards TV on the internet or at least delivered by internet technology. However, video programming delivered over the internet, IPTV, and paid content need not be mutually exclusive. As the American provider of on-demand internet streaming media, Netflix, has shown, though, online viewers are also willing to pay. Chinese online video providers, such as Tudou, are already buying and developing their own original programming to stand out in its very competitive market. Moreover, Tudou is starting to sell its programming to satellite TV providers.

Many of the dynamics that we found in our research of the US television market are playing out in markets around the world. With traditional television players as well as new players including newspapers, online video providers such as YouTube, Tudou and Amazon all developing an increasing amount of video programming, competition will increase for audiences. We suggest that video programming businesses in emerging countries, whether off or online-based, take a look at the underlying dynamics of the various American TV models and, while catering to local conditions, consider their opportunities for either charging viewers or carriers a fee for access to their content. Our research has shown that the purely ad based models can work for single channel operators when there is a wide enough audience that is valuable to advertisers, but for multichannel players, diversity in revenue looks like the most viable and attractive business model.

Article by Ulrikke Albertsen