MSG Networks (MSGN) Q4 2019 Earnings Call Transcript

MSG Networks (NYSE: MSGN)
Q4 2019 Earnings Call
Aug 21, 2019, 10:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning. My name is Christie, and I'll be your conference operator today. At this time, I would like to welcome everyone to MSG Networks fiscal 2019 fourth-quarter earnings conference call. [Operator instructions] Thank you.

I would now like to turn the call over to Ari Danes, investor relations. Please go ahead, sir.

Ari Danes -- Investor Relations

Thank you, Christie. Good morning, and welcome to MSG Networks fiscal 2019 fourth-quarter conference call. The company's president and CEO, Andrea Greenberg, will begin this morning's call with a discussion of the company's operations. This will be followed by a review of financial results of Bret Richter, the company's EVP, chief financial officer, and treasurer.

After their prepared remarks, we will open up the call for questions. If you do not have a copy of today's earnings release, it is available in the Investors section of the company's corporate website. Please take note of the following. Today's discussion may contain statements that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Investors are cautioned that any such forward-looking statements are not guarantees of future performance or results and involve risks and uncertainties and that actual results, developments and events may differ materially from those in the forward-looking statements as a result of various factors. These include financial community perceptions of the company and its business, operations, financial condition and the industry in which it operates, as well as the factors described in the company's filings with the Securities and Exchange Commission, including the sections entitled Risk Factors and Management's Discussion and Analysis of Financial Condition and Results of Operations contained therein. The company disclaims any obligation to update any forward-looking statements that may be discussed during this call. Lastly, we will discuss certain non-GAAP financial measures on today's call.

On Pages 5 and 6 of today's earnings release, we provide consolidated statements of operations and a reconciliation of operating income to adjusted operating income. In addition, on Page 8 of the earnings release, we provide a reconciliation of net cash provided by operating activities to free cash flow. With that, I'll now turn the call over to Andrea.

Andrea Greenberg -- President and Chief Executive Officer

Thank you, Ari. Good morning. For fiscal 2019, we successfully executed against many of the financial and strategic objectives we established at the beginning of the year. We generated substantial revenue, adjusted operating income and free cash flow, drove a double-digit percentage increase in advertising revenue and successfully renewed several affiliate agreements.

However, our fourth-quarter results reflect a few items that deserve some focus on this call, starting with our year-end viewing subscribers. This last time last year, MSG Networks had its lowest rate of subscriber decline in five years. Last year's results not only reflected the addition of OTT subscribers, but also a reduction in the overall rate of decline of our traditional operators. In fiscal 2019, this trend did not continue.

And as of May, MSG and MSG Plus had a combined average of approximately 6.5 million viewing subscribers, a year-over-year decrease of 6.3%. This represented an acceleration in the overall rate of subscriber decline, which was primarily related to two distributors. One of these distributors has publicly stated that it is currently being impacted by a roll-off of certain promotional subscribers. In addition, both of these distributors experienced subscriber growth in the comparable prior-year period, resulting in a difficult year-over-year comparison.

Subscriber declines are an aspect of the business we monitor closely, and we continue to pursue new distribution outlets for our networks. In addition, our fourth-quarter financial results on a year-over-year basis were impacted by a number of items that are not indicative of our core operations. Adjusting for the impact of these items, our full-year financial performance reflects growth in both revenues and AOI. Bret will have more to share on this subject.

Looking ahead, we remain firm believers on the value of live sports content and in our ability to successfully capitalize on new opportunities. As we've said in the past, we have multidimensional relationships with our key affiliates and a long history of being able to successfully renew our agreements in the ordinary course, including this past year with a major affiliate. It is our expectation this will continue to be the case. With regard to advertising, we had an impressive fiscal 2019 and believe we have a number of ways to continue to grow the business.

This includes new advertising categories, such as sports gaming where we see the potential for further upsides should additional markets in our territory legalize mobile gaming. We are also very optimistic about our non-ratings-based initiatives, particularly as we drive MSG Go utilization and premier brands such as Anheuser-Busch and General Motors, increasingly recognize the value of integrating their offerings recognized with our sports programming. While branded content still represents a small percentage of our total advertising, it has been growing rapidly and in fact, doubled in size as compared to fiscal 2018. We also believe there will be significant upside should team performance improve.

The Knicks have built a roster that includes RJ Barrett, the No. 3 pick in the 2019 NBA Draft, along with a number of other talented players acquired through free agency, and our hockey teams made some significant moves this summer, which we expect will lead to an exciting NHL season. So while we understand the media landscape is changing, we believe we are well positioned to continue to successfully monetize our unique content, generate substantial free cash flow and create long-term value for our shareholders. I will now turn the call over to Bret, who will take you through our financial results.

Bret Richter -- Executive Vice President, Chief Financial Officer, and Treasurer

Thank you, Andrea, and good morning, everyone. I would like to start today by touching on our full-year fiscal 2019 financial results before turning to our results for the fourth quarter. For fiscal 2019, total revenues were $720.8 million, an increase of more than 3% as compared with the prior year, driven by higher affiliate and advertising revenues. Fiscal 2019 adjusted operating income was $335.4 million, which was fractionally lower as compared with the prior year.

As Andrea mentioned, there were various items that impacted our fiscal fourth-quarter results on a year-over-year basis. If we were to exclude these items from our full-year results, adjusted operating income would have increased in fiscal 2019 as compared with the prior year. Turning to results for the fiscal 2019 fourth quarter. Total revenues of $168.4 million decreased $3 million or 2%.

Affiliate revenue decreased $3.3 million, primarily reflecting the impact of the decline in subscribers and, to a lesser extent, the absence of a $1.2 million favorable adjustment reported in the prior-year fourth quarter. This was partially offset by higher affiliate rates. Advertising revenue increased $900,000 mainly due to higher sales from the telecast of live professional sports programming, including playoff games and to a lesser extent, increased sales from the company's branded content initiatives. This was partially offset by a lower net decrease in deferred revenue related to ratings guarantees.

Other revenues were lower primarily due to the absence of $750,000 in Fuse media fees. Direct operating expenses of $70.1 million increased $1.3 million or 2% as compared with the prior-year period, reflecting higher rights fees expense, which was primarily the result of contractual rate increases. This increase was partially offset by a decline in other programming-related costs. SG&A expenses of $26.3 million increased $6.5 million or 33% as compared with the prior-year period.

This increase reflects $3.6 million in expenses incurred in the current-year quarter, which are not indicative of the company's core expense base, as well as higher advertising and marketing costs and, to a lesser extent, higher employee compensation related benefits, including share-based compensation expense. Adjusted operating income of $76.4 million decreased 11% as compared with the prior-year period, reflecting increase in SG&A and direct operating expenses and, to a lesser extent, a decrease in revenues. Excluding the impact of the positive affiliate adjustment and Fuse media fees both recorded in the prior-year fourth quarter, as well as the $3.6 million in SG&A expenses in the current-year quarter that are not indicative of our core operating expense base, fiscal 2019 fourth-quarter AOI would have decreased $4.2 million or 5% as compared with the prior-year quarter. In terms of our balance sheet as of June 30, 2019, total cash and cash equivalents were approximately $226 million.

Total debt outstanding was $1.02 billion and our $250 million revolver remained undrawn at quarter's end. As of June 30, 2019, net debt was approximately $795 million and our net leverage ratio was 2.4 times trailing 12 months adjusted operating income. This reflects a reduction of half a turn in leverage over the past year. Our average interest rate for the quarter was approximately 4%.

Reported free cash flow for the 12 months ending June 30, 2019 was approximately $203 million. With regard to the allocation of this cash flow, during the fiscal fourth quarter, we made mandatory principal payments of $18.8 million in accordance with the terms of our credit agreement. For the full-year fiscal '19, we made $175 million in principal payments, including $100 million in voluntary prepayments. Looking ahead, our credit facility provides for approximately $114 million in mandatory principal payments in fiscal 2020.

We believe our company's ability to generate substantial free cash flow, which to date has primarily been used to pay down debt, should continue to be an attractive feature for our equity holders, particularly relative to our current market capitalization. Furthermore, we view capital allocation as a dynamic process and we will continue to make determinations on a go-forward basis that we think are consistent with the creation of shareholder value. I will now turn the call back over to Ari.

Ari Danes -- Investor Relations

Thanks, Bret. Christie, can we open up the call for questions?

Questions & Answers:

Operator

Certainly. [Operator instructions] And your first question is from Bryan Goldberg of Bank of America.

Bryan Goldberg -- Bank of America Merrill Lynch -- Analyst

Thanks. I had a question about the subscriber declines. I was just hoping to clarify, the greater than 6.5% decline rate that you reported this quarter, is that an organic figure that doesn't reflect any changes in packaging or distribution? And I guess looking out over the next few quarters, what are the puts and takes that you see that could change this rate of decline either positively or negatively? And then I have a follow-up.

Andrea Greenberg -- President and Chief Executive Officer

OK. I'll take that one. Thanks, Bryan. First, let me answer your first question.

There were no adverse changes to our contracts with any of our distributors. We did -- we're certainly mindful that the subscriber declines have accelerated in recent months, and we're very focused on this dynamic. I think that it's important for us to point out or to reiterate some of the things that we mentioned in our prepared remarks. The May year-over-year rate of decline getting us to an average MSG, MSG Plus viewing subscriber number of 6.5 million was a May-over-May decline of 6.3%.

So I think that's an important number to focus on. The color that we provided I also think is important. If you look at that acceleration in the rate of decline, it came primarily from two distributors, and we thought it was important to provide a little bit more information about that. Those two distributors actually had growth in the same period last year, which, as you might imagine, we were thrilled with.

They are terrific partners, and we were the benefits -- the beneficiaries of some real successes with them last year. So that makes for a difficult year-over-year comparison for us. And in terms of looking ahead, while we're not going to provide specific guidance, we're certainly not standing still. And actually, Adam, do you want to talk a little bit about...

Adam Levine -- Executive Vice President, Business Affairs

Yes. Sure. So I think I'd start by just reinforcing that we remain -- we're focused on all opportunities for incremental distribution of our content, which include expanding our relationships with our existing partners but as well as securing new distribution partnerships. So as an example, we expect our networks to be included in a new pay television broadband offering from one of our existing partners that we anticipate rolling out in this market later this year or in early 2020.

We also are discussing other new potential content offerings with our existing partners such as 4K. And of course, we're focused on new virtual MVPD distribution opportunities. But we're also discussing opportunities with other potential new partners about other content opportunities. So there's no shortage of interest in sports content, especially the live professional sports content.

And as exclusive rights holders for live games of seven local professional teams, we're going to continue to explore all opportunities that properly value our content and make sense for our business.

Bryan Goldberg -- Bank of America Merrill Lynch -- Analyst

Thanks. That's very helpful. And I guess your 10-year deal with LPs is expiring in about three months, as far -- in order to correct. And I was wondering, as you head into this round of negotiations, if you could share some of the goals you hope to accomplish with the new deal with them.

Adam Levine -- Executive Vice President, Business Affairs

Sure. I guess I would start by just saying, of course, as you know, this past fiscal year, we successfully renewed affiliate agreements with several distributors, including a major distributor, and that's consistent with our track record of successfully renewing affiliate agreements. And we think that reflects long-term and positive relationships that we have with our partners and unique value of the live content that we have, especially in this hypercompetitive New York distribution market. I think we'd also point out that public statements from LPs support that, those statements.

And I think they pointed to the importance of RSN programming in this market, as well as the strength of the relationship. So I can't really get into specifics on our discussions or negotiations, but we're confident we'll be able to successfully renew our agreements as they come up in the future and that they'll have appropriate protections and be consistent with our goals to continue to generate significant affiliate revenue.

Andrea Greenberg -- President and Chief Executive Officer

And Bryan, we've said this before. We have multifaceted relationships with virtually all of our distributors, and we expect that to continue with LPs.

Bryan Goldberg -- Bank of America Merrill Lynch -- Analyst

Great. Thank you very much.

Operator

Thank you. Your next question is from Brandon Ross.

Brandon Ross -- BTIG -- Analyst

Hi, guys. Thanks for taking the questions. I guess first, a follow-up to Andrea's answer to Bryan's question there. You said that in May, sub declined -- went down to 6.3%.

Have you guys seen June numbers yet? And if so, could you maybe share with us what those look like? And then for Bret, I was hoping you could get a little more granular on your capital allocation plan. I guess in the past year, you sensibly focused your free cash flow to deleveraging over stock repurchase. But with the stock now where it is, does that change the calculus for you? And how does the term loan expiration play into your capital allocation plan? Thanks.

Bret Richter -- Executive Vice President, Chief Financial Officer, and Treasurer

Sure. Yes. Thanks, Brandon. I'll actually take them both.

This would be the time where we'll start to see sub numbers -- obviously, the numbers we report quarter to quarter are on a lag, but we're not going to comment on a month forward and deviate from our practice. With regards to capital allocation, I think you already hit the major point. If you look back at fiscal 2019, it was pretty clear that our priority had been deleveraging, paying down $175 million of debt, including $100 million of voluntary prepayments. Looking ahead, and we've said this before, capital allocation is a dynamic, multifaceted process where we consider numerous variables, including some of the variables that you mentioned, but we're not going to deviate from our practice and project forward what we may or may not do.

We'll continue to develop that process internally and report our results as we report. Finally, with regards to the bank deal, yes, and that is a factor, and I'm not sure I could point to a more important factor in capital allocation than a strong balance sheet. And we do intend to begin discussions with our banks regarding either amending or replacing our existing facility. And we did consider entering into those discussions and accumulate some additional cash on the balance sheet.

We thought it would be prudent to have that on hand as we figure out the appropriate capital structure for the company on a go-forward basis.

Brandon Ross -- BTIG -- Analyst

Are you comfortable with where your leverage ratio is now? Or would you like to lower it before you enter into those agreements?

Bret Richter -- Executive Vice President, Chief Financial Officer, and Treasurer

Yes. I think we've made enormous progress reducing that ratio. I mean it was -- I don't know the exact -- give or take, double where it was -- it is now when we started as an independent company almost four years ago. And again, we think that's an asset of this company having been able to apply our free cash flow, which is substantial to that process.

But setting a leverage target implies almost a view of all these factors going into the future, and we don't set the leverage target that we're going to be held to on a go-forward basis.

Brandon Ross -- BTIG -- Analyst

Great. Thanks for your color.

Operator

Thank you. Your next question is from Michael Morris of Guggenheim Securities.

Michael Morris -- Guggenheim Partners -- Analyst

Thanks. Good morning. I have two questions. The first is following up on the subscriber trend questions from the prior two analysts.

Can you just reconcile for us the greater than 6.5% decline that you cited in the press release and then the 6.3% decline from Andrea's comments? What's the difference between the 2? And as analysts, what should be important to us in terms of discerning the trend? Is this indicating something is getting better? Or which number is important to us? And then I have another topic.

Bret Richter -- Executive Vice President, Chief Financial Officer, and Treasurer

Yes. I don't think I've ranked any of the numbers in importance. I mean there are two different numbers that are derived from the same data set. The more than 6.5% relates to the revenue in the quarter, so you can think of the period from the end of March to the end of June and how that was impacted by subscribers.

And the 6.3% is the number of subscribers we had at the end of May.

Michael Morris -- Guggenheim Partners -- Analyst

OK. Compared to the end of the prior May?

Bret Richter -- Executive Vice President, Chief Financial Officer, and Treasurer

Compared to the prior May.

Andrea Greenberg -- President and Chief Executive Officer

Yes, yes.

Michael Morris -- Guggenheim Partners -- Analyst

OK. And then you talked about having discussions, open discussions in an effort to expand carriage when you can. And my first question, is price the primary sticking point when you look at platforms that you aren't on, that you would benefit from having carriage on? And if so, how do you think about at some point potentially some flexibility on the pricing side in order to offset subscriber declines and make sure that you're as broadly distributed as possible and also have the best opportunity to reach the advertising audience you want to reach?

Adam Levine -- Executive Vice President, Business Affairs

Sure. So I'll jump in on this one. Obviously, price is important and it's an important element of our negotiations. I'm not going to get into specifics on our negotiations or negotiating strategy.

But I think we strongly believe that we provide highly valuable programming to our affiliates, as I said, live local professional games for seven teams. And we've been successful achieving broad distribution and substantial affiliate revenue. And price is one important term in a negotiation. It's not the only one and it's not the only economic term that we negotiate.

And basically, our focus is to ensure that content is properly valued overall, and we have a track record of success in that regard. And ultimately, we have the flexibility to negotiate deals that make sense for our business going forward.

Michael Morris -- Guggenheim Partners -- Analyst

Great. Thank you.

Operator

Thank you. Your next question is from David Miller of Imperial Capital.

David Miller -- Imperial Capital, LLC -- Analyst

Yes. Hey, guys. Two questions. Andrea, could you talk about maybe just new advertising categories that you think might emerge onto the platform over the next fiscal year? Similar to what we saw with FanDuel and some of the sports betting stuff over the last year, I thought that really kind of changed the paradigm for you guys over the last fiscal year.

And what other categories do you feel are out there that maybe investors aren't aware of that you guys are working on? And then separately, just kind of an offshoot question. One metric with you guys that I don't think is highly appreciated by the Street is your free cash flow generation. I think you did $302 million in levered free cash flow over the year. That's a free cash flow yield of 16% based on yesterday's close.

Of course, that number is higher just given where your stock is right now. So given that, why be a public company? Why not consider going private with a private equity sponsor? You could certainly pair the debt very quickly over, say, a seven-year time frame, much the same way you've done over the last five years since you split from the mother ship? Appreciate any comment in that regard. Thank you.

Andrea Greenberg -- President and Chief Executive Officer

Sure. I'll start with the advertising question. I think that demand for our product remains really strong, not just by new categories, but by expanded opportunities with existing advertisers. And we've, as you now, been focused on that for the last several years.

We think legalized sports gaming is -- it represents a continuing opportunity for us. I think as Connecticut comes online, as New York hopefully comes online with mobile gaming opportunities, we think the category can continue to expand. We've also recently added programming around the sports gaming industry. So we will continue, I believe, to grow that category.

Other new categories that we're looking at, last year, we added studios, we added tourism. We go through a very, very specific evaluation of how we can integrate all of these different categories and specific partners into our content. And that brings us to the branded content initiative. You've heard me talk about that over and over again.

And while it's still very small, it grew -- it doubled last year, and we have aspirations to continue to grow that at double-digit percentages. It's non-ratings guaranteed. We have the ability to use our infrastructure, so our cluster will allow -- and I think the yield is high to us and to the client. Other advertising opportunities, MSG Go.

Last year, we added new interactive features. We saw that that increased stickiness for the app. This year, we're adding even more enhancements, fun enhancements that are now in beta that we'll talk about next quarter. But overall, I think that our ability to continue to push advertising is a good one.

New content, MSG 150, team performance. We had a very exciting off season. I'm giving you my list here. We had a very exciting off season.

The Knicks added some new free agents. They added RJ Barrett, the No. 3 draft pick. If you look at our hockey teams, the New York hockey team is very exciting with the addition of the No.

1 and the No. 2 draft picks, Kaapo Kakko and Jack Hughes and P.K. Subban and Artemi Panarin. I mean we've got some exciting things coming up on the horizon, I think, from the advertising front.

Bret Richter -- Executive Vice President, Chief Financial Officer, and Treasurer

And David, I'll take the second half of your question. I appreciate you putting a spotlight on the cash flow we generated, $203 million this year, and the company's ability to generate cash flow. I think the economics of the business are really powerful. To generate $200-plus million of after-tax free cash flow on our revenue base reflects the low capital intensity of our business and the real flow-through from our AOI directly to free cash.

That cash flow accrues directly to the value of the equity, whether we keep the cash on the balance sheet, use it to pay down debt or return it to shareholders, and it's a really powerful aspect of the business. But with regards to your hypothesis on the LBO, while we appreciate it, we're not going to comment on hypotheticals or the like. But again, thanks for the note on the cash flow.

David Miller -- Imperial Capital, LLC -- Analyst

Fair enough. Thank you.

Ari Danes -- Investor Relations

Thanks, David. Christie, we have time for one last caller.

Operator

Sure. Your final question is from Ben Swinburne of Morgan Stanley.

Ben Swinburne -- Morgan Stanley -- Analyst

Thank you. Andrea, I'm sure you didn't leave the Islanders out on purpose, but I think they have a good number, a solid year.

Andrea Greenberg -- President and Chief Executive Officer

No, no. You know what? The Islanders resigned their playoff making roster closely.

Ben Swinburne -- Morgan Stanley -- Analyst

There you go. OK. Exactly. I just wanted to ask about the Go opportunity in a little more detail.

You talked about advertising. I don't know if there's any statistics you guys can share with us about usage of that app over the course of the last year or two. Any sense for engagement trends? I know you've invested a lot in it. And there's obviously a lot of growth around streaming.

And I know we talked about this from time to time on this call. But how do you guys think about the opportunity to take that service beyond the bundle? I know that's not something in the regional sports network business that typically gets brought up, but since it's quite in vogue across the landscape and you clearly have highly passionate fans of all your teams, it's probably something that you guys kick around often. So I just want to how you think about the sort of risk and opportunity associated with that. And any statistics you can share with us about engagement and usage would be of interest, too.

Andrea Greenberg -- President and Chief Executive Officer

Sure. Well, last year, MSG Go was impacted by team performance. And while we saw length of tune increase because of the increased, I think, features and functionality in the redesign of the app, our ratings for our teams, except for the Islanders, were down, but we found and we've talked about the fact that the MSG Go is for us an incremental viewership play and that we have advertisers that are actually purchasing MSG Go opportunities separate from opportunities on our linear platform, and I think that that's important to note. We continue to improve the user experience, and we will continue to drive utilization and length of tune.

That's our goal. Last year, we offered things like Knicks mobile view. I don't know if anyone checked it out. It enabled you to watch a live stream fully optimized for mobile viewing.

The angles and the picture was more appropriate for mobile viewing. It got you closer to the action. We also, last season, were the first RSN ever to integrate game, team and player stats into our platform. We integrated interactive features like gaming.

And again, as I said, this year, we're going to do more and more to increase engagement and length of tune. I do think utilization of MSG Go will improve in terms of the number of users as our team performance gets better. On the other question, do you...

Adam Levine -- Executive Vice President, Business Affairs

Yes. I think we've talked about this in the past as something that we're comfortable with our current business model and the strong revenue and AOI, free cash flow that we generate. It's something that we would think about and look at, evaluate. And we have the flexibility to do it if it made sense for us.

But right now, I think we've pointed out that we're comfortable with the partnership that we have with our MVPDs.

Ben Swinburne -- Morgan Stanley -- Analyst

Got it. Thank you.

Operator

Thank you. We have no further questions at this time. I will turn the call back over to Ari Danes for any additional or closing remarks.

Ari Danes -- Investor Relations

Thank you all for joining us. We look forward to speaking with you on our next earnings call. Have a good day.

Andrea Greenberg -- President and Chief Executive Officer

Thanks, everyone.

Operator

[Operator signoff]

Duration: 33 minutes

Call participants:

Ari Danes -- Investor Relations

Andrea Greenberg -- President and Chief Executive Officer

Bret Richter -- Executive Vice President, Chief Financial Officer, and Treasurer

Bryan Goldberg -- Bank of America Merrill Lynch -- Analyst

Adam Levine -- Executive Vice President, Business Affairs

Brandon Ross -- BTIG -- Analyst

Michael Morris -- Guggenheim Partners -- Analyst

David Miller -- Imperial Capital, LLC -- Analyst

Ben Swinburne -- Morgan Stanley -- Analyst

More MSGN analysis

All earnings call transcripts