MSG Networks (MSGN) Q1 2020 Earnings Call Transcript

MSG Networks (NYSE: MSGN)
Q1 2020 Earnings Call
Nov 07, 2019, 10:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning. My name is Carmen, and I will be your conference operator today. At this time, I would like to welcome everyone to the MSG Networks fiscal 2020 first-quarter earnings conference call. [Operator instructions] I would now like to turn the call over to Ari Danes, investor relations.

Please go ahead.

Ari Danes -- Investor Relations

Thank you, Carmen. Good morning, and welcome to MSG Networks fiscal 2020 first-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, and good morning. For the first quarter, our company generated revenues of approximately $161 million, adjusted operating income of $75 million and free cash flow of $56 million. While these results were impacted by a challenging subscriber dynamics, we continue to believe in the unique strengths of our business and remain committed to successfully execute against our core objectives. Our recent tender offer, where we repurchased approximately $250 million of stock reflects our opportunistic approach to utilizing free cash flow to create shareholder value and the confidence we have in our long-term outlook.

We have always managed our business with an eye toward long-term financial performance, which has served us well over our extensive history. This year, in fact, MSG Networks celebrates its 50th anniversary. Since our debut is the country's first regional sports network in October of 1969, we've had a proven track record of creating value through innovation and a history of first, including to name just a few. Being the first to provide regular high-definition sports coverage and the first to utilize virtual signage for hockey, both now the industry standard, the first to feature live stats and interactive gaming on a regional sports network streaming app.

And in response to the growing interest in fantasy sports, the first to provide a live fantasy-infused broadcast. Looking ahead, as the media landscape changes, we are confident in our ability to continue to innovate and drive value consistent with these changing dynamics. Our exclusive live game coverage of local professional sports teams is valuable programming for distributors as they look for ways to differentiate themselves. We believe this will continue to serve us well as we look to renew our affiliate agreements and explore distribution opportunities for our networks on additional platforms and in new formats.

With respect to advertising. First, let me say that advertising demand for our content remains strong, and we continue to believe we have considerable upside as the performance of our teams improves over time. We expect that new advertising categories, like last year's addition of legalized sports gaming, will continue to support our advertising sales efforts going forward. In fact, yesterday, we announced a new sponsorship agreement with FanDuel, making them an official sports gaming partner for our Knicks and Devils broadcast.

We are excited about this unique partnership, which includes a mix of in-game integration, branded content and commercial spots. As interest in the sports gaming space grows, we believe it will continue to drive not only advertising revenue, but also new content and engagement opportunities. Other areas where we remain focused are in growing branded content and our streaming app, MSG Go. In fiscal 2019, we more than doubled our branded content revenue compared to fiscal 2018, which, we believe, is a testament to the unique value we create for our partners.

We continue to build on this momentum and anticipate another year of strong growth as we've already welcomed a number of new content partners, such as FanDuel, who join our already impressive roster of brands. With respect to MSG Go, we are, again, adding new functionality this season, including interactive gaming features, which we expect will continue to drive user engagement, length of tune and create additional sponsorship opportunities. Finally, looking at subscribers. We experienced a slightly higher year-over-year rate of subscriber decline in our first quarter as compared to our fiscal 2019 fourth quarter.

While we remain focused on this dynamic, we firmly believe in the strength of our business and in our continued ability to generate substantial free cash flow, as well as long-term value for our shareholders. I will now turn the call over to Brett, who will take you through our financial results.

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

Thank you, Andrea, and good morning. Let's start with a discussion of our financial results for the fiscal 2020 first quarter. Total revenues of $161 million, decreased $3.5 million or approximately 2% as compared with the prior-year period. This was driven by a $2.1 million decrease in affiliate revenue, primarily reflecting the impact of the decline in subscribers and, to a lesser extent, a $700,000 unfavorable affiliate adjustment, partially offset by higher affiliate rates.

Advertising revenue decreased approximately $600,000 primarily due to a lower net decrease in deferred revenue related to ratings guarantees. Excluding the impact from deferred revenue, advertising revenue would have been relatively flat year over year. Looking ahead, we expect the year-over-year comparability of quarterly advertising results to be impacted by the timing of the regular season telecast schedule for the Knicks and our NHL teams. For example, we currently anticipate advertising revenue results in our second quarter to reflect the impact of fewer professional sports telecasts as compared with the second quarter of fiscal-year 2019, while our fiscal third quarter will reflect the impact of additional professional sports telecasts.

Other revenues were lower primarily due to the absence of $700,000 in Fuse media fees. Direct operating expenses of $68.7 million, increased $2 million or 3% as compared with the prior-year quarter primarily due to higher rights fees expense, mainly a result of contractual rate increases. SG&A expenses of $22.3 million, increased $5.4 million or 32% as compared with the prior-year period. This increase was primarily due to higher advertising and marketing costs, employee compensation and related benefits and professional fees.

The overall increase includes $1 million in expenses in the current-year quarter that are not indicative of the company's core expense base. Adjusted operating income of $74.7 million, decreased 12% as compared with the prior-year period due to higher SG&A expenses, the decrease in revenues and, to a lesser extent, higher direct operating expenses. Excluding the impact of the $1 million in SG&A expenses in the current-year quarter that are not indicative of our core expense base, the absence of $700,000 in Fuse media fees and the $700,000 unfavorable affiliate adjustment, fiscal 2020 first-quarter AOI would have decreased $7.6 million or 9% as compared to the prior-year quarter. In terms of our balance sheet, as previously announced, in early October, the company completed a $250 million modified Dutch tender offer of its Class A shares.

While this transaction is settled in the company's fiscal second quarter, a number of our balance sheet accounts reflect the drawdown of $100 million under our previously undrawn revolver, a step that was taken in our fiscal first quarter in anticipation of the tender closing. For instance, as of September 30, 2019, total cash and cash equivalents were approximately $360 million in addition to reflecting the contribution from the company's first-quarter cash flow also reflects the proceeds from the revolver draw. Total debt outstanding was approximately $1.1 billion at September 30, which reflected $1 billion outstanding on the company's term loan and $100 million drawdown on the revolver. Net debt at quarter-end was approximately $740 million, and our net leverage ratio decreased to 2.3 times trailing 12 months adjusted operating income.

Our average interest rate for the quarter was approximately 3.7%. Pro forma for the tender offer, our net leverage ratio would have been approximately three times trailing 12 months adjusted operating income. Reported free cash flow from continuing operations for the three months ended September 30, 2019, was $55.9 million. In mid-October, we amended and extended the maturities of our credit facilities.

As part of this transaction, we increased the size of the company's term loan by $100 million and used the proceeds to repay the newly outstanding balance under the revolver. As a result, the company now has in place a new $1.1 billion term loan, along with a $250 million undrawn revolver, each with a term of five years from October 2019. Our prior facilities have been slated to mature in September 2020. The terms of the new facilities are substantially similar to those of our prior facilities with certain terms reflecting favorable changes and/or incremental flexibility for the company.

As an example, our new credit facility provides for a total of $20.6 million in mandatory principal payments during the next 12 months. This reflects a substantial reduction from the prepayment amounts that would have been due during this period under the old facility and provides our company with enhanced financial flexibility. The refinancing of our credit facilities is consistent with our strategy of maintaining a strong balance sheet, which is the foundation that enables everything else we do to drive shareholder value. And to that end, in early October, we repurchased approximately 15 million shares of our Class A common stock or 24% of Class A shares outstanding at $16.70 per share for an aggregate cost of approximately $250 million.

We believe this transaction represented an important opportunity for the company to allocate a meaningful portion of its investable capital toward a significant effort to enhance long-term shareholder value. The company has $186 million remaining on its share buyback authorization, and looking ahead, we will continue to maintain an opportunistic and disciplined approach to capital allocation. I will now turn the call back over to Ari.

Ari Danes -- Investor Relations

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

Questions & Answers:

Operator

Certainly. [Operator instructions] Your first question comes from the line of Alexia Quadrani with JP Morgan. Please go ahead.

Alexia Quadrani -- J.P. Morgan -- Analyst

Thank you so much. You're heading into substantial renewal at year-end, I believe, with Altice. Is there any update you can provide us on how you see yourself positioned into this negotiation? And then, I guess, Altice management yesterday did mention some ARPU pressure from sub-cord shaving. Just wondering if you have or expect to see any impact to that?

Andrea Greenberg -- President and Chief Executive Officer

Adam, do you want to --

Adam Levine -- Executive Vice President, Business Affairs

Yes. So on the negotiation front, I'm not going to get into specifics regarding our negotiations. But I think we said, and you guys have heard us talk about our long track record of successfully renewing our agreements, including with major affiliates each of the past two years, we believe this reflects the long-term relationships we've built with our major affiliates, including Altice. We also believe it reflects the importance and unique and well-established value of our live content, particularly in this marketplace, which is one of the most dynamic and competitive markets in the country.

And so again, we can't get into specifics regarding negotiations that we have. We believe our unique position and as a provider of exclusive live game coverage in the local market for seven local sports teams will serve us well in our renewal negotiations. And the second part of the question was...

Andrea Greenberg -- President and Chief Executive Officer

Yes. In fact, we are not going to get into the specifics of individual operator performance other than to say that the modest increase that we've seen this quarter versus last quarter and the year-over-year decline, we believe, has come from one of our major distributors who's publicly stated recently that it's been impacted by a number of factors, including roll-off of promotional subscribers, and I think more recently, they've said by recent carriage disputes. So what you've seen is a modest increase in the year-over-year rate of decline we attribute to that specific major distributor.

Alexia Quadrani -- J.P. Morgan -- Analyst

Thank you very much.

Operator

Your next question is from the line of Bryan Goldberg with Bank of America.

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

Thanks. I've got a couple. First, on affiliate revenue, I mean it looks like it came in a bit better than expected, and this is despite the sequential uptick in subscriber losses and the onetime negative adjustment you guys called out in the release. So I was hoping you can give us more color on what's going on there, perhaps, with your rate card, was there any type of step-up in rate heading into the fiscal year, we should be thinking about, either from a renewal or an existing contract? Is there a minimum guarantee at play? Or if there's any other dynamic you could talk to, that would be great.

And then related, on the subscriber side, thanks for your commentary just now. Is it safe for us to assume that your subscriber declines would be meaningfully or materially better, excluding the impact of this certain distributor? I was just -- any color you could provide on the trend line in your base of traditional distributors would be greatly appreciated. And then I do have one quick follow-up.

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

Sure. So Bryan, I'll start that. So with regards to your comment about the rate of growth. I appreciate that, and I think we've talked about this on prior calls.

Said quarter to quarter, sort of looking at sort of external expectations, so why it's not always linear. I think we've highlighted before that we believe that it's more important to look at quarterly affiliate revenue with a wide lens rather than try to dissect the percent change, if you will. We -- I think we've offered this perspective, both when the trend line was a little above external expectations or when it was below expectations. So I think ultimately, what it amounts to is that our affiliate contracts are complex.

They have a variety of economic provisions, and these economic provisions can impact the quarterly trend with regards to pulling out the impact of a single operator. We're not going to do that. I think we've been clear of Andrea's remarks just before in our prior calls that our trends have been impacted by one operator, in particular, and other quarters others, but we're not going to try to give you a pro forma number of what the trend would have been if we took out one or added back something else.

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

OK. Fair enough. And my follow-up's on the advertising side. I think you guys were one of the first in the TV market to benefit from marketing spend related to the legalization of sports gambling.

And I think you've lapped that initial influx of money now. And I was just wondering if you could share with us your perspective on the outlook for this category from here? And I know you had some commentary on it in your prepared remarks, but is this still a high-growth opportunity for you? And how should we think about the potential legalization of sports gambling in New York State and how this might affect your advertising business?

Andrea Greenberg -- President and Chief Executive Officer

Thanks for the question. Yes, we certainly continue to see strong demand from this segment of the market. And as we announced yesterday, we have a new comprehensive partnership with the Knicks and Devils telecast with FanDuel that include not only commercial spots, but also branded content and integrations, which I've talked about a lot as being part of our core strategy. So we are very, very optimistic about the market.

We're excited about the potential for future opportunities. As you say, if additional markets in our territory legalize mobile gaming in the future, we think there is more opportunity for growth. And we also -- as we've said in the past, we also see it as a way to drive increased fan engagement and viewership. So that has additional benefits outside of just the new category.

I think the upside is significant for us.

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

Thank you.

Operator

Your next question is from the line of Brandon Ross with LightShed.

Brandon Ross -- LightShed Partners -- Analyst

Hi. Good morning. First for Bret. Wondering if you could tell us kind of the philosophy that was behind doing a tender offer versus open market purchases? And if you would take leverage up further if there's another opportunity that presents itself like what happened last quarter.

And I have a follow-up for Andrea.

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

Sure. Thanks, Brendan. I think first and foremost, the activity this quarter was really consistent with the messaging that we've been giving for an extended period of time. I think on these calls, quarter to quarter, we use words like disciplined and opportunistic.

And if you look back at 2019, the translation to that was primarily deleveraging. When we hit the summer factored in all the -- various factors, including the -- we factoring in various factors, including the level of the stock price, we saw an opportunity to buy a substantial amount of stock or at least try to buy a substantial amount of stock in launching the tender with the tender was ultimately successful. And that was consistent with, again, disciplined, taking advantage of opportunity and using leverage. So we've also not quantified leverage targets in the past.

We obviously took leverage down materially over the last four years from approximately five times to its inside of 2.5 times, but we took up leverage in this instance. And you will be thoughtful going forward. But what we haven't done and what we won't do is create expectations about how we'll allocate capital because we want to use those two important tools of sort of disciplined and opportunities a guiding principle.

Brandon Ross -- LightShed Partners -- Analyst

Great. And then for Andrea, you have, what, 16 years left on your Knicks and Rangers' rights deals, and obviously, the ecosystem is evolving pretty rapidly. Are there other ways maybe you can monetize those rights off of your own network? I guess I'm especially interested in if you think you could sub-license the rights to mobile betting apps as sports betting is hopefully approved in New York and Connecticut.

Andrea Greenberg -- President and Chief Executive Officer

We'll look at all -- any and all alternatives to get our product out there. We'll look at new formats, we'll look at nontraditional distributors, we look at short-form content. We've obviously put a lot of effort into MSG Go and some of the ancillary benefits there. So the answer is, we will look at anything that makes sense for our business.

Brandon Ross -- LightShed Partners -- Analyst

Many thanks.

Operator

Your next question is from the line of David Miller with Imperial Capital.

David Miller -- Imperial Capital, LLC -- Analyst

Thank you. Hey, Andrea, I wanted to ask you about the potential of taking MSG and/or both the MSG Networks national, very similar to what Fox has done with the Big Ten Network. I mean if you look at BTN, right, it's not really a regional sports network because I mean, obviously, the Big Ten is primarily encompasses schools in the Upper Midwest and a couple on the East Coast, but Big Ten alumni are everywhere in the same way that Rangers' fans and Knicks' fans are everywhere. So what are the restrictions in place that you have right now, whereby you cannot roll out the networks nationally? I'd just like to understand that.

Andrea Greenberg -- President and Chief Executive Officer

Well, we actually do have a national product now. It's distributed on the DIRECTV platform and on some operators in some of their -- I believe, in some of their sports tiers. The product is our programming SR professionals' team product. So we are limited by the leagues in terms of where we can take our local exclusive game product.

And we are excited about looking for new distribution opportunities nationally for MSG. We agree that there are fans of the Knicks and the Rangers live into Devils and Sabres nationally, and we'll look to exploit that wherever possible.

David Miller -- Imperial Capital, LLC -- Analyst

OK. Thank you.

Operator

Your next question is from the line of David Joyce with Evercore.

David Joyce -- Evercore ISI -- Analyst

Thank you. I think you alluded to some of the content earlier. But if you could please provide some more details on the incremental content that you've been adding to your properties lately. Just to help understand what some of the growth drivers could be?

Andrea Greenberg -- President and Chief Executive Officer

Just our new programming, we've got -- we launched this summer. I think I talked about it on one of our calls, MSG 150, which over the summer was a three-hour show that married culture and sports, and we've continued that going into the season. So that's a new program that we have that airs post our Postgame, that's doing very well for us so far. We've got partnerships with brands like Complex, and over time that we've added to our programming lineup, and that's designed to bring in some of our younger viewers.

So I've talked a lot about this. We look for organic and opportunistic ways to grow our programming lineup. And in all cases, we look for them to be accretive to our bottom line.

David Joyce -- Evercore ISI -- Analyst

OK. Thank you.

Andrea Greenberg -- President and Chief Executive Officer

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

Operator

All right. And your last question will come from the line of Bernie McTernan with Rosenblatt.

Bernie McTernan -- Rosenblatt Securities -- Analyst

Good morning. Thanks for taking the question. On SG&A, there's been a step-function change in the level of spend for the past four quarters. Should we expect it to grow from here, albeit at a lower rate as we anniversary-ed the step-up starting next quarter? And then just a question on the affiliate fee, and a follow-up to Bryan's question.

Was any impact on rates, should we expect that to be recurring in future quarters? And then for Andrea, you made a comment on exploring distribution on new platforms. Was that just a comment on virtual MVPDs? Or was there something else as well?

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

Yes. Thanks, Bernie. I'll take the beginning of that. So first, we'll take out order with the second question with regards to rate.

We don't provide guidance and not going to speculate on the impact of any given element of the current quarter on a future quarter. Similarly with SG&A, not providing guidance. But yes, on a year-over-year basis, there's been a step up we've highlighted both last quarter and this quarter that an element of that relates to certain spend, which isn't part of the company's core expense base. A portion of that was professional fees.

We have -- and one of the things you're seeing in this percent change in a company that produces $700-ish million on annual basis, we have single-digit millions of dollars in SG&A for marketing expense or advertising, sales commissions, which can really move these numbers. In this quarter, as I highlighted in our prepared remarks, a portion of the increase related to advertising and marketing, where we were promoting certain of our product.

Adam Levine -- Executive Vice President, Business Affairs

Yes. And I think just on the follow-up to Brandon's question, I think what Andrea was -- Brandon's question, I think, was focused on nontraditional methods of distribution. So I think that's what Andrea was answering. But I think generally speaking, the answer applies to all distribution -- all incremental distribution opportunities, including virtual distribution opportunity -- virtual MVPD distribution opportunities.

Bernie McTernan -- Rosenblatt Securities -- Analyst

Understood. Thank you very much.

Operator

I will now turn the call back over to Ari Danes for any closing remarks.

Ari Danes -- Investor Relations

Thanks, Carmen. Thank you all for joining us, and we look forward to speaking with you on our next earnings call. Have a good day.

Operator

[Operator signoff]

Duration: 29 minutes

Call participants:

Ari Danes -- Investor Relations

Andrea Greenberg -- President and Chief Executive Officer

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

Alexia Quadrani -- J.P. Morgan -- Analyst

Adam Levine -- Executive Vice President, Business Affairs

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

Brandon Ross -- LightShed Partners -- Analyst

David Miller -- Imperial Capital, LLC -- Analyst

David Joyce -- Evercore ISI -- Analyst

Bernie McTernan -- Rosenblatt Securities -- Analyst

More MSGN analysis

All earnings call transcripts