Discovery Communications Earnings Are Hurt by Merger-Related Expenses

The TV landscape is changing quickly, but Discovery Communications (DISCK) is hoping that by moving aggressively, it can protect profitability even as content consumption moves away from traditional broadcast networks.

The entertainment giant's latest quarterly results showed how its responses to these changing demand trends are hurting short-term earnings. Yet the company made good progress at repositioning itself to better compete in the industry while protecting core metrics like sales and profitability.

Let's take a closer look.

Data source: Discovery's financial filings. 

What happened this quarter?

Discovery's headline results were impacted by its recent $15 billion acquisition of Scripps Networks, whose sales base caused a spike in revenue while also sending profits lower due to acquisition and integration costs. On an organic basis, the business was essentially flat as losses in the U.S. market offset gains in international geographies.

Image source: Getty Images.

Highlights of the quarter included:

• The addition of Scripps Networks programming like HGTV helped push sales far higher in the U.S. segment. Yet Discovery's core business dipped 1%. Including both networks, sales inched higher by 1% thanks to a 1% uptick in both advertising and distribution revenue.
• The pool of subscribers shrank 5% across the portfolio, just as it did last quarter. This led to lower ratings and reduced advertising volumes, but Discovery offset those losses with gains from its digital content and from higher ad pricing.
• Profitability held steady in the U.S. segment as cost cuts offset higher marketing spending.
• The international segment posted a 5% revenue increase thanks to growth in distribution and advertising sales. Excluding costs from the Scripps acquisition, the division saw robust earnings gains as higher prices outweighed increased content spending.
• Integration costs combined with higher taxes and rising interest expenses to push earnings down.

What management had to say

"We delivered solid financial results in our first full quarter as a combined company," CEO David Zaslav said in a press release, "and continued to make great progress with our integration of Scripps Networks and our pivot to digital, mobile, and direct-to-consumer products and services."

"As the global leader in real-life entertainment," Zaslav continued, "we are uniquely positioned in the media marketplace to deliver long-term value for our passionate superfans, shareholders and business partners around the world."

Looking forward 

The key to that valuable positioning is the fact that Discovery now controls a much larger portfolio of content that includes popular shows ranging from Gold Rush to House Hunters. The combined business reaches 20% of cable viewership, in fact, giving it the leadership spot among ad-supported networks in the United States. That prime placement should help it continue to grow its business even as the pool of subscribers shrinks like it did this quarter. 

Management has also been optimistic about how the Scripps acquisition could help its international segment, and the latest growth in that division supports that bullish reading. At least through fiscal 2018, though, costs from the merger will remain concrete and will negatively impact Discovery's earnings results. The benefits, on the other hand, will be harder to quantify and likely won't begin significantly lifting core sales or profits for several more quarters.