Media giant Time Warner (NYSE:TWX) trailed the market by a wide margin last year, falling 24% as stock indexes slipped by 1%. That underperformance came despite a surprisingly strong showing from its Warner Bros division, which generated spiking profits thanks to a few blockbuster video game launches.
Yet that improvement was offset by weakness in Time Warner's biggest business segment, Turner Broadcasting. Let's look at what went wrong in this division last year, with an eye toward what investors can expect in 2016.
What is Turner Broadcasting?
Turner is a collection of 165 cable channels broadcast around the world, including major properties like TNT, TBS, Cartoon Network, and CNN. The content on these networks ranges from general entertainment, to sports, kids, and news programming, and the channels generate revenue through distribution fees that Turner charges cable providers for the right to carry its networks, and through advertising sales.
In the last complete fiscal year, Turner was responsible for 40% of Time Warner's revenue and 50% of overall profits, with the rest split between the other two divisions, Warner Bros and Home Box Office.
What went wrong with Turner?
Turner suffered declining ratings and lower subscriber numbers last year, which held sales growth down to just 2% over the past nine months. Advertising and distribution fees both fell in the third quarter as the TV networks lost roughly 2% of their viewers.
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Time Warner isn't alone among TV networks in feeling the pinch as consumers move away from expensive cable packages. Disney's (NYSE:DIS) media division, for example, posted the lowest profit growth of any of its five major segments last year. The company's ESPN sports powerhouse, which peaked at 100 million subscribers in 2010, is now down to about 92 million paying viewers.
Time Warner began the year optimistic that its own subscriber declines would be minor; the pace of change in the TV industry caught them by surprise. "Ratings at our key domestic entertainment networks have declined to a greater degree than we anticipated a year ago," Chief Financial Officer Howard Averill told investors in a recent earnings conference call.
In that same call, CEO Jeff Bewkes argued that while major shifts in TV watching behavior pose a threat to the broadcasting industry, management believes they can keep the momentum on their side. Their strategic initiatives for the coming year include rebranding the TBS and TNT channels, spending heavily on content across the portfolio, investing in more on-demand programming, and withholding popular shows from streaming video services (thus making traditional cable packages more valuable to consumers).
Turner is also exploring delivering content directly to viewers through so-called "over the top" services. "These [viewing] changes create challenges for our business but they also produce many opportunities for us," he said.
Time Warner expects subscriber numbers to trend lower in 2016 at roughly the same pace as last year. And yet, higher pricing should keep advertising revenue climbing. The next year will be about prioritizing investment spending (that hopefully pays off) over earnings growth as the company works to get ahead of the quickly shifting media landscape. With TV habits changing rapidly, "It's important our primary focus be on long-term competitive position and growth rather than near-term profitability," Bewkes said in November.
Demitrios Kalogeropoulos owns shares of Walt Disney. The Motley Fool owns shares of and recommends Walt Disney. The Motley Fool recommends Time Warner. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.