Wednesday, September 30, 2015

Preliminary thoughts on WWE's Q3 2015

Analysis by Chris Harrington ( -- @mookieghana

Today is the last day of the third quarter for FY 2015 for WWE.

The company won't be releasing results until late October (Google Finance guesses October 28 and just Yahoo Finance puts the date between 10/28 and 11/2).

So, what do we already know?

The WWE did post updated KPIs with data through 8/31/15 on Monday morning.
  • No update on the WWE Network subscriber numbers.
    WWE steadfastly only wants to report that metric each quarter. (Would love to see some investors pressure the company on this topic since they did used to report PPV buys each quarter, but I completely understand WWE's reluctance since they've placed such a heavy weight on # of paid subs as the sole determinant of the financial health of the company.)
  • Reports of the death of Pay-per-view have been greatly exaggerated.
    Q3'15 PPV buys are actually likely to surpass Q3'14 PPV buys. Last quarter, WWE earned $3.5M in PPV from 263,600 buys. After just two months and not including September's Night of Champions event, WWE has already had 279,000 buys. (Oddly though, the buys for both Battleground and SummerSlam in the chart on page 4 seem lower in 2015 than 2014 yet total buys for Q3'15 is higher. I do suspect that strong main events such as SummerSlam with Brock Lesnar versus The Undertaker and NOC with Sting wrestling Seth Rollins will help on the total PPV revenue for Q3. Overall, PPV will probably generate almost $20M in 2015 for the company.)

  • We're getting closer to the "new normal" for Home Entertainment.

    Last year was a step change for WWE's Home Entertainment division. 2013 shipped nearly four million units and generated $24M in revenue with $9M in OIBDA. In 2014, shipments fell by a third to 2.7 million. Revenue didn't tumble nearly as much as there was a big Q1'14 payment ("increased sell through rates at retail and the recognition of a $2.5 million minimum guarantee from our home video distribution and a $2.2 million adjustment for higher current sell-through rates than anticipated for our fourth quarter 2013 releases"). WWE switched to Warner Bros. Home Entertainment for distribution in 2015 which is a less acrimonious deal than how things ended with Cinedigm. Over the last five quarters, WWE has shipped a little more than half a million units each quarter. It remains to be seen exactly how the rest of FY 2015 will play out with new WB deal, but WWE will probably see between $16M and $19M in Home Entertainment revenue this year. It's a small piece of the empire, but still a profitable business and a key ingredient to maintaining a fruitful relationship with kid-friendly WB properties such as Scooby Doo and the Flintstones.
  • WWE Digital Media footprint continues to grow.

    While the division hasn't been generating blockbuster revenue (about $4M per quarter - keep in mind that older figures will include the now defunct Magazine Publishing business), the Social Media strategy remains WWE's favorite talking point. One important takeaway from Q2's conference call was that WWE will participate in the ad-supported video test on Facebook. For the company who believes they're heeding the "clarion call" to own the online space, this is an important development. In the wake of WWE's declining television rating, is there evidence that their increased social media presence can be monetized in a meaningful way? Will it translate to more WWE Network subscriptions, more WWE merchandise sales or more WWE superstar endorsement deals?
  • North American Live Attendance is slightly up.

    For July and August 2015, WWE averaged 5,500 fans per North American live event compared to only 5,100 fans per NA live event in Q3'2014. Overall, it looks like live attendance is flat to slightly up (when you remove WrestleMania distortion from the mix). Still, the enormously successful weekend at the Barclay's Center in Brooklyn led one writer to proclaim it's currently a "high point of mainstream acceptance and popularity". What's more interesting is how WWE has managed to squeeze more revenue per person out in the live event segment.

It's a good sign that WWE is finding new ways to generate more revenue and more profit for the company. Before the Attitude era, we saw a swell in domestic attendance preceding the growth in PPV buys/event. Now, the OTT-model of the WWE Network is trying to hook subscribers for the entire year (or at least majority of the year), but it remains unclear how quickly WWE can ween their fans away from the come & go model. Certainly, while Churn remains high (284k in Q1'15, 508k in Q2'15) there's still significant progress left to make on this topic. While the drop in WWE ratings hasn't correlated with a drop in WWE Network subscriptions (that we know of), I do believe that a growth in average NA live event attendance would correlate with growth in WWE Network subscriptions.

What's going to happen with the WWE Network subscriber number?

One of the most surprising comments in the Q2'15 results, was the projection that "for the third quarter 2015, the Company expects ending paid network subscribers of approximately 1.2 million," It was highly unusual (though welcomed by investors) for WWE to give guidance on the number of paid WWE Network subscribers as of 9/30 a full 60 days prior to the end of the quarter. One can assume that knowing in advance that plans involving PPV matches with Brock Lesnar, the Undertaker and Sting were on the horizon, WWE felt more confident in making this projection. 

The next question is do we anticipate the actual WWE Network number will be higher or lower than the 1.2M guidance? 

In July, the company did roll out the service in two new markets (Italy, Malaysia). While this reduces the number of outstanding WWE Network-less countries to a select few (Germany, Japan, India, China, Thailand) it's unlikely (in my opinion) to have a material impact on generating new subscribers for Q3'15. Germany remains the largest opportunity (though there is continued speculation that a large portion of the hardcore German fanbase is already accessing the service). China is the greatest opportunity, but the toughest nut to crack. I have very low confidence that WWE will be making progress on that front in the next 18 months. Japan is probably the greatest false-positive as it's questionable whether the WWE Network would really be highly consumed in that culture. There are certainly some learnings for WWE from NJ World's experience, but historically PPV was not a major factor in the Japanese media market. The revenue that WWE is receiving from new India TV deals (rumored through 2019) makes it unlikely that WWE will want to rush WWE Network roll-out if it may endanger the relationship they have with the major media players. Furthermore, the unique characteristics of the Indian marketplace have already pushed other online content providers (such as YouTube) to pursue alternative distribution methods (Mobile download VOD, for instance) in that country. Lastly, WWE is actually suing their broadcast partner in Thailand (CTH) over non-payment of television rights. While this may actually encourage WWE to launch the OTT service in Thailand sooner (since angering their international partner is a lesser concern), undoubtedly the company is most concerned with outstanding $4M in TV rights fees they are already owed. In short, it doesn't seem like international expansions should be having a large effect on the WWE in Q3. If they announce plans for Germany (or India or China), that would be a meaningful target for Q4, but I haven't heard any rumbling of that at this time.

How much does the declining WWE Raw and Smackdown ratings hurt the company's ability to grow WWE Network subscriptions? I certainly believe that ratings are a barometer of interest in the WWE's premium content. If you consider the function of WWE Network to be centered around delivering premium WWE content (i.e. what were the monthly pay-per-views), then declining ratings are not a good sign. Furthermore, I think of Raw and Smackdown as the gateways to funneling new fans into investing (both emotionally and monetarily) in the WWE product. If you have less people coming in, there's less conversions happening downstream. When Raw is at risk of slipping below three million viewers, that means even less households are watching (recall - WWE Network subscriptions are driven by unique broadband households). It's still not a good sign.

Yet, when we look at WWE Network subscriber levels during second half of last year, what happened? There was a general malaise from July 2014 through December 2014 where the overall paid WWE Network inched up (helped by the international roll-out in August 2015) but lacked any explosive growth. It appears the general model is acquire lots of subscribers from January to April, retain as much as you can, slowly convert free trials into new users for the remainder of the year. It makes sense that WWE predicted they were barely grow from end of Q2'15 to end of Q3'15. Last year taught us that. Does a more-severe-than-expected ratings decline mean that WWE Network subscribership is eroding faster than expected? We all wish we knew. My gut still says no. It just suggests (to me) that it's folly to expect better-than-expected growth of ending Q3 around 1.2M paid WWE Network subscribers.

Who is left to convert? Excluding the already discussed untapped international markets, who is left for WWE to convert from WWE fan to paid WWE Network subscriber? WWE's own demographics (from their most recent investor presentation) notes that more than a third of their audience is over the age of fifty and 3/5th of the audience is over the age of 35. It seems rational to believe that the earlier adopters for over-the-top technology were younger consumers, though the marketplace for OTT-acceptance among older folks has been growing by leaps and bounds each year.

WWE has been investing a lot of time into reaching out to fans via consumer surveys. Have they cracked the formula of what's keeping some people from shelling out $9.99 each month? Do they want more library/archival footage? Is it all about the new content? Are they frustrated that Hulu provides same-week access to Raw while the WWE Network is weeks and weeks behind? (Tangential point - why does WWE receive so little revenue from Hulu in their Digital Media segment when these rights are clearly worth so much? Is it just part of the bundled TV Rights fees they're getting from NBCU which is a partial owner of Hulu?)

Lastly, I've harped on this point before but I still wonder - who is in charge of the WWE Network? I know that George Barrios is the Chief Financial Officer and the Chief Strategy Officer. I know that Michelle Wilson is the Chief Revenue Officer and the Chief Marketing Officer. I know that Stephanie McMahon is the Chief Brand Officer and Paul Levesque is EVP of Talent, Live Events and Creative. I know that Vince McMahon is the Chairman and CEO of WWE (along with still playing an enormous role in directing the WWE creative process). What I don't know is who is in charge of shaping the vision, direction, strategy, content of the WWE Network. I especially wonder if the person or people responsible for the WWE Network have extensive online streaming service backgrounds.

They've run through a gamut of people from Perkins Miller (EVP Digital Media, left in in April 2014 for the NFL), Matthew Singerman (EVP Programming for WWE Network, left in May 2014), Lou Schwartz (WWE Chief Digital Officer, left in August 2015) and Lisa Fox Lee (EVP Content, promoted in January 2015 and allegedly fired in July 2015). Considering that WWE considers, "Rate of WWE Network subscriber adoption is a critical determinant of the Company’s projected future financial performance", it always feels strange that there's a lack of strong visibility into who is leading this project (specific credentials) and the high-turnover that's been associated with top management positions.

Meanwhile, TV rights are going to grow. Along with the increased domestic & international deals for Raw and Smackdown, WWE will be receiving revenue for Total Divas and USA's Tough Enough. It will be a significant quarter the company in the TV Rights fees column. Last year, TV rights were about $177M. WWE will be well north of $210M in FY2015.

WWE's legal battles continue. The company has been quite successful at consolidating all of the concussion lawsuits into a single Connecticut case (from Texas, Oregon, California, New Jersey) and even putting Konstantine Kyros on the defensive (that he's not supposed to venue shop and can't use unnamed John Does). There hasn't been much movement in the Shareholder lawsuit though WWE had quite a victory by blowing up the confidential witness #1 Brian Maddox testimony. It will be interesting to hear if there is progress in either the patent troll cases or the unpaid international television rights bills. I still believe that WWE won't move away from the stated 3M to 4M goal of annual steady WWE Network subscribership until they resolve the TV Rights/Shareholder lawsuit.

As for the stock price, I can't say. It goes up. It goes down. People seem to really struggle to understand the company so they tend to over-react to information. I guess it's mistimed enthusiasm combined with blind optimism.

WWE is doing some things right - building NXT as a viable touring model for instance.

Lastly, I also think the Q2 announcement that WWE would be introducing "a three-month subscription card at retail, enabling a 'no credit card required' payment option" is a great decision. Understanding how historically, WWE fans have skewed lower-income, it's crucial to provide an avenue for people who might not have clear access to credit cards or checking accounts to become paying WWE Network subscribers.

Your thoughts? Comments? Concerns? Quandaries? Email Chris or tweet me at @mookieghana.

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