Most multichannel TV forecasts assume a stable industry model facing incremental changes that will play out over many years. We believe that assumptions for robust ARPU gains, higher ad sales, and a stable subscriber base are unrealistic, given high current prices, pressures on consumer budgets, and increasingly strong competition. A accelerating cycle of a growing on-line audience, increasing internet ad spend, and improving streaming content, fueled by advancing technology is a serious threat to the status quo inherent in these forecasts. While recent cord cutting has been modest, as the on-line cycle approaches a tipping point where the audience reaches critical mass, we expect the phenomenon will strongly accelerate. As a result, we remain skeptical of the long term health of multichannel TV and favor companies levered against the eventual move to an on-line distribution model.
Most cable industry forecasts project growing revenues for channelized video from growing ARPU, rising ad dollars, and stable subscribership. SNL Kagan’s ten year forecast for the cable system operators projects a revenue CAGR of 2.5%. A big piece of this derives from assuming a 3.7% annual rise in ARPU for operators and 8.2%/yr growth in cable advertising. Against this, Kagan projects total multichannel TV subscriptions to grow almost 1% a year. Analyst estimates for public operators suggest that Kagan’s views roughly mirror consensus.
Projections for 40% 10yr rise in video ARPU are aggressive – prices already high, squeeze on HH budgets, on-line alternatives, etc. Most of the increase in projected ARPU is simply increasing prices, with the monthly cost of basic service rising from just over $50 in 2012 to more than $70 in 2021, with the incremental fee for premium tiers and HDTV assumed as steady. This assumes that a trajectory that saw multichannel video go from 0.9% of household expenditures to 1.9% over the past decade can continue on to more than 2.5% in the next 10 years. With rising household costs for health care, education, food and taxes, this seems unrealistic, even without the threat of on-line video.
Non-video ARPU will be sharply pressured by wireless telephony substitution and the poorly appreciated potential of wireless broadband. Kagan projects cable telephony subscribers to hold steady at ~25M households through 2021 despite rampant wireless substitution – 50%+ of adults under 30 are wireless only (25% of all households) vs. 0% in 2000. Cable modem subs are expected to grow at a 2% CAGR at flat rates, assuming little to no competition, although next-gen 4G wireless will be able to deliver residential broadband with cost and performance advantages vs. current cable technology.
Trend line forecasting for cable ad revenues greatly understates threat of on-line competition, although 2012 should be strong on campaign spending. Kagan projects top MSOs to increase ad revenues per sub per month from about $4.75 to $8.50 over 10 years. Including DBS, telco, regional sports nets and video-on-demand, total industry ad sales is expected to grow at 8.2%/yr. On-line video advertising, with its precise targeting, is particularly threatening to this aggressive forecast. While advertising is only ~4% of revenues today, it accounts for 100bp of the forecast growth through 2021.
Multichannel service subscriptions are projected to grow 1%/yr, despite sharply increasing prices and rapidly emerging competitive alternatives. Cable subscriptions are projected to decline slightly, while DBS and telco TV gain. This seems inconsistent with rising ARPU, given rising household costs for health care, education and food, and improving on-line alternatives. Moreover, the explosion of tablets and connected TVs over the past year are likely to disrupt the historical viewing trends behind the projections. We also believe that the most valuable content will NOT remain exclusive to multichannel distributers – an assertion that we will address in detail in subsequent research. “TV Everywhere” offerings may sap some early demand for on-line only services, but do not address the increasingly high cost of cable service for consumers or recognize the interest of content owners in nurturing their own on-line offerings.
Shifts in viewership and advertising, and an increasing choice and quality of on-line video offerings will predate cord-cutting, which will accelerate in the back half of the decade. Cord cutting is a modest trend today, but is likely to grow surprisingly robust with time. A self-reinforcing cycle has begun by which the growing audience for on-line video is attracting advertisers willing to pay a premium for more certain and targeted impressions. In turn, programming networks are getting more serious about their on-line offerings, as creative talent negotiates with on-line aggregators and explores developing content specifically for on-line audiences. This cycle is already accelerating, and, we believe, will spur increasingly serious cord-cutting as multichannel service prices rise and the alternative gets increasingly attractive and easy to access.
On-line aggregators, aggressive network brands, Internet savvy advertising, and talent will win. The shifting audience and advertising market represents significant opportunity for on-line video streaming aggregators, such as Amazon, Google, and possibly, NetFlix, and for companies positioned to lever existing businesses into on-line video, like Apple, Facebook and Microsoft. Networks that are aggressive in establishing their channel brands on-line, such as CBS and NewsCorp could also prosper, along with advertising firms that fully embrace the change. Finally, producers/owners of compelling content will gain greater control over their offerings and thus, capture more of the value.
Multichannel system operators, resistant network brands, and traditional advertising will lose. The rise of on-line video is unequivocally bad for multichannel system operators, who will also face growing competition in their internet and telephony franchises. Networks that are slow to establish their brands on-line will also suffer, as will advertising businesses that don’t develop internet expertise
For the full research note, please visit our published research site.