Networks Send Upsetting Signal to Local Stations

If the senior executives of Capital Cities-ABC are usually a sober bunch, they were looking downright lugubrious earlier this month when they made an unusual closed-circuit broadcast to managers of their affiliated stations.

The brass, including Chief Executive Thomas S. Murphy, President Daniel B. Burke and ABC Network President John B. Sias, went on the air to say that the network’s expected 1986 loss of $60 million will probably force ABC to cut what it pays affiliates for broadcasting its shows.

The affiliates weren’t overjoyed to receive the news. “They’re losing money because their shows get lousy ratings--and now we’re punished for their sins,” said Jack McWeeny, general manager of ABC affiliate KEYT-TV Channel 3 in Santa Barbara. “It’s not fair.”

Turning Point in Relationship

Fair or not, ABC’s announcement may mark a turning point in the long and delicate relationship between the networks and their affiliate stations. Many in the industry now expect the networks--facing a long-term slowdown in advertising growth and sharper competition--to gradually phase out the so-called network compensation payments and perhaps also reduce other financial supports that have cemented relations between the two groups.

The three networks now pay compensation totaling about $500 million a year to their affiliates, as well as an additional $200 million a year toward other mutually beneficial efforts, such as promotion and local news-gathering operations.

While the networks deny plans for any radical changes in their time-honored financial arrangement, some affiliates fear that stations may someday be forced to pay for the right to broadcast network shows.

The compensation system was developed in the 1930s as a means for CBS to ensure that affiliated radio stations would carry its broadcasts. Such assurances are needed so that the network can in turn guarantee advertisers that their messages will reach audiences of a certain size.

Some industry watchers say it is understandable that the networks would want to reduce such subsidies, since the affiliates’ prosperity has remained largely undiminished as the networks’ business has slackened in the past 18 months. While the networks have faced a tougher national ad market and steady increases in the programming costs that make up 80% of their expenses, the local ad demand on which affiliates largely depend has held up well.

To be sure, the affiliates’ business has always been less risky and more profitable than the networks’. But these days the disparity has been particularly evident.

This year the networks will post combined operating earnings of about $400 million on revenues of $8 billion, analysts say, while the 600 affiliates will earn about $3.5 billion on $10 billion in revenues.

‘System Out of Whack’

The sale prices of affiliated stations also testify to the value they gain simply by carrying network programming. While prices have slackened somewhat in recent months, most affiliates continue to command far higher prices than non-network stations.

For the affiliates to maintain their profitability and sales value as the network’s business has weakened suggests that “the system is out of whack,” says Jeffrey Epstein, investment banker with First Boston Corp. in New York.

The issue of network compensation payments has arisen as the networks are subjecting all costs to microscopic examination. The networks are, of course, now run by bosses with a widely noted devotion to expense cutting--the Cap Cities team at ABC, acting Chief Executive Laurence A. Tisch at CBS and General Electric’s own Robert Wright at NBC.

But if the networks have grounds for wanting to cut compensation payments, no one expects the affiliates to go along quietly.

The committee of affiliate executives that deals with ABC on such matters has already let fly a series of stiffly worded letters to network officials.

Affiliates May Preempt

Some affiliate executives predict that many stations will try to make up the lost revenues by preempting low-rated ABC shows with syndicated shows during which they can sell more advertising. If such preemptions are widespread and the network’s viewership is substantially cut, it will have to compensate advertisers by lowering rates, giving them other ad spots or rebates.

Some predict that in some smaller markets ABC affiliate stations may even jump ship to other networks--if the other networks don’t quickly cut their compensation payments as well.

Affiliates in the smaller markets are those most upset by the anticipated cuts. They receive only a small share of the total compensation, but it amounts to a far larger share of their revenues and profits.

In the nation’s 10 largest markets, for example, network compensation last provided an average of 3% of stations’ net revenues and 9% of their pretax profits, according to the National Assn. of Broadcasters. But among stations in the 101th- to 110th-largest markets, for example, such payments were last year equal to 8.4% of average revenues and 107% of the average pretax profit.

ABC’s plan would cut compensation by $3 million next year and $10 million, or about 6%, in 1988. Compensation would be eliminated only for certain shows with wide audience appeal, such as the upcoming special “Amerika,” the World Series, National Football League broadcasts and the Academy Awards.

In discussing the reduction of compensation for sports shows, network officials noted that all three networks are already losing heavily on National Football League broadcasts because of the steady growth in the rights to such broadcasts.

Earlier Plan Dropped

ABC’s two-year plan replaced an early proposal under which it would have cut payments 25% over a five-year period. That plan drew even louder protests from affiliates when it was trotted out at an affiliate-network gathering in November.

CBS and NBC officials discuss the topic in the circumspect vocabulary usually reserved for international diplomacy, insisting that they will take no action without consulting the affiliates. But CBS is expected to roll out a new compensation proposal at a meeting with affiliates next month, and NBC acknowledges that it is reviewing all costs involved in its relations with the affiliates.

The networks “can’t ignore a cost item of $500 million,” says Tony Malara, CBS executive vice president for distribution. “Compensation as we know it has got to be changed.”

He and other officials say that, among other changes, the networks are likely to alter the way compensation is distributed among affiliate stations.

Some stations, for example, have been paid heavily because they held strong competitive positions in their markets. But often that competitive position has been changed by the start-up of new stations or the ascendancy of others, Malara says.

“Some stations have been clearly overpaid, and others may be underpaid,” he said.

NBC Stands to Benefit

NBC, with the biggest profits and best ratings, is in the best position to stand by patiently while the others impose compensation cuts and take heat from their affiliates. The top-rated network may use the situation to its benefit in the many markets where the networks are competing to ally themselves with the strongest local stations.

If cuts imposed by the other networks alienate any such stations, NBC may be able to lure them to its fold. “It might help us,” said Raymond J. Timothy, NBC group executive vice president in charge of the network. “We’re constantly talking to these stations.”

Timothy says NBC has “been careful of our good relations with the affiliates, and we don’t want to file for divorce now.” But he says the network must look at all of its expenses, adding: “There is a sense of change in the industry.”

ABC may soon learn the consequences of its move.

Jack McWeeny of Santa Barbara’s KYET says he could probably make up for the lost compensation revenues by preempting two hours of prime-time network shows once a month, perhaps with a syndicated movie. Such preemptions might be made during the prime-time period on Friday night or early Tuesday evening, since ABC is weakest in those periods, he says.

ABC might try to compensate affiliates for the lost payments by giving them an opportunity to sell more advertising time around network shows. But affiliates in many markets might not be able to sell enough of that additional time to make up for their revenue losses, he said.

Setting a Trend

“The network is trying to set a trend here, and if they get away with it, things may get worse,” McWeeny said.

Richard Green is general manager of ABC affiliate KRCR in Redding, Calif., a VHF station in a market with two VHFs and one UHF. NBC is currently affiliated with the UHF station, but the network would prefer the wider-distribution VHF band “so they’d love to have me call them up,” said Green.

For the moment, Green says he hopes to make up for the lost compensation revenue by preempting low-rated network sports shows, such as bowling and arm-wrestling contests, with Oakland Athletics baseball that he can pick up from syndicators. But if ABC cuts compensation further, jumping ship to NBC is “an option I’d have to look at,” he said. “We all have to pay our bills.”

AFFILIATE COMPENSATION

Average % of Market Compensation Pretax Ranking Payment Profits 1-10 $2.3 million 9% 11-20 $1.4 million 13% 21-30 $1.1 million 14% 31-40 $1.0 million 29% 41-50 $858,000 23% 51-60 $591,000 31% 61-70 $769,000 45% 71-80 $524,000 33% 81-90 $589,000 49% 91-100 $370,000 53% 101-110 $533,000 107% 111-120 $441,000 441% 121-130 $424,000 71% 131-150 $451,000 113% 151-175 $394,000 66% 176-214 $298,000 (Average posted loss)

Source: National Assn. of Broadcasters