Why Cap Cities Tops ABC in the Ratings Game

Does Wall Street follow the Nielsen ratings? Apparently not--because the stock of Capital Cities/ABC has been hitting new highs on the New York Stock Exchange--up $1.50 a share to $378 on Tuesday after rising more than $10 a share on Monday.

And that is curious, because the ABC television network is third in a three-horse race with NBC and CBS, and losing ground. In the May sweeps period, when each network puts on its best shows, ABC came out with the poorest ratings ever for a network.

But gloom is nothing new at ABC. The network lost money last year--more than $60 million by most estimates--and another loss has been predicted for this year.

Rumors circulated almost constantly in the last year that Cap Cities management--Chairman Thomas S. Murphy, President Daniel B. Burke and principal shareholder Warren E. Buffett--were baffled and disappointed by the business and wanted to sell the network.

Just Hogwash

Which was and is hogwash, but typical of the comment that has surrounded ABC ever since Cap Cities, a then-smaller company admired for its business acumen, agreed to buy it in March, 1985. While Wall Street cheered the merger, entertainment people were unimpressed. “They know accounting but they don’t know entertainment,” said a veteran film maker at the time. “Will they be able to succeed in show business?”

That’s still a question. At the recent annual meeting of the network’s 214 affiliates, the station owners and managers applauded previews of the Dolly Parton show (9 p.m. Sundays next season) but little else.

And yet investors have continued to support Cap Cities/ABC stock which, with few interruptions, has climbed steadily from levels under $200 when the merger was announced.

Why? Because smart investors know that more than the network, the big value in this company is in the individual TV stations it owns and in its skill at operating them. TV stations, first of all, are incredibly valuable properties--network affiliates in major markets have sold for as much as $700 million.

And Cap Cities, which already owned ABC outlets in Philadelphia and Houston, acquired four such stations in the merger--New York, Los Angeles, Chicago and San Francisco--along with ABC affiliates in Fresno and in Durham, N.C. Purchased one by one, that package of stations would cost $3 billion easily, if they could be bought that way at all.

In addition, for the $3.5-billion purchase price Cap Cities got nine radio stations and an 80% interest in Entertainment and Sports Programming Network (ESPN), the increasingly popular and profitable cable attraction. The way Wall Street looked at the deal, Cap Cities got the network--which brings in more than $2 billion in advertising revenue in a good year--for “free.”

Local Station Profits

The market remains enthusiastic, says analyst Victoria Butcher of the Eberstadt Fleming investment banking firm, because of the way Cap Cities management has run the acquired affiliates, increasing total station profits 40% to around $400 million.

Cost-cutting helps in such improvement, but you can’t save your way to prosperity. The main profit of local stations, which take much of their programming from the network, comes from advertising they can sell themselves, particularly on their local news programs. Which means, of course, that Cap Cities/ABC local managers must be especially clever because the network shows aren’t helping to draw the audience.

In other words, they must fend for themselves as Cap Cities tradition says Murphy did in 1954 after founder Frank Smith drove the young Harvard MBA to Albany, N.Y., dropped him off at one of Cap Cities’ first, and nearly bankrupt, stations and left him there to run it. No instructions, no memos, no further word.

The company, now with $4 billion in revenue and more than $750 million in profits, still runs the same way--headquarters wants no memos, holds few meetings, doesn’t interfere.

Charming story, but don’t the ratings mean anything? Sure they do: The ratings mean money--a single ratings point, denoting 874,000 homes tuned into your program, can mean $80 million in advertising revenue over the course of a season. So the fact that ABC finished well behind NBC could mean billions.

One reason Cap Cities stock price is rising now--along with all the other media stocks--is that the bargaining has begun between ad agencies and networks over what commercials will cost next season. And things look good, says analyst Peter Appert of the C. J. Lawrence brokerage firm, for bigger ad budgets and rising network revenue.

But another, greater reason for Cap Cities’ rise in particular is that institutional investors are confident that management will find a way to bring ABC back to No. 1. Does Wall Street know more than Nielsen?