STARZ ENTERTAINMENT CORP quarterly report, Q2 FY2018

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Business context and reporting period

This is Lions Gate Entertainment Corp.’s unaudited Form 10-Q for the quarter and six months ended September 30, 2017, corresponding to fiscal 2018 Q2. Lionsgate acquired Starz in December 2016 and reports three segments: Motion Pictures, Television Production and Media Networks. Comparisons with 2016 are not fully comparable because those periods did not include Starz’s results.

Financial performance and position

  • Quarter revenue: $940.8 million, up 47.1% year over year; Starz contributed $420.9 million. Operating income was $30.4 million versus an operating loss of $58.2 million; operating margin was approximately 3.2%. Net income attributable to Lionsgate shareholders was $15.5 million, or $0.07 per diluted share, compared with a $17.5 million loss, or $0.12 per share.
  • Six-month revenue: $1.946 billion, up 63.1%; Starz contributed $841.8 million. Operating income was $120.1 million versus an $80.2 million loss; operating margin was approximately 6.2%. Net income attributable to shareholders was $189.3 million, or $0.87 per diluted share, versus a $16.2 million loss. The 2017 result included a $201.0 million pretax gain on the EPIX sale.
  • Segment results: For the quarter, Motion Pictures revenue was $385.7 million and segment profit $8.9 million; Television Production revenue was $168.7 million and segment profit $8.6 million; Media Networks revenue was $393.4 million and segment profit $116.5 million. On a pro forma basis, Media Networks segment profit rose 42.2% to $116.5 million for the quarter and 12.5% to $225.9 million for six months.
  • Cash flow and liquidity: Six-month operating cash flow was $339.4 million, versus $194.4 million. Investing cash flow was positive $343.1 million, including $393.7 million net proceeds from the EPIX sale. Financing cash outflow was $775.6 million, principally reflecting debt repayments. Cash ended at $225.9 million, down from $321.9 million at March 31, 2017. Current assets were $1.504 billion and current liabilities $1.491 billion.
  • Debt: Principal debt, including capital leases but excluding film obligations and production loans, was $2.521 billion; debt net of discounts and issuance costs was $2.447 billion. Film obligations and production loans totaled $432.3 million. The company prepaid $665 million of Term Loan B principal during the six months. The $1.0 billion revolving facility was undrawn and available; the company reported covenant compliance.

Changes, outlook, risks and unusual items

  • Revenue growth primarily reflects consolidation of Starz. On a pro forma basis, Starz Networks revenue rose 2.9% for the quarter and 1.5% for six months; management cited higher effective rates and OTT growth, partly offset by subscriber losses at some distributors. STARZ subscriptions were 24.5 million at September 30, 2017, unchanged from the comparable reported figure.
  • Motion Pictures’ quarterly revenue fell 16.9%, mainly due to lower international revenue, while six-month Television Production revenue declined 11.1%, primarily because of lower domestic television revenue and fewer episode deliveries.
  • The EPIX sale generated $397.2 million of consideration and the $201.0 million pretax gain. Lionsgate also recorded an $840.1 million liability for Starz appraisal claimants, including accrued interest. Appraisal proceedings were scheduled for trial in the second half of fiscal 2019; the eventual amount payable is uncertain and could exceed the merger consideration.
  • Interest expense rose to $48.7 million for the quarter and $101.0 million for six months, including interest on the dissenters’ liability. Debt prepayments also generated an $18.0 million six-month loss on extinguishment. Starz acquisition accounting increased depreciation and amortization and purchase-accounting charges.
  • Management said cash from operations, cash on hand, revolver availability, tax-efficient financing and production financing should meet foreseeable operating and debt-service needs. It expects fiscal 2018 cash taxes not to increase significantly from fiscal 2017, citing tax attributes; it also expected an annual tax benefit. No earnings or revenue guidance was provided.
  • Key risks include substantial indebtedness and floating-rate exposure, debt covenants, film and television production costs and uncertain title performance, Starz integration, and litigation and appraisal proceedings related to the merger. Management reported effective disclosure controls and no material change in internal controls during the period.

Important facts for investors to verify

  1. How much reported growth and profit reflects the Starz acquisition, and how do comparable pro forma results trend?
  2. Whether operating cash generation can sustain content investment and debt service after the EPIX proceeds and substantial Term Loan B repayments.
  3. The outcome, timing and ultimate cash cost of the Starz appraisal claims, and whether the $840.1 million recorded liability remains adequate.
  4. Subscriber trends, OTT growth, pricing and marketing costs at Starz, alongside performance of Motion Pictures and Television Production slates.
  5. Debt maturities, variable-rate exposure, covenant headroom and the April 2018 maturity of $60 million of convertible notes.