S&P cuts Warner Bros. Discovery outlook to negative, citing decline in linear TV, studio weakness

S&P Global lowered its outlook on Warner Bros. Discovery to negative from stable and cut its 2024 and 2025 forecasts for the media giant due to continued challenges in its linear networks segment and weakness in its studios segment.

“WBD’s financial and operating performance in the first half of 2024 did not meet our expectations, largely due to the weak operating environment in linear television, which continues to face a challenging advertising environment and continued declines in subscribers,” the company wrote in a statement Friday. “In addition, WBD’s studio has experienced significant volatility in recent quarters due to the lingering effects of the writers and actors strike that ended in late 2023 and volatility in its game studio due to the repeated lack of success in 2024 compared to 2023, when the game ‘Hogwarts Legacy’ was a major success.”

The company said the potential loss of the NBA after the 2024-25 season could be negative for the direct-to-consumer segment and could further exacerbate linear's challenges, noting that it represents a significant share of total audiences.

“Even if the company replaces NBA programming with something else, it is unlikely that it will be able to obtain the same price from advertisers. Additionally, we believe the company will have to accept a discount in its carriage renewals with pay-TV distributors. TNT currently commands a premium primarily due to its carriage of the NBA,” S&P said. “The loss of advertising revenue and potential pressure on affiliate rates in future carriage deals would likely offset the cost of NBA rights and could put pressure on EBITDA beyond 2025.”

S&P warned that its ratings on the company could be downgraded by the end of 2025 or earlier if the company is unable to stabilize EBITDA, resulting in debt remaining above 3.5 times beyond 2025, or if the ratio of operating free cash flow to debt falls below 10% on a sustained basis. Alternatively, these thresholds could be tightened if WBD’s business trends weaken significantly or its ability to monetize content materially declines.

Warner reported a net loss of $10 billion in the second quarter of 2024, compared with a loss of $1.24 billion a year ago, while its total revenue fell 6% from a year earlier to $9.7 billion. Adjusted leverage in the quarter was 4.7 times.

The net loss includes a non-cash goodwill impairment charge of $9.1 billion from the Networks segment, which was triggered in response to the difference between WBD's market capitalization and the Networks segment's carrying value, continued weakness in the U.S. linear advertising market and uncertainty related to affiliate and sports rights renewals, including the NBA.

Network revenue fell 8% year over year to $5.27 billion, while adjusted EBITDA fell 8% year over year to $1.998 billion. The revenue decline included a 9% decline in distribution revenue to $2.68 billion, primarily due to a 9% decline in domestic linear pay-TV subscribers and the impact of the company’s exit from AT&T SportsNet, partially offset by a 5% increase in national affiliate rates; and a 10% decline in advertising revenue to $2.2 billion, primarily due to a 13% decline in national network viewership. The advertising market is down in the United States. Content revenue increased 5% to $299 million, primarily due to the timing of third-party licensing agreements, partially offset by lower intersegment content licensing at DTC. Other revenue fell 1% to $84 million.

Studio revenue fell 5% year-over-year to $2.45 billion, while adjusted EBITDA fell 31% to $210 million. Distribution revenue was flat at $3 million, while content revenue fell 7% to $2.2 billion. Other revenue increased 19% to $209 million, driven primarily by the June 2023 opening of Warner Bros. Studio Tour Tokyo. Excluding the impact of foreign exchange, television revenue fell 27%, primarily due to the timing of first-run television productions as well as lower licensing sales. Games revenue fell 41%, driven by the weak performance of “Suicide Squad: Kill the Justice League” this year, compared to the strong performance of “Hogwarts Legacy” the year before. Theatrical revenue increased 19% due to higher home entertainment revenue from “Dune: Part Two” and a higher box office carryover from “Godzilla x Kong: The New Empire,” released in late March.

The direct-to-consumer division was a bright spot, topping 103 million subscribers in its second quarter of 2024, including 52.4 million domestic subscribers and 50.8 million international subscribers. However, the streaming division reported a widened loss of $107 million, compared to a loss of $3 million in the prior-year period. The segment's results include Max, Discovery+ and traditional cable subscriptions HBO.

Total direct-to-consumer revenue declined 6% year over year to $2.57 billion. Distribution revenue was flat at $2.2 billion, primarily driven by a 7% increase in subscribers following the launch of Max in Latin America in the first quarter of 2024 and Europe in the second quarter of 2024, partially offset by continued declines in domestic wholesale linear subscribers. Advertising revenue increased 98% to $240 million, primarily driven by higher domestic Max engagement and Ad-Lite subscriber growth. Content revenue declined 70% to $123 million, primarily driven by lower third-party licensing volume. Other revenue declined 67% to $3 million.

S&P Global expects WBD’s full-year 2024 revenue to decline 1.6%, compared to its previous forecast of 2.6% growth for the year. The agency also revised down its EBITDA forecast for 2024 and 2025 and expects adjusted leverage to decline slightly to 2.2 times in 2024, from 4.6 times in 2023, and 3.8 times in 2025, compared to the company’s 3.5 times threshold. In addition, it affirmed the company’s issuer credit rating of ‘BBB-’.

The company said WBD's ability to grow its DTC and studio segments to offset linear declines would be a key factor in stabilizing long-term earnings and that its deep film and television library and intellectual property stack give Max the tools to be a compelling offering.

“We don’t believe streaming is a winner-take-all market. However, we do believe there is a limit to the number of services that consumers are willing to subscribe to, which increases the cost for media companies to acquire and retain customers. Netflix and Amazon have positioned themselves as market leaders,” S&P continued. “We believe this leaves traditional media companies battling for the third, fourth or fifth service in many cases. This presents a significant challenge for WBD and its peers, as they all need to grow their DTC businesses to meaningfully offset the decline in linear.”

Max has launched in 65 international markets, but is still not present in more than half of its global addressable markets, including Australia, Japan, the UK, Germany or Italy. The company plans to continue launching in new markets over the next 18 to 24 months, with a UK launch planned for 2026. Executives expect the DTC segment to reach $1 billion in EBITDA by 2025.

“The company added more than 5 million subscribers in the first half of 2024 and its domestic ARPU growth is close to 9% given its price increases. It also saw good growth in streaming advertising, albeit from a relatively small base, which doubled in the last quarter and is approaching a $1 billion run rate,” S&P said. “Continued momentum in these key performance indicators should allow it to expand DTC margin and earnings if sustained.”

S&P said it could upgrade WBD's rating to stable if its operating performance improves in 2025 due to stronger-than-expected DTC revenue and EBITDA growth and a moderate pace of decline in its networks segment, or if the company divests assets or uses cash flow or other balance sheet measures to reduce debt.

In 2023, WBD reported operating free cash flow of $6.2 billion and S&P expects the company to generate about $4.4 billion in 2024, with its debt-to-capital ratio remaining at about 10%. In its most recent quarter, the company reported gross debt of $41.4 billion.