UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
OR
Commission File Number 0-16914
THE E. W. SCRIPPS COMPANY
(Exact name of registrant as specified in its charter)
(State or other jurisdiction
of incorporation or organization)
(I.R.S. Employer
Identification Number)
312 Walnut Street
Cincinnati, Ohio
Registrant’s telephone number, including area code: (513) 977-3000
Not Applicable
(Former name, former address and former fiscal year, if changed since last report.)
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x No ¨
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. As of July 31, 2003 there were 62,330,859 of the Registrant’s Class A Common Shares outstanding and 18,369,113 of the Registrant’s Common Voting Shares outstanding.
INDEX TO THE E. W. SCRIPPS COMPANY
REPORT ON FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2003
1
2
3
4
PART II—OTHER INFORMATION
5
6
PART I
As used in this Quarterly Report on Form 10-Q, the terms “we,” “our,” “us” or “Scripps” may, depending on the context, refer to The E.W. Scripps Company, to one or more of its consolidated subsidiary companies or to all of them taken as a whole.
The information required by this item is filed as part of this Form 10-Q. See Index to Financial Information at page F-1 of this Form 10-Q.
PART II
We are involved in litigation arising in the ordinary course of business, such as defamation actions and various governmental and administrative proceedings relating to renewal of broadcast licenses, none of which is expected to result in material loss.
There were no defaults upon senior securities during the quarter for which this report is filed.
The following table presents information on matters submitted to a vote of security holders at the April 29, 2003 Annual Meeting of Shareholders.
Description of Matters Submitted
Broker
Non-Votes
Class A Common Shares:
Election of Directors:
David A. Galloway
Nicholas B. Paumgarten
Ronald W. Tysoe
Julie A. Wrigley
Common Voting Shares:
William R. Burleigh
John H. Burlingame
Kenneth W. Lowe
Jarl Mohn
Nackey E. Scagliotti
Edward W. Scripps
Paul K. Scripps
None.
Exhibits
The information required by this item is filed as part of this Form 10-Q. See Index to Exhibits at page E-1 of this Form 10-Q.
Reports on Form 8-K
A Current Report on Form 8-K reporting the release of information regarding the results of operations for the quarter ended March 31, 2003, was filed on April 10, 2003.
A Current Report on Form 8-K reporting the Edward W. Scripps Trust’s offering of 7,000,000 of our Class A Common Shares through Morgan Stanley & Co. Incorporated and Merrill Lynch, Pierce, Fenner & Smith Incorporated pursuant to an Underwriting Agreement dated April 24, 2003, was filed on April 24, 2003.
A Current Report on Form 8-K reporting the release of information regarding the results of operations for the quarter ended June 30, 2003, was filed on July 14, 2003.
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Dated: August 1, 2003
/s/ JOSEPH G. NECASTRO
Joseph G. NeCastro
Senior Vice President and Chief Financial Officer
Index to Financial Information
Item
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Cash Flows
Consolidated Statements of Comprehensive Income and Shareholders’ Equity
Condensed Notes to Consolidated Financial Statements
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
Critical Accounting Policies and Estimates
Results of Operations
Consolidated Results of Operations
Business Segment Results
Newspapers
Scripps Networks
Broadcast Television
Shop At Home
Liquidity and Capital Resources
Quantitative and Qualitative Disclosures About Market Risk
Controls and Procedures
F-1
CONSOLIDATED BALANCE SHEETS
June 30,
2003
( Unaudited )
As of
December 31,
2002
ASSETS
Current assets:
Cash and cash equivalents
Accounts and notes receivable (less allowances—$18,666, $18,092, $18,772)
Programs and program licenses
Inventories
Deferred income taxes
Miscellaneous
Total current assets
Investments
Property, plant and equipment
Goodwill
Other assets:
Programs and program licenses (less current portion)
Unamortized network distribution incentives
Intangible assets
Note receivable from Summit America
Total other assets
TOTAL ASSETS
See notes to consolidated financial statements.
F-2
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt
Accounts payable
Customer deposits and unearned revenue
Accrued liabilities:
Employee compensation and benefits
Network distribution incentives
Total current liabilities
Long-term debt (less current portion)
Other liabilities and minority interests (less current portion)
Shareholders’ equity:
Preferred stock, $.01 par—authorized: 25,000,000 shares; none outstanding
Common stock, $.01 par:
Class A—authorized: 120,000,000 shares; issued and outstanding: 62,329,923; 61,668,221; and 60,810,692 shares
Voting—authorized: 30,000,000 shares; issued and outstanding: 18,369,113; 18,369,113; and 19,096,913 shares
Total
Additional paid-in capital
Retained earnings
Accumulated other comprehensive income (loss), net of income taxes:
Unrealized gains (losses) on securities available for sale
Pension liability adjustments
Foreign currency translation adjustment
Unvested restricted stock awards
Total shareholders’ equity
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY
F-3
CONSOLIDATED STATEMENTS OF INCOME ( UNAUDITED )
Three months ended
Six months ended
Operating Revenues:
Advertising
Retail merchandise sales
Circulation
Network affiliate fees, net
Licensing
Other
Total operating revenues
Operating Expenses:
Employee compensation and benefits (exclusive of JOA editorial costs and expenses)
Amortization of programs and program licenses
Cost of merchandise sold
Newsprint and ink
JOA editorial costs and expenses
Other costs and expenses
Total costs and expenses
Depreciation
Amortization of intangible assets
Total operating expenses
Operating income
Interest expense
Equity in earnings of JOAs and other joint ventures
Investment results, net of expenses
Miscellaneous, net
Income before income taxes and minority interests
Provision for income taxes
Income before minority interests
Minority interests
Net income
Net income per share of common stock:
Basic
Diluted
F-4
CONSOLIDATED STATEMENTS OF CASH FLOWS ( UNAUDITED )
Cash Flows from Operating Activities:
Adjustments to reconcile net income to net cash flows from operating activities:
Depreciation and amortization
Net investment results and other nonrecurring items
Tax benefits of stock compensation plans
Dividends received greater than equity in earnings of JOAs and other joint ventures
Stock and deferred compensation plans
Minority interests in income of subsidiary companies
Affiliate fees billed greater than amounts recognized as revenue
Network launch incentive payments
Payments for programming less (greater) than program cost amortization
Other changes in certain working capital accounts, net
Net operating activities
Cash Flows from Investing Activities:
Additions to property, plant and equipment
Purchase of subsidiary companies and long-term investments
Net investing activities
Cash Flows from Financing Activities:
Increase in long-term debt
Payments on long-term debt
Dividends paid
Dividends paid to minority interests
Miscellaneous, net (primarily employee stock options)
Net financing activities
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents:
Beginning of year
End of period
Supplemental Cash Flow Disclosures:
Interest paid, excluding amounts capitalized
Income taxes paid
F-5
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
AND SHAREHOLDERS’ EQUITY ( UNAUDITED )
Common
Stock
Additional
Paid-in
Capital
Retained
Earnings
Accumulated
Comprehensive
Income (Loss)
Unvested
Restricted
Awards
Shareholders’
Equity
Income for the
Three MonthsEnded June 30
As of December 31, 2001
Comprehensive income:
Unrealized gains (losses), net of tax of ($1,789) and $4,881
Adjustment for losses (gains) in income, net of tax of ($35) and ($2)
Change in unrealized gains (losses)
Currency translation, net of tax of $45
Dividends: declared and paid—$.30 per share
Compensation plans, net: 744,166 shares issued; 37,020 shares repurchased; 200 shares forfeited
Tax benefits of compensation plans
As of June 30, 2002
As of December 31, 2002
Unrealized gains (losses), net of tax of $2,977 and $4,433
Adjustment for losses (gains) in income, net of tax of $13 and $43
Currency translation, net of tax of $300 and $196
Compensation plans, net: 706,706 shares issued; 43,304 shares repurchased; 1,700 shares forfeited
As of June 30, 2003
F-6
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ( UNAUDITED )
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation—The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. The information disclosed in the notes to consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2002, has not changed materially. Financial information as of December 31, 2002, included in these financial statements has been derived from the audited consolidated financial statements included in that report. In management’s opinion all adjustments (consisting of normal recurring accruals) necessary for a fair presentation of the interim periods have been made.
Results of operations are not necessarily indicative of the results that may be expected for future interim periods or for the full year.
Use of Estimates—We must make a variety of decisions that affect the reported amounts and the related disclosures. Such decisions include the selection of accounting principles that reflect the economic substance of the underlying transactions and the assumptions on which to base accounting estimates. In reaching such decisions, we apply judgment based on our understanding and analysis of the relevant circumstances, including our historical experience, actuarial studies and other assumptions. While we re-evaluate our estimates and assumptions on an ongoing basis, actual results could, in fact, differ from those estimated at the time of preparation of the financial statements.
Our financial statements include estimates for uncollectible accounts receivable; product returns and rebates due to customers; the fair value of our inventories; revenue recognized under customer-billed arrangements; the periods over which long-lived assets are depreciated or amortized; assumptions used in accounting for our defined benefit pension plans; self-insured risks and income taxes payable.
We self-insure employees’ medical and disability income benefits, workers’ compensation benefits and general liability. The recorded liability, which totaled $24.2 million at June 30, 2003, is calculated using actuarial methods and is not discounted. Management does not believe it is likely that its estimates for such items will change materially in the near term.
Newspaper Joint Operating Agencies—We are a partner in joint operating agencies (“JOAs”) in four of our newspaper markets. As permitted by the Newspaper Preservation Act of 1970, a JOA provides a limited exemption from anti-trust laws, permitting competing newspapers in a market to combine all but their editorial operations in order to reduce aggregate expenses and take advantage of economies of scale, thereby allowing the continuing operation of both newspapers in that market. The JOA sells advertising and subscriptions for both newspapers in the market, and produces, distributes and markets both newspapers. The earnings generated by the JOA are distributed to the JOA partners in accordance with the joint operating agreement. Each JOA partner independently maintains editorial operations for its newspaper.
The JOA between our Denver Rocky Mountain News and MediaNews Group, Inc.’s (“MediaNews”) Denver Post (the “Denver JOA”) was approved by the U.S. Attorney General in January 2001. The Denver JOA is jointly managed by each of the partners. We do not share management responsibilities for each of our three other JOAs. We receive a 50% share of the earnings of the Denver JOA, and between 20% and 40% of the operating profits in the other three markets.
We include our share of JOA earnings in “Equity in earnings of JOAs and other joint ventures” in our Consolidated Statements of Income. The related editorial costs and expenses are included in “Total costs and expenses.”
Our residual interest in the net assets of the Denver and Albuquerque JOAs is classified as an investment in the Consolidated Balance Sheets. We do not have a residual interest in the net assets of the other JOAs.
F-7
Stock-Based Compensation—We have a stock-based compensation plan, which is described more fully in our Annual Report on Form 10-K for the year ended December 31, 2002. Stock options are awarded to purchase Class A Common shares at not less than 100% of the fair market value on the date of the award. Stock options and awards of Class A Common shares generally vest over a one to three-year incentive period conditioned upon the individual’s employment through that period. We measure compensation expense using the intrinsic-value-based method of Accounting Principles Board Opinion 25—Accounting for Stock Issued to Employees, and its related interpretations. No stock-based compensation expense is recorded upon the issuance of stock options as the exercise price of all options granted equals the market value of the underlying common stock on the date of grant. The values of awards of Class A Common shares, which require no payment by the employee, are amortized to expense over the vesting period.
The following table illustrates the effect on net income and earnings per share if we had applied the fair-value-based recognition method of Financial Accounting Standard No. (“FAS”) 123—Accounting for Stock-Based Compensation, as amended by FAS 148—Accounting for Stock-Based Compensation—Transition and Disclosure, which was effective for fiscal years ending after December 15, 2002:
Net income as reported
Add stock-based compensation included in reported income, net of related income tax effects:
Restricted share awards
Deduct stock-based compensation determined under fair value based method, net of related income tax effects:
Stock options
Pro forma net income
Net income per share of common stock
Basic earnings per share:
As reported
Additional stock option compensation, net of income tax effects
Pro forma basic earnings per share
Diluted earnings per share:
Pro forma diluted earnings per share
Fair value was calculated using the Black-Scholes option pricing model. Assumptions used to determine fair value were as follows:
Weighted-average fair value of options granted
Assumptions used to determine fair value:
Dividend yield
Expected volatility
Risk-free rate of return
Expected life of options
F-8
Net Income Per Share—The following table presents additional information about basic and diluted weighted-average shares outstanding:
Basic weighted-average shares outstanding
Effect of dilutive securities:
Unvested restricted stock held by employees
Stock options held by employees and directors
Diluted weighted-average shares outstanding
Reclassifications—For comparative purposes, certain prior year amounts have been reclassified to conform to current classifications.
2. RESTRUCTURING CHARGES AND OTHER ITEMS
Reported results of operations include the following items which affect the comparability of year-over-year results.
Net investment results
Net investment results include (i) net realized gains and losses and (ii) accrued performance-based compensation and other expenses associated with the management of Scripps Ventures Funds I and II (“Scripps Ventures”).
Second quarter and year-to-date net investment results in 2003 were a pre-tax charge of $3.2 million for write-downs associated with declines in value of certain investments in development-stage businesses. Investment results reduced net income by $2.1 million, $.03 per share.
Second quarter net investment results in 2002 were a pre-tax charge of $65.6 million, reducing net income by $42.6 million, $.53 per share. Included in net investment results were $26.7 million of write-downs associated with declines in value of the Scripps Ventures investment portfolios and other investments in development-stage businesses and a $35.1 million write-down of our investment in AOL Time Warner. Also included in net investment results were $3.6 million of costs associated with winding down active management of Scripps Ventures. Year-to-date net investment results in 2002 were a pre-tax charge of $73.9 million, reducing net income by $48.0 million, $.60 per share. Year-to-date investment write-downs totaled $69.0 million in 2002.
Tax liability adjustment
We reached an agreement with the Internal Revenue Service to settle the audits of our 1992 through 1995 consolidated federal income tax returns in the second quarter of 2002. As a result, we reduced our estimated liability for open tax years by $8.0 million. Net income was increased by $8.0 million, $.10 per share.
F-9
3. ACQUISITIONS
–
The following table summarizes the estimated fair values of the assets acquired as of the dates of acquisition.
Minority interest retired
Cash paid
In addition to the acquisitions described above, we also acquired an additional interest of less than one percent in our Evansville newspaper in the third quarter of 2002 for $0.3 million in cash. In the fourth quarter of 2002, we acquired a 70% controlling interest in Shop At Home from Summit America Television, Inc. (“Summit America”) for $49.5 million. Related to the acquisition of the controlling interest, we loaned Summit America $47.5 million to be repaid in three years and purchased $3.0 million of Summit America redeemable preferred stock.
Acquiring a controlling interest in Shop At Home provides us with an existing infrastructure and workforce with retailing expertise, enabling us to quickly gain scale in a growing market. We expect to leverage our expertise as a diverse media company to expand distribution and to offer a wider range of products. Acquiring Shop At Home also enables us to provide a video commerce platform to our advertisers.
The following table summarizes, on a pro forma basis, the estimated combined results of operations of Scripps and Shop At Home had the transaction taken place at the beginning of 2002. The pro forma information includes adjustments for interest expense that would have been incurred to finance the acquisition and additional depreciation and amortization of the assets acquired. The unaudited pro forma financial information is not necessarily indicative of the results that actually would have occurred had the acquisition been completed at the beginning of the period.
Operating revenues
F-10
4. INVESTMENTS
Investments consisted of the following:
Securities available for sale (at market value):
AOL Time Warner (2,017,000 common shares)
Total available-for-sale securities
Denver newspaper JOA
FOX Sports Net South and other joint ventures
Summit America preferred stock, at cost plus accrued dividends
Digital Theater Systems (587,000 common shares)
Other equity investments
Total investments
Note receivable from Summit America, at initial fair value plus accreted discount
Investments available for sale represent securities in publicly traded companies. Investments available for sale are recorded at fair value. Fair value is based upon the closing price of the security on the reporting date.
Our Denver Rocky Mountain News (the “RMN”) and MediaNews Group, Inc.’s Denver Post are parties to a joint operating agreement (the “Denver JOA”). The RMN received a 50% interest in the Denver JOA in exchange for the contribution of most of its assets to the Denver JOA and the payment of $60 million to MediaNews. No gain or loss was recognized on the contribution of the assets to the Denver JOA. The Denver JOA recorded the net assets contributed by us and by MediaNews at their historical cost. The difference between the carrying amount of our investment in the Denver JOA and our 50% share of the stockholders’ equity of the Denver JOA is accounted for in accordance with the principles of FAS 141—Business Combinations and FAS 142—Goodwill and Other Intangible Assets.
Summarized financial information for the RMN included in our consolidated financial statements is as follows:
RMN operating revenues
Share of Denver JOA earnings for the period
RMN editorial costs and expenses for the period
RMN contribution to newspaper segment profit (see note 11)
RMN depreciation and amortization
Cash distributions received in the period
The Denver JOA is organized as a limited liability partnership and is treated as a partnership for income tax purposes. Therefore the partners are responsible for income taxes applicable to their share of the taxable income of the Denver JOA. The net income of the Denver JOA presented above does not reflect income taxes that will be incurred by its partners.
F-11
In connection with the acquisition of the controlling interest in Shop At Home, we purchased $3.0 million of Summit America 6.0% redeemable preferred stock. At Summit America’s option, dividends are deferred until the mandatory redemption of the preferred stock in 2005. We also loaned Summit America $47.5 million, to be repaid in 2005, at 6% interest. The note was recorded at fair value as of the date of acquisition of Shop At Home. The difference between the face value of the note and the fair value at the date of acquisition is accreted to income over the term of the note. Based upon interest rates for fixed-rate securities with similar terms and credit quality, we estimate the fair value of the note was approximately $46 million at June 30, 2003.
Summit America has the right to require us to purchase the remaining 30% of Shop At Home at any time between November 1, 2004, and October 31, 2007, and we have an option to acquire the remaining 30% of Shop At Home at any time after October 31, 2007, at the then fair value. Upon exercise of either option, Summit America must repay the $47.5 million note and redeem the preferred stock held by us.
We hold 0.6 million common shares of Digital Theater Systems, Inc. (“DTS”) with a carrying value of $1.0 million. DTS completed an initial public offering of its common stock in July 2003 at $17 per share. The fair value of our investment in DTS was approximately $12 million on July 31, 2003.
Other equity investments include securities that do not trade in public markets, so they do not have readily determinable fair values. We estimate the fair value of the other securities approximates their carrying value at June 30, 2003, however, many of the investees have had no rounds of equity financing in the past three years. There can be no assurance we would realize the carrying value of these securities upon their sale.
We ceased active management of Scripps Ventures in 2002. Scripps Ventures invested approximately $100 million in development-stage businesses focusing primarily on new media technology, including DTS. Scripps Ventures realized approximately $45 million from the sale of investments. The carrying value of the portfolio was approximately $16 million as of July 31, 2003.
5. GOODWILL
The carrying amount of goodwill by business segment and changes in the carrying amount of goodwill are as follows:
Scripps
Networks
Broadcast
Television
Shop At
Home
and Other
Balance as of December 31, 2001
Acquired during the period
Balance as of June 30, 2002
Balance as of December 31, 2002
Balance as of June 30, 2003
With the exception of goodwill resulting from the repurchase of minority interests in our newspapers, substantially all acquired goodwill is expected to be deductible for tax purposes.
F-12
6. PROGRAMS AND PROGRAM LICENSES
Programs and program licenses consisted of the following:
Scripps Networks:
Cost
Accumulated amortization
Net book value
Broadcast television:
7. UNAMORTIZED NETWORK DISTRIBUTION INCENTIVES
Unamortized network distribution incentives consisted of the following:
Network launch incentives
Unbilled affiliate fees
Total network distribution incentives
F-13
8. LONG-TERM DEBT
Long-term debt consisted of the following:
Variable-rate credit facilities
$100 million, 6.625% notes, due in 2007
$50 million, 3.75% notes, due in 2008
$100 million, 4.25% notes, due in 2009
$200 million, 5.75% notes, due in 2012
$100 million, 6.375% notes, due in 2002
Other notes
Total face value of long-term debt less discounts
Fair market value of interest rate swap
Total long-term debt
We have Competitive Advance and Revolving Credit Facilities (the “Revolver”), and a commercial paper program that collectively permit aggregate borrowings up to $600 million (the “Variable-Rate Credit Facilities”). The Revolver consists of two facilities, one permitting $400 million in aggregate borrowings expiring in August 2003 and the second a $200 million facility expiring in 2007. The August 2003 facility is currently in the process of being negotiated. We do not expect any material changes in the terms of the facility. Borrowings under the Revolver are available on a committed revolving credit basis at our choice of three short-term rates or through an auction procedure at the time of each borrowing. The Revolver is primarily used as credit support for our commercial paper program in lieu of direct borrowings under the Revolver. The weighted-average interest rate on the Variable-Rate Credit Facilities was 1.2% at June 30, 2003, 1.4% at December 31, 2002, and 1.8% at June 30, 2002.
We have a U.S. shelf registration statement which allows us to borrow up to an additional $350 million as of June 30, 2003.
We entered into a receive-fixed, pay-floating interest rate swap to achieve a desired proportion of fixed-rate versus variable-rate debt. The interest rate swap expires upon the maturity of the $50 million, 3.75% notes in 2008, and effectively converts those fixed-rate notes into variable-rate borrowings. The variable interest rate was 1.1% at June 30, 2003, which was based on six month LIBOR minus a rate spread. The swap agreement was designated as a fair-value hedge of the underlying fixed-rate notes. Accordingly, changes in the fair value of the interest rate swap agreement (due to movements in the benchmark interest rate) are recorded as adjustments to the carrying value of long-term debt with an offsetting adjustment to other non-current assets. The changes in the fair value of the interest rate swap agreements and the underlying fixed-rate obligation are recorded as equal and offsetting unrealized gains and losses in the Consolidated Statements of Income. We have structured the interest rate swap to be 100% effective. As a result, there is no current impact to earnings resulting from hedge ineffectiveness.
Certain long-term debt agreements contain maintenance covenants for net worth and coverage of interest expense and restrictions on incurrence of additional indebtedness. We were in compliance with all debt covenants at June 30, 2003.
Current maturities of long-term debt are classified as long-term to the extent they can be refinanced under existing long-term credit commitments.
F-14
9. OTHER LIABILITIES AND MINORITY INTERESTS
Other liabilities and minority interests consisted of the following:
Program rights payable
Deferred gain on sale of WCPO building
Total other liabilities and minority interests
Current portion of other liabilities
In the fourth quarter of 2002, we sold our Cincinnati television station production facility to the City of Cincinnati for $7.9 million in cash. Our television station will continue to use the facility until construction of a new production facility is completed in 2004. The gain on the sale of the facility of $7.6 million has been deferred until our station relocates to its new production facility. We will receive an additional $3.0 million in cash if our station relocates prior to June 1, 2004. The additional payments, which we expect to earn, are not included in the deferred gain.
10. SUPPLEMENTAL CASH FLOW INFORMATION
The following table presents additional information about the change in certain working capital accounts:
Other changes in certain working capital accounts, net:
Accounts receivable
Prepaid and accrued pension expense
Accrued income taxes
Accrued employee compensation and benefits
Accrued interest
Other accrued liabilities
Other, net
F-15
11. SEGMENT INFORMATION
We are a diversified media company operating in four reportable business segments: newspaper publishing, cable and satellite television programming services (referred to as “Scripps Networks”), broadcast television and television-retailing (“Shop At Home”). We determine our business segments based upon our management and internal reporting structure. Our reportable segments are strategic businesses that offer different products and services.
Newspaper publishing includes 21 daily newspapers in the U.S. Newspapers derive revenue primarily from the sale of advertising space to local and national advertisers and from the sale of the newspapers to readers. Four of our newspapers are partners in JOAs (see Note 1). Each of those newspapers maintain an independent editorial operation and receive a share of the operating profits of the JOA.
Scripps Networks includes four national television networks distributed by cable and satellite television systems: Home & Garden Television (“HGTV”), Food Network, Fine Living and DIY—Do It Yourself Network (“DIY”). Scripps Networks also includes our 12% interest in FOX Sports Net South, a regional television network. As of December 31, 2002, we owned approximately 70% of Food Network and approximately 90% of Fine Living. Scripps Networks derives revenue primarily from the sale of advertising time and from affiliate fees from cable and satellite television systems.
Broadcast television includes ten stations, nine of which are affiliated with national broadcast networks. Broadcast television derives revenue primarily from the sale of advertising time to local and national advertisers.
Shop At Home markets a range of consumer goods to television viewers and through its Internet site. Shop At Home programming is distributed under the terms of affiliation agreements with broadcast television stations and cable and satellite television systems. Substantially all of Shop At Home’s revenues are derived from the sale of merchandise.
Licensing and other media aggregates operating segments that are too small to report separately, and primarily includes syndication and licensing of news features and comics.
Corporate represents our corporate office. Certain corporate costs and expenses, including information technology, pensions and other employee benefits, and other shared services, are allocated to our business segments. The allocations are generally amounts agreed upon by management, which may differ from amounts that would be incurred if such services were purchased separately by the business segment. Corporate assets are primarily cash, cash equivalent and other short-term investments, property and equipment primarily used for corporate purposes, and deferred income taxes.
The accounting policies of each of our business segments are those described in Note 1.
Segment profit is a key metric used by our chief operating decision maker (as defined by FAS 131 – Segment Reporting) to assess the operating performance of our business segments and to make decisions about the allocation of resources to our business segments. Segment profit excludes interest, income taxes, depreciation and amortization, divested operating units, restructuring charges, investment results and certain other items.
As discussed in Note 1, we account for our share of the earnings of JOAs on the equity method of accounting. Our equity in earnings of JOAs is included in “Equity in earnings of JOAs and other joint ventures” in our Consolidated Statements of Income. Newspaper segment profits include equity in earnings of JOAs. Scripps Networks segment profits include equity in earnings of FOX Sports Net South and certain other joint ventures.
F-16
Information regarding our business segments follows:
Segment operating revenues:
Broadcast television
Licensing and other media
Segment profit (loss):
Corporate
Total segment profit
Depreciation:
Total depreciation
Amortization of intangible assets:
Total amortization of intangible assets
F-17
June 30, 2002
Additions to property, plant and equipment:
Total additions to property, plant and equipment
Business acquisitions and other additions to long-lived assets:
Other investments
Assets:
Venture capital and other investments
Total assets
Other additions to long-lived assets include investments, capitalized intangible assets and capitalized launch incentives.
F-18
12. STOCK COMPENSATION PLANS
The following table presents information about stock options:
Number
of
Shares
Options outstanding at December 31, 2001
Options granted during the period
Options exercised during the period
Options outstanding at June 30, 2002
Options outstanding at December 31, 2002
Options outstanding at June 30, 2003
Options generally become exercisable over a one-to-three-year period. Information about options outstanding and options exercisable by year of grant is as follows:
Options
on SharesOutstanding
on SharesExercisable
1993—expire in 2003
1994—expire in 2004
1995—expire in 2005
1996—expire in 2006
1997—expire in 2007
1998—expire in 2008
1999—expire in 2009
2000—expire in 2010
2001—expire in 2011
2002—expire in 2012
2003—expire in 2013
Total options on number of shares
Information related to awards of Class A Common Shares is presented below:
Unvested shares at December 31, 2001
Shares awarded during the period
Shares vested during the period
Shares forfeited during the period
Unvested shares at June 30, 2002
Unvested shares at December 31, 2002
Unvested shares at June 30, 2003
F-19
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This discussion and analysis of financial condition and results of operations is based upon the consolidated financial statements and the condensed notes to the consolidated financial statements. You should read this discussion in conjunction with those financial statements.
FORWARD-LOOKING STATEMENTS
This discussion and the information contained in the notes to the consolidated financial statements contain certain forward-looking statements that are based on our current expectations. Forward-looking statements are subject to certain risks, trends and uncertainties that could cause actual results to differ materially from the expectations expressed in the forward-looking statements. Such risks, trends and uncertainties, which in most instances are beyond our control, include changes in advertising demand and other economic conditions; consumers’ taste; newsprint prices; program costs; labor relations; technological developments; competitive pressures; interest rates; regulatory rulings; and reliance on third-party vendors for various products and services. The words “believe,” “expect,” “anticipate,” “estimate,” “intend” and similar expressions identify forward-looking statements. All forward-looking statements, which are as of the date of this filing, should be evaluated with the understanding of their inherent uncertainty.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America (“GAAP”) requires us to make a variety of decisions which affect reported amounts and related disclosures, including the selection of appropriate accounting principles and the assumptions on which to base accounting estimates. In reaching such decisions, we apply judgment based on our understanding and analysis of the relevant circumstances, including our historical experience, actuarial studies and other assumptions. We are committed to preparing financial statements incorporating accounting principles, assumptions and estimates that promote the representational faithfulness, verifiability, neutrality and transparency of the accounting information included in the financial statements.
Note 1 to the Consolidated Financial Statements included in our Annual Report on Form 10-K describes the significant accounting policies we have selected for use in the preparation of our financial statements and related disclosures. We believe the following to be the most critical accounting policies, estimates and assumptions affecting our reported amounts and related disclosures.
Revenue Recognition
Advertising. Advertising revenue is recorded, net of agency commissions, when advertisements are published in newspapers or are broadcast on television stations or national television networks. Advertising on our Internet sites is recognized over the period in which the advertising will appear.
Advertising contracts, which generally have a term of one year or less, may provide discounts based upon the volume of advertising purchased during the terms of the contracts. This requires us to make certain estimates regarding future advertising volumes. We base our estimates on various factors including our historical experience and advertising sales trends. Estimated rebates are recorded as a reduction of revenue in the period the advertisement is displayed and are revised as necessary based on actual volume realized.
Broadcast and national television network advertising contracts may guarantee the advertiser a minimum audience, requiring us to make estimates of audience size that will be delivered throughout the terms of the contracts. We base our estimate of audience size on information provided by ratings services and our historical experience. If we determine we will not deliver the guaranteed audience, an accrual for “make-good” advertisements is recorded as a reduction of revenue. The estimated make-good accrual is adjusted throughout the terms of the advertising contracts.
F-20
Newspaper Subscriptions. Circulation revenue for newspapers sold directly to subscribers is based upon the retail rate. Prepaid newspaper subscriptions are deferred and are included in circulation revenue on a pro-rata basis over the term of the subscriptions. Circulation revenue for newspapers sold to independent newspaper distributors, which are subject to returns, is based upon the wholesale rate. Newspaper circulation revenue is recognized upon publication of the newspaper, net of estimated returns. Estimated returns are based on historical return rates and are adjusted based on actual returns realized.
Network Affiliate Fees. Cable and satellite television systems generally pay a per-subscriber fee for the right to distribute our programming under the terms of long-term distribution contracts. We may make cash payments to cable and satellite television systems and may provide an initial period in which payment of affiliate fees by the systems is waived in exchange for such long-term distribution contracts. Network affiliate fee revenues are reported net of such incentives. Incentive payments are recorded as assets upon launch of our programming on the cable or satellite television system. The costs of incentives are recognized over the terms of the contracts based upon the ratio of each period’s revenue to expected total revenue over the terms of the contracts.
Merchandise Sales. Revenue from the sale of merchandise is recognized when the products are delivered to the customer. We allow customers to return merchandise for full credit or refund within 30 days from the date of receipt. Revenue is reported net of estimated returns, which are based upon our historical experience. Actual levels of merchandise returned may vary from these estimates.
Programs and Program Licenses—Programming assets include licensed programs and programs produced by us or on a contract basis for us. These costs are expensed over the estimated useful life of the programming based upon estimated future cash flows. Estimated future cash flows can change based upon market acceptance, advertising and network affiliate fee rates, the number of cable and satellite television subscribers receiving our networks and program usage. Accordingly, revenue estimates and planned usage are reviewed periodically and are revised if necessary. Such revisions may affect the amount of amortization recorded in a given year, the life over which the programs are amortized, or both. If actual demand or market conditions are less favorable than projected, programming asset write-downs may be required. Programming asset write-downs are determined using a day-part methodology, whereby programs broadcast during a particular time period (such as prime time) are evaluated on an aggregate basis.
Long-lived Assets—Judgment is applied in determining the estimated useful life of long-lived assets, specifically property, plant and equipment and certain intangible assets with a finite life. We base our judgment of estimated lives on the length of time we have employed similar assets and upon expert opinions.
Certain events or changes in circumstances may indicate that the carrying value of our property, plant and equipment, intangible assets, and goodwill may not be recoverable and may require an impairment review. In assessing impairment, we must make assumptions regarding estimated future cash flows and other factors to determine the fair value of the respective assets. Based on that review, if the carrying value of these assets exceeds fair value and is determined not to be recoverable, an impairment loss representing the amount of excess over its fair value would be recognized in income.
In accordance with FAS 142 we review goodwill for impairment based upon groupings of businesses, referred to as reporting units. Reporting units are operating segments or groupings of businesses one level below the operating segment level. Scripps Networks and Shop At Home comprise separate reporting units. Our newspaper and broadcast television reporting units are based upon the size of the newspaper markets as determined by the daily circulation of our newspapers and the network affiliation of our broadcast television stations.
Investments—We hold investments in several companies, including publicly traded securities and other securities that have no active market. Future adverse changes in market conditions, poor operating results, or the inability of certain development-stage companies to find additional financing could result in losses that may not be reflected in an investment’s current carrying value, thereby requiring an impairment charge in the future. We regularly review our investments to determine if there has been an other-than-temporary decline in market value. In making that determination, we consider the extent to which cost exceeds market value, the duration of the market decline, earnings and cash forecasts, and current cash position, among other factors.
F-21
Employee Benefits—We are self-insured for employee-related health and disability benefits and workers’ compensation claims. A third-party administrator is used to process all claims. Estimated liabilities for unpaid claims are based on our historical claims experience and are developed from actuarial valuations. However, actual amounts could vary significantly from such estimates, which would require adjustments to expense in that period.
We rely upon actuarial valuations to determine pension costs. Inherent in these valuations are assumptions of discount rates and the expected return on plan assets. The discount rate used to determine our future pension obligations is based upon market rates for long-term bonds. Our return on plan assets assumption is based upon expected returns for broad equity and bond indices, our asset allocation and the historical returns we have earned on those asset classes. A change of 0.5% in our discount rate of 6.5%, or in our assumed rate of return on plan assets of 8.25%, would not materially affect 2003 pension expense. Future pension expense will depend on future investment performance, changes in discount rates and other factors related to the employee population participating in our pension plans.
Income Taxes—Accounting for income taxes is sensitive to interpretation of various laws and regulations. The Internal Revenue Service is currently examining our 1996 to 2001 consolidated federal income tax returns. We review our provision for open tax years on an ongoing basis.
We record a tax valuation allowance to reduce deferred tax assets to the amount that is more likely than not to be realized. Deferred tax assets subject to a valuation allowance primarily relate to state net operating loss carryforwards and capital loss carryforwards. We consider ongoing prudent and feasible tax planning strategies in assessing the need for a valuation allowance. In the event we determine the deferred tax asset we would realize would be greater or less than the net amount recorded, an adjustment would be made to the tax provision in that period.
RESULTS OF OPERATIONS
Consolidated Results of Operations—Net income was $64.7 million, $.80 per share, in the second quarter of 2003 compared to $27.0 million, $.33 per share, in the second quarter of 2002. Second quarter 2003 net income was reduced by investment write-downs of $2.1 million, $.03 per share. Second quarter 2002 net income was reduced by $42.6 million, $.53 per share, for net investment results. A change in the estimated liability for open tax years increased second quarter 2002 net income by $8.0 million, $.10 per share.
Year-to-date 2003 net income was $117.4 million, $1.45 per share, compared to $66.8 million, $.83 per share in 2002. Investment write-downs reduced 2003 net income by $2.1 million, $.03 per share. Net income in 2002 was reduced by $48.0 million, $.60 per share, for net investment results and was increased by $8.0 million, $.10 per share, for the change in the estimated liability for open tax years.
In addition to net investment results and the change in the estimated liability for open tax years, our operating results were driven by the performance of our business segments. See page F-25 for a summary of our business segment revenues and business segment profitability. The strong performance of Scripps Networks, our fastest growing business segment, was partially offset by declines at our newspaper business segment and our broadcast television business segment as well as losses incurred at our Shop At Home business segment, which we acquired in the fourth quarter of 2002.
Corporate expense includes $2.1 million in pension expense for the first half of 2003 compared to $0.8 million in the first six months of 2002. Pension expense increased primarily due to lower expected returns on plan assets and lower discount rates. Corporate expense in 2002 was affected by the vesting of certain performance based restricted stock awards. Certain restricted stock awards issued in 2001 are earned based upon the market price of our Class A Common Shares. The expense related to these awards is recorded when the shares are earned. In the first quarter of 2002, 20,000 shares were earned. An additional 20,000 shares were earned in April 2002. The remaining 20,000 shares under the award were earned in July 2003. Third quarter corporate expense will include a charge of approximately $1.7 million for the value of the shares earned.
The operating performance of our business segments is more fully discussed on the following pages.
Depreciation and amortization increased $1.7 million, to $17.1 million in the second quarter of 2003 and $3.8 million to $33.1 million year-to-date. The increase primarily reflects additional depreciation and amortization resulting from the acquisition of Shop At Home.
F-22
Interest expense increased $1.2 million in the second quarter and $2.6 million year-to-date primarily due to our decision to replace $200 million of borrowings under our variable-rate credit facilities with fixed-rate notes in order to achieve a desired proportion of fixed-rate versus variable-rate debt. Average fixed-rate borrowings in the second quarter and year-to-date periods were $400 million in 2003 and $200 million in 2002. The weighted-average effective interest rate on fixed-rate notes in the second quarter and year-to-date periods was 5.8% in 2003 and 6.7% in 2002. Average variable-rate borrowings, including the $50 million notes converted to variable-rate borrowings under the provisions of our interest rate swap, were $242 million in the second quarter of 2003 and $459 million in the second quarter of 2002. Average variable-rate borrowings for the year-to-date periods were $266 million in 2003 and $472 million in 2002. The weighted-average effective interest rate on the variable-rate borrowings in the second quarter was 1.2% in 2003 and 1.8% in 2002. For the year-to-date periods the weighted-average effective interest rate on the variable-rate borrowings was 1.3% in 2003 and 1.8 % in 2002. We are currently borrowing under our variable-rate credit facilities at an effective 90-day yield of 1.1%.
Net investment results include (i) net realized gains and losses and (ii) accrued performance-based compensation and other expenses associated with the management of Scripps Ventures Funds I and II (“Scripps Ventures”). Net investment results in the 2003 second quarter include a pre-tax charge of $3.2 million for write-downs associated with declines in value of certain investments in development-stage businesses. Net investment results in the 2002 second quarter were a pre-tax charge of $65.6 million. Included in 2002 second quarter net investment results were $26.7 million of write-downs associated with declines in value of the Scripps Ventures investment portfolios and other investments in development-stage businesses and a $35.1 million write-down of our investment in AOL Time Warner. Also included in 2002 second quarter net investment results were $3.6 million of costs associated with winding down active management of Scripps Ventures.
Year-to-date net investment results in 2002 were a pre-tax charge of $73.9 million, including investment write-downs of approximately $69.0 million.
Our effective income tax rate in 2003 was 40.6% in the second quarter and 40.3% year-to-date. The effective income tax rate in 2002 was 24.6% in the second quarter and 34.4% year-to-date. We reached an agreement with the Internal Revenue Service to settle the audits of our 1992 through 1995 consolidated federal income tax returns in the second quarter of 2002. As a result, we reduced our estimated liability for open tax years by $8.0 million in the second quarter of 2002.
Minority interest increased in the second quarter and year-to-date periods of 2003 primarily due to the operating performance of Food Network. We own an approximate 70% interest in Food Network and Tribune Company (“Tribune”) owns the other 30%. Prior to the fourth quarter of 2002 minority interest did not include a charge for Tribune’s share of the net income of Food Network as cumulative losses exceeded the basis of their investment in Food Network.
Under the terms of the Food Network partnership agreement, we receive approximately 87% of Food Network profits until all capital contributions are returned. Approximately $22 million of profits remain to be allocated in proportion to capital contributions before profits are allocated in proportion to ownership interests. We expect profits will begin to be allocated in proportion to ownership interests in the fourth quarter of 2003.
In the second quarter of 2003, operating losses of Shop At Home reduced Summit America’s basis in Shop At Home to zero. Accordingly, minority interest no longer includes a credit for Summit America’s share of Shop At Home losses.
F-23
Business Segment Results—We are a diversified media company operating in four reportable business segments. Newspaper publishing includes 21 daily newspapers in the U.S. Scripps Networks includes four national television networks distributed by cable and satellite television systems: Home & Garden Television (“HGTV”), Food Network, Fine Living and DIY - Do It Yourself Network (“DIY”). Scripps Networks also includes our 12% interest in FOX Sports Net South, a regional television network. Broadcast television includes ten stations, nine of which are affiliated with national broadcast networks. Shop At Home markets a range of consumer goods to television viewers and through its Internet site. Shop At Home programming is distributed by broadcast television stations and by cable and satellite television systems. Licensing and other media aggregates operating segments that are too small to report separately, and primarily includes syndication and licensing of news features and comics.
As discussed in Note 11 to the Consolidated Financial Statements the performance measure (“Segment Profit”) used by our chief operating decision maker (as defined by FAS 131—Segment Reporting “FAS 131”) to assess the operating performance of our business segments and to make decisions about the allocation of resources to our business segments excludes interest, income taxes, depreciation and amortization, divested operating units, restructuring charges, investment results and certain other items.
Items excluded from Segment Profit generally result from prior decisions or from decisions made by corporate executives rather than by the managers of the business segments. Depreciation and amortization charges are the result of past decisions regarding the allocation of resources and are therefore excluded from the measure. Financing, tax structure and divestiture decisions are generally made by corporate executives. Excluding these items from our business segment performance measure enables our chief operating decision maker to evaluate business segment operating performance for the current period based upon current economic conditions and decisions made by the managers of those business segments in the current period.
As discussed in Note 1 to the Consolidated Financial Statements, we account for our share of the earnings of JOAs on the equity method of accounting. Our share of the earnings of JOAs is included in “Equity in earnings of JOAs and other joint ventures” in our Consolidated Statements of Income. Newspaper segment profits include equity in earnings of JOAs. Scripps Networks segment profits include equity in earnings of FOX Sports Net South and other joint ventures.
A reconciliation of our share of earnings in JOAs and other joint ventures included in our business segment operating results to our Consolidated Statements of Income is as follows:
Newspapers:
Equity in earnings of JOAs
Equity in earnings of joint ventures
Total equity in earnings of JOAs and other joint ventures
F-24
Information regarding our business segments determined in accordance with FAS 131 and a reconciliation of such information to the consolidated financial statements is as follows:
Newspapers managed solely by us
Joint operating agencies
Total newspapers
Depreciation and amortization of intangibles
Certain items required to reconcile segment profitability to consolidated results of operations determined in accordance with accounting principles generally accepted in the United States of America are attributed to particular business segments. Significant reconciling items attributable to each business segment are as follows:
Depreciation and amortization:
Total depreciation and amortization
Miscellaneous, net:
Shop At Home—interest and dividends from Summit America
Total miscellaneous, net
Discussions of the operating performance of each of our reportable business segments may be found on the following pages.
F-25
Newspapers—Operating results for newspapers solely managed by us were as follows:
Local
Classified
National
Preprint and other
Newspaper advertising
Segment costs and expenses:
Other segment costs and expenses
Total segment costs and expenses
Contribution to segment profit
Contribution to segment profit as a percent of operating revenues
Supplemental Information:
Capital expenditures
Business acquisitions and other additions to long-lived assets
Newspaper advertising revenues increased in 2003 primarily due to increases in national advertising, preprint advertising and advertising on our Internet sites. Increases in real estate and automotive advertising offset declines in help wanted classified advertising. We expect newspaper advertising revenue to increase between 2% and 4% year-over-year in the second half of 2003.
Higher pension costs contributed to the increase in employee compensation and benefits. Pension expense was $5.6 million in the first half of 2003 and $3.8 million in the first half of 2002. Pension expense increased primarily due to lower expected returns on plan assets and lower discount rates.
Newsprint and ink costs increased in the second quarter and year-to-date periods primarily due to the newsprint prices increasing 10% in the second quarter. We expect newsprint costs to increase 8% to 10% year-over-year in the second half of 2003.
F-26
Operating results for our newspapers operated under JOAs were as follows:
Equity in earnings of JOAs:
Denver
Total equity in earnings of JOAs
JOA editorial costs and expenses:
Total JOA editorial costs and expenses
JOA contribution to segment profit:
Total JOA contribution to segment profit
We are a partner in joint operating agencies (“JOAs”) in four of our newspaper markets. As permitted by the Newspaper Preservation Act of 1970, a JOA provides a limited exemption from anti-trust laws, permitting competing newspapers in a market to combine all but their editorial operations in order to reduce aggregate expenses and take advantage of economies of scale, thereby allowing the continuing operation of both newspapers in that market. The JOA sells advertising and subscriptions for both newspapers in the market, and produces, distributes and markets both newspapers. The operating profits earned by the JOA are distributed to the JOA partners in accordance with the joint operating agreement. Each JOA partner independently maintains editorial operations for its newspaper.
The JOA between our Denver Rocky Mountain News and MediaNews Group, Inc.’s (“MediaNews”) Denver Post (the “Denver JOA”) is jointly managed by each of the partners. We do not share management responsibilities for each of our three other JOAs. We receive a 50% share of the operating profits of the Denver JOA, and between 20% and 40% of the operating profits in the other three markets.
We include our share of JOA operating profits in “Equity in earnings of JOAs and other joint ventures” in our consolidated statements of income. The related editorial costs and expenses are included in “Total costs and expenses.”
Our share of earnings from the joint newspaper operations in Denver improved during the quarter and year-to-date periods compared to the same periods last year despite ongoing weakness in the local economy. The improvement can be attributed to continued cost containment at the Denver JOA. We expect our share of earnings of the Denver JOA for the full year of 2003 will increase by approximately $4 million compared to the full year of 2002.
Declines in our share of earnings in our other JOAs reflect the weakness in the economy and the soft newspaper advertising market.
F-27
Scripps Networks—Operating results for Scripps Networks were as follows:
Total segment operating revenues
Segment profit before joint ventures
Equity in income of joint ventures
Segment profit
Segment profit before joint ventures, as a percent of segment operating revenues
Billed network affiliate fees
Business acquisitions and investments
Amounts recorded on the balance sheet (as of June 30th):
Program assets
Launch incentive payments due to cable and satellite television systems for launches through the end of the period
We launched HGTV in 1994. Food Network launched in 1993, and we acquired controlling interest in 1997. We launched DIY in the fourth quarter of 1999 and Fine Living in the first quarter of 2002. Programming from our networks can be viewed on demand (video-on-demand, “VOD”) on cable television systems in about 63 markets across the United States.
According to the Nielsen Homevideo Index (“Nielsen”) approximately 87 million homes in the United States receive cable or satellite television. According to Nielsen, HGTV was available in approximately 81.0 million homes in June 2003, up 2.4 million from June 2002. Food Network was available in approximately 79.1 million homes in June 2003, up 3.8 million from June 2002. In June 2003, we estimate Fine Living was available in approximately 17 million homes and DIY was available in approximately 19 million homes.
Increased viewership of our networks led to increased demand for advertising time and higher advertising rates. Advertising revenues are expected to increase approximately 20% to 30% year-over-year in the second half of 2003.
The increase in network affiliate fees reflects the wider distribution of the networks, as well as both scheduled rate increases and rate increases resulting from the renewal of distribution agreements. Network affiliate fees are expected to increase approximately 15% to 20% year-over-year in the second half of 2003.
F-28
Employee compensation and benefits increased primarily due to additional hiring to support the launch and development of Fine Living and DIY and due to increased pension costs. Pension expense was $1.3 million in the first half of 2003 and $0.8 million in the first half of 2002. Pension expense increased primarily due to lower expected returns on plan assets and lower discount rates.
Amortization of programs and program licenses increased due to the improved quality and variety of programming and expanded hours of original programming on our networks. Programming expenses are expected to increase 30% year-over-year in the second half of 2003. We own the rights to substantially all of the programming we produce and expect to telecast the programs over several years.
Continued marketing and promotion efforts to gain distribution and to increase the viewership of our networks led to the increase in other costs and expenses. Other costs and expenses are expected to increase approximately 20% year-over-year in the second half of 2003.
Losses incurred at our developing programming services (DIY, Fine Living and VOD) reduced second quarter segment profit by $9.8 million in 2003 and by $9.6 million in 2002. Year-to-date segment profit was reduced by $21.3 million in 2003 and by $22.0 million in 2002. For the full year, losses incurred from these developing programming services are expected to reduce segment profit by $40 million to $45 million.
F-29
Broadcast Television—Operating results for broadcast television were as follows:
Political
Network compensation
Segment profit as a percent of segment operating revenues
Broadcast television revenue increased in the quarter and year-to-date period due to increases in local broadcast television advertising. Based upon advance sales, we expect local and national advertising revenues will increase between 8% and 10% year over-year in the second half of 2003. However, due to the significant political revenues earned in 2002, we expect total television advertising revenue will be slightly less than in 2002. Political advertising was $23 million in the second half of 2002.
In 2001, we renegotiated and extended our network affiliation agreements with NBC, which were originally scheduled to expire in 2004. Network compensation was sharply reduced under the new agreements, which expire in 2010. Our six ABC affiliation agreements expire in 2004 through 2006. Our ABC affiliates recognized $4.4 million of network compensation revenue in the first six months of 2003 and $3.8 million in the first six months of 2002. We are unable to predict the amount of network compensation we may receive upon renewal of these agreements.
Segment profit growth was held back by the war in Iraq. The combined effect of reduced advertising revenue and increased news coverage costs reduced segment profits by approximately $2 million year-to-date.
Higher pension costs contributed to the increase in employee compensation and benefits. Pension expense was $2.6 million in the first half of 2003 and $1.4 million in the first half of 2002. Pension expense increased primarily due to lower expected returns on plan assets and lower discount rates.
F-30
Shop At Home—Operating results for Shop At Home were as follows:
Retail merchandise
Network distribution
Segment profit (loss)
Interest and dividend income from Summit America
Operating results for Shop At Home are included in our results of operations from the October 31, 2002 acquisition of the television-retailing network.
Shop At Home programming reached an average full-time equivalent of 48.5 million homes in the second quarter of 2003, up from 40.3 million homes in the second quarter of 2002. Year-to-date, Shop At Home programming reached an average full-time equivalent of 47.2 million homes, up from 38.6 million homes in 2002. Assuming we had owned Shop At Home in the first half of 2002 operating revenues increased 5.9% in the second quarter and 11% year-to-date. Despite solid gains in household distribution and revenue, operating results have been negatively affected by weakness in the general economy since the beginning of the war in Iraq.
We continue to adjust Shop At Home’s merchandising strategy to be more closely aligned to those consumer categories targeted by Scripps Networks.
Pre-tax segment losses incurred by Shop At Home totaled $5.6 million, reducing net income by $.05 per share in the second quarter of 2003 and $11.5 million and $.08 per share year-to-date. For the full year of 2003, we expect Shop At Home to reduce net income by approximately $.15 per share.
F-31
LIQUIDITY AND CAPITAL RESOURCES
Our primary source of liquidity is our cash flow from operating activities. Advertising has historically provided 70% to 75% of total operating revenues, so cash flow from operating activities is adversely affected during recessionary periods.
Information about our use of cash flow from operating activities is presented in the following table:
Net cash provided by operating activities
Dividends paid, including to minority interests
Other—primarily stock option proceeds
Cash flow available for acquisitions and debt repayment
Use of available cash flow:
Other investing activity
Increase (decrease) in long-term debt
Cash flow from operating activities exceeded capital expenditures and cash dividends in 2003, as it has in each year since 1992. Cash flow from operating activities in excess of capital expenditures and dividends, combined with our substantial borrowing capacity, has been used primarily to fund acquisitions and investments and to develop new businesses. There are no significant legal or other restrictions on the transfer of funds among our business segments.
Net cash provided by operating activities increased year-over-year in the six months of 2003 due to improved operating performance of our business segments and the receipt of tax refunds associated with the settlement of the Internal Revenue Service examination of our 1992 through 1995 consolidated federal income tax returns. Net cash provided by operating activities in the period was reduced by contributions to our defined benefit pension plans totaling $21.3 million in the first six months of 2003. We expect to make additional pension contributions of approximately $20 million in the last half of 2003. Pension contributions were $0.8 million in the first six months of 2002 and $40 million for the full year of 2002. Pension contributions have increased primarily due to investment losses during the stock market decline from 2000 through 2002 and lower discount rates resulting from the decline in interest rates during that period.
Net cash provided by operating activities was also reduced by costs associated with the development of DIY, Fine Living, and video-on-demand and investments in Shop At Home. Costs associated with our developing businesses reduced cash flow from operating activities by approximately $60 million in the first six months of 2003 and by approximately $70 million in the first six months of 2002.
In the first quarter of 2003, we acquired a fractional interest in our Memphis newspaper for $3.5 million in cash. In the first quarter of 2002, we acquired an additional 1% interest in Food Network for $5.2 million in cash. In 2002, we also invested an additional $6.2 million in equity securities of developing businesses.
Total borrowings were $627 million as of June 30, 2003, including commercial paper borrowings of $166 million with average maturities of 90 days or less. Commercial paper borrowings are supported by two bank credit facilities, one which permits maximum borrowings of $400 million and expires in August 2003 and one which permits maximum borrowings of $200 million and expires in 2007. The August 2003 facility is currently in the process of being negotiated. We do not expect any material changes in the terms of the facility. Borrowings of $434 million are available under the facilities at June 30, 2003.
Our access to commercial paper markets can be affected by macroeconomic factors outside of our control. In addition to macroeconomic factors, our access to commercial paper markets and our borrowing costs are affected by short and long-term debt ratings assigned by independent rating agencies. We have a U.S. shelf registration statement which allows us to borrow up to an additional $350 million as of June 30, 2003.
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In the fourth quarter of 2002, we acquired a 70% controlling interest in Shop At Home from Summit America Television, Inc. (“Summit America”) for $49.5 million. Related to the acquisition of the controlling interest, we loaned Summit America $47.5 million to be repaid in three years. We also purchased $3.0 million of Summit America redeemable preferred stock. The note is secured by Summit America’s broadcast television stations in San Francisco, Boston and Cleveland and bears interest at 6%, payable quarterly. The note and the preferred stock mature in 2005.
Summit America has the right to require us to purchase the remaining 30% of Shop At Home at any time between November 1, 2004, and October 31, 2007, at the then fair value. We have an option to acquire the remaining 30% of Shop At Home at any time after October 31, 2007, at the then fair value. Upon exercise of either option, Summit America must repay the $47.5 million note due us and redeem the Summit America preferred stock held by us.
F-33
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Earnings and cash flow can be affected by, among other things, economic conditions, interest rate changes, foreign currency fluctuations (primarily in the exchange rate for the Japanese yen) and changes in the price of newsprint. We are also exposed to changes in the market value of our investments.
We may use foreign currency forward and option contracts to hedge our cash flow exposures that are denominated in Japanese yen and forward contracts to reduce the risk of changes in the price of newsprint on anticipated newsprint purchases. We held no foreign currency or newsprint derivative financial instruments at June 30, 2003.
The following table presents additional information about market-risk-sensitive financial instruments:
Basis
Fair
Value
Financial instruments subject to interest rate risk:
Variable-rate credit facilities, including commercial paper
Total long-term debt including current portion
Interest rate swap
Note from Summit America, including accreted discount
Financial instruments subject to market value risk:
Other available-for-sale securities
Total investments in publicly-traded companies
Summit America preferred stock
Digital Theater Systems (“DTS”) (587,000 common shares)
Our objectives in managing interest rate risk are to limit the impact of interest rate changes on our earnings and cash flows and to reduce our overall borrowing costs. We manage interest rate risk primarily by maintaining a mix of fixed-rate and variable-rate debt. In February 2003, we issued $50 million of 3.75% notes due in 2008. Concurrently, we entered into a receive-fixed, pay-floating interest rate swap, effectively converting the notes to a variable-rate obligation indexed to LIBOR. We account for the interest rate swap as a fair value hedge of the underlying fixed-rate notes. As a result, changes in the fair value of the interest rate swap are offset by changes in the fair value of the swapped notes and no net gain or loss is recognized in earnings.
The weighted-average interest rate on borrowings under the Variable-Rate Credit Facilities was 1.2% at June 30, 2003, and 1.4% at December 31, 2002.
The carrying amount of the Summit America note is based on the estimated fair value of the note at the date of acquisition of the controlling interest in Shop At Home plus accreted discount.
F-34
CONTROLS AND PROCEDURES
Scripps’ management is responsible for the preparation, integrity and objectivity of the consolidated financial statements and other information presented in this report. The financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and reflect certain estimates and adjustments by management. In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, we must make a variety of decisions that affect the reported amounts and the related disclosures. Such decisions include the selection of accounting principles that reflect the economic substance of the underlying transactions and the assumptions on which to base accounting estimates. In reaching such decisions, we apply judgment based on our understanding and analysis of the relevant circumstances, including our historical experience, actuarial studies and other assumptions. We re-evaluate our estimates and assumptions on an ongoing basis. While actual results could, in fact, differ from those estimated at the time of preparation of the financial statements, we are committed to preparing financial statements incorporating accounting principles, assumptions and estimates that promote the representational faithfulness, verifiability, neutrality and transparency of the accounting information included in the financial statements.
We maintain a system of internal accounting controls and procedures, which management believes provide reasonable assurance that transactions are properly recorded and that assets are protected from loss or unauthorized use.
We maintain a system of disclosure controls and procedures to ensure timely collection and evaluation of information subject to disclosure, to ensure the selection of appropriate accounting polices, and to ensure compliance with our accounting policies and procedures. Our disclosure control systems and procedures include the certification of financial information provided by each of our businesses by the management of those businesses.
The integrity of the internal accounting and disclosure control systems are based on written policies and procedures, the careful selection and training of qualified financial personnel, a program of internal audits and direct management review. Our disclosure control committee meets periodically to review our systems and procedures and to review our financial statements and related disclosures.
Both the internal and independent auditors have direct and private access to the Audit Committee.
In June and July 2003, an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-14(c) under the Securities Exchange Act of 1934) was carried out under the supervision of and with the participation of management, including the Chief Executive Officer and the Chief Financial Officer. Based upon that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the design and operation of these disclosure controls and procedures are effective. There were no significant changes in internal controls or in other factors that could significantly affect these controls subsequent to the date of the most recent evaluation.
F-35
Index to Exhibits
Ratio of Earnings to Fixed Charges
Rule 13a-14(a)/15d-14(a) Certifications
Section 1350 Certifications
E-1