May 9, 2006
TRANSCRIPT SPONSOR
Executives
Bob Iger - President and Chief Executive Officer Tom Staggs - Senior Executive Vice President and Chief Financial Officer Wendy Webb - Senior Vice President of Investor Relations and Shareholder Services
Analysts
Anthony Noto - Goldman Sachs Jessica Reif Cohen - Merrill Lynch Doug Mitchelson - Deutsche Bank Securities William Drewry - Credit Suisse First Boston Jason Bazinet - Citigroup Aryeh Bourkoff - UBS David Miller - Sanders Morris Harris Jeff Logsdon - Harris Nesbitt Kathy Styponias - Prudential Tuna Amobi - Standard & Poor's Equity Michael Nathanson - Sanford Bernstein Douglas Shapiro - Banc of America Securities
Operator
Good day, ladies and gentlemen, thank you for standing by and welcome to the Walt Disney Company Fiscal Year 2006 Q2 Earnings Conference Call. My name is Carlo and I will be your coordinator for today's presentation.
At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of today's prepared remarks, at which time, if you would like to ask a question, please key star, 1 on your touchtone telephone.
If at any time during the call you require audio assistance, please press star followed by 0 and a coordinator will be happy to assist you. I would now like to turn the presentation over to your host for today's conference, Ms.
Wendy Webb, Senior Vice President Investor Relations and Shareholder Services. Please proceed, madam.
Wendy Webb
Thank you, and thanks for joining us today. On the call with us this afternoon are Bob Iger, Disney's President and Chief Executive Officer, and Tom Staggs, Senior Executive Vice President and Chief Financial Officer.
Bob will lead off, followed by Tom, then we will open the call to you for Q&A. We will do our best to conclude the call before 2:30 p.m.
Pacific Time. So let's get started.
Bob.
TRANSCRIPT SPONSOR
Bob Iger
Thanks, Wendy. We are pleased to be reporting strong quarterly earnings today, and equally pleased with the operational, creative, and strategic momentum that continues at our company.
Since our last earnings report, we: These activities and many more reflect how Disney continues to advance our three company-wide strategic priorities -- creativity and innovation, the application of technology, and global expansion -- to drive growth and long-term shareholder value. I am confident that we are on the right strategic course and I am pleased our entire organization is implementing against our priorities.
Disney's number one priority is to allocate capital in the direction of high-quality, branded content and to deliver it to consumers all over the world through both traditional and new distribution methods, directly or through strong relationships with third parties. Technology is presenting enormous opportunities for us to distribute content more efficiently and effectively worldwide to meet consumers' interests.
The Walt Disney Company is unique because Disney is the only true global brand in the entertainment business. This is a great competitive advantage for our company as platforms need leading brands to drive or sustain consumer adoption.
Likewise, consumers seek out leading brands to cut through the clutter. New distribution platforms and consumer electronic devices for entertainment are hitting the market at a rapid pace.
Whether through Apple's iPod, broadband internet services, digital cinema, new mobile services, or flat-panel HD televisions, Disney will continue to distribute its creative assets, or creative new platform-specific content, to best take advantage of emerging distribution mediums and consumer trends. While we continue to respect and seek to create value for our current distribution partners, we also will move our array of creative assets onto emerging platforms to serve consumers who are accessing media in many new ways.
When compelling opportunities arise, we are prepared to experiment strategically and invest wisely. Our focus on innovation and our willingness to experiment means we have to take some calculated risks.
Though we may not succeed with every new initiative, we are testing new business models, striving to deepen our relationship with consumers and learning from our efforts in order to position ourselves as a true modern media company. Our recent decision to provide a number of ABC's top programs, including Lost and Desperate Housewives, on abc.com is a clear example of our strategic direction which we believe responds to consumer trends.
By providing episodes of our top programs on abc.com, we are extending the broadcast economic model to the Internet, as these programs are ad-supported and free to consumers. For advertisers, this complementary platform provides another marketing opportunity which we think offers great potential for new revenue growth.
On the creative front, I am pleased to report we closed our deal with Pixar last week. Nothing is more important than creativity to Disney's success, and animation is Disney's creative center.
As we said at the time of our Pixar announcement in January, this acquisition is designed to strengthen and grow animation and to insure our creative efforts are consistently great. I am extremely encouraged by how smooth the transition and integration have been.
Under the new leadership of Ed Catmull and John Lasseter, we expect both Disney and Pixar Animation to be vital and productive and to create long-term value through films that become enduring franchises, with stories and characters that will live forever in places and on platforms too vast to even imagine today. Of course, we are looking forward to Steve Jobs' participation as a member of our board.
We are very excited about Pixar's next movie, Cars, which hits theaters in the U.S. on June 9th.
The level of innovation reflected in this film is unlike anything audiences have experienced in the past, which is made all the more memorable thanks to the quality of Cars' storytelling and inventive characters. We believe this film has tremendous potential to be a classic franchise for our company over the long term.
Beyond Cars, the creative strength of Walt Disney studios will be highlighted in the coming months by the second feature film in our immensely popular pirates franchise, Pirates of the Caribbean: Dead Man's Chest. This film is part of our fundamental strategy to invest in branded content.
In addition, we are extremely enthusiastic about Tarzan, our fourth theatrical production on Broadway, which has its premiere tomorrow. Investment in quality entertainment extends across our business segments.
Next week, ABC will unveil its fall schedule for its primetime lineup, signaling the start of the up-front sales market. Based on the quality of the programs developed for next season that we just screened, we are thrilled with ABC's potential this fall.
Furthermore, we enter the up-front marketplace from a solid position due to the strength of our returning series, which deliver more upscale viewers than any other network, something advertisers covet. At ESPN, our schedule for next season is incredibly strong and it now includes our premiere program, Monday Night Football.
The addition of NASCAR, which is also on ABC, reflecting our commitment to offering the best in sports programming. On the more immediate horizon, our combined sports platform of ESPN and ABC Sports will showcase the NBA Finals, with the playoffs taking place this month, and World Cup Soccer this summer.
Disney's future is guided by our focus on consumers and our strategic priorities. Over the past few years, we have made operational excellence a focal point to ensure that no matter the shift in macro forces, we are well-positioned to face market conditions.
We know we need to be nimble. Our businesses need to evolve quickly to changes in the environment to maximize the value of our assets.
In a world where new technology, shifts in consumer behavior, and expanding global markets continue, we are designing a company to grow and flourish well into the future. Now, to provide more details on our performance, Tom Staggs, our CFO.
Tom.
Tom Staggs
Thank you, Bob. Although our focus remains on managing and investing in our businesses for the long term, it's gratifying to report on the continued improvement in our results.
One of the best examples of our long-term approach is parks and resorts. The substantial investments we made in the mid to late 90’s helped solidify our strong competitive position in this business, and allowed us to bring down our overall capital expenditures for the foreseeable future, even as we selectively invest in great new attractions like Expedition Everest.
The benefit of that investment is also apparent in the attendance growth we have shown over the last several years and in our current results. Excluding the impact of Euro Disney and Hong Kong Disneyland, theme park revenue in Q2 grew by more than 8%, and operating profit increased 29%.
Our year-over-year margins continued to improve as well. Despite Easter falling in Q3 this year versus Q2 in 2005, attendance increased at both our domestic park locations for the March quarter.
At Walt Disney World, visitation increased by 3%, led by strong resident turn out due in part to the pre-opening of Expedition Everest. However, the shift in attendance mix towards resident visitors contributed to a modest decline in per capita spending at the Florida parks.
Occupancies at Walt Disney World increased to 85%, and per room spending increased somewhat as well. At the Disneyland resort, the positive response to our 50th Anniversary Celebration has continued to exceed our expectations.
Attendance grew by 15% in the second quarter, with per capita spending growing by high single-digit percentages. Occupancies improved by almost 9 percentage points to over 88%.
Looking ahead, we are seeing continued strength at our domestic parks as combined room reservations on the books are pacing high single digits ahead of the prior year for Q3. The third quarter should reflect the benefit of the timing of Easter, but it is also worth noting that on May 5th, we overlapped last year's start of the 50th Anniversary, which will make comparisons more challenging, especially at Disneyland.
The increase in the gasoline prices does not appear to be directly affecting our theme park business. In fact, over the years, fuel costs have not had a demonstrable effect on our attendance.
As much as no one likes to pay more at the pump, the incremental increase in a family's vacation budget due to higher gas prices is relatively small in relation to the overall cost of a vacation. For the average American traveling by car, a $1 increase per gallon would result in an increase of about $40 for the trip as a whole.
The impact is also relatively modest for those visitors arriving by air. So unless the increase in oil prices meaningfully impacts consumer confidence and spending, we would not expect to see gas prices have a large affect on our parks this summer.
Our overall theme park results were dampened somewhat by performance at Disneyland Paris, where volumes and spending were down in the second quarter, in part due to the timing of Easter. However, for Q3, the benefit of Easter and the opening of Buzz Lightyear are having a positive effect on trends, as both bookings and attendance are currently running meaningfully ahead of last year.
Theme parks are among our longest-term investment propositions. After only seven months of operations, it is a bit premature to try to judge results at Hong Kong Disneyland.
The property continues to generate high satisfaction for our guests. However, we have also seen greater seasonality in attendance than we had hoped to see.
We learned a great about this market and continue to do so. Hong Kong Disneyland is launching several new marketing and promotional initiatives, and with three new attractions opening this summer, we believe the elements are in place to increase attendance there.
Our attendance target for year one is still 5.6 million, but hitting that goal will depend in part on the success of these initiatives. Media networks was the biggest driver of our profit growth again in Q2.
Our broadcasting results led the way in this segment, as primetime ratings and a solid ad market drove substantial gains at the ABC network. Primetime CPM’s for Q2 were double-digit percentages above up-front levels, and current CPM’s for Q3 are also up double digits.
We produce and own many of ABC's most successful shows, as well as some that air on other networks. The upside from these shows in syndication can be substantial.
Based on current ratings, and assuming continued strength in the marketplace, the shows we have already sold, plus shows like Lost and Grey's Anatomy, should contribute well over $1 billion in operating income across both traditional and new media platforms over the next five years. At our TV station group, we saw double-digit growth in ad revenues in Q2, due primarily to the Super Bowl.
So far in the June quarter, ad pacings at our stations are up mid-single digits versus last year. Q2 ad sales at our radio business were off modestly versus last year, and are slightly below prior years so far in Q3.
On the cable side, total operating profit was up 5%. The underlying results though are more positive than this growth rate might suggest, since ESPN's carriage agreements cause us to defer a little over $30 million more revenue in Q2 of this year than we did in Q2 of 2005.
For the first two quarters of the fiscal year, our year-over-year increase in revenue deferrals totals $137 million. We will recognize this revenue in the second half of this year.
In addition, ESPN results this quarter with impacted by roughly $25 million in losses associated with the startup of ESPN Mobile phone initiative. Disney Channel's creative success continue to show in the ratings in Q2, with all key demos up strong, double-digit percentages.
In March, we took an important step in the expansion of the Disney brand and programming in the U.K., with the new BSkyB distribution deal. Under that agreement, Disney Channel and Playhouse Disney will move to the basic tier, dramatically increasing their reach, which will now total over 9 million homes in the U.K.
The switch from a premium to basic tier will dampen international cable profits for 2006, but this move should strengthen our overall business in the long term, as it has in the U.S. At the studio, as anticipated, we faced difficult home video comparisons to last year's March quarter, which included the DVD release of The Incredibles.
Nonetheless, lower distribution costs at Miramax and the continued strong performance of Chronicles of Narnia helped soften this be decline. Looking ahead at the studio, we expect to see strong improvement in the second half of the year, with the key swing factors, of course, being what have become two of the most anticipated films of the year -- Cars, and Pirates of the Caribbean: Dead Man's Chest.
In consumer products, licensing profits fell short of prior-year levels due to the recognition of higher guarantee shortfall payments last year. At Buena Vista Games, investment spending dampened profit for the quarter, but we are pleased with our progress here and see video games as another area where we can leverage our brand, content, and creative strength to generate future growth.
We recently released the sequel to Kingdom Hearts for PlayStation2 and have sold more than 1 million units in just four weeks. The success of the Kingdom Hearts titles helps demonstrate the potential appeal of Disney's brand and characters in this market.
As we look ahead to the balance of the year for consumer products, Cars and Pirates will likely prove to be the most important swing factors in this segment as well. Although our free cash flow for the second quarter was helped by the timing of certain payments and other working capital items, our focus over the last five years on generating increased cash flow from our businesses has obviously paid off.
As we continue to deliver strong cash flow, we will look to reinvest in those areas where we think we can properly grow and generate strong returns for our shareholders. At the same time, we also expect to continue returning value to our investors through dividends and share repurchase.
Although we have been limited in our ability to buy back shares due to the pendency of the Pixar transaction, since we announced the deal in January, we have repurchased more than 28 million shares of Disney stock for roughly $800 million. We are increasing our pace of share repurchase now that the transaction is completed, consistent with repurchase targets we set earlier this year.
We are now in the process of analyzing the purchase accounting for our Pixar transaction, but putting aside any one-time impacts, and depending on the level of success we see with Cars, we anticipate that this transaction will result in roughly $0.10 of earnings dilution this year, with that impact being distributed nearly equally between Q3 and Q4. Given our strong earnings results thus far and assuming continued strength in the climate for our businesses, we look forward to delivering our fourth straight year of double-digit earnings growth, even taking into account this Pixar-related dilution.
We are pleased with the trends we see across the company. Our core businesses are healthy and growing, and we are successfully leveraging our creative assets, our strong brands, and our relationship with consumers in innovative ways to take advantage of the evolving media marketplace around the world.
We are confident that through continued creative and technological innovation, we can further enhance our financial performance and create lasting value for our shareholders. Now, we would be happy to take a few questions.
Wendy Webb
Thanks, Tom. We are ready to take the first question, operator.
Operator
Thank you. (Operator Instructions) Our first question is from the line of Anthony Noto with Goldman Sachs.
Anthony Noto - Goldman Sachs
Thank you. Tom, a question on costs, and then, Bob, a question on revenue.
On the cost side, there are several businesses that are still operating below what we would call normalized levels, specifically the theme parks, studio, as well as consumer products. I was wondering if you could give us a perspective on some potential cost rationalizations that could get margins back even above where they were at normalized levels, such as rationalization of brand or distribution systems.
Bob, the recent initiative out at ABC with abc.com, what are the early signs you are seeing there? How could you exploit that more significantly in the near term while the long-term opportunity looks pretty large?
Thanks.
Tom Staggs
Anthony, on the margin and cost side, you mentioned theme parks, which is an area where we have seen steady increase in our margins, and a lot of that is happening through tight cost controls by our parks operators, and they continue to focus on that issue. We have talked about our goals for improving margins over time.
We are on track vis-à-vis those goals, and I think you will continue to see margin improvement there. The other areas, you mentioned the studio.
One of the things that we hope to accomplish as we really focus our activities in studio on Disney-branded items is to lead to more consistency and higher margins overall. We have not set a number that is the target publicly, but that is another area where we hope to see margin improvement.
We have also got margin improvement potential at our consumer products business, but I hasten to add that as our video games business grows there, as we are self-publishing, self-publishing's a lower margin activity than licensing. We think the overall profitability will grow, but even as we improve the rest of consumer products in terms of margins, largely through having licensed the bulk of the Disney stores, the games business, even in success, will come in at lower margins overall.
In media networks, it is really about balancing programming costs and overhead, which we are aggressively focused on doing, but at the same time, we think it is important that we continue to invest in the programming. You have seen that in the figures so far this year.
Bob Iger
Regarding ABC.com, Anthony, the long-term potential in many respects is already being proven to us in our early results. I am not prepared to give you numbers per se in terms of the number of downloads, although we are pleased so far with the traffic, but what is clear is that this is a very, very simple user interface and a very satisfactory user experience.
The second thing is clear, which is one of the motivations behind doing this, is that this is a product that advertisers are very interested in and are really happy with. I think what this portends is a real integrated sales process where the network sells not just the initial platform on broadcast television, but the new platforms on things like abc.com and elsewhere.
What I find really interesting is just how great the experience is, not just as a consumer but I believe as an advertiser. I watched Desperate Housewives from Sunday night this morning on my office computer on abc.com.
I had not seen it. While I was prepping for earnings, I had a little time, so I watched and I was amazed at not only how good the quality of the video was, but how easy it was to find.
Then, when the commercial came up, which in this case was for Tylenol, it was very effective. It was a standard commercial, but when you move the cursor over Tylenol boxes, it gave you more information about each product without slowing down the commercial itself.
I would image that for a sponsor, that would be of great interest, because you are in effect adding to the value of the commercial without necessarily asking the customer to do anything more in terms of time or activity. So I really believe long term that this is going to be an important part of our business, and it is going to generate a lot more business, because not only will it attract consumers, but it is a great opportunity to offer to advertisers who may want a little bit more from their web experience than just banner ads and page search.
Anthony Noto - Goldman Sachs
Great, thank you.
Wendy Webb
Thanks. We will take the next question please.
Operator
Our next question is from the line of Jessica Reif Cohen, Merrill Lynch.
Jessica Reif Cohen - Merrill Lynch
Thank you. Along the lines of abc.com, Bob, could you discuss your outlook for the up-front?
Do you think it will be different? Will it include a digital offering?
If it will, will it slow the process down? Separately, could you discuss, now that you have closed Pixar, where you are in terms of sequels and how you expect to ramp up overall animation?
Bob Iger
Sure. Regarding the up-front, we are focused on ABC's up-front, not the overall marketplace.
The reason for that is, we see ABC being incredibly well-positioned going to this up-front, and ABC does expect to grow revenue nicely in this up-front. That is due to the quality and diversity of its schedule, the fact that, as I mentioned in my remarks, they are delivering tremendous upscale demographics, the number of shows they have in the top 10, and also the strength of ABC's new development, which is fantastic.
They had a development year that was very, very solid -- probably the richest that I have seen in a long time. Now, it is always about execution when these shows go on the air, but the choices that ABC has in both comedy and drama are very deep.
As it relates to integrated sales and the exploitation of new platforms like abc.com, there will be more deals cut this year in the up-front than in the past that do factor in new platforms. But the sense that we get is that it will not slow the process down at all, and I would imagine the up-front will open right after Memorial Day weekend.
We do not see it complicating things at all, partially because we have already put product in the marketplace, and so rather than talking about something that is purely speculative in nature, we have already created a real demonstration. That goes a long way, which is one of the reasons why ABC decided to launch when it did, is so that when we talk about this in the up-front, advertisers already know what the product is.
As it relates to Pixar, you asked a question first about sequels. The only sequel that we have in the production at this point, and it is in early stages, is Toy Story 3.
We are in discussions about sequels to other films but there is nothing more to say about that. In terms of volume, we are really being careful here in terms of predicting just how much volume or how much output you will get out of Disney and Pixar Animation, because the goal really is quality.
We are looking to greenlight films that we believe should be made and release them when we believe they are ready. So far, we have only 3 films that we have announced dates for.
Cars is the obvious one, which comes out this June. Early next year, we have A Day with the Robinsons, and then that will be followed by Ratatouille.
Toy Story 3 and American Dog are both in production, as are many other projects, but we are not making any firm announcements about what those projects are or when they will be released.
Jessica Reif Cohen - Merrill Lynch
Thank you.
Wendy Webb
Thank you. We'll take the next question, please.
Operator
Our next question is from the line of Doug Mitchelson with Deutsche Bank Securities.
Doug Mitchelson - Deutsche Bank Securities
Thank you very much. A two-part question on theme parks.
In your comments on Hong Kong Disneyland, I was hoping you could give us a sense of if Hong Kong falls short of your first-year expectations, are there any consequences with the impact to Disney? Then on domestic parks, you talked about comps being against the 50th anniversary marketing.
How do you plan to grow attendance in '07 when the 50th anniversary ends entirely?
Bob Iger
Doug, Tom will answer the question about Hong Kong that you asked, but before he does, let me say a few things about Hong Kong. First of all, I really believe this is a great asset that is going to create real, long-term value for the company.
You cannot really look at it in snapshot form, where seven months in to its run, which hopefully will last forever. We know as Tom said in his remarks, guest satisfaction is very high.
We have seen no problem at all with price value relationship. We clearly have a lot to learn about the market and we are evaluating a number of issues.
There is more seasonality, as Tom pointed out, than we expected. Overall, I do not think our marketing efforts have been as effective as they could be, but I am confident we are going to figure this out and rise above the challenges, and end up with a solid asset that is going to be a real linchpin for growth in the marketplace for the company for decades to come, which is one of the reasons why we built it.
In terms of growing the domestic parks in '07 and beyond, or beyond the 50th Anniversary, there are so many things we believe we will be able to do to create growth, some in a more traditional direction by adding attractions. But because we are pretty focused on growing our return on invested capital and we are not currently planning on opening any new gates, we believe that we will continue to be judicious about new attractions and creative about new attractions.
I think Everest is a great example of that. We have had over 1.5 million people ride that attraction.
Since it has opened, Animal Kingdom has shot up from I think the number 4 to the number 2 park in attendance, and it is a great example of what one attraction can do in terms of improving our business. Beyond that, as you know, we are doing a lot of things, some that are pricing-oriented from a strategic perspective, some that involve other things like moving more people on property from off-property hotels, extending length of stay -- that all seems to be working nicely.
Again, the ability to check your bags and not have to show up at baggage claim, but they show up at your hotel if you are staying with us. We are doing a lot more targeted marketing from a demographic perspective.
There are all kinds of other initiatives underway that we think are not only going to be able to grow margins but grow business. The other thing that I want to note is that we have seen incredible growth in our Vacation Club business.
This is a business where we have roughly 2,000 units open at this point, and I would imagine we will end up building substantially more in the years ahead. Our CAGR on this business is roughly 20%, and we have really high returns on invested capital.
It is a great way to strengthen our relationship with core consumers. I think it is going to provide us with some pretty interesting growth in the years to come.
So in general, on the theme park business, while the 50th Anniversary clearly worked, it is certainly not the end or the peak of our business performance there. I think we have a lot of room to grow.
Tom Staggs
Doug, with regard to Hong Kong, as you might expect -- and based your question, I guess you do expect -- Hong Kong Disneyland has debt in its capital structure. It is a much more conservative capital structure than, say, they have over in Paris, but that debt does have certain covenants.
Those covenants apply to about 30%, or around $290 million of their current debt. So as you can see, it is a modest portion of debt overall.
We are certainly hopeful that the initiatives Hong Kong Disneyland has announced and put in place, the new attractions and the promotions, will allow them to meet the 5.6 million in attendance target. If they should fall short, it could trigger the covenants, but I think you should bear in mind that Hong Kong Disneyland is in a very strong financial position with great liquidity.
So I would expect that, if necessary, Hong Kong Disneyland would be able to achieve whatever accommodations are required from the lending banks, but that would take that conversation if we come to that point in time. As Bob mentioned, we are focused on the long term, but I think from a short-term standpoint, this is a company with good liquidity, strong current cash balances and they are in a stable financial position, from my perspective.
With regard to '07 in particular, just to add on to Bob's point, we have said in the past that we think there is room to grow our attendance from here. The attendance at Disneyland in particular perhaps is a little bit above that trend line right now, but I think you will see our ability over the long term to continue to grow attendance at a reasonable rate.
So we are quite optimistic about where that business goes over time.
Wendy Webb
Thank you. We'll take the next question, please.
Operator
Our next question is from the line of William Drewry with Credit Suisse.
William Drewry - Credit Suisse First Boston
Two quick questions. One, just wondering, the ratings growth at Disney Channel has been fantastic.
Obviously you have some new franchises you have established there, including you mentioned High School Musical. Just wondering what the monetization opportunities are with that, without the advertising platform that you have with the other networks, and just wondering how you can grow the profits and expand the margins there.
Secondly, Bob, with the deals that you have under your belt now done, any outlook you can give us in terms of potential M&A activity and any kind of assets that you might be interested in tucking into the portfolio going forward? Thank you.
Bob Iger
One of the things that I like about both the ABC business and the Disney Channel business is that these are platforms that generate enough revenue to not only impact the bottom line positively, but fuel our investment in high-quality branded content that we can then use on new platforms like abc.com or disney.com, or iTunes iPod, or that we can use internationally. So I talked in my remarks about a focus on investing in branded content.
The Disney Channel is just that. We are using the channel to create new franchises for the company or to strengthen older ones.
For instance, this past weekend, we premiered a new Mickey Mouse program for kids 2 to 5, and it had really strong ratings on Friday night and on Saturday and Sunday morning. It's a CGI version of Mickey Mouse, with a nice interactive feature and a learning component.
We think this is a great way to add a little luster to a character that obviously has a lot of value. That is probably a great example of what the channel can do.
High School Musical is clearly a phenomenon, and we are looking to use its success in a variety of ways from music to merchandising, with deals at things like the Limited, but we are also looking to produce it in original form in other markets, such as India and Latin America, with an all-Latin American or an all-Indian cast. Again, just examples of when you have a successful platform, what you can do in terms of investing in content that creates long-term value.
Clearly with that, we will be able to monetize it. We are also growing the channels outside the United States.
Tom mentioned in his remarks going to basic service on Sky in the U.K. We have added new markets over the years.
We launched in India a year ago December. We hope one day to launch in China.
The stronger this programming gets, the better off we are in terms of extending it globally and penetrating markets with the Disney branded content more deeply. In terms of the second part of your question, Bill, in terms of M&A activity, obviously we cannot comment on anything particular except to point you back in the direction of our balance sheet, which is incredibly strong.
Just look at our cash flow generation in the 6 months to date, which has been quite good, and our current debt levels. I think it is safe to assume that if we see an opportunity to invest, whether it is to buy or to build from scratch, we have ample opportunity from a financial perspective to do that.
Wendy Webb
Thank you. We'll take the next question, please.
Operator
Our next question is from the line of Jason Bazinet with Citigroup.
Jason Bazinet - Citigroup
I have maybe a naive question about the abc.com experiment. On the website, it mentions using or viewing episodes online for free over a two-month period.
Are we to infer it is possible that if the results do not come in according to expectations, you will tear it down, or put on different content than is on there now? Or do you plan on charging for content after the June 30th timeframe?
Bob Iger
Well, I think this is an evolving platform, and there are a number of possibilities, but from the early experience that we have had, I think it is safe to assume that some form of free-to-the-consumer experience will continue that is advertiser-supported. The only reason we may have signaled that some of this could be short-lived is that we could cycle out these programs and put others in.
We may be somewhat limited in terms of some initial technical issues in terms of the number of programs that we can provide. I can tell you that as we see it, this is not an experiment.
We are in this for the long run. As I said in my remarks earlier, in responding to Anthony Noto, this is working.
It is a great opportunity for us to not only grow our business, but to provide consumers with a chance to watch programs they may have missed on ABC, which is what a number of these new initiatives are designed to do -- grow the Company, strengthen the relationship with the consumer, add incremental consumption in effect by creating a convenience that viewers have never had before.
Jason Bazinet - Citigroup
That's great. Thank you.
Wendy Webb
Thanks. We'll take the next question, please.
Operator
Our next question is from the line of Aryeh Bourkoff with UBS.
Aryeh Bourkoff - UBS
Good afternoon. Just a few quick ones, if I could.
I think before you had disclosed a digital or Internet revenue number around $500 million. I was wondering if that is right, if you could give us an update on that, especially as you really pursue these initiatives.
Second of all, maybe an update on the MVNO strategy and the cost, and maybe what the subsidy is currently on the phones? Lastly, what your plans are for the E Entertainment stake.
Thanks.
Tom Staggs
Sure. First of all, Internet revenues, we had said earlier in the year that we expected that Internet revenues this year would exceed $500 million.
We are still very comfortable with that number. The one thing that I would hasten to add, though, is that that is a net number not including the commerce, if you will, from the theme parks.
In other words, that is just the internet revenues based on the advertising and the pay content, et cetera. If you added in the theme park packages that we are selling online, you would actually get a number over $1 billion, but $500 million in internet revenues is still a good number.
With regard to the MVNO’s, we have said that we are going to spend in excess of $130 million on starting up this business. I continue to expect that to be true.
It is very early going, so I would hesitate to sort of qualify what we have seen so far, other than to say that we are still at it. The Disney MVNO launches this summer, and we are hopeful for its success, but you should expect that those initiatives continue apace and we will continue to watch them and we will keep an eye on them as they go.
Bob Iger
The third one, Aryeh, we are not going to comment on the disposition of our stake in E. I am not even sure whether we have said anything publicly to begin with, but it is not something that we have anything to add to.
I will say one more thing about the MVNO, Tom mentioned it is still early. The initial results were a little bit lower than we had hoped, but we have changed our pricing approach.
We have strengthened and redirected our marketing. We are expanding our presence of retail.
So it is clear that the jury is still out, but we also had some work to do in terms of redirecting some of the efforts.
Wendy Webb
Thank you. We'll take the next question, please.
Operator
Our next question is from the line of David Miller with Sanders Morris Harris.
David Miller - Sanders Morris Harris
Good afternoon. Tom, a couple questions for you.
On the radio Spinco transaction, at this point today, are you favoring a spin-off or a split-off, or a combination of both? I would love to know what you are thinking there.
Also, on the studio line, the $147 million that you guys did in operating income looks pretty stealth relative to the revenue number. Was that driven mostly by Narnia and sell-through, or were you guys just a little bit more stealth on expenses than you usually are?
Thanks very much.
Tom Staggs
I am not sure I know what the word stealth means in that context, but on the radio spin or split, we have not made the decision yet, so I would not say that we have a leaning one way or the other, either way. Obviously the stock, if and when we close that deal, is distributed to our shareholders by one mechanism or the other.
We are going to have to look at market conditions as we get closer to that date, so I do not really want to comment much further on that. With regard to the studio profitability, well -- there is nothing stealth, put it that way.
The bottom line is that we had less favorable results with regard to home video, as you no doubt expected, because of Incredibles last year. The Narnia home video release is really a Q3 item, so it is not figuring dramatically into this year.
We had many fewer Miramax releases in the current quarter and that led to an improvement on the theatrical line that might have been better than you might have anticipated, and that could have impacted the point of view. Also, we had year-over-year favorable comparisons with regard to our television distribution, because of the slate that we had available for television this year.
So it is pretty consistent with what we expected. I think the good news is that Narnia theatrically continued to perform quite well, and that did soften the decline that we had expected a bit, but other than that, the quarter is relatively straightforward.
David Miller - Sanders Morris Harris
Thank you.
Wendy Webb
Thanks. We'll take the next question, please.
Operator
Our next question is from the line of Jeff Logsdon with Harris Nesbitt.
Jeff Logsdon - Harris Nesbitt
Thank you. Bob, could you give us an overview on companies thinking about digital cinema?
It seems that that is coming to the forefront now on the exhibition side. Then, any quick comments about the impact that the elections might have, either on the up-front market or in the scatter market as we go into the fall?
Bob Iger
Well, we are big believers in digital cinema, because anything that either eases our ability to get product to the market, or ultimately makes the consumer experience better in movie theaters, is something we support. As many of you on the line know, it has been complicated.
It is deemed expensive by many, and there are a variety of issues the industry is contending with. In the end, I think it is inevitable and I am confident that ultimately we will see enough penetration in the marketplace to make a difference.
In terms of elections, this is something that we see mostly local stations, at least to date. There has been some heightened activity in some markets, particularly in California, where there is a primary election in June for the governorship of California.
That has resulted in some up-take. There is also some interesting activity politically in New York and Pennsylvania.
So we are not quantifying it at this point, but our stations are starting to see a positive impact from that.
Jeff Logsdon - Harris Nesbitt
Great, thanks.
Wendy Webb
Thank you. We'll take the next question, please.
Operator
Our next question is from the line of Kathy Styponias with Prudential.
Kathy Styponias - Prudential
Thank you. I have two questions as well.
Tom, with the new NFL amortization coming up in fiscal year '07 after the September quarter, could you talk a little bit about how you might plan to amortize that contract, whether it will be straight line or whether it will be on an accelerated basis? If it is on a straight-line basis, how should we think about the increase that we will see in the amortization cost?
Some of that should surely be offset by much greater profitability on Monday night on ABC. Then the second question is I think I saw that you purchased a radio station from The New York Times in the New York market.
I assume that is going to be somehow put into the either split or spin of the radio assets? Thanks.
Tom Staggs
With regard to the NFL, one thing to point out is that the season starts during our fiscal 2006. So the next contract actually starts in the fourth quarter of this year, and we will see some impact from that during that quarter.
I would also just point out one thing and that is that -- I hope ESPN has announced this -- I think they have announced that they are going to do a double-header for the first night of Monday Night Football. Because that is a double-header on Monday night, the amortization goes based on the number of games, so it actually moves some amortization that would have been in 2007 into 2006 because we end up with an extra game in 2006.
The folks at ESPN are very excited about being able to kick off with that double-header on Monday night. With the amortization schedule, I think the best way to think about it is it is going to follow the payment schedule basically, and you should think of that in terms of low single-digit kind of percentage increases year-over-year in the amortization.
So it is not straight line, but it is a very modest slope to the amortization. With regard to radio in New York, I think you are referring to a station option that we had that was picked up through a station that we had operated previously.
It does not change the equation for us or for Citadel one way or the other.
Wendy Webb
Thank you. We'll take the next question, please.
Operator
Our next question is from the line of Tuna Amobi with Standard & Poor's Equity.
Tuna Amobi - Standard & Poor's Equity
Thank you very much. My question is for Bob.
On the abc.com, I was wondering why you chose to go with a free model at the onset as opposed to perhaps some kind of a combination subscription and ad supported. I think you alluded to technical issues, possibly, by the end of these experiments.
I was wondering, would you consider a technology partner if you find that such issues become paramount? If you could also comment on your overall strategy for the online experiment, that would be helpful.
Thank you.
Bob Iger
Well, I think you are going to see evolution of a number of different models, and this is just one that we have gone with. The reason we went with it is that we created what I will call a VOD model with iTunes that has been incredibly successful.
We have had over 5 million downloads of ABC and Disney shows since we launched in October. We feel really good about that direction, and we wanted to get a sense for what kind of advertiser interest there was.
It was pretty obvious to us early on that the advertiser interest in this was high and that it was only going to get higher. So we thought if we took a commercially supported product out there, that the best approach initially would be not to charge consumers for it and to have it more resemble what is available on air.
In terms of the technology part, the only thing I was really referring to is this is streaming video. It is actually technically not a download.
If I called it that, I did not mean to. It does not ever live on your hard drive.
Because we are using this technology, it requires an ample amount of bandwidth, which is available to us but there is also a cost associated with it, although I will put in the reasonable category, at least in our initial offering. But the more shows you offer, the more consumption, the more bandwidth you will need.
We are not against using a technology partner, but I do not believe that is really what we need here. The technology that we have deployed is working extremely well.
We just may look for different ways to move product to consumers. As a for instance, Warner Brothers announced something yesterday that is going to use BitTorrent, and while I am not necessarily advocating using BitTorrent, the whole notion of using a peer-to-peer sharing mechanism to move content is one that we have been very interested in and actually have been working on ourselves.
It is just again one of the issues -- what is the most efficient way to move content to consumers in a high-quality basis and under economic circumstances that make sense? In terms of the overall online strategy, the focus of the company is to really build out abc.com, disney.com, and espn.com, in many respects to be what I will call networks of the future that offer multiple services: in Disney's case, whether it is commerce or viewing or games or music; ESPN's case, just go find ESPN 360 and you will see what I mean, a lot of customization, regionalization, ways that you can really interact with your favorite sports teams and your favorite players; and in ABC's case, we are already showing you a glimpse of the future, which we have pretty quickly made the present.
I really think that we have opportunities here to take advantage of current trends on the Internet, which is growth in advertising, growth in consumption, the popularity of features like user-created videos or community functionality or communications, all with an underpinning of great creativity and strong brands. So as you look at the Company's future in this space, you have to focus first on ABC, ESPN and Disney, and what follows, we are not 100% sure, but this is definitely the focus.
Tuna Amobi - Standard & Poor's Equity
Thank you.
Wendy Webb
We'll take the next question, please.
Operator
Our next question is from the line of Michael Nathanson with Sanford Bernstein.
Michael Nathanson - Sanford Bernstein
Thanks. I have two for Tom and they are more of a housekeeping nature.
Tom, firstly, can you give me some more detail on the Pixar dilution? You talk about $0.10.
Is that reflective of increased share count? Or is there a step-up in amortization?
Can you give me some more color on that?
Tom Staggs
Sure. Do you have another question?
Michael Nathanson - Sanford Bernstein
Yes, the second one was cable network revenue growth was pretty strong this quarter. I wonder if you can break it out by affiliate fees and advertising.
How is the current quarter pacing in advertising?
Tom Staggs
Sure. With regard to Pixar dilution, the biggest driver far and away in Pixar dilution is the additional shares outstanding, if you take a look at that.
We are going through the purchase accounting now, as I mentioned earlier, and you should assume that the bulk of the purchase price will be allocated to non-amortizable good will, and that good will that will not be amortized will be between, let’s call it $5.5 billion to $6 billion, or in that general vicinity as we go through it. The rest is allocated to the various assets and are amortized over their respective lives, based on the accounting rules.
But it is really share count that is the issue. As you can see, when you think about, you have a $7.4 billion purchase price, a little over $1 billion of that is attributable to cash, and then the lion's share, the vast lion's share of the net, is really going to good will, which will not be amortized.
Michael Nathanson - Sanford Bernstein
Okay, and you have assumed that your $0.10 includes the buybacks?
Tom Staggs
Well, the $0.10 a share of dilution, for those on the phone, the buybacks that we do right now do not have a very big impact on EPS for this year, because obviously you use average shares outstanding in calculating EPS. So the $0.10 dilution will not be impacted much by buybacks.
That is the gross number. On the cable net revenue growth, the biggest driver was affiliate fees, far and away, for that business, even when you take into account the deferral.
We continue to see a pretty good ad market for cable. It is not as strong as we are seeing in primetime, but it is reasonable.
There is softness in spots, but I think that it is still overall a decent market.
Michael Nathanson - Sanford Bernstein
Was first quarter kind of mid-single digits, do you think, in ad growth of cable? Is that a fair assumption?
Tom Staggs
You mean the quarter we just ended?
Michael Nathanson - Sanford Bernstein
Yes.
Tom Staggs
Single digits, yes, mid-single digits. Remember, far and away our biggest advertising is driven by ESPN, right?
Because we have Disney Channel -- domestically, not ad-supported, and then the others have advertising revenue but are modest in comparison to ESPN.
Wendy Webb
Thanks, Michael. We have time for just one more question, operator.
Operator
Our final question is from the line of Douglas Shapiro with Banc of America Securities.
Douglas Shapiro - Banc of America Securities
Thanks a lot. I had two pretty quick ones, as well.
The first one is, Tom, I was just wondering if you could quantify the production and syndication contribution to the TV line in the quarter, which you allude to in the release. The second one is I guess more conceptual.
I was just wondering if you have any theory why the declining dollar does not seem to be driving international attendance any more than it is.
Tom Staggs
Well, I think we had seen very strong improvements in international attendance year-over-year for the last couple of years, and we continue to see strength in international attendance. You are right in surmising that it was not the big driver this quarter at Walt Disney World.
International attendance was up only modestly versus the prior year. Now, some of that again is the timing of Easter.
That is factoring into that equation. I still think there is some benefit from the dollar in terms of what we see in international attendance.
I am not making any predictions on sort of where that goes from here, but I think you will see us grow all segments over time.
Bob Iger
Tom, I do not think, to the point you made, you cannot really look at it in terms of the quarter. It is really because of Easter, because it's peak travel period for international travelers, and we did see 20% growth in international attendance in fiscal '05 at Walt Disney World.
That is pretty significant. While I do not know whether I would attribute it all to the declining dollar, that obviously was a factor, we think the year in general is going to be fairly positive for Walt Disney World in terms of international attendance.
Tom Staggs
I would think so, yes. With regard to the TV distribution line, we talked about that a little bit on the call.
That was a meaningful contributor in the quarter. It was less than $50 million, but I think it obviously made a difference.
Douglas Shapiro - Banc of America Securities
Okay, great. Thank you very much.
Wendy Webb
Thanks again for joining us today. Note that a reconciliation of non-GAAP measures referred to on this call to equivalent GAAP measures can be found on our investor relations website.
Let me also remind you that certain statements in today's press release and on this conference call may constitute forward-looking statements under the securities laws. These statements were made on the basis of management's views and assumptions regarding future events and business performance as of the time the statements were made, and management does not undertake any obligation to update these statements.
These statements are subject to a number of risks and uncertainties and actual results may differ materially from those expressed or implied in light of a variety of factors, including factors contained in our annual report on Form 10K, and in our other filings with the Securities and Exchange Commission. This concludes today's second quarter conference call.
Operator
Ladies and gentlemen, we thank you for your participation in today's conference. This concludes the presentation.
You may now disconnect.
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