Chapter 3: Economic sustainability
52.The question of whether C4C’s current model is financially sustainable is central to the debate about the future of Channel 4. The Committee identified two key issues which needed investigation:
(1)Did C4C’s business model, heavily dependent on advertising revenue, make it more vulnerable than other broadcasters to any changes in the UK advertising market? On the basis of the best available forecasts of the size of that market, was C4C likely to get into financial difficulties before the end of its current licence in 2024?
(2)Even if the advertising market was forecast to expand throughout the period of the licence, was C4C equipped to deal with the rapid pace of change due to market and technological developments51 which posed a series of structural risks to its model, given its reliance on younger audiences who were adopting new technologies and platforms?
Current business model
53.The Government has pointed out that television advertising revenues constitute over 90 per cent of C4C’s income. The Secretary of State identified a trend towards vertical integration among other UK broadcasters, diversifying their sources of income. Unlike ITV, which had a significant production business, or Sky, which had subscription revenues as well as advertising, C4C’s model was more closely tied to its audience figures and its ability to monetise them through advertising sales. As C4C’s audiences had been declining, it was vulnerable both to changes in the overall advertising market and to shifts in viewing patterns, particularly among the young. In that context it was understandable that the Government and the regulator should have been concerned by C4C’s performance since the 2008/9 financial crisis, when television advertising revenues dropped by as much as 17 per cent.52 There can be no disputing that C4C has faced some challenging times since then.
54.In 2009, as described in Chapter 1, the sharp loss of advertising revenue led to C4C’s then Chairman, Luke Johnson, arguing that the publicly owned, advertiser funded model was no longer wholly fit for purpose and lobbying for financial assistance. Ofcom and the Government considered a subsidy from the BBC or a merger with Channel 5 as possible options. However, in 2010 C4C had a change of top management and a change of approach. The Government told us:
“the successor Chairman (Lord Burns) and Chief Executive of Channel 4 (David Abraham) subsequently took a different view and the funding gap crisis was, in the words of the CMS (Culture Media and Sport) Committee, ‘consigned to history’, replaced by a more robust assessment of future advertising revenues and the potential for further efficiencies.”53
55.In 2010 Channel 4 stopped broadcasting Big Brother, its single most popular programme. For the next three years audience numbers declined as audiences fragmented because of the growth of digital platforms and the Channel embarked on a project of creative renewal. In 2012 and 2013 C4C reported losses as it increased its programme spend while developing a new schedule without what had been its best ratings performer. That audience decline was the background to concerns at Ofcom about Channel 4’s performance which led the regulator in its July 2015 review to sound what was effectively a warning note about Channel 4’s future sustainability and to suggest some possible ways of helping C4C. However, since then, the most recent audience and revenue figures show a more positive picture. Channel 4’s audience numbers for 2015 show the main channel actually grew its audience share for the first time in a decade and it was the only terrestrial channel to grow its audience share among all individuals (up over 1 per cent) and among 16–34 year olds (up by over 2 per cent).54 With the uptake of digital television, the main channel’s audience losses have been matched by increases in the audiences of the digital portfolio. David Abraham told the Committee: “Taken overall, we are holding on to a similar amount of audience share and impact that we had 10 years ago, and we are also seeing proportionately the value of what we are offering advertisers continuing to drive revenue growth.”55
56.While an Enders Analysis report on Channel 4 viewing trends accepted that the Secretary of State’s concern about audience loss in 2010–2014 was perfectly reasonable, particularly as the core Channel 4 audience of 16–34 year olds is the age group that has experienced the greatest decline in BARB56 TV viewing as they switch to online, it concluded that “the topline figures do not remotely tell the true story. 2010–2013 was a period of disruption due to special factors. Little decline has occurred since and Channel 4 group 16–34 and peak time viewing shares have held firm since 2010”. Enders did not think these figures were a significant factor in assessing the sustainability of the Channel 4 business model over the next 10 years.57
Figure 1: Percentage viewing share: all individuals
Source: BARB, Annual percentage share of viewing: individuals 1981–2015(2016): http://www.barb.co.uk/trendspotting/data/annual-share-of-viewing/ [accessed ]58
C4C 2015 financial results
57.C4C’s financial results over the last two years have also shown healthy rises with total revenue in 2014 of £938 million (£30 million up on 2013) and in 2015 of £979 million, an increase of £41 million. In his first Annual Report, C4C’s new Chair, Charles Gurassa, said “Channel 4 is performing strongly on both its public service remit and on its financial parameters”.59
Box 2: Channel 4 Corporation results for 2015 at a glance
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Source: Channel 4 Television Corporation, Britain’s Creative Greenhouse: A Year of Impact and Growth :Report and Financial Statements (2015): http://www.channel4.com/media/documents/corporate/annual-reports/C4_Annual_Report_2015.pdf [accessed 14 June 2016]
58.Some witnesses pointed out that C4C was not alone in having a difficult period between 2007 and 2010 and that it seemed to have recovered well.60 There was also criticism that C4C had contributed in part to its problems in 2009 by its investment strategy outside television.61
59.But, as C4C’s Annual Report shows, 2015 was a successful year for the broadcaster and this indicates that the issues of economic sustainability of previous years have now been addressed. We are confident that C4C is well-positioned to withstand future market volatility including the impact of the UK’s withdrawal from the EU.
60.On the central issue of the buoyancy of the UK television market, we saw evidence that advertising revenues had increased sharply this year, but more importantly were forecast to go on increasing, although at a slower rate, till the end of the Channel 4 licence in 2024. We were provided with two forecasts of UK NAR (net advertising revenue from television spot advertising):
(1)Enders Analysis saw NAR growing in real terms by between 1.5 per cent and 4.7 per cent a year throughout the period to reach just over £5 billion in 2025:62
Figure 2: Total TV NAR at constant prices, 2010–2025f
Source: Enders Analysis, Channel 4: sustainability and privatisation, 18 December 2015, p14
(2)Ernst & Young, commissioned by Channel 4 to produce an independent report on its sustainability, forecast a steady rate of growth in advertising revenues in real terms to 2025, with NAR likely to reach just under £5 billion, implying a CAGR (compound annual growth rate) of 2.4 per cent over the decade.63
Figure 3: Indicative TV advertising forecast to 2025
Source: Indicative TV advertising forecast to 2025, from Ernst & Young, The future of Channel 4 in a changing market environment, Fig 36 (p.57): http://www.channel4.com/media/documents/press/news/Desktop/EY C4 report FINAL 160316.pdf [accessed 14 June 2016]
61.Claire Enders told the Committee that she was “absolutely certain”64 that there would be sufficient advertising revenue for Channel 4 to sustain it. In the event of an unpredicted sharp drop in advertising revenue as a result of a political or economic crisis, C4C was in a stronger position than many broadcasters because it had almost £250 million of reserves and a number of assets including its headquarters which it could sell if necessary. It was certainly in a stronger position than it had been in the past and was very much more sustainable than it was in the major crisis of 2009. In some ways she thought ITV, despite its vertical integration, would be the business that would be most impacted by a financial crisis before C4C.65
Market and technological developments
62.Ernst & Young thought that C4C had prepared for potential shocks; it had cut non-core costs, it was seeking to diversify its revenue base and it had the commissioning flexibility within the boundaries of its remit to reduce its costs. It also maintained significant cash reserves, including a dedicated content reserve earmarked to protect investment in downturns.66
63.Clare Enders said that, in the event of the UK voting to leave the EU “GDP declines will directly affect the advertising economy as well as the film and television industry. It will have a very damaging impact on those, and it will take some time to recover.” However she maintained that of all “the businesses in our fold … the business that will find it the easiest to survive, say, a 5 per cent drop in advertising income, which could occur in 2017, a 2 per cent drop in GDP at the minimum, or a drop up to 10 per cent, would be Channel 4.”67
64.However, despite the consensus that the TV advertising market would continue to grow, there was still the question of whether C4C was particularly vulnerable to changes in its audience’s viewing habits, as viewers in the 16–34 age group switched their viewing and video consumption to online and on-demand. Ofcom, which had sounded a note of caution in its 2015 review of Channel 4, told us it accepted that C4C was probably sustainable: “if you look at a steady-state evolution, the most likely outcome is that Channel 4 is sustainable.” However, it was concerned that it was seeing some evidence that the behaviour of some young people, particularly the younger, 16–24 year old, part of the 16–34 age group, was changing and that they would not return to conventional television viewing as they got older. Ofcom told the Committee “we noted that there was at least the possibility if that accelerated, you could imagine a tipping point where more viewing shifted online and that was more disruptive to existing business models.” Ofcom felt it was prudent to plan for more disruptive changes in the market.68
65.This view was reiterated in Ofcom’s response in May 2016 to C4C’s statement of programme policy. Ofcom confirmed that “C4C appears to be commercially sustainable well beyond 2016” but that questions continued to be asked about its longer term prospects. It repeated its concern that younger viewers were deserting live television for online and on demand—only half the viewing of 16–24 year olds was to live television.69 Ofcom thought there was no room for complacency, and that the challenges might increase if the speed at which viewing shifted to online accelerated.70
66.Claire Enders told us she was not so sure that a tipping point was being reached and there was no evidence that the habits of 16–24 year olds were going to dictate the future. C4C quoted the latest viewing figures from Ofcom which showed that 72.5 per cent of 16–34 year old viewing is still to live or recorded TV, compared with an all adults figure of 85 per cent. Only 5 per cent of 16–34 viewing was to online sites like YouTube—6.5 per cent was to on demand platforms like All4 and iPlayer. In any event, Channel 4 was taking the lead in adapting to the possibilities as well as the potential threats of the new technologies and changes in viewing habits. Claire Enders thought Channel 4 and Sky were the two UK broadcasters which had done the most to put their material on every device, such as tablets and mobiles.71
67.C4C had started early in the on-demand market, launching 4oD in 2006 and then in 2015 replacing it with All4, providing all C4C’s linear channels, plus digital content and online services. The average age of an All4 user is 28. By inviting its users to register, C4C has built up a relationship with more than 13 million users. David Abraham told us that half of all 16 to 34 year-olds in the UK were registered with All4 “represents a fantastic opportunity for us to build and deepen that relationship through our online platform.”72
68.C4C believed it did not matter very much financially whether viewers watched content on the broadcast channels or on All4. The company was at the forefront of using technology to monetise online viewing. C4C was the first UK broadcaster to launch programmatic buying for digital advertising sales. This automatic process allows buyers to bid for advertising space on the basis of how attractive the space is for their target audience. C4C said it was trading “analogue pounds” for “digital pounds”, with a significant growth in online revenues, which were £63 million in 2014.73 Ernst & Young forecast a rapid rise in the overall UK programmatic market, both in real terms and as a share of the video advertising market, and thought that C4C was well positioned to continue growing its online advertising revenues.74
69.On top of online advertising, C4C has been increasing its revenue from other non-NAR sources: sponsorship, product placement and selling airtime to third parties. It was also developing All4Games in Scotland, had set up an Indie Growth Fund to take stakes in new independent producers and had a Commercial Growth Fund which took equity stakes in lieu of advertising spend. In 2014, Enders Analysis estimated these non-NAR revenues to be £132 million but they were forecast to double by 2025, thanks to the strong growth in digital video advertising. When taken together with C4C’s projected NAR revenues, they pointed to “a very sustainable business model”, with C4C advertising sales receipts increasing from “around £940 million in 2015 to close to £1.3 billion in 2025, a CAGR of 3.2 per cent”.75
Figure 4: Total Channel 4 NAR and digital video revenues, 2010–2025f (£m)
Source: Enders Analysis, Channel 4: sustainability and privatisation, 18 December 2015, p15
70.Ernst & Young came to the same conclusion:
“we consider Channel 4’s future to be sustainable, provided it retains the commercial and regulatory flexibility to respond to market developments and short-term change in the manner in which it has done so in the recent past. We note that Channel 4 has demonstrated a track record of successfully adapting to significant industry change and Channel 4—as well as other broadcasters—will need to continually adapt to mitigate industry risks.”76
71.The judgment that the current C4C model is sustainable was one with which many other broadcasters and industry organisations agreed. Viacom International Media Networks, the owner since 2014 of Channel 5, argued that “privatisation would only be worth considering if the Channel 4 model was failing: either because it was not commercially sustainable or because it was no longer fulfilling its remit. We see no evidence that either aspect of the model is under threat in either the short or medium term.” Viacom’s view of the advertising market was that it was growing strongly and that brands’ appetite for spending on television was unabated.77
72.Sky told the Committee that it had seen no evidence that C4C was not sustainable. Its overall reach remained strong, and its average weekly reach of 16–34 year olds was comparable to ITV. It had a strong presence in the on-demand world, with 16 per cent of adults using its service. It was in a healthy financial position and had used its surpluses to build up a cash reserve of about £220 million.78
73.Independent Television News (ITN) took the view that there had been no suggestion that C4C was not financially sustainable in its current form. It believed that viewing figures should be sustainable if the quality and innovation of the programming was maintained. It pointed out that C4C was working hard to respond to changing audience habits, particularly among its core target demographic, 16–34s. It gave an example of the online content strategy in action: “in 2015, Channel 4 News videos had more than half a billion views on Facebook. Facebook likes more than trebled to over 1 million with two thirds coming from under 35s.”79
74.The Incorporated Society of British Advertisers (ISBA) believed that C4C was financially sustainable “as it has unique draw for advertisers”. Its particular value was to provide high unique and incremental coverage of many hard-to-reach audiences. ISBA thought C4C was innovative and thorough in its exploration of commercial revenue streams.80
75.Arts Council England pointed out that Ofcom had re-licensed C4C until 2024 on the basis of its current model. The prognosis for future sustainability and growth seemed strong. It also commented that “by continuing to develop its on demand offer, and investing in its data strategy, C4C seems well positioned to monetise the growing amount of on demand viewing.”81
76.Creative England commented on the pace of change since Channel 4’s inception, but suggested that C4C had been quick to adapt and capitalise on new technologies. Its data strategy had helped create direct relationships with viewers; and it had diversified its investment portfolio and set up a video game publishing arm, All4Games, with the potential to reach out to new and highly lucrative markets. C4C had proved to be adaptable in the past and there was no reason to believe that it would not continue to be financially sustainable in the medium term. Ofcom, by re-licensing the core Channel 4 service in 2014, had “sent a clear message that it believes the broadcaster is financially sustainable for the duration of the current licence.”82
77.The Producers Alliance for Cinema and Television (Pact) told the Committee that it considered that “Channel 4 is in strong financial health” and that C4C was financially sustainable under its current public ownership model and structure as a publisher-broadcaster.83 The Voice of the Listener and Viewer (VLV) pointed out that C4C’s portfolio had been particularly successful in attracting young adults. 16–34 year olds were a core demographic in terms of its remit but also its revenues. C4C was the only PSB whose audience was getting younger. Its conclusion was that “when taken together, viewing of the Channel 4 portfolio as a whole is sustainable.”84
78.Ofcom, in its latest analysis of C4C’s position, in May 2016, concluded that overall it was currently of the view that C4C was sustainable for a number of reasons. First, television advertising had remained strong in recent years and C4C continued to hold a strong position within this market, delivering hard to reach audiences. Second, C4C had plans in place designed to maintain or increase audience share, to strengthen further its position in the advertising market. Third, it was able to adjust its cross-subsidy model to absorb shocks. Finally, it was diversifying its revenues to reduce its reliance on television advertising with the growth of All4 and the digital revenues it generated.85
79.Although Ofcom is right to be alert to the possibility of structural changes in viewing habits beginning to accelerate the shift to online and on demand viewing, C4C appears to be well ahead of many of its competitors in adapting to the way younger viewers want to live and is already adding significant digital revenues to its more traditional advertising sales. If the forecasts are correct or even close to what actually happens, C4C will have more money in real terms every year. Its success in monetising digital revenues, not as a substitute for its spot advertising sales, but as a growing additional source of income to pay for content, is a model many media organisations, in print as well as broadcast, would envy.
80.The Committee notes C4C’s diversification strategy which indicates that it is well positioned to continue to serve its target demographic across all platforms and to add significant digital revenues.
81.We have seen no evidence that the current C4C model is not sustainable until the end of the licence period. We are not convinced by the argument that C4C is too vulnerable to be allowed to continue as it is. Barring the sort of economic cataclysm that would damage all forms of broadcasting, it seems clear to the Committee that C4C could fulfil its licence requirements at least until the end of its current 10 year term in 2024.
51 Ofcom found, in their annual review of C4C, that “The growth of the internet continues to drive change in the media industry. While live television remains hugely important, catch–up TV watched over the internet, and programming and content premiered on the internet are becoming increasingly important to audiences, especially the younger audiences that Channel 4 seeks to attract. Today, only around half of 16–24s’ audio-visual viewing is through live television (i.e. TV viewed at the time it is broadcast). The emergence of new entrants such as Netflix and Amazon Prime, providing services directly over the internet, is giving consumers greater choice and making the landscape more competitive.”
52 Enders Analysis, Channel 4: sustainability and privatisation, 18 December 2015
56 The Broadcasting Audience Research Board (BARB) compiles television watching statistics. This is the trading model that is used by television companies and advertising agencies depend on the number of people watching the shows, and the commercial attractiveness of those people.
57 Enders Analysis, Channel 4 viewing trends and sustainability, 1 March 2016
58 The figure for Channel 4 differs from that provided by C4C as C4C include 4seven in its calculations.
59 Channel 4 Television Corporation, Britain’s Creative Greenhouse: A Year of Impact and Growth :Report and Financial Statements (2015): http://www.channel4.com/media/documents/corporate/annual-reports/C4_Annual_Report_2015.pdf [accessed 14 June 2016]
62 Ibid.
63 Ernst & Young, The future of Channel 4 in a changing market environment (March 2016): http://www.channel4.com/media/documents/press/news/Desktop/EY%20C4%20report%20FINAL%20160316.pdf [accessed 14 June 2016]
66 Ernst & Young, The future of Channel 4 in a changing market environment (March 2016): http://www.channel4.com/media/documents/press/news/Desktop/EY%20C4%20report%20FINAL%20160316.pdf [accessed 14 June 2016]
69 Ofcom, Response to Channel 4 Corporation’s Statement of Media Content Policy (10 May 2016): http://stakeholders.ofcom.org.uk/binaries/broadcast/tv-ops/c4/Ofcom_letter_to_Channel_4_Corporation_on_its_Statement_of_Media_Content_Policy_2015_2016.pdf [accessed 14 June 2016]
70 Ibid.
74 Ernst & Young, The future of Channel 4 in a changing market environment (March 2016): http://www.channel4.com/media/documents/press/news/Desktop/EY%20C4%20report%20FINAL%20160316.pdf [accessed 14 June 2016]
75 Enders Analysis, Channel 4: sustainability and privatisation, 18 December 2015
76 Ernst & Young, The future of Channel 4 in a changing market environment (March 2016): http://www.channel4.com/media/documents/press/news/Desktop/EY%20C4%20report%20FINAL%20160316.pdf [accessed 14 June 2016]
85 Ofcom, Response to Channel 4 Corporation’s Statement of Media Content Policy (10 May 2016): http://stakeholders.ofcom.org.uk/binaries/broadcast/tv-ops/c4/Ofcom_letter_to_Channel_4_Corporation_on_its_Statement_of_Media_Content_Policy_2015_2016.pdf [accessed 14 June 2016]