The Long Tail

Equity Research
NOVEMBER 2006
Entertainment Industry
The Long Tail
Aggregation and Context and Not (Necessarily) Content Are King
TECHNOLOGY IS DEMOCRATIZING CONTENT CREATION. The ability to create
video content, long the province of the entertainment companies, is becoming more
available to the mass market due to low-cost digital video cameras and video
editing software. The Internet, with falling storage and bandwidth costs, can act as
a global distribution network, giving birth to “user-generated content” (UGC).
DRAMATIC INCREASE IN SUPPLY OF CONTENT. This portends an increase in

supply of content to consumers and, potentially, infinite choice. Given constraints
on leisure time and disposable income, we think UGC will compete over the long
run with Hollywood entertainment, albeit not as perfect substitutes (given lower
production values).
ENTER THE LONG TAIL. The Long Tail theory argues that these digital economics
and unlimited choice will shift consumers to the “tail” of the demand curve and
away from traditional hits at the “head.” Our quantitative analysis of the evolution
of increased choice in TV suggests that this theory will be true in the broadband
world.
VALUE RESIDES IN THE MIDDLE. If our thesis is correct, we think this increases
the value of “middle-men” or packagers of content that can filter out the “noise”
associated with unlimited choice and connect users with content that appeals to
their interests. Conversely, incumbent creators of content may see slowing growth,
although they may be able to offset this by re-releasing library content.
Research Analysts
Spencer Wang Shub Mukherjee Stefan Anninger
(212) 272-6857 (212) 272-2108 (212) 272-1528
[email protected] [email protected] [email protected]
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PLEASE READ THE IMPORTANT DISCLOSURE AND ANALYST CERTIFICATION INFORMATION IN THE ADDENDUM SECTION OF THIS REPORT.
Table of Contents Page
Executive Summary....................................................................................................................................................5
The Media Matrix: Framework for Analysis..............................................................................................................7
Enter the Long Tail...................................................................................................................................................14
Learning from the Past: The Television Case Study ................................................................................................16
The Future: Aggregation and Context, Not Content, Are King ...............................................................................24
Investment Conclusion .............................................................................................................................................28
All pricing is as of the market close on November 16, 2006, unless otherwise indicated.
BEAR, STEARNS & CO. INC. Page 3

Page 4 ENTERTAINMENT INDUSTRY
Executive Summary
In this report, we take a big picture view of the media and entertainment sector and
update our thesis on new technology’s impact. In the age-old “content versus
distribution” debate, we have historically argued that distribution is at risk of being
commoditized over the long run with new competition, shifting the balance of power
to content providers and giving new credence to the maxim “Content Is King.”
However, important changes are afoot at the top of the media supply chain as well.
Technology Is Democratizing Content Creation

The reality is that technological changes are affecting not just distributors of content
but the economics and process of content creation as well. The advent of low-cost
digital camcorders and video editing software is allowing the mass market to more
freely create content. Also, in a digital world, providers of content are not limited by
physical shelf space, while server, bandwidth, and other storage and distribution costs
are declining. These trends are “democratizing” content creation, taking it out of the
hands of just the traditional Hollywood players and TV networks, which is leading to
the rise of “user-generated content” (UGC).
Supply of Content Will Increase Dramatically in the Future

We see the emergence of UGC as an alternative and viable form of entertainment. If
we are correct, this may augur, over time, for a significant increase in the supply of
content available to consumers. Given constraints on leisure time and disposable
income, both of which are finite, we think UGC will compete over the long run with
content produced by the incumbent Hollywood studios and independent producers
(although UGC is unlikely to be a perfect substitute given lower production values).
What This Means: The Long Tail Theory

This trend may portend the “Long Tail” economic theory espoused by Chris
Anderson, editor-in-chief of Wired magazine and author of the book The Long Tail.
This theory posits that the Internet and digital distribution eliminates the constraints
of shelf space, which allows online services to carry unlimited inventory, leading to
theoretically infinite consumer choice and an optimal matching of supply and
demand.
As this occurs, consumers will move to the “tail” of the demand curve, creating new
niche markets, and away from historical “hits” at the “head” of the demand curve.
Moreover, while each niche will be small, Mr. Anderson argues that these niches will
further fractionalize share for incumbents and cumulatively the market for niches
may exceed the size of the traditional business.
Why History Suggests the Long Tail Is True

So far, most investors have regarded the Long Tail theory as largely just that: theory.
However, we think television’s evolution may be a powerful history lesson to
anticipate how the technological changes occurring today may alter the content
business in the future.

Over the past 50-plus years, with the help of cable and satellite technology, the one
consistent theme in TV has been a marked increase in the number of TV channels,
from three in 1950 to more than 105 in 2005 (a 7% compound annual increase). This
is essentially a forerunner to the increased entertainment choices the Internet will
bring.
In this report, we will use this analogy to quantify and illustrate the Long Tail effect
and potential implications of a vast increase in content supply and entertainment
choices. More specifically, our parallel with TV finds several main conclusions that
we think will be a precursor to the following:
Overall Entertainment Demand Will Increase . . . As the number of TV

channels increased, overall TV viewing rose at a 1% CAGR from 1950 to 2005,
implying more choice led to a modest increase in demand.
. . . But Hits Become Less Big. However, TV viewing increased slower than TV
channels, leading to fragmentation. The average top ten TV show in 1950, for
instance, averaged a 44.8 rating versus 13.4 in 2005.
Demand Shifts Disproportionately to the Tail. As TV channel capacity

increased, new niche networks found an audience, albeit small. This led to lower
viewing for incumbent broadcast networks at the “head” of the demand curve.
Moreover, we will show that the “tail” of the TV viewing demand curve has grown
over time with more TV channel choices.
Niche Market Not So Niche. TV viewership for each new cable channel is (very)
small; however, cumulatively, ad-supported cable’s viewing share now dwarfs
broadcast viewing on a total-day basis.
Value Will Reside in the Middle of the Supply Chain

If our thesis is correct, one major problem with infinite choice is the potential for
overwhelming confusion. Said another way, how do consumers navigate a world of
unlimited choice and find what they are looking for? We think this conundrum will
increase the value of “middle-men,” or packagers of content that can appropriately
filter out the noise and connect users with the content that appeals to their interests.
This can be done through strong brands, editorial discretion, technology, and
harnessing user recommendations.
Business Strategy Implications

We fully acknowledge that our theme will take years to play out and is unlikely to
affect near-term earnings. However, we think investing today with a mind toward
sustaining future growth is important when an industry is in the early stages of
grappling with major changes. In our view, it is unlikely that traditional
entertainment firms will be nimble enough to fully capitalize on these changes due to
corporate bureaucracy and “the innovator’s dilemma.” This implies that new
competitors will emerge and that incumbents will likely need to acquire to participate
in this brave new world. This is akin to the failure of most traditional broadcasters
(with some notable exceptions) to develop cable network assets in the 1980s and
1990s.

The Media Matrix: Framework for Analysis
TECHNOLOGY IS AN The Impact of Technology on the Entertainment Supply Chain
IMPORTANT
ENTERTAINMENT In Exhibit 1, we present our Media Matrix, which provides our framework for
SECTOR DRIVER analysis of the entertainment sector. While it remains difficult to fit all media
conglomerates into one “box,” our framework isolates major drivers for the sector
and highlights our key metrics for measuring and valuing entertainment equities.
In our opinion, there are four themes that broadly affect all major entertainment
companies:
1. Economy/Ad Cycle. Entertainment spending is by definition discretionary in

nature. In addition, advertising is cyclical. Hence, monitoring the overall health
of the economy is important, in our view.
2. Regulations. The media business is highly regulated. Changes in regulations

can affect both the fundamentals of media businesses and also the strategic
direction of individual companies.
3. Consolidation/Deconsolidation. As we have written often in the past,

entertainment conglomerates move through cycles of consolidation and
deconsolidation, which have a direct impact on return on invested capital
(ROIC).
4. Technology. New technology, by creating new forms of content and new

distribution channels, has historically been a positive catalyst for the
entertainment sector, although the advent of digital technology is currently
viewed as a risk.
Exhibit 1. The Media Matrix
Key Drivers Economy Regulations Consolidation Technology

Timing of Impact Near Term Long Term
Co. Fundamentals Rev. Growth Business Mix Operating Leverage Financial Leverage CAPEX Intensity
Financial Metrics Free Cash Flow EBITDA ROIC EPS
Valuation DCF EV/EBITDA Sum of the Parts EV/IC P/E
Source: Bear, Stearns & Co. Inc.

OUR CURRENT Where Are We Coming From?
VIEWPOINT In early 2006, we argued that new technology will largely be a positive growth
catalyst for the entertainment sector going forward, at least for content-oriented
companies (as opposed to distribution-centric firms). This is in contrast to the
consensus view at the time that new technology represents purely a risk for
incumbent content providers.
Exhibit 2. Assessing Key Industry Drivers, 2006 vs. 2005

Key Industry Drivers Positive Neutral Negative Comments
Economy/Ad Cycle Economic growth positive but
likely to moderate
Regulatory Environment No major changes expected to

regulations in the near term
(De)-Consolidation Trend for deconsolidation partially

offset by tuck-in acquisitions.
New technology to bring new

Technology opportunities for content owners
as cos. focus on digital strategies.
To flesh out our investment thesis, we start by laying out the key parts of the
entertainment supply chain in Exhibit 3 below. At the top of the supply chain,
Hollywood studios and independent producers create content such as films and TV
shows, which are packaged together by broadcast and cable networks. In turn, these
networks are distributed by broadcast TV stations, cable MSOs, and DBS operators
to viewers via television.
Exhibit 3. The Entertainment Supply Chain Today
Content Content Content User

Creation Packaging Distribution Interface End User
Hollywood Broadcast Broadcast TV Viewers/

Studios Networks TV Stations Consumers
Independent Cable Cable MSO’s
Producers Networks
DBS
In assessing the relative attractiveness of each part of the video supply chain, we have
argued to date that technological advances (along with economics and regulations)
are increasing competition in the distribution segment. Said another way, digital
compression increases bandwidth availability, easing historical bandwidth constraints
in an analog environment. In addition, the emergence of the Internet and growth in
broadband homes makes the Internet an increasingly viable method to distribute
video content (see Exhibit 4).

Exhibit 4. Technology Is One of Three Forces Increasing Competition in Distribution
3 Forces Comments End Result
Digital compression increases

bandwidth. Emergence of
Technology broadband makes Internet another
viable video distribution medium.
Costs to deploy video declining and

cable VOIP prompts competitive Increased
Economics response from RBOC’s (i.e., telco
TV). Competition
Generally speaking, regulators are

interested in more competition to
Regulations provide consumers with greater
choice.
As a result of these three forces, over the past 10-15 years, the multi-channel video
distribution business has slowly evolved from an effective monopoly (cable) to a
duopoly (cable and DBS), and is advancing toward an oligopoly with the entry of the
telephone companies. In addition, we expect that over the next several years, the
Internet will emerge as an increasingly viable distribution platform for video content
(see Exhibits 5 and 6).
Exhibit 5. Distribution Bottleneck Is Dissipating

Time Content Content Content End
Period Creation Packaging Distribution User
Hollywood
& Indep. Bcast TV
1950-1970 Nets Stations Consumer
Producers
Bcast TV
1970- Hollywood Nets Stations
& Indep. Consumer
Early/Mid Producers Cable Cable
1990s Nets MSO
Bcast TV Stations
Hollywood Nets
Today & Indep. Cable MSO Consumer
Producers Cable
Nets DBS
Bcast TV Stations
Hollywood Nets Cable MSO
Future & Indep. DBS Consumer
Producers Cable RBOCs
Nets
Internet

Exhibit 6. The Entertainment Supply Chain over the Next Few Years


PC
Independent Cable
Producers Networks Cable MSO’s Mobile
Devices
DBS
RBOC’s
The Internet
As new distribution platforms emerge, the historical bottleneck controlled by cable

operators is slowly dissipating. Said another way, in the past, the supply-demand
imbalance favored distributors (i.e., cable), which controlled the primary means of
reaching consumers, as there was only one MSO and a handful of broadcast TV
stations in each market. On the other side of the coin, there were more programming
channels than available bandwidth, which allowed cable operators to act as de facto
gate keepers to end consumers.
As a consequence, our (and increasingly consensus’s) viewpoint has been that the
pendulum is swinging back toward content as alternative means of distribution
emerge such as DBS, RBOCs, and, ultimately, the Internet (see Exhibit 7). Our
positive stance on content providers was also based on our view that new technology,
by virtue of greater convenience and choice, has historically grown and not reduced
overall demand for entertainment goods and services.
Exhibit 7. Consensus Believes Balance of Power Is Shifting to Content Owners
Historically Today
Distribution Content Distribution Content
DISH
DIS CMCSA
VIAB DTV
COX
CMCSA DIS
TCI VIAB

EVOLVING OUR More Changes Are Afoot: The Rise of User-Generated Content (UGC)
INVESTMENT THESIS However, the reality is that technological changes are affecting the economics and
process of content creation as well. In other words, the advent of low-cost digital
camcorders and video editing software is allowing the mass market to more freely
create content. In addition, in a digital world, providers of content are not limited by
physical shelf space, while server costs appear to be declining over time. Similarly,
distribution (i.e., bandwidth) costs are also coming down. In our view, these trends
are “democratizing” content creation, which is leading to the rise of UGC.
Exhibit 8. New Technology Is Changing Economics of Content Creation as Well
Cost of digital cameras

Content and video editing software
Creation declining.
Impact of Proliferation
Content Not limited by physical
of User
New shelf space and server
Technology Storage costs are declining.

Generated
Growing no. of distribution
Content
Content channels. Internet
provides global
Distribution distribution. Bandwidth
costs declining.
For example, much of the content on YouTube, a video sharing Web site recently
purchased by Google for $1.65 billion and whose motto is “Broadcast Yourself,”
showcases the ability for the average American to cost-effectively create, package,
and distribute entertainment video on a global basis.
Exhibit 9. YouTube
Source: YouTube.com.

According to various press reports, YouTube now streams more than 100 million
videos per day. Many people remain skeptical that the user-generated video content
on YouTube is compelling. Although we do not know what percentage of
YouTube’s usage is traditional entertainment content versus UGC, on November 15,
2006, we note that of the top 20 videos viewed, only five, or 25%, were traditional
TV content.
While we understand that some investors may regard the notion of high demand for
essentially home videos as preposterous, we note that this concept is not new. For
example, the show “America’s Funniest Home Videos” has been a staple of
television for years. Also, new forms of content are generally unimpressive at first.
For instance, in the early days, ESPN covered events like ultimate Frisbee
competitions, while Ted Turner’s CNN was met originally with the notion, “Who
wants to watch news 24 hours a day?”
Exhibit 10. Most-Viewed Videos on YouTube, November 15, 2006
Source: YouTube.com.
To be clear, we are not suggesting that traditional hits will go away, but that user-
generated content can develop over time into an alternative form of entertainment. In
our view, consumers will always have a desire to watch a blockbuster movie or a hit
TV show. However, given constraints on consumers’ leisure time and disposable
income, both of which are finite, we believe UGC will compete over the long run
with content produced by the incumbent Hollywood studios and independent
producers (although UGC is unlikely to be a perfect substitute given lower
production values).

Exhibit 11. Technology Is Leading to a Proliferation of Content


PC
Independent Cable
Devices
User DBS
Generated RBOC’s
Content
The Internet
PURPOSE OF THIS Several Strategic Questions Emerge

REPORT
In light of this industrial backdrop, in this report, we examine the implications of how
technology is altering the economics of content creation and the rise of user-
generated content. In our opinion, this emerging trend provokes several important
strategic questions for investors in the entertainment sector, including:
1. How will overall demand for entertainment be affected?
2. Will niche, user-generated content find an audience?
3. How will incumbent creators of content fare?
4. Will new competitors arise?
5. Where will the most value reside in the supply chain?
The balance of this report will focus on attempting to answer these questions.
Although these themes will likely play out over the long run and may not necessarily
affect near-term estimates or operating fundamentals of the major media
conglomerates, we view these changes as important strategic issues for the industry.
In addition, these issues may influence investor sentiment and the terminal values
that the investment community awards entertainment stocks. Should this occur,
valuation multiples for media stocks could be affected even though the near-term
earnings impact may be negligible.

Enter the Long Tail
THE LONG TAIL In our view, the emergence of user-generated content is representative of “The Long
THEORY OF Tail” economic theory espoused by Chris Anderson, editor of Wired magazine and
ENTERTAINMENT the author of the book The Long Tail.” In this theory, Mr. Anderson posits that “if
the 20th-century entertainment industry was about hits, the 21st will be equally about
misses.”
To clarify and expand, Mr. Anderson argues:
Historically, the physical world has constrained the amount of inventory

retailers/distributors can carry.
This led to a focus on “hits,” or products that could generate large enough sales
to cover the cost of carrying these goods (i.e., the rent or cost for shelf space).
These constraints limited consumer choice and led to a suboptimal matching of

supply and demand.
However, digital technology and the Internet now allow online services (like
Amazon.com, for instance) to carry far more inventory than traditional retailers at
very little marginal cost and with no physical limits.
This results in an exponential increase in choice for the consumer and the
potential for a much more optimal matching of supply and demand.
The ability to provide near-infinite choice for consumers reveals that virtually all
niche products, no matter how obscure or esoteric, find some level of demand or
audience. This is the Long Tail.
While demand for these individual niches in many cases is small, cumulatively
these non-hits are a market potentially as large as the hits.

Exhibit 12. What Is the Long Tail?
Economic Cost
to Carry
Inventory
Physical Finite Shelf Suboptimal
Limited Supply/Demand
World Space Choice Matching
Physical Limits
to Carry
Inventory
Little Economic
Cost to Carry
Inventory
Infinite Shelf Optimal
Digital Unlimited Supply/Demand
World Space Choice Matching
No Physical
Limits to Carry
Inventory
Source: The Long Tail; Bear, Stearns & Co. Inc.
To illustrate his point, Mr. Anderson shares several examples in his book, such as the
fact that Rhapsody, an online music service, carries 19 times more songs than Wal-
Mart’s inventory of 39,000. Yet, according to The Long Tail, 99% of Rhapsody’s
songs are streamed once a month. This results in the following demand curve:
Exhibit 13. Average No. of Plays per Month on Rhapsody vs. No. of Songs Ranked by Popularity
Songs Available at Wal-
Mart & Rhapsody
6,100
Avg. No. of
Plays per
Month on The “Head”
Rhapsody of the
Demand
2,000 Curve
Songs Available Only on Rhapsody

“The Long Tail” of the Demand
1,000 Curve
39,000 100,000 200,000 500,000

Titles Ranked by Popularity
Source: The Long Tail.

Learning from the Past: The Television Case Study
TV’S EVOLUTION IS Potential Implications of the Long Tail: Our Hypothesis
AN EXAMPLE OF THE
LONG TAIL AND THE We utilize Mr. Anderson’s Long Tail concept as a starting point for our analysis of
IMPACT OF MORE how the proliferation of video content choices may affect the entertainment industry.
CHOICE We then juxtapose his theory with our original data analysis to explore the strategic
questions we outlined on page 14. To begin, we offer three main hypotheses, several
of which are in line with the Long Tail theory:
1. Overall Demand for Entertainment Will Likely Increase.
Increased convenience and choice historically grows demand.
2. Market Share Will Fragment Further.
Consumers are still constrained by their limited amount of leisure time and
disposable income.
“Hits” will remain but will be less big.
A disproportionate amount of incremental demand shifts to the “tail” of the

demand curve.
Incumbents (i.e., traditional studios and networks) have the most market share to
lose.
3. Individual Niches Will Be Small, But Cumulatively Large.
Owners of large libraries stand to benefit . . .
. . . But altogether new niche content will find demand as well.
To prove our hypotheses, we use the evolution of television as a parallel to

understand how increased entertainment choices may affect consumption, overall
demand, and market shares. As shown in Exhibit 14, TV originally was distributed
through finite analog spectrum. As a result, through much of the 1950-70s era, most
consumers could only watch three national TV networks (ABC, CBS, and NBC).
However, cable’s coaxial cable architecture created the birth of cable networks like
MTV, increasing viewing options from three to around 35-40 analog basic cable
networks. By the mid-1990s, satellite TV and cable’s upgrade to hybrid fiber coaxial
(HFC) cable allowed for more than 100 television channels. In our view, this is not
dissimilar to how broadband Internet will likely increase viewing choices for users.

Exhibit 14. Technology Has Increased TV Viewing Choices over Time
Video Distribution OTA(1) Analog DBS(2)/ Increased

Technology Broadcast Cable Digital
Cable Choice
Era of Dominance 1950’s- 1980’s- Mid ’90s-

1970’s Mid ’90s Today
Avg. No. of
Channels per
3 35-40 100+
Platform
Total No. of 3 38-43 125+

Channels Available
(1) OTA = Over the Air.

(2) DBS = Direct Broadcast Satellite.
INCREASED CHOICE 1. Overall Demand for Entertainment Will Likely Increase

AND CONVENIENCE
GROWS DEMAND TV channel proliferation over the last 55-plus years led to increased viewing choices
for consumers. From 1950 to 2005, the average number of channels per home
increased at a 7% CAGR, from about three to more than 105. Over the same time
period, TV usage as measured by hours of TV watched per week, jumped from 32.5
hours in 1950 to close to 57 hours in 2005, a 1% CAGR. We think this increased TV
usage in the face of more channels suggests that more choice will drive modestly
higher demand.
Exhibit 15. Increased Choice Drove Higher TV Usage
120 56.6 60
53.4
105.7
48.5
100 46.5 50
Channels Receivable per Home
Weekly Set Usage per Home

42.0
80 36.5 71.5 40
32.5
60 30
40 20
27.2
20 10
10.2
5.7 7.1
2.9
0 0
1950 1960 1970 1980 1990 2000 2005
Avg. No. of Channels Receivable per Home Weekly Set Usage per Home (Hrs.)
Source: Media Dynamics; Bear, Stearns & Co. Inc.

2. Market Share Will Fragment Further
However, as has been well-documented, more choices mathematically lead to more
fragmentation. As shown in Exhibit 16, TV usage did not grow as fast as the total
number of networks available. As a consequence, the amount of time spent per
channel decreased.
Exhibit 16. However, Audiences Are Fragmented

Channels
2.9 5.7 7.1 10.2 27.2 71.5 105.7 Available
60
56.6
50 53.4
48.5
46.5
40
Hours per Week
42
36.5
30 32.5
20
11.6
8.7 9.3 8.3
10
5.5 4.1 3.3
0
1950 1960 1970 1980 1990 2000 2005
Weekly Set Usage per Home (Hrs.) Time Spent per Channel Viewed Weekly (Hrs.)
THE HITS BECOME As a result of this fractionalization of audiences, hit shows became less big. In
LESS BIG Exhibit 17, we plot the average rating of the top ten TV shows over time against the
number of channels available. This analysis shows that the average top ten TV show
in the 1950-51 season averaged a 44.8 rating. In contrast, as TV viewing choices
rose, this figure fell to 29.3 in 1960-61, and to 13.4 in the 2004-05 season.

Exhibit 17. Hits Became Less Big
120
2004-05
100
No. of Channels Available

80
2000-01
60
40
1990-91
20
1980-81
1970-71 1960-61 1950-51
0
0 10 20 30 40 50
AA Rating of Top 10 Shows
DISPROPORTIONATE The Long Tail of TV Viewing

AMOUNT OF
INCREMENTAL In order to understand how demand for video will be distributed among more
DEMAND SHIFTS TO entertainment options, it is necessary to build a TV viewing demand curve. To do
“TAIL” OF DEMAND this, we first start with TV audience share data from the Cable Advertising Bureau
CURVE (CAB), which is segmented into viewing for three broad categories: 1) the Big Three
affiliates, 2) ad-supported cable, and 3) other (including pay cable and independent
TV stations).
We then combine this with data on total number of channels from Media Dynamics.
Assuming three channels for each of the Big Three affiliates, the difference between
the total number of channels and the Big Three equals the number of channels for ad-
supported cable and other.
To calculate viewing share per channel, we then divide the viewing share for the Big
Three affiliates by the three associated networks. We also divide audience share for
ad-supported cable and other by the implied number of networks for this category.
This assumes that audience share is evenly distributed with each of the two buckets
(“Big Three” and “ad-supported and other”). This is because we do not have access
to individual ratings for each channel.

Exhibit 18. Data for Deriving the TV Viewing Demand Curve
Share of Total Day Viewing No. of Channels Viewing Share/Channel
Ad Ad
Ad- Supported Supported
Big 3 Supported Cable & Big 3 Cable & Big 3 Ad Supported
Affiliates Cable Other (1) Other Total Affiliates Other Total Affiliates Cable & Other
1986/87 60.7 11.8 27.5 39.3 100
1987/88 57.0 13.8 29.2 43 100
1988/89 54.9 16.2 28.9 45.1 100
1989/90 52.6 19.5 27.9 47.4 100
1990/91 50.2 22.7 27.1 49.8 100 3 24 27 16.7 2.1
1991/92 50.3 23.4 26.3 49.7 100
1992/93 49.4 24.4 26.2 50.6 100
1993/94 48.5 24.6 26.9 51.5 100
1994/95 43.9 28.1 28.0 56.1 100
1995/96 42.0 30.3 27.7 58.0 100
1996/97 39.5 32.7 27.8 60.5 100
1997/98 37.4 35.0 27.6 62.6 100
1998/99 34.0 36.7 29.3 66 100 3 44 47 11.3 1.5
1999/00 33.0 38.1 28.9 67.0 100
2000/01 30.7 41.1 28.2 69.3 100 3 69 72 10.2 1.0
2001/02 28.4 44.3 27.3 71.6 100
2002/03 26.8 45.4 27.7 73.1 100 3 79 82 8.9 0.9
2003/04 26.2 46.5 27.3 73.8 100
2004/05 24.4 48.3 27.3 75.6 100 3 100 103 8.1 0.8
(1) Includes independents, pay cable, WB/UPN/PAX affiliates, PBS, and all other cable. All shares based on sum of total U.S. HH delivery (not HUT).
Source: CAB; Media Dynamics; Bear, Stearns & Co. Inc. estimates.
We can then take this mathematical exercise to draw the demand curve for each
season, although we only have a full data set for the 1990-91, 1998-99, 2000-01, and
2004-05 TV seasons. We have plotted these demand curves in Exhibit 19 to illustrate
the TV viewing demand curve and how it has changed over time as the number of
channels has proliferated.
This analysis shows that TV viewing does indeed have a long tail. Said another way,
as the number of channels increased, each new niche channel that was developed
found an audience, albeit small, relative to the incumbent three broadcast networks.
As a result, the incumbent broadcast networks at the “head” of the demand curve saw
their market share of viewing decline over time. Moreover, it appears that the “tail”
of the TV viewing demand curve has increased over time with more TV channel
choices.

Exhibit 19. The Changing Shape of the TV Viewing Demand Curve
100
The Long Tail is Getting Longer Over Time and With More Choices
90
Cumulative Viewing Share (Total Day)

80
70
60
50
40
30 2004/05 TV
Season
20
1998/99 TV
10 2000/01 TV
1990/91 TV Season Season
Season
-
1 6 11 16 21 26 31 36 41 46 51 56 61 66 71 76 81 86 91 96 101
No. of Channels
(1) Includes independents, pay cable, WB/UPN/PAX affiliates, PBS, and all other cable. All shares based on sum of total U.S.
HH delivery (not HUT). Channels ranked by popularity.
INCUMBENTS (I.E., Our work finds that viewership of each of these new channels is very limited.
TRADITIONAL However, consistent with the Long Tail theory, in combination, these niches
STUDIOS) HAVE MOST aggregate to a very large market. As shown in Exhibit 20, for instance, while ad-
MARKET SHARE TO supported cable and other channels average only a 1% share of viewing per channel,
LOSE in aggregate, they dwarf the viewing share of the Big Three, which stands at 24% in
the 2004-05 season. In contrast, ad-supported in total now claims more than 48% of
TV viewing on a total-day basis.
Exhibit 20. Individual Niche Networks Small, But Cumulatively Larger than Broadcast
100%
27.5 29.2 28.9 27.9 27.1 26.3 26.2 26.9 28.0 27.7 27.8 27.6 29.3 28.9 28.2 27.3 27.7 27.3 27.3 Other (1)
80%
Share of Total Day TV Viewing
11.8
13.8 16.2 19.5 22.7 23.4 24.4
60% 24.6
28.1 30.3 32.7 35.0
36.7 38.1
Ad-
41.1 44.3 45.4 46.5 48.3 Supported
Cable
40%
60.7
57.0 54.9 52.6 50.2 50.3 49.4 48.5
43.9 42.0
20% 39.5 37.4
34.0 33.0 30.7 28.4 26.8 26.2 24.4 Big 3
0%
1986/87
1987/88
1988/89
1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01
2001/02
2002/03
2003/04
2004/05
(1) Includes independents, pay cable, WB/UPN/PAX affiliates, PBS, and all other cable. All shares based on sum of total U.S. HH delivery (not HUT).

THE POTENTIAL The Long Tail Market Could Be Large, But Will Take Time to Develop
REVENUE IMPACT
Now that we have illustrated the consumption behavior of TV in the wake of more
choices, we turn our attention to the revenue opportunity. To do this, we look at the
amount of TV advertising to broadcast networks (the “head” of the demand curve)
versus cable networks (the historical “tail” of the demand curve).
Exhibit 21. Cable vs. Broadcast TV Advertising, 1960-2005 ($ in millions)
$80,000
$70,000
$60,000
TV Advertising
$50,000 Cable
$40,000
$30,000
$20,000
Broadcast
$10,000
$-
1980
1972
1973
1974
1975
1976
1977
1978
1979
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
2003
2004
2005
1971
1996
1960
1961
1962
1963
1964
1965
1966
1967
1968
1969
1970
1997
1998
1999
2000
2001
2002
Source: Universal McCann; Jack Myers Reports; Bear, Stearns & Co. Inc. estimates.
According to Universal McCann, in 2005, broadcast advertising amounted to $45

billion, almost double the size of cable advertising. However, with cable advertising
totaling $24.5 billion, this is a sizable revenue market and now represents more than
one-third of total U.S. TV ad spending ─ and we have not even included affiliate
revenues for cable programmers. Obviously, this aggregate amount of cable
advertising is spread across more niche channels, implying that the revenue per
channel is smaller.
We do note that cable advertising’s share of the ad pie is still lagging its share of TV
viewing. This is due to several issues such as less mass market reach than broadcast
(which affects audience duplication and the speed of viewership accumulation) and,
in some cases, a more cluttered environment. As a result, advertisers still do not
view cable as a perfect substitute (yet) for broadcast.

Exhibit 22. Cable TV Share of Total TV Advertising vs. Viewership, 1986-2004
60%
50% 48.3%
46.5%
44.3% 45.4%
41.1%
40% 38.1%
36.7%
35.0%
32.7%
% of Total
31.5%
30.3% 30.3%
30% 28.1% 28.4% 27.6%
24.4% 24.6% 25.3%
22.7% 23.4% 23.3%
20.7%
19.5% 19.0%
20% 17.7%
16.2% 15.8%
13.8% 13.7% 14.3%
11.8% 12.3%
11.0%
9.0%
10% 6.3%
7.6%
5.1% 5.4%
0%
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Cable Share of TV Advertising Cable Share of TV Viewership
This suggests that the Long Tail market will take time to develop, but will indeed
emerge. We also note that coming off of a low base will result in faster growth.
Exhibit 23. Compound Annual Growth Cable vs. Broadcast Advertising, 1980-2005
30%
Advertising Growth CAGR (1980-2005)
26.3%
25%
20%
15%
10%
5.7%
5%
0%
Broadcast Cable

The Future: Aggregation and Context, Not Content, Are King
A BRAVE NEW WORLD The Sweet Spot May Be in the Middle of the Supply Chain
So far, using the evolution of TV as a parallel, we have shown that increased
entertainment options will increase overall demand, but further fractionalize share.
While these new niches will likely be small, they will likely be cumulatively large
from both a unit and revenue standpoint. In our view, the advent of broadband video
will likely exponentially increase choice (see Exhibit 24) as more use-generated
content and other mid-tier content that previously could not secure distribution
emerge.
Exhibit 24. The Future Will Bring Infinite Choice
Video Distribution OTA(1) Analog DBS(2)/ Infinite

Technology Broadcast Cable Digital Broadband
Cable Choice
Era of Dominance 1950’s- 1980’s- Mid ’90s- The

1970’s Mid ’90s Today Future
Avg. No. of
Channels per
3 35-40 100+ Infinite
Platform
Total No. of 3 38-43 125+ Infinite

Channels Available
(1) OTA = Over the Air.

(2) DBS = Direct Broadcast Satellite.
One obvious problem with infinite choice is the possibility of overwhelming

confusion for users. In other words, how do consumers navigate a world of unlimited
choice and find what they are looking for? Herein lies the need for “middle-men”
that can appropriately filter out the noise and connect users with the content that
appeals to their interests.

Exhibit 25. The Problem with the Long Tail
Infinite Choice = Overwhelming Confusion

Types of Filters:
Brands Filters Required to Connect
Editorial Discretion Users with Content that Importance of
Aggregators and
Ratings Appeal to Their Brands Likely
Increases
User
Recommendations
Interests
Software
EXISTING BRANDS Filters can take many forms. For example strong, differentiated brands that resonate
WILL ENDURE with consumers, like MTV and Home & Garden, for instance, can act as a guide for
WITH PROPER users to find content that suits their interests. Similarly, companies well-known for
INVESTMENT AND editorial discretion (i.e., The New York Times Co.) can also help consumers navigate
DIFFERENTIATION . . . the vast sea of content. Alternatively, software can also act as an effective filter with
user ratings and recommendations helping to connect consumers with their interests.
Therefore, as investors ponder the implications of these seismic changes in the

entertainment industry and the most attractive investment opportunities, we theorize
that the most attractive part of the supply chain may reside in the middle with
packagers of content, those that can most effectively sift through the noise and
connect users with content that fits their interests.
While there will always be a need for “great content,” we think that incumbent
creators of content could suffer market share losses over time to UGC, much as the
broadcast networks did to start up cable networks. The offset, though, is that
entertainment firms could see increased revenues from re-releasing library content.
On the other end of the spectrum, we maintain our view that increased competition,
partly driven by technology, will erode the marginal economics of the distribution
portion of the supply chain. However, more choice may increase the value of
packagers of content as consumers look to navigate a sea of infinite choice.
. . . HOWEVER, NEW Business Strategy Implications

VIABLE
AGGREGATORS WILL As a result, we think that many existing content packagers and brands can endure and
EMERGE . . . thrive in this brave new world with the proper nurturing, investment, and
differentiation. As a result, we feel that many cable programmers, like Viacom, are
strategically well-positioned. However, other incumbents lacking differentiation
(general entertainment cable networks come to mind) may be structurally challenged.
We also think there is a high probability that other new competitors will emerge and
become very viable. Certainly, Google, with its recent YouTube acquisition, can
play a central role as a middle man between users and infinite content choices.
Similarly, other online portals and communities such as AOL, Yahoo!, and Myspace

appear to be at the forefront of this movement. It also seems fairly probable that
other, as-yet-to-be-determined companies will emerge from out of nowhere to play a
role, as YouTube did not exist 24 months ago.
Exhibit 26. The Sweet Spot May Be in the Middle of the Supply Chain


PC
Independent Cable
Devices
User Google DBS
Generated Yahoo! RBOC’s
Content
AOL The Internet
Myspace
Apple
???
. . . AS THEY DID IN Going back to our earlier analogy, our theory is not dissimilar to the development of
CABLE multi-channel video. As the cable programming business grew, most incumbents
PROGRAMMING were complacent and too slow to fully capitalize on the opportunity. As a result,
most had to employ an acquisition strategy to “get in the game.” In the meantime,
pure-play cable programmers like Viacom and Discovery blossomed and flourished
(see Exhibit 27).

Exhibit 27. Cable Gave Birth to New Competitors; Incumbents Had to Acquire
Broadcast Key Cable

Company Property Properties Build vs. Buy
CBS CBS
CSTV Buy
CW (50%)
GE NBC CNBC, Bravo Hybrid
ESPN, Disney Channel, ABC
Disney ABC Family Hybrid
News Corp. FOX
Fox News, F/X, Speed Hybrid
My Network TV
Viacom None MTV, NICK, SPIKE , Comedy
Central, TV Land Hybrid
Time Warner CW (50%) TBS, TNT, CNN, Court TV Buy
Discovery None Discovery, Disc. Health, Disc. Build
Wings, etc.

Investment Conclusion
SO, WHAT HAVE WE Evolutionary AND Revolutionary
LEARNED?
In the next exhibit, we summarize the key findings of our industry research,
juxtaposed alongside the strategic questions we outlined earlier.
Exhibit 28. Summary of Key Research Findings
Key Questions Conclusions

1. How Will Overall Demand for Demand for video is likely to increase due to more
Entertainment be Impacted? choice and convenience.
2. Will Niche, User Generated Yes. Everybody’s tastes diverge from the mainstream
Content Find an Audience? at some point.
3. How Will Incumbent Creators of Owners of libraries can re-distribute old content, but
Content Fare? may lose share to new user generated content.
4. Will New Competitors Arise? Yes. Start-ups are likely to be more nimble.
5. Where Will the Most Value Value of aggregation and brands increases with
Reside in the Supply Chain? exponential increase in content choices.
Keys to Success
For incumbent media companies, the winds of change appear to be gathering force.
In our opinion, with industry dynamics in flux, incumbents must guard against:
Complacency. Change is coming and will affect legacy businesses. Companies

living in denial will likely see core businesses erode.
The Innovator’s Dilemma. As traditional models change, managements should

innovate even if core businesses may be cannibalized. Our analogy to TV
suggests that increased choice will not destroy legacy businesses as much as slow
growth, since much of the incremental growth shifts to the tail of the demand
curve.
Bureaucracy/Corporate Infighting. Media conglomerates are notorious for

bureaucracy and corporate infighting. In our view, this slows decision making
and innovation.

PICKING THE Assessing the Entertainment Companies
WINNERS If our thesis is correct, the next logical question for investors is what factors will
decide which companies succeed in this market environment? In this final section,
we look at the asset mixes and digital media strategies of the four major
entertainment conglomerates we cover to attempt to answer this question.
Exhibit 29. Dissecting Entertainment Conglomerates
Source: Company reports; Bear, Stearns & Co. Inc. estimates.
If our industry thesis is correct, we believe that entertainment companies with the
largest exposure to the middle of the supply chain (i.e., aggregators of content) will
be relatively better-positioned. As shown in Exhibit 29, on this basis, it appears that
Viacom, which is largely a pure-play cable programmer, is best-positioned. Time
Warner and Disney have the next-largest exposure to this segment of the supply
chain. While News Corp. has the lowest exposure, we do believe that its Myspace
acquisition provides a strong platform to participate in broadband video. We now
turn our attention to analyzing the strategies of each company.
News Corp.: Getting Religion

In 2005, News Corp. embarked on a rapid Internet expansion, which quickly
culminated with its successful acquisition of Myspace. Myspace is a social
networking site that has witnessed outstanding traffic growth and now ranks as the
No. 2-most-visited destination on the Web. We believe that Myspace could emerge
as a central hub for video and user-generated content. The risk for News Corp., as
with other incumbent players, is slowing growth for its traditional media businesses.
Time Warner: A Lot of the Pieces in Place

Time Warner is arguably the most diversified of the major entertainment
conglomerates. After years of struggling with its declining dial-up subscriber base,
AOL recently embarked on a “free” strategy that aims to position it as a major portal.
We also regard AOL’s early investments in broadband video and content as giving it
an early leg up on the competition. However, its diversification also means several
of its other businesses are at risk. Most notably, we believe the Turner entertainment

networks (TNT, TBS) are particularly at risk in light of their general entertainment
strategy and reliance on licensed content from Hollywood studios for movies and off-
network re-runs from syndicators.
Viacom: Nice Asset Mix, But What’s the Strategy?

Viacom currently has the greatest exposure to the middle of the supply chain, where
we see the most value accruing in the future. With strong differentiated brands like
MTV and Nickelodeon, 95% of Viacom’s EBITDA is derived from content
packaging. However, this is counterbalanced by the lack of a well-articulated digital
strategy (outside of selective “tuck-in” acquisitions). Moreover, the recent departure
of well-regarded CEO Tom Freston creates more uncertainty over Viacom’s long-run
strategic direction.
Walt Disney: Strong Brands

To its credit, Disney management has been aggressive on the new technology front,
spearheading the availability of traditional TV and movie content on Apple’s iTunes
format. In addition, Disney has begun to make available several of its hit ABC
shows on-line, via streaming video. Disney also has strong brands that resonate with
consumers, like “Disney” and “ESPN.” However, outside of broad strategies such as
focusing on “content” and “new technology,” Disney has yet to articulate a detailed
overarching strategy for its digital plans.
Exhibit 30. Dissecting Entertainment Conglomerates
Company Key Long Tail Assets Risks

TWX AOL Turner Networks
NWS Myspace Slowing Growth for

Traditional Media
Assets
VIAB MTV, Nickelodeon Lack of Detailed

and Other Brands Digital Strategy
DIS “Disney” and “ESPN” Lack of Detailed

Brands Digital Strategy
Source: Company reports; Bear, Stearns & Co. Inc. estimates.

Companies mentioned under coverage:
Cable and Satellite TV: Market Weight
Comcast Corp. (CMCSA-40; Outperform)

Echostar Communications Corp. (DISH-36; Underperform)
The DirecTV Group (DTV-22; Peer Perform)
Entertainment: Market Overweight
News Corp. (NWS-22; Peer Perform)

Time Warner Inc. (TWX-20; Peer Perform)
Viacom (VIAB-39; Outperform)
Walt Disney Co. (DIS-33; Peer Perform)

Addendum
Important Disclosures
Comcast Corp. (CMCSA), Echostar Communications Corp. (DISH): Bear, Stearns & Co. Inc. is a
market maker in this company’s equity securities.
For important disclosure information regarding the companies in this report, please contact your
registered representative at 1-888-473-3819, or write to Sandra Pallante, Equity Research
Compliance, Bear, Stearns & Co. Inc., 383 Madison Avenue, New York, NY 10179.
Ratings for Stocks (vs. analyst coverage)

Outperform (O) — Stock is projected to outperform analyst’s industry coverage universe over the
next 12 months.
Peer Perform (P) — Stock is projected to perform approximately in line with analyst’s industry
coverage universe over the next 12 months.
Underperform (U) — Stock is projected to underperform analyst’s industry coverage universe over
the next 12 months.
Ratings for Sectors (vs. regional broader market index)
Market Overweight (MO) — Expect the industry to perform better than the primary market index
for the region (S&P 500 in the U.S.) over the next 12 months.
Market Weight (MW) — Expect the industry to perform approximately in line with the primary
market index for the region (S&P 500 in the U.S.) over the next 12 months.
Market Underweight (MU) — Expect the industry to underperform the primary market index for
the region (S&P 500 in the U.S.) over the next 12 months.
Bear, Stearns & Co. ratings distribution as of September 30, 2006

(% rated companies/% banking client in the last 12 months):
Outperform (Buy): 43.3%/4.6%
Peer Perform (Neutral): 47.7%/3.3%
Underperform (Sell): 9.1%/0.0%
For individual coverage industry data, please contact your account executive or visit
www.bearstearns.com.
Addendum
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Equity Research

 DRAMATIC INCREASE IN SUPPLY OF CONTENT. This portends an increase in

The Media Matrix: Framework for Analysis..............................................................................................................7

Enter the Long Tail...................................................................................................................................................14

Learning from the Past: The Television Case Study ................................................................................................16

Investment Conclusion .............................................................................................................................................28

BEAR, STEARNS & CO. INC. Page 3

Technology Is Democratizing Content Creation

Supply of Content Will Increase Dramatically in the Future

What This Means: The Long Tail Theory

Why History Suggests the Long Tail Is True

BEAR, STEARNS & CO. INC. Page 5

 Overall Entertainment Demand Will Increase . . . As the number of TV

 Demand Shifts Disproportionately to the Tail. As TV channel capacity

Value Will Reside in the Middle of the Supply Chain

Business Strategy Implications

Page 6 ENTERTAINMENT INDUSTRY

1. Economy/Ad Cycle. Entertainment spending is by definition discretionary in

2. Regulations. The media business is highly regulated. Changes in regulations

3. Consolidation/Deconsolidation. As we have written often in the past,

4. Technology. New technology, by creating new forms of content and new

Exhibit 1. The Media Matrix

Key Drivers Economy Regulations Consolidation Technology

Financial Metrics Free Cash Flow EBITDA ROIC EPS

Valuation DCF EV/EBITDA Sum of the Parts EV/IC P/E

Source: Bear, Stearns & Co. Inc.

BEAR, STEARNS & CO. INC. Page 7

Exhibit 2. Assessing Key Industry Drivers, 2006 vs. 2005

Regulatory Environment No major changes expected to

(De)-Consolidation Trend for deconsolidation partially

New technology to bring new

Source: Bear, Stearns & Co. Inc.

Exhibit 3. The Entertainment Supply Chain Today

Content Content Content User

Hollywood Broadcast Broadcast TV Viewers/

Page 8 ENTERTAINMENT INDUSTRY

Digital compression increases

Costs to deploy video declining and

Generally speaking, regulators are

Source: Bear, Stearns & Co. Inc.

Exhibit 5. Distribution Bottleneck Is Dissipating

Source: Bear, Stearns & Co. Inc.

BEAR, STEARNS & CO. INC. Page 9

Content Content Content User

Hollywood Broadcast Broadcast TV Viewers/

Source: Bear, Stearns & Co. Inc.

As new distribution platforms emerge, the historical bottleneck controlled by cable

Exhibit 7. Consensus Believes Balance of Power Is Shifting to Content Owners

Distribution Content Distribution Content

Source: Bear, Stearns & Co. Inc.

Page 10 ENTERTAINMENT INDUSTRY

Exhibit 8. New Technology Is Changing Economics of Content Creation as Well

Cost of digital cameras

Technology Storage costs are declining.

Source: Bear, Stearns & Co. Inc.

BEAR, STEARNS & CO. INC. Page 11

Exhibit 10. Most-Viewed Videos on YouTube, November 15, 2006

Page 12 ENTERTAINMENT INDUSTRY

Content Content Content User

Hollywood Broadcast Broadcast TV Viewers/

DRAMATIC INCREASE IN SUPPLY OF CONTENT. This portends an increase in

Overall Entertainment Demand Will Increase . . . As the number of TV

Demand Shifts Disproportionately to the Tail. As TV channel capacity

Historically, the physical world has constrained the amount of inventory

These constraints limited consumer choice and led to a suboptimal matching of

Increased convenience and choice historically grows demand.

“Hits” will remain but will be less big.

A disproportionate amount of incremental demand shifts to the “tail” of the

Owners of large libraries stand to benefit . . .

. . . But altogether new niche content will find demand as well.