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Where ESPN Falters, Startups And Content Creators Can Prosper

By Christopher Steiner  •  May 10, 2017

Last fall Tony Kornheiser made the decision to end his popular radio talkshow's 25-year association with ESPN and start his own podcast, independent of ESPN and completely off the radio airwaves. Kornheiser's voluntary decision to move his talk show wasn't big news, but it's a telling anecdote about the changing landscape for content and its distributors—something that has put ESPN, the most dominant cable channel in television, on its heels.

Kornheiser, a former Washington Post columnist, remains the co-host of Pardon The Interruption, one of ESPN's most popular original television shows, which has been airing on the network since 2001. His willingness to move his radio show away from ESPN isn't without risk, but with established channels of web distribution and a burgeoning market for podcast advertising, it was one he deemed worth taking.

That new paradigms have subverted the king of cable signals something that savvy founders and tech investors have already known: the content and distribution game is being redefined. Opportunities abound, from innovative content production to providing the tech behind nascent distributors.

What's happening with ESPN, cable and sports content is something that, in similar ways, already happened to the newspaper industry. Twenty years ago, a Chicagoan who wanted news every morning was likely to subscribe to the Chicago Tribune. Clearly, the web has overturned this model in more ways than one. Cable television has remained harder to disrupt, however, partly because ISPs and cable providers are often one in the same. ESPN has benefited from that.

But ESPN's move to layoff more than 100 people, many of them prominent journalists who cover popular sports on-air and for the company's website, focused attention on the shifting realities of the network's business model. It has lost 13% of its subscriber base in the last six years while the cost of the content its viewers so value—games from the NFL, the NBA, Major League Baseball and major college conferences—continues to grow more expensive.

ESPN can't reasonably opt-out of its pricey broadcast deals with sports leagues, so it has cut costs the only way it can: personnel it deems replaceable or not critical to its mission of producing sports events and highlight shows. To be sure, the costs saved by these cuts don't compare with the costs of the content rights, but ESPN can't adjust the latter, and its executives want to look serious about preserving profits.

ESPN's situation is all the more interesting, however, because it highlights the shifting balance of power within the world of media producers and distributors. As with most paradigm shifts these days, it's software, the web, and, more specifically, mobile devices, that have destabilized ESPN's position and platform. ESPN is, at its core, a middleman distributing others' content, which is not the ideal business model when margins are continually being winnowed by the web.

The reporters and on-air personalities laid off shouldn't be mistaken for generators of original content, at least not in this context. Sports journalism is something that's largely told by stats and numbers. There are big stories and exceptions to that, obviously, but they don't drive day-to-day viewing. That fact has been made plain by this move.

Sports fans have been cleaving themselves into two camps for years: the casual fan who is happy with standard, surface-deep coverage and highlights; and the numbers-obsessed fan who geeks out on advanced metrics and in-depth analysis. Outside of Nate Silver's 538, ESPN has never been a destination for the latter.  The former kind of fan, which make up the majority of sports watchers, are content to get their highlights and roundups anywhere—now quite often from social media and the league's own websites and apps. 

As viewable content has found its way to more people through more web-based outlets, the impenetrable veneer of the cable providers has begun to crack.

To be sure, there's more at play here, specifically with regard to fees due to sports leagues. ESPN's own largesse via cable bundling has helped drive up the value of these broadcast rights, so it may well turn out that ESPN's own difficulties will temper the value of this content in the eyes of the market. That's how big ESPN has become. 

It's also true that ESPN must now not only fight off other networks to buy these rights, but it also has to outbid flush tech companies such as Amazon, Netflix and even Apple, the company with more cash than any other. This is to say nothing of newfound ability of the leagues, via software and the web, to go it alone.

A tale of lessening network effects 

There was a day when there was more equity in the kind of production that ESPN put into highlights and the commentary around these snippets of games, but highlights are ubiquitous at this point. Viewers can and do get them anywhere: Facebook, Twitter, YouTube and, most important, sites and apps belonging to the leagues and teams themselves. 

In March, Microsoft's Tren Griffin wrote on Andreessen Horowitz's blog about how ESPN benefits from network effects because people want to watch the same highlights as their friends, so they'll pay for and tune into ESPN instead of going elsewhere. But sloughing subscriber numbers show that this isn't really the case. The value of highlights continues to go down while the value of live content—the games—has gone up.

ESPN may have enjoyed widespread network effects at one point, when highlights were harder to find, and more viewers felt compelled to tune into shows such as Sportscenter and Baseball Tonight, but the value of those shows continues to decline as others programs, such as Major League Baseball's own MLB Tonight, broadcast on the MLB Network and through the web, flood consumers with similar options.

The executives at ESPN realize this, of course, that highlights are not the path to holding onto viewers, which is one reason why the company has hedged away from replaying straight footage and more toward the model of getting bombastic show hosts to say bombastic things about sports. The hope has been that the hot takes of Stephen A. Smith have their own network effects, but that doesn't seem to be the case.

That's not to say that ESPN hasn't endeavored to create its own proprietary content worthy of network effects. It has the X-Games franchise, which, for younger viewers, can be considered a success, and some of its sports commentary shows—such as Pardon the Interruption—have been genre definers and still command dedicated audiences. But nothing compares with live sports, and it's upon the distribution of these events that ESPN built up its incomparable cable empire.

In his piece, Griffin describes MySpace's fading network effects as those at Facebook grew stronger. ESPN has watched its own network effects fade in the face of the rising ubiquity of sports highlights and news via social media and sports leagues' own distribution channels. 

ESPN revenue has always depended on a scheme ripe for disruption

The ESPN empire has been built on carriage fees that top $7 per subscriber for the network's main channel, making it three times as expensive as any other cable television station for cable providers to offer. As consumers have pulled the plug on expensive television packages, cable companies have moved to offer cheaper bundles, most of which are marked by the absence of ESPN's family of channels.

The option of pulling the plug is made possible, of course, by consumers' abilities to get the content they want via the web and streaming applications. ESPN has held off from offering its own stand-alone streaming options so as to avoid harming its relationship with cable companies and the massive cashflows it receives from then, but it has changed tack and is expected to make a product available later this year.

This may help ESPN and it may not. But it will pit the network even more directly against the applications and streams emanating from the leagues themselves.

In paying ever-higher fees for live sports, ESPN has effectively been trying to ward off new threats, many of them borne by the web

Fearing new kinds of competitors in bidding on prime content, ESPN has stepped up to pay incredibly large sums to hold onto its core rights:

  • $1.9 billion/year for the NFL
  • $1.4 billion/year for the NBA
  • $608 million/year for the college football playoffs 
  • $440 million a year for Big Ten Conference games

This has, in turn, led the network to keep increasing its fees to cable operators, who have passed those fees through to subscribers. Consumers, however, are increasingly balking at higher-priced cable packages, hastening the decline of the current cable television model, cutting into ESPN's subscriber count.

ESPN's sports highlight distribution machine, plus its steady lineup of live sports, used to be unique. It was just a few years ago when ESPN had only to outbid marginal cable networks for rights to things like Big Ten football games. Now it has to pay the Big Ten enough so that the league doesn't go it alone and offer its best games to consumers via the web and its own channels.

The Big Ten's own network (half owned by Fox) and its BTN2Go app have monetized well. Other college conferences as well as all the major sports leagues have now created their own distribution channels.

There's one argument that says the rights to these sports broadcasts have peaked, and will go down—thanks to the crumbling paradigm of bundled cable channels. But that case ignores the fact that there are these new kinds of entities out there vying for this content:

  1. The leagues and conferences themselves, who have found it easier and easier to go directly to the consumer via the web
  2. The tech crowd: Apple, Netflix, Twitter, and Amazon, among others. Amazon will pay the NFL $50 million to stream this season's NFL Thursday night games.

Entrepreneurs and VCs look to enable the new paradigm: more power to content creators, with easier and more numerous paths to distribution

The tale of ESPN certainly isn't over yet. The company still makes more money than any other cable channel, and its full web-enabled play has yet to be unfurled. But most observers think it unlikely that ESPN will be able to recover the amount of revenue it will continue to hemorrhage via lost carriage fees.

ESPN's parent Disney has bet big on BAMtech, giving the company $1 billion for a 33% stake. BAMTech was started by Major League Baseball as a way to distribute live sports via the web. BAMtech's mission has recently expanded into eSports, as the company paid $300 million to distribute League of Legends content around the world. ESports, not having been part of the old viewing paradigms at all, has been a pioneer in the space, even before Amazon paid $1 billion for Twitch in 2014. Anybody with children under the age of 15 has likely seen the burgeoning potential of the space first hand.

Tech has already seen millionaires made through YouTube channels, and there is a rising class of podcasters who have circumvented the traditional paths to the airways and listeners and built loyal followings and growing revenue streams of their own. 

Startups have already flooded into ESPN's vulnerabilities relating to coverage and commentary on sports: Bleacher Report, The Athletic, Barstool Sports. There will never be a shortage of people willing cover and comment on sports for under-market pay. 

The mission for entrepreneurs—those who aren't looking to be content producers themselves—is how to capitalize on this shift. There already exist new school distributors: YouTube, Amazon, Netflix. But there's still room for more and different takes on the model.

And there's other plays as well. 

One of FundersClub's own portfolio companies, Peer5, helps content providers lower the cost of distribution via a decentralized form of CDN. Peer5 gives startups affordable infrastructure to challenge companies such as Amazon and Netflix. 

Another startup, Patreon, has built a nimble platform for creators and artists of all kinds of content to raise funding from fans and viewers. The company has raised $47 million of its own equity funding thus far. It's likely that some of the biggest shows in the future—comedies, dramas, everything—will come from indie movements and not be distributed through the channels to which we currently look. 

Christopher Steiner is the founder of ZRankings, and Aisle50, YCS11, which was acquired by Groupon in early 2015.