Revenue Up, Images Sales Down

590

October 25, 2003

Getty Images, Inc. reported third quarter revenue of $130.8 million up 2.7% from the
$127.7 million in the second quarter of 2003 on the strength of rising prices, not increased
sales volume. This revenue was a 10.6% increase compared to $118.2 million in the third
quarter of 2002. There was also a 5.6% benefit from foreign currency translation, not
quite as high as the 6.9% benefit from the second quarter.

Operating income for the third quarter of 2003 grew 80.7% to $27.2 million, or 20.8% of
revenue, compared to $15.0 million, or 12.7% of revenue, in the same quarter last year.
Net income was $9.4 million, or $0.16 per diluted share. This was up from $0.11 per share for
the previous quarter and compared favorably to the $0.13 per diluted share for the third
quarter of 2002.

"Our results for the third quarter underscore the strong execution we have demonstrated
throughout 2003. We achieved record revenue, driven by our pricing power, positive currency
effects and the continued success of several of our key initiatives for 2003, including the
revitalization of our royalty-free stock photography and growth of our news, sports and
entertainment business," said Jonathan Klein, Getty Images' co-founder and CEO. "I am
particularly pleased that in September, we began to see a tangible increase in customer
activity. We are encouraged by this early sign of an improving business climate in the markets
we serve."

September was also the strongest sales month in the history of the company and Klein said,
"In September for the first time since the beginning of 2001 our customers began to express
optimism about their businesses signaling an improving industry climate. It is too early
to state that the advertising and marketing decline is over, but early signs from our
customers are promising both in the US and the key international markets where we are
the market leader."

In addition Getty's largest customers with whom they have long term relationships are increasing
their imagery purchase. "In the third quarter the revenue generated by the top 50
customers in both the Americans and Europe increased by more than 30% compared to the
2nd quarter."

Investors loved these resuts and bid the Getty Images stock up about $5 per share in the days
following the announcement for a $41.44 price at weeks end.

Business Outlook

For the 4th quarter of 2003, the company expects to report revenue in the range of $124
million to $128 million and earnings per diluted share of $0.24 to $0.27. For the first nine
months of 2003 the company reported $388.8 million in revenue, a 12.6% increase over
the $345.3 million reported for the same period in 2002, and included a 6.3% benefit
from foreign currency translation.

For 2003, the company expects revenue in the range of $513 million to $517 million and
earnings per diluted share, including debt extinguishment costs of $0.12 per diluted share, of
$0.86 to $0.89. Excluding debt extinguishment costs of $0.12 per diluted share, the company
expects earnings per diluted share of $0.98 to $1.01 for 2003.

Major Development

The most significant development in the quarter was the adjustment of the search results in
the Creative area (RM and RF still images) in an attempt to correct an imbalance in sales of RF
relative to RM images. According to Getty a problem developed as a result of the global
revitalization of the RF collection that was launched in March 2003. In the adjustment launched
at the end of August Getty materially increased the proportion of RM in the searches and also
placed the RM imagery first in the search results. Klein said, "We did this without compromising in
any way the integrity of the search engine which always drives toward relevance and recency."
Selling Stock discussed this development in detail in
www.pickphoto/sso/stories/st578.htm .

RM and RF sales combined represent 83% of Getty Images' business. An analysis of the numbers
for the last few quarters is critical to understanding the impact this change has had, as well
as the likely trends for the future.

The above percentages translate into the following dollar figures for the last
five quarters (in millions of dollars).

Average Price Per Usage

CFO Liz Huebner said, "The average price per image (ppi), worldwide, for Rights Managed Images
was $574 up from $567 in the 2nd quarter of 2003 and for the Royalty Free collection the
average price for single images was $152 up from $139 in the 2nd Quarter."
She explained that part of the reason for the average RF rise was a larger than expected
demand for the higher priced PhotoDisc Red brand.

It is also worth noting that during the July conference call Klein reported that Getty had
just licensed a single RM image for $140,000 to a German company. This was Getty's largest
single license in history and it occurred in July, part of the 3rd quarter. Licenses of this magnitude
can greatly skew the "average RM license fee." Without this sale, and maybe a handful of other
large sales, the average RM sale might have declined for the quarter. The significance of this
is that the trend of average license fees may not be as important as the trend of the
number of units licensed.

Huebner has pointed out in the past that the revenues for RF collections includes CD sales
which are usually in the ranges of 20% to 22% of total RF revenue. The ppi numbers that Getty
provides are for single images only and as a result take no account at all the CD sales. I have
deducted 20% of the RF revenue before doing my calculations for number of images licensed, but if
the percentage of CD sales varied somewhat from quarter to quarter that would throw off this
"Number of Images Licensed" figures. The revenue figures below are in millions of dollars.

Rights Managed vs Royalty Free

As can be seen by the numbers above the revenue from RM sales continued to decline in
the 3rd quarter, although by no where near as much as in the previous quarter. In fact,
the 3rd quarter revenue is below that generated by RM sales a year earlier. In addition
the actual number of images licensed is still steadily declining, and is now 12.4% below
what it was a year ago.

Meanwhile, the RF revenue experienced another significant increase. However, despite the
revenue increase the number of RF images licensed remained about the same as in the
previous quarter. But, since
the 3rd quarter of 2002 the number of RF images licensed has also declined significantly, and
is now down 8%. (It should be noted that the big drop occurred in the 4th quarter of
2002 and that volumes have been relatively flat throughout 2003 despite all the new 3rd
party content and emphasis that has been placed on RF in 2003 .)

These 3rd quarter results are remarkable considering the search order results bias
favoring RM that was put in play at the end of August. Again I would direct you to Story
578 . RF images were
placed much deeper in the search results and customers had to
bypass a large number of RM images in order to get to the RF. Nevertheless, customers
still ended up purchasing RF.

According to Klein the company saw "some improvement in the month of September" in the purchase
of RM images after the new search result bias was put in operation and "the ratio has
begun to switch back to RM imagery." In the last 34 days of the quarter (September),
after the search result change went into effect, the decline was down to single digits.
This would indicate that sales of RM relative to RF must have been very bad in July and August.

Nevertheless, as Klein points out, "It is too early to determine the impact of the
search change over the long term."

Enhancements To RM Business

He also said, "In a sense there is an industry trend of RF becoming more powerful, and
more palatable to customers as the quality of the imagery has improved over time. We are
not going to buck that industry trend. Far from it, we are the industry in a number of
respects. We are going to continue to drive that trend, but we are going to start giving
some attention to RM which we haven't really focused on for a couple of years."

The search order results change is only the first of several modifications Getty intends
to make to improve the RM sales. Other changes in the areas of content mix, pricing, and
in the fundamentals of the licensing model for RM to make it more hassle free will be
introduced beginning later this fall.

The changes in licensing -- Klein called it "a major simplification of the licensing
model" -- is an area that deserves careful watching, not only by Getty shareholders and
photographers, but by everyone in the stock photo industry.

Campaign Licensing

Klein said, "There is little doubt that customers have always appreciated the ease of
use that one gets in the RF licensing model. The first phase of the RM licensing model
will come at the end of this year with more enhancements to come in 2004. This will
include the ability to license an image for an entire campaign rather than for each
individual type of usage. This has been a common issue for creative professionals across
the industry and we are certain that the changes will be very well received."

Klein's statement seems to imply (and I recognize that in the program's final definition
it may turn out to be something quite different) that there will be some kind of a fixed
"campaign" price that will not require negotiation. It is hard to see -- with all the
possible variations -- how such fixed pricing is going to be possible.

At this point one can only speculate on the details of this "hassle free RM licensing
model" and the devil is very much in the details. Nevertheless, letting customers license
images "for an entire campaign" sound a lot like the RF model at a higher price point.

Keep in mind that customers have always been able to license RM images for an entire
campaign. The current price for unlimited use in all collateral (not including advertising)
tends to be in the range of $7,500 to $10,000 a year, and the price for a campaign that
includes unlimited advertising has been in the $15,000 to $20,000 a year range. These
prices may be modified when the customer can be more specifics about the actual intended collateral
and advertising uses and the price sometimes goes higher for certain very unique images.
The problem is not that the customer couldn't get a campaign price -- its that they
often don't want to pay that price.

Another issue is the definition of "campaign". For a small local company that may be very
different, in terms of the amount of potential use, than for a major international
company. If Getty is going to establish some fixed campaign price they will somehow need
to deal with this issue. RF has never been able to solve this problem.
On the other hand, if negotiations to define the campaign are necessary in every
instance, that certainly produces a fair degree of hassle.

Without negotiation, the risk is that the price will be set too low -- in order to meet
the needs of the masses -- and lots of dollars will be left on the table in some cases. Getty
certainly doesn't want to do that -- particularly if the lower prices don't somehow
generate an offsetting significant increase in volume. Based on current statistics a
significant volume increase seems unlikely. Klein made the point in the conference call
that, "revenues are not made up of just volume, but a combination of volume and price."
I would think that campaign pricing would result in lower overall prices for all the
usages made of the images, and the only way Getty can make that up is through increased
volume.

There is some indication from Getty sources that the goal of "campaign pricing" is to encourage
customers to pay a larger amount up front because they would be receiving a "discount" on
what they might have to pay on all the future individual uses. But if the user will eventually
make all those individual purchases anyway, the eventual loss as a result of the discount
must be considered.

It is also important to remember that with campaign pricing the average price per usage
is likely to continue to rise, but the number of usages will fall because what was booked
as several usages in the past will now be booked as a single usage. Thus, average prices could
appear to rise while gross revenue is actually dropping, and there is no substantive change in
actual usage.

It is always good to try to give the customers what they think they want, but if you're
not careful you end up giving the product or service to them for less than what they
would otherwise be willing to pay, and end up leaving dollars on the table. Most in the
industry would acknowledge that this is what RF did. RF gave the customer too much
initially, in order to achieve market share. Once RF achieved its mature position in the
market in terms of uses, RF producers found it very difficult to modify their
basic model in order to raise prices to a reasonable level for a large percentage of the
uses. Most RF suppliers would agree that many of their high end users are still getting
images at very favorable rates compared to what these users pay for other services.

The danger in "campaign pricing" is that Getty will lose some of the top end RM dollars
and their total RM revenue will decline further. RM still generates 50% of Getty's
Creative Still Stock Photography revenue from only 33% of the units licensed. I hope
Getty has come up with some magic solution to the price/hassle issue that has eluded
everyone else in the industry, but I'm skeptical.

Other industry player must be concerned about this move by Getty because everyone will
certainly have to follow whatever model Getty decides to establish. By my calculations
Getty already controls well over 50% of the worldwide market for stock images used made by Creative
Professionals and Corporate users. These are the areas where "campaign pricing" will be
in greatest demand. It will be extremely difficult for anyone to buck Getty's pricing
model. While Getty may be able to lose some of the high end sales and take it in stride,
the loss of this revenue may be much more damaging to smaller players in the
industry. Getty might end up winning in the short term by taking over an even larger
share of the market, but eventually they will arrive at a point where there are simply
no more additional sales to be had. Looking at their unit sales they may already be at
that point. Despite adding lots of new content in the past 18 months their total number
of units licensed has not gone up.

What's The Explanation For These RF Volumes?

Before moving on to other highlights of the Getty Images conference call, it may be
useful to explore some of the possible reasons for the continuing strength of RF
despite its lower position in the
search results.

• Some of it certainly has to do with price, but for many uses the RF prices are
  very comparable to RM prices and in some cases even higher. There has also been a lot of
  evidence in the last few years that customers look for the right image first and then
  deal with price. Klein says, "Our customers are first and foremost interested in
  finding the right image as quickly and efficiently as possible. The price and the
  licensing model are secondary." Thus, I'm inclined to think that price is not a major
  factor.

• If price is an issue, customers could be searching just for RF and not using the
  default search. Then they wouldn't be distracted by any of the RM images, but we have
  been led to believe that very few customers use this method of searching and almost
  all rely on the default search option. To date, Getty has not supplied any metrics
  as to how frequently customers switch from default search to some other search option.

  
  

• RF licensing may be heavier in Europe. Klein indicated that when they put
  additional marketing emphasis on RF in March, "These changes were met with enthusiasm by
  our customers, in particular in Europe, where the RF licensing model and imagery is not
  as well developed as in the United States. Many customers began to use RF imagery for
  the first time." This and the fact that the percentage of total revenue in Europe is up
  could be an indication that Europe is responsible in large part for the continued
  strength of RF sales. If true RF licensing will eventually level out when image use
  reaches a saturation point in Europe as seems to already be the case for RF use within the U.S.

• Another factor that can't be ignored is the Quality Of The Imagery. There is no
  question that the quality of RF imagery has improved dramatically and it focuses on the
  high demand subject matter. In addition a higher percentage of the RF that is produced,
  compared with RM, gets where it can be seen. Meanwhile, the number of RM images being
  accepted for marketing has been on the decline for some time leading many photographers
  to cut back on new production. It could be that the available RF images simply do a
  better job of meeting the needs of the customers than RM and these customers pass
  over the RM to get to the more relevant RF image.

• I believe much of the RF is being produced by production teams who are carefully
  analyzing past sales results. From what I hear that kind of mining of sales data
  isn't working as well on the RM side of the business. Photographers are often left more
  to their own devices in deciding what to shoot. If that is the case the photographers
  could be shooting the wrong things.

New Strategies To Better Serve Key Customer Groups

Once again the conference call was filled with useful bits of information. The following
are a few of the highlights.

As part of long term strategy Getty is migrating its Sales and marketing approach to a
more customer centric model. Klein said,
"Our ultimate goal is to focus on specific customer segments from product through
promotion to sales. This allows us to better meet the different needs of each of the key
customers groups we service."

Getty no longer thinks of having RM or RF customers, or News or Sport imagery customers.
Instead the customer groupings they now use are: Creative Professional, Editorial,
Corporate and Soho or Credit Card. All four of these categories need different kinds of
imagery, different licensing and delivery methods, and often different price points.

"We know that we have done a very good job of serving our Creative Professional
customers. They are the core of our business, are significant users of stock
photography and account for by far the biggest portion of our revenue. Yes, there is no
question that their businesses have been affected by poor market conditions, but to the
extent that they had work and budget we know that they came to Getty Images to license
imagery. We also know that they want a simple licensing model for RM imagery."

Editorial

Klein said, "One of our key objectives for the next several years will be to address the
editorial and publishing markets in order to lead and grow them. We're implementing a
new sales and pricing structure to streamline the purchasing process and we're making
changes to the web site to make it more user friendly and oriented to the way publishing
customers want to do their business."

He pointed out that one major publishing customer they approached said they would not
use Getty because their prices were too high. By restructuring its pricing Getty
succeeded in negotiating a deal with this publisher that will generate more than
$500,000 in revenue for Getty next year.

Another interesting metric that was provided is that on the editorial side of the
business Getty has 90 staff photographers around the world and they are responsible
for nearly all the Getty produced News, Sports and Entertainment images that Getty
licenses. Getty's total revenue for News and Sports in the last four quarters was
approximately $36,760,000.

What we don't know is the proportion of that revenue that is generated by images
produced by AFP and other 3rd party providers. But, if we assume that it is very little
then each staff photographer is producing images that generate an average of approximately
$400,000 annually for Getty. That is a useful metric for photographers to consider.

In the coming quarters Getty intends to pursue this Editorial market more aggressively.

Corporate Market

Klein pointed out that corporations are heavy users of imagery and that they source
their imagery either directly or through an intermediary like an advertising or design
agency. They also seeking relationships with companies who can provide all aspects of
the image needs from assignment photography to asset management to still imagery and film.
He said, "These markets require a more personalize approach and Getty Images is expanding
its team of national account managers to promote active attention and communication
with these important customer groups."

Klein give a couple examples of large corporate relationships they have developed and
pointed out that their goal is pursue many more such relationships.

One was a large global soft drinks company. "In 2003 we provided the photography for three large
and very diverse PR and advertising campaigns for this corporation. We shot photos of
some of the most famous international soccer stars as part of a global ad campaign.
Second, we worked on an entertainment focused campaign shooting some of the hottest
names an faces in the pop music world. Third, we worked in the UK on an advertising and
PR campaign for the 2004 football/soccer championships again capturing images of
the most recognized and recognizable soccer players in the world. We also licensed stock
photography to customer and see many other opportunities to broaden the relationship."

Another example is a major U.S. automobile manufacturer. "For this one company we provide
stock photography, assignment photography, as well as photography related to their
sports sponsorships and an online store to help them sell images of cars to consumers."

Both of these examples reflect the model Getty hopes to develop with all of its major
corporate customers.

Third Party Content

Klein said, "We have clearly established ourselves as the de facto home page for anybody
who wishes to license a picture and equally for anybody who wishes to put their imagery
in-front of the largest number of customers."

Getty has been inundated by 3rd parties who want to have their imagery represented on
the site. The strategy now is to only take on "those who are additive to our business,
either in terms of the content mix, or frankly the margin. In the RF space where we have
a number of 3rd party providers we will not take on new players unless the gross margin
is manifestly favorable to us," said Klein.

"In the editorial space we will be adding more 3rd parties and you'll see a lot more of
that both in terms of U.S. 3rd parties as well as international. We're very happy with
both the Time-Life and the Agence France Press relationships," he continued.

Competitive Environment

In the conference call Klein made the following statement relative to the competitive
environment. "As far as the competitive environment is concerned we don't see anybody
else having any traction whatsoever on a 3rd party strategy. For some time there have
been pure aggregators who produce none of their own content and they tend to confine
themselves largely to the RF space with a little bit of RM. There is really nobody who is
stepping up to be very competitive with us in even attracting 3rd party creative
professionals or stock image providers."

"Everybody has found this marketing services and advertising recession extremely
difficult and very few people have had the advantages that we've had in terms of the
power of our platform, the breath, the depth, the relevance and, of course, the pricing
power which has enabled us to weather this period which we believe is coming to an end."

Geographic Breakdown

The percentage of revenues from the Americas continued to decline and that from Europe and
Asia/Pacific increased. The relatively slight changes may have been more a factor of the
relative weakness of the dollar, than of the actual number of images licensed.

Gross Margins

The gross margin for the quarter was 71.7%, flat with gross margin of the 3rd quarter 2002, and
up from 71.6% in the previous quarter. The gross margin is expected to remain in the 71.5%
range for the final quarter of the year.