KDSM INC - 10-K Annual Report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

ý ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM TO .

COMMISSION FILE NUMBER: 333-26427-01

KDSM, INC.
(Exact name of Registrant as specified in its charter)

Maryland		52-1975792
(State of incorporation)		(I.R.S. Employer Identification No.)

10706 Beaver Dam Road
Hunt Valley, MD 21030
(Address of principal executive offices)
(410) 568-1500
(Registrant’s telephone number, including area code)

SINCLAIR CAPITAL
(Exact name of Registrant as specified in its charter)

Delaware		52-2026076
(State of incorporation)		(I.R.S. Employer Identification No.)

10706 Beaver Dam Road
Hunt Valley, MD 21030
(Address of principal executive offices)
(410) 568-1500
(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12 (b) of the Act: None
Securities registered pursuant to Section 12 (g) of the Act: None

Indicate by checkmark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o

Indicate by check mark if disclosure of delinquent files pursuant to Item 405 of Regulation S-K is not contained in this report, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ý

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 126-2 of the Act). Yes o No ý

As of March 14, 2003, there are 100 shares of class A common stock, $.01 par value of KDSM, Inc., issued and outstanding.

In addition, 2,000,000 shares of $200 million aggregate liquidation value of 11.625% high yield trust offered preferred securities of Sinclair Capital, a subsidiary trust of KDSM, Inc., are issued and outstanding.

PART I

FORWARD-LOOKING STATEMENTS

This report includes or incorporates forward-looking statements. We have based these forward-looking statements on our current expectations and projections about future events. These forward-looking statements are subject to risks, uncertainties and assumptions about us, including, among other things:

• the impact of war,

• the impact of changes in national and regional economies,

• volatility of programming costs,

• the popularity of our programming,

• the effectiveness of new sales people,

• our ability to attract and maintain our local and national advertising,

• pricing and demand fluctuations in local and national advertising,

• changes in the make up of the population in the area where our station is located,

• our ability to maintain our affiliation agreement with the network,

• the activities of our competitors, and

• the effects of governmental regulation of broadcasting or changes in those regulations and court actions interpreting those regulations.

Other matters set forth in this report, including the risk factors set forth in Item 7 to this report, and/or in the documents incorporated by reference may also cause actual results in the future to differ materially from those described in the forward-looking statements. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this report might not occur.

ITEM 1. BUSINESS

KDSM, Inc. (KDSM) is an indirect wholly owned subsidiary of Sinclair Broadcast Group, Inc. (“Sinclair”), which, together with its wholly-owned subsidiary, KDSM Licensee, LLC, owns all of the assets related to the operation of television station KDSM.

KDSM, Channel 17, is located in Des Moines, the state capital of Iowa. The Des Moines market is currently served by five commercial television stations, all of which are network affiliated. The WB affiliate is the most recent addition, beginning on-air operations in January of 2001. KDSM, the FOX affiliate, is pursuing a counter-programming strategy against the other network affiliates designed to attract additional audience share in demographic groups not served by programming on competing stations.

The following table sets forth certain market revenue, size and audience share information for the Des Moines designated market area:

	Year Ended December 31,
	2002			2001			2000
				(dollars in thousands)

Market revenue	$	50,606		$	41,527		$	48,497
Annual market revenue growth	21.9		%	(14.4		)%	8.4		%
Station rank within market	4			4			4
Television homes	401,000			405,000			394,000
KDSM audience share	4		%	5.5		%	6.3		%

KDSM had station broadcast revenues of $7.4 million and broadcast cash flow of $1.9 million in 2002.

The principal office of KDSM is located at 10706 Beaver Dam Road, Hunt Valley, MD 21030 and its telephone number is 410-568-1500.

SINCLAIR CAPITAL

Sinclair Capital is a special purpose statutory business trust created under Delaware law pursuant to a trust agreement executed by KDSM as depositor for the trust, First Union National Bank of Maryland as property trustee (the property trustee), and First Union Bank of Delaware as Delaware trustee (the Delaware trustee), and the filing of a certificate of trust with the Delaware Secretary of State.

The property trustee acts as sole trustee under the trust agreement for the purposes of compliance with the Trust Indenture Act. The trust exists for the exclusive purposes of:

• issuing the preferred securities and the common securities, representing undivided beneficial interests in the assets of the trust,

• purchasing the KDSM senior debentures with the proceeds from sale of the preferred securities and the common securities and

• engaging in only those other activities necessary or incidental thereto.

All of the common securities of Sinclair Capital are owned by KDSM and KDSM has agreed in the KDSM senior debenture indenture to maintain such ownership. KDSM acquired common securities having an aggregate liquidation amount equal to 3% of the total capital of the trust. The trust has a term expiring in 2015, but may terminate earlier as provided in the trust agreement. The trust’s business affairs will be conducted by the property trustee, the Delaware trustee and the administrative trustee. The holder of the common securities, or the holders of at least a majority in the aggregate liquidation value of then outstanding preferred securities if an event of default has occurred and is continuing, will be entitled to appoint, remove or replace the trustees of the trust.

The duties and obligations of the trustees are governed by the trust agreement. David D. Smith and David B. Amy, each an officer of Sinclair, were appointed as administrative trustees of the trust (in such capacity, the administrative trustees) pursuant to the terms of the trust agreement. Under the trust agreement, the administrative trustees have certain duties and powers including, but not limited to, the delivery of certain notices to the holders of the preferred securities, the appointment of the preferred securities paying agent and the preferred securities registrar, the registering of transfers of the preferred securities and the common securities and preparing and filing on behalf of the trust all United States federal, state and local tax information and returns and reports required to be filed by or in respect of the trust. Under the trust agreement, the property trustee has certain duties and powers, including, but not limited to, holding legal title to the KDSM senior debentures on behalf of the trust, the collection of payments in respect of the KDSM senior debentures, maintenance of the payment account, the sending of default notices with respect to the preferred securities and the distribution of the assets of the trust in the event of a winding-up of the trust.

TELEVISION BROADCASTING

Operating Strategy

Our television operating strategy includes the following key elements:

Attracting Viewership

We seek to target our programming offerings to attract viewership, particularly in the 18 to 49 year-old age bracket.

Popular Programming. We believe that an important factor in attracting viewership is our network affiliation with FOX. The affiliation enables us to attract viewers by virtue of the quality first-run original programming provided by this network and the network’s promotion of such programming. We also seek to obtain, at attractive prices, popular syndicated programming that is complementary to the station’s network affiliation. Examples of popular syndicated programming obtained by us for broadcast are “The Simpsons,” “Seinfeld,” “Spin City,” “Drew Carey,” “Frasier,” “Third Rock,” “Entertainment Tonight,” “Extra,” and “Dharma & Greg”. Our programming strategy also includes counter programming which consists of broadcasting programs that are alternatives to the types of programs being shown concurrently on competing stations.

Local News. We believe that the production and broadcasting of local news is an important link to the community and an aid to the station’s efforts to expand its viewership. In addition, local news programming can provide access to advertising sources targeted specifically to local news viewers. In March 2001, we commenced a 35-minute prime-time local newscast, airing seven days a week from 9:00 pm to 9:35 pm (CST) which is being produced by KGAN-TV, a wholly-owned Sinclair television station in Cedar Rapids, Iowa. This is central Iowa’s only prime-time local newscast.

Popular Sporting Events. We attempt to capture a portion of advertising dollars designated to sports programming. Affiliates of FOX are subject to prohibitions against preemptions of network programming. We have been able to acquire the local television broadcast rights for certain sporting events, including Major League Baseball, NASCAR, NFL football, Big Ten football, and Iowa and Big Ten basketball, and Iowa High School Basketball.

Innovative Local Sales and Marketing

We believe that we are able to attract new advertisers to our station and increase our share of existing customers’ advertising budgets by creating a sense of partnership with those advertisers. We develop such relationships by training our sales force to offer new marketing ideas and campaigns to advertisers. These campaigns often involve the sponsorship by advertisers of local promotional events that capitalize on the station’s local identity and programming franchises. For example, KDSM conducts yearly the “FOX 17 Sweepstakes.” This event is a marketing promotion that involves sending direct mail pieces to 150,000 homes.

Control of Operating and Programming Costs

By employing a disciplined approach to managing programming acquisition and other costs, Sinclair has been able to achieve operating margins that Sinclair believes are among the highest in the television broadcast industry. Sinclair believes that their national reach of approximately 24% of the country provides a strong position to negotiate with programming providers and, as a result, the opportunity to purchase high quality programming at more favorable prices. Moreover, Sinclair emphasizes control of programming and operating costs through program-specific profit analysis, detailed budgeting, tight control over staffing levels and detailed long-term planning models.

Attract and Retain High Quality Management

We believe that much of our success is due to our ability to attract and retain highly skilled and motivated managers, both at the corporate and local station levels. A significant portion of the compensation available to group general managers, sales managers and other station managers is based on their exceeding certain operating results. We also provide some of our corporate and station managers with deferred compensation plans offering options to acquire class A common stock.

Community Involvement

We actively participate in various community activities and offer many community services. Our activities include broadcasting programming of local interest and sponsorship of community and charitable events. We also encourage our station employees to become active members of their communities and to promote involvement in community and charitable affairs. We believe that active community involvement by our station provides increased exposure in our DMA and ultimately increases viewership and advertising support.

Programming and Affiliations

Sinclair continually reviews our existing programming inventory and seeks to purchase the most profitable and cost-effective syndicated programs available for each time period. In developing its selection of syndicated programming, Sinclair balances the cost of available syndicated programs with their potential to increase advertising revenue and the risk of their reduced popularity during the term of the program contract. Sinclair seeks to purchase only those programs with contractual periods that permit programming flexibility and which complement a station’s overall programming strategy and counter-programming strategy. Programs that can perform successfully in more than one time period are more attractive due to the long lead time and multi-year commitments inherent in program purchasing.

Sinclair recently secured a long-term affiliation agreement with the FOX network with a term that will run through June 30, 2005.

As a FOX affiliate, KDSM has limited ability to preempt FOX programming except where it has existing programming conflicts or where KDSM preempts to serve a public purpose. FOX produces and distributes programming in exchange for KDSM’s commitment to air the programming at specified times and for commercial announcement time during the programming.

FEDERAL REGULATION OF TELEVISION BROADCASTING

The ownership, operation and sale of television stations are subject to the jurisdiction of the FCC, which acts under authority granted by the Communications Act of 1934, as amended (“Communications Act”). Among other things, the FCC assigns frequency bands for broadcasting; determines the particular frequencies, locations and operating power of stations; issues, renews, revokes and modifies station licenses; regulates equipment used by stations; adopts and implements regulations and policies that directly or indirectly affect the ownership, operation and employment practices of stations; and has the power to impose penalties for violations of its rules or the Communications Act.

The following is a brief summary of certain provisions of the Communications Act, the Telecommunications Act of 1996 (“the 1996 Act”) and specific FCC regulations and policies. Reference should be made to the Communications Act, the 1996 Act, FCC rules and the public notices and rulings of the FCC for further information concerning the nature and extent of federal regulation of broadcast stations.

License Grant and Renewal

Television stations operate pursuant to broadcasting licenses that are granted by the FCC for maximum terms of eight years and are subject to renewal upon application to the FCC. During certain periods when renewal applications are pending, petitions to deny license renewals can be filed by interested parties, including members of the public. The FCC will generally grant a renewal application if it finds:

• that the station has served the public interest, convenience and necessity;

• that there have been no serious violations by the licensee of the Communications Act or the rules and regulations of the FCC; and

• that there have been no other violations by the licensee of the Communications Act or the rules and regulations of the FCC that, when taken together, would constitute a pattern of misconduct.

KDSM’s FCC license will expire on February 1, 2006. Although renewal of a license is granted in the vast majority of cases even when petitions to deny are filed, there can be no assurance that the license of a station will be renewed.

Ownership Matters

General. The Communications Act prohibits the assignment of a broadcast license or the transfer of control of a broadcast licensee without the prior approval of the FCC. In determining whether to permit the assignment or transfer of control of, or the grant or renewal of, a broadcast license, the FCC considers a number of factors pertaining to the licensee, including compliance with various rules limiting common ownership of media properties, the “character” of the licensee and those persons holding “attributable” interests in that licensee, and compliance with the Communications Act’s limitations on alien ownership.

To obtain the FCC’s prior consent to assign a broadcast license or transfer control of a broadcast licensee, appropriate applications must be filed with the FCC. If the application involves a “substantial change” in ownership or control, the application must be placed on public notice for a period of approximately 30 days during which petitions to deny the application may be filed by interested parties, including members of the public. If the application does not involve a “substantial change” in ownership or control, it is a “pro forma” application. The “pro forma” application is not subject to petitions to deny or a mandatory waiting period, but is nevertheless subject to having informal objections filed against it. If the FCC grants an assignment or transfer application, interested parties have approximately 30 days from public notice of the grant to seek reconsideration or review of the grant. Generally, parties that do not file initial petitions to deny or informal objections against the application face difficulty in seeking reconsideration or review of the grant. The FCC normally has approximately an additional 10 days to set aside such grant on its own motion. When passing on an assignment or transfer application, the FCC is prohibited from considering whether the public interest might be served by an assignment or transfer to any party other than the assignee or transferee specified in the application.

The FCC generally applies its ownership limits to “attributable” interests held by an individual, corporation, partnership or other association. In the case of corporations holding, or through subsidiaries controlling, broadcast licenses, the interests of officers, directors and those who, directly or indirectly, have the right to vote 5% or more of the corporation’s stock (or 20% or more of such stock in the case of insurance companies, investment companies and bank trust departments that are passive investors) are generally attributable. In August 1999, the FCC revised its attribution and multiple ownership rules, and adopted the equity-debt-plus rule that causes certain creditors or investors to be attributable owners of a station. Under this rule, a major programming supplier (any programming supplier that provides more than 15% of the station’s weekly programming hours) or same-market media entity will be an attributable owner of a station if the supplier or same-market media entity holds debt or equity, or both, in the station that is greater than 33% of the value of the station’s total debt plus equity. For purposes of this rule, equity includes all stock, whether voting or non-voting, and equity held by insulated limited partners in partnerships. Debt includes all liabilities whether long-term or short-term.

The Communications Act prohibits the issuance of broadcast licenses to, or the holding of a broadcast license by, any corporation of which more than 20% of the capital stock is owned of record or voted by non-U.S. citizens or their representatives or by a foreign government or a representative thereof, or by any corporation organized under the laws of a foreign country (collectively, aliens). The Communications Act also authorizes the FCC, if the FCC determines that it would be in the public interest, to prohibit the issuance of a broadcast license to, or the holding of a broadcast license by, any corporation directly or indirectly controlled by any other corporation of which more than 25% of the capital stock is owned of record or voted by aliens. The FCC has issued interpretations of existing law under which these restrictions in modified form apply to other forms of business organizations, including partnerships.

As a result of these provisions, the licenses granted to KDSM Licensee, LLC by the FCC could be revoked if, among other restrictions imposed by the FCC, more than 25% of Sinclair’s stock were directly or indirectly owned or voted by aliens. Sinclair and its subsidiaries are domestic corporations, and the members of the Smith family

(who together hold over 90% of the common voting rights of Sinclair) are all United States citizens. The amended and restated articles of incorporation of Sinclair (the amended certificate) contain limitations on alien ownership and control that are substantially similar to those contained in the Communications Act. Pursuant to the amended certificate, Sinclair has the right to repurchase alien-owned shares at their fair market value to the extent necessary, in the judgment of its board of directors, to comply with the alien ownership restrictions.

Radio/Television Cross-Ownership Rule. The FCC’s radio/television cross-ownership rule (the “one to a market” rule) generally permits a party to own a combination of up to two television stations and six radio stations depending on the number of independent media voices in the market.

Broadcast/Daily Newspaper Cross-Ownership Rule. The FCC’s rules prohibit the common ownership of a radio or television broadcast station and a daily newspaper in the same market.

Dual Network Rule. The four major television networks, ABC, CBS, NBC and FOX, are prohibited, absent a waiver, from merging with each other. In May 2001, the FCC amended its dual network rule to permit the four major television networks to own, operate, maintain or control the UPN and/or The WB television network.

National Ownership Rule. No individual or entity may have an attributable interest in television stations reaching more than 35% of the national television viewing audience. In February 2002, the U.S. Court of Appeals for the D.C. Circuit remanded to the FCC its decision not to alter this rule. Under this rule, which currently remains in effect pending the FCC’s review thereof as mandated by the court, where an individual or entity has an attributable interest in more than one television station in a market, the percentage of the national television viewing audience encompassed within that market is only counted once. Since, historically, VHF stations have shared a larger portion of the market than UHF stations, only half of the households in the market area of any UHF station are included when calculating whether an entity or individual owns television stations reaching more than 35% of the national television viewing audience (commonly referred to as the “UHF discount”). All but eight of the stations owned and operated by us, or to which we provide programming services, are UHF. We reach approximately 24% of U.S. television households or 14% taking into account the FCC’s UHF discount. KDSM is a UHF station.

Local Television (Duopoly)Rule. A party may own two television stations in adjoining markets, even if there is Grade B overlap between the two stations’ signals, and generally may own two stations in the same market:

• if there is no Grade B overlap between the stations; or

• if the market containing both the stations contains at least eight separately-owned full-power television stations (the “eight voices test”) and not more than one station is among the top-four rated stations in the market.

In addition, a party may request a waiver of the rule to acquire a second station in the market if the station to be acquired is economically distressed or unbuilt and there is no party who does not own a local television station who would purchase the station for a reasonable price. In April 2002, the D.C. Circuit held that the eight voices test of duopoly rules was arbitrary and capricious and remanded the rules to the FCC for further consideration.

In September 2002, the FCC commenced a broad-based rulemaking proceeding to review all of its broadcast multiple ownership rules. The FCC has publicly stated that it intends to conclude this proceeding in the spring of 2003.

Antitrust Regulation. The Department of Justice (“DOJ”) and the Federal Trade Commission have increased their scrutiny of the television industry since the adoption of the 1996 Act, and have reviewed matters related to the concentration of ownership within markets (including LMAs) even when the ownership or LMA in question is permitted under the laws administered by the FCC or by FCC rules and regulations. The DOJ takes the position that an LMA entered into in anticipation of a station’s acquisition with the proposed buyer of the station constitutes a change in beneficial ownership of the station which, if subject to filing under the Hart-Scott-Rodino Anti Trust Improvements Act (“HSR”) Act, cannot be implemented until the waiting period required by that statute has ended or been terminated.

Expansion of our broadcast operations on both a local and national level will continue to be subject to the FCC’s ownership rules and any changes the FCC or Congress may adopt. Concomitantly, any further relaxation of the FCC’s ownership rules may increase the level of competition in the market in which our station is located, more specifically to the extent that any of our competitors may have greater resources and thereby be in a superior position to take advantage of such changes.

The Satellite Home Viewer Act (“SHVA”)

In 1988, Congress enacted SHVA which enabled satellite carriers to provide broadcast programming to those satellite subscribers who were unable to obtain broadcast network programming over-the-air. SHVA did not permit satellite carriers to retransmit local broadcast television signals directly to their subscribers. The Satellite Home Viewer Improvement Act of 1999 (“SHVIA”) revised SHVA to reflect changes in the satellite and broadcasting industry. This legislation allows satellite carriers to provide local television signals by satellite within a station market, and effective January 1, 2002, required satellite carriers to carry all local signals in any market where it

carries any local signals. On or before July 1, 2001, SHVIA required all television stations to elect to exercise certain “must carry” or “retransmission consent” rights in connection with their carriage by satellite carriers. We have entered into agreements granting the two primary satellite carriers retransmission consent to carry all of our stations.

Must-Carry/Retransmission Consent

Pursuant to the Cable Act of 1992, television broadcasters are required to make triennial elections to exercise either certain “must-carry” or “retransmission consent” rights in connection with their carriage by cable systems in each broadcaster’s local market. By electing the must-carry rights, a broadcaster demands carriage on a specified channel on cable systems within its Designated Market Area, in general as defined by the Nielsen DMA Market and Demographic Rank Report of the prior year. These must-carry rights are not absolute, and their exercise is dependent on variables such as:

• the number of activated channels on a cable system,

• the location and size of a cable system, and

• the amount of programming on a broadcast station that duplicates the programming of another broadcast station carried by the cable system.

Therefore, under certain circumstances, a cable system may decline to carry a given station. Alternatively, if a broadcaster chooses to exercise retransmission consent rights, it can prohibit cable systems from carrying its signal or grant the appropriate cable system the authority to retransmit the broadcast signal for a fee or other consideration. In October 2002, we elected retransmission consent with respect to KDSM. Our stations continue to be carried on all pertinent cable systems, and we do not believe that our elections have resulted in the shifting of our stations to less desirable cable channel locations. Many of the agreements we have negotiated for cable carriage are short term, subject to month-to-month extensions.

The FCC recently determined not to apply must-carry rules to require cable companies to carry both the analog and digital signals of local broadcasters during the DTV transition period between 2002 and 2006 when television stations will be broadcasting both signals. As a result of this decision by the FCC, cable customers in our broadcast markets may not receive the station’s digital signal.

Syndicated Exclusivity/Territorial Exclusivity

The FCC’s syndicated exclusivity rules allow local broadcast television stations to demand that cable operators black out syndicated non-network programming carried on “distant signals” (i.e., signals of broadcast stations, including so-called “superstations,” which serve areas substantially removed from the cable system’s local community). The FCC’s network non-duplication rules allow local broadcast network television affiliates to require that cable operators black out duplicating network programming carried on distant signals. However, in a number of markets in which we own or program stations affiliated with a network, a station that is affiliated with the same network in a nearby market is carried on cable systems in our market. This is not necessarily in violation of the FCC’s network non-duplication rules. However, the carriage of two network stations on the same cable system could result in a decline of viewership adversely affecting the revenues of our owned or programmed stations. The FCC recently announced that stations need only broadcast on their digital channel during primetime hours and need only cover their community of license during the DTV transition period.

Digital Television

The FCC has taken a number of steps to implement digital television (“DTV”) broadcasting services. The FCC has adopted an allotment table that provides all authorized television stations with a second channel on which to broadcast a DTV signal. The FCC has attempted to provide DTV coverage areas that are comparable to stations’ existing service areas. The FCC has ruled that television broadcast licensees may use their digital channels for a wide variety of services such as high-definition television, multiple standard definition television programming, audio, data, and other types of communications, subject to the requirement that each broadcaster provide at least one free video channel equal in quality to the current technical standard and further subject to the requirement that broadcasters pay a fee of 5% of gross revenues on all DTV subscription services.

DTV channels are generally located in the range of channels from channel 2 through channel 51. The FCC required that affiliates of ABC, CBS, FOX and NBC in the top 10 television markets begin digital broadcasting by May 1, 1999 and that affiliates of these networks in markets 11 through 30 begin digital broadcasting by November 1999. All other commercial stations were required to begin digital broadcasting by May 1, 2002.

As of May 1, 2002, KDSM is operating their DTV facilities at low power as permitted by the FCC pursuant to special temporary authority.

On May 24, 2002, the FCC issued an Order and Notice of Proposed Rule Making which proposes a series of graduated sanctions to be imposed upon licensees who do not meet the FCC’s DTV build-out schedule. If the rules are adopted, the stations could face monetary fines and possible loss of any digital construction permits that are not in compliance with the schedule announced in the rules. After completion of the transition period, the FCC will

reclaim the non-digital channels. The FCC’s plan calls for the DTV transition period to end December 31, 2006, at which time the FCC expects that television broadcasters will cease non-digital broadcasting and return one of their two channels to the government, allowing that spectrum to be recovered for other uses. During the transition period, each existing analog television station will be permitted to operate a second station that will broadcast using the digital standard.

The FCC has been authorized by Congress to extend the 2006 deadline for reclamation of a television station’s non-digital channel if, in any given case:

• one or more television stations affiliated with ABC, CBS, NBC or FOX in a market is not broadcasting digitally, and the FCC determines that each such station has “exercised due diligence” in attempting to convert to digital broadcasting and satisfies the conditions for an extension of the FCC’s applicable construction deadlines for DTV service in that market;

• digital-to-analog converter technology is not generally available in such market; or

• 15% or more of the television households in such market do not subscribe to a multichannel video service (cable, wireless cable or direct-to-home broadcast satellite television) that carries at least one digital channel from each of the local stations in that market, and cannot receive digital signals using either a television receiver capable of receiving digital signals or a receiver equipped with a digital-to-analog converter.

On January 27, 2003, the FCC initiated its second periodic review of its rules on the conversion to digital television, releasing a notice of proposed rulemaking. The notice invited comments on the difficulties broadcasters face in building their DTV stations and on the interpretation of the statutory language concerning the 2006 deadline.

Congress directed the FCC to begin auctioning analog channels 60-69 in 2001 even though the FCC is not to reclaim them until 2006. The channel 60-69 auction has been delayed and is currently scheduled to be held in 2003. Congress further permitted broadcasters to bid on the non-digital channels in cities with populations over 400,000. If the channels are owned by our competitors, they may exert increased competitive pressure on our operations. In addition, the FCC released a Report and Order on January 18, 2002, reallocating the 698-746 MHz spectrum band, currently comprising television channels 52-59, to permit both wireless services and certain new broadcast operations. The FCC completed an auction of this spectrum on September 18, 2002. Analog broadcasters are required to cease operation on this spectrum by the end of 2006 unless the FCC extends the end of the digital transition period. The FCC envisions that this band will be used for a variety of wireless and broadcast-type applications including two-way interactive services and services using COFDM technology. We cannot predict how the development of this spectrum will affect Sinclair’s television operations.

Implementation of digital television has imposed substantial additional costs on television stations because of the need to replace equipment and because some stations will need to operate at higher utility costs. There can be no assurance that our television stations will be able to increase revenue to offset such costs. In addition the FCC has proposed imposing new public interest requirements on television licensees in exchange for their receipt of DTV channels.

Restrictions on Broadcast Advertising

Advertising of cigarettes and certain other tobacco products on broadcast stations has been banned for many years. Various states also restrict the advertising of alcoholic beverages and certain members of Congress are currently contemplating legislation to place restrictions on the advertisement of such alcoholic beverage products. FCC rules also restrict the amount and type of advertising which can appear in programming broadcast primarily for an audience of children twelve years old and younger.

The Communications Act and FCC rules also place restrictions on the broadcasting of advertisements by legally qualified candidates for elective office. Among other things,

• stations must provide “reasonable access” for the purchase of time by legally qualified candidates for federal office,

• stations must provide “equal opportunities” for the purchase of equivalent amounts of comparable broadcast time by opposing candidates for the same elective office, and

• during the 45 days preceding a primary or primary run-off election and during the 60 days preceding a general or special election, legally qualified candidates for elective office may be charged no more than the station’s “lowest unit charge” for the same class of advertisement, length of advertisement, and daypart.

We cannot predict the effect of legislation on our station’s advertising revenues. During March 2002, legislation passed in Congress and was signed into law by the President that revised the laws regarding the rates charged by

television stations to legally qualified candidates for office and the rules regarding “soft money” advertising and advocacy advertising by labor unions and corporations. Immediately upon passage, a constitutional challenge was filed.

Programming and Operation

General. The Communications Act requires broadcasters to serve the “public interest.” The FCC has relaxed or eliminated many of the more formalized procedures it had developed in the past to promote the broadcast of certain types of programming responsive to the needs of a station’s community of license. FCC licensees continue to be required, however, to present programming that is responsive to the needs and interests of their communities, and to maintain certain records demonstrating such responsiveness. Complaints from viewers concerning a station’s programming may be considered by the FCC when it evaluates renewal applications of a licensee, although such complaints may be filed at any time and generally may be considered by the FCC at any time. Stations also must pay regulatory and application fees, and follow various rules promulgated under the Communications Act that regulate, among other things, political advertising, sponsorship identifications, obscene and indecent broadcasts, and technical operations, including limits on radio frequency radiation.

Equal Employment Opportunities. On November 20, 2002, the FCC adopted new rules requiring licensees to create equal employment opportunity outreach programs and maintain records and make filings with the FCC evidencing such efforts. The FCC simultaneously released a notice of proposed rulemaking seeking comments on whether and how to apply the new rules and policies to part-time positions, defined as less than 30 hours per week.

Children’s Television Programming. Television stations are required to broadcast a minimum of three hours per week of “core” children’s educational programming, which the FCC defines as programming that

• has the significant purpose of servicing the educational and informational needs of children 16 years
of age and under;

• is regularly scheduled, weekly and at least 30 minutes in duration; and

• is aired between the hours of 7:00 a.m. and 10:00 p.m.

Furthermore, “core” children’s educational programs, in order to qualify as such, are required to be identified as educational and informational programs over the air at the time they are broadcast, and are required to be identified in the children’s programming reports required to be placed quarterly in stations’ public inspection files and filed quarterly with the FCC.

Additionally, television stations are required to identify and provide information concerning “core” children’s programming to publishers of program guides. The FCC is considering whether or not to require the use of the digital broadcast spectrum for the broadcast of additional amounts of “core” children’s programming.

Television Program Content. The television industry has developed a ratings system that has been approved by the FCC, that is designed to provide parents with information regarding the content of the programming being aired. Furthermore, the FCC requires certain television sets to include the so-called “V-chip,” a computer chip that allows blocking of rated programming.

Pending Matters

The Congress and the FCC have under consideration, and in the future may consider and adopt, new laws, regulations and policies regarding a wide variety of matters that could affect, directly or indirectly, the operation, ownership and profitability of our broadcast station, result in the loss of audience share and advertising revenues for our broadcast station, and affect our ability to acquire additional broadcast stations or finance such acquisitions. In addition to the changes and proposed changes noted above, such matters may include, for example, the license renewal process, spectrum use fees, political advertising rates, potential restrictions on the advertising of certain products (beer, wine and hard liquor, for example), and the rules and policies with respect to equal employment opportunity.

Other matters that could affect KDSM include technological innovations and developments generally affecting competition in the mass communications industry, such as direct television broadcast satellite service, Class A television service, the continued establishment of wireless cable systems and low power television stations, digital television technologies, the Internet and the advent of telephone company participation in the provision of video programming service.

Other Considerations

The foregoing summary does not purport to be a complete discussion of all provisions of the Communications Act or other congressional acts or of the regulations and policies of the FCC. For further information, reference should be made to the Communications Act, the 1996 Act, other congressional acts, and regulations and public notices promulgated from time to time by the FCC. There are additional regulations and policies of the FCC and other federal agencies that govern political broadcasts, advertising, equal employment opportunity, and other matters affecting our business and operations.

ENVIRONMENTAL REGULATION

Prior to Sinclair’s ownership or operation of facilities, substances or waste that are or might be considered hazardous under applicable environmental laws may have been generated, used, stored or disposed of at certain of those facilities. In addition, environmental conditions relating to the soil and groundwater at or under Sinclair’s facilities may be affected by the proximity of nearby properties that have generated, used, stored or disposed of hazardous substances. As a result, it is possible that Sinclair could become subject to environmental liabilities in the future in connection with these facilities under applicable environmental laws and regulations. Although Sinclair believes that they are in substantial compliance with such environmental requirements, and have not in the past been required to incur significant costs in connection therewith, there can be no assurance that their costs to comply with such requirements will not increase in the future. Sinclair presently believes that none of their properties have any condition that is likely to have a material adverse effect on their financial condition or results of operations.

COMPETITION

Sinclair television stations compete for audience share and advertising revenue with other television stations in their respective DMAs, as well as with other advertising media, such as radio, newspapers, magazines, outdoor advertising, transit advertising, Internet, yellow page directories, direct mail, satellite television and local cable television and wireless video. Some competitors are part of larger organizations with substantially greater financial, technical and other resources than Sinclair has.

Television Competition. Competition in the television broadcasting industry occurs primarily in individual DMAs. Generally, a television broadcasting station in one DMA does not compete with stations in other DMAs. Sinclair television stations are located in highly competitive DMAs. In addition, certain of Sinclair’s DMAs are overlapped by both over-the-air and cable carriage of stations in adjacent DMAs, which tends to spread viewership and advertising expenditures over a larger number of television stations.

Broadcast television stations compete for advertising revenues primarily with other broadcast television stations, radio stations, cable channels and cable system operators serving the same market, as well as with newspapers, the Internet, yellow page directories and outdoor advertising opportunities. Traditional network programming generally achieves higher household audience levels than FOX, WB and UPN programming and syndicated programming aired by Sinclair’s independent stations. This can be attributed to a combination of factors, including the traditional networks’ efforts to reach a broader audience, generally better signal carriage available when broadcasting over VHF channels 2 through 13 versus broadcasting over UHF channels 14 through 69 and the higher number of hours of traditional network programming being broadcast weekly. However, greater amounts of advertising time are available for sale during FOX, UPN and WB programming and non-network syndicated programming, and as a result Sinclair believes that their programming typically achieves a share of television market advertising revenues greater than its share of the market’s audience.

Television stations compete for audience share primarily on the basis of program popularity, which has a direct effect on advertising rates. A large amount of a station’s programming is supplied by FOX, ABC, NBC and CBS, and to a lesser extent WB and UPN. In those periods, Sinclair’s affiliated stations are largely dependent upon the performance of the networks’ programs in attracting viewers. Non-network time periods are programmed by the station primarily with syndicated programs purchased for cash, cash and barter, or barter-only, and also through self-produced news, public affairs, live local sporting events, and other entertainment programming.

Television advertising rates are based upon factors which include the size of the DMA in which the station operates, a program’s popularity among the viewers that an advertiser wishes to attract, the number of advertisers competing for the available time, the demographic makeup of the DMA served by the station, the availability of alternative advertising media in the DMA including radio, cable, newspapers and yellow page directories, the aggressiveness and knowledge of sales forces in the DMA and development of projects, features and programs that tie advertiser messages to programming. Sinclair believes that their sales and programming strategies allow them to compete effectively for advertising within their DMAs.

Other factors that are material to a television station’s competitive position include signal coverage, local program acceptance, network affiliation, audience characteristics and assigned broadcast frequency. Historically, Sinclair’s UHF broadcast stations have suffered a competitive disadvantage in comparison to stations with VHF broadcast frequencies. This historic disadvantage has gradually declined through:

• carriage on cable systems, and in certain markets, direct broadcast satellite,

• improvement in television receivers,

• improvement in television transmitters,

• wider use of all channel antennae,

• increased availability of programming, and

• the development of new networks such as FOX, WB and UPN.

The broadcasting industry is continuously faced with technical changes and innovations, competing entertainment and communications media, changes in labor conditions, and governmental restrictions or actions of federal regulatory bodies, including the FCC, any of which could possibly have a material effect on a television station’s operations and profits. For instance, the FCC has established Class A television service for qualifying low power television stations. A low power television station that qualifies for Class A has certain rights currently accorded to full-power television stations, which may allow them to compete more effectively with full power stations. Sinclair cannot predict the effect of increased competition from Class A television stations in markets where they have full-power television stations.