Big Media Mergers

Netflix, competition, market capitalisation. Yet another story of a new-gen company using tech to take over an entire market, this time it’s media. Netflix now has a market capitalisation of $182B [1], the highest market cap of any media outlet, in very close competition with Disney. So what can the established giants and content creators do to fight back? Merge, acquire and grow. The service that Netflix offers isn’t unique, so why are they worth so much, it could be the original content, the brand, the number of users. Regardless of the reason why, it has triggered a response from the rest of the industry. During this article we are going to focus on the AT&T/Time Warner merger, and in a future article we will speculate about the Disney/Fox merger, as well as looking at where this leaves Comcast and Sky.

The Details

2 years on from when the deal was agreed in 2016, the AT&T’s acquisition of Time Warner finally completed on 15 June 2018. Time Warner shareholders will receive $107.50 per share, half in cash and the other half in AT&T stock. This purchase price implies a total equity value of $85.4B and a total transaction value of $108.7 billion, including Time Warner’s net debt. The merger, including debt, would be the fourth largest deal ever attempted in the global telecom, media and entertainment space – also the 12th largest deal in any sector [3]. The fact that such a big acquisition has passed through the various regulatory bodies in the United States has prompted other companies to follow suit, the most recent being Disney and Fox. The acquisition brings together AT&T’s wireless and fibre networks with Time Warner’s content at Warner Bros., HBO and Turner – the ability to distribute premium content directly to the consumer.

Opposition and Regulation

The US Justice Department opposed the merger, some speculated this was politically motivated by President Trump, who has iconically attacked CNN, which happens to be a part of Time Warner. Formally, the Justice Department made its case with traditional antitrust theory: that combining two different parts of a supply chain can give the merged company the ability to harm rivals, such deals are known as vertical mergers. Most often, the purpose of this is to gain control of the supply chain process in order to reduce cost and increase productivity as well as efficiency. Vertical mergers could be used to block other competitors, for example, the Justice Department argued that AT&T could charge rivals a high price for HBO, to make AT&T’s own product more competitive. However, AT&T have successfully won the battle against the regulatory bodies, arguing that the merger will enable them to compete against the tech giants in the Valley, such as Netflix, Amazon, and Google. The 177 page report on the ruling can be found here.

The current US regulatory trends are favouring the concentration of economic power into a small percentage of companies, and as the economy works towards a monopoly – history suggests this will result in decreased innovation. Whilst the current regulatory climate is favourable, other corporate heads are keen to push for mergers whilst they can.

The Advisers

JP Morgan, Bank of America Merrill Lynch, and Perrella Weinberg Partners advising AT&T on the buy side, with JP Morgan and BAML providing a $40B bridge loan with an 18-month commitment term. Even if the acquisition will be funded from the proceeds of an issue of debt or equity securities, the initial financing will take the form of a bridge loan.  A bridge loan is a short-term loan used to enable a firm to undertake an acquisition/takeover/IPO. Generally, the firm will use this loan to make the purchase of the target company. It will then use the newly acquired target to issue corporate high-yielding bonds to pay off the bridge loan, and future cash flows to pay the bond yields. [4] With regard to Time Warner, it is expected to bring an additional cash flow of $4B per annum to AT&T, to help pay the bond yields.

Allen & Co., Citigroup, and Morgan Stanley are advising Time Warner on the sell-side.

According to the consultant Freeman & Co., the firms’ fees could be the following:

• AT&T buy-side advisory: $90M – $120M (JP Morgan, BAML, PWP)
• AT&T $40B bridge loan : $110M – $130M to arrangers (JP Morgan and BAML)
• Time Warner sell-side advisory : $110M – $140M (Allen&Co., Citi, Morgan Stanley)

The law firms involved for AT&T are Sullivan & Cromwell (transaction side) and Arnold & Porter (regulatory side). For Time Warner, Cravath and Swaine & Moore. [5] However, the original deal didn’t anticipate an 18 month review of the case by regulatory bodies. AT&T spent $1.1 billion last year on debt interest and fees tied to the proposed merger, plus $214 million on related integration costs. The first quarter added another $67 million of integration costs. Time Warner said it spent $279 million on merger costs in 2017 and another $146 million through March, and those figures don’t include the full cost of staffing the trial.

Effects

1. Consumer Prices

For AT&T the future is certainly bright, it now has the capability to acquire, create content and distribute it within their evolved ecosystem. With AT&T’s ownership cable company DirecTV, they have the capability to drive a hard bargain with other distributors that want Time Warner content. If rivals can’t secure the content at a reasonable price, consumers could switch to DirecTV, and with this leverage on content, AT&T could easily charge a premium price on the exclusive content  to the consumer. However, whilst no legal price restriction has been put on the company by the judge, the case is very likely to be appealed in the future. For this reason, it is in AT&T’s best interest to keep/even reduce prices for consumers and play a fair game – for the time being at least.

2. Content Quality

Although Netflix had the most Emmy nominations this year with a grand total of 112, HBO was just shy of this with 108. HBO has dominated the Emmys for 17 years, consistently producing the highest quality of content. With HBO under its belt, AT&T can really make a big play on market and grow its number of subscribers, but will it come at the cost of quality?

It’s not hours a week, and it’s not hours a month. We need hours a day. You are competing with devices that sit in people’s hands that capture their attention every 15 minutes. – AT&T Media CEO

AT&T’s plan is to significantly increase the amount of content in order to fuel this growth in subscribers. Five years ago, Netflix chief content officer Ted Sarandos said “The goal is to become HBO faster than HBO can become us.”[7] Now we’re at the stage where the two content creators are battling it out for the top spot, with Netflix just about having the edge.

3. Culture

A factor that simply cannot be ignored, this isn’t a marriage between 2 entities with similar values and cultures. AT&T is a telecoms giant that orients around technology, Time Warner is creative body that produces content – naturally, the companies won’t mix well, it will take time. KPMG reports that 2 in 3 big mergers in North America do not provide increased value to shareholders. But if they can get it right, and create a seamless integration of content and distribution, it could be game changing. On paper, this puts AT&T in a position to dominate the market, but execution is vital.

4. Innovation

With AT&T’s 144M wireless subscribers and TimeWarners 25M existing TV subscribers, combined with DirecTV’s 21.4M subscribers, it puts AT&T in a position to push content to their large existing customer base. This is important because when new technologies arise, such as the current change from cable/satellite TV to IPTV (live streaming over the internet), customers will be more receptive to it when the change is advertised by an established company they are already with. Especially with the upcoming 5G network infrastructure currently being developed and put into place by AT&T, this could further increase the amount of content that can reach the consumer. This puts the two companies in a prime position to innovate within the system, forcing other providers to compete with the innovations of their own and create the demand for faster wireless connectivity, giving wireless providers further confidence to push the deployment of 5G.

Future

Inevitably, as I’ve already alluded to, such vertical mergers this will open the gates to others looking to get into the entertainment business, specifically tech companies themselves. Companies such as Google and Apple will most definitely be looking to diversify and acquire a few established content creators themselves. Apple has already announced that it plans to greatly expand the original content they create, and some even anticipate them to acquire the likes of Disney or Netflix, but the likelihood of this is low according to Apple’s senior VP of Internet Services and Software, Eddy Cue. But the thought of Tech companies making such a big move is frightening in itself, and puts the AT&T/Time Warner deal into perspective. That being said, the Disney Fox merger in itself is huge, a deal I will go into detail on in a later article. [1] July 9th 2018 Bloomberg [2] AT&T [3] Thomson Reuters data [4] Wall Street Oasis [5] New York Times [6] Adweek [7] GQ