Investors Flip the Remote on AT&T Deal

By Glenn Dyer | More Articles by Glenn Dyer

The end result of the AT&T-Discovery deal might be the creation of the 5th biggest streaming video player around the globe — with significant cable TV and production facilities attached — but in reality the deal is a clean-up of AT&T’s costly adventures in the media sector and Discovery’s increasingly convoluted ownership structure – a move that will help it break free of its US cable roots.

AT&T shares fell 2.7% on Monday, Discovery’s main traded share class (DISCA) fell more than 5%. No immediate winners according to Wall Street which is usually quick to crown what analysts and others see as the party with the best hand in a deal.

This transaction is complicated with quite a few moving parts but in the end Discovery gets the brass mug (Hard!) because it is continuing in the media business while AT&T is retreating after losing more than $70 billion buying Warner Media and before that, DirecTV.

Yes, the spinning off of Warner Media and then merger with Discovery will see a company with up to 79 million subscribers (not 57 million which was based on earlier figures), but it also allows AT&T to cut is ridiculously high $US170 billion debt burden and gives Discovery the momentum to grow to become a major global media company.

The spin-off will help AT&T prioritise its broadband (fixed line and mobile 5G business) and pay down that huge debt load. AT&T will receive $US43 billion (subject to adjustment) in a combination of cash, debt securities, and WarnerMedia’s retention of certain amount (unspecified) of debt.

The new company will start with $US55 billion in debt – much more than Netflix. That’s why cost cuts estimated at $3 billion have been mentioned by the new management – and that will mean thousands of job losses, facilities being closed and sold and a lot of bad publicity for a while.

The transaction will create a new company bigger than Netflix or NBCUniversal. WarnerMedia and Discovery together generated more than $US41 billion in sales in 2020, with an operating profit of over $US10 billion. That would have put the combined company ahead of Netflix and NBCUniversal and behind the Walt Disney Co.

HBO and HBO Max have 63.9 million global subscribers. Discovery has 15 million global streaming subscribers, most of them for Discovery+. That compares to 103.6 million for Disney+ and 207.6 million for Netflix.

The combined company might be bigger than Netflix and NBCUniversal in terms of revenue and earnings, but not in market value. Netflix’s value is over $US200 billion, the new company will be hard pressed initially to stay above $US120 billion.

But it will help squeeze other cable operators like Comcast, which owns NBCUniversal, the Murdoch family Fox (though it owns the valuable Fox News) while ViacomCBS faces greater pressure on its cable and free to air business – though it is pushing its Paramount+ streaming business.

The new name will be known later this week and some analysts say they would not be surprised if at some stage in the next couple of years, the combined company splits itself into streaming and cable/production businesses.

AT&T’s shareholders will own 71% of the combined company, while Discovery’s shareholders, including John Malone and his Liberty Media will get 29%.

Tellingly, long time Discovery CEO, Zaslav will run the media company and the head of Warner Media, Jason Kilar is reported to be consulting lawyers about his exit package after just a year in the slot.

That says to investors that Discovery people and ideas will be driving the direction of the new company which will be re-occupied with a round of cost cutting, if statements around the merger announcement are any guide.

The two companies already spend a combined $US20 billion a year on content, putting them in the same realm as Netflix, which currently spends about $US17 billion on content a year.

But Netflix spends entirely on content for its streaming business, Discovery and Warner spend not only on content for the two streaming services, but on all the cable channels like CNN, Discovery Family, Turner and more. Analysts reckon that the major of the spend by each company is on content for cable.

Netflix’s content is ’new’ or bought in for just its one stream. Synergies between cable and streaming content will be hard to achieve. Even Disney is spending heavily on streaming-first content.

And sitting outside the likes of Disney and Netflix are the true giants – Amazon and Apple with hundreds of millions of customers and members with growing streaming and advertising businesses that will threaten ad-based services (as Facebook and Google are already doing).

In an interview Monday on CNBC’s Zaslav said he has a goal for his new company to reach up to 400 million streaming subscribers across the world, up from the 100 million subscribers the two separate companies have today.

For AT&T it’s a retreat from an embarrassing dip into the media that has cost the company an enormous amount of money. In February, AT&T took a big step and pushed the fading satellite pay-TV operator DirecTV off its balance sheet, selling 30% of it to private equity firm TPG.

The spinout valued the enterprise at $US16.25 billion, a steep discount from the $US49 billion AT&T paid to acquire DirecTV in 2015.

Now it will receive $US43 billion in cash and securities and a debt deal with the new company, compared to the $US85 billion it paid back in 2018.

That means AT&T outlaid $US134 billion for the two companies and will receive around $US60 billion back. No wonder it wants to see the back of its media play as quickly as possible.

Discovery has its own problems as well. It had a market value before the deal of just over $US16 billion and yet it bought Scripps Networks Interactive in a $US 14.6 billion transaction in 2018. That means the existing businesses had a value at Friday’s close of around $US1.5 billion.

Discovery also has a confusing ownership and governance structure with five classes of shares that confer different rights to different owners. Liberty’s John Malone is now an independent director.

These will be consolidated, according to analysts as part of the lead up to the merger allow to issue new shares to the existing AT&T and Discovery shareholders.


When the Stream Becomes a River

Hard on the heels of confirmation of the Warner Media spin off by AT&T and the merger with Discovery comes news of another potential deal with even bigger ramifications.

According to media reports in Hollywood, Amazon is in talks to by MGM for around $US10 billion. That would see Amazon control the 007 studio and hundreds of back titles.

Though smaller than the $150 billion enterprise value attributed to the Warner Media-Discovery deal, Amazon buying an old-line film studio would be a first and certain to spark similar moves from tech rivals like Apple and perhaps Facebook and Google.

Entertainment website Deadline said it had heard talks between the two had been going on for some time (Talks between AT&T and Discovery for that deal started earlier this year and continued without being revealed until Sunday when the deal was done).

Deadline says MGM has one of the deepest film libraries in the entertainment world with 177 Oscar wins, 12 Best Picture winners, the James Bond franchise and the Rocky and The Creed series of movies.

There’s also the Epix pay TV network, which MGM took full ownership of in 2017, buying out the stakes of Paramount and Lionsgate. And then there’s Emmy winning series such as The Handmaid’s Tale, Fargo, and Survivor among its big TV assets.

MGM’s financial statements showed $US1.496 billion in revenue last year, up from $US1.18 billion in 2016.

The back titles are already licenced to other services and TV networks and cable companies and earn hundreds of millions of dollars a year in fees. But there would not barrier to Amazon adding these to its growing offerings on Prime Video.

About Glenn Dyer

Glenn Dyer has been a finance journalist and TV producer for more than 40 years. He has worked at Maxwell Newton Publications, Queensland Newspapers, AAP, The Australian Financial Review, The Nine Network and Crikey.

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