No holiday for consolidation
After Vivendi-USA deal and Comcast takeover of AT&T Broadband, who's next, what's left?
By John M. Higgins -- Broadcasting & Cable, 12/30/2001 7:00:00 PM
Sunken stock prices, a sullen advertising market and a bleak economy are proving little deterrent to moguls who exhibit no hesitancy in committing to massive takeovers to increase their size and dominance of their corners of the media business.
As the media industry ended its bleakest year in half a century, the only thing that seemed recession-proof was dealmakers' optimism. Comcast won its five-month contest to snag AT&T Broadband, bidding $72 billion. Vivendi Universal cut an $11 billion deal to reacquire cable- and TV-production assets that Universal had earlier sold to Barry Diller. Vivendi also dumped $1.5 billion into EchoStar to secure a favored foothold with a critical distributor of its content. NBC filled a hole in the San Francisco market by snapping up Granite Broadcasting's San Jose station.
The swirl continues the seemingly unstoppable consolidation of media as big players look to balloon their portfolios. They are ostensibly in search of financial leverage, creating content more efficiently, bulking up on distribution or marrying the two sides.
But usually the target of the hunt is power rather than strict operating efficiently. Occasionally new players enter the game—Vivendi was a French utility company two years ago. But even when they create entire new sectors—as DirecTV and EchoStar did with the DBS business—they get the merger bug.
The speculation among dealmakers immediately turned to who would be next.
What station group will surrender to what is expected to be an unprecedented (since the invention of radio) two-year decline in ad sales? (Yes, ad sales didn't decline during World War II or the worst recessions.)
Young Broadcasting's struggle against its debt load makes the company many players' favorite candidate.
How will the losing AT&T Broadband bidders (though they didn't bid very aggressively) respond?
Cox Communications is widely expected to stalk Adelphia Communications, and AOL Time Warner is seen as the ultimate buyer of Cablevision Systems.
But while AT&T was embarrassed enough with its operating performance to sell cable in a down market, Adelphia and Cablevision are seen as likely to hold out until the market rises dramatically.
The concentration of power is becoming dramatic. NBC has its suits in four TV networks: NBC, Telemundo, ShopNBC and Pax TV (although the Paxson venture may crumble).
If the Comcast/AT&T (22 million cable subs) and EchoStar/DirecTV (15 million DBS subs) deals go through, two companies will control television going into almost half of the nation's multichannel video homes.
Forrester Research's Josh Bernoff called the AT&T-Comcast deal "the beginning of a dramatic shift in the television industry—the beginning of the end of the network era in TV.
With one MSO in 22 million households, they are in the driver's seat. Negotiations are going to tilt towards AT&T Comcast."
Of course, consolidation frequently creates as many problems as efficiencies. For all its boasts about its recession-resistant subscription revenue, AOL Time Warner's revenues will probably only grow 5%-7% next year. Not much for what outgoing Chairman Gerald Levin has declared to be to be a "large cap growth company." Sure, cash flow should grow 15%, but much of that is from one-time cost cutting.
The bottom line is that getting larger and cutting across more media segments doesn't necessarily generate better returns on investment, which is supposed to be the guiding force of financial shepherds.
"I'm not a big fan of the whole consolidation thing," said UBS Warburg media analyst Tom Eagan. In cable, he likes deals that build strong regional clusters, such as Charter Communications' recent acquisition of AT&T's system in St. Louis, where the company is headquartered and already runs all the nearby suburbs.
"I think management is more important than size," Eagan said.
One veteran media CEO was more blunt. From a purely financial perspective, "it never works," he said. "It's all ego. But our responsibility isn't to increase the returns on capital; it's to increase the stock price." Takeovers are sexy, and sex drives stock prices. Forget the length at which institutional investors and analysts will talk about returns on capital being the fundamental creator of value. "A textbook will tell you that, but try running one of these things sometime," the CEO said.
One surprising thing about the latest deals is the relatively small number of fire sales. Vivendi is paying top dollar to recombine USA Networks TV operation with Universal.
While Comcast is buying AT&T Broadband for perhaps $20 billion less than Mike Armstrong has put into the cable operation, AT&T wasn't desperate to sell. Granite Broadcasting is certainly in financial distress, but the station owner is fetching a nice price in the sale of its San Jose station KNTV-TV to NBC.
The big financial disaster is Excite@Home, which is less of a fire sale than a giant black hole sucking value into the abyss. The Excite portal half of the company sold last Friday to Iwon.com for $10 million—shockingly less than the $6.7 billion paid for the unit just three years ago. As for the high-speed Internet side of the business, it's simply shutting down and will be chopped up for the value of its servers.
And General Motors probably could have gotten vastly better terms if it had moved quickly to sell Hughes Electronics and its DirecTV unit when News Corp.'s Rupert Murdoch came calling two years ago. Instead, the company frittered away perhaps 40% of the value of the company by the time it dealt with Ergen.
As the players increase power in their ends of the business, the clashes will become more dramatic. Distributors need shows and networks to resell, but they still have choices. Distribution is oxygen to cable networks that have only two paths into TV homes, the coax cable and the satellite dish.
Sparks are flying. EchoStar says that Disney—which probably has the worst relations with distributors of any programmer—is threatening to hamstring Washington approval of the DirecTV takeover if EchoStar doesn't distribute the ABC Family, formerly Fox Family Channel.
Other networks are bracing for an emboldened Comcast, which will seek even lower prices than AT&T was already getting.
"It has a direct impact on our revenues, day one, once they close," said a senior executive with a cable network. Unless a network has favorable controls in its existing license agreements, "you're up for grabs. If they decide to beat up people they will. To pay off this merger they are going to look for savings in programming." And in a slumping advertising market a slide in both halves of cable programmers' much-vaunted "dual revenue stream" will add extra pressure.
Vivendi Universal chief Jean Marie Messier insisted two weeks ago that that the company doesn't have to buy distribution in the U.S. to fully unlock the value of the Universal entertainment assets.
But analysts and investors believe otherwise. The opening salvo came from media investor Mario Gabelli: "I'm looking forward to when you merge with the next target when Jean Marie gets his distribution in the United States."
Messier tried to suggest that Vivendi's recent agreement to take a small stake in EchoStar in return for a handful of digital-channel slots on the satellite service was meaningful distribution.
But analysts weren't buying it. "How are you actually going to leverage that?" one analyst asked. "The stake you have in EchoStar isn't that big, so what can you do to influence things there?"
Messier's response: "In order to distribute you need to have the right products. The strength is first in your content. By putting together these assets, we are reaching the right size, the right simple organization to maximize the content that we can build around our TV and movie assets."
In other words, back to square one.
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