A Bird in the Hand...DOJ Settlement in Disney/Fox Acquisition

Today, the Department of Justice filed a proposed settlement of its civil antitrust lawsuit in the U.S. District Court for the Southern District of New York that would require Disney to sell Fox’s 22 regional sports networks within 90-days of closing the deal.  The sale of the RSNs would resolve the agency’s competitive harm concerns that a combined firm could charge much higher prices for cable sports programming.  While it is a huge concession, Disney has agreed to the settlement terms.  After all, in addition to its international assets, Disney gets Fox’s production studios, cable networks (excluding news, business, and sports), and the 30 percent stake in Hulu.

In a memo to employees, Fox CEO James Murdoch and co-executive chairman Lachlan Murdoch acknowledged that, while the “decision is a big step forward towards the completion of our Disney transaction and the creation of new ‘Fox’,” the deal is not done yet.  Regulatory approvals outside the United States and stockholder approval are still necessary. 

And, what about the “fly in the ointment”, Comcast?  Will Comcast re-enter the fight when all the momentum seems to be strongly in Disney’s corner, including Fox’s most certain hesitation in giving up regulatory approval of one deal to chase another? Or, is it time for Comcast to walk away and consider the acquisition of content from other market participants (e.g. Lionsgate) or look to make a bid for some of the assets Disney will need/want to shed?  Could Comcast scoop up the RSNs?  Why not?  Could Comcast make a move to buy Sky?  Why not? As a pay-tv distributor in the U.S., the Sky assets make way more sense with Comcast.  These alternative, smaller moves may be much better for Comcast in the long run.

https://www.justice.gov/opa/pr/walt-disney-company-required-divest-twenty-two-regional-sports-networks-order-complete

Control of the Box Office

According to Box Office Mojo, just seven firms accounted for approximately 90 percent of movie ticket sales during the five-year period between 2013 and 2017.  This is despite releasing less than a quarter of the movies in each year.  If Comcast or Disney are successful in acquiring the film studio of 20^th Century Fox, the combined market share will be approximately 30 percent.  These content creation assets are so important to later distribution on the small screens of television, tablets, game consoles, and mobile devices AND to cross-selling and merchandising.  Let's call them "must-haves"!

So, what should the losing bidder do?  With Time Warner off the market because of the AT&T acquisition last week, Sony, Lionsgate, and Viacom become the possible partnership targets.  Lionsgate is particularly attractive with its library of 16,000 film and TV titles and its Starz cable/satellite network.  Lionsgate could also be attractive to Apple and Facebook who look to quickly scale content ownership.  (Note: In 2017, Netflix and Amazon spent $6.3 billion and $4.5 billion on original content, respectively.  By contrast, Apple and Facebook ONLY spent $1 billion.)

Content is still KING! 

Firm	Market Share
	2017	2016	2015	2014	2013	Avg. 2013-2017
Disney	21.8	26.3	19.8	14.9	14.9	19.5
Time Warner (WB/New Line)	18.4	16.7	16.9	18.8	21.3	18.4
NBC/Universal	15.0	14.1	22.3	11.4	13.3	15.2
News Corporation (Fox)	12.9	13.3	12.4	17.9	10.2	13.3
Sony	9.8	8.3	8.9	12.0	10.6	9.9
Lionsgate	8.0	5.8	5.9	6.8	9.3	7.2
Viacom (Paramount)	4.8	7.7	5.9	9.7	8.4	7.3
% of Box Office	90.7	92.2	92.1	91.5	88.0	90.9
If Disney/Fox	34.7	39.6	32.2	32.8	25.1	32.9
If Comcast/Fox	27.9	27.4	34.7	29.3	23.5	28.6
http://www.boxofficemojo.com/studio/?view=company&view2=yearly&yr=2018&p=.htm

Could It Be That Three Competitors Would Be Better Than Four?

Approximately 10-days ago and two-months after a merger announcement, Sprint and T-Mobile filed applications with the FCC requesting its approval of the transfer of Sprint’s licenses and authorization to T-Mobile.  What’s the likelihood that regulators will approve this horizontal merger that will reduce the number of major competitors in the U.S. wireless market from four to three?

No Way It Will Happen

·         The increase in concentration will harm competition.  According to the FTC/DOJ Merger Guidelines, the industry is already highly concentrated (Herfindahl Hirschman Index > 2500).   Post a hypothetical merger, the HHI would jump by over 400 points, from 2,460 to nearly 2,900.  With fewer competitors, keeping track and matching rivals’ moves becomes easier.   Less competition could translate into higher prices for consumers.

·         T-Mobile, the Un-Carrier, and Sprint, the smallest of the four major carriers that competes on price, combine to become more like AT&T and Verizon instead of continuing to be disruptive forces.

·         What is different today versus the proposed AT&T/T-Mobile merger in 2011 and previous attempts by Sprint and T-Mobile to combine in 2014 and 2017?  Critics of the merger would argue “not much.”  In those previous tie-ups, regulators strongly signaled that merger approval would not happen as four is always better than three.

Maybe It Will Happen, This Time

·         T-Mobile and Sprint state that the combined firm will realize $6 billion in annual cost savings.  They argue that together they can accelerate 5G deployment (innovation) and “create robust competition in the 5G era.”[1]

·         The merger partners are committing to expanding rural mobile coverage and offering fixed wireless coverage that would be competitive with the in-home broadband services offered by the likes of Comcast, AT&T/DirecTV, Verizon FiOS, Dish Network, and Charter.  This market entry would accelerate cord-cutting and “deliver real choice and real savings to consumers.”[2]

·         The competition has gotten bigger.  AT&T acquired DirecTV and Time Warner.  Verizon bought AoL and Yahoo.  Both firms have announced plans to introduce 5G in late 2018/early 2019.

·         Verizon’s CEO is quoted as saying “Competition will probably be different if they [Sprint and T-Mobile] are together, but it is still going to be a very competitive market, so we don’t care.”[3]

·         Both Comcast and Charter have entered the wireless market through reseller agreements with Verizon.  These are formidable new competitors that can leverage scale and scope to gain market share.

·         Sprint Chairman, Masayoshi Son, and President Trump are good friends.

I’d put the odds at 60/40 of approval of the deal this time, assuming regulators get some guarantees from the combined firm, particularly in rural market coverage.

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[1] https://newtmobile.com/supercharging-the-uncarrier/.

[2] Ibid.

[3] https://www.geekwire.com/2018/verizon-ceo-brushes-off-t-mobiles-sprint-merger-dont-care-answer/.

“Never worry about data charges on your bill again”

These are Verizon’s words that are echoed by the other three wireless carriers in advertising the benefit of unlimited data plans.  The carriers play to our revealed preference for certainty in what we are going to pay over how much we pay.   Is this good for the carriers?  Absolutely!  They want us buying the service with the highest margin on a recurring basis, bundling the service with other products they offer, and sticking with them because we find it too difficult to switch.  It has worked! 

So, how do you get someone to switch or get them as a new subscriber?  You up the ante!

Sprint and T-Mobile, the pending merger partners, focus a lot on price.  But, they recently added to their plans paid subscriptions to Hulu and Netflix, respectively.  Binge on! 

AT&T is going all out to keep and attract subscribers.  And, why not!   Coming on the heels of their successful win in the antitrust case to buy Time Warner, AT&T is offering subscribers HBO for life and $15 off DirecTV Now/DirecTV.  (Critics of the vertical merger were concerned about this behavior!)

How about Verizon?   Maybe because it has “the most reliable network”, Verizon has the highest-priced plans and only offers Go90 as a “free” add-on.  In response to its rival’s actions, Verizon must do something more or else it may see an increase in churn, enough to be painful.

The Value of Regional Sports Networks

In statements about their respective bids to acquire 21^st Century Fox assets, Comcast and Disney have each indicated that they are willing to sell Fox’s 22 Regional Sports Network (RSN) to help secure regulatory approval of the deal.  Why sell?

An RSN is a cable channel that distributes sports programming exclusively in a local professional team’s market.  The market boundaries are determined by the team’s league.  The carriage fees charged by the RSN owners to distributors (cable, satellite, telcos) can range from $2 to $4 per month.  While the broadcast networks and ESPN compete for the rights to distribute first-tier sports programming nationally, there is no similar competition at the local level.

If Disney could keep Fox’s RSNs that include the distribution rights of 17 NBA teams, 15 MLB teams, and 12 NHL teams, the one-two punch of control of sports programming in those markets would be huge and would strengthen Disney’s scale and leverage in carriage negotiations as well as the content distributed over ESPN+, its new direct to consumer platform.  Selling the RSNs would be a BIG concession for Disney.

For Comcast, the Fox RSN networks do not overlap with the nine owned by NBC Sports.  Purchase of the RSNs would give Comcast local sports coverage in more local markets, but those additional networks are not in Comcast PayTV and broadband territories so vertical restraint concerns do not exist.  Selling the RSNs would be a SMALLER concession for Comcast.

Note: Despite their high fees, the RSNs can be an important part of the [virtual] TV bundle (or add-on to it) for the sports enthusiast.  Owners of that content know that.  But, they must be careful.  Failure to get distributors to carry the RSN can lead to losses of affiliate and advertising revenues.  For example, for four years, AT&T/DirecTV, Dish, Verizon, and Comcast, accounting for 70 percent of the Los Angeles market, refused to carry Spectrum SportsNet, the RSN of the Dodgers, citing the monthly fee of $4 per subscriber as excessive.[i]  

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[i] Bill Shaikin, “Now in its fourth season, there’s no end in sight for the Dodgers’ TV blackout.”  Los Angeles Times, June 17, 2017.  http://www.latimes.com/sports/mlb/la-sp-dodgers-tv-shaikin-20170617-story.html

Speculating About Dish Network Based on Past Decisions

Dish Network, the fourth largest multichannel video programming distributor (MVPD) in the country, is one of just two satellite providers.  (The other being AT&T’s DirecTV.)  At the end of 2017, Dish had 11 million and 2.2 million subscribers nationwide to Dish and Sling TV, respectively.  The net change in subscribers between 2016 and 2017 was -284 thousand as 995 thousand left Dish, but 711 thousand added SlingTV.

Here are some interesting decisions in Dish’s past:

Since 2008, Dish has invested $21 billion in acquiring wireless spectrum licenses and related assets, and non-controlling investments in certain entities with the stated plan to deploy a next generation 5G-capable network to support narrowband Internet of Things (IoT).  The first phase of the network deployment is expected to be completed by 1Q2020.[1]

In 2011, Dish acquired Blockbuster, once the largest retail movie rental chain, out of bankruptcy for $320 million.  It uses Blockbuster’s assets to provide movie streaming and mail order services.

In 2011, Dish made a bid to acquire Hulu.  The bid was rejected by Hulu’s JV partners.

In 2013, Dish made an unsolicited $25.5 billion bid for Sprint, the third largest wireless carrier.  At the time of the announcement, Charles Ergen, co-founder of Dish said a “Dish/Sprint merger will create the only company that can offer customers a convenient, fully integrated, nationwide bundle of in- and out-of-home video, broadband and voice services.”  (Sprint was acquired by Softbank.).  That same year, Dish made an unsolicited bid of $6.3 billion to buy Clearwire, 50 percent owned by Sprint and the fifth largest wireless company at the time.  Dish would later withdraw its bid and Sprint would acquire the remaining shares.  (Within two years of the acquisition, Spring ceased Clearwire operations.)   

In 2015, Dish introduced Sling TV as an alternative to the more expensive, channel-heavy, cable-box/satellite dish-required service.  The virtual MVPD offered live and on-demand programming to television sets, computers and mobile devices connected to the Internet.  The service was expected to appeal to the cord-cutters/cord-nevers (18-35 yr. old demographic).  When the service was introduced at the Consumer Electronics Show that year, Joseph Clayton, Dish’s chief executive at the time, said in an interview “We are innovators. We are disrupters. We don’t always make people happy because we challenge the status quo.”[2]

In the past several years, Dish has watched AT&T acquire DirecTV, its main competitor, and Time Warner with its vast array of content assets.  It has watched Sprint and T-Mobile announce a merger.  It has watched Verizon acquire AOL and Yahoo.  It has watched Charter acquire Time Warner Cable and Bright House Networks to become the third largest PayTV provider in the U.S.

So, what should Dish do?  A deal should be forthcoming, but with whom?  Wireless and Verizon or Comcast?  Television Content and CBS or Hulu or…?  OTT and one of the FAANGs?

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[1] Dish 2017 10K Report

[2] https://www.nytimes.com/2015/01/06/business/media/dish-network-announces-web-based-pay-tv-offering.html

What to do with Hulu

Launched 8 years ago, Hulu’s subscription service is an over-the-top streaming service that is jointly owned by Disney (30%), Comcast (30%), Fox (30%), and AT&T/Time Warner (10%).  Hulu offers subscribers the ability to stream television programming owned by its joint venture partners, as well as content created by Hulu and other content providers.  The basic Hulu package costs $7.99 per month with limited commercials and $11.99 with no commercials.  Hulu Live which was launched in 2016 provides live streaming of 50 broadcast and cable channels.  For additional fees, subscribers can add on HBO, Showtime, and Cinemax to any of Hulu’s offerings.

Disney and Comcast are in a bidding war to acquire some of Fox assets, including the 30% ownership in Hulu.  Whoever wins will become the majority owner of Hulu with a 60% ownership stake.  Interestingly, both firms have hinted that they are willing to sell off the Hulu assets to gain regulatory approval of the deal.  Why?

·       -- With higher costs to acquire and now create original content, Hulu lost nearly $1.8 billion in the past three years and is expected to lose close to that in 2018.

·         -- Both Disney (using BAMTech) and Comcast (Xfinity Instant TV) are investing tremendous amount of resources to go Direct-to-Consumer (DCS) on their own.  Is Hulu more of a substitute rather than a complement to these services? 

·        --  Is Hulu near the end of its useful life in a television programming market that is becoming increasingly fragmented?

Not so fast!  Why should Comcast or Disney fight to keep its stake in Hulu?

·       --  As of the end of 2017, Hulu had 17 million subscribers.  It is the second largest SVOD after Netflix.  That critical mass of subscribers gives leverage in negotiating partnership deals (like the one with Spotify in April).

·         -- Hulu’s service bundled with the winning bidder’s DCS could be very attractive to customers.

·         -- Who would buy the take in Hulu?  AT&T?  Facebook?  CBS?

Tit-For-Tat

Last week, when Judge Richard Leon dismissed the Department of Justice’s complaint attempting to block the AT&T-Time Warner vertical merger, much of our attention shifted immediately to whose next, that is, among the firms competing in the media space, who is mostly likely to pair up?  Who needs (wants) more assets in this rapidly changing industry?  Comcast didn’t waste any time, as one day after the Judge’s decision, they offered to pay $65 billion for some of 21^st Century Fox’s assets, a 19 percent premium over Disney’s December 2017 bid.   Disney will surely respond.

But, what about other firms? What about Verizon?  While AT&T and Verizon do not compete head-to-head in local markets for broadband subscribers, they do compete for PayTV subscribers in markets where Verizon offers its FiOS service in competition to AT&T’s DirecTV.  At the end of 2017, Verizon’s FiOS video services were available to 14 million households in 9 states plus the District of Columbia. (It had 4.6 million subscribers)

But, the real “knock-em-sock-em” competition is in the national wireless telecom industry where Verizon, as the largest provider (35% market share), goes tit-for-tat with AT&T (33.5% market share) on key differentiators such as pricing, data plans, network availability and reliability, and customer service.   With the DirecTV assets. AT&T can bundle its wireless and PayTV services at discounted prices.  At the margin that should attract new customers and help reduce churn.  With the Time Warner assets, AT&T will now be able to provide additional bundling options, starting with its WatchTV service being launched this week.  Verizon has no video content, unless you count its free, ad-supported Go90 app, that it can bundle in with either FiOS or wireless.  A disadvantage?  Something it must change?  Maybe, but maybe not.

MAYBE --- GO GET CONTENT

·         Avoid being beholden on third parties (and competitors) to provide the content.  Take control of the most important input to the business – content. 

·         There are some attractive content assets that may be available NOW.  Those being talked about the most include CBS, Viacom, Discovery, and Lionsgate.  These recognizable brands packaged with FiOS and wireless services would give an immediate boost to sales and support subscriber retention.

·         Video content integrated with Oath assets may provide cross-platform opportunities to boost advertising revenues.

MAYBE NOT – STAY THE COURSE WITH THE FOCUS ON HAVING A GREAT NETWORK

·         In its 2017 Annual Report, Verizon states “We don’t wait for the future, we build it”.  The firm’s core competency is communications not entertainment.  (AT&T, by contrast, defines itself as an entertainment AND communications company.) 

·         Buying content will be a distraction and complicate management and resource allocation decisions.  Verizon plans to “double-down on network superiority”.

·         Just because your rival makes a move, does not mean matching it is the best strategy. 

·         Lock-up highly-valued content in strong partnership relationships.  The mutual interdependence between distributors and content owners is good for both parties.

·         Consider other partnerships/purchases that enhance rather than distract management and financial resources.  Would Google sell its Google Fiber networks?

We'll Know Tomorrow

Tomorrow, Judge Richard Leon is expected to render his decision in the AT&T-Time Warner merger case.  Seven months earlier, when the Justice Department filed its complaint to block the proposed $85 billion deal, they laid out the expected arguments to contest a vertical combination “whose effect may be substantially to lessen competition in violation of Section 7 of the Clayton Act.”[1]  They argued that AT&T, the multichannel video programming distributor (MVPD) with popular programming would look a lot like Comcast and have the incentive and ability to harm competitors.  Specifically, they argued that AT&T/DirecTV could 1) extract hundreds of millions of dollars more per year from rival MVPDs for Time Warner’s networks; 2) use its increased power in coordination with Comcast to slow the industry’s transition to alternative video distribution models; 3) block innovation; and 4) result in higher consumer bills.[2]

It is true that customers have limited choice when it comes to getting Pay-TV from a traditional MVPD.  At most, there are three or four offerings (one cable provider, two satellite providers, and maybe one Telco) in local communities for consumers to choose from.  It is true that nationwide the top five firms control more than 80% of the market, each with significant bargaining power when it comes to negotiating carriage terms with unaffiliated programmers.

Firm	EOY17 Pay-TV Subscribers (000)	Market Share (%)	EOY17 Broadband Subscribers (000)	Market Share (%)
AT&T U-Verse/DirecTV (incl. DirecTV NOW)	25,270	26.1	15,719	15.7
Comcast	22,357	23.0	25,869	25.9
Charter	16,997	17.5	23,903	23.9
Dish TV (incl. Sling TV)	13,242	13.7
Verizon FiOS	4,619	4.8	6,959	7.0
Market Share of Top 4		80.3			72.5

Source of information: Leichtman Research Group[3]

It is true that Time Warner is an “anchor tenant” for traditional and virtual MVPDS as it creates and owns valuable content through Warner Brothers, the largest television and film studio in the world, TBS, TNT, and Adult Swim--three of the top five cable networks among 18-49 year-olds--, the cable news service CNN which reaches over 91 million households, and Turner Sports with highly valued licensing agreements with such sports franchises as the MLB, NBA, and NCAA March Madness.  And, it is true that, as of now, consumers of live events – news and sports – still need to pay for a MVPD or broadband subscription.

But, it is also true that since 2013, subscribership to traditional MVPDs has declined by more than 3 million, partly because of frustration with rising bills and partly because there are now alternative ways to consume video.  It is also true that while there were 487 original scripted programs aired on television last year, 117 were from Netflix, the largest subscription video on demand service (SVOD) with over 55 million domestic subscribers (and 118 million globally).[4]  It is also true that Netflix with over half of all U.S. broadband households subscribing to its service, spent $6.3 billion on programming last year, placing it in fifth place behind NBC, FOX, Time Warner, and Disney.[5]  Amazon, the second largest SVOD, spent an estimate $4.5 billion on original non-sports programming.[6]  It is also true that most content owners, like Disney, Time Warner’s HBO, CBS, are going or planning to go direct to consumer, not abandoning, but relying less on the traditional relationships with MVPDs.   

I would argue that had this merger been announced 3 years earlier, DOJ’s case against it would have been stronger.  But, the media landscape has changed dramatically and will continue to do so.  Consumers may not be any better off, in fact, they may end up paying more when they pay for broadband and cobble together program options from SVODs and virtual MVPDs.  But, the welfare change is not the fault of this merger and the others that are likely to follow as legacy distributors (e.g. DISH, Verizon) and programmers (Disney, CBS, FOX, Viacom) find themselves playing catch up to the “here to stay” technology disruptors – Facebook, Amazon, Apple, Google, and Netflix that expanded organically (rather than through M&A).   I expect that the government will lose this case.  Prior to challenging the other mergers that are likely to follow, let’s hope they fully consider the [taxpayer] cost of doing so.

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[1] https://www.justice.gov/atr/case-document/file/487776/download

[2] Ibid

[3] https://www.leichtmanresearch.com/press-releases/

[4] https://www.digitaltrends.com/movies/original-tv-programs-increased-in-2017/

[5] http://www.businessinsider.com/netflix-spent-63-billion-on-programming-in-2017-topping-viacom-2018-3

[6] Ibid