With the growing popularity of streaming services like Netflix and Hulu, the entertainment world is changing. Many of the biggest players are finding that their best bet for survival lies in consolidation, and 21 st Century Fox (NASDAQ: FOXA) (NASDAQ: FOX) is joining those ranks.
In this episode of Industry Focus: Consumer Goods , Vincent Shen is joined by Fool.com contributor Dan Kline as they discuss the potential sale of major business units at Fox. Find out about the current (and growing) list of interested buyers and how such a deal could benefit each of them.
The cast also updates listeners on the proposed merger between AT&T (NYSE: T) and Time Warner (NYSE: TWX) — announced a year ago and now facing major regulatory headwinds.
A full transcript follows the video.
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This video was recorded on Nov. 21, 2017.
Vincent Shen: Welcome to Industry Focus , the podcast that dives into a different sector of the stock market every day. It’s Tuesday, Nov. 21, and I’m your host, Vincent Shen. Joining me via Skype from West Palm Beach, Flo. is Fool.com contributor, Dan Kline. Good to have you back, Dan!
Dan Kline: I wish I was there, but I’m glad I’m here, where it’s 80 degrees today.
Shen: And not having to travel during this week as well.
Kline: Probably not the best week to be on a plane, I’ll give you that.
Shen: Yeah. So, we have a full lineup of topics to cover today. Dan, the first story we’re going to talk about here, it revisits some news that we covered over a year ago in Oct. 2016, when telecommunications giant AT&T announced that it would be acquiring Time Warner. The approximately $85 billion deal would put together Time Warner’s content creation business with the massive reach and distribution of AT&T. If you think about their television networks — TNT, TBS, CNN, among many others. There’s also HBO and the Warner Brothers film studio. So those major businesses from Time Warner could be leveraged across AT&T’s own offerings, AT&T, of course, serving millions of paid-TV subscribers, wireless customers, and internet subscribers across the U.S. and abroad.
The deal was expected to close by the end of this year, but there’s always potential for regulatory authorities to step in. Well, after months of rumors and speculation about what the Justice Department might do, they have officially announced that they will be suing to block the deal. Dan, I can’t say this was a surprise to me, given some comments from the current administration regarding this deal, and other issues that regulators have encountered with a prior similar acquisition, which we’ll talk about in a bit. But why is the Justice Department stepping in here? What’s got them worried about this?
Kline: It’s not a surprise, but it does reflect a new reality. It used to be Republican-controlled governments would generally allow this type of merger. And what we’re seeing here is a vague “it’s too big” policy. It used to be, to block a merger, there had to be competitive reasons. If one wireless carrier was buying another wireless carrier, and that meant there were less choices, that would be a clear reason to block it. In this case, the Department of Justice a few weeks back had said that they wanted AT&T to either sell TBS [Turner] Group, which is TBS and CNN and a whole bunch of other cable channels, or to get rid of DirecTV, in order to allow the merger to go through. It wasn’t a direct, “Hey, if you buy this, you’ll own too much of the market.” It’s more of a broad, “Wow, if these two companies combine, they’re pretty powerful, and they have kind of a lot of pricing ability, and can force some things down other companies’ throats.” It’s not a traditional Republican way of thinking. But it has been pretty consistent from this Department of Justice and administration.
Shen: Yeah. This is going to be the big case for the authorities in this administration, their first big deal. It’s interesting to see how the enforcement model has changed. I should mention, this would be considered more of a vertical integration. You have the content creators combining with the distributors. If it was two studios, for example, combining, we could see more of the traditional competitive concerns. But legal experts have already begun to weigh in on the coming legal battle, and there seems to be a consensus that it might be tougher for the Justice Department to lobby against this vertical integration, because blocked mergers in the past have typically been among direct competitors. There’s some precedent for this AT&T Time Warner deal, when five or six years ago, Comcast (NASDAQ: CMCSA) took over NBC Universal . There were some issues there.
Kline: Yeah. It’s really a direct comparison. When Comcast and Universal got together, there were some concessions made. The problem is, and we’ve talked about this personally, is, let’s say AT&T and Time Warner agree to some concessions. They’re not going to raise prices, they’re going to use an outside committee to determine how much another cable company pays for HBO, all of those things sound great on paper, but the reality is, it’s sort of like if your 16 year-old agrees to do certain things — I’m going to study more, I’m going to be better, I’m going to come in before curfew … if you buy me a car. And then you buy the car. Once the car is there, there’s very little you can do to enforce all of those concessions. And that’s what we found, historically, whenever big cable or big wireless or any of these companies say, “Yeah, we’ll give more low-cost options, we’ll do all these things.” When push comes to shove, maybe they don’t happen, and there’s very little that the Department of Justice can do after the fact.
Shen: Yeah, I think that’s a big part of this. The enforcement model has definitely evolved from some of the lessons they’ve learned from that Comcast- NBC deal. Again, that very much mirrors this AT&T-Time Warner potential merger. The regulars previously required Comcast to agree to behavioral concessions before they agreed to the deal, but not surprisingly, Comcast failed to deliver on many of those until they were essentially brought back to court and compelled to do so. So now regulators are looking for more what’s referred to as structural concessions, where you’re either selling off a business, spinning something off, before the Justice Department wants to approve the deal. The Turner segment at Time Warner, as you mentioned, or the DirecTV satellite arm at AT&T, had been named specifically as potential candidates that could be spun off in order to help the approval process for this deal. But it seems like the leadership at the two companies have indicated they have absolutely zero intention of agreeing to those kinds of concessions.
Kline: AT&T, which is in the driver’s seat in terms of the merger, has basically said, “We’re not going to do that.” And the reality is, they have a pretty strong case, when you read what some of the legal experts think. Even if you look at Comcast and NBC Universal, the market has changed. And the idea that DirecTV offers you some sort of singular distribution, that really doesn’t ring as true when you look at the internet and all the different ways people have to get content. So in a market where there’s more choices, I can see why consumers wouldn’t want this deal to happen, but I really can’t see the regulatory basis to not allow it.
Shen: Yeah. So the agreement between these two companies, between AT&T and Time Warner, it’s valid through next April, and we should know by then whether or not the deal is successful, either with some changes, or halted entirely. There is a breakup fee of $500 million due to Time Warner, actually pretty small given the size of this deal, if the deal falls through. We’ll have updates for Fools when we know more.
Our next topic is actually pretty similar in that it revolves around the potential acquisition of media assets. In this case, it’s from 21st Century Fox. There have already been several weeks of talks or interest reported from companies like Walt Disney (NYSE: DIS) , Comcast, Verizon and Sony . Dan, can you tell us more about what parts of the business Fox might be looking to part with, and what the various suitors seem most interested in acquiring?
Kline: Fox owns a number of things. The key things that are being talked about here are their movie studio, their television production arm, and between those two, they own all sorts of rights — movie franchises, The Simpsons , all the Fox animation. So that’s a real plum for any of these services, because the reality is, big-name content has done very well. You can look right now at the box office and see Justice League and Thor and all these franchises doing well. The other pieces of it are the Fox e ntertainment channels — FX, FXX. The last piece is the foreign cable arm — 39% of Sky in Europe, I’m not sure how much they own of the India TV Group , and a bunch of other related assets. So this is really a case of Fox separating out its cable news and sports business and its broadcast network. And those businesses don’t necessarily profit all that much from owning all this content and distribution. Obviously, there’s a little bit of a bleed through with the television. But in theory, they can lock in rights deals and still be able to have the benefit of that while Disney or Sony or Comcast could add all of these franchises, which they probably have a better avenue to exploit, specifically Disney and Comcast, than Fox does right now.
Shen: We’ll first focus on Disney, because they were reported as being the initial party to approach Fox regarding these deal discussions. There’s a lot to like in terms of what Disney can get out of this deal. As you mentioned, the film and television studios, plus some of those cable networks, that will definitely bolster Disney’s own media networks and their own studio businesses.
Kline: And it’s important, Disney is already sort of tied in with Fox. Fox owns Avatar , which Disney has a land at Animal Kingdom. Disney also has other presence with the X-Men , which is Marvel, so that’s also a property that could come home, which would allow them to expand their own cinematic universe. This ties in incredibly well with Disney’s plan to launch a Netflix rival. This would give it access to everything from Goosebumps , which would be a lovely series for this, to franchises like Die Hard and Ice Age . Or imagine what Disney could do with rebooting Home Alone . There’s a lot of content here that Fox can’t necessarily get off the ground that Disney could really do something with, especially as it’s spending billions of dollars trying to compete with Netflix.
Shen: The sports-focused streaming service that’s expected from Disney should be coming out early next year. The Disney-branded, more family entertainment service, is expected to come in 2019, after the current agreement that Disney has with Netflix expires. But there’s also Hulu. These two companies, Walt Disney and Fox, have stakes in Hulu. If Disney was to take over that, it could have a majority interest in Hulu, and that could easily become a streaming service for the company that’s more focused on mature content, dramas, and it could complement that sports service that we mentioned, the Disney-branded one coming in 2019, plus all the other shows and properties like X-Men , for example, you mentioned, they could roll into it.
Kline: Absolutely. Hulu is also rolling out its live TV streaming, which for Disney, which is losing homes with ESPN, ABC and all its cable networks, controlling Hulu and being able to make its own channel as a key part of that live streaming package would also be another plum.
Shen: Yeah. The last thing I want to speak to is some of the international assets. There’s a 39% stake in Sky that Fox currently holds. Sky is currently based in the U.K. It’s the largest pay-TV player in Europe. Fox actually has a $15 billion bid right now to acquire the remaining stake of Sky. I believe, right now, that’s in a bit of a regulatory mire. The prospects of that coming out with an approval are basically going down by the day.
Kline: And some of that is due to Fox itself. So there might be a better chance of Disney making that deal if they want to.
Shen: And some of the history between those entities, absolutely. Then, there’s also control of Star India , for example. This is media company in India that would be another asset I think would really help Disney expand its international reach. Those are two properties that I think Comcast would also very much be interested in in terms of expanding some of its international business.
Kline: You could argue that Comcast and Sony need this more than Disney does. Comcast is No. 2 in the franchise space, but while Disney has a very stable business, where the vast majority of the movies that it puts out every year are essentially guaranteed hits, sequels to things that have done well, expanded universe type things — Comcast has an every other year structure. It doesn’t own enough. It has Fast and the Furious , it has the Lost World , but it doesn’t have enough of those properties. And if it takes over this, you could argue its slate would then equal Disney. And just like Disney, it has the theme parks and the television and the ability to exploit that. It would also probably have the critical mass it needs to either walk into a Netflix and make a very strong deal, or launch its own service, which at some point, the market will become too crowded. Sony, you can make the same argument. They’re probably the most in need. They have the least stable system of franchises and models, but they don’t have as many avenues to monetize and exploit them. But of course, there’s all sorts of partnerships out there. I think, if Disney wants this, they’re going to pay very dearly for it, because the competition is going to be incredibly strong.
Shen: I do want to focus in on 21st Century Fox’s business, give listeners an idea of the revenue breakdown. For the cable network’s business, about $16 billion, or 56% of their top line. Film studios coming in at $8 billion, or about 30% of the top line. Then, their broadcast TV, which would not be included in the asset sales that are being discussed here, about $5.6 billion in the most recent fiscal year. The company currently has a market cap of $55 billion. So even a partial buyout would be a huge deal in the media and entertainment industry. I think the acquiring company is ultimately going to face some regulatory issues here similar to what we talked about in the last segment on AT&T and Time Warner, in that any way you cut it, whoever the acquiring company ends up being, there are assets and properties that will compete directly with either the content-focused rivals like Disney, or on the distribution side with Comcast. So there’s some of that to consider, as well.
Kline: I think the reality is, any of the three potential suitors would be willing to sell off FX if it meant they could have access. This is really an intellectual property deal. Everything else is icing on the cake, it’s gravy, it’s wonderful. But if you are Disney or Comcast, you’re looking at your theme parks, you’re looking at your movie studio, your ability to fill in these streaming services, and that’s what they would be buying. All of these other things — if Disney bought this, yes, they want distribution in Europe. They have, obviously, animated films and other things that travel the globe. Marvel characters are globally dominant. But if they had to sell the stake in Sky to make this happen, I don’t think that’s an impediment. I think this would be a relatively easy negotiation, in terms of, “There are some regulatory concerns here.”
Shen: Yeah. The only thing I would say now with negotiation is, there’s no deal on the table yet, no official price tag that I’ve been able to find anywhere. But if Fox ultimately comes to an agreement with one of its suitors, definitely get a better price with the various companies now circling and expressing interest in the assets. The early talks with Disney stalled, because they couldn’t agree on terms. And with a potential bidding war among interested parties, I think Fox will definitely come out with a more favorable deal than it would have otherwise.
My last point, if we can step back a little bit and take a 10,000 foot few of not only this Fox news but the AT&T-Time Warner deal, I think consolidation among the content creators and distributors in this industry is likely to continue as they try and diversify their businesses and get a little bit more leverage to compete and build these big portfolio-style companies. Netflix ultimately has thrown the industry through a loop. They started with DVD mailers, now they’ve evolved into a streaming service and a powerhouse with dozens of original movies and TV series. So companies like Disney and Comcast are grappling with cord-cutting, they’re seeing weaker growth and hits to their bottom line with customers changing how they consume entertainment. I think this model of combining distribution with the creation, in terms of the content, I think it’s only going to become more prevalent barring some type of regulatory interference.
Kline: Yeah. It’s really about a massive change in distribution. If you’re Disney, you are very worried about cord-cutting, but you’re also worried about the fact that it’s harder to get people to come out to movie theaters. Yes, people still go for Thor , they’ll still go for Star Wars , but that mid-tier movie has become a lot harder. So if you’re Disney, if you’re Comcast, and you can own all these great franchises and use them to create a platform, well, if movie theaters die, would I pay $19.99 a month instead of $9.99, but I get two new Marvel movies every six months and a Star Wars and a Disney animated film and all those other things? This is about getting directly to consumers, because consumers are pretty rapidly cutting out the middleman.
Shen: Okay. Let’s move on to the last part of this episode. It’s Thanksgiving week, and I don’t think it would be right for us to not spend at least a few minutes talking about Black Friday. Dan, you and I have previously talked about how consumer holiday spending is becoming less concentrated in the month between Thanksgiving and Christmas. Consumers are starting their shopping in the beginning of November, if not earlier than that. The same thing has kind of been happening with Black Friday. Before it, was the day for blockbuster deals, but now, based on some of the spending data, and also what I’ve seen personally browsing circulars and other Black Friday ads, it’s less about Friday itself and more about the whole weekend, going from Friday through Cyber Monday. That’s not to mention how a lot of companies are extending their discounts or promotions to the weekend before Thanksgiving so they can build buzz, increase traffic to their online stores. You were pretty excited to cover this weekend this year, in terms of topics. What has jumped out to you so far?
Kline: What’s jumped out to me is, do you remember the days of, you’re going to get up early on Friday morning, because there’s one thing you want? There’s a 55-inch TV at an amazing price, and there’s only four of them at Target ? I think those days are largely gone. Yes, there are still random, amazing doorbuster deals. But I think what’s good for consumers, as long as you do your homework and don’t get duped — and by duped, I mean, they say 50% off but it’s lower features, or the mark-up was too high in the first place — but in general, prices are good from Thanksgiving morning, or midnight, when online sales start, through Cyber Monday, and really beyond through the season. So yes, you can go Thursday afternoon. Some stores open as early as two or three o’clock. Or you could go Friday morning, or you could go Saturday or Sunday or Monday, and you’re going to get a pretty good price on things like televisions, video games, clothing, some of the things that are traditional holiday gifts and toys. Yes, Monday is the best time to buy a toy online, says a lot of different websites. But does it really matter to you if you save 32% or 35%? The whole season has become one of very competitive discounting, and that’s really being led by the fact that some of the physical retailers, Sears would be the most obvious example, are so desperate that they’ve cut prices by 30%, 40%, even 50% across-the-board already because they need consumers to come in. So it’s a very good time to be a shopper.
Shen: Yeah. The Friday to Monday is probably the period of peak interest, but these promotions are extending before Thanksgiving, after Cyber Monday, well toward Christmas. RetailMeNot conducted a survey of shoppers that I wanted to share. Some of the more interesting results I found, 68% of consumers will end up shopping this weekend, Friday through Monday, in that period we talked about. They also plan to spend an average of $750 during that time, which is up quite a bit from last year. The majority of shoppers will actually do most of their shopping online, opting to skip the crowds and lines.
Kline: I wrote about this survey. That’s one of the key takeaways that’s not true. People say that, but the reality is, there’s still between $5 and $6 being spent in stores for every $1 being spent online. So I’ve read survey after survey where people say that, but if you look at the historical data, yeah, the gap is going to get smaller, online shopping is going to grow a little bit more than brick and mortar shopping, but this idea that retail stores are dead, it’s just not true. Sales are actually going to be up, if you look the National Retail Federation, they’re actually going to be up in brick and mortar stores by a few percentage points. Not as much as they’re going to be up online. Sorry to jump on you there, but that’s one of those points that’s come up in a lot of surveys I’ve read that doesn’t jibe with the actual spending data.
Shen: No, I hear what you’re saying. I think the takeaway from that is more so that in this specific four-day period, the majority of shoppers are more likely to do their shopping online, just because of the high traffic. But at the same time, you’re right, I’ve seen other surveys that will mention that the majority of shoppers have also noted that in this November to December, this extended full holiday shopping season, they’re likely to visit physical stores to do some of their shopping at least seven to eight times, if not more than that.
Kline: It’s also worth noting that the RetailMeNot survey — again, a lovely piece of research — was done online. So if you did a survey based on people at a mall kiosk, my guess is that overwhelmingly they would say, “We’re going to shop in malls.” Whereas, if you do a survey online … so I do think, if you’re going to look at data, you have to consider the source. The reality is, people are still going to stores. You and I are, I guess, compared to my parents or something, younger shoppers, even though you’re much younger than me. I am absolutely not going to buy anything in a store other than a supermarket after today. So realistically, if you’re not my wife and you’re not my son, you have a choice between a Starbucks and an Amazon gift card. That’s pretty much all the clever shopping I’m going to do this holiday season.
Shen: So a few more trends I wanted to touch on to wrap up here. Something else in terms of looking specifically at that e-commerce channel, you’re right. Still, the last I saw in the data, maybe 10% to 11% of total consumer spending is online, so you’re right, most of those dollars are still being spent at physical stores. But for that sliver of that e-commerce spending, this is supposed to be potentially the year of mobile. E-commerce spending for mobile devices potentially overtaking desktop platforms this year, and the idea that even while someone is standing in line, potentially, outside your store waiting for that doorbuster deal at Target or Wal-Mart or wherever it is, there are still opportunities for other retailers or competitors or that store itself to connect with the shopper while they’re literally waiting in line, browsing their smartphone.
Kline: I think the word we’re all going to get tired of is omnichannel.
Shen: Yeah, that was my next point.
Kline: [laughs] Sorry to stuff on you there. What Wal-Mart has really been leading the way with is this idea that however you want to shop, if you want to go to the store, you can order it online and know it’s going to be there. If you want to be in the store and it’s sold out but it’s available online, you can have it shipped to your house or to the store and come back later. It’s really this movement toward whatever it is you want as the best shopping experience. So maybe you want to get up at midnight on Thanksgiving and shop all the best deals. You can order them, and maybe you’ll pick them up in store on Friday or Saturday, or they’ll be shipped to your house. That’s really what I see as the biggest change. All the big retailers are really trying to service the customer who finds Amazon more convenient, and say, “Hey, whatever you want. Do you want us to bring it to your car? Do you want a snack with it while you’re waiting to pick it up? Whatever it is.” The stores are getting a lot smarter about trying to take care of customers.
Shen: Listeners, we’ve hit you over the head with this idea before, the importance of omnichannel strategies, serving customers however, wherever, whenever they want to do their shopping, if you want a piece of their wallet and their spending. But ultimately, the idea is, there will be lots of consumers visiting stores in the next month, month and a half. But for those who don’t, companies obviously need to be prepared as well to lure them in, to have very well-established digital storefronts as well. I’ll end on this note — the National Retail Federation expects consumers to spend about $680 billion in November and December this year. That’s up about 3% to 4% from 2016. That explains why this is often a make or break quarter for many of the companies we’ve discussed in this industry. Any last thoughts, Dan, before we roll off?
Kline: Yeah. The thing I always think about is, as a consumer, there’s a huge temptation to get caught up in this frenzy. There are amazing sales. But only buy what you need. Be responsible. Get gifts, but if you can’t afford things, it’s not a deal. Don’t put yourself into debt just because you could save a lot of money on a TV. And believe me, I’ve been swept away. I’m the guy who walks in because he needed paper towels at Target, who walks out with a $300 electronic item. But you have to be able to afford it. Don’t spend money you don’t have for the short-term gain of the holiday season. Have a longer-range plan.
Shen: That’s a great Foolish note to end on. Thanks again, Dan, for joining us! Enjoy your Thanksgiving, by the way!
Kline: Thanks, Vince!
Shen: That goes for everyone listening as well. Have a great holiday, Fools, and thanks for tuning in. Austin Morgan is our man behind the glass and producer for Industry Focus . People on the program may own companies discussed on the show, and The Motley Fool may have formal recommendations for or against stocks mentioned, so don’t buy or sell anything based solely on what you hear during the program. Fool on! Thanks for tuning in!
John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Daniel B. Kline has no position in any of the stocks mentioned. Vincent Shen has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Amazon, Netflix, Starbucks, Verizon Communications, and Walt Disney. The Motley Fool recommends Comcast and Time Warner. The Motley Fool has a disclosure policy .
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.