Broadband Cable Association of Pennsylvania


April 22, 2013

Time Warner Inc. and CBS Corp. have flirted for years. A marriage now may make more sense than ever.

CBS shares, while trading near the highest price since the company and Viacom Inc. split seven years ago, fetch the lowest valuation versus earnings when compared with its five largest U.S. peers, according to data compiled by Bloomberg. Gabelli & Co. said buying the most-watched broadcast network would give Time Warner, owner of cable channels such as CNN and TNT, more negotiating leverage to win higher fees from pay-television systems that carry its programming. A merger "makes a lot of sense," Michael Morris, a Richmond, Virginia-based analyst at Davenport & Co., said in a telephone interview. "With the amount of collaboration they do, investors see it as a possibility as well." The New York-based companies already partner on the CW Network, shows such as "The Big Bang Theory" and the "March Madness" college basketball playoffs. Their strengths are complementary - Time Warner runs Hollywood's most-prolific studio and CBS has the highest broadcast TV ratings - and both plan asset sales to focus on those areas.

Based on the valuation Comcast Corp. paid this year for the rest of NBC Universal, CBS would fetch $35 billion, making it the biggest U.S. media deal in more than a decade, data compiled by Bloomberg show. Summer Wilkie, a Time Warner spokeswoman, declined to comment on the possibility of a merger, as did Dana McClintock of CBS. Their companies had market capitalizations of $56 billion and $29 billion, respectively, as of last week. Today, Time Warner shares fell 0.4 percent to $59.51 at 10:07 a.m. New York time, while CBS rose 1.1 percent to $46.57. The rising value of TV programming is spurring media deals, proving again the adage of CBS Chairman Sumner Redstone that "content is king." Demand for TV shows is increasing outside the U.S. and online, and retransmission fees paid to broadcast networks by pay-TV systems are at a record, according to data compiled by SNL Kagan. TV station operator Sinclair Broadcast Group Inc. has spent about $1.8 billion in the past year and a half acquiring stations to gain more leverage with pay-TV systems when negotiating licensing agreements.

Comcast, the largest U.S. cable provider, sped up its purchase of the remainder of NBC Universal in March, more than a year ahead of schedule. At the same time, Walt Disney Co. has also been bulking up during the past decade by acquiring Pixar, Marvel Entertainment and Lucasfilm to broaden its content offerings. No deal can happen without the support of Redstone, the 89- year-old billionaire who owns 78 percent of the CBS's voting rights. After splitting CBS and Viacom seven years ago, he kept control of both companies and would hesitate to sell CBS, said two people with knowledge of Redstone's thinking who asked not to be named because the matter is private. Jeremy Zweig, a spokesman for Viacom, declined to comment on Redstone's plans for the company. Time Warner knows the pain of a large combination gone bad. In 2009, it spun off AOL Inc., undoing the $124 billion merger in 2001 that triggered record losses.

Still, Time Warner, with cable holdings including HBO, stands to benefit with CBS since its broadcast network is among channels that pay-TV companies would feel compelled to carry, providing a reliable stream of fees, said Chris Scheuer, an Appleton, Wisconsin-based analyst at Thrivent for Lutherans. The investment firm owns shares of both companies. CBS, with cable channels including Showtime, is also relatively inexpensive even though its stock ended last week at $46.06, near the $46.95 peak reached in March. Time Warner closed the week at $59.75, near an 11-year high set on April 16.

As of last week, CBS's enterprise value was 9 times analysts' average estimate for 2013 earnings before interest, taxes, depreciation and amortization, according to data compiled by Bloomberg. That's lower than the multiple at CBS's five largest peers -- Time Warner, Viacom, Disney, News Corp and Discovery Communications Inc. - and compares with the peer average of 10.9, the data show. Earlier this year, Comcast paid 9.2 times 2013 estimates for the rest of NBC Universal. "CBS is a powerful media asset and there are lots of reasons CBS and Time Warner might make for an interesting merger," John Chachas, managing partner at Methuselah Capital Advisors LP in New York, said in a phone interview. The investment bank has advised on media acquisitions in the past. With recent divestment plans, both Time Warner and CBS may be turning into more natural fits, according to Brett Harriss, an analyst at Gabelli. CBS announced in January plans to sell its billboard business in Asia and Europe and convert the remainder into a real estate investment trust. Time Warner said in March it will spin off its Time Inc. magazine operation.

Owning both broadcast and cable channels is gaining importance as media companies compete for licensing fees from pay-TV systems. Time Warner and CBS are each at a disadvantage compared with News Corp., Disney and Comcast Corp.'s NBC Universal, which have broadcast and cable properties that increase leverage in talks with pay-TV systems. Disney, owner of ABC and ESPN, collects the most of those fees - about $12.7 billion a year in the U.S. - based on estimates by SNL Kagan. Time Warner, by comparison, collects $3.6 billion annually. Expanding those fees is central to Time Warner Chief Executive Officer Jeff Bewkes's growth strategy, said a person with knowledge of the CEO's thinking who requested anonymity because the plans are private. "There's an advantage to having scale when you come into renegotiations if you have more content to sell," Harriss, with Rye, New York-based Gabelli, said in a phone interview. "Of the big media companies, Time Warner doesn't have a broadcast network, unlike" Comcast with NBC, News Corp. with Fox and Disney with ABC.

Broadcast networks such as CBS have begun receiving compensation in the last few years from pay-TV systems and affiliate stations for the right to carry their signals. Those dollars are adding up. By 2015, CBS will receive $766 million in fees, compared with $118 million in 2010, according to data compiled by SNL Kagan. That revenue could double in the future as the network seeks as much as $2 a subscriber in the next round of negotiations, CBS CEO Leslie Moonves said March 4 at a conference. "Broadcasters are worth more of a premium, perhaps a substantial premium, because of must-have programming like sports," Scheuer said in an interview. Redstone, who turns 90 in May, made plans for a trust to manage his controlling shares in both companies upon his death. Under the current terms, the trust will be managed by a board including Viacom CEO Philippe Dauman and Redstone's daughter, Shari, according to the people familiar with the matter.

Under the current arrangement, the trustees won't include Moonves, according to the people. While Redstone has expressed a preference for Moonves to become chairman of CBS after his death, the broadcast executive would still answer to Dauman and Shari Redstone given the structure of voting rights as determined in his will, the people said. According to company filings, Moonves' employment agreement ends in the middle of 2017, when he will be 67, and Bewkes' contract expires six months later, when he's 65. Despite potential roadblocks to what would be one of the biggest media mergers, a tie-up between Time Warner and CBS "would produce an incredibly formidable competitor," David Bank, a media analyst with Royal Bank of Canada in New York, said in a phone interview. Time Warner and CBS would end up supplying a lot of prime- time programming at a time when premium content commands the most advertising and affiliate dollars, Bank said. "That would be big," he said. Bloomberg