On October 22, AT&T announced that it will buy Time Warner for $84.5 billion, for a total transaction value of $108.7 billion when including Time Warner’s net debt. AT&T is the second largest wireless provider in America (the first being Verizon). AT&T is also the largest pay TV–a service that distributes television programs and movies to subscribers who pay a monthly or per program charge–provider in America. With AT&T’s extensive services and Time Warner’s content–which includes HBO (home of the extremely successful program Game of Thrones), CNN, Warner Brothers Studios, and more–this merger would be the largest ever merger between a telecom and media company. The merger is expected to be completed by the end of 2017, and with 28% of media and telecom industry’s pretax profits and 2% of all corporate profits, the new AT&T- Time Warner Company will be the 3rd largest business in the US.

Adapting for the Future

AT&T’s consolidation with Time Warner will allow the company to make and distribute content to millions of Americans through wireless, satellite TV, subscriptions, and broadband. Time Warner will be given the platform of mobile and pay TV users to whom they can distribute their content. AT&T will have the content they need to attract customers to their current wireless internet and DirecTV services, as well as help them be successful in the future as modes of TV viewing change.

By merging, AT&T and Time Warner are assuming that the future of the telecom industry is one with a combination of content and media. With an 11% drop in traditional cable TV in America–Americans aged 12-24 are watching 40% less TV via cable–it seems that  AT&T’s assumption might be right. Over the past decade, Americans have moved from cable to TV/movie viewing via mobile video services. With Time Warner under its control, AT&T hopes to keep up with the future of TV watching by launching and expanding the new platforms HBO Now and DirecTV Now, which AT&T acquired for $49 billion last year, thus allowing their customers to stream content on different devices at a time convenient for the customer. Time Warner and other media firms are also expecting reduced revenue from advertisers; as such, Time Warner hopes to use AT&T’s information about what people are watching to have more effective advertising. AT&T is hoping to implement more addressable TV ads. Through this merger, AT&T can target their subscribers based on income, ethnicity, family type, or other related aspects to make advertising more relevant, and therefore more effective. AT&T hopes to implement these addressable ads, on a range of platforms including TVs, laptops, phones, and other technology.

Along with a decrease in traditional television watching, the wireless market has also become stagnant. This past quarter, AT&T lost 268,000 wireless phone customers and 3,000 video customers. In order to boost earnings, AT&T’s goal in the coming year is to be the first wireless company in the United States to extend the traditional Pay TV service to an online platform. With Time Warner, AT&T foresees an increase in innovation and productivity which, according to AT&T CEO Randall Stephenson, will benefit consumers through lower prices, thereby attracting more customers and increasing profit. The recent launch of the DirecTV Now offers over 100 channels for only $35/month, a price far lower than competing content distributors. Although Stephenson has stated that this will lead to “thinner margins,” there has also been high consumer interest and expected demand. With this merger, entertainment business would account for 40% of it’s profits.

Analysis of the Deal

However, many critics foresee a repeat of the AOL-Time Warner deal, one of the largest and worst mergers in American history. The AT&T-Time Warner merger would entail AT&T paying $107.5 a share in stock and in cash. This offer is 19% more than Time Warner’s current share price–35% more than the share price when the news of the merger first emerged. This price is also more than 12 times the expected earnings before interest, taxes, depreciation, and amortization (EBITDA) for Time Warner in 2017, and 22 times the cash flow of Time Warner at the time the merger was announced. Since the merger was officially announced, the deal stock prices have dipped, especially due to the regulatory battles with the government that are expected to take place. Time Warner fell 3% and AT&T 2%. This merger will also result in a significant amount of debt–as much as $175 billion according to CNBC–for the company, which will no doubt have negative effects on stock price. As 2017 approaches we will soon see if the new joint company’s innovation and productivity will lead to greater profits, or if it will simply be a AOL-Time Warner merger part II.

Importance of Competition

Neither option may come into fruition. It is possible that the merger might not even happen due to anti-trust authorities. In an industry already controlled by a small number of companies–AT&T and Verizon satisfy over 70% of the American demand for mobile services–many people are worried that a merger of this magnitude might further reduce competition in the media and telecom market. Competition is the key to a productive, growing economy. The very foundation of capitalism relies on the principle that supply and demand only works when companies lower prices in order to gain an advantage over competing businesses. According to the Council of Economic Advisors Issues Brief, competition benefits consumers through lower prices, a greater number of choices, higher quality goods, and increased innovation from the businesses that make/provide the goods and services purchased by the consumer. Ultimately, competition results in increased productivity growth. Competition can also lead to higher wages for workers as companies compete to attract and keep workers in different specialized labor markets. Competition helps small businesses and entrepreneurs, as well, by providing upstream companies a larger number of downstream companies to which to supply, which gives upstream firms greater negotiating power when determining the prices of their supplies.

Antitrust Concerns

Opponents of the AT&T- Time Warner merger cite the fact that without competition, prices will increase, quality will decrease, consumers will have fewer choices, and smaller firms and entrepreneurs will be barred entry into the industry. A merger of this magnitude might also lead to a greater concentration of corporate power, and because this merger centers around the media, greater concentration might allow the company to shape the media to its advantage. Lastly, as reported in the Council of Economic Advisors Issues Brief, an overall lack of competition leads to increased rent seeking. The recent trend in decreasing competition has led  to an increase in revenue for the largest, most successful companies. By looking at the increasing spread on the returns between invested capital and Treasury bonds, one can determine if this increase in revenue has gotten to the point where it exceeds production cost, which may demonstrate economic rents: when profits from the factors of production exceed what is necessary to keep them in operation. As more companies engage in rent seeking ( in the media industry rent seeking is already quite high) these economic rents will take away resources from consumers, distort investment and employment information, and encourage firms to participate in inefficient rent seeking. Lack of competition on the whole is harmful for consumers, small businesses, and overall productivity.

Advocates for the merger view it as a method to increase competition. HBO Now as well as DirecTV Now would be direct competitors of dominant content distributors such as Netflix, Amazon, and Hulu. They also argue that this merger would represent an economy of scale. A larger business can reduce production costs, thereby reducing prices of goods for consumers and increasing overall productivity. Additionally, because this is a vertical merger where the company acquires a supplier rather than a competitor, advocates for the deal argue that this merger will not result in less competition.

Future of the Deal

Whether this merger will be permitted to occur remains unclear. Donald Trump, as President and therefore as leader of the Department of Justice, will be involved in any antitrust case brought against AT&T-Time Warner. During his campaign he expressed considerable disapproval of the merger as it went against his anti-corporate concentration message. However, much of that disapproval might have simply been a result of his dislike toward CNN and their portrayal of him throughout his campaign. Despite this, he may not dissolve the merger after all. Many of Trump’s advisors, including his advisors for technology, have expressed approval for similar mergers in the past and have made no objections to the AT&T-Time Warner deal.

The future of telecom, much like the future of America, is uncertain. However, it is essential that there continues to be competition in US businesses to ensure the productivity of our economy.

Please reach out to Natalie McGowen at nmcgowen@princeton.edu for any questions, comments, or concerns.

Written by thefinancier

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