Today’s Headlines: Comcast/Time-Warner Cable Deal Falls Through

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Today’s Headlines: Comcast/Time-Warner Cable Deal Falls Through
April 28, 2015

Comcast Throws in the Towel

It was announced almost 14 months ago — a $45.2 billion dollar acquisition of Time Warner Cable (NYSE:TWX) by Comcast (NASDAQ:CMCSA), combining the two largest cable companies in America to form one cable colossus controlling over half (57%) the market for high speed broadband and 33% of the paid television market. However, after fielding thousands of consumer complaints, widespread opposition from consumer groups, and feedback from regulators saying the deal would be opposed, Comcast finally gave up on Friday and formally nixed the deal.

Both the Department of Justice (DOJ) and the Federal Communications Commission (FCC) had been investigating the transaction. It had been reported that outgoing Attorney General Eric Holder had authorized DOJ lawyers to challenge the merger in court if necessary. Meanwhile, the FCC had threatened to apply a hearing designation order to the merger, sending the issue to an administrative judge for months, if not years, of administrative purgatory. Seeing the writing on the wall, Comcast decided to give in.

The Battle For Content

Aside from a pure market share argument, regulatory objections were mostly based on concern for the evolving streaming services such as Sling TV, Roku, Apple TV, and PlayStation Vue. All of these streaming services are battling for the all-important content rights, and all have significant gaps in their content that keep them from reaching a broader audience.

With control of the cable market, the combined Comcast/TWC could have applied pressure to content providers to skip apps for streaming services or risk losing their cable business. DOJ referred to the potential of Comcast/TWC becoming "an unavoidable gatekeeper for Internet-based services that rely on a broadband connection."

Winners and Losers

The cable industry cannot be happy with this decision, as it indicates greater regulatory scrutiny on broadband services. Combine this action with the newer net neutrality rules and an evolution toward the Internet as a utility, and it appears that cable companies will have a difficult time acquiring leverage to keep content prices down and maintain exclusivity. Moreover, fast-growing streaming options like Netflix, Amazon Prime, and HBO Now will put added pressure on cable company balance sheets, as more television consumers decide that cord cutting is a viable option.

Consequently, content providers and streaming services are the clear winners here. There are still plenty of contractual minefields and pricing concerns, but there will be no single large entity putting the squeeze on their pricing structures.

AT&T (NYSE:T) also stands to win if their $48.5 billion acquisition of DirecTV (NASDAQ: DTV) goes through as expected. The combined entity will have more video subscribers but fewer Internet customers compared to Comcast, and thus is less likely to hit regulatory hurdles but still gain a strong bargaining position for content.

Among the losers: many fans of the L.A. Dodgers. TWC signed a 25-year, $8.35 billion dollar contact with the Dodgers to carry SportsNet LA, the Dodger's TV network. That leaves around 70% of the Dodger's home market unable to watch regular season games. Having overpaid for the rights and overplayed their hand on carriage deals with other systems (up to a monthly $4.90 per subscriber), TWC is now stuck with around $100 million in annual losses on the deal and no way to recoup the funds except to accept a lesser deal for carriage rights. The Dodgers, with guaranteed money, have no reason to kick in unless they decide that collective ill will from the fan base spurs them to help TWC (which it might).

How about TWC stock and investor reactions? Counter-intuitively, TWC stock rose by 4.4% on the Friday after the announcement of the failed deal. That may be based on speculation that another group plans to take over TWC, with Charter Communications (NASDAQ:CHTR) as the prime candidate. Charter made a previous run at TWC (originally causing TWC to turn to Comcast) and is reportedly considering another try. Charter's smaller size and capabilities partially negate the DOJ argument, but there would still be plenty of regulatory scrutiny and no guarantee of success.

Adding fuel to this fire is the fact that Charter's recent acquisition of Bright House was contingent on the Comcast/TWC deal going through — leading to speculation that Charter intended to save resources for another run at TWC if it became available.

The Takeaway

The futures of both TWC and Comcast are muddy in the wake of their failed merger. Trying to put the best spin on a bad outcome, Comcast CEO Brian Roberts acknowledged that the failed deal does "open up room for more buybacks" that would increase earnings per share and placate investors. What he did not say, but what is widely believed on Wall Street, is that there is no obvious acquisition target on Comcast’s radar. Meanwhile, if TWC is not part of a future merger or acquisition, it's hard to see how they will maintain growth, as they have lost potential pricing leverage and are facing increased competition on multiple fronts.

The failure of this deal leaves one message for investors: be extremely cautious investing in the cable TV and broadband Internet service provider (ISP) fields. Merger attempts are likely to continue and are not terribly predictable at this point, both from the viewpoint of who will try to buy whom and whether DOJ and the FCC will pose roadblocks. If you intend to invest in this arena, pay very close attention to the news and the trends of the stock prices — especially when acquisitions are involved.

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