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Consolidation Gets Top Billing in Earnings Season

Wall street analysts are typically concerned about cable programmers’ cash-flow and affiliate fees during earnings season, but these days consolidation is commanding the conversation.

As earnings season begins for big programmers such as The Walt Disney Co., 21st Century Fox and Viacom, investors are concerned about the scale needed for content companies’ plans to stream direct to consumers.

“While advertising and subscriber trends are arguably not set to improve, they’re also not top of mind,” RBC Capital Markets media analyst Steven Cahall wrote in a note to clients, adding that tax reform and consolidation will more probably be the dominant themes. “There’s likely to be as much, if not more, debate around the [Department of Justice] view of media consolidation as there will be around cord-cutting.”

Disney and Fox have already announced their deal plans. In December, Disney agreed to purchase certain Fox assets for $66.1 billion.

Viacom and CBS are reportedly revisiting the possibility of recombining the companies — they split in 2005 — in a move that in the past many believed to be more favorable strategically to the cable programmer than its broadcast cousin.

Related: CBS, Viacom Form Special Committees to Evaluate Possible Merger

But as ratings have declined and cord-cutting accelerates, some analysts believe drafting a viable direct-to-consumer strategy is more important than ever, and consolidation is the only way to get there. “Viacom and CBS simply cannot wait any longer,” BTIG media analyst Rich Greenfield wrote in a recent note. While CBS already has a direct-to-consumer product in CBS All Access, the analyst said that alone isn’t enough.

The Fox deal would strengthen Disney’s programming dominance, adding Fox’s 22 regional sports networks, its 20th Century Fox movie and television production studio, and cable networks FX, FXX and National Geographic, as well as Fox’s 39% stake in U.K. satellite-TV service Sky. With the transaction expected to close by the end of the year — and already receiving a ringing endorsement from President Donald Trump — Disney appears to be taking the more-is-better approach as the content distribution sands continue to shift.

With viewers increasingly moving away from traditional distribution methods for mobile, over-the-top and online offerings, Disney is bulking up its already hefty content coffers to ensure no matter what method viewers use to consume content, they are likely to run into at least one Disney-owned property. As for sports, Fox’s regional sports assets should add fodder to Disney’s planned ESPN Plus OTT offering, scheduled for later in the spring.

Related: It’s Game On for ESPN After Disney-Fox Deal

Fox Takes a New Stance
Fox, in turn, is taking the sniper’s tack as opposed to Disney’s shotgun approach. By keeping its broadcast network and TV stations, perennial news ratings champ Fox News Channel, Fox Business Network and national sports channels FS1, FS2 and Big Ten Network, Fox is honing in on what it believes can still attract robust ratings and ad dollars — live sports and news. It further solidified that stance with its deal to pay about $3.3 billion over five years for rights to 11 NFL Thursday Night Football games.

Whether either, neither or both approaches win the day remains to be seen. But the fundamental truth behind both moves is apparent — traditional TV audiences are shrinking and are not expected to recover soon.

Disney seemed to verify the real impact of cord-cutting when it revealed in 2015 that sports channel ESPN had lost 3.2 million subscribers in the prior 12 months, a figure that rose to a collective 13 million viewers between 2011 and 2017. Since then the losses for pay TV programmers in general have averaged about 3% to 4% per year, although some networks, such as Fox, have experienced far less erosion.

According to Pivotal Research Group senior research analyst, advertising Brian Wieser, using Nielsen Universe data, the median growth rate for Fox networks improved to -1.6% in December from -1.9% in November. Nielsen’s February estimates show an even sharper improvement (-1.2%) compared to the prior month (-1.6%). But according to the Nielsen data, Fox is one of the exceptions.

Those declines have begun to eat into affiliate-fee growth, although some networks are more affected than others. MoffettNathanson senior research analyst Michael Nathanson estimated that calendar Q4 affiliate fee growth would range from 11% at Fox to -6.9% for Viacom. Disney fees should rise about 2.5% in its fiscal Q1, while Discovery Communications and Scripps Networks should gain 3.2% and 5%, respectively.

Less Subs, Less Ad Bucks
Fewer subscribers and declining ratings (Nathanson predicts a 13% drop in primetime C3 18-49 ratings for broadcast and cable in Q4) translates into lower advertising revenue, and in the calendar fourth quarter, total national TV ad sales are expected to fall 2.7%, according to the analyst. Viacom once again is expected to show the biggest declines (-4.5%), with Disney not far behind at -3.6%.

Despite the erosion of core fundamentals, Nathanson urged investors to focus on names that have affiliate-fee pricing power, exposure to live sports and news and unique global content. “These companies are cheap and should likely hold their value when the next wave of worries come,” he wrote.