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Viacom Cuts Dividend, Sparks Merger Chatter

At first glance, Viacom’s decision to slash its dividend by 50% seems like an attempt to pare down its debt and avoid what many believe is an inevitable credit-rating downgrade.

But the move could end up pushing the troubled programmer closer to a merger with former corporate sibling CBS. A CBS-Viacom re-up has been speculated about for months. But the chatter around a possible merger has been renewed with Viacom’s tepid moves to reduce leverage — most analysts expected a 75% dividend reduction at least.

By taking the dividend down to 20 cents per share from 40 cents, Viacom will save about $300 million annually. But that will do little to trim its leverage ratio, which is currently at about 3.9 times cash flow. Viacom needs to shave that ratio to at least 3.25 times to remain investment-grade, an important designation especially since the company said part of its plan is to tap the debt markets in the near future to “improve liquidity and financial flexibility.”

At the same time, Viacom said interim CEO Tom Dooley, who stepped in after beleaguered chief Philippe Dauman resigned, will also leave the company. Dooley, who was chief operating officer and a long-time Dauman lieutenant, will stay on through Nov. 17 to help with the transition.

Pivotal Research Group media analyst Brian Wieser wrote that the two additional months afforded Dooley for the “transition” likely aren’t long enough to find a new CEO. That suggests, Wieser wrote, “either a lessthan-comprehensive CEO search to come, the placement of another caretaker in the CEO role for an interim period or that there will be some effort to force a merger through with CBS.”

Former DreamWorks Animation CEO Jeffrey Katzenberg and ex-Disney chief operating officer Tom Staggs are two top candidates for the Viacom job. But even if Viacom names a high-profile CEO like Katzenberg to the position, it won’t help with the company’s credit-rating problems.

“Even if they get Katzenberg, it’s not going to help with the ratings agency,” Telsey Advisory Group media analyst Tom Eagan said. “They can’t go to S&P and say, ‘Jeffrey’s going to save the day.’”

Still, Eagan said he believes the most recent moves point to a possible reunion of CBS and Viacom.

“We believe the next likely step is a re-merger with CBS,” Eagan wrote. “While we are fans of CEO Les Moonves, it’ll take years to turn around Viacom.”

Moody’s said back in August, when it put Viacom on credit watch, that minus a dramatic move to pay down debt, the company would lose its investment-grade credit rating. At the time, Moody’s estimated that the best scenario would include a 75% reduction in the dividend and the sale of 49% of its interest in Paramount Pictures, which could add $4 billion to Viacom’s coffers.

Last week Moody’s said that it continued to believe a 50% dividend reduction would not cut the mustard.

On Sept. 22, Moody’s downgraded Viacom debt to Baa3 from Baa2, its lowest investment-grade rating — one step above junk status — but warned the rating could go lower if Viacom doesn’t reduce its leverage in the next 12 months.

Eagan estimated Viacom would need to raise an additional $1.14 billion in addition to the dividend cut to get to 3.25 times leverage.

Maintaining an investment-grade rating is important for two reasons: It allows a company to raise debt at reasonable interest rates and it broadens the investor base in a company’s stock. Some large investment funds are prohibited from buying stock in a company that is not investment-grade.

That Viacom doesn’t seem to be concerned with its debt ratings is concerning to Eagan.

“I don’t quite get it,” Eagan said of the company’s recent moves. “At the same time they’re talking about lowering their numbers, they talk about raising debt. It’s almost as if they have some secret plan that they’re not telling the market about. But if they have a secret plan, they kind of have to tell the market.”

CBS and Viacom, Together Again?

Viacom’s recent moves to reduce its dividend have caused some to speculate it could be gearing up for a merger with CBS. Here’s how a combined company could look, based on CBS paying a 10% premium to Viacom’s stock price, according to Telsey Advisory Group media analyst Tom Eagan.

Viacom purchase price . . . . . . . . . . . $39.66/share
Combined market cap . . . . . . . . . . . . $34.6 billion
Total debt . . . . . . . . . . . . . . . . . . . . . .  $22.2 billion
Enterprise value . . . . . . . . . . . . . . . .  $55.97 billion
Cash-flow multiple . . . . . . . . . . . . . . . . .  8.9 times
Leverage ratio . . . . . . . . . . . . . . . . . . . . 3.27 times

Source: Telsey Advisory Group estimates