Analysts Discuss Benefits of Possible AMC Networks, Starz Deal

Starz
Starz's 'Power'

A possible combination would create a bigger company that could "seek to become a consolidator," says one Wall Street observer.

With the stock of Starz rising in after-hours trading on Tuesday after a Bloomberg News report that AMC Networks was taking another look at possibly buying the premium TV company, Wall Street analysts on Wednesday weighed in on the strategic and financial benefits of a potential deal and what it could mean for further dealmaking in the industry.

Analysts also highlighted the role of Liberty Media's John Malone and his stakes in Starz, Lionsgate and other sector companies.

The report about the talks between the two TV companies, which emphasized that a deal may never happen, "could mark the start of the long-awaited, Malone-driven content consolidation wave," wrote FBR analyst Barton Crockett in a report. "The Bloomberg report post-close of renewed merger talks between $5 billion market cap, Dolan-family-controlled AMC and $4 billion market cap Starz has the potential to be seen as a bell ringer" for such a scenario.

About the timing of the report, Crockett said: "It has been our belief that $6 billion market cap Lionsgate could be interested in merging with Starz, probably no earlier than January, because of potential tax constraints. So if someone wanted to move, this could be the time to act, or for Starz to float a trial balloon that motivates Lionsgate to act."

A combination would bring together "two leaders in premium scripted content, with unusual success that belies growing industry concern about a glut of quality scripted dramas and growing competition in scripted drama from Netflix," the analyst wrote. "A merger could provide scale, helping retain affiliate fee share, and providing heft for potential over-the-top services (although Starz, unlike HBO and Showtime, has to date chosen to remain exclusive to the bundle in the U.S.)."

Crockett cautioned, though, that "we don't see much cost synergy, and revenue synergies would be hard to quantify," adding: "A dearth of obvious synergies would make accretion a function of borrowing costs and debt/equity mix, meaning likely modest accretion from a low interest rate environment."

Plus, the combined company could look for further deals, he suggested. It could "seek to become a consolidator of "content free radicals" as Malone has put it," Crockett wrote. "While Lionsgate could lose out on potentially acquiring Starz, it could also be a potential target of a merged Starz/AMC, with its appeal driven by rich content and a low tax rate. Other niche content would be seen as potentially in play for a roll-up, with the smaller market caps like Scripps at $7 billion, DreamWorks Animation at $1.6 billion, MGM at $4 billion and
Discovery and Viacom (both near $18 billion) easier to envision than larger market caps like Time Warner at $59 billion."

He concluded: "Malone's board seats and equity stakes in Lionsgate and Discovery would seem to position them as likelier targets than the others."

Macquarie Securities analyst Amy Yong summarized the benefits of a possible deal this way. Starz's subscription-based business "generates significant steady cash flow, which could smooth out the volatility in AMC Networks’ lumpy business." She estimated Starz will generate about $400 million in free cash flow in 2016 and 2017, which she said "could double AMC Networks' annual free cash flow." A deal could also "help diversify AMC Networks’ 50/50 ad/affiliate revenue stream" and could help AMC Networks launch an over-the-top distribution platform.

She was more optimistic than Crockett on cost synergies, estimating them at $400 million-plus per year. Starz's focus on original programming "could be strengthened by AMC Networks, where the management team has built a solid track record developing/marketing nameplate hits," she said. "We expect $210 million in originals spending per annum [at Starz], which will likely step up to about $300 million ... The ability to source programming by combining could trim 25 percent-30 percent, or $75 million-$100 million. Additional savings by eliminating selling, general and administrative overhead, marketing/advertising etc. could total $300 million-$325 million."

Yong agreed that a combination could lead to further dealmaking. "Pay TV consolidation, including AT&T-DirecTV and the pending Charter-Time Warner merger, as well as secular headwinds on the traditional bundle could place pressure on sub-scale names to seek partnerships and/or gain scale," she said.

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