Vertical limit: AT&T-Time Warner’s upside needs magical thinking but the downside is limited

[Commentary] Splashy mergers and acquisitions in the media sector have a poor record. Maybe things will be different this time. But even if not, the risks to AT&T from this “bolt-on” acquisition are muted. AT&T believed that just contracting with television networks restrains technical innovation.

This has become important now that video consumption is migrating away from traditional television to smartphones. Research firm eMarketer thinks time spent on smartphone digital video consumption will have grown at a 21 percent annual rate between 2013 and 2018. It remains to be seen how AT&T can extract value from Time Warner without antagonising its competitors and regulators. The arithmetic of a 50/50 cash plus stock deal buys the company time as its thesis works itself out. Its own price-to-earnings ratio of 12 times is dwarfed by the 20 times it will pay for Time Warner. But with $40 billion of debt costing under 4 percent, and $1 billion in annual savings, AT&T should be able to maintain both its dividend (5 percent yield) and an investment-grade rating. Meanwhile AT&T’s rivals can do little.