The Curse of the Mogul, with its damning portrait of the follies of the great media holding companies, has become the must-read book of the year for not just the media peanut gallery, but also for the same moguls who the book so scathingly deconstructs. Herewith, an excerpt from the new preface to the paperback edition dealing with Comcast’s acquisition of NBC Universal, announced after the hardcover was published.
In the annals of media deals, the most important one in recent years was Comcast’s acquisition of NBC Universal (NBCU) from General Electric for $30 billion.
The reaction to early rumors of the potential transaction was skeptical bordering on scathing. The deal was characterized as not strategic and extraordinarily expensive. Yet, even if the transaction is hardly a guaranteed success, both of these charges seem unfair.
From a strategic perspective, the NBCU transaction results in significant cable channel consolidation. Comcast is contributing its own cable channels and cash to gain 51 percent of the combined entity, which will generate over 80 percent of its cash flow from the cable channels. And although most of the public focus has been on how Comcast’s cable system business will be able to strategically leverage these channels, the film studio, and the TV network in the context of the broader competitive environment, the real strategic story is in the rationalization of the cable channel infrastructure.
From a cost perspective, $30 billion does indeed seem extraordinarily expensive given the performance and prospects of NBCU. But Comcast is not writing a check for $30 billion.
More than half of what Comcast contributed to gain control was its own subscale collection of less-than-premium cable channels, including G4, the Style Network and the Golf Channel.
The actual value of Comcast’s channels is a fraction of the over $8 billion attributed to them in the deal. So both sides are both a buyer and seller in this transaction and the effective premium being paid to Comcast by GE is probably greater than that being paid by Comcast.
That said, the media assets being contributed by NBCU are much larger than those contributed by Comcast, so this is still no bargain. In other words, even though Comcast’s cable channels are being overvalued by a bigger percentage in the deal than the NBCU assets are, the fact that NBCU is four times larger swamps this benefit to Comcast shareholders. Furthermore, history has shown that the practical challenges associated with effectively managing such a diverse set of largely unconnected media assets are more likely to be underestimated than overestimated. Still, when the combined value of the enormous premium attributed to Comcast’s cable channels plus the benefits of consolidating them with NBCU’s far superior channel business is taken into account, the transaction is not nearly as expensive as portrayed.
Ever since Comcast’s unsuccessful unsolicited bid for Disney in 2004, shareholders have assumed that the company was committed to broadening its horizons well beyond its core cable business. When Time Warner spun off its cable business in 2009, shareholders had an opportunity to compare the value attributed to largely comparable companies with a single big difference—one, Time Warner Cable, was broadly held by the public and led by a CEO who vociferously insisted he would never buy media content assets while the other is controlled by a family that has made clear its desire to diversify in precisely that way.
The verdict of shareholders could not be clearer. Time Warner Cable has consistently traded at a significant premium to Comcast. This is despite that fact that Comcast has maintained higher margins in its core cable business and is arguably a superior operator. The NBC Universal acquisition has reduced the size of the discount that Comcast trades at both because it was less expensive than expected and it eliminated the uncertainty regarding how the company’s mogul ambitions would be manifested. But the discount is still there and is likely to remain, suggesting that for the first time in media, the market has imposed a mogul discount.
Execution and pricing issues aside, the real verdict in the Comcast-NBC Universal transaction will hinge on the future of the cable channel business, on which they have made an enormous bet. These businesses still trade at a huge premium to cable systems, reflecting their continued growth and astonishing free-cash flow margins. The strength of the structural competitive advantages of these packagers of content into cable channels can be easily underestimated. They are not insurmountable, however
Over the Top
The digitization of media has made the question of the unbundling of content one of how and when, not whether. In a world where individual shows, events, and movies are available when and where a consumer wants it will be no better for cable channels than the ability to avoid having to buy all 12 tracks on a CD has been for music companies. How this inevitable unbundling plays out for video will involve complex and extended negotiations among numerous players in the media ecosystem, including regulators. It will be interesting to see whether the ownership of cable systems will help or complicate Comcast’s efforts to maximize the long-term value of the channels it owns.
Ironically, the incumbent media companies best positioned to respond to the potential threat of so-called over-the-top digital distribution of all manner of content over the Internet are those, like Comcast, with a pipe into the home. “Over-the-top” distribution refers to the transmission of entertainment content in a way that can be viewed on any device with an Internet connection—without the need for a cable box at all. As televisions themselves increasingly have Internet connections and more and more content is made available “over the top,” the speculation is that progressively more homes will “cut the cord” and stop paying for cable service.
But cord-cutting is not necessarily bad for cable companies. Evidence to date is that “in-home” consumption of bandwidth-needy content will continue to increase—whether over the top or via cable. And with only two pipe providers likely to be in a position to provide that bandwidth capacity—the historic local telephone and cable monopolies—their future could be bright regardless of how this all plays out. This would be true at least as long as the two incumbents in each market behave intelligently on pricing, the regulators allow them flexibility in charging for their capacity and no radical new technology allows others to deliver comparable video streaming to the home. Indeed, an argument can be made that the cable companies actually do better in a pure “over the top” world because they can avoid the significant incremental capital expenditure requirements of the existing cable box based system.
The scenario under which the cable and telcos are the only survivors of the digital media wars who maintain their current profitability has been called “The Dumb Pipe Paradox.” In fact, there’s nothing paradoxical about it. Media shareholders seem to have a deep psychological need to believe that they will be rewarded for backing the right creative visionaries rather than dumb pipes. But about the only sure thing in the creativity business is that the visionaries are smart enough to keep as much of the value of what they create for themselves as the market will bear, leaving little for the shareholders. The retail end of the media business where the dumb pipe sits has always been the most resilient in the face of changes in technology and consumer demand. In between the content creation and the local distribution remain the aggregators who must continue to up their game if they are to stay ahead of the digital onslaught.
Digitization does create opportunities for new businesses and new models to serve consumers, who are increasingly overwhelmed by the modern era of unprecedented media plenty. But it creates those opportunities more democratically than ever, making both establishing and maintaining competitive advantages more challenging than ever. The successful mogul of this era will need to exhibit a rare combination of operating excellence, relentless vigilance, and profound humility.
Jonathan A. Knee is an adjunct professor and the director of the media program at Columbia Business School. Bruce C. Greenwald is the Robert Heilbrunn Professor of Finance and Asset Management at Columbia Business School. Ava Seave is co-founder of the Quantum Media consulting firm.