Category: Analysis

Debunking the M&A Tidal Wave: Part V – Other Thoughts That Didn’t Make It In

Was I too strong in calling this series, “Debunking the M&A Tidal Wave in Media and Entertainment?

I don’t think so.

I want emphasize the “think” in that previous sentences. I’ve thought about this a lot. I mean, asked myself many, many, many times, “Wait, are you sure there won’t be a tidal wave surge in M&A now that the Justice Department lost in its AT&T battle? Even if M&A has been high the last few years, couldn’t it get higher? Are you implying you think M&A could go down in the future?”

Upon reflection—all that thinking, hat tip to iFanboy—and yes, I think I am appropriate in calling this a debunking. Certain narratives catch hold—coincidentally, like a tidal wave—and most everyone tends to repeat that narrative. The internet started this phenomena, but social media like Facebook and Twitter and Reddit amplify it.

To sum up all I’ve learned, here’s the brief history of M&A in media and entertainment:

– Media and entertainment (and communications/internet) has been consolidating since the 1980s, like all industry.
– After the recovery from the Great Recession, media and entertainment companies began consolidating again.
– By my numbers, the growth in M&A was somewhere between 8%-25% per year in total deal value (depending on the years you pick) and mega-deals (deals over $1 billion in value) increased from 8 in 2011 to 18 in 2017.
– These deals included both horizontal mergers (within the same industry), conglomerations expanding (conglomerates continuing to acquire new businesses) and vertical mergers (within different industries, including distributors such as cable or internet firms acquiring media and entertainment companies).
– Consolidation likely would have continued even if the Justice Department had won their lawsuit preventing the giant and horizontal AT&T-Time Warner Merger.

Phew. Sorry, I had to get that out.

Knowing what we know above, we can use that as our baseline. For any new information on M&A, we can update our priors, to use Nate Silver speak. Basically, if a new deal is announced or a current deal opposed by the government, we have a solid context to understand its impact on the larger M&A in media and entertainment (and communication/distributors/tech/social media) landscape.

For today, any time I dive super deep into a topic, I end up with a bunch of stray thoughts that don’t quite fit in any of my other articles. Today is the catch all round up of those pieces.

Other Thought 1: The Chaos of the Trump Administration

Ignoring the politics of the current administration—and how can you?—what does President Trump and Gary Cohn/Ajit Pai/Wilbur Ross mean for how entertainment companies conduct business? Really, the daily tweets and outrages for liberals or the perceived economic boom times for conservatives matter much less for how he had changed the regulatory environment for business.

But some of those Trump tweets matter. Like how he tweeted opposing the AT&T merger, praising the Disney-21st Century Fox merger and supporting Sinclair/Tribune. In each case, either base political calculations or personal relationships determined his support, not larger idealistic concerns (either free market or pro-consumer). In AT&T’s case, he hates CNN. In Disney’s case, he loves Rupert Murdoch, whose Fox News also supports him. In Sinclair, I think he knows he has a friendly voice supporting his policies.

Uncertainty is the key, along with the certainty that the key is winning Trump by pledging allegiance to him. That’s how companies can win in the short term, while America’s economy moves towards a rent-seeking/crony capitalist future that curtails economic growth. In the mean time, M&A will proceed apace as the key to execution means wooing Trumps favor. Before you decide to do a deal, think, how do we spin this to make Trump look good, while crossing our fingers Democrats don’t punish us for that?

Speaking of decisions…

Other Thought 2: What decisions can we make off this information?

Imagine you’re a major executive at a major studio, communications provider (cable, satellite or telco) or production company. Maybe you’re the boss or the head of his/her corporate strategy or business development team. The key question following a judge’s approval of the AT&T-Time Warner merger is: how should this influence our decision-making going forward?

Now, if you build it, they will come. In business, this means if you build a team with a mission, that team will recommend decisions in its interest. If you have a team devoted to assessing and executing mergers & acquisitions, they’ll probably recommend that you make a lot of mergers & acquisitions. That team—and its likely influential leader—would therefore recommend most CEOs be aggressive in their deal making. Hence, they probably read a lot into the AT&T merger decision as the green light for future mergers.

Ignore that team/leader.

If a merger with a competitor or supplier or other company makes sense economically, it probably made sense no matter which way this decision went. Now, it likely would change the probability on one line of the economic model—the line one the costs if the merger fails—but I would argue that would only apply to deals that almost exactly mimic Comcast-NBCU/AT&T-Time Warner style deals, meaning it would mainly apply to Comcast. And I don’t think Comcast CEO Brian Roberts has any desire to slow down his deal-making.

What about the information I’ve provided showing the huge surge in deal-making going on? Should this influence executives? Maybe.

The case would be strategic. If everyone around you is getting larger, then to continue to be able to negotiate with suppliers or be able to gain a presence in the marketplace, you may need size to compete. If you’re Discovery and Scripps, facing a world with shrinking cable subscribers, doubling the number of channels under negotiations may help keep your affiliate fees higher. Same with movie studios: Disney will be able to negotiate great revenue shares with theaters if they own 50% of the box office, so maybe you need size to compete with that.

But for that strategic case, I could trot out an early version of my “Theme 3: Strategy is Numbers!” At the end of the day, you don’t win in entertainment by simply being the largest player in the world. This isn’t a board game like Risk or Settlers of Cataan where simply being the biggest or lasting the longest means you win. You win by generating cash for your shareholders.

If the deals to get bigger end up costing you more in interest payments than they return in cash, then shareholders will lose money, even with the size. This is usually exacerbated by vertical deals, but all deals risk costing shareholders money. If anything, the frothier the M&A environment, the higher the prices paid, which increase the likelihood that deals don’t make economic sense.
In all, M&A in the larger sphere is interesting, but not determinative on the decisions you need to make as a decision-maker.

Other Thought 3: I’m even more skeptical of conclusions from the M&A data than I was before.

I can’t get over how noisy M&A data is. So noisy.

When you read sweeping conclusions in breathless reports about M&A, remember this. The biggest deals have a huge impact, but are really small in number, while the timing can fluctuate a lot over a given year, which can drastically change the conclusions. a lot, impacting any quarterly or yearly analysis.

The first impact of this uncertainty is to really hinder drawing trends underneath the data. Like say, “Oh look, the majority of deals are about developing innovation” or “achieving economics of scale” or that deals tend to be horizontal or vertical in nature. I’m also hesitant to point to explanations for why M&A is happening, besides that M&A is the natural state of industry in America.

Take the explanation that executives are fearful of the rise of Netflix, Youtube, and Amazon and disruptive business models. That’s a great narrative. But consider that Comcast tried to buy Disney in 2004, did buy NBC-Universal in 2010 and Disney has been buying big new businesses such as Pixar, Marvel, Lucasfilm and Maker Studios. If we tried to quantify this trend, we just couldn’t do it.

The second impact is I tend to look skeptically at any explanation that M&A is increasing year over year based on the most recent data. Again, it just won’t hold up to analytic scrutiny if you can move one or two deals and change the whole picture.

Other Thought 4: Explaining the M&A total number of deals in 2007/2008

In Part IV of this series, I pointed out that in 2007, the number of M&A deals exceeded 1,000. That’s huge, compared to the 800 or so deals we’ve averaged in most of the 2010s. Even though I dismissed this number when making my prediction, it doesn’t mean it doesn’t beg for an explanation.

I have two theories.

Theory 1: 2007 to 2008 was the peak of consolidation of bigger players of smaller mom and pop shops. Basically, this theory says in the 2000s small groups of cable providers, radio stations and independent broadcasters were swallowed up by larger groups. While we focus on the giants of cable, we forget that in the 2000s there were hundreds of cable companies, maybe even thousands. Yet a lot have been swallowed up by the larger players. Now, these deals were sometimes for cable providers as small as a few hundred thousand people, so they just didn’t rate a huge value. Now that they are gone, the number of deals has gone down, but the total value has gone up.

Theory 2: In the 2007 financial crisis, some businesses were divesting not merging. This makes more sense, and I believe one article mentioned this was happening, but honestly I don’t have the data to prove it. If I had Thomson-Reuters data, this is what I would definitely explore.
So I can’t prove either theory above, but they would make for interesting future study.

Other Thought 5: Horizontal versus vertical merger discussions were overblown.

One of the legal hot takes was that the Justice Department had typically ignored vertical mergers and this is what made the move against AT&T so bold. I have two counters.

First, the Justice Department didn’t do a great job of stopping horizontal mergers either.

In my data set, I see a ton of horizontal mergers that went through without scrutiny. In just 2016 and 2017, we saw announced horizontal mergers in broadcast (Sinclair and Tribune), theaters (Cineworld and Regal; Dalian Wanda with two theater chains), radio (Entercom and CBS Radio), conglomerate (Disney and 21st Century Fox), networks (Discovery and Scripps), and other cable/cellular companies, most of which passed scrutiny. So the Justice Department hasn’t done a great job stopping horizontal mergers, which makes the focus on vertical mergers…strange.

Second, the Justice Department has looked skeptical at vertical mergers. Namely, the Comcast-NBCUniversal deal, that it ultimately blessed with many conditions.

Overall, this is one of those data problems where we shouldn’t rely on the sparse data too much. There just aren’t a ton of examples and other factors may explain the conclusions better. Like say size. Many vertical deals just involve really small companies being acquired.

Honestly, just because this vertical deal was successful at trial doesn’t mean future deals will be as well. If cable and satellite companies keep increasing prices after deals clear approval—as both Comcast and AT&T have done—well a future government many decide that these deals aren’t great for consumers.

And wouldn’t that be something.

Debunking the M&A Tidal Wave: Part IV – Making My Predictions

One of the challenges of “big data” is that it is so…big. For any given subject, we have so many ways to measure things. I can pull one set of data to prove my point; you can take the same set of data and pull a different metric to prove your point.

Take gun violence: gun control advocates have their set of data and analysis showing how guns increase homicides, suicides and violence in general. Pro-second amendment folks have their own data proving their own points.

This applies even for something as innocuous as picking TV shows for a streaming platform. In one recommendation I authored, I counted over 1,400 numbers in one powerpoint presentation. How do we figure these issues out with so much data to choose from?

Well, I have a way. It’s unscientific, as far as I know, but it works for me.

Anytime we come across a significant issue with tons of metrics and variables and data, we can employ this method. I call it the “as many measurements as possible” approach, and I’d love to find out there are other more scientific ways to do this. Here’s how it works:

Take as many measurements as possible and determine if they support or nullify the issue under question. If the majority, super-majority or vast majority support the case, then the phenomena is probably real.

The point isn’t to take just one measurement as our gospel but all the measurements we can. If 9 of our 10 metrics indicate that a phenomena is real, then it probably is.

Take global warming/climate change. If you measure temperature, in 95 percent of measurements or ways to measure it, the climate is heating up. Sure a handful of scientists can find one or two ways to show the world isn’t heating up. Meanwhile, 99% of the rest of scientists measure the data in hundreds of different ways from daily highs increasing to the average temperature averaged over the year from city temperature to countryside to oceans and say, “Man, no matter how you measure this, this impact is real”.

Same with gun violence. Guns lead to increased gun homicides and suicides.

Same with stream video: a show that does well in total viewers probably has the most hours viewed and attracted the most new customers and gets the best customer reviews and so on.

I bring this up to put us in the right mind to do our last dive through the data on mergers & acquisitions. I clearly have a hypothesis that a “tidal wave” of M&A isn’t coming because the tide has been coming in for a while now. Like most of the last decade. But now we need the data to really show us what has been going on. As I can see it, we’ve set the terms, reviewed the narratives, gathered the data and now we need to ask the data what it sets. Since we have so much data on M&A and so many different ways to measure it, we could easily pick one or two metrics and have them change our minds. I’d rather apply the “as many measurements as possible” approach: interrogate the data in as many ways as possible and let the overwhelming conclusions, if they exist, be our guide.

So here are our two final questions to answer:

– What is the historic rate of M&A? (Partly answered in Part I.)
– Is that rate increasing, decreasing or can we tell?

The latter question in particular gets to basically the question at the heart of making this prediction. If M&A activity has been steady for most of the last decade, or if it has been increasing, then we should use that knowledge to make our predictions of future M&A activity.

Fortunately, M&A lends itself well to “as many measurements as possible” analysis. M&A can be measured by total number of deals by the size of deals by the types of industry or by percentage of concentration. So let’s look at as many metrics as we can.

Metrics in Opposition

We should start with evidence that M&A has either been low or decreasing over time. And there is one data point that makes this case:Slide11 Read More

Debunking the M&A Tidal Wave – Part III: Reviewing the Data

It never ceases to amaze me how much more there is to learn about this crazy industry. I call myself the “entertainment strategy guy” and things still surprise me. Take M&A (mergers and acquisitions) in entertainment & media.

For years, I thought I closely followed the trends of mergers and acquisitions and all that jazz.

Then, I started to rigorously answer the question from two weeks ago, “How much, if at all, will M&A activity decrease?”. Naturally, I turned to Google to look for big M&A deals. I tried to build myself a little table with every deal I could find. I kept finding deals I’d forgotten about. “Oh yeah, Lionsgate bought Starz!”

There has been a lot more M&A in entertainment then you’d think. It has been a constant flow since the recovery from the great recession. That’s what my unscientific table showed and what high level summaries from PwC (and others) show. And it genuinely surprised me how many deals I’d forgotten about.

Today, I’m going summarize what I saw in the data and the shape of it.

Gathering the Data: Part 1 – My Own Data

Here’s a snapshot of the table I started filling out and will use a bit today.

slide07.jpg

Why build a table myself in Excel? Well, it’s the easiest way to click on a few variables and sort the data to discover descriptive details yourself. One of my pet peeves in data analysis is when someone doesn’t actually own the data themselves, so they rely on someone else to draw conclusions. (Also, sorry for the compressed lines. This table violates my “rule of 8”. Usually tables should never have more than six columns, usually  6 is ideal.)

My process for gathering the data was as crude as it was simple: I googled “entertainment and media mergers and acquisition” and the year to find the biggest deals per year. I later used CrunchBase’s data set to find smaller deals. I would sort by company, starting with the studios and moving to distributors and such.

I really recommend at least trying to collect data yourself whenever possible. It’s harder and takes longer, but by doing it yourself, you force yourself to figure out which variables you want/need per data point. In this case, by looking myself, I learned some thing about M&A activity, and the data set in general. Even when I later switched to using PwC’s summarized data, I could use these insights to understand PwC’s conclusions.

For example, I learned how important the timing of a deal is. A lot of the articles covering M&A activity neglect to mention what they are tracking in their coverage. Is it when a deal was announced? (For many articles, yes.) But what if a deal doesn’t close? So you sort M&A activity by closed deals, but that could be skewed by how long deals take to close versus the year they started in. If you are trying to summarize the previous year’s M&A, well you’d leave out a lot of deals if you only track deals that close.

Could this effect the data? Absolutely. The AT&T-Time Warner could swing one year’s data by $85 billion dollars. The Comcast-NBCU merger swung various year by year totals by $35 billion. The failed Comcast-Time Warner Cable inflated a few years totals by $45+ billion before it was abandoned.

I also learned that trying to distinguish between “acquirer” versus “acquired/target” is touhg. Most deals are usually one company buying another. But sometimes two companies agree to merge, and it isn’t really an acquisition, so who is the acquirer versus the acquired/target? Other times a firm is buying a majority stake in a company it has partial ownership. These little distinctions and difference can plague data analysis when you try to capture them as variables.

What about the deal value? Again, this would seem like a relatively straightforward number, but it can change depending on how stock prices move over time. Or if a company has to raise it’s offer due to competitor or shareholder pressure. Sometimes, the numbers differ by billions, swinging the total deal value by 25% or more. I tried to use the higher number whenever possible. In my scan of the data through news reports, deals rarely got less expensive.

The last five variables were less about the nuts and bolts of the deal (who bought what for how much) and instead about providing some flavor. The pieces I thought would be the most useful for data analysis/business strategy were: the industries involved (network, radio, studio, cable, etc) for both parties, the “direction” (horizontal or vertical) since this came up a lot in the AT&T lawsuit, the status (to account for failed deals), and the stake of ownership. I assumed the last piece was to full ownership unless clarified. Also, in this case industry and direction were my own subjective opinions.

If I could add a piece, I’d add PwC’s description of the business purpose of the deal: consolidation, content, innovation, capabilities extension, or other/stake ownership.

Oh, and in the future I’d include “divestiture” as a final category. Not all deals are accretive and PwC/Thomson Reuter’s database tracks this. In down swings, companies spin off bad business units and ideally a good data set on M&A would tell you when that happens.

Gathering the Data: Part 2 – The PwC Data and Others

As I mentioned above, trying to collect all the information on M&A activity by myself was more time intensive then I thought. Let’s hope I can keep building it through the rest of the year to find additional insights.

In the mean time, I needed a better, quicker look. Fortunately, the good people at PwC using Thomson Reuter’s data were able to compile annual snapshots of M&A activity in the sector they called “media, entertainment, and communications” which I copied in my first post. I found every year’s study I could—in most cases using the articles on it—and compiled it into the table I ran in my last post. Here it is again for this who missed it:

3 Metrics MA Slide to updateI also found other articles about consolidation or M&A activity in other sub-disciplines in entertainment, again, usually through trade press articles. Take this chart from an article in Variety about M&A in TV production, which produced this table using IHS MarkIt data:

slide09.jpg

(Source: Variety/IHS Markit.)

In addition, I found articles about M&A in the Wall Street Journal, Hollywood Reporter and The New York Times. Where possible, I saved the numbers in the article to bolster my data. I’ve tried to provide links where possible, but I have so many I may save them for a future post.

Quality of the Data

So I have essentially two data sets at this point: my own from readings/capturing news articles and the PwC summaries. The question I had to ask myself—and you should be asking me—is how good do we think this data is?

Most people in data analysis miss this key step and it’s worth pausing to emphasize it. Just because you have data doesn’t mean it is any good. Do you see potential flaws that you should acknowledge? Or could cause you to throw out the data set? Do you see quirks in the data that signal bias? Always ask these questions of data (or ask your data scientists/consultants these questions).

From year to year and between data sets, M&A data on media, entertainment and communications (and I assume all industries) is plagued by discrepancies or opinions. The biggest unreliable variable was the timing of M&A deals. Announced deals by definition exceeded the number of deals that invariably closed. So every year’s annual report invariably lowered the previous year’s totals. Sort of like how GDP is invariably adjusted by the Commerce department in future reports. This can make each year seem like it exceeded the previous year’s totals, even if it just means that some announced deals won’t end up closing.

Just because we find flaws or inconsistencies doesn’t mean we have to throw the baby out with the bath water. The question is how much we need precision in this data. Since we’re looking for trends here, being off by a few days on when a deal was announced or closed won’t kill us. Same with being off several hundred million dollars in a price. Given that a few huge deals have the largest swings, being off by a few hundred million dollars won’t effect the larger trends. Even the trends for deals announcing or closing won’t effect the five year average of deals, for the most part. (Though, it helps if you keep you data consistent/apples-to-apples when possible.)

That said, I wouldn’t try to draw too many strong conclusions from the data set, given that it has inconsistencies. And two other issues I’ll discuss in the next section.

My self-made data set has one other HUGE flaw I don’t want to neglect: I made it by trying to find as many deals as possible so I missed a lot of deals. Rigorously reviewing the internet for deals isn’t a super reliable approach, which is why I opted mid-stream to change approaches to focus on high level summaries. I’d also add I mostly focused on US-based M&A, which is a mistake. These are global companies, but our focus naturally falls on places that speak our language. (Many companies had multiple Indian deals, but their total value pales in comparison to US-based deals.)

Initial Thoughts on the Data

So we have all these high level summaries and my table. What do we think of this data? What does it look like?

Summary: This is a noisy data set

Even if I had all of Thomson Reuters data at my disposal—I don’t—I’d still call this a “noisy” data set. Adopting The Signal and The Noise terminology, I mean that trying to draw conclusions about how individual variables impact the data set will be hard. Trying to draw precise predictions will be impossible.

Take years, for example. A year is a long time in business terms. But trying to draw conclusions about any given year’s M&A activity is fraught because deals could be categorized multiple ways. As we’ve seen, you could count the AT&T-Time Warner deal in 2016 or 2018 (or later if the appeal delays the deal further), which drastically impacts the value of the deals done in that year. Since timing could change the data set so much, we have to be careful drawing conclusions about any one year of deal-making. This is why I used the five year average to set our predictions.

Or take mega-deals. There are less than 18 in any given year. That’s a small data set. So trying to draw conclusions about mega-deals with our variables like “direction” or “industry” or “type of deal” is fraught. Or to be more precise, we can’t have statistical confidence in these conclusions.

Warning: Power-Law distribution amplifies the effects of small sample size.

This data set, and a lot of conclusions drawn from it, is power-law distributed. AT&T bought Time-Warner from an entertainment and media deal high of $85 billion dollars. And it was joined in 2016 by 15 other mega-deals of $1 billion or more. But according to PwC there were over 679 deals of any size in 2017. That means that the first two deals (Linked-In purchase by Microsoft being the second biggest deal I found) totaled $111 billion, so more than the other 677 deals that year.

As a side note, I love explaining “power-law distributions” to people. This type of distribution happens throughout entertainment. Power-law distributions mean that a small number of deals can have a huge impact on the data set, especially if you focus on the “average” without accounting for size. So if you’re counting/measuring impact by each deal equally (not weighted by value) you could miss a lot of trends.

Conclusion: We still need a prediction!

I know, I spent today just reviewing the data about M&A. As I’ve been editing this article, I’ve been asking myself a brutal question: is there enough meat on the bones for this article?

And you know what? I think there is. Every few months Deadline or The Hollywood Reporter or Variety publish an article summarizing M&A activity in media and entertainment. And it comes up on their podcasts. But trying to find an explainer or FAQ on where the data comes from? Good luck. It matters whether data sets are imprecise or noisy or flawed. And a lot of the reporting on M&A ignores that crucial context. Hopefully I provided that today.

I swear I’ll make a prediction tomorrow.

Debunking the M&A Tidal Wave – Part II: Reviewing the Narratives

(Check out my first post analyzing the M&A landscape here.)

If you think we’re about to ride a wave of deal making, then grab your corporate strategy surfboard and let’s hit the entertainment and media waters!

Tortured analogy aside, if you saw the chart from yesterday, you know one thing…

MA PPT Chart…if you want to do M&A you should already be in the water.

If anything, the tide has been rising on M&A for years now. Deal making went from around $33 billion in 2009 (one report had it as low as $6 billion in 2008 in the depths of the Great Recession) to a frothy $200 billion in 2016. Since deal making takes time, if you waited until a judge in D.C. approved the AT&T-Time Warner merger, you’re probably too late. (And I don’t think most executives were waiting.)

Yet, the narrative after the decision was one courtroom decision will “unleash a torrent of deal-making”. Why does everyone think that?

My theory: because it is hard to look back and observe trends, as opposed to respond to events. Court cases make for exciting events. Single events get a lot of coverage. Long term trends get one or two articles a year, maybe.

So as I collected my thoughts around M&A in entertainment & media, I reviewed a lot of the articles on M&A in Hollywood. Frankly, the idea that one court case cleared the way for M&A activity isn’t the only bad narrative in this story. The idea that “disruption” is “forcing” large cable companies to merge also doesn’t hold up, to me. And that narrative even influenced the judge in the AT&T-Time Warner case.

Today, I’m going to review all the potential causes for the rise in M&A activity we see in the chart above. Then I’ll put those explanations in context of the AT&T decision. Then next week I’ll review the data to make my final prediction.

Reviewing the Traditional Narrative

Let’s start by making the case of why mergers are more frequent after the AT&T decision. From what I read, it would go something like this:

1. The entrance of tech giants (Netflix, Amazon, Apple, Google, Facebook) is disrupting traditional business models.
2. This increases the need for industry consolidation to survive.
3. But anti-trust regulators have looked skeptically at past mergers.
4. With this deal approved, companies can merge as much as they want!

I saw two major pieces of evidence marshaled for the conclusions above. First, people would use the “Disney – 21st Century Fox – Comcast” love triangle as evidence. But if anything, all the decision did was allow Comcast to bid, which it could have done anyways, and raise the price. The rate of mergers would have stayed the same. Same thing with using Shari Redstone trying to merge Viacom-CBS, which is a deal already in progress.

Second, people love to just throw out names of companies and say, “Could they merge?” If the proposed deals don’t have sources, they’re just blind speculation. Even with sources, they’re mostly talk.

Separating the Good Reasons for the Bad

Instead of crafting a narrative to suit our prediction, let’s look at all the possible reasons  for M&A activity, from the broadest reason to the most minute and ask some questions to assess their impact:

– Was this factor present in the past 10 years? 20 years? 40 years?
– Would this factor have continued regardless of the ruling?
– How important is this factor?

Industry consolidation

As I’ve mentioned before, industry has been consolidating for forty years under a lax anti-trust regime in the Justice department and in the courts. I don’t mean the media and entertainment industry, I mean all industry from healthcare to finance to retail to beverages to airlines to you name it. If every industry is consolidating (sometimes massively) then predicting future consolidation in entertainment is less bold.

I did, though, get sucked down a rabbit hole looking at consolidation in entertainment and media specifically. Consolidation is happening in every single part of entertainment from broadcast channels to cable channels to movie studios to radio stations. Even technology. So…

– Was this factor present in the past 10 years? 20 years? 40 years?
Yes, going back 40 years.
– Would this factor have continued regardless of the ruling?
Yes, the Justice Department easily blessed the Disney-21st Century Fox deal. Donald Trump’s administration and FCC chairman Ajit Pai love industry consolidation.
– How important is this factor?
Very important. As a Hollywood Reporter article said, entertainment companies have been merging since the 1940s, going through waves in the 1940s, 1980s, 1990s and the current one.

It’s a good business environment for mergers and acquisitions.

The evidence for this explanation—which specifically refutes an argument later about “tech disruption”—is that the entire M&A market is looking good right now across the economy. Indeed this is true, as this New York Times article pointed out (using Thomson Reuters data!) and Kevin Drum clarified with inflation adjusted numbers. This differs from the above explanation in that it is really about the consolidation numbers for the current economic climate.

It boils down to a few things, summarized in the New York Times piece: the tax break provides higher profits, interest rates have stayed low and the stock market is booming so firms need other ways to drive growth (and high share prices can increase capital available for M&A). So our questions:

– Was this factor present in the past 10 years? 20 years? 40 years?
It is cyclical, but has been building since the recession in 2008.
– Would this factor have continued regardless of the ruling?
Yes, that tax break isn’t going anywhere…unless a recession hits. But the ruling didn’t effect that either way.
– How important is this factor?
In my mind, nearly as big as the industry consolidation.

Technology firms are entering the media and entertainment business.

Notice, I’m not saying that tech firms are “disrupting” traditional business models. This explanation is simpler: technology firms like the FAANGs have huge amounts of cash on hand and/or huge market capitalization’s, so they are on a buying spree. This increases the likelihood of mergers not because entertainment companies need mergers to survive (they consolidate because of the above reasons), but because entertainment firms want to avoid being acquired.

– Was this factor present in the past 10 years? 20 years? 40 years?
Yes, going back 10 years.
– Would this factor have continued regardless of the ruling?
Yes, the Justice Department isn’t taking on tech giants either. Except for Jeff Bezos.
– How important is this factor?
It depends. So far, the major tech companies haven’t actually saddled themselves with a legacy content company, but built their own platforms (Netflix, Youtube and Amazon) or bought other technology companies (SnapChat, Twitch, What’sApp, Instagram). So we’ll see.

Tech companies are disrupting traditional business models.

This is the ever pervasive idea that streaming is disrupting pay and broadcast TV and music buying and radio and everything else. Oh and advertising is being disrupted too.

I look most skeptically at this explanation. The fairest way to describe this—and I’m trying to be fair—is that the new business models are cutting profit margins of traditional firms, so companies need to bulk up to maintain their profit margins. And it really is true that new entrants like Netflix offer much cheaper alternatives then traditional models, though, Netflix is less profitable in cash terms.

Like I said above, this is the explanation I value the least. Not that it doesn’t have an impact, but it has the biggest “hype to reality” ratio. Industry consolidation allows firms to increase their profit margins, which they do regardless of new entrants. Since this is happening across all industries, it seems like an explanation fitted to the data, not the true driver.

– Was this factor present in the past 10 years? 20 years? 40 years?
It is the one new factor of the last ten years.
– Would this factor have continued regardless of the ruling?
Yes. Netflix is still scary.
– How important is this factor?
It is mainly important for the mentality. It scares executives so they want to bulk up to ward it off.

Anti-trust regulators and the FCC plan to prevent further consolidation.

If you think the Trump administration had/has a plan to prevent consolidation in industry, could you please point it out to me?

Let’s be honest, the government under Trump and Republican leadership really doesn’t care about industry consolidation. Trump actually praised his friend Rupert Murdoch for making such a good deal with Bob Iger. He called it “great for job creation”. Under a Democratic President, maybe the FCC and Justice Department look skeptically at consolidation, but for all their efforts, the Obama administration only stopped three mega-mergers (Comcast/Time Warner Cable, Sprint/T-Mobile round 1, and AT&T/T-Mobile), and it only delayed the consolidation not stopped it.

So when it comes to the question, “What if the judge had ruled against AT&T?”, would that have encouraged the Justice Department to go on a spree of trust busting? I doubt it. Would they have stopped additional deals? Probably not. I think most of AT&T law suit was more about CNN then it was about the size of the deal. Consider, T-Mobile and Sprint merged before the final judgement. They weren’t worried about anti-trust. So the questions:

– Was this factor present in the past 10 years? 20 years? 40 years?
No. The government tried to stop the Comcast-NBCU merger and successfully dissuaded Comcast from the Time Warner Cable merger. But in the last 18 months? Yeah it hasn’t been a thing.
– Would this factor have continued regardless of the ruling?
Yes, it would have. Even when Obama tried to stop some mergers, over time the Justice Department was worn down. So AT&T bought DirecTV, Charter bought Time Warner Cable, and now cellular providers are merging. Again, that was all before the decision.
– How important is this factor?
Not important since it really didn’t effect the behavior of companies.

Mergers and Acquisitions are good for CEOs individually

Here’s the simplest, most human, most “economic” (or Freakonomics?) explanation for the frequency of M&A activity.

CEOs make bank off mergers and acquisitions.

In other words, if humans are self-interested, sometimes they pursue goals and outcomes that don’t align with the incentives of their company or firm. Making better products is hard. Cutting costs in painful. Merging with another company? Relatively easier and more profitable.

The trades are reporting that after a successful merger—meaning it goes through, not that it makes money—Jeff Bewkes made $50 million dollars last year, some of which was driven by Time Warner’s merger-inflated stock price. AT&T CEO Randall Stephenson can now demand a higher salary with his larger company to run. In the short term, M&A activity is rewarded by share price increases, even if the deal bombs, as happens about 50% of the time.

– Was this factor present in the past 10 years? 20 years? 40 years?
Yes.
– Would this factor have continued regardless of the ruling?
Yes, it would have. And honestly, the economy is set up to allow it to continue.
– How important is this factor?
Very. These are the self-interested decision-makers running the system. They’ll make deals to make money, and convince themselves it’s a good thing.

Playing Devil’s Advocate: Why could M&A decrease?

To summarize, the traditional narrative says M&A activity—the rate—will increase. I think it will still grow, but at the same historical rates. At worst, I’ve set a floor of “M&A activity will stay flat”, meaning it has zero growth. So at worst it will maintain its value of $140 billion in deal value per year with 16-18 mega-deals.

But could we make arguments in the opposite direction? That M&A activity will actually slow down? Sure. And if we’re building a 90% confidence interval for the future, we absolutely should give this more weight. What could stall M&A activity?

An economic slowdown

This is what stopped the last wave of consolidation. Basically, the 2008 housing crisis and Great Recession. When no one wants to lend, and share prices fall, and you don’t have profits on hand, then it freezes the market. This would slow or stop consolidation temporarily (and as I saw first hand motivate a lot of investment bankers to go to business school).

Tech continues to build not buy.

I actually don’t hate this strategy and the Bloomberg link at the top makes this case too. Amazon, Netflix and Youtube have all created businesses from scratch. Why buy a legacy company with lots of infrastructure when you can build it yourself? You potentially save a lot of money and, in some cases, it’s unclear what value traditional firms bring to the table.

But they do have some value. Disney doesn’t have its tremendous licensing and merchandising and theme parks businesses without some know how. They’ve kept these characters relevant and popular for decades. The question is: do you have to buy that company or buy those people, which is what Netflix is doing? So what tech firms collectively decide will impact the number of deals.

The number of potential partners dwindles.

This is actually the most persuasive reason for me: if everyone keeps consolidating, after a certain point there is no one left to partner with. This would easily impact the number of “mega-deals”. That said, we have a bit to go until we have complete consolidation, especially counting vertical mergers.

The market turns against conglomerates.

When I built a table to help me analyze M&A activity (collecting the data myself), I had to come up with a term for the big six movie studios. Honestly, “movie studio” sells it short and “conglomerate” makes more sense. It’s the best way to describe a company with television networks, a movie studio, TV production, gaming, theme parks and whatever else the “big 6” studios own.

Yet, in the 1980s, it meant companies like General Electric, which bought broadcast networks and made everything from industrial equipment to microwaves to Cheers. Then the market turned against conglomerates because most of the time big companies didn’t run all their different business units that well, and the market assumed that splitting conglomerates into their individual pieces would have better value.

Tech firms defy this logic. Maybe it is because the wise leadership of Jobs/Cook, Bezos, Zuckerberg, Hastings/Sarandos and Brin/Page truly does turn everything they touch to management gold. Or, they have such huge valuations being “tech” that they can enter any industry and it doesn’t matter. I’m not saying they won’t continue to be valued incredibly highly, but this state of affairs could end sooner then you think.

The political winds change

I want to put this out on Twitter, but wouldn’t the best political campaign for Democrats in the fall be to micro-target cities that have seen huge cable bill increases post-Comcast merger and post DirecTV merger? Just hit Republicans on the issue like this:

Republicans like Mitch McConnell and Donald Trump (and his lackey Ajit Pai) want to increase you cable bill to make their billionaire friends rich.

I’m not a pollster, so I don’t know. But does anything make people more angry than cable bills? Democrats use this! Either way, if a Democrat takes power in 2020, they could restart FCC scrutiny on issues related to anti-trust and merger scrutiny. It might slow the rate of mergers, but like Obama probably not stop it altogether.

We still don’t have a prediction yet

And yet we have 2,800 words on top of the words yesterday. But now that we have the explanations, on Monday, we can dig deeper into the numbers, beyond what the top line data said from Tuesday’s post.

 

Debunking the M&A Tidal Wave – Part I: Setting the Terms

After the Justice Department lost their anti-trust lawsuit against AT&T–which allowed the merger with Time Warner to go through–a consensus emerged in the entertainment press that I would summarize like this:

“The approval of this merger will start a wave of acquisitions and mergers in entertainment.”

This isn’t a straw man argument: I saw this in the Hollywood Reporter, Variety, The Washington Post, Deadline and Bloomberg. (And probably more I just didn’t capture in link form.)

Natural skeptic that I am, in my initial reaction that week I wondered, is this true?

And if we’re asking if it’s true—and we don’t know because it will take place in the future—that means it’s a prediction. And if you agree with the above sentiment—meaning you find it true—you’re predicting the future too.

Predicting the future is hard.

Let’s play a game. It’s the prediction game. Many writers made the prediction above. Many analysts echoed those in stock price moves or recommendations. And you likely agree with it. So answer this: If mergers and acquisitions are increasing, what do you think the percentage increase in mergers and acquisitions in entertainment will be in 2018? 2019? For the next five years?

Write it down if you can. Or lock it in your head. We’ll return to it at the end.

Once I started thinking about this question, I started scouring the internet for data on M&A activity. Then I started writing. Then the article kept going. And going. All of which is to say, I’m going to dive deep into this topic and hopefully return over time. The merger of AT&T and Warner Media Group is probably the first or second most important news story of the year, so we should understand it.

Making a prediction about the future is a good way to understand it. However, my prediction will be quantified and written down on this website by Monday. But we have some work to do to get there.

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Disney-Lucasfilm Deal Part VI – Television Revenue

(This is Part VI of a multi-part series answering the question: “How Much Money Did Disney Make on the Lucasfilm deal?” Previous sections are here:

Part I: Introduction & “The Time Value of Money Explained”
Appendix: Feature Film Finances Explained!
Part II: Star Wars Movie Revenue So Far
Part III: The Economics of Blockbusters
Part IV: Movie Revenue – Modeling the Scenarios
Part V: The Analysis! Performance, Implications, and Cautions)

So film is dead. TV reigns supreme. We know this.

Except, it’s not?

I mean, we just calculated that Disney made back 63% of their initial investment on Star Wars with four movies, and has many more in the future. At its peak, nothing can challenge the feature film.

Though some gigantic TV shows have come close. Game of Thrones is a juggernaut in ratings, home entertainment purchases and merchandise sales. The top TV shows can command sales figures in the billions of dollars years after their initial broadcast. I’m thinking of Friends or Seinfeld. And not just in America, but overseas, like The Simpsons, which travels well because it is animated.

Of course, now seems like the time to mention that the future of TV isn’t in international sales, but streaming. (That’s semi-sarcastic.) Streaming will play a key role in Disney’s future and, as Disney CEO Bob Iger has put out, new Star Wars series will be a centerpiece of that.

So let’s value two more pillars of Disney’s empire today: adult and children’s television.

TV – Adult

Being frank, this is much more complicated than calculating projected revenue for films. With movies, we know how well they did at the box office and roughly in home entertainment, so we can assume a lot of the other windows. We can also use box office data sets to gauge ranges of outcomes.

We don’t have that luxury with TV anymore. Subscription services like Netflix, Amazon, HBO and Hulu can hide online ratings. They don’t release the costs of the shows. Other windows are more complex than film: Netflix won’t release in DVD if it doesn’t have to, Amazon hasn’t decided, and HBO will release its shows on DVD, merchandise and even sell to other networks. Even Nielsen data is available, but expensive. (I don’t have it since I’m not in a corporate setting.)

I don’t know what Disney will decide, which makes calculating the value for television series so difficult. Given the variability in the rest of the model, I’ve had to make some simplifying assumptions.

To start, how many series will Disney make? I’m going to assume that since Disney has said they are working on a “few TV series” this will mean three series released per year from 2019 (when the service launches) to 2021. And we’ll give each a three year run. Likely, some will do better, some will do worse. (Better meaning 5+ seasons, worse meaning one season. In between is 3 seasons.) Since they’ll keep making TV series, my model has two new series premiering after that through 2028.

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The Economics Behind Not Making More “A Star Wars Story” Films

I love Han Solo.

To put out my Star Wars bonafides—as if proving I’m a hardcore nerd makes me cooler—I’m the type of Star Wars fan who read the both the Han Solo trilogies, one from the 1980s and the other from the 1990s. Don’t believe me? Here’s my collection of just Han Solo books dating from again 1980 to 2015:

IMG_3549

So it isn’t a coincidence that I chose the Disney-Lucasfilm acquisition for my first “analysis article”. And it’s partly why I can’t stop writing about the disappointment of Solo: A Star Wars Story at the box office. As a hardcore Han Solo fan who loves the business of entertainment, sort of combines two loves into a just overall intriguing topic.

Today’s article is a response—in as near real time as I get—to the Star Wars issue of the day: the future of Lucasfilm’ business slate. First, Collider revealed that Lucasfilm was putting spinoff films on hold. Then The Hollywood Reporter clarified that Lucasfilm was just being careful with future development. Then other outlets jumped in to comment or repeat the news.

I’m not a traditional journalist so I don’t have those inside sources. But I do have expertise in the business ramifications of these decisions. And having spent the last four months analyzing all of Lucasfilm’s finances, I have a complicated model on how their movies perform. This model will allow me to answer some questions about why Disney is slowing the pace of production for Star Wars.

Questions sound like a good way to go. So I’m going to set this up as a fictional Q&A:

Question: Can you explain in one chart why Disney/Lucasfilm are slowing development?

Sure. Here’s the “hockey stick” shape of box office performance from my article on the economics of blockbustersslide-17-e1529621369496.jpgThe take away is pretty simple: the spin-off movies are doing about half as well as the “episode” films. If you look at this chart, you’re tempted to say, “Hey, we should just make Episode films only, and not make spin-offs.”

Question: Do you buy this explanation?

Not really. We’re in the realm of small sample sizes. Five movies, to be exact. So just assuming that calling something an “Episode” film will make it perform better doesn’t make sense. We need a deeper explanation of the underlying forces.

Question: What are the underlying forces?

Well, as tried to model, the “economics of franchise blockbusters”. I created a comparable films data set of 75 films, but then trimmed it down to answer specific questions. I modified it in four different ways: Star Wars films since the beginning, Star Wars films since 1999, all blockbuster franchises since 2008 and finally any franchises that showed “fatigue” since 2008. Again, I used adjusted US gross to even these out. Here are those four categories:Slide 28The takeaways of this are that Star Wars does really well. In just the films since 1999, 43% have been “super-hits” (over $700 million in US adjusted box office). But franchises that start to show fatigue, didn’t have any super-hits. So we can see that keeping box office performance strong can have a tremendous upside.

Question: Can we quantify what the upside is?

Yeah, I can. Here’s the financial models I made for my “comparables” each level:Slide 23As you can see, a super-hit isn’t worth just a bit more, it’s worth over four times as much as just a “median” blockbuster hit. (And flops cost you $40 million or so dollars.) In other words, you can attempt nearly 20 franchise blockbusters to try to get a hit.

(One note, the comparable numbers are lifetime numbers. In my model I condensed revenue to a four year period, but the point is Disney, with the blockbuster that is The Force Awakens will make money off of it for decades with resales, DVD sales, or putting it on its own SVOD platform. My numbers seem high, but for a film with a huge box office you make money off of it for years.)

Question: So can we combine the performance and comparables models?

Absolutely, and we get the “expected value” per film. In other words, if you make a franchise blockbuster, what is the expected value? Here is the a combination of the two charts, with the expected value.Slide 38Calculating “expected value” is easy, just multiply the probability of the various performance by the net profit. Once you do that, you see that if Star Wars can sustain at it’s historic level, it’s worth $731 million per film, whereas if it decays into franchise fatigue, that’s only $284 million per film.

(Side Question: Does this expected value apply to all blockbusters?

No! My franchise blockbusters are films in an already established franchise. Attempts at new franchises (which is what most blockbusters are nowadays) can differ in two ways. First, when they lose money, it isn’t just $40 million dollars. Even Solo had a gross of $375 million. And it is lumped in for sales with other Star Wars films. Flops like John Carter from Mars or The Lone Ranger can be in more of the $280 million dollar range. I was going to put The Mummy from last year in this, but it still did $400 million in total box office globally, with only $80 million in the U.S.

The other factor is the new blockbusters have a naturally lower hit rate then established franchises. These two factors make blockbusters riskier than established franchises, but less risky then lower budget films. This table is why, though, I said that Legendary could be doing “moneyball” with movies. They have seen this math, so their key was getting enough capital (billions) to back large movies like this to see the return. Back to the questions.)

Question: So Lucasfilm can’t lose money on these movies? Is that what you’re saying?

In the aggregate, yes. If you make enough films, and your movies perform according to the historical pattern, yes you won’t lose money. Of course, once “franchise fatigue” sets in, a film studio will chose not to keep making as many movies. And if it were on a true, sustained downward trajectory, then the value could drop further. Moreover, all these expected values are just one input into a model with a lot of uncertainty. If you deliberately made a lot of bad movies, yeah Lucasfilm could figure out how to lose money.

Question: So knowing this, how many Star Wars films should Disney make?

To answer that, I really need to go back to my model. (I explained how I got these numbers here, here or here.) To figure out how much money Disney will make on Lucasfilm, I needed to model the expected value over the next ten years. This needed to account for different production issues and different box office performance. Put it all together and I got 8 scenarios. This chart is new, though, and only calculates what Disney could make on Lucasfilm movies over the next ten years, discounted back to 2018 dollars.

Pic 7.jpegWhy discounting to 2018? Well, we’re looking forward so unlike my analysis that is partially backwards looking, we’re evaluating the value of Lucasfilm into the future. Since 2018 is the year Disney/Lucasfilm has to make the decisions about new films, that’s when we need to time our dollars.

(Question: Does the above chart include Episode 9 or Indiana Jones 5?

No included them in my overall analysis of the deal, but not here since I am assuming Disney is already committed to them. They’re sunk costs so don’t effect the planning for the rest of the future Star Wars films.)

Question: Okay, that’s a lot of numbers, any takeaways?

Yeah, first Disney doesn’t lose money in any scenario going forward. In the one scenario where they could—making a ton of films as fatigue set in—they would pull the plug on that course of action, as they are contemplating right now.

But the biggest takeaway is that sustaining the “Star Wars is Star Wars” scenario is more valuable than any production decisions. Accelerating to “MCU style” definitely has higher up side, but if you can’t hold onto the audience, then you lose 40-66% of the value. Even a troubled production slate (“Issues”) achieves a higher return than going to MCU-style if you can keep “Star Wars is Star Wars” at the box office.

(So if you’re a Star Wars fan who’s disappointed in Disney for making too many Star Wars films, here’s you counter-argument to show to Disney execs. Say, “See, Disney if you make fewer films you can make more money.”)

Question: Do you buy this?

It all hinges on is correlation. Is the number of films causing the franchise fatigue, or is it unrelated? The model I have here shouldn’t be interpreted to say that franchise fatigue is caused by increased film output. I consider these two things independent in the scenarios.

That said, as I wrote in the Solo: A Star Wars Story post, yeah, I do think they are related. There is a reason why only one franchise has been able to release multiple films per year and not decay, and that’s Marvel. (And that reason is Kevin Feige.) Otherwise multiple films in a year or even more than every three years tends to yield a decline at the box office eventually. In short, hardly any film franchises can sustain sky high box office if they release a film every year.

Question: You just said that franchise fatigue is both related and not related to the number of films. So which is it?

The better way to say it is franchise fatigue is related to film quality. To go back to the Marvel example, the films keep being excellent. Dr. Strange is the worst reviewed movie in 18 months, and was still well-received. Before that you’d have to go back to Ant-Man. So when Marvel says we can do more movies and keep them great, then franchise fatigue doesn’t set it.

The last two Star Wars films both had mixed customer or critical reactions. That’s what causes low box office more than anything. Increasing the number of films increases the odds of more bad films, which causes fatigue. Very, very few franchises can keep the quality sustained at a high rate for that long, besides Marvel (and again Kevin Feige).

Question: Any other concerns with the model?

Well, the “Star Wars is Star Wars” version is a very small data set. Only 10 films so far. And it is a franchise that is unique in that there were two large gaps between initial films and the prequels (15 years) and the new films (10 years). This built up massive enthusiasm. This is why I don’t model another hit the size of The Force Awakens. I think Disney knows meteoric hits are rare, and as dependent on quality as they ever were.

Question: So after all that, why is Disney making this decision from a business perspective?

Disney is slowing to one film per year, roughly, to keep the quality high. It will also avoid risking bad films and hence franchise fatigue. At the same time, decreasing below that rate leaves money on the table, as our expected value chart and scenarios show. So expect Disney to keep one film per year.

Question: Do you have any other concerns?

Well, the worries about fatigue will only amplify is Lucasfilm releases one or multiple TV series aimed at adults on Disney’s new streaming platform. Even dialing back the movie releases won’t mean Star Wars isn’t in the culture. If the TV series aren’t good or the marketing machines over hype the new series, cutting back on the number of films may not matter.

Also, the TV shows bring up another issue I haven’t really addressed yet, which is the other lines of business. Keeping Star Wars relevant impacts the toy sales, the streaming service, the kids TV and the theme parks. That’s another reason to focus on quality movies.

Question: What is the biggest assumption in this analysis?

The big assumption, and I assume Disney believes this to be true, is that development executives at Lucasfilm can indeed improve quality by slowing down production. Of course, that assumes that development execs are skilled at development and can indeed make better movies, they just might have been spread to thin.

I actually don’t believe this. Assuming that you can simply make better films with the executives you have by trying harder…isn’t really a data-based position. I have a ton of thoughts on how to improve development—most of which Hollywood doesn’t do—but not enough time in this article. Keep reading this site and I’ll get to it.

Question: Do you have any creative concerns?

I do, but this is me putting on my “development executive” hat.

As I was researching Solo I read that Rian Johnson’s new trilogy due in the 2000s will close out Rey and Finn’s arcs. While critics praised The Last Jedi, they tended to gloss over the larger plot: the Resistance lost. I mean, the Resistance is basically 20 people on a ship and the First Order took over the galaxy. With such a deep hole, and knowing that Rian Johnson is making three more films to close out the story, the key question for Episode 9 is this:

Will the good guys win?

If they don’t, and it ends on another “cliffhanger” a la Empire Strikes Back, I think you could see another negative fan reaction. Or at least, it will have to be a pyrrhic victory, where the good guys win, but the First Order is still in charge.The fans want closure to this arc; if they don’t get that, it could impact future box office. This is one of those creative decisions that could impact the business, but is super hard to model.

 

Question: Fine, just for fun, what would you do if you were Lucasfilm?

Make a Tales of Mos Eisley TV show. It’s still in the core world, but exploring possibly the best short story collection in the larger Star Wars universe. Which is to say, spinoffs shouldn’t be dead quite yet.