Media Companies: Use It or Merge It

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 |  Includes: AAPL, CBS, CHTR, CHTRQ, DIS, DISH, GE, GOOG, IAC, MNI, NFLX, NWS, T, TIVO, VIA
by: Diane Mermigas

Many media brands will fade as liquidity and deals begin flowing in an economic recovery and companies strengthen their value proposition though consolidation or integration of strategic businesses.

That means some powerful stand-alone brands -- from CBS and AOL (NYSE:TWX) to Twitter, Netflix (NASDAQ:NFLX) and TiVo (NASDAQ:TIVO) -- could become critical cogs in rebuilding larger media players for a digital future. And dozens of thriving media brands with declining profits are fodder for buyouts. At some point, such technology-driven brands will benefit from a broader corporate base of funding, support services and applications from bigger players seeking ways to adapt or die.

It's not difficult to imagine most of CBS Corp. (including the CBS broadcast network) being folded into the cable and online portfolio of Viacom (NASDAQ:VIA), Yahoo (NASDAQ:YHOO) integrating AOL, or either a Hollywood studio consortium or cable operator buying Netflix for a quick interactive fix. On the slowly reviving deal front, reports are swirling about Time Warner Cable's (TWC) interest in acquiring Joost, Google's (NASDAQ:GOOG) interest in Twitter, and the ultimate collapse of Sirius Satellite Radio.

At some point, the long-standing speculation of unions between Home Shopping Network and QVC or a DirecTV and EchoStar will be fulfilled in response to strained economics. Greater than any other deal catalyst is media companies scrambling to employ new technology or capitalize on existing ones to avoid financial disaster and strengthen their competitive edge.

The liquidity, debt covenant and other financial problems plaguing companies will force them into M&A action. Regional sections of bankrupt Charter Communications (OTC:CHTRQ) could be absorbed by bigger cable operators. McClatchy (NYSE:MNI) and other rapidly failing broadcast-newspaper publishers are likely to be partly absorbed by rivals that have a better handle on digital transformation of their community-based legacy assets. Distressed sales, especially in the troubled newspaper and television sectors, will continue to see the collapse of too many timeworn brands.

Still other major media brands -- from TV Guide to Playboy to Newsweek -- may simply fade from view in a contracting, highly competitive marketplace as their business models and focus become obsolete. Even the mighty CBS, suffering the pains of being a pure-play, ad-dependent media player, may have little choice but to convert its branded content (including the CBS TV network) to cable and Internet-only. A strained broadcast marketplace can no longer support four major TV networks or more than two solid TV stations per market.

The must-have functionality of Netflix and TiVo could be more efficiently and effectively utilized in the larger corporate mechanism of Amazon or cable operators. The new generation of social networks led by MySpace (NASDAQ:NWS), Facebook and Twitter -- that Nielsen says now outstrips Web-based email -- are about to embark on a race to build their own network of niche brands and content sites, such as Engadget and Autoblog.

Yahoo already is re-embracing the notion that it must spin portions of itself into strategic partnerships and sales -- a la its resumed talks with Microsoft. A post-Murdoch News Corp. will go the way of Time Warner in breaking itself up into more manageable focused businesses, while Time Warner may yet acquire NBC Universal if it can cough up the cash needed by parent General Electric (NYSE:GE).

For all that is painful about the Great Recession, it presents a chance to refashion companies for an evolving digital arena defined by mobile interactivity and monetizable applications. Even the devices and platforms that have responded to and been shaped by consumer behavior are destined to become part of an M&A revival. Barclays Capital analysts predict that vertically integrated Smartphone and Netbooks models from Apple (NASDAQ:AAPL), RIM (RIMM), Nokia (NYSE:NOK) and Palm (PALM) -- as well as third-parties Google and Microsoft (NASDAQ:MSFT) -- will challenge each other for leadership of "the ultra mobile paradigm." Apple is one of the few companies positioned to do it all by converging its iPods, iPhones, Macs and other new products into a converged ultra-portable tablet -- a $600 "Netbook" that could come to market later this year.

On the other hand, longtime software leader Microsoft Windows has the most to lose from a shift in computing paradigm that moves consumers closer to a three-screen strategy of accessing data across PC, TV and mobile devices. Just as intriguing is whether Google, Yahoo or others will facilitate Mobile Internet powered less by advertising (expected to reach $3.3 billion by 2013, or 11% of total online ad spending) and more by an ecosystem of applications similar to the current desktop experiences, Barclay Capital analysts say.

That foundation rocking development over the next several years will surely send every kind of media player scurrying for alliances, acquisitions and cover as the deal vortex reappears along with the liquidity that has been hiding under a cloud of uncertainty. The unceasing innovation and demand will find new ways to put existing companies to good use -- as soon as they come to grips with resetting historic valuations.

The dance already has begun.

Online media and technology was the most active sector for first-quarter M&A, with 43 transactions accounting for 33% of total announced deals, according to Jordan Edmiston Group. Walt Disney (NYSE:DIS) acquired consumer online media companies to expand their digital offerings; IAC (IACI) spun off online assets such as Match.com. However, many of the transactions were last resorts for companies that could not continue independently, accounting for an 87% drop in deal value from a year earlier. That trend, along with a pent-up demand to cash out of or to take startups to the next level, will continue to drive transactions. It's one way of looking at the upside to the downside.

Disclosure: no positions