Value Of A Possible DirecTV And Dish Network Merger

Mar.31.14 | About: DISH Network (DISH)

Summary

There have been reports that Dish Network has approached DirecTV about a possible merger.

Consolidation seems to be in vogue in the cable TV industry as Comcast attempts to acquire Time-Warner.

If a merger were to occur between Dish Network and DirecTV, it would likely be valuable for both companies from an investor standpoint.

Bloomberg reported that Dish Network's (NASDAQ:DISH) Chairman, Charles Ergan, contacted DirecTV's (DTV) CEO Michael White to discuss merging the two satellite television providers. This would not be the first attempt to merge the two companies. Federal regulators blocked a proposed merger between the two companies back in 2002. However, it is not clear whether a similar decision would be made by regulators. It is also not clear whether both companies wish to pursue a merger.

Comcast's (NASDAQ:CMCSA) recent proposal to acquire Time Warner (NYSE:TWX) will go to a hearing in front of a Senate Judiciary Committee on April 9. Comcast is already the largest cable provider in the U.S. without the merger. Time Warner is the second largest, so combining the two raises antitrust issues. The approval would be made by the Justice Department, the antitrust regulator, and the Federal Communications Commission. It's likely that Dish Network and DirecTV would face a similar review since the companies are the primary satellite TV providers in the U.S.

If Dish Network and DirecTV were able to merge, it would likely create value for current and future shareholders. It is also possible that it could create value for customers as well. The companies could offer the best of their services at a discount to standard cable prices. Shareholders would benefit from the synergies provided by the merger and the elimination of satellite competition.

The possible merger of Dish Network and DirecTV would be worth an approximate $48 billion in revenue for 2014 or about $50 billion in 2015. This comes from the combined revenue estimates for both companies for this year and next year. DirecTV's 20 million customers would combine with Dish Network's 14 million for a total of 34 million customers. Interestingly, this would amount to more total customers than the 30 million combined customers of the proposed Comcast - Time Warner merger. That would be after Comcast divests 3 million customers as part of its agreement if the Time Warner merger were approved.

The combined annual operating cash flow from a possible DISH and DTV merger would be over $8.7 billion. For the past twelve months, DirecTV produced $6.4 billion in operating cash flow, while Dish Network produced $2.3 billion. Neither company currently pays a dividend, so a merger could increase the chances of a future dividend payment from the increased total cash flow. Offering a dividend would also make the stock more competitive with Comcast who currently has a 1.8% yield.

Currently, DirecTV is valued much more attractively than Dish Network. Here are some of the key valuation metrics:

DirecTV

Dish Network

Trailing PE

14.7

35

Forward PE

11

32

PEG

1.29

2.12

Price to Sales

1.2

2.02

Price to Book

N/A

28.7

EV/EBITDA

7.05

11.06

Click to enlarge

DirecTV is valued more attractively on each valuation metric except for price to book. Currently, Direct TV has $28 billion in total liabilities and $22 billion in total assets. This gives it a negative book value. The merger could be one way to help shore up the balance sheet. Dish Network has a more attractive balance sheet with $20 billion in total assets and $19 billion in total liabilities. Dish Network also looks more attractive in terms of short-term obligations. Dish Network has 2.7 times more current assets than current liabilities, while Direct TV has slightly more current liabilities than current assets. The merger could allow the companies to eliminate unnecessary liabilities and maximize assets.

The possible merger could also create value for customers. For example, Dish Network customers could have access to DirecTV's NFL Sunday Ticket in the event of a merger. However, such decisions would be up to management if the merger was approved. It is also possible that DirecTV and Dish Network would still operate their services separately under one corporation, but we don't know what would be decided. Dish Network's monthly bills are about $10 - $15 below those of DirecTV, so DISH customers would probably not want to have higher monthly bills as a result of the merger. Making extra services available for a similar price would provide value for customers.

Conclusion

It's not clear whether DirecTV and Dish Network mutually desire to be merged or if a merger will be approved by regulators. One thing that does look likely is if the merger were to take place, investors would likely benefit from the resulting increase in total market share. The thought of having more customers than a possible combination of Comcast and Time Warner is definitely appealing.

Regardless of whether a merger happens or not, DirecTV appears to be the better value and a solid investment for the future. The stock is also owned by Warren Buffett's Berkshire Hathaway [(NYSE:BRK.A), (NYSE:BRK.B)]. DirecTV is undervalued as compared to the average S&P 500 company and to its closest competitor. The company is expected to grow earnings annually at about 10% for the next five years. This combination of undervaluation and 10% annual earnings growth should allow the stock to edge higher than the market over the next few years.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.