Disney Will Rue Its Merger With Fox
(Bloomberg View) -- So the rumblings were right: the Walt Disney Company is going to buy most of 21st Century Fox for $52.4 billion, just the latest megamerger in the rapidly consolidating media business. Disney is going to get Fox's movie studio, its 39-percent stake in the European satellite company Sky, its cable networks like FX and National Geographic, its regional sports channels and a majority ownership in the streaming service Hulu.
In the days before the deal was announced on Thursday, most of the analysis was practically euphoric. Daniel Ives, the head of technology research at the consulting firm GBH Insights, described it to clients as a "home run" that would create "a much more formidable Disney on both the content and streaming front for years to come." The New York Times said it "would supercharge Disney's global streaming-service ambitions, threaten to undercut Silicon Valley's entertainment aspirations and most likely prompt further consolidation in Hollywood." And Paul Sweeney, the U.S. director of research and senior media/internet analyst for Bloomberg Intelligence, said it would be "the defining legacy deal" for Disney's chief executive, Robert Iger. Indeed, Iger again extended his contract, this time to 2021, to oversee the ultimate deployment of the Fox assets.
I hate to be the skunk at the garden party, but Iger better hope this deal isn't his legacy. If it is, I fear he'll be remembered as this decade's Gerald Levin, the former chief executive of Time Warner who merged his company in 2000 with the wrong partner (AOL) at the wrong time (two months before the internet bubble burst), and orchestrated one of the worst deals in history.
Disney is characterizing the Fox purchase primarily as a way to combat Netflix. The idea is that when you gather Disney and Pixar movies, along with Fox shows like The Simpsons and Fox-produced shows like Homeland, and put them all on one streaming app, you’ll have a powerhouse that can go toe-to-toe with Netflix as well as Amazon.
I’m skeptical. First, Netflix and Amazon have what used to be called first-mover advantage; they have such a head start, both in terms of buzz-generating content and superb technology, that Disney is going to be hard-pressed to catch up. Second, most of what Disney is buying is tied to the cable bundle, which Disney has been loath to abandon.
"Buying Fox and Sky cements Disney in the past," says BTIG analyst Rich Greenfield, “because it adds networks that are tied to the legacy ecosystem.” For instance, one of Disney's tried-and-true strategies has been to sell all of its networks—ESPN, ABC and Disney—as a package in negotiating with cable distributors. That has given it tremendous pricing power as these are all key components of popular cable bundles. In the short term, adding Fox networks like FX will only add to that pricing power, and will probably help Disney’s earnings.
But over the long haul, as subscribers continue to abandon cable TV, having all those networks is more likely to become an albatross.
The part of the Disney/Fox merger that makes the most business sense is combining the two companies' movie studios. Such a consolidation will save money (indeed, Disney doesn't even want Fox's studio lot), give Disney control of a tremendous library of 21st Century Fox movies, and add to Disney’s clout with movie theaters.
Perhaps too much clout, though: Disney and Fox together now control 40 percent of the movie business, and one has to wonder whether the Justice Department's antitrust department will insist that the companies divest some of their movie assets to reduce their power over the theaters. Given the government's current opposition to the proposed AT&T-Time Warner merger, I suspect that the answer is yes. Which of course would negate the point of the deal, at least in terms of the movie business.
It's the television portion of the merger that really makes me wonder what Disney is thinking. Let's consider first Disney's current streaming strategy. With subscribers fleeing from its former cash cow, ESPN, it has announced that next spring it will offer a streaming version of the sports network to people who don't have a cable subscription. It's also going to take back all the movie and TV content it currently licenses to Netflix and put it on its own Disney streaming service, which is expected to start up in 2019. It will charge a monthly fee for each service.
But there is a catch, and it's a fatal one: it's not planning to stream any content that is on the existing cable channels. With the new Disney streaming app, that probably won’t matter all that much. Parents especially will probably subscribe to a Disney streaming service that includes Disney and Pixar movies. But will it put “The Americans” on that app if it is still on television? Or any of the FX shows? If the answer is no, then the popularity of the new Disney app will be limited.
As for the upcoming ESPN app, I'm trying to imagine the caliber of games and other sports content it will show if it can’t overlap with anything ESPN is offering on cable television. Colgate-Bucknell basketball instead of Monday Night Football? Texas Tech-Mississippi volleyball instead of Atlantic Coast Conference basketball? How many sports fans would subscribe?
The big problem is that Iger is trying to do two conflicting things at once. He is trying to have Disney become a force in streaming while still trying to extract as much revenue as possible from the cable bundle that was once so good to his company. The deal with Fox won't change that dynamic at all. The Fox cable channel FX, for instance, currently requires users of its app to have a cable subscription. If that doesn’t change, as appears likely, Disney will lose cord-cutters just as it is currently losing ESPN subscribers.
As for Hulu, it is unclear what Disney would be able to do with it without the consent of Comcast, which will still own 30 percent of the service. And in any case, it is hard to envision what it might do with Hulu that would in any way harm Netflix.
The point is, the cable bundle is doomed. It may take awhile to disappear, but the day is coming when the vast majority of TV viewers will get their content streamed. Disney has great content. There is no doubt that it could be used to let Disney compete with the likes of Netflix. But for that to happen, Iger has to stop worrying about short-term earnings and Disney's stock price—and take the plunge. As Greenfield put it in one of his notes to clients:
Rather than continue their aggressive share repurchase of $6-$8 billion per year, why not stop buying back stock and meaningfully ramp investment in content to launch over-the-top, direct-to-consumer services?... If Iger was truly a great CEO, we believe he would stop worrying about what investors think and make the tough decision to invest in content and launch a robust direct-to-consumer offering that includes new content and all of the existing legacy content from their broadcast/cable networks no matter how much pain that causes in the short term.
To put it another way, if Iger truly were looking to the future, the last thing he'd be spending Disney's money on would be Fox. Wrong deal, wrong time.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Joe Nocera is a Bloomberg View columnist. He has written business columns for Esquire, GQ and the New York Times, and is the former editorial director of Fortune. He is the co-author of "Indentured: The Inside Story of the Rebellion Against the NCAA."
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