Warner Bros. Discovery and Paramount: Suggested Merger Makes Sense, but Timing Would Be Surprising

The Wall Street Journal reported that Paramount PSKY is preparing a cash bid to acquire Warner Bros. Discovery WBD, though it did not say for how much. Surprisingly, the bid would reportedly include the declining global networks business from which Warner is preparing to separate.

Why it matters: Consumer options for streaming consumption and subscriptions need to consolidate; streaming is critical for legacy media firms’ futures; and neither firm is currently among the top three streaming providers, so a combination of their streaming services should greatly help both.

Effectively controlled by the Ellison family, Paramount has no trouble accessing capital. However, the company itself is not situated to make a cash offer in excess of Warner’s $32 billion unaffected market cap. Warner also has $30 billion in net debt and a net debt/EBITDA ratio of 3.3. Paramount’s enterprise value is half the size of Warner’s, and we estimate it still carries a net debt/EBITDA ratio near 4.0 following its combination last month with Skydance.

The bottom line: Apart from savings on duplicative costs, the main reason we think this merger makes sense is that it takes a step toward uncovering the underappreciated value within each firm by reducing the number of streaming platforms. We are maintaining our $20 fair value estimate for each.

Our fair value estimates are already dependent on an evolving streaming industry. A fragmented industry based mostly on a la carte offerings and separate platforms cannot prove lucrative for many companies. The complete integration of these two would position them very well in the eyes of consumers. Our no-moat ratings on both firms are due to their reliance on the dying traditional linear television business. Both firms still get about half their revenue from linear TV, which will continue to be a headwind to results but is more than accounted for at current valuation levels, in our view.