DISCA/DISCK - Discovery Communications

[wabuffo]

Did I miscalculate anything above? 

Yes - you are forgetting to include (and convert to common), the Series A-1 preferreds (to A-shares) and the Series C-1 preferreds to C-shares.  These came with the Scripps merger.

I haven't looked at it in awhile but those conversions add 160-165m additional common shares.

wabuffo

 

 

[peridotcapital]

proforma share count will be around 2.26 billion.

[LearningMachine]

19 minutes ago, ander said:

There's preferred stock which is an additional 165 mil shares or so.

Thanks @ander and @wabuffo for catching that :-).  I found the figures for those as of March 31, 2021, and also found share-based awards listed next to it at https://s27.q4cdn.com/187472364/files/doc_financials/2021/q1/DISCA-2021.3.31-10Q-Filed-version.pdf

So, now, if we believe their numbers, we go from $22.14B to $28.42B, that is 28% over 2+ years, i.e. about 13% CAGR if reached within 2 years. 

Are their incentives currently to overpromise or underpromise?  Is it fair to say the incentives are probably towards overpromising to have both shareholders be excited about the deal, and to have a high valued currency available for stock awards and any acquisitions down the road? 

Edited May 17, 2021 by LearningMachine

[dcollon]

LearningMachine, 

You should go back and look at whether they have over-promised or under-promised in the past (I would look at the management that will be running the company going forward).  There is plenty of historical data to provide you a picture of what might happen in the future.  

[wabuffo]

So, now, if we believe their numbers, we go from $22.14B to $28.42B, that is 28% over 2+ years, i.e. about 13% CAGR if reached within 2 years. 

I think we will have to wait a bit until Discovery publishes their def. proxy on the deal (where we will get better and more detailed pro-forma numbers than what T provided today).  

But Malone/Maffei/Zaslav said that they will use the combined company cash flows in 2022 and 2023 (~11b per year) to get their debt down to 3 turns of adj. EBITDA.   So I would use that.   IOW,  $14b 2023 adj EBITDA x 3 = $42b (instead of the $58b of debt) in your Equity Value calculation.  

This is a well-established playbook the "Cable Cowboys" followed in the Discovery-Scripps merger as they stopped buybacks (which initially punished the stock).   Then the question becomes what will they do after 2023.  My guess is they will begin an aggressive buyback program (which I'm sure T won't object to as it means they will be sellers into it). 

Finally these guys are deal junkies.  Almost certainly, they will be looking at the landscape in 2024-25 and looking at whether Discovery will be a buyer or a seller at that point.

wabuffo

Edited May 17, 2021 by wabuffo

[LearningMachine]

3 minutes ago, wabuffo said:

So, now, if we believe their numbers, we go from $22.14B to $28.42B, that is 28% over 2+ years, i.e. about 13% CAGR if reached within 2 years. 

I think we will have to wait a bit until Discovery publishes their def. proxy on the deal (where we will get better and more detailed pro-forma numbers than what T provided today).  

But Malone/Maffei/Zaslav said that they will use the combined company cash flows in 2022 and 2023 (~11b per year) to get their debt down to 3 turns of adj. EBITDA.   So I would use that.   IOW,  $14b 2023 adj EBITDA x 3 = $42b (instead of the $58b of debt) in your Equity Value calculation.  

This is a well-established playbook the "Cable Cowboys" followed in the Discovery-Scripps merger as they stopped buybacks (which initially punished the stock).   Then the question becomes what will they do after 2023.  My guess is they will begin an aggressive buyback program (which I'm sure T won't object to as it means they will be sellers into it). 

Finally these guys are deal junkies.  Almost certainly, they will be looking at the landscape in 2024-25 and looking at whether Discovery will be a buyer or a seller at that point.

wabuffo

Thanks @wabuffo.  

I did use $42B debt to arrive at $28.42B equity owned by Discovery Shareholders at 2023E above:

• If we believe their numbers of 2023E adjusted EBITDA of $14B (which assumes synergies), Enterprise value then at 10x EBITDA would be $140B at 2023E.
• If we believe their numbers of 3x EBITDA Debt, Debt then would be $42B.
• Total Equity then would be $98B.
• 29% owned by Discovery shareholders would be $28.42B

Did I miss something here too?

[wabuffo]

Did I miss something here too?

Nope - I think you got it. 

wabuffo

[LearningMachine]

42 minutes ago, dcollon said:

LearningMachine, 

You should go back and look at whether they have over-promised or under-promised in the past (I would look at the management that will be running the company going forward).  There is plenty of historical data to provide you a picture of what might happen in the future.  

Thanks @dcollon, will do.  I used to follow Malone in general and still a big fan of him from financial engineering & strategy perspective, but have also seen him do things that are sometimes beneficial to him or beneficial to his plans, and may not benefit all shareholders equally.

I stayed away from Discovery so far because they didn't have that much market power, e.g. compared to Netflix, Disney, and Verizon.  This merger might change things a little in terms of market power, and so, I want to learn a little more about it. 

Looks like you have a strong opinion here.  Would it be possible to share in the meantime while I ramp up on this? 

 

 

Edited May 17, 2021 by LearningMachine

[vince]

Call me crazy but it looks like today's deal with T and DISC was an excellent way for Malone to set T up for a merger with Chtr.  I think it's pretty obvious that at the very least the subject was discussed during negotiations.  T's operations are now focused on wireless and broadband.  They will use 43 billion to clean up the balance sheet.  And they used creative wording to inform the street that their dividend will be going from a 15 billion dollar payout to roughly 8 billion.  The dividend payout has always been a big issue for Malone when contemplating a merger with telecom and this latest move goes a long way in removing that obstacle. 

[LearningMachine]

21 minutes ago, vince said:

Call me crazy but it looks like today's deal with T and DISC was an excellent way for Malone to set T up for a merger with Chtr.  I think it's pretty obvious that at the very least the subject was discussed during negotiations.  T's operations are now focused on wireless and broadband.  They will use 43 billion to clean up the balance sheet.  And they used creative wording to inform the street that their dividend will be going from a 15 billion dollar payout to roughly 8 billion.  The dividend payout has always been a big issue for Malone when contemplating a merger with telecom and this latest move goes a long way in removing that obstacle. 

Is it possible that T is just getting ready to pay a high price for spectrum auctions later this year that it needs for 5G.  This deal and setting expectations on dividend will allow T to take on more debt, pay interest on that debt and have cashflow available to be able to build out the 5G infrastructure?

Edited May 17, 2021 by LearningMachine

[hasilp89]

Yeah shares out I see is 659m. At today’s open of $37 would have been around $24b.

[LearningMachine]

"Upon close, which we expect in mid-2022"

So much could happen in one year :-).

 

What do folks think is the chance of regulators trying to stop it?  Very low?

Edited May 18, 2021 by LearningMachine

[vince]

LM, yes I think there is a good chance what you say is true.  I didn't mean to suggest it was certain that Malone and T were setting things up for a merger.  It just looks like many pieces have fallen into place.  

[Xerxes]

The two founder-analysts from MoffettNathanson said best this morning on Bloomberg. This is complete capitulation by AT&T on its strategy with Warner's assets. Jim Cramer on CNBC had run at them. And he is not wrong here.

But The Economist said it best 4 years ago when AT&T first acquired it: "For Mr Bewkes that will be a poignant moment. A creative powerhouse will pass into the hands of a regulated monolith that lays copper in the ground and has a quarter of a million staff, none of whom gets paid to discuss plot twists and dolly shots."

Time Warner’s boss is the anti-mogul | The Economist 

 -----------------------------

The damage that AT&T has done in the past 4 years to the creative side of the business cannot be ignored, with all flattening of organization structure and force-merging and culture clashes. If i recall, the gentleman who use to run HBO, and made the call on making Game of Thrones with all the risks that it had at the time, left or was forced out. I believe he works now for Apple TV , probably overseeing Asimov' Foundation Trilogy. 

[Spekulatius]

ATT is basically GM before 2008, except they are in a much better industry, so they die much slower.

 

I also think that HBO would be much better off on their own $T should have spun them off to existing shareholder, imo. DISCA has been a very poor performer over the last decade and now putting low end content with premium content together and make it work? I am sceptical.

Edited May 19, 2021 by Spekulatius

[Broeb22]

3 hours ago, Spekulatius said:

ATT is basically GM before 2008, except they are in a much better industry, so they die much slower.

 

I also think that HBO would be much better off on their own $T should have spun them off to existing shareholder, imo. DISCA has been a very poor performer over the last decade and now putting low end content with premium content together and make it work? I am sceptical.

If putting low-end and premium content together is the biggest challenge the combined company faces, that's pretty good. They will have millions of OTT customers and a strong growth trajectory to start off with, so they will have time figure this out. I would also note that mixing low-end and premium content is probably not as difficult as you make it seem. New shows on Netflix are increasingly a mix between premium shows and low-budget murder mysteries. These super-channels (Disney+,Netflix, Discovery/Warner) are the new bundle that is replacing the hundreds of cable channels. 

[Jurgis]

4 hours ago, Spekulatius said:

ATT is basically GM before 2008, except they are in a much better industry, so they die much slower.

 

I also think that HBO would be much better off on their own $T should have spun them off to existing shareholder, imo. DISCA has been a very poor performer over the last decade and now putting low end content with premium content together and make it work? I am sceptical.

I pretty much agree with Spekulatius on this. I'd be more positive if HBO+DISCA merged before T gobbled HBO and if the then-HBO people ran the combined company. Now T kicked a bunch of HBO people, so you have a decimated company (HBO) and a moribund company (DISCA) trying to merge/compete/grow. Who is going to run this? Zaslav?

Anecdotally, I don't see an attraction of DISCA content bundled with HBO content. I might not be the target audience though: I have not subbed before and I won't sub going forward. I would be interested in some HBO shows, but I'm a cheap value investor and I won't sub.

Disclosure: I was Malone fanboy. I'm not anymore.

Edited May 19, 2021 by Jurgis

[mwtorock]

These may be set up for further consolidation down the road. The new co will not have multi class shares structure any more as Malone gives up super voting power. Comcast may be interested to be the third streaming giant by acquiring Warner + Discovery.

[CorpRaider]

4 hours ago, Jurgis said:

I pretty much agree with Spekulatius on this. I'd be more positive if HBO+DISCA merged before T gobbled HBO and if the then-HBO people ran the combined company. Now T kicked a bunch of HBO people, so you have a decimated company (HBO) and a moribund company (DISCA) trying to merge/compete/grow. Who is going to run this? Zaslav?

Anecdotally, I don't see an attraction of DISCA content bundled with HBO content. I might not be the target audience though: I have not subbed before and I won't sub going forward. I would be interested in some HBO shows, but I'm a cheap value investor and I won't sub.

Disclosure: I was Malone fanboy. I'm not anymore.

Kevin Mayer has been floated in some reports.  I wonder if Malone is going to put this together with Roberts stuff eventually and let him oversee it (not directly, but you know "for his grand kids").  

They seem to be very chummy, at least in public comments, and in the teaming up to totally punk the phone companies at every turn.  "We are laughing."

 

Edited May 19, 2021 by CorpRaider

[vince]

I think Discovery's content is much more valuable than some are giving them credit for.  Their operating metrics speak for themselves.  Yes their domestic linear subs have been decreasing but that's an industry wide phenomenon which they are overperforming.  But the real attractiveness of Discovery's business is that they are global in a business where global scale is essential.  It takes many years and much investment to develop what Discovery has which is extremely valuable to Warner Media's properties.  It's a brilliant move imo and Disca is worth almost double what it's equity trading for.

[vince]

Maybe I'm just overly optimistic but with the average stock trading north of 20 times earnings and interest rates at 2% a stock trading at 10 times implies a high probability of something seriously wrong.  I see a business that will probably grow revenues north of 10% for quite a few years which will drop down to earnings eventually.  Discovery was already guiding north of 10% for their whole company and they haven't even started their international roll out of Discovery+.  Hbo had over 30% growth in the first quarter.  That doesn't mean these growth rates are necessarily sustainable but it does show business momentum for businesses that have been around for many decades.  Remember, the combined business is trading for a price that implies no growth.  Sure profitability at HBO has taken a hit but that is obviously expected.  If they continue growing, profits will be there.  And this combination just increased the chances for more growth than each company would have achieved separately.  Almost every single time that I have found a decent-good business trading under 10 times current earning power it turned into a successful investment and sometimes really successful.

[LearningMachine]

6 hours ago, vince said:

Maybe I'm just overly optimistic but with the average stock trading north of 20 times earnings and interest rates at 2% a stock trading at 10 times implies a high probability of something seriously wrong.  I see a business that will probably grow revenues north of 10% for quite a few years which will drop down to earnings eventually.  Discovery was already guiding north of 10% for their whole company and they haven't even started their international roll out of Discovery+.  Hbo had over 30% growth in the first quarter.  That doesn't mean these growth rates are necessarily sustainable but it does show business momentum for businesses that have been around for many decades.  Remember, the combined business is trading for a price that implies no growth.  Sure profitability at HBO has taken a hit but that is obviously expected.  If they continue growing, profits will be there.  And this combination just increased the chances for more growth than each company would have achieved separately.  Almost every single time that I have found a decent-good business trading under 10 times current earning power it turned into a successful investment and sometimes really successful.

Hi Vince, would it be possible to share your math on trading under 10x current earning power so that I could compare notes? 

Here is how I am approaching it for the combined entity assuming their adjusted EBITDA numbers are correct:

• Enterprise Value of 10X Adjusted EBITDA of $12B = $120B
• Debt of 5X Adjusted EBITDA of $12B = $60B
• Current total Equity of combined entity = $120B - $60B = $60B
• 29% owned by Discovery Shareholders = $17.4B
• Total DISCK shares assuming all DISCA and DISCB shares will be converted 1:1 to DISCK shares at ZERO premium: 677,312,656
• Current Value per DISCK share = $17.4B/677,312,656 = $25.69

Did I screw up somewhere? :-).

Share type	#shares as of March 31-April 16, 2021
DISCA	168,654,015
DISCB	6,512,378
DISCK	330,146,263
Impact of assumed preferred stock conversion	161,000,000
Dilutive effect of share-based awards	11,000,000
Total Shares	677,312,656

 

 

Also, what do you think about the believability of their revenue growing from current $39B to $52B Revenue by 2023E, that is 33% growth, given the current Revenue split & history as follows:

 

 

Also, what's the deal with low termination fees of $720M for AT&T.  Is AT&T trying to see if someone could offer AT&T a higher price for WarnerMedia plus miniscule termination fee? 

Edited May 20, 2021 by LearningMachine

[CorpRaider]

I think that's Discovery's fee.  Seems like each deal break fee is in proportion to the relative size of the respective enterprise as valued by the parties via the merger.

Edited May 20, 2021 by CorpRaider

[vince]

Roughly 80 billion equity value PF, 8+ billion of free cash flow.  I believe what they say because Malone's entity's overperform  their synergy estimates consistently.  Their is a video on YouTube with Malone lecturing at a University where he talks about (among other things) how he determines synergy when doing acquisitions.  Basically, he only counts the stuff that is easily calculable.  I would be careful using 2020 numbers for obvious reasons.  Even if we assume revenues do not grow as expected, you aren't paying for them to grow.  Again, maybe I'm fooling myself but I see a high probability of growing earning power (you have to come to your own conclusions based on your understanding of the business) which equals fantastic returns starting with a 10 multiple and 2% interest rates.  You would have to conclude that you see shrinking earning power for there to be a high probability of losing money here.  That is my favorite starting position when I commit capital and has been very rewarding over 20 years and over 50 investments.  Verizon fits that model perfectly.  And I would say that Verizon has less risk of shrinking earning power but also less chance of growing earning power at high single digits vs Discovery. Another way these investments could turn out less than expected is how retained earnings are utilized.  On that point, Malone is at the very top in terms of people that I want deploying excess capital and trust that he will create at least a dollar of market value for every dollar retained, including buybacks.  So far, my investments in his entities have passed that test by a mile.  And when you start with a 10ish multiple (or less) with earning power growing at least as much as GDP, and retained earnings being deployed advantageously....by definition equals a very good return.  When measured against 2% interest rates, the returns are outrageous.

[CorpRaider]

I buy that there will be revenue "synergies."  Despite protestations pre re-merger, Viacom was able to cram linear channels down erebody's throat, including the great google.  Now we're not talking about the most watched network with local news, but still.  

Edited May 21, 2021 by CorpRaider