Why Sports May Be the Key to Rupert Murdoch’s Bid for Time Warner

NEW YORK (TheStreet) -- There are lots of reasons being cited this morning for why Rupert Murdoch is pushing 21st Century Fox (FOXA) to buy Time Warner (TWX) for at least $80 billion.

Big media mergers always have cost synergies. Two movies studios could be combined for example. And when you put a bunch of cable and broadcast TV channels together, that's going to give you more negotiating leverage when booking ad deals across those properties. Finally, money is cheap right now and both companies are relatively underleveraged.

However, I think the most important driver of this deal is sports.

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Sports may have been the biggest driver of the recent merger announcement between AT&T (T) and DirecTV (DTV). AT&T basically negotiated an out in the deal if DirecTV failed to keep the highly profitable NFL Sunday Ticket.

It seems crazy that keeping a package of NFL games was the critical component of whether two media titans should proceed with a multi-billion dollar merger. But the fact remains that sports are perhaps the dominant way TV broadcasters have today to drive live viewership and -- as a result -- charge advertisers through the nose. And, no matter how many ad dollars continue to migrate online or towards mobile ads on services like Facebook (FB), live TV (and specifically live sports TV) will continue to be a huge draw going forward for media owners.

ESPN has been a profit juggernaut for Disney (DIS). Forbes said earlier this year that it estimates ESPN itself is worth $50 billion -- or a third of Disney's current market capitalization.

It's because of that profitability that Murdoch green-lighted the creation of a Fox rival to ESPN earlier this year: Fox Sports One. He hired away a lot of high-priced talent from ESPN to do this. However, there's still little reason for most people to tune into that network -- if they even know where it is.

Fox has major league baseball and football on its main broadcast network. It has hockey, basketball, baseball and college sports on its network of regional sports networks. But there's little reason to go to Fox Sports One, except for highlights which arguably would be better from ESPN's SportsCenter.

Time Warner has the NBA and the NCAA's March Madness (which it shares with CBS (CBS)). NBA fans have been much more vocal of their support for watching NBA games on Time Warner's TNT vs. ESPN. TNT's NBA crew of Ernie Johnson, Shaq, Charles Barkley and Kenny Smith are much funnier and better informed than their rivals at ESPN for the NBA.

The NBA will require ESPN and TNT to pay up for TV rights between now and 2016. Major League Baseball recently went through the process and doubled the fees they gained for the broadcast rights. It's not unreasonable to expect the NBA will see a similar doubling or more.

NBA players like LeBron James anticipate this and have signed shorter contracts (for two years), expecting that the league salary cap will go up following the TV rights negotiations and that they'll be able to get more money per year on new contracts signed after that.

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Fox could always bid to steal the rights away from TNT, but Time Warner gets the first kick at the can. By plucking Time Warner and possibly moving the NBA national coverage to Fox Sports One, Murdoch would immediately give people a reason to tune into the fledgling network. It would immediately become a credible competitor to ESPN.

If Rupert has a chance to grow a new channel to become something worth $50 billion in 10 years, spending $80 billion now in a cheap money environment -- and with all the extra synergies that come with Time Warner's assets -- seems like a very reasonable deal.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

TheStreet Ratings team rates TWENTY-FIRST CENTURY FOX INC as a Buy with a ratings score of B. TheStreet Ratings Team has this to say about their recommendation:

"We rate TWENTY-FIRST CENTURY FOX INC (FOXA) a BUY. This is driven by a number of strengths, which we believe should have a greater impact than any weaknesses, and should give investors a better performance opportunity than most stocks we cover. The company's strengths can be seen in multiple areas, such as its revenue growth, notable return on equity, attractive valuation levels, solid stock price performance and largely solid financial position with reasonable debt levels by most measures. We feel these strengths outweigh the fact that the company has had sub par growth in net income."

Highlights from the analysis by TheStreet Ratings Team goes as follows:

  • Despite its growing revenue, the company underperformed as compared with the industry average of 14.6%. Since the same quarter one year prior, revenues rose by 11.8%. This growth in revenue does not appear to have trickled down to the company's bottom line, displayed by a decline in earnings per share.
  • Current return on equity exceeded its ROE from the same quarter one year prior. This is a clear sign of strength within the company. In comparison to the other companies in the Media industry and the overall market, TWENTY-FIRST CENTURY FOX INC's return on equity significantly exceeds that of the industry average and is above that of the S&P 500.
  • Compared to where it was a year ago today, the stock is now trading at a higher level, regardless of the company's weak earnings results. Turning our attention to the future direction of the stock, it goes without saying that even the best stocks can fall in an overall down market. However, in any other environment, this stock still has good upside potential despite the fact that it has already risen in the past year.
  • TWENTY-FIRST CENTURY FOX INC has experienced a steep decline in earnings per share in the most recent quarter in comparison to its performance from the same quarter a year ago. This company has reported somewhat volatile earnings recently. But, we feel it is poised for EPS growth in the coming year. During the past fiscal year, TWENTY-FIRST CENTURY FOX INC increased its bottom line by earning $2.91 versus $0.44 in the prior year. This year, the market expects an improvement in earnings ($3.06 versus $2.91).

TheStreet Ratings team rates TIME WARNER INC as a Buy with a ratings score of A+. TheStreet Ratings Team has this to say about their recommendation:

"We rate TIME WARNER INC (TWX) a BUY. This is based on the convergence of positive investment measures, which should help this stock outperform the majority of stocks that we rate. The company's strengths can be seen in multiple areas, such as its increase in stock price during the past year, impressive record of earnings per share growth, compelling growth in net income, revenue growth and largely solid financial position with reasonable debt levels by most measures. Although the company may harbor some minor weaknesses, we feel they are unlikely to have a significant impact on results."

Highlights from the analysis by TheStreet Ratings Team goes as follows:

  • Compared to where it was a year ago today, the stock is now trading at a higher level, reflecting both the market's overall trend during that period and the fact that the company's earnings growth has been robust. Turning our attention to the future direction of the stock, it goes without saying that even the best stocks can fall in an overall down market. However, in any other environment, this stock still has good upside potential despite the fact that it has already risen in the past year.
  • TIME WARNER INC reported significant earnings per share improvement in the most recent quarter compared to the same quarter a year ago. The company has demonstrated a pattern of positive earnings per share growth over the past two years. We feel that this trend should continue. During the past fiscal year, TIME WARNER INC increased its bottom line by earning $3.77 versus $3.00 in the prior year. This year, the market expects an improvement in earnings ($4.00 versus $3.77).
  • The net income growth from the same quarter one year ago has significantly exceeded that of the S&P 500 and the Media industry. The net income increased by 71.3% when compared to the same quarter one year prior, rising from $754.00 million to $1,292.00 million.
  • Despite its growing revenue, the company underperformed as compared with the industry average of 14.6%. Since the same quarter one year prior, revenues slightly increased by 8.7%. Growth in the company's revenue appears to have helped boost the earnings per share.
  • The debt-to-equity ratio is somewhat low, currently at 0.68, and is less than that of the industry average, implying that there has been a relatively successful effort in the management of debt levels. Along with the favorable debt-to-equity ratio, the company maintains an adequate quick ratio of 1.32, which illustrates the ability to avoid short-term cash problems.

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