NEW YORK (TheStreet) -- The media business and the Internet industry are built on contradictory assumptions.
Media lives in a land of scarcity. There are only a limited number of cable channels, and there is only room for a few competitors. That is the assumption built into 21st Century Fox's (FOXA) bid for Time Warner (TWX) -- putting HBO and CNN under the Fox umbrella would reduce competition and drive profits higher.
The Internet lives in a land of abundance. On the Internet you can change channels with the click of a mouse. So the idea that Twitch, which hosts live streaming shows, is really worth $1 billion to Google (GOOGL) begins, in the clear light of day, to sound like madness.
But both assumptions may be wrong. Media are becoming more abundant, and the Internet is growing into scarcity. Why? Because clouds cost more money than studios.
Fox first. A bunch of smart New York financial houses including Morgan Stanley (MS), Barclays (BCS), and Wells Fargo (WFC) are pounding the table for the Fox-Time Warner deal, based on a theme of "industry consolidation." The assumption is that, after HBO and CNN come under Fox control, there will be fewer companies competing for a limited number of cable slots.
But audience is no longer based on cable slots. The best evidence for this is Twitch itself. Twitch told Re/Code recently it now has 50 million unique viewers each month.
What they are mainly watching is people like former Limp Bizkit front man Fred Durst and San Francisco Giants outfielder Hunter Pence play and comment on video games. If watching talking heads sounds crazy to you, then perhaps you haven't noticed how all the so-called news channels, including CNN, have evolved in the last decade to essentially offer the same thing, only they are discussing news stories in fancy studios.
If video games are more real to you than a Malaysian airliner or a war in a place that has seen little but war for 6,000 years, you may be watching Twitch. Taken together, Fox News and CNN had 560,000 viewers in the latest ratings report, covering the 25 to 54 age "demo" advertisers most covet. Cable and Internet numbers aren't yet directly compared, but a case can easily be made that Twitch is currently delivering a more valuable audience than either of the two "news talk" stations, and it has much better growth prospects.
So why has Google not yet closed on a deal first reported by CNN two months ago to buy Twitch?
The assumption is that the Twitch app may not be worth much and that "mystery donors" like "Amhai," who has been writing bigger-and-bigger checks to Twitch streamers, most of whom still lack a viable business model, could easily switch those programmers to a different platform. In other words, all this so-called "value" could walk across the street tomorrow.
But could it? Just as there are a limited number of satellite and cable channels, there are also a limited number of scaled consumer-oriented cloud players. Google is one. Yahoo! (YHOO) is another. Microsoft (MSFT) is a third. Amazon (AMZN) may also be counted, although its efforts are mainly focused on hosting businesses rather than live video.
However many there are today, there may indeed be fewer tomorrow. Clouds cost money -- Google reports in its latest earnings release spending $1.6 billion on data centers in the last quarter alone.
The competitive barriers to hosting clouds, and global networks of clouds, keeps going up, with no end in sight. At the same time those "channels" must be filled to be profit and the cloud player who can fill those channels will eventually win the day. Twitch streams can help fill them.
At $1 billion, then, this deal is a snip, even if someone builds another such network tomorrow. It's a good deal for Twitch, too, because as capital expenses start to bite more cloud players, their number is bound to decline, meaning it will have fewer choices of who it can sell to down the road.
We talk about media "consolidation" but it's a myth. We talk about cloud "abundance" but that, too, is a myth. Fox is not clearing the board here, and Google is not chasing its tail.
At the time of publication the author owned shares of GOOGL and AMZN.
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 few notable 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, increase in stock price during the past year 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 14.7%. 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 12 months ago, the stock is up, but it has so far lagged the appreciation in the S&P 500. 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 ($3.05 versus $2.91).
- You can view the full analysis from the report here: FOXA Ratings Report