Wall Street has voted on Lionsgate’s $4.4 billion agreement to acquire Starz and here’s the verdict: Liberty Media’s John Malone won. Shares of Starz, which he controls, are up 5.5% since just before yesterday’s announcement, while Lionsgate’s down 5%.
To be sure, this is a familiar pattern in acquisitions. Sellers benefit from the certainty of a payout. Buyers often take a hit as investors question whether the bet will pay off.
Yet Starz owners are especially relieved by the outcome in light of the challenges it faces:
- Starz’s licensing deal with Disney ended at the end of 2015, increasing its dependence on original programming and Sony productions.
- Many wonder whether cable and satellite companies will reduce their efforts to promote Starz, or insist on price cuts, following the April launch of its stand-alone streaming service. It costs $8.99 a month, well below similar offerings from HBO and Showtime. The low price could encourage cord-cutting.
- That could become an issue soon as Starz negotiates a new carriage deal with AT&T’s DirecTV.
With all of these clouds, it’s “fair to question the stickiness of Starz’s subscriber base,” Bernstein Research’s Todd Juenger says. “Do they actively call up their cable company and say, ‘I want to buy Starz — can you sell it to me? How much does it cost?'” Or do distributors package Starz “into a promotion, or an upsell on top of HBO and Showtime subscriptions?”
Lionsgate factored the uncertainties in its purchase price.
The cash-and-stock offer, equal to about $33 for each Starz share, is in line with the premium networks company’s recent market value: It’s as much as investors would have seen if they sold their Starz shares at the beginning of this year — and much less than they would have collected if they sold a year ago, when the company flirted with its 52-week high of $46.59.
But Lionsgate CEO Jon Feltheimer isn’t promoting the deal as bargain on a fixer-upper. The combination of his studio’s content with Starz’s distribution will create an entity that’s “greater than the sum of its parts,” he says.
Right away he expects to see “significant incremental cash savings” in taxes, always a centerpiece of Malone’s deals. Since Lionsgate is incorporated in Canada, the acquisition could drop Starz’s tax rate from nearly 35% to about 15% — a potential savings of $83 million a year.
That’s not a sure thing, however. The IRS is cracking down on tax inversions, Morgan Stanley’s Ryan Fiftal observes. In April the government launched several initiatives to fight efforts by companies that are mostly based in the U.S. to pay taxes in other countries with lower rates. (Hillary Clinton and Donald Trump also vow to crack down on tax inversions.)
Lionsgate and other fans of the deal also say that Starz will provide a dependable distribution channel. That’s important at a time when major networks increasingly produce their own shows.
Having Starz as a “hedge” could help, Stifel Research’s Benjamin Mogil says. Ratings across the industry “continue to be more fragmented.” That makes it all the more useful for a studio to have a network that will give homegrown shows time to build a following — and a collection of episodes to syndicate.
Yet this, too, involves risks.
“As a content ‘arms merchant,’ we would have much preferred to see Lionsgate remain a pure-play content company,” Cowen & Co’s Doug Creutz says. “Demand for TV content is sufficiently high to ensure a very attractive market for [Lionsgate] to sell as much TV content as they can produce. We think anchoring the company to a network is unwise. In particular, we view Starz as the 4th- or 5th- or 6th-best SVOD asset in the market, certainly after HBO, Showtime, and Netflix, and possibly Amazon Prime and Hulu as well.”
Perhaps. But do the debates over Starz’s prospects, tax benefits and potential synergies miss the real story? Is the Lionsgate-Starz union just a move in a larger game by Malone to create a new vertically integrated entertainment powerhouse?
He owns 3.4% of Lionsgate’s shares and sits on its board. He’s joined there by the heads of Discovery Communications and Liberty Global, companies he also controls and that each own additional 3.4% stakes in Lionsgate.
Wunderlich Securities’ Matthew Harrigan thinks there’s more here than meets the eye. If Lionsgate meshes well with Starz, then “the company could be positioned to take an even bigger leap forward,” he says.
He can imagine Sony Pictures becoming a target. “Two years ago it notably seemed very unlikely that Sony CEO Kazuo Hirai would be inclined to sell Sony Pictures, but the issues at that studio now make it a more distinct possibility,” the analyst says.
Others also speculate that Malone, a fan of consolidation, has his eye on some of Viacom’s assets, or might roll Discovery into Lionsgate.
That would be “the most optimistic read of the deal,” Creutz says. “However, there is no guarantee such a deal will happen, nor is there a guarantee that if it does happen, [Lionsgate] shareholders will enjoy significant benefits.”
With all of these uncertainties, is there anything on which you can depend? Well, there’s this. Whatever happens will work out well for Malone.