Member Mailing #229: WarnerMedia, NBCU, and Theme Parks
Thinking through how AT&T could solve for a better user ecosystem for WarnerMedia if it owned theme parks
How should AT&T and WarnerMedia solve for building an ecosystem where its user base can be monetized at scale, in multiple ways?
Given all the rumors of AT&T selling off its assets, one emerging question is how WarnerMedia will monetize its audience in multiple ways, as per the Diller hypothesis. Meaning, if a media business is to survive in the post-cord-cutting world, it will need to own:
an ecosystem in which it monetizes a user base, at scale, across a wide range of services with multiple business models and revenue streams
an aspirational brand
a service that is accessible, daily, in both digital and physical worlds
has strengths in online commerce and offline to online conversion
It seems to have all that in its WarnerMedia acquisition:
AT&T is the ecosystem with over 170MM wireless, broadband, cable, and satellite subscribers which it monetizes broadly through subscription and ad revenues, as well as subsidiary revenue models (e.g., theatrical)
HBO is the aspirational brand
AT&T's wireless, broadband, cable, and satellite services are accessible, daily, in the both the digital and physical worlds
AT&T has strengths in online commerce and especially in offline to online conversion (wireless marketing)
So, given all this, the HBO Max launch should not have been a dud ([memberful_download_link download='7182-membership-mailing-223-july-28-2020']which I wrote about before[/memberful_download_link]). But it was. Why? And why is AT&T now rumored to be selling off DirecTV, Xandr, and anime streaming service Crunchyroll?
AT&T is Not A Media Ecosystem
The reality is, AT&T has multiple business models of monetizing multiple audiences, but not necessarily multiple business models for monetizing the same audiences. An AT&T wireless customer could also be a viewer of TNT, a visitor to Bleacher Report, and a subscriber to HBO Max. But those are individual entry points which are not associated with the AT&T brand. The AT&T customer is not circulating within an ecosystem between and across multiple services tied to the AT&T brand.
AT&T also has not defined the value of the customer in terms of ecosystem, but rather more narrowly: "A reduction of 1 basis point of wireless churn across the base is worth about $100 million to us annually” (AT&T CEO John Stankey to investors in January 2020) and “10 basis points of churn is a billion dollars” (former AT&T CFO John Donovan to Fortune Magazine). So, in their words, HBO Max is not an aspirational brand around which to build an ecosystem, but rather a means for leveraging bundling to reduce churn.
Xandr was supposed to make AT&T more of an ecosystem by monetizing existing AT&T subscribers with data-driven, addressable, and targeted advertising across linear cable inventory, OTT streaming inventory (e.g., HBO Max AVOD) , and digital video inventory against premium content from networks like TBS, TNT and CNN. The secret sauce was mapping AT&T wireless customer and TV data to audience targeting solutions via its ad-targeting acquisitions AppNexus and Clypd.
Now, Xandr is for sale, and AT&T seems to be even less of an ecosystem for monetizing its users in multiple ways. That is a problem for WarnerMedia, which will now monetize its various customers and AT&T's customers through a combination of subscription revenues, ad revenues, theatrical revenues, affiliate revenues, gaming revenues, and content licensing revenues.
Despite owning an aspirational brand in HBO, and owning valuable IP like DC Entertainment and Harry Potter, a sale of Xandr will be confirmation that AT&T's larger ecosystem offers no larger backbone for a media ecosystem for either AT&T customers or WarnerMedia customers. A bundle of AT&T services with HBO Max reduces churn, and that is all.
The Theme Parks Problem For WarnerMedia
My favorite line from the Diller IAC MGM investment letter to shareholders is this one:
Similar to Disney's advantages over pure-play streaming companies with an iconic brand and multiple avenues to monetize the same intellectual property between streaming, theatrical releases, merchandise, and theme parks, we believe MGM also is an aspirational brand, which could be delivered with daily accessibility and offer gaming consumers (including the 34 million M-life Rewards members) a wider range of services, both physical and digital, than any competitor.
WarnerMedia offers streaming, theatrical releases, merchandise, and gaming, but not theme parks, as I wrote in "DC Fandome and The Future of WarnerMedia, HBO Max". In that post I dove into what it would mean for WarnerMedia to focus on building a Disney-like ecosystem around DC Entertainment IP. I wrote that if WarnerMedia could do that,
...it will be closer to Disney's model than it is today, and therefore will in a stronger position going forward. Because theatrical will reinforce gaming (Batman and Suicide Squad IP in particular) and streaming (The Batman and Justice League Snyder Cut); and, in turn, streaming will reinforce theatrical (Shazam and Superman titles) tie Black Adam, Justice League ties into The Flash). 22MM superfans drive engagement across all platforms. If those superfans represent householders in the U.S., that's 60MM total consumers and an additional 38MM consumers for games, streaming, and theatrical.
But even in that scenario, it would be missing theme parks as an offering. If it offered them, would it be closer to Disney as an optimal media ecosystem?
Solving for Ecosystem with Theme Parks
At the core of any solution involving theme parks would be WarnerMedia’s licensing deals with Six Flags (Looney Tunes, DC Entertainment) and Universal (Harry Potter), the latter of which is owned by Comcast. The licensing revenue from those deals for WarnerMedia is not even a line item on its own (it is mentioned under WarnerMedia's Television Product line item in AT&T's 10-K). The opportunities and the challenges lie in how it navigates those two deals.
It could buy Six Flags right now, as it is not expensive. At 5x $500B in annual EBITDA it would be a $2.5B-$3B acquisition. And, operationally, it may or may not be complicated to integrate. But, because AT&T is risk averse and needs all available cash flow to pay down $150B in debt, they will not be pursuing an acquisition of Six Flags.
Because Comcast owns Universal, that leaves three alternative scenarios:
AT&T sells WarnerMedia to Comcast to merge it with Universal Theme Parks (something analyst Craig Moffett predicted back in January)
Comcast and AT&T spin out their media companies into a separate combined entity owning WarnerMedia, NBCU, and Universal Theme Parks
Comcast and AT&T spin out their media companies into a separate combined entity owning WarnerMedia, NBCU, Universal Theme Parks, and Six Flags
Why would WarnerMedia pursue any of these? One easy answer is that, with Disney as a comparison, the market would value WarnerMedia more if it had a theme parks business. At the end of 2019, Disney's EV/EBITDA ratio was just under 2x AT&T's EV/EBITDA ratio. Which would imply the market values Disney's customer ecosystem twice as much as AT&T's. In all three scenarios, particularly the latter two, a media asset valued more by the market would emerge.
Another easy answer is cash and cash flow: AT&T helps to pay down debt with a sale, and in the latter two scenarios, gets a recurring revenue stream from a more valuable property.
So, AT&T finding some way to incorporate theme parks is its best model if we believe IAC and Barry Diller, and if we believe the market will value WarnerMedia more with theme parks. The only challenge in all scenarios is, what is the aspirational brand that unites the ecosystem? That is not clear.
Conclusion
I write all this because as easy as it is to point out problems in a company’s strategy with the Diller/IAC MGM investment hypothesis. It is also easy to take the checklist approach and say “this is what [X company] is missing, and if it solves for this, its streaming strategy will be better off”.
It is also marginally valuable to do so. Where the exercise gets interesting is when we ask what these companies could solve for.
Diller and IAC saw themselves as solving for MGM’s pain point of online and offline to online commerce. The pain point here for both WarnerMedia and Comcast is ecosystem, and a theme parks business could improve that ecosystem. The challenges are WarnerMedia’s licensing deals with Six Flags and Universal Theme Parks, and that any move towards Theme Parks would be WarnerMedia solving for its ecosystem problem, but not necessarily its problem of lacking an aspirational brand that unites all properties.
That is the complicated, contractual disconnect that does not offer any easy solutions.