Time Warner (TWX): A Compelling Short?

January 26, 2016 Moats 2 Comments

There is an interesting short thesis for Time Warner Inc. (TWX) on VIC.

The author lays out one potential scenario for the outcome of competition between the cable networks and the OTT providers.  He sees the cable networks as obsolete dinosaurs and the OTT providers emerging as the clear winners.

The author’s central thesis is that the cable networks primary role as aggregators of contet has been overtaken by the OTT providers.

In the old days, the cable networks performed a valuable role in aggregating content aimed at specific audience segments.  That is, ESPN aggregated content that sports fans are interested in, MTV aggregated content for younger viewers, and Discovery aggregated content for people interested in science.  Now, this role is played by the OTTs. NFLX has an algorithm that makes highly personalized viewing recommendations.  As the author wrote:  “In the modern universe, (the cable networks are) clearly a massive unnecessary layer of cost. They don’t add one iota of value. Before, you needed the cable networks to sort content into categories so you could find something you wanted to watch at any given time. Now the Netflix has software that gives you a personalized list of things to watch.  (sic) The studios just sell directly to Netflix (or Amazon or Hulu) and avoid the middleman.”

As a result, the conventional cable networks will die over the next 10 years. In this way, the death of the cable networks is inevitable due to Internet competition, just like the newspapers before them.

The author then goes on to refute most of the come challenges to this scenario.

First, won’t the cable networks stop licensing their content to the OTTs?  Don’t they realize they are shooting themselves in the foot?  The author’s response is that they can’t stop for three reasons.  First, “(t)hese contracts are exclusive and there’s no getting them back.”  Second, even if they refuse to license the content “they still owe the talent the residuals they would have gotten if it had been licensed.”   Third, the rats at the cable networks see that the ship is sinking and they have to cozy up to the OTT providers to get jobs in the future.  I have no idea if any of these reasons are true and I am somewhat skeptical that they are.

But, what about live sports?  Won’t that save the cable networks?  The only way the cable networks can continue to carry live sports is to reduce their margins.  They will not be able to pass on the rapidly escalating cost of broadcasting rights to cable subscribers.  Alternatively, if they are not willing to pay up and accept lower returns, the leagues will create their own networks.

Well, news will save the cable networks, right? Here, the author is oddly optimistic.  Despite the famously elderly viewing audience for news channels, the author sees this as a bright spot.[1]  Why?  “News is cheap to produce, gets good ad revenues, and there are surprising barriers to entry.”

What about prestige cable dramas?  Those are super popular, right?  Not so fast.  Fierce competition for content will knockout even HBO.  “There was a time in HBO was pretty much the only game in town for anyone who wanted to create great non-ad-friendly entertainment. They got the top talent – for example, they got Spielberg and Hanks to create Band of Brothers. They got the top IP, like Game of Thrones. That day has long passed. Now we have Netflix, Amazon, AMC and FX. Top talent and top IP go to the top bidders, and there’s no way they’ll be able to compete with the big boys going forward.”

I have never done a deep dive on TWX, but I tend to agree with the author’s take on OTT/Cable competition.  I think the traditional revenue streams represent a melting ice cube.  I think some of the cable networks, such as DISCA, will survive and thrive.  Will HBO be able to as well?  This seems tougher.  As the author says, the competition for top tier scripted drama is heating up.  It seems like a race to the bottom for all of those involved.

[1] According the NY Times,  the median age for CNN viewers this year was 61, while it was 63 for MSNBC and 67 for Fox News.