1. AT&T –DIRECTV Merger
Analysis by
• Alse, Deepak
• Pannu, Jasdeep
Submitted as per course requirements for MOR588 (Spring 2015) @ USC
Marshall School of Business

2. DIRECTV and AT&T – The Deal
DIRECTV (DTV) is the world's leading provider of digital television
entertainment services. Through its subsidiaries and affiliated companies in the
United States, Brazil, Mexico and other countries in Latin America, DIRECTV
provides digital television service to 20.35 million customers in the United
States and over 19 million customers in Latin America. DIRECTV reported
revenues of $33.26 billion in 2014. DIRECTV is composed of two direct-to-
home, or DTH, operating units - DIRECTV U.S. and DIRECTV Latin
America, as well as DIRECTV Sports Networks. DIRECTV U.S, DIRECTV
Holdings LLC and its subsidiaries, which we refer to as DIRECTV U.S., is the
largest provider of DTH digital television services and the second largest
provider in the multi-channel video programming distribution, or MVPD,
industry in the United States. As of December 31, 2014, DIRECTV U.S. had
20.35 million subscribers with average monthly revenue per subscriber, or
ARPU, of $106.94.
AT&T is one of world's largest communications companies. AT&T has more
than 120 million wireless customers. With 243,620 Employees in 2014 and
2013 consolidated revenues of $128.8 billion, AT&T supports consumer and
enterprise customers across a portfolio of wired, wireless voice and internet
access products.

3. DIRECTV and AT&T – The Deal
On May 18, 2014, AT&T (NYSE:T) and DIRECTV (NASDAQ:DTV)
announced that they have entered into a definitive agreement under which
AT&T will acquire DIRECTV in a stock-and-cash transaction for $95 per
share based on AT&T’s Friday closing price. The agreement has been
approved unanimously by the Boards of Directors of both companies.
DIRECTV shareholders will receive $95.00 per share under the terms of the
merger, comprised of $28.50 per share in cash and $66.50 per share in AT&T
stock. The stock portion will be subject to a collar such that DIRECTV
shareholders will receive 1.905 AT&T shares if AT&T stock price is below
$34.90 at closing and 1.724 AT&T shares if AT&T stock price is above $38.58
at closing. If AT&T stock price at closing is between $34.90 and $38.58,
DIRECTV shareholders will receive a number of shares between 1.724 and
1.905, equal to $66.50 in value. AT&T is paying 8.15 times DIRECTV’s
EBIDTA. The Median multiple for similar transactions in the the industry has
been 8.11 times trailing 12-month EBIDTA. Comcast offered about 8.6 times
EBIDTA for Time Warner Cable.
Due to the rising cost of programming as well as higher costs to acquire new
subscribers in an increasingly mature and competitive industry, AT&T’s wired
network and DirecTV’s satellite TV service need to identify ways to
consolidate consumer base. ATT has a large B2B business but the deal
synergies are primarily centered around the consumer business. DirecTV is
primarily a consumer brand with few business to business offerings. US market
for telecom and cable is mature whereas markets outside are less mature.
AT&T-DIRECTV deal seems to be one of many deals that AT&T is making with
firms that have presence in Latin America.

4. From broadcast to broadband,
The rise of ‘Over the Top’ content
According to Pew Survey in September 2013, 86% of US has broadband
access available in some form with more than 70% of consumers having a
fixed broadband connection at home. market cornered by Cable companies.
40% of the fixed broadband market is with DSL & Fiber-To-Home modes
supported by AT&T and other similar players. For the past 20 years, the speed
and reliability of pipes that carried content to our devices were the primary
differentiator for service providers like AT&T. The arrival of media
consumption devices like Smartphones, Tablets and OTT Boxes( Apple TV,
Chromecast etc), has significantly eroded competitive differentiation on speed
and network quality by establishing a high threshold on customer’s
expectations with respect to the quality of internet data service. Content
consumption trends are changing. According to Nielsen’s Q2 2014 Cross-
Platform Report, younger viewers are watching less traditional television than
in the past, but they’re consuming more overall video content. For instance,
while the daily time spent with the TV screen for U.S. viewers 18-34 has
decreased 10 minutes since Q2 2012, daily digital video consumption among
that same demo has increased 16 minutes over that time period. This
consumption is occurring on broadband networks through ‘Over-The-Top’
mechanisms of media distribution.

5. Saturation in Telecom and
Broadband markets leads to
price-oriented competition
This price competition forces AT&T will to acquire profit pools through
content driven differentiation. AT&T makes $102 ARPU for its Triple-
Play(wireline phone+TV + Internet) connections whereas DirecTV makes
$106 ARPU on its broadcast subscribers primarily on the strengths of pursuing
a customer segment that values content.
Technical trends also support a shift :
• Through rapid deployment of wired and wireless broadband networks,
consumer need for Satellite Television is being steadily limited only to
areas where the wired broadband infrastructure is not feasible due to
geography or population density.
• A move towards ‘Software Defined Networking’ allows firms like AT&T
to reduce focus on the hardware that carries content and shift focus into
virtual ways to control the flow of content on their networks. This also
means a reduction on capital growth requirements.

6. AT&T value map needs jumpstart
Acquire Content
Acquire
Customers
Establish and operate content
delivery networks to generate
higher revenue per megabyte
delivered to customer.
Deliver
Content and
bill customers
Use size to buy
more content at
cheaper cost
Generate
Cash flow
Acquire
Spectrum
Spectrum
Bandwidth
Televisi
on
Wireless
Telepho
ny
Cable
Internet
Acquire
DirecTV

7. But should AT&T build ..
Using the Capron-Mitchell resource pathways framework, we can analyze the
choices AT&T has to resolve it’s strategic resource gap for video content
Build
AT&T has made substantial investments in building content through its JV
with The Chernin group and the majority stake in Otter Media for FullScreen,
a YouTube based video network. However, this is not a fast growth option.
There are no build options that can acquire 40 million subscribers without
sufficient capital outlay. AT&T needs to rapidly ramp-up its share of
subscribers to prevent a loss of customers to stronger cable providers or pure-
play data broadband service providers like Google Fiber.
.
The Resource Pathways Framework - Capron, Laurence; Mitchell, Will (2012-07-31). Build, Borrow, or Buy:
Solving the Growth Dilemma. Harvard Business Review Press. Kindle Edition.

8. …or Borrow Or Buy ?
Borrow via contract/alliance
As the complexity of carriage disputes between TWC & Fox in 2009 and
DirecTV & Viacom in 2012 have shown, contractual disputes over copyright
laws and broadcast rights tend to lead to downstream impact on streaming of
digital content. These disputes have set precedents where access to live feeds
have been renegotiated as an additional value item on the contracts. Such deals
complicate AT&T’s ability to negotiate and enforce third-party contracts with
providers, TV channels as well as production studios for streaming content.
Repeated litigation hurts the content delivery networks(like AT&T) because
consumers have alternate venues from which to source the same content.
Buy
Due to the challenges faced with the Build and Borrow options, AT&T needs
to identify an appropriate content delivery channel with substantial subscriber
base that can be used to improve AT&T’s content portfolio as well control its
content costs through better negotiating power.

9. AT&T’s Competitive Options
AT&T competes with other content delivery providers with access to last mile;
these include all cable operators as well as standalone data service providers
like Google Fiber. DirecTV competes with Dish for the last mile access parts
and OTT operators like Netflix, Hulu and SlingTV for content. Netflix and
Amazon also act as complementors in helping create a marketplace for content
that is not anchored with any television network.
AT&T could not have acquired Dish in context of regulatory challenges due to
Dish’s LTE spectrum holdings in the US and a publicly announced broadband
strategy that could lead to strong anti-trust challenges.
To acquire content at competitive prices, AT&T needs to have a strong and
substantial subscriber base. DirectTV is a cash cow in a Mature Market with
lower capital investment needs, better operating ratios and a cost effective
content portfolio( NFL, MLB, Latin American Channels etc).

10. DirecTV’s strategic choices
DirecTV’s strategic choices depend on
• Growth of subscriber base
• Ability to acquire cheap content
Limitations of Satellite Technology and proliferation of wired broadband
access also limit the maximum number of subscribers that DirecTV can
acquire within each of its markets. DirecTV’s ability to acquire content at a
cheaper rate depends on its growth across markets.
DIRECTV Option 1 – Merge with Dish
DirecTV and Dish have both faced a slowdown in rate of customer acquisition
and have instead achieved revenue growth by focusing on higher average
revenue per user. A merger with Dish TV would have signaled a clear loss of
confidence over future prospects and led to a substantial loss of value for
shareholders. Such a merger could also face a strong challenge on anti-trust
regulations.
DIRECTV Option 2 – Merge with larger content pipeline owners
Merging with a larger content pipeline owner is a good strategic choice for
DIRECTV in view of the long term stagnation expected in its growth. It could
have pursued opportunities to build capabilities in non-satellite content
delivery but the barriers to entry in those markets and time needed to build and
sustain such capability would need substantial goodwill and support from its
shareholders.

11. One Page Merger Analysis from
AT&T’s perspective
Goals to achieve
• Increase in cost economies for content
• Increase in Market Power through subscribers
• Geographic Extension into LATAM.
Assumptions made
• The acquisition will not increase marginal revenue expectations from
content providers.
• The acquisition will reduce marginal cost of content acquisition from
studios and TV networks.
Strategies
• Channel DirecTV content to mobile devices to increase streaming
volumes and revenues
• Reduce content acquisition cost per customer by using consolidated
subscriber numbers to strength.
• Competitors in the cable industry lack access to the wireless smartphone
and tablet consumer market.
Capabilities
• AT&T’s wireless network ecosystem and a stronghold over iPhone
consumers allows it to have a captive audience for DirecTV’s video
content streaming through mobile devices.
• AT&T’s network of LATAM acquisitions for wireless and presence
across multiple hardware platforms(Fiber, DSL, 4G LTE Wireless,
Wired-Line and Fixed Wireless) will enable it to put DIRECTV’s
spectrum assets in LATAM.

12. AT&T can create value through
synergies of the deal.
Direct short –medium term synergies
• Competitive Strength in context of TWC-Comcast Merger
• Four-fold increase in subscriber numbers that gives AT&T stronger
abilities to negotiate with content suppliers.
• Access to DirecTV’s content with potential reuse of satellite TV content
across multiple channels ( wireless, broadband) including NFL content
from a 12 billion USD deal over 8 years.
• AT&T’s current TV revenues are $6B and the DirecTV acquisition will
lead to a 6 fold increase in that.
• Ownership of cash flows from a business that has
– Better receivables turnover(12.44 vs. 9.65) and asset turnover(1.4
vs. 0.46)
– a customer base with higher ARPU ( 100+ USD)
• Ability to bundle broadband to 15 million rural customers
• Cross-Sell AT&T wireless to DirecTV consumers
Innovative medium term synergies with higher risk
• Pull through effects for AT&T’s product line because of access to
exclusive content.
• Access to households not on its network but likely to be a market for its
home related services ( digital Life home security etc)
• Ability to use Satellite TV capabilities to enter
– Back of Car Seat In-Car Infotainment Segment
– Airline Market with inflight entertainment
• Typical Cost Synergies include reduction in size of call center support
ecosystem and field support staffing needs, combination of operations
support systems(OSS) and billing support systems(BSS), reduction in
S&GA Costs through bundling of programs as well as sharing of sales
staff
• Virtualized network management will also help reduce cost of managing
the backbone that support the satellite and broadband core.
Immediate access to DIRECTV cashflows and to NFL content make this
deal sustainable in the short term. All other synergies need new-
capability building within AT&T’s corporate structure.

13. And get a foothold in LATAM
and Fixed Wireless LTE through
DIRECTV
DirecTV has LTE spectrum holdings that cover 43 million households across
Argentina, Brazil, Colombia and Peru – This can be use for both Fixed
Wireless or for any high speed wireless broadband rollout that AT&T may
want to plan in the region. Through its NexTel and Lusacell acquisitions,
AT&T is already expanding its footprint in Latin America.
DirecTV has experience(since 2011) in providing ‘Over-the-top’ content in
Latin America. This experience will help AT&T with building and structuring
a value conscious offering.
In the US, Sprint and Dish are already running trials with Fixed Wireless LTE
using the LTE broadband spectrum acquired by Dish. AT&T can leverage
DIRECTV’s nationwide footprint and subscriber base to accelerate its own
Fixed Wireless LTE rollout.

14. If AT&T successfully leverages
content to grow ARPU, this is a
deal with gains.
Scenario 1 assumes that AT&T is able
to achieve 326 Mil USD 2016
onwards with 5% YoY growth from
pull through revenues generated by
DirecTV content on its U-Verse and
Mobile networks.
For pull-through revenues we assume that 5% of AT&T's wireless and
broadband subscriber base will generate at least 4 additional dollars in revenue
per month purely attributable to DirecTV's video content. A 4 USD increase is
4% increase in ARPU – this compares well against historical trends in USA
where subscriber ARPU has increased by 9% over the past decade.

15. If AT&T gets only NFL content,
the deal collapses even with cost
synergies.
Scenario 2 assumes AT&T is only able to achieve 10% net margins on the NFL
deal with DirecTV as additional synergistic value in addition to DirecTV's
current free cash flow trends as well as cost synergies. AT&T is unable to
achieve any further increments in ARPU through Content related synergies.
This scenario shows that AT&T overpaid 25 Billion USD.
At the deal value of $67 Billion, the
AT&T is paying $1725 in lifetime
value per DirecTV’s subscriber for
• 39 Million Subscriber accounts
• Content Pipeline with the option
to reuse that pipeline as a feeder
In essence, DirecTV is being acquired at 16 times the consolidated value of
average revenue per use(ARPU)

16. Will AT&T be better off ?
The Better Off Test
• Cost Scope Improvements
– Substantial S&GA Cost Improvement Scope
– Substantial operating cost improvements through network
management methods and economies of scale.
• Revenue Side Scope improvements
– Only 9% of DirecTV’s customers opted for a “synthetic” bundle
that involved AT&T installs along with DirecTV installs. It is
questionable if AT&T will be able to transition/bundle current
DIRECTV users into AT&T broadband service.
– Improvements in revenue mix through video revenues and access
to Latin American markets.
The Ownership Test
• Relationship specific investments exist between DirecTV and NFL, other
sports leagues as well as multiple Latin American television networks.
AT&T now gets access to those relationships.
• A case can be made for reduction of double margins issues with respect
to share of consumer spend on ‘Triple Play’ scenarios where consumers
are spending additional amounts for broadcast television content. AT&T
makes $102 ARPU for its Triple-Play(wired phone + TV + Internet)
connections whereas DirecTV makes $106 ARPU on its broadcast
subscribers. DirecTV customers tend to belong to higher income
segments and it is not completely clear if AT&T’s acquisition will end up
having a cannibalization impact on consumer expectations instead of
increasing margins for AT&T through a bundling mechanism.

17. Does DIRECTV need to be under
the AT&T umbrella ?
The Organizational Test
• Non Taxable Forward Triangular Merger approach used as well as
AT&T’s commitment to offering DirecTV ‘s standalone service for at
least 3 years, indicates that certain amount of autonomy will be retained
by DirecTV. However, the high value of synergies($1.6Billion) also
indicates a strong plan for generating operating efficiencies through
optimization of S&GA expenses.

18. 5 Forces assessment of merger
impact
Bargaining Power of Suppliers
• Consolidation in content production and distribution industry through the
past two decades has created major media conglomerates that control the
supply side from production to broadcast. With 5.7 Million subscribers
on AT&T U-Verse and 20.3 Million DirecTV subscribers, AT&T will be
able to strengthen its ability to negotiate for content on its Internet
delivered content.
Bargaining Power of Buyers
• Pay per use/subscription video content delivered over broadband
networks achieves a better ‘willingness to pay’ as against ‘Pure
Broadband access’. The deal help AT&T to manage buyer power.
Threat of Substitutes
• DirecTV’s satellite broadcast network can be substituted by multiple
sources of on-demand video content delivered through broadband
networks. AT&T through its triple-play approach can control this threat;
However AT&T does face a challenge in controlling its profit pool when
video content that travels over its broadband network is predominantly
not owned by it or does not generate revenues for it.
Threats of New Entrants
• AT&T and DirecTV both face challenges in dealing with new video
content providers that rely solely on delivering content on top of
broadband internet.
Industry Rivalry
• DirecTV is in a duopoly with Dish. There is a risk that this deal will
strengthen Dish’s ability to gain new customers from any post merger
integration challenges that AT&T may face. It is quite likely that the
Time Warner-Comcast cable merger accelerated the decision making
process for AT&T-DirecTV merger.

19. What risks does merger entail ?
AT&T does not have proven capabilities in managing content providers for
premium content. All capabilities associated with developing, curating and
managing the content ecosystem, will come from DIRECTV. This places
substantial burden on AT&T to ensure limited or no erosion of DirecTV brand
as well as the team working at AT&T to structure content deals.
The largest Direct Broadcast Satellite provider merges with AT&T, already a
dominant player in several telecommunications market segments, tocreate a
nationwide pay-TV competitor with approximately 26 million subscribers, and
eliminate current horizontal competition between the two companies in many
areas. There are substantial antitrust and anti-competitive concerns arriving out
of two players who own more than 30% of marketshare in their industries.Of
specific concern are AT&T’s ability to prove that this deal will not lead to
spectrum warehousing. There will also be concerns over counter-competitive
use by AT&T of its broadband pipes to control Online Video distributor
content.
In addition to these factors, this merger does not change or reinvent AT&T’s
business model that will remain under competitive threats from players like
Google Fiber. The merger also does not substantially affect AT&T’s buyer
power for non-event oriented content for TV channels.

20. Our Opinion
The AT&T-DIRECTV Merger does not seem like a strategic choice made
through foresight. AT&T may have been forced to make this deal to counter
the consolidation in cable provider space through Comcast-Time Warner
merger. However, by acquiring DIRECTV at a time when it can raise cheap
debt to pay for the massive size of the deal, AT&T has managed to acquire a
large and steady cash flow at attractive valuation.
Timing and structure of deal indicates that this an opportunistic buy for AT&T
and an opportunistic sell for DirecTV. The stated $1.6Billion cost savings,
current yields on the bond market as well as low interest rate regime, offer
substantial financial support to the merger structure and timing. The big
positives are DIRECTV’s substantial cash flow; these will help AT&T service
its recent and ongoing capital investments in the broadband network and Over
the top content distribution plans. AT&T has managed to get a consolidate its
access to the traditional content provider space while retaining options to
compete in the ‘Over-The-Top’ content distribution play.

21. References
• http://www.wsj.com/articles/at-t-reviewing-directv-units-name-
1421947868
• http://blogs.wsj.com/cio/2014/12/16/att-to-virtualize-75-of-its-network-
by-2020/
• http://adage.com/article/media/t-ceo-directv-rebrand-commits-
ott/296745/
• http://variety.com/2014/digital/news/att-eyes-late-2015-to-launch-
directv-high-speed-wireless-broadband-bundle-1201304451/
• http://www.lightreading.com/gigabit/wireless-satellite/atandt-well-
bundle-fixed-wireless-and-directv/d/d-id/710844
• http://www.bloomberg.com/news/articles/2014-05-18/at-t-agrees-to-buy-
directv-for-48-5-billion-to-add-video-users
• http://www.forbes.com/sites/greatspeculations/2014/10/08/directv-
extends-its-deal-with-nfl-for-12-billion/
• http://financials.morningstar.com/ratios/r.html?t=T&region=usa&culture
=en-US
• http://financials.morningstar.com/ratios/r.html?t=DTV&region=usa&cult
ure=en-US
• https://www.strategyanalytics.com/default.aspx?mod=reportabstractview
er&a0=7462
• http://articles.latimes.com/2013/jul/08/entertainment/la-et-ct-cable-
directv-ott-rights-over-top-20130703
• http://www.nielsen.com/us/en/insights/news/2014/field-of-streams-
digital-video-and-quality-content-have-driven-continuous-
consumption.html
• https://technology.ihs.com/468148/
• https://gsmaintelligence.com/research/2013/04/us-consumers-increasing-
mobile-spend-through-multiple-device-ownership/378/