Warner-Discovery Combo Deserves Benefit Of Doubt

By Breakingviews

It’s not the most promising name. But Warner Bros. Discovery (WBD) may have a bright future. The stock of the new company formed by the merger of AT&T’s (T) media assets, including HBO, and Discovery, owner of television networks like HGTV, started trading on Monday. The shares replaced those of Discovery, which have held their value since the beginning of the year as rival Netflix (NFLX) has fallen more than 40%. The deal deserves the benefit of the doubt: Without the shackles of its lumbering parent, Warner’s content stars may shine.

The newly formed company, worth about $60 billion in market capitalization at Monday’s closing stock price, will start out as a bit of a hodge-podge. Discovery’s portfolio, which also includes channels like the Food Network, are under pressure from streaming watchers.

The first task for Chief Executive David Zaslav is to weave the Discovery cable business in with WarnerMedia networks like CNN and TBS as well as the golden goose, HBO. The financial prize for a successful integration is an estimated $3 billion a year of cost savings, worth more than $20 billion in current value once taxed and capitalized on a multiple of 10.

As far as the top line goes, the growth engine will probably be HBO’s streaming service. With previous WarnerMedia boss Jason Kilar headed for the exit, and without the baggage of a large telecom company, Zaslav’s in full control. Luckily for him, he may only need to do a so-so job. The division’s revenue is set to grow more than 40% between last year and the end of 2024, according to research firm MoffettNathanson. That’s slightly better than analysts reckon Netflix will do, according to estimates compiled by Refinitiv.

Yet Netflix trades at an enterprise value of around 17 times estimated EBITDA for 2023. WBD – the new company’s ticker symbol – will have roughly $50 billion of net debt. If it can book $14 billion of EBITDA by the end of next year, a figure that includes a chunk of the anticipated synergies, that means investors are awarding the company an EV-to-EBITDA multiple only about half of Netflix’s. Even if Zaslav were to achieve no growth and no cost savings next year, WBD would still look cheaper than its rival.

That may mean Netflix’s stock price is too rich. But it also means WBD has room to make its mark. When it comes to Hollywood, better to be a rising star than a falling angel.

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Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.