Should You Buy These Massive Merger Rumors?

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The boutique firm Moffett Research upgraded shares of DirectTV (NASDAQ: DTV) and Dish Networks (NASDAQ: DISH) to “buy” on Thursday. The firm’s “buy” rating was not fundamental in nature, but rather based on the possibility of a merger. With that said, will this “merger” ever occur?

A Deal in the Making?

Moffett Research makes a compelling case for investing in the two largest satellite companies. Analyst Craig Moffet says that even after “pruning bad branches” from the two companies, the combined synergies from the deal would be “staggering.”

Moffett believes a DirecTV/Dish merger could represent $30-$40 billion in net present value, and is now possible thanks to Dish’s failed attempt to acquire Sprint and its decision to withdraw its bid from Clearwire.

For the last two years, whispers of a DirecTV/Dish merger have been consistent, as many believe the combined technologies could greatly impact its competitive advantage. The reason being technology, patents, and licensing agreements that these two companies have combined.

Currently, both companies pay for content, but a combination of the two companies would save a great deal on the content that both companies pay for the same channels, often creating bidding wars. DirecTV is known for its cutting edge DVR technology and sports packages.

While Dish has Blockbuster DVD rentals, a massive portfolio of streaming options, and has its spectrum approved for mobile, these small differences can create one great company combined, which would ultimately save on costs and increase margins (as noted by Moffett Research).

Using History as a Guide

Moffett has been ranked the #1 analyst in the U.S. Cable & Satellite sector for the last seven years, according to Institutional Investor Magazine. Therefore, he does have great knowledge of the space and we cannot discount his belief. With that said, I don’t see this merger happening, and for one reason: the FCC!

The Federal Communications Commission (FCC) must first approve any proposed deal, as their job is to determine the economic impact of such deals and its competitive effect on the market. Thus, to explain why this merger will not work, we can simply look back to the proposed acquisition of T-Mobile by AT&T (NYSE: T)

AT&T had attempted to purchase T-Mobile for $39 billion; a deal that would’ve created significant separation between it and Verizon as the number #1 and #2 U.S. carrier. The acquisition would have combined the #2 (AT&T) and #4 (T-Mobile) U.S. carriers.

Combined, this acquisition would have created more than 150 million subscribers, which would have been far greater than #1 Verizon’s 115 million and #3 Sprint’s 55.6 million subscribers. As a result, the FCC blocked the proposal, saying “the transaction would decrease competition, innovation and investment, and harm consumers.”

A Repeat of History?

The FCC must approve any proposed merger between Dish and DirecTV. Already, DirecTV and Dish are the largest two satellite companies, by far. But, if we look at cable, satellite, digital, etc. all combined, then DirecTV and Dish are numbers two and three.

<table> <thead> <tr><th> <p><strong>Company</strong></p> </th><th> <p><strong>U.S. Subscribers</strong></p> </th></tr> </thead> <tbody> <tr> <td> <p>Comcast</p> </td> <td> <p>22.3 million</p> </td> </tr> <tr> <td> <p>DirecTV</p> </td> <td> <p>20 million</p> </td> </tr> <tr> <td> <p>Dish Networks</p> </td> <td> <p>14 million</p> </td> </tr> <tr> <td> <p>Time Warner</p> </td> <td> <p>12 million</p> </td> </tr> </tbody> </table>

If a merger was ever presented, it would equal almost 35 million subscribers, which would be more than 50% greater than Comcast. The AT&T/T-Mobile deal would’ve only been 30% greater than Verizon’s subscribers. Therefore, a DirecTV/Dish merger might be even more “unfair” than the AT&T/T-Mobile deal.

Then, there is one more element to consider: DirecTV also has 16.3 million subscribers in Latin America. While this is hardly a concern to the FCC, it might pose a regulatory issue in Latin America, further adding to an unlikely merger.

The bottom line: If the FCC considered the AT&T/T-Mobile acquisition as negative for the economy or as an unfair advantage, then why in the world would they approve a merger than would be even more impactful relative to its industry?

My belief is that this massive merger will never be approved, but it could create some excitement within the market among those who believe it is possible. Sure, DirecTV and Dish might talk, and might even present a deal, but it doesn’t matter if the FCC will not sign off.

How Does This Affect You?

On Thursday, Dish Networks traded higher by 3%, with the most to gain from a merger, seeing as how it is the smaller of the two companies. Most likely, as these rumors, or talks, continue, more gains will be created. However, once it falls through, it could create sudden losses for investors.

My advice is to accept the obvious. Shares of Dish Network have returned a 6% gain in the two days following the suggestion of a merger. The stock is trading higher by more than 50% over the last year and is now trading at 39 times earnings.

On the other hand, DirecTV is trading at just 13 times earnings, and is actually growing faster. Thus, if I were looking to invest in the space, I’d definitely go with DirecTV, and would not follow the rumors of a potential merger. 

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Brian Nichols has no position in any stocks mentioned. The Motley Fool recommends DirecTV. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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