Three big questions about AT&T’s WarnerMedia-Discovery spinoff

Unlike the lengthy news cycle that led up to the DirecTV spinoff, AT&T’s WarnerMedia spinoff quickly materialized over the weekend and was confirmed this morning.

The company is separating WarnerMedia—which includes HBO, Turner and Warner Bros.—and combining it with Discovery Inc.—which includes Discovery+, Eurosport and a portfolio of networks including Discovery, TLC, HGTV and Food Network. AT&T will retain a majority stake and Discovery gets the minority stake in the new company. AT&T is also receiving $43 billion in a combination of cash, debt securities and WarnerMedia’s retention of certain debt.

The deal is expected to close in mid-2022 if it gets regulatory approval and the OK from Discovery’s board. If it does close, Discovery CEO David Zaslav will run the new company.

The basic components of the mega-merger were laid out this morning—barely 24 hours after Bloomberg first reported the deal—but some questions still remain.

What will happen to HBO Max and Discovery+?

A combined WarnerMedia and Discovery would be home to HBO Max and Discovery+, two of the fastest growing subscription/ad-supported streaming services in the world.

But it’s unclear if those two services would continue to operate separately after the merger or if they would be combined. During a press conference today, Zaslav mentioned bundling opportunities that Discovery+ has already pursued in European markets and said that the new company will likely experiment with different offers in different markets.

Discovery CFO Gunnar Wiedenfels said the two companies have already modeled out various permutations of go-to-market strategies considering both one fully integrated product or a bundled approach. He said both Discovery+ and HBO Max are doing well in terms of engagement, churn and ARPU, and that the companies will work over the next few months the best way to proceed while preserving those metrics.

Zaslav added an anecdote about “one of the biggest streaming players” recently telling him that if they had Discovery and its IP, “my churn would be zero.”

“People are now spending three hours with us and then you add to that Batman, Wonder Woman, King Kong, Sex and the City, Friends…it’s an unrivaled combination,” he said. “We think we can be very attractive together and pretty compelling.”

What happens to the traditional channel bundle?

Both WarnerMedia and Discovery hold many of the most critical pieces in the traditional linear TV puzzle. The combined company would have some of the biggest news, sports, entertainment and lifestyle content networks, which Zaslav said will make the new company a major partner for advertisers and distributors.

The increased scale and sports rights—including a recent deal that brings the NHL to Turner and HBO Max—will give the new company tremendous leverage with linear distributors. According to S&P Global, the combined company would own 29 U.S. basic cable networks that account for more than 30% of total industry advertising revenue and roughly a quarter of total cable network industry revenue.

Zaslav said that both Charter CEO Tom Rutledge and Comcast CEO Brian Roberts are both focused on how they can hold onto the traditional bundle, and that a combined Discovery-WarnerMedia would be “very friendly and positive” toward that end.

“If we continue to invest in it, which we will, it should give some additional legs to the bundle,” he said.

However, New Street analyst Jonathan Chaplin said that it might have been smarter to split HBO and Turner so HBO Max could pursue its global direct-to-consumer ambitions “without being saddled to a declining linear business.”

“We heard [WarnerMedia CEO Jason Kilar] make the pitch for the resilience of linear at a conference last week – we don’t buy it. We wonder why they are selling the whole thing,” wrote Chaplin in a research note. “We can see why getting access to the studio and HBO is good for Discovery. We aren’t convinced that increased exposure to linear is good for the studio and HBO, even if it comes with some valuable international sports rights.”

What happens to AT&T’s role in the media and entertainment landscape?

AT&T has now reached deals to spinoff its linear TV businesses, its studio, its networks and its streaming businesses, leaving itself with a much more streamlined business that will focus on wireless and broadband. But the company is retaining approximately 70% stakes in both DirecTV and the new combined company with Discovery, so it’s not like they’ve abandoned media all together.

Still, it’s worth wondering what role AT&T might continue to play in media and entertainment, particularly with the new Discovery. The company is retaining its advanced advertising business, Xandr, and AT&T CEO John Stankey said his company’s wireless business will still play a role as a video service aggregation point.

“I do believe that aggregation dynamic is going to change. We’re seeing a resettling of entertainment, music and gaming. All these natural places where people buy high-value subscriptions could be reaggregation points, and there’s probably some value to be created in that reaggregation point over time,” he said. “I think we’ve leaned into the prospect of always using different services to provide value to the customer. Whether we owned HBO Max or not, we’d probably be continuing to look at that. And I do believe there is an evolution that’s going to occur in the industry as a result of that over time.”