Time Warner, Inc. Was Right to Refuse Fox

Fox's attempt to win Hollywood's "game of thrones" met resistance. Image source: HBO.

When Time Warner, Inc. (NYSE: TWX  ) chief Jeff Bewkes refused Rupert Murdoch's $80 billion buyout offer, he touched on his company's significant assets. "As you know, Time Warner has unique and powerful brands and leading businesses that are the envy of our competitors. So it's not surprising that we might attract attention from others," Bewkes said in a video released to employees following the news of Twenty-First Century Fox's (NASDAQ: FOXA  ) bid.

Among the list of "powerful brands" that Bewkes refers to: HBO, which, if a Bloomberg report is to be believed, was Murdoch's real target. Warner was right to refuse him.

Playing lowball
Why? Price. Bloomberg cites a source that said Murdoch was valuing HBO at "more than $20 billion." How much more, we don't know, but anything less than $26 billion seems like theft when you compare its stand-alone results to those of Netflix (NASDAQ: NFLX  ) :

Metric
HBO
Netflix
Difference

Revenue run-rate

$5.51 billion

$5.22 billion

$0.29 billion

Operating income run-rate

$2.03 billion

$456 million

$1.57 billion

Market value

$20 billion

$26.86 billion

($6.86 billion)

Sources: Time Warner Q2 press release, Netflix Q2 press release, Yahoo! Finance, and author's estimates.

Notice the difference? HBO is running at a slightly higher revenue run rate, and is more than four times as profitable. For his part, Netflix CEO Reed Hastings recently pointed out in a Facebook post that his company earned more subscription revenue in the current quarter.

 

Impressive? To a degree, sure. And yet it's also important to remember that HBO's Q2 sales included $274 million from licensing its shows to other distributors. Netflix generally doesn't own the original content it distributes. Indeed, Media Rights Capital is the one benefiting from a March deal to sell episodes of House of Cards to Comcast's Xfinity cable TV subscribers.

So, while Netflix's reach and growth is impressive, HBO's asset base is just as impressive, if not more so, and deserves a premium valuation. Bewkes reinforced that message -- tacitly, if not explicitly -- in refusing Murdoch.

Foolish takeaway
For now, Time Warner remains independent. I'm expecting it to stay that way for a while, but I'd also not count out Murdoch making a second bid.

Merging Fox Sports and TBS could create leverage when it comes time to re-up TV contracts. Merging 20th Century Fox and Warner Bros. would create the world's largest movie and TV studio. And merging FX and HBO would create a cable programming powerhouse with the resources to acquire and produce the best content, shutting out upstarts like Netflix.

Is that worth more than $80 billion? Perhaps. At the very least, it's worth noting that Netflix alone -- a company with no movie studio or live programming -- is aiming to double its domestic subscriber base over the long term. Mix in overseas growth, and you have the makings of a global powerhouse that could be worth as much as -- or more than -- all of Time Warner at current prices.

How to profit no matter what Murdoch does
Murdoch may have fired the first shot, but the cable and content wars are only just beginning. There's $2.2 trillion out there to be had. Currently, cable grabs a big piece of it. That won't last. And when cable falters, three companies are poised to benefit. Click here for their names. Hint: They're not Netflix, Google, and Apple.


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