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Is This Market Only Big Enough for Two?

By Marie Palumbo – Mar 19, 2014 at 12:00PM

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According to Charter CEO Tom Rutledge, consolidation is the key to success. Is he right?

In today's television industry, satellite is the new kid on the block. Recent advances in satellite technology have made the service more reliable and affordable. Despite this, however, the cable industry is booming. With 41.2 million subscribers, cable companies command 48% of the market.

Now Charter Communications (CHTR -0.15%) CEO Tom Rutledge wants to merge with competing companies in an effort to be more competitive. He says that eventually the cable industry will boil down to two major players, so why not be proactive and take advantage of the situation?

I think consolidation is a good idea. Here's why.

In a world of its own
Before cable companies like Charter and Time Warner (NYSE: TWC) can think about competing with satellite providers, they must figure out how to compete within their own industry, mainly against Comcast (CMCSA 0.65%). With 21.9 million subscribers, Comcast nearly doubles Time Warner's 12.1 million subscriber count.

To make matters worse for Time Warner, the Wall Street Journal reported that Comcast's Universal Studios is signing a deal with successful blockbuster producer Legendary Pictures. Legendary produced such franchises as The Dark Knight and The Hangover, as well as the recent Man of Steel. Although Legendary has largely shied away from TV, successful films are cash cows – the "Dark Knight" franchise grossed $1.2 billion at the box office alone – and I'm sure Comcast will find ways to put the extra cash to good use.

Consolidation would allow smaller cable companies to lower costs while affording better leverage over media firms that supply TV programming. If the second, third, and fourth place cable providers (Time Warner, Cox, and Charter) merged, they would form a company with just as many subscribers as Comcast.  Note the 2012 year-end subscription numbers for the major cable and satellite providers.

Service ProviderTechnologyTotal Subscribers
Comcast Cable 21,995,000
DirecTV Satellite 20,080,000
DISH Network Satellite 14,056,000
Time Warner Cable Cable 12,030,000
Verizon IPTV 4,700,000
AT&T IPTV 4,500,000
Charter Cable 3,989,000
Cablevision Cable 3,197,000
Total   84,547,000

Satellite contenders
What about satellite competition? The major satellite companies have a total of 34.1 million subscribers, but growth is the key statistic here. From the first quarter of 2011 to the fourth quarter of 2012, satellite giants DirecTV (DTV.DL) and Dish Network (DISH 1.16%) gained 861,000 subscribers and lost 77,000 subscribers respectively. Those numbers outpaced Time Warner and Charter, who lost 985,000 and 370,300 subscribers over the same period.

Put another way, DirecTV's subscriber count grew 4.5% and Dish's fell .5%, but Time Warner's drooped 7.6% and Charter's plummeted 8.5%. Call me crazy, but it looks like customers are growing to like satellite.

Cable companies – especially Time Warner – are losing subscribers left and right, and I think that they should come together to stop the bleeding. Even though Time Warner CEO Glenn Britt has so far showed little interest in a merger, Britt is stepping down later this year; this opens the door to new possibilities.

I don't think that cable companies can win back subscribers with TV. They need to capitalize on broadband Internet. Consolidation will put cable companies in position to capitalize on the recent streaming and online gaming trend. TV and online gaming both use large amounts of bandwidth, and satellite companies have difficulty providing enough bandwidth. Satellite may be great for TV, but it isn't ideal for surfing the net. Cable providers are in a favorable position because bundling Internet and TV services is popular and easy.

Through a cable, Broadband can deliver speeds of more than 15 Mbps (Megabytes per second) whereas satellite providers typically offer slower speeds between 64 and 400 Kbps (Kilobytes per second.) In 2012, Time Warner upped its standard speed to a swift 15 Mbps. The drawback is that cable providers often have difficulty reaching rural areas because of the necessity of a physical cable. Mergers would allow the smaller firms to combine resources and extend the arms of the cable network. Believe me, if rural consumers had a choice then they would take cable broadband over satellite every time.

Bottom line
This situation reminds me of a dilemma sports teams often face when their star player is in the last year of his contract. The team has two options: trade him and be sure to get something useful in return, or let his contract expire and hope to resign him. Once a contract is allowed to expire, the player often signs with another team and leaves his former club with nothing.

I think that the cable industry will eventually boil down to two players. Smaller cable companies like Charter have two choices: embrace the change and benefit from it, or fight the shift and come away with nothing. Charter's Tom Rutledge has the right idea. It's time the rest of the industry got on board. 

This article was written by Randy Holcombe and edited by Chris Marasco and Marie Palumbo. Chris Marasco is HeadEditor of ADifferentAngle. None has a position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.

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