The media industry is going through an incredibly disruptive transition as streaming companies grow, cable use falls, and the movie industry tries to figure out how to maintain a semblance of profitability. In the case of The Walt Disney Company's (NYSE:DIS) recently announced acquisition of most of Twenty-First Century Fox's (NASDAQ:FOX) assets, we see two companies deploying their own strategies to adapt to industry changes.
It makes a ton of sense for Disney to collect more media assets because of its theme parks, media networks, and streaming ambition. What's striking about this deal to me is how it shrinks Fox to a shell of its former self. Becoming smaller makes sense in some ways, but it could lead to the slow death of Fox if there aren't other changes ahead for the media company.
Fox is cashing in while it can
Fox is in a challenging position in the current media landscape, big enough to be a notable player but not big enough to really rival the power of Disney or Comcast (NASDAQ:CMCSA), which owns NBC Universal along with cable TV and internet assets. Fox also doesn't seem to be willing or able to compete with Netflix (NASDAQ:NFLX) to build a streaming service, so it's having a tough time positioning itself for the future, making an asset sale compelling at the right price.
Disney, on the other hand, has some of the best media assets in the world from studios like Pixar, Marvel, Lucasfilm, ABC, ESPN, and Disney's traditional studio. Better yet, it has a business model that makes money all the way from a film or TV show's release through streaming to merchandising and down to theme parks. The theme park, in particular, is what separates Disney and Fox. And it's why Disney was willing to pay $52.4 billion for Fox's film and television studios, bringing X-Men, The Simpsons, and Avatar into the fold, among other assets.
At a high level, Disney can generate more value from the acquired assets than Fox, which is why the sale makes sense.
Doubling down on cable news and sports
Where Disney didn't see a higher value from bringing Fox's assets into its portfolio is in news and sports. That's partly for regulatory reasons, but there's also no theme park tie-in for Fox News, FS1, or the Big Ten Network, which is a big reason those assets weren't included in this deal. And some sports assets would have been duplicates of ESPN rather than additive, as the regional sports networks will be.
Fox's owners see news and sports as an area where they have a sustainable business model they can exploit for years to come. Given the current market, it's easy to see why they like these assets, but there's reason to be concerned about the future.
Why a sale is problematic for Fox
As I've pointed out above, there are logical reasons for Fox to sell many of its assets. With all of Disney's media and theme park assets, many of the assets it's acquiring from Fox will be more valuable within Disney.
But that doesn't take away from the fact that Fox is now in a very tough strategic position going forward. Fox will no longer own 30% of Hulu, a leading competitor to Netflix, and doesn't seem to have a coherent streaming strategy for news and sports content. That's problematic, because consumers are cutting the cable cord and consuming more content on streaming devices. And with Disney in control of Hulu there's an incentive to buy Disney's content, not Fox's.
The smaller balance sheet will also be a problem eventually in one way or another. Maybe Fox will be outbid for valuable content, like the NFL, NCAA, or news anchors. Bigger media companies, or even tech giants, will potentially be able to outbid Fox in the future just based on their sheer size.
It also looks like Fox is going to be left with fewer ways to monetize expensive assets like the NFL. While Disney will be able to package its content to both cable operators and streaming services, Fox will have less power in those negotiations and no stand-alone streaming service. Even the loss of Hulu could be a loss of cash flow for Fox unless Hulu decides to acquire content from Fox.
Another long-term problem Fox doesn't seem to be addressing is that content is bypassing traditional networks and cable operators and going straight to consumers. Netflix is a streaming company with a massive studio, Comcast owns a studio and cable assets, and Disney is planning to take its trove of content directly to consumers with new streaming services in 2018. We could see valuable Fox content like the NFL and NASCAR go directly to consumers with their own apps.
Strategically, Fox doesn't seem like it will be operating from a position of strength in the future.
What happens to Fox now?
While the sale of Fox assets makes sense given how Disney valued them, I think it will leave the remaining Fox assets in a very tough position. The few remaining networks will have little negotiating power with cable operators, which will become increasingly important if Hulu shuts Fox out and the company doesn't start its own streaming network. Competitors will also be able to bid up valuable live sports content rights to the point where Fox can't compete or is unprofitable with the content, just by virtue of its smaller size. These are all problems for Fox going forward, and I don't see an easy way to solve them.