AT&T (T +0.00%) could offer customers a streaming television package for the low, low price of $0 per month in the near future.
During AT&T CEO Randall Stephenson's testimony in the Department of Justice's case against his company, blocking its potential acquisition of Time Warner (TWX +0.00%), he noted the company is planning a $15 per month sports-free streaming bundle called AT&T Watch.
Wells Fargo analyst Jennifer Fritzsche said the service will be available to everyone, but AT&T will offer it for free to its wireless customers. AT&T currently offers a $15 discount on any DirecTV Now bundle to its unlimited wireless data plan subscribers, so it would effectively be offering the same discount for customers who opt for the sport-free AT&T Watch. AT&T also offers free HBO to its unlimited subscribers.
AT&T has said it's seen a lot of success by bundling video products with its wireless plans, and it's seen a couple of copycat attempts by T-Mobile and Sprint. AT&T Watch is yet another move to differentiate its service.
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Can $15 per month be profitable?
One of the biggest gripes about AT&T's (and other companies') push into streaming skinny bundles is that the subscribers don't produce much, if any, profits. In fact, AT&T generates an estimated $31 per DirecTV Now subscriber, but pays about $30 for content alone.
The good news is that a lot of those content costs come from sports. ESPN and ESPN2 combined cost distributors about $9 per month alone. Additional sports networks start to add up quickly as well. And if AT&T cuts out cable news programming, focusing primarily on entertainment, it could certainly get a bundle of entertainment-only networks for far less than $15.
Competitor Philo offers a similar bundle for $16 per month for 37 channels featuring no sports and no news. Viacom CEO Bob Bakish says it's possible to put together a bundle with a 30% profit margin if you leave out sports.
Considering AT&T already has meaningful scale from serving over 1 million DirecTV Now customers, it could certainly produce better margins than the stand-alone Philo.
Bundling is where things get interesting
As mentioned, AT&T currently offers a $15 discount on DirecTV Now to its unlimited wireless data plan subscribers. But many cord-cutters and cord-nevers will still balk at paying $20 a month for a bundle of channels they'll hardly watch. Offering a bundle of channels for free with an unlimited data plan could produce even better retention rates for AT&T.
Bundling helps with subscriber retention by increasing switching costs. If a customer is used to having access to HBO and several other television networks, he'll likely consider the cost of subscribing to those services on a stand-alone basis after switching to a competitor. That's why T-Mobile and Sprint have also taken to bundling popular video streaming services with their unlimited data plans.
Bundling can also help add new customers. AT&T CFO John Stephens said the company added 700,000 new subscribers who bundled wireless with video during the fourth quarter.
Easing the pressure of bundling on margins
Considering the fierce competition in the wireless industry and AT&T's struggles to add new subscribers over the past few years, bundling takes advantage of its unique position as a wireless carrier and the largest MVPD, or multichannel video programming distributor, in the country. Still, it's put a lot of pressure on AT&T's margins.
If the acquisition of Time Warner goes through, AT&T will be able to improve its overall margin on the business. It's currently giving away HBO and presumably paying Time Warner a wholesale price. Time Warner networks are currently included in DirecTV Now bundles, and it may also supply some networks to AT&T Watch.
For now, however, AT&T's bundling is making a serious dent in its margins. EBITDA margin for its Entertainment Group fell significantly in the second half of last year, down 220 basis points and 170 basis points in the third and fourth quarters, respectively. Consumer Mobility margin also contracted through the second half of 2017 -- 120 basis points and 170 basis points in the third and fourth quarters, respectively.
Adding a skinny streaming bundle with a better margin profile than DirecTV Now could enable AT&T to lower the discount it offers on its bigger bundles and improve overall margins while exhibiting the same success it saw with bundling in the fourth quarter.
