There's no question the cable industry is in decline as consumers cut the cord and move to streaming options. One bridge to the streaming world has been streaming cable offerings like Alphabet's (GOOG 2.49%) (GOOGL 2.34%) YouTube TV, which has over 4 million subscribers. But this isn't your normal cable offering.
Unlike cable companies like Comcast (CMCSA 1.29%) or Charter Communications (CHTR +0.29%), Alphabet hasn't spent billions of dollars putting cable lines into the ground to millions of homes. It's just riding the internet connection users already have to deliver content. As a result, YouTube TV has been a far harder negotiator with content companies like Sinclair (SBGI 0.15%) than traditional cable rivals, and now that negotiating tactic is being turned on Disney (DIS 2.40%).
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Disney gets the Sinclair treatment
The change in cable TV's power dynamics started when Sinclair bought the Fox Sports regional sports networks (RSNs) from Disney as part of Disney's acquisition of part of Fox. Sinclair spent $10.6 billion on the RSNs, primarily with debt, under the thesis that it could continue charging higher and higher fees for each cable subscriber and could layer on advertising as well. That thesis fell apart shortly after the deal closed when every major streaming cable company outside of AT&T (T +0.62%) refused to pay Sinclair's asking price. I highlighted here and here how that has put Sinclair itself in a precarious financial position.
Disney is stronger financially than Sinclair, but it is used to its bundle of ESPN, FX, Disney, and National Geographic networks being a power broker in the cable landscape. Many customers sign up for cable specifically for these networks, so pulling them can cost cable companies subscribers. But I mentioned above that Alphabet doesn't have the same capital investment in cable as Comcast or Charter, so it's in a stronger negotiating position and appears to be using that leverage. YouTube TV doesn't need to have Disney channels if the price isn't right, while traditional cable companies rely on them to keep customers.
YouTube TV is getting out in front of the negotiations, saying that it will lower its monthly fee by $15 to $49.99 if Disney's networks go dark on Friday, when the current agreement expires. Details of the negotiations aren't public, but there's often brinksmanship between parties as a current deal's expiration nears as they negotiate fees for channels or other details. YouTube TV is also offering the Disney Bundle (streaming services like Disney+ and ESPN+) as an alternative for $13.99 per month. In essence, YouTube TV has laid its cards on the table and called Disney's bluff.
Networks are in a tough spot
Disney is clearly moving more and more of its content to streaming services, but it still wants to generate cable fees and advertising revenue for as long as possible. We just don't know how long there will be any juice to squeeze from that business.
To put Disney's cable business into perspective, the company generated $28.1 billion in revenue and $8.4 billion in operating income from the linear networks business in fiscal 2021. Disney+ is on a run rate for about $5.8 billion in revenue, as for now linear TV still dwarfs the streaming business for Disney.
It's clear that streaming is the future for Disney, but the company isn't giving up on cable and wants to keep the cash coming as long as possible. YouTube TV is just driving a hard bargain with Disney and everyone else serving content.
The beginning of the end
I think there's too much at stake for both Disney and YouTube TV for a deal not to get done. But the terms may not be as profitable for Disney as the previous deal's, and I think the days of regular increases for cable fees are over. We may even see fees and margins start to decline in the linear TV business.
For investors, the transition from linear TV driving a vast majority of Disney's profits to streaming being highly profitable could be painful. It's the right move for the long term, but earnings may fall as Disney builds up the subscriber base and fees to make streaming profitable. But keep in mind that with streaming, there doesn't have to be a middleman, and there's no geographic limit to Disney's reach. Giving up cable profits may be a short-term pain, but the opportunity for long-term gain is much bigger.
