Rejoice, NBA fans! This week, the National Basketball Association announced a long-term extension with current content partners Time Warner's (NYSE:TWX) TNT and Disney's (NYSE:DIS) ESPN. The deal will keep NBA games on those channels for nine years, until the 2024-2025 season. And while many point toward the massive amount of the contract increase -- the $24 billion deal is nearly three times the value of the prior contract -- the deal is also yet another example of how cable is dying.
Somewhat underreported is that ESPN and the NBA will work together to create an over-the-top digital network that will air live regular season games. This is a quick-moving story, but this collaboration has the ability to move past the current model to deliver live sports directly to consumers without pay TV. The NBA is focusing on the so-called "cord cutters" who have replaced cable with Internet-only services and streaming-based content from Netflix and Hulu, among others.
The NBA joins the NFL in reducing dependence on cable
If this sounds familiar, it is because the NFL recently did something similar by allowing DIRECTV to stream its Sunday Ticket afternoon games direct to consumers through the Internet. And while the deal is different in that DIRECTV is actually a pay-TV provider, the trend toward moving toward Internet-based delivery is the same.
While the cost and business model of the NBA-ESPN digital partnership are still being hashed out, NBA Commissioner Adam Silver thinks the service is merely complementary to pay TV:
There is a millennial consumer out there who has a different approach to the traditional cable or satellite package, but we think ultimately it will be supplemental. There is a demand to get live games on mobile devices, but ultimately it will supplement the premium content we are providing through cable and satellite.
While Silver is seemingly putting a positive spin on the relationship with pay-TV providers, Internet-based delivery is a direct threat to their business model. In addition, other content providers are following suit and looking to lessen their dependence to pay-TV providers' bloated-package, high-cost business model.
HBO: "Broadband is quite a deal larger"
One such example is another Time Warner-owned entity: HBO. At a recent Goldman Sachs investing conference, Time Warner CEO Jeff Bewkes turned heads in discussing the business model for HBO going forward, specifically mentioning an Internet-only subscription for HBO Go. He stated [emphasis added]:
Up until now, it looked like the best opportunity was to focus on HBO through the existing affiliate system. ... The broadband-only opportunity up until now wasn't ... at the point where it would be smart to move the focus from one to the other. Now the broadband opportunity is quite a bit bigger.
Quickly thereafter, the company took a ministep toward an Internet-only subscription for HBO Go by offering slimmer, cheaper, and Internet-focused pay-TV packages that feature basic TV channels, Internet, and HBO for $39.99 per month with AT&T and $50 per month through Verizon.
Shakeout mergers in this industry may not work
In a way, it appears pay TV itself has gotten the memo. One way to continue to dominate a mature and declining industry is to acquire extreme market power via mergers and acquisitions. This allows a company to exist and thrive while other smaller players exit the market. That's what you are seeing in pay TV. Between AT&T's bid for DIRECTV and Comcast's play for Time Warner Cable, the industry is rapidly consolidating.
And while that seems weird when one considers many cable companies operate in near-geographical monopolies -- only competing with satellite providers -- this monopoly type situation already eliminated consumer choice, therefore mergers to eliminate competition aren't as effective as it would be in a truly free market. However, larger, merged pay-TV companies can better negotiate costs with cable channels by lessening affiliate fee increases.
But for those popular cable channels, Internet distribution is a powerful tool to reduce their dependence on pay-TV providers and continue to increase affiliate fees. ESPN is a noteworthy case because it benefits greatly from the current pay-TV structure. The channel earns $6.04 per month in affiliate fees per subscriber - $4.50 more than the second-most expensive channel (TNT). If pay-TV providers fear channels will go to an Internet-only subscription or push for a la carte pricing -- undermining the lucrative pay-TV package model -- they will continue to stomach fee increases (and pass them to the consumer).
Cord cutting is a trend that scares pay-TV providers. The phenomenon has grown from 4.5% of U.S. households in 2010 to 6.5% last year. Throughout that period, pay-TV companies could always count on content providers for support. More recently, that has changed; no longer content with missing out on cord cutters, more popular providers are looking to decrease their dependence on pay TV. Look for more content providers to do the same going forward.
Jamal Carnette owns shares of Verizon Communications. The Motley Fool recommends Goldman Sachs and Walt Disney. The Motley Fool owns shares of Walt Disney. Try any of our Foolish newsletter services free for 30 days. 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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