Liberty Media puzzle takes shape

Malone aligns pieces to boost Starz, hone content vision

Darth Vader is restless.

John Malone and his Liberty Media holding company have engaged in a flurry of buying, selling, spinning off and swapping for much of the last two years, raising questions about Malone’s long-term intentions for his disparate media investments.

Discovery Communications, DirecTV, Sirius XM Satellite Radio, InterActiveCorp, Overture Films, Ascent Media Group — Malone is renowned for moving the puzzle pieces of his empire around at will, seemingly without the kind of personal passion for any particular asset that drives peers like Rupert Murdoch or Sumner Redstone.

Malone, who earned the nickname of the “Star Wars” villain during his years as the iron-fisted gatekeeper of cable titan Tele-Communications Inc., likes to keep his competitors guessing. But Liberty’s spate of transactions is also driven by a desire to help make its financials and its three tracking stocks a little more comprehensible to investors and Wall Streeters.

“What they are trying to do is drive the value of some of their assets,” says Chris Marangi, an associate portfolio manager with Mario Gabelli’s GAMCO Investors. Part of that effort comes in unlocking assets from the holding company through spinoffs. “It won’t necessarily make Liberty any less complex, but (Malone) is trying to narrow the discount some those businesses receive as being pieces in a large holding company.”

One thing is clear amid all the moving and shaking: Liberty has become focused in recent months on beefing up its Starz-Encore pay cable business. The Starz firmament comprises 16 Starz- or Encore-branded channels.

Malone signaled his intent to make Starz a pay TV player alongside HBO and Showtime by recruiting former HBO topper Chris Albrecht to take the helm last January. Now Liberty CEO Greg Maffei is in the midst of lining up off-balance sheet financing (a project code-named “Operation Turbo”) to give Albrecht ample resources to develop the original programming that will be crucial to developing Starz into something more than a movie distribution service. This is important at a moment when there’s no shortage of outlets vying to deliver contempo films to consumers.

With Operation Turbo, Liberty is believed to be looking to create an entity not directly attached to Starz that would have global partners (ranging, possibly, from media companies to hedge funds and banks) that would get an equity stake and help sell the rights to Starz programming outside the U.S. Starz would handle U.S. rights. Maffei says the entity would book revenues, but he wouldn’t characterize it as a unit of Starz.

Maffei says Operation Turbo is still very much in the discussion stage, and he suggests its model would be unique in the entertainment biz — which sounds right up Malone’s alley. As industry veterans know, the Englewood, Colo.-based engineer with a Ph.D. in operations research loves to craft intricate deals that sidestep tax liabilities.

Of Liberty’s businesses, Starz is the “most in-transition,” Maffei says. “There are still a lot of questions about the long-term future of a premium channel.”

Liberty’s spate of dealmaking stirred some speculation that it was getting ready to make a move with Starz. But that’s not in the near-term plan, according to Maffei.

The goal right now is to spin off Starz, along with Liberty Capital, as a free-standing stock some time next year, he says. “We are not out trying to hawk it.”

Maffei also acknowledged that Starz would need to be spruced up before Liberty would consider a sale or a spinoff. And with zero debt and $1 billion in cash on its books, Starz is in a good position to chart its future. Starz is on track to boost operating profit this year by 6% as it slowly ramps up original series to differentiate it from the competish.

“And that takes time,” Maffei says.

One of the big-picture questions looming over Starz and its pay TV kin is the aggressive effort made this year by Netflix to position itself as an alternative to cable service by vastly expanding its roster of movies and TV shows that it offers via Web streaming. Ironically, Starz was among the first to add to Netflix’s arsenal with a 2008 deal to sublicense pics from its output deals with Disney and Sony to Netflix for streaming — a move that initially led to some agita between Starz and its studio partners.

It’s expected that Starz and Netflix soon will renegotiate the terms of that deal, as the value of streaming rights has increased markedly as competition in the streaming/VOD space has spiked.

While Liberty has been building its assets and presence in that space, it’s been shedding other parts in its tireless effort to find the right mix of media holdings.

Liberty’s dealmakers were busy this year, coming off the spinoff of Malone’s holdings in Discovery Communications in 2008 and Liberty’s spinoff of satcaster DirecTV in 2009.

In July, Liberty ended three underwhelming years in the indie feature biz by unloading its film distribution operation to Ryan Kavanaugh’s Relativity Media, even as it kept the small library of titles Overture had amassed.

In October, Liberty sold the Film Roman animation production house it acquired in 2006 through its $183 million acquisition of IDT Entertainment. It also tapped film biz vets Chris McGurk and Danny Rosett to launch Overture.

The IDT purchase brought to Liberty the homevid distrib Anchor Bay Entertainment, which has recently dipped its toe into low-budget film production. Liberty intends to hang on to Anchor Bay, Maffei says, because it can play a strategic role in distributing Starz’s original programming on homevideo, and Anchor Bay-produced pics can run on Starz outlets.

During the past month, Malone moved to cash out his sizable personal stake in the publicly held Ascent Media Group, the post-production and tech services conglom Liberty assembled through a string of acquisitions. Ascent cut a deal in late November to sell its creative and media services unit to Deluxe Entertainment, and in early December, it pacted to sell its content distribution operation to Encompass Digital Media for $113 million. Malone controls 32% of the voting shares in Ascent.

Earlier this month, Liberty also moved to part ways with Barry Diller’s InterActiveCorp., selling its 60% stake in exchange for IAC’s Evite and businesses as well as $220 million in cash. Maffei explains that since Diller was the proxy to vote Liberty’s shares, IAC was never going to be a core business for Liberty.

“We were never going to get the full value,” he says.

The IAC swap raises the question of whether other divestitures are in the works. Liberty owns small pieces of Live Nation, Time Warner, Viacom and Sprint. It also owns a good-sized (40%) chunk of Sirius XM, having come to the rescue of the sat-radiocaster when it faced a debt crisis in 2009.

Liberty loaned the company $400 million, which Sirius XM paid back with $60 million in interest within five months. Liberty then purchased Sirius XM debt that was convertible into a 40% equity position that today is valued at $3.4 billion, according to Maffei.

Maffei has said that Liberty will likely look to increase its position in Sirius XM, though it’s contractually barred from exceeding a 50% holding until March 2012, unless it wants to make an offer for the entire company.

Maffei told investors at the Deutsche Bank media confab in November that Liberty is impressed with Sirius XM’s exec leaders, topped by former CBS and Infinity Radio boss Mel Karmazin.

“We’re Mel’s partner,” Maffei said at the Nov. 17 confab. “We appreciate what management has done there.”

Maffei says the focus going forward will be on assets Liberty considers core, but with Malone’s wide-ranging investment strategy, going back to his days at TCI when he began buying stakes in content companies, it is never totally clear what he considers core. When he sold TCI to AT&T in 1999, those positions came together as Liberty Media, and thus began Malone’s second act as the financial engineer.

“It’s always been a bit of hodgepodge,” says GAMCO’s Marangi of Liberty.

Although Liberty Interactive is home to a slew of e-commerce and Web-based busineses, including travel giant Expedia, Liberty has never been accused of overpaying for tech or digital assets.

When pressed about further acquisitions, Maffei emphasized that the valuations of many prospects are too high now, particularly in technology and social media. “Those are in the stratosphere,” he said.

While Liberty undoubtedly has some irons in the fire, he hinted that the pace of activity may slow down a bit in the near term, with the focus on operations and execution.

“We are nibbling around the edges on some things,” Maffei says, “but I would say now is not the time for us.”

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