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CBS and Viacom Merger Discussions Set to Accelerate, but Valuation Remains a Big Hurdle

Board members from CBS Corp. and Viacom are expected to meet as soon as next week to begin discussions on the valuations of both companies for a possible merger.

Executives at both media companies have been hip-deep in crunching numbers and preparing financial data to guide the discussions between the members of the special committees assembled to consider options for a CBS-Viacom reunion. The deal is expected to be structured as an all-stock transaction with CBS as the acquiring entity and CBS Corp. CEO Leslie Moonves leading the combined entity. The valuation of Viacom is seen as the biggest hurdle that the sides will have to navigate.

Reps for CBS and Viacom declined to comment. The two companies were brought together by media mogul Sumner Redstone in a merger in 2000 but were split up again six years later out of Redstone’s frustration at a sagging stock price. Redstone’s National Amusements has firm control of both companies through his preferred voting shares. National Amusements, now steered by CBS and Viacom vice chair Shari Redstone, the mogul’s daughter, has been pushing the sides to recombine in the face of the overall upheaval in the global media landscape.

Over the past few weeks, several prominent Wall Street analysts have issued new research notes offering a more positive view on Viacom’s long-term forecast thanks to the changes undertaken by the new management regime installed in late 2016. When the special committees meet to talk deal terms, there will surely be push-and-pull between the CBS perspective that Viacom needs to be valued as its core cable TV and Paramount Pictures units stand today. The Viacom view, not surprisingly, is that the turnaround is underway and therefore demands a premium in the pricetag.

Michael Nathanson of MoffettNathanson Research raised his estimate of the performance of Viacom’s media networks division — housing its domestic and international TV channels — from flat in Viacom’s fiscal 2019 to growing 6%. Laura Martin of Needham & Co. upgraded Viacom stock from hold to buy on the improved forecast for Paramount Pictures and the stabilization of its domestic cable networks under the direction of Viacom CEO Bob Bakish.

“After several years of deteriorating trends, the company has taken a decisive turn in strategy to re-set its distribution relationships, re-focus its advertising approach using well-developed data and in-house ad technologies, and fix the Paramount studio,” wrote Macquarie analyst Tim Nollen in a Feb. 28 research report. “Whether or not Viacom comes to a merger agreement with CBS, we believe it now has a better shot at returning to growth in the U.S.”

But others remain highly skeptical of the benefits to CBS Corp. of a Viacom merger.

“CBS lines up very well with the relatively growth advantaged areas, while Viacom lines up well with the more growth challenged areas. On the basis of asset mix, we think that CBS is better off on its own than it is in acquiring Viacom,” Bryan Kraft of Deutsche Bank wrote in a March 19 report. “Viacom’s businesses, in our view, would detract from CBS’ revenue growth over the next several years and would force CBS to play more defense and less offense than it is playing now.”

Viacom’s board is sure to push for a premium under the rationale that the stock at present is undervalued because of the long period of uncertainty at the company under the previous management regime. Paramount Pictures had been a black hole of losses during the past three years ($445 million in fiscal 2016 and $280 million in fiscal 2017, per Nathanson) but is projected to move back to profit in 2019 with a fresh film slate spearheaded by new leadership.

Martin of Needham and others have argued that Viacom’s stock price at present doesn’t factor in any of the value of Paramount because the studio has been such a drag on the company of late. Price targets for Viacom shares are around $37-$40; the stock closed Friday, a down day for the markets overall at $30.14. At the current price, Viacom is valued at a multiple of about six times annual earnings, which is low for a major media conglomerate.

CBS shares closed Friday at $49.27. The company’s stock has slid the past few months from around $59-$60 in November and December as rumblings of the Viacom reunion picked up steam. Before that, CBS had been gunning for a $70-plus target price based on the momentum of its streaming offerings and content licensing windfalls.

Viacom shares slipped to $23-$24 range in October and November before M&A speculation picked up with Disney’s surprise $52.4 billion acquisition agreement for 21st Century Fox assets.

Most of Viacom’s revenue and earnings are generated by its 24 domestic ad-supported cable networks. There is no question that the domestic pay-TV arena for established linear networks is challenged at present. Viacom has made strides in stabilizing its distribution base and refocusing its allocation of resources to its “flagship six” cable channels. Viacom has cut new carriage deals in the past year with the largest MVPDs, which has brought welcome stability to its all-important affiliate revenue base.

But the bigger question that remains is how to value the lower-profile channels in the Viacom group that will undoubtedly continue to lose affiliate revenue as the pay-TV channel universe thins out and distributors emphasize smaller channel packages at lower price points. Viacom is taking steps to move into the streaming arena, where CBS is already in business with its CBS All Access and Showtime direct-to-consumer offerings. But even the nascent plan to develop a narrowly tailored entertainment-centric streaming package that Bakish has been talking up is unlikely to include all of Viacom’s existing channels.

Viacom’s international businesses are seen as a plus for the combined company as CBS has also cited international expansion as a growth opportunity. Still, the lower profit margins in international markets and signs of a sector-wide slowdown in advertising and affiliate revenue for traditional TV channels will surely not go unmentioned as the boardroom wrangling begins.

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