On Monday, Bloomberg reported that AT&T (T) is in advanced talks to acquire all of the outstanding shares of DirecTV (DTV) for as much as ~$100 each, almost precisely at our $99 per share cash-flow-derived fair value estimate of DirecTV’s equity. We had previously outlined the strong case for a suitor to offer a price north of $99 per share for the pay-TV provider, and we believe that a higher offer price may be required to seal this deal for a couple reasons.
First, the reported offer price, as is, represents essentially the fair value of DirecTV on a standalone basis, excluding any synergies and cost-savings that would accrue to the combined entity. DirecTV shareholders are entitled to a portion of the annual value-creating revenue stream that would result from the consummation of the transaction, in our view, and by extension, the offer price should consider this dynamic. Second, we don’t think we’ve heard the last of Dish Network (DISH), and while any counter offer would be pure speculation at this juncture, AT&T’s aggressiveness in pursuing a merger with DirecTV may prompt Dish Network to be more forthcoming with a deal of its own. Dish Network’s Chairman Charlie Ergen has indicated that shares of DirecTV are too expensive at this juncture, but that public stance could change in light of recent events.
At the current reported offer price range ($95-$100), we estimate that the deal would be slightly value-positive for AT&T on the basis of potential synergies and cost-savings. Though DirecTV shareholders will be reportedly given a fair offer for their shares, we think they should hold out for something slightly better that reflects a portion of the synergies and cost-savings, especially in light of the pricing power of its US business and the growth potential of its Latin America operations (the impact on AT&T’s sub-10% stake in competitor American Movil remains uncertain). The existing executive suite at DirecTV, absent current CEO Mike White (who plans to retire at the end of 2015), is expected to run the firm as a unit of AT&T, but incremental bundling will offer revenue opportunities and overlapping SG&A and marketing spend should provide material areas of cost savings for the combined entity.
Shares of DirecTV have advanced to $92 in after-hours trading Monday, and we don’t think the AT&T-Dish-DirecTV saga is over by a long shot. Though we’d generally prefer AT&T not take on more debt to complete the transaction, we think increasing its leverage is an eventuality to complete this deal. We think upside remains for DirecTV shareholders, and the pay-TV company remains a holding in the portfolio of the Best Ideas Newsletter. Firms in our Best Ideas portfolio are considered our best ideas* at any given time.
* A best idea in Valuentum parlance is a holding in the Best Ideas portfolio and/or the Dividend Growth portfolio. We typically add shares to the Best Ideas portfolio when they register a high rating (a 9 or 10 = a “we’d consider buying” rating) on the Valuentum Buying Index and hold them until they register a low rating (a 1 or 2 = a “we’d consider selling” rating) on the Valuentum Buying Index. We don’t add all firms that register a high score on the Valuentum Buying Index to the actively-managed portfolios due to sector weighting or overall market valuation considerations, among others. The Valuentum Dividend Cushion is a key factor behind adding companies to the Dividend Growth portfolio and is used in conjunction with a company’s annual dividend yield, its price-to-fair value ratio and Valuentum Buying Index rating.