Since the Trump administration began sending out signals that the Time Warner-AT&T merger was facing close scrutiny, Time Warner’s high-flying share price has fallen to earth.
From a closing high of $103.64 on Oct. 5, Time Warner is now trading at about $88, a decline of roughly 15 percent. Amid reports of a possible suit by the Justice Department to block the deal on antitrust grounds, the share price could easily drop further.
There seems to be a compelling reason for the market reaction: Unless AT&T acquires it, Time Warner simply doesn’t appear to be worth the price its shares were commanding. But there is a competing perspective: The market may well be making a mistake.
“I think Time Warner is probably worth a lot more than the market is saying now,” said Brian Wieser, senior research analyst with the Pivotal Research Group. “I think the deal will ultimately be completed. And the price will go up if the deal goes through — we know that for sure. It will also go up if another company comes in and makes a deal for Time Warner.
“And there’s very little downside risk,” he continued. “The company is worth close to what it’s trading at now if there is no merger of any kind. It’s one of those situations that you like to see.”
In fact, Time Warner’s falling share price — and what Mr. Wieser considered to be its compelling valuations — induced him on Monday to upgrade his rating on the stock from “hold” to “buy.” Time Warner’s troubles looked to him like a buying opportunity.
Alan S. Gould, senior media and internet analyst with Rosenblatt Securities, had a similar reaction. On the same day as Mr. Wieser, he upgraded Time Warner to “buy,” saying the stock “now offers the most compelling risk/reward in our coverage universe.”
AT&T’s merger offer makes Time Warner worth $103 a share if the deal takes place, he noted (and the merger offer rises to $107.50 per Time Warner share if AT&T’s own shares rise above a certain threshold). It may take until April instead of the end of 2017 to complete the merger if the Department of Justice “decides to sue to block the deal,” he wrote. “If the deal falls apart, which we do not expect, we believe there is minimal downside.”
The analysts’ logic is straightforward.
First, consider what Time Warner’s stock price has been telling us. Only several weeks ago, the stock market gauged the probability of the deal’s completion at virtually 100 percent. By Wednesday, that had plummeted well below 50 percent. But there’s money to be made if it turns out that the market’s assessment of one month ago was more accurate than its judgment of today.
Figuring out these probabilities involves several factors: computing the price that AT&T would pay for Time Warner in a completed merger, which depends, in part, on where AT&T’s own price stands at that moment; assessing Time Warner’s value without a merger of any kind; and comparing those numbers with Time Warner’s current price.
This kind of calculation is standard practice on Wall Street. As a merger draws close to culmination, the price of the soon-to-be acquired stock tends to converge with the price that the stock will be worth in the merger. That convergence had occurred in this case. For weeks, Time Warner shares traded at a price equal to that ultimate merger value, reflecting the market’s view that the deal was a fait accompli.
But the Trump administration’s negative messages changed Wall Street’s calculus. The current price indicates that the market believes that AT&T, a communications company hungry for compelling news and entertainment programs, is unlikely ever to own Time Warner or its enticing properties. They include HBO, with its immensely powerful “Game of Thrones” franchise, and CNN, the pioneering cable news network, which President Trump has called a purveyor of “fake news” filled with “really dishonest people.”
The antitrust issues involved are complex. I have no strong view on which way a suit would go. As my colleague James B. Stewart has pointed out, the proposed combination is what is known as a “vertical merger,” resembling Comcast’s acquisition of NBC Universal in 2011. That deal was approved, with conditions aimed at ensuring Comcast’s impartiality toward its competitors.
But such vertical mergers may not be in the public interest, critics like Tim Wu, the Columbia law school professor, have argued. Mr. Trump’s evident animus toward CNN complicates matters, making a prediction more difficult — and, quite likely, damaging Time Warner’s share price.
Assume for a moment that the merger is ultimately completed. Then, Time Warner is undervalued now. But even if the merger collapses, Mr. Wieser said, Time Warner is already in play and is likely to be acquired by another suitor. That, too, would make it undervalued.
Next assume that Time Warner stays independent. Its earnings have been strong, Mr. Gould said, and its cash reserves would enable it to buy back perhaps $7 billion of its own stock, bolstering its price. Mr. Wieser said an independent Time Warner would probably be worth about $81 a share, a modest decline. Buying now is a risk, he acknowledged, adding, “It’s not a big risk, and the potential reward is high.”
For individuals who are saving for retirement, there is another risk. The overall stock market has been rising for years, but it could fall, pulling most stocks down with it, especially those that already have downward momentum. Buying a stock like Time Warner now may be best for those with strong convictions or deep pockets or, ideally, both. But Time Warner’s troubles could be a profit opportunity for investors.