Before-Merger Arbitrage
Reporting back to Buffett, $PARA
Let’s play a game here. A Warren Buffett game.
Here are the rules:
Buffett assigned himself the right story all these years ago and made a killing on his Washington Post investment. I’ll try to assign myself the right story with the newest portfolio addition, Paramount Global, and see where it takes me.
I believe the right story here is a SOTP valuation based on the private market value. And what I’m trying to figure out is how much a private buyer would pay for the entire Paramount or how much Paramount's assets would sell for at an auction.
I know what you’re thinking: Ahhh, please, no, not another SOTP valuation. I feel you—those rarely work without a catalyst or a steep discount. Fortunately, I think we have both here. Let’s start with catalysts and incentives.
Actually, what is required first is a brief overview of Paramount’s share structure and the people running it. Paramount Global came about through the merger of Viacom and CBS. Currently, Paramount’s common is divided into two classes. Class A holds all the voting rights, and Class B holds none.
National Amusements (short: NAI) is the controlling shareholder of Paramount. NAI owns 5.2% of the total common stock but has as much as 77.4% of voting power. Shari Redstone, the daughter of late media mogul Sumner Redstone, holds 20% of NAI herself and serves as both the CEO and Chairman of the board that makes decisions on behalf of the remaining 80%. Or, better said, Shari controls NAI, and NAI runs the show for Paramount.
Among other major shareholders, there’s Buffett, I mean Berkshire, who holds 15% of common and billionaire Mario Gabelli, who owns 9.8% of Class A, AKA voting power, through his fund.
Interesting enough, Gabelli tweeted this two weeks ago:
Writings on the wall
Okay, now let’s start with the first story called "Writings on the Wall." The writings on the wall indicate that some sort of deal will happen and that Paramount Global should indeed be valued as if it were to be sold or broken up.
We’ll go from the gentle to the harsh.
Digging through the most recent proxies (10Qs and 8Ks), I’ve noticed some interesting developments. In the most recent proxy statement, there was a change in the compensation policy. The compensation committee increased CEO Bob Bakish’s percentage of long-term incentive awards (stock and options) based on Paramount’s share price performance from 25% to 50%, and the same metric was increased for other executives from 25% to 35%.
I understand this doesn’t mean a thing, but it’s nonetheless intriguing that the compensation part, which relates to the share price appreciation, was increased. A good start to this story.
Moving on, only 2 months ago, an 8K revealed a “golden parachute” package for CEO Bob Bakish and other named executives in the event of “Change in Control.”
In 2022, the combined sum of Bakish’s base salary and target bonus was 15.5 million, implying that in the event of Paramount’s acquisition (aka change of control), he stands to gain ~50 million plus some other benefits. To top it all off, Bakish himself owns ~25 million worth of Paramount’s stock.
Moreover, it seems that the creditors are also thinking that a future acquisition is likely and want to safeguard their interest, as this provision was added to the most recent 10-Q.
Change in Control, Change in Control.
Another interesting development that suggests that the sale of Paramount is imminent is the dividend cut that occurred in the spring of 2023. It sent the stock down tanking and came as a surprise because this was the first time that Paramount had reduced its dividend since 2009, and the management had previously been stating they “continue to expect paying a regular cash dividend.”
However, for my thesis, the dividend cut is actually a strong sign that they are looking for an acquirer, as $PARA’s dividend is the largest source of income for NAI, a heavily levered company that among other things, owns a declining cinema business. It doesn’t make a lot of sense that they would cut it, and after a bit more digging, I found out that two things occurred shortly after the dividend cut:
Someone named Byron Trott, who is known to be Buffett’s investment banker (didn’t realize he had one haha) took a stake in NAI with a 125M purchase of the preferred stock. He commented:
In addition, Shari bought 2.5M worth of stock on the open market following the cut. Interesting set of developments, interesting set of people. Don’t you think?
Ok, enough of reading between the lines. We have some clear signals here as well.
Bid, after bid, after…
December and January were filled with reports that Paramount, a portion of Paramount, or control over Paramount, was in the process of being sold.
Now that we know there are a few parties interested publicly and suspect there are likely many more behind the scenes, I believe we ought to figure out whether Shari is indeed willing to sell (her control over) Paramount or if she wants to go down in the same fashion as her father.
Okay, maybe it’s time for another back story.
The Warren Buffett Way
As I already mentioned, Berkshire holds a 15% position in Paramount. Earlier in 2023, on CNBC, Buffett was asked about Paramount:
First, agree.
Second, reading between the lines here again, I believe it’s both a “Buffett position" rather than a Ted or Todd position, and that he’s also betting on the private market undervaluation as well.
Knowing his prior involvement in the media industry, knowing the people involved, and answering the question in this kind of mysterious fashion.
Also, I’m sure Buffett knows more about media and Shari Redstone than I ever will, which addresses one major risk highlighted at the beginning of my article, or that “Shari is being crooked and operating Bob Vesco style.”
Also, his comment about not liking streaming leads me to believe that he indeed sees in Paramount what I see. Or is it the other way around?
Returning to Shari. There was an interesting book recommendation for this year's Berkshire Annual Meeting:
Well…I got the book Unscripted and skimmed it for key words (didn’t read it yet).
And what I found has piqued my attention greatly:
The second picture appears to be playing out as we speak.
I suppose Buffett, among other things, likely read the same pages. And Shari’s plan all along was to sell Paramount.
Now, is all the digging above enough to convince you that the SOTP private market value analysis is the right approach?
If this did not speak to you, it’s fine, there are other fish in the pond.
It did speak to me, and although I’m aware that there’s no 100% certainty that I’m correct on the sale (nor do I want to be 100% convinced), I do think I am one of the few who connected all pieces together and can now get a clearer picture of Paramount’s future and bet that on the SOTP approach. As opposed to wasting my time on Paramount+ subscriber numbers or the rate of decline of linear numbers.
For those of you who wish to continue, let's go to valuation part.
Give me an asset, and I'll give you an estimate of its value to a private buyer.
BET Media Group– for the past 40 years, BET has been the dominant cable network among black Americans. This December, Byron Allen sent an offer for BET Media Group, which includes everything BET-related + VH1. The bid was for 3.5B, up from 2.7B offered earlier in 2023. Paramount didn’t comment. I’ll put PMV here at 3.5B.
Another asset for which it is “easy” to determine an approximate PMV is…
Showtime – a premium cable brand in the US. Paramount’s former executive offered 3B earlier in 2023, which was less than half of the 6B Mark Greenberg offered in 2021. I’ll be conservative and put PMV closer to the lower end at 4B. They obviously won’t sell for 3B, though, to be fair, they didn’t sell for 6 either. Earlier this summer, Paramount began integrating Showtime’s streaming into the Paramount+ streaming service, and early results show 40% growth in title consumption, which speaks to the strength of this asset.
South Park is an incredible asset for any streamer. With its 27th season set to premiere this year, it’s one of the few TV shows that has been airing for a quarter of a century, has a devoted fan base, and has grown in relevance over time.
This is any streamer’s dream: a TV show that you can binge-watch as much as you want or play it “in the background,” deluding you into thinking that their streaming service is indispensable. Well, $WBD got the gist of it in 2019 and offered 550M for exclusive streaming rights for 5 years. Just based on this info, I can easily imagine South Park asset being worth 2-3x that 5-year license deal. Moreover, the value of the licensing rights is likely considerably higher today; the license expires this year, there was significant inflation in between, and virtually all the streaming services were launched after 2019, so there would be multiple bidders for such a show (if Paramount decides to license it).
Meanwhile, in 2021, South Park creators secured a 6-year deal worth 900M. And all the content spend that’s happened between the time they signed and today should at least partially count. I believe South Park’s PMV is at least a billion.
(I hope you’ve been taking a careful look at all the screenshots; they’re all important!!)
Pluto TV is a free streaming TV service that is growing rapidly, with over 80 million MAUs recorded in Q1 of 2023. Paramount paid 340M for Pluto TV and its 12M MAUs in 2019. This leads me to believe that today, Pluto TV’s PMV is at least 1B, and possibly two.
Nickelodeon, MTV, Comedy Central – These three are tougher to value because there weren’t any formal offers (that I’m aware of). While I’m okay handicapping CC as a 0, I do think MTV is worth something and that Nick is worth a lot of money.
Nickelodeon has been a top entertainment option for kids for 28 years. In 2022, Nick delivered 7 out of the top 10 cable series among kids 2-11 and returned to share growth for the first time in five years. Nickelodeon IP for kids (SpongeBob, TMNT, Paw Patrol, etc.) can fit well inside the library of streaming companies that clearly lack quality kids-related content, such as Netflix.
The most recent 10K that Viacom filed had this to say (2018):
“Nickelodeon has been the number-one-rated ad-supported basic cable network for 23 consecutive years, featuring leading original and licensed series for kids across animation, live-action, and preschool genres.”
According to Google, Nick supposedly does 600-700M in revenue annually while MTV does 500-600M. I compared that to Viacom’s Media Networks segment revenue, which was 10B in 2018 and consisted of MTV, Nick, CC, BET, VH1, and Paramount Network, and the number appears realistic.
I'd estimate that the PMV for Nick, MTV and CC is at least a billion.
Now onto the large assets.
CBS and Paramount Network
CBS has been the number one broadcast network on prime time in the US for the past 15 years. Also, in 2022, it regained its position as the most watched “media family” in all linear television. It delivered five out of the top 10 series among adults 18–34, and Paramount Network's Yellowstone was the number one show last year across all of television. Moreover, 2022 (most recent data) was the year with the most watched regular season of the NFL on CBS in 7 years.
CBS is one of the only four companies that owns NFL rights until 2033, as well as the only company in the US with rights to all UEFA Champions League games for another 6 years. They also hold license rights for popular TV shows like Star Trek.
If linear is indeed going to die one day, I believe CBS will be one of the last dominoes to fall since it houses two things that are still unavailable to people on most streaming platforms and the reason people continue to pay for linear. Sports and News. Sports and News.
“I'd note that CBS programming accounted for 281 billion minutes of viewing in the quarter. That's nearly 50% more than the closest broadcast competitor and nearly 4x more than the combined total minutes spent watching original content on Amazon, Hulu, Disney+ and HBO Max, a testament to the power and scale of CBS content.” ~$PARA Q1 2023
Estimating CBS’s and Paramount Network’s approximate private market value is not an easy exercise. For example, ESPN, which is ahead of CBS Sports, was valued at 24B this year. Also, last month, several analysts were predicting that Paramount could generate 13.5B by selling CBS + Showtime, although this doesn’t include Paramount Network (production behind Yellowstone).
I had a tough time obtaining financials for CBS alone since it underwent a merger and is now solely a part of the TV Media segment. And as a standalone company CBS also owned Simon Schuster and Showtime.
At the time of the announcement of ViacomCBS merger (today known as Paramount Global), CBS’s market cap was 18B. If we subtract 4B for Showtime and 1.3B for Simon & Schuster (which has just been sold), it means that CBS was worth 12–13B to another buyer at the time.
Then we had one similar transaction that took place in 2017: AT&T paid 85B and assumed a net debt of around 15B for Time Warner, a company doing around 7B in EBIT annually, or a 14XEV/EBIT multiple.
There was one more recent bid, but it did not go through. Byron Allen offered Disney 10B for ABC Television, or an 8XEBITDA multiple.
Prior to the pandemic, CBS had routinely generated 2.5–3B in EBIT and 14B in revenue in the year preceding the merger. If we discount this kind of profitability by 30% due to likely lower margins and set both S&S and Showtime to zero, we can estimate that CBS may expect to earn anywhere from 1.75B to 2.1B in EBIT in an ordinary year. Analyses I’ve read online, from investors who have been following CBS far longer than I have, argue for similar numbers (albeit using different methods).
At 8–10x EBIT, which is more than cautious for an asset such as CBS. It’s PMV should be anywhere from 14B to 21B, plus you would be getting Paramount Networks for free.
Keep in mind that CBS will most likely have one of its best years ever next year due to all the political spending, and among other sports lineups, it will be the only US company holding the rights to air the Super Bowl next month.
Likely the hardest part of Paramount to properly evaluate is:
Paramount+ is Paramount’s streaming service, which had 63 million subscribers in Q3 2023 vs. 46 in 2022 the year before, grew ARPU by 16%, and subscription revenue by 60%. Paramount is spending about 8 billion a year on Paramount+, but it remains unprofitable.
Perhaps the most comparable transaction last year was Disney’s purchase of the remaining interest in Hulu. It was bought at a 27.5B valuation for a company that generated around 10–11B of revenue in 2023 and had approximately 50M paying subscribers. Meaning around 2.5x sales.
There are two problems with estimating Paramount+’ PMV. First, I believe the Hulu acquisition was done at a hefty valuation.
Second, more importantly, I don’t want to double-count it since CBS, Showtime, and other content are among the reasons why people subscribe to Paramount+.
Nonetheless, only Paramount+ subscription revenues were 1.3B for Q3. And P+ has an ad-supported free tier too.
Estimating Para+ is likely the only thing that gives me headaches, but the information presented above makes me comfortable giving Paramount+ a PMV of 6B or less than 1x subscription revenue, or less than 1/4 of Hulu, or about 2/3 of the annual content spend that goes towards it.
Also, keep in mind that Paramount+ costs only $6–12 per month and is one of the lowest-priced streaming subscription tiers available, so this revenue number likely doesn’t reflect the true revenue-generating potential.
Paramount Pictures is involved in the production, advertising, and distribution of movies (via cinemas or licensing). It is the only Big 5 studio still available on the market for somebody to buy, and it is the only Big 5 studio lot still located in Hollywood, on a 62-acre large land plot. Its library consists of over 1000 film titles, including Titanic, Forrest Gump, and The Godfather, as well as some successful franchises such as Mission Impossible, Transformers, and Indiana Jones.
This back catalog of already-created content can be licensed for a fee at almost no additional cost, or they can choose to make a sequel to blockbuster movies with already-existing loyal audiences and no need for large advertising budgets.
That tactic proved useful again in 2022, when the Top Gun sequel became the 5th highest grossing domestic movie of all time. Historically, however, movie studios were a very volatile business due to their reliance on box office hits or misses.
Volatile earnings and revenue also mean difficult to value, but let’s try anyway.
Netflix was rumored to be interested in acquiring the studio earlier in 2023. Later, Wells Fargo analysts assumed a multiple of 5X EV/Licensing revenues for Paramount Pictures or a 30B valuation. There was also a more recent rumor that WBD wants to acquire PP now that their covenants expire in April 2024, and they can finally do an M&A if they want to.
One well-known similar acquisition was Disney acquiring Fox for $70 billion, but the 21st Century Fox acquisition, however, contained more assets than the studio itself, so not fully comparable.
Perhaps the most recent studio acquisition on the market, MGM, can serve as a good proxy for PP. Amazon paid 8.5B, or 6x revenue for MGM which has a slightly smaller library size than PP but, again, can serve as an indicator of the types of multiples and price tags that large players are willing to pay.
In late December, news also came from Lionsgate, which appears to be in the process of spinning off its Lionsgate studio for $4.6 billion (including debt), a studio with a substantially less valuable catalog.
Finally, Dalian Wanda and Alibaba were said to be interested in acquiring Paramount Pictures for 8B-10B in 2016.
Let’s assume a midpoint of ½ of that optimistic Wells Fargo analyst (15B) and the value of MGM/PP in 2016 (8–9B). And we can estimate that to a private buyer, Paramount Pictures is approximately worth around 9–12 billion, which is a multiple of 2.5–3x total revenue and 2.5–5x licensing revenue for Paramount Pictures in 2022.
Paramount Global also sits on 1.8B in cash as of last quarter, will get 1.3B in after-tax proceeds from the sale of Simon & Schuster next quarter, and owes 15.6B in debt (13B if they retire it at current prices).
Okay, now that we have all of the necessary information, let's add it up and compare the SOTP PMV to the present EV.
My estimated lower range of valuation shows a private market value of 40.8–50.8B, and when adjusted for net debt of 13.8B, the PMV of $PARA equity is 27–37B compared to the current market cap of Paramount at 8.9B.
This means that in the event of a sale or a breakup, Paramount would be worth more than 3–4 times the current price. With a 30% margin of safety on the estimated lower end of total PMV, you’re still looking at a double. And even if my lower-range estimates are all aggressive and double the actual/fair price at which Paramount will be sold, I still stand to not lose money at the current valuation.
It’s hard to picture Paramount being sold for a "bad price." And I believe that it will be sold, and soon.
Major risk discussion (monologue):
Shari is unwilling to sell her stake and is more concerned with walking the red carpet and “preserving” her father's legacy. In this scenario, my thesis fails, as I’m not betting on the quality of Paramount’s business model today or its prospects, or am I discounting its owner earnings. I can’t wrap my head around all the moving parts it owns, so I have no idea what the future holds for Paramount’s business.
So if there is a clear black-and-white indication that Shari doesn’t intend to sell Paramount, I’ll exit my position. I dislike the competitiveness and fragmentation of the industry, widely available substitutes, or Paramount's positioning within the industry. I do like linear more than your average investor, particularly CBS, but they keep throwing that cash flow into streaming, which has no assurance of ever being consistently profitable. Furthermore, feeding the unprofitable beast implies that time is not your friend, and the more time passes, the more value will be lost.
Based on the SA and news articles I’ve read, the market consensus right now is that Shari is a madman with too much “high-society pride” who would rather burn the company down than sell.
Paramount won’t be broken apart but rather acquired as a whole. This is the risk that brings my valuation to the lower ranges, or a 2-3x increase from the current price. On the other hand, acquiring the entire Paramount would likely take far less time than selling it in pieces, so the IRR could, in fact, be similar in that case.
Shari only sells NAI, and control of Paramount Global goes into the hands of someone far worse than Shari or someone more unwilling to sell. The “selling NAI” scenario could happen, but at the present moment, it’s way too early to speculate on that part. Also, having Buffett as a 15% owner certainly helps. Mario Gabelli appears to have my back too: “Money manager Mario Gabelli said he will “follow up every way to protect our clients,” including through the Delaware courts, if Shari Redstone sells her family’s Paramount Global shares at a higher price than is offered to other investors like him.”
Moreover, Paramount’s stock has fallen 70% in the last 5 years and is continuing to drift lower, which doesn’t help the prospect of a total takeover, as the acquirer would have to overcome a higher mental hurdle. Of course, it’s much easier to pay a 25% premium than it is to pay a 250% premium for the alleged “fair value of the stock.”.
Regulation- the media industry is heavily regulated (check 10-K) and always under the careful watch of politicians. This is one of the reasons why I believe selling piece by piece is a more likely scenario. Disney, Comcast and Fox cannot buy the whole of Paramount since they own the other three main US broadcast networks. However, one could imagine regulation getting looser if the media industry misery persists, especially given the leverage involved.
Fortunately, if one thing is certain, it’s that there’ll always be a media mogul, a company, or some other big-wallet, power-hungry individuals who just cannot resist the allure of Hollywood.
In addition, the industry is ripe for consolidation going into 2024. Streamers have begun to raise prices, levered sub-scale players are reconsidering their content spend, Comcast and Disney settled ownership of Hulu. $WBD M&A restrictions will expire in April, and all of Paramount’s litigations are finally a thing of the past just as Paramount+ had its peak loss year and the company expects significant earnings growth in 2024.
Content library might be permanently impaired due to the massive influx of streaming-wars content spending
That wraps up the major risks section. Finally, I’ll leave you here with one mega-bull scenario:
Paramount proves it can be profitable as a standalone company, and the market finally realizes that the debt load going until 2062 isn’t that bad after all (they have only 3.2 billion of obligations over the next 5 years compared to a 3.5B credit facility and 1.8B cash on hand)…
…Paramount Global packages itself as a business with wonderful content that cannot be recreated, with many years of streaming growth and profitability ahead of it. Which would likely make Paramount a Washington Post-type investment.
Both the story and the game end here. To report back to Buffett:
Warren, you were absolutely right! This thing does scream at me. I believe Paramount Global is a 20–30 cent dollar bill. Appreciate the suggestion.
If you’re still here, thank you for reading!
Disc: I hold an 8% position at $13
This is NOT investment advice. All content on this website is for informational and educational purposes only and should not be considered to be advice of any nature. Due your own due diligence.
Hi David, great writeup! I've also been looking at Paramount closely and wanted to highlight a couple of things: 1) EBIT for CBS and the local stations in the years prior to the pandemic was closer to $2B. The $2.7-$3 includes EBIT for Showtime and S&S. I ultimately think the analysis by parts hinges on the multiple you could get for CBS. Also, although low revenue the local stations are very high EBIT% (50%+ from what I remember). It would be very interesting to know how their margins have been impacted the last 5 years. 2) I think Showtime is worth quite a bit more than $4B. EBIT in 2018 was $0.9B. It's also very high margin, I think largely due to the PPV events they put on. 3) I wouldn't subscribe any value to Paramount+ as I think if the company were to ultimately be sold for parts, it's a platform know for it's poor technology that's losing money. They also don't own any IP as it would have been sold off with the other parts. On this, do you know how pricing between Paramount+ and the internal studios works (i.e., how CBS, Nickolodeon, etc. charge Paramount+) for using their content? I assume they must do it on a fair market value basis.
I calculated a "conservative" total value of $35B, implying a double. What makes Paramount very interesting to me isn't actually the upside or potential surprise upside if it sells for parts or as a whole. It's the downside protection. I really don't think you can lose money here as you're protected by a library of very valuable assets that don't deplete, even if they continue to burn cash with Paramount+ for another couple of years. I'm thinking of upping to a 15-20% position.
Good work here. I agree with much of what you highlighted. I would however put the streaming at a $0 valuation and the Paramount library much higher than you showed. I believe content owners would be more profitable going back to licensing to a few of the 3rd party streamers (Netflix, Amazon, etc).
Even though I would put Paramount+ at $0, I still agree with your overall assessment of $0.20 to $0.30 on the dollar at these prices.