The Big Idea Behind TV Station Mergers

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Today’s announced acquisition of Local TV Holdings and its 19 TV stations by The Tribune Company follows a script mapped out earlier this year by other TV station owners like Sinclair Broadcasting Group Inc. (NASDAQ: SBGI) and Gannett Company Inc. (NYSE: GCI). The concept is relatively simple: cable and satellite companies must now pay retransmission fees for local TV stations for the right to carry network programming, so the bigger a station owner gets, the more fees that owner can collect. Not exactly rocket science, but there it is.

The key here is content — the network programming that companies like Viacom Inc. (NASDAQ: VIAB) and Comcast Corp. (NASDAQ: CMCSA) license to pay-TV cable and satellite operators. Content prices are going up and the pay-TV distributors need to get bigger in order to get better pricing. That’s the motivation behind Charter Communications Inc.’s (NASDAQ: CHTR) rumored desire to make a play for much larger Time Warner Cable Inc. (NYSE: TWC).

By banding the local TV stations together under one owner, the local stations hope to wring higher retransmission fees out of pay-TV operators.

The cable and satellite companies are fighting for content on a different front. The success of Netflix Inc. (NASDAQ: NFLX) and other over-the-top Internet streaming offerings is chopping into the pay-TV operators’ subscriber base, a phenomenon known as “cord-cutting.” This fight over platform falls into the do-or-die category for pay-TV.

And it will all turn on money. Content providers will seek the best deal they can get, and for a while, the pay-TV companies that own the connections to peoples’ homes will profit handsomely provided they can raise prices high enough to cover their higher content costs.

The streaming companies, which have technology and disruptive potential on their side, face a real struggle now because they don’t own those connections to peoples’ homes. Netflix and the others just rent the connections and they must pay more as their subscriber bases grow and the number of bits they transmits skyrockets.

When Dish Network Corp. (NASDAQ: DISH) tried to buy Sprint Nextel Corp. (NYSE: S), the satellite providers intention was to create unified fixed and mobile access to content. If Dish had succeeded, there would have been no guarantee that the company could have licensed the content it wanted at a reasonable price, which was the company’s strategic flaw all along.

As long as content rules and direct connections to consumers’ homes comes in a close second, owning lots of local TV stations looks like a way for old-line media companies to remain in business. But local TV stations could be cut out altogether. For the most part, the only original programming they offer is local news and may some early morning chat shows. If the pay-TV operators can figure a way around the requirement to pay local TV stations, these local TV acquisitions will not look so good a few years down the road.

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