Crazy, hazy days of convergence:
U.S. experience exposes some flaws in media marriages
David Olive, Senior Writer Financial Post
14 March 2001
Perhaps no commentary better expresses the frustration of investors over the exaggerated claims of media convergence than the sputtering protest of Alan Towers, a New York consultant and shareholder in America online Inc.
Of the proposed US$183-billion combination of AOL and Time Warner Inc. announced in January, Mr. Towers told Business Week: "I feel betrayed. I bought a company that was going to change the world. I didn't buy a big, fat, stupid conglomerate. And now I've got one."
The planned union of the world's largest Internet portal and the world's biggest stable of magazines, cable systems, motion pictures, music labels and other "content" properties has greatly accelerated the trend in which distributors and creators of programming feel an almost desperate need to combine forces in new agglomerations they imagine will be vastly powerful and immensely profitable.
The frenzy to combine content with the "pipes" that carry it has ignited speculation about even more improbable deals.
Perhaps, for instance, AT&T Corp. will seek to remedy its botched US$110-billion cable strategy by getting hitched to Walt Disney Co., and snap up NBC and The Wall Street Journal for good measure.
Stranger things have happened.
Vivendi SA, a French company that knows something about real pipelines (its original business is sewer and filtration systems) was the unlikely paramour of Seagram and its holdings in the Universal films and theme parks and PolyGram music. Viacom Inc., owner of a creaky movie-house circuit and the MTV Network, has gobbled up Tiffany network CBS. Rupert Murdoch, who had never witnessed an L.A. Dodgers ballgame, bought the team (and Dodger Stadium) to feed his Fox Network with programming; and a similar compulsion has driven cable czar Ted Rogers to purchase the Blue Jays. And Ma Bell, after sweeping the august Globe and Mail into its ambit of phone, wireless, broadcasting and satellite services, is girding to bring the Montreal Canadiens or Toronto Maple Leafs and Raptors into the fold as well if Rogers doesn't get there first.
The Holy Grail of business at the dawn of this new century is convergence the melding of news, entertainment and data with the cable, telephony and online systems that deliver them -- just as assembly-line manufacturing and vertical integration defined the early decades of the 20th century. Despite the sheen of newness that architects of these new media models try to give them, though, these models of hyper-interactivity are merely the same old vertical integration (and mass production and mass marketing) by a different name.
The true distinction is that the vertical integration that worked at General Motors Corp. when it dominated the new Auto Age -- a frequently cited comparison -- shows little promise of enriching shareholders in what Steve Case, chief executive of AOL, has labelled the Internet Century.
The few skunks at this picnic, such as Mr. Towers, worry that convergence is an unduly speculative and costly experiment that might be the ruination of media firms that once profitably focused on publishing or cable or motion pictures and the like. But it is worse than that.
Convergence is not a potential boondoggle. Convergence is a proven failure, tried and found to be largely unworkable by everyone from William Randolph Hearst in the pioneer days of mass media to Ted Turner, Rupert Murdoch, Michael Eisner and Edgar Bronfman Jr. in the modern era.
The results, while not always calamitous, have been uniformly disappointing.
Only franchises as durable as Mickey Mouse, Time and Seagram's Paramount Pictures, possibly, could have survived the indignities that have been visited on them in the name of ego-driven empire building in recent years. It's not that the deal-making media moguls have bought bad assets. It is that they have tended to overpay for them, and then failed to make them truly converge. As the accompanying chart shows, the multimedia giants created in the past decade have significantly underperformed "pure plays" that stick to one or two segments of the media universe.
The ranks of those pure plays are thinning, of course, as single-suited firms such as AOL and CBS yoke themselves to larger and slower-moving enterprises. A lonely few companies that have stuck to their knitting, and can boast superior returns, are Thomson Corp., which has ramped up in information services, and Tribune Co. and New York Times Co., which have doubled their bets on old World media with acquisitions of the Los Angeles Times and The Boston Globe, respectively. But those family controlled firms aren't under the same Wall Street pressure to goose sales with unnatural acts, in which, for instance, AOL takes on the task of managing reporters at Sports Illustrated and mercurial studio executives at Warner Bros.
How is it, with their tremendous array of star talent and evocative brand names, that these convergence models haven't worked? How is that Tribune, for instance, generates roughly as much pure profit as Time Warner and Disney -- companies eight times its size? Or that Izzy Asper's prosaic Global television network has been a consistent money-spinner, while Mr. Rogers' empire, one of the most diversified collections of media assets in North America, hasn't turned an operating profit in 10 years?
The answer lies with two insurmountable problems.
THE ILLUSION OF SYNERGY.
Synergy is over-rated. This is the idea that bashing together a cable company and the producer of Friends somehow makes each firm more profitable together than they were separately.
The disruptive turnover that followed the 1989 merger of Time Inc. and Warner Communications Inc. -- the granddaddy of modern multimedia firms -is a blow from which the firm has yet to recover. And Pierre Karl Peladeau's rapid transformation of Quebecor Inc. from a newspaper publisher into a multimedia juggernaut, most recently with last week's $5.4-billion purchase of the Videotron cable operation, has prompted an exodus of talent in every part of the company.
In the Internet Century, with its bounty of option-enriched jobs at Internet-related startups, talented people can't easily be commanded. Disney's Michael Eisner discovered that earlier this year, when he ordered 100 top executives at ABC in New York to relocate to the kingdom's headquarters in Burbank, Calif. -- and more than 50 off them abruptly quit.
The new media conglomerates are not without their successes. But convergence has seldom played a role in them.
Mr. Eisner revived an ailing Disney in the mid-1980s by raising prices at his theme parks, hauling classic films out of the vault and releasing them on videocassette and investing heavily in a nascent live-action studio that became a prodigious maker of hit films.
These feats, accomplished by individual units of Disney, were untouched by the magic wand of convergence. Quite the contrary. Before Disney bought ABC in the mid-1990s, its studios were free to peddle their products to the highest bidder. ABC, for its part, could reject the offerings of Disney on grounds of high cost or unsuitability for its target audience. It's not pure coincidence that since these units became each other's captive partners, ABC is no longer the No. I-rated network it was when Disney bought it.
Mr. Murdoch built the Fox network with hits like The Simpsons, The X-Files and Ally McBeal, shows that found an audience because they were compelling entertainment. Viacom cashed in on an old-fashioned box-office smash, Titanic.
CBS and ABC owe their current robust profits not to assistance from their corporate siblings but to a couple of sleepers, Who Wants to Be A Millionaire and Survivor, respectively. Conversely, no amount of cross-promotion among Seagram's theme parks, record labels and licensed merchandise divisions could make a silk purse out of Babe: Pig in the City.
Meanwhile, the managerial distraction of running a multimedia colossus is beyond the talents even of supercharged moguls. After the spectacular success of The Lion King, Disney's fabled animation studio went into decline as Mr. Eisner allowed himself to be distracted by the purchase of ABC, a foray into Broadway productions, a chain of Disney retail stores, the Celebration planned residential community in Florida and a Disney cruise line that has been plagued with late delivery of ships.
But in trying to have it all, Disney lost its focus. It has not been able to cash in on even the most natural synergistic opportunities, as when Mr. Eisner's go.com portal project flopped. The problem was that executives at Disney's ESPN and ABC units insisted on promoting their own Web sites at go.com's expense. (They stood to reap no credit from go.com's success.)
THE MYTHICAL POWER OF SPORTS OWNERSHIP
No modern media myth is more powerful, perhaps, than the supposed synergistic power of sports ownership in building audiences.
True, Mr. Murdoch famously used sports programming as a "battering ram" to quickly build large audiences for his fledgling Fox network. But he merely holds the local broadcast rights to most of the U.S. major-league teams -he's not the paymaster for all the players. Mr. Murdoch has ceded control of the money-losing Dodgers scarcely three years after buying the club in the most expensive baseball transaction in history. He likely wants to back away from his joint ownership with Cablevision of New York's Knicks and Rangers as well.
In their obsession with sports ownership, Mr. Rogers and BCE are girding to pay astronomical sums a likely $1-billion for Toronto's Leafs, Raptors and Air Canada Centre in the belief that such opportunities come around once in a lifetime. That is nonsense, of course. The Jays have had three owners in the past five years. And the Leafs, Expos, Grizzlies, Flames, Oilers, Senators and Argos have all changed hands in recent years. Disney is a rumoured seller of its Mighty Ducks and Anaheim Angels, poor performers in the league standings and at the gate.
TREES DON'T GROW TO THE SKY
A more daunting problem for the convergence titans than elusive synergy is the law of large numbers.
It was a lot easier for Mr. Eisner to generate heady profits in the late 1980s, when his US$4.7-billion company, with a workforce of 47,000, delivered a total return to shareholders of 71%. That performance at a firm that was recovering from hostile takeover attempts secured Mr. Eisner's reputation as a wizard at creating shareholder value. But it is a lot tougher to squeeze double-digit returns from today's US$23.4-billion Disney, which now employs 120,000 people. In the past two years, Disney delivered shareholder returns of -8.6% and -1.8%.
The challenge for Mr. Eisner is dwarfed by the task facing strategists of the AOL Time Warner combination, the biggest takeover in history if approved by antitrust regulators in the U.S. and Europe.
With 204 million subscribers for its online services, magazines, cable and pay-TV services, AOL Time Warner figures it can put more digitized information in front of more eyeballs than anyone else.
That's a bit like the age-old marketer's dream about China and its 1.2 billion people, which fades when confronted by that country's low standard of living.
There's nothing that says subscribers to Teen People are going to sign up for HBO just because a flyer for them arrives with their parents' cable bill. And there's nothing that says advertisers will share the enthusiasm of Mr. Case and Jean Monty, BCE's chief executive, for what Mr. Monty calls "a multi-platform capability that you provide the major advertisers." Content providers such as Conde Nast have offered package deals for decades. But Procter & Gamble rarely sees a need to advertise Tampax in Glamour and Wired.
In January, the proposed AOL Time Warner would have had a market cap of $290-billion. Assume the new firm enjoys a handsome annual growth rate of 15% in profits. At that rate, AOL Time Warner would generate a return to shareholders of 5.8% a year.
That's not much of a reward for the enormous risk inherent with a play on the unknown world of cyber-media. After all, the cable pipes of AOL Time Warner and Rogers Communications could be rendered obsolete by alternative "broadband" technologies that deliver content over phone lines, wireless, satellite dishes or handheld devices like the Palm Pilot.
To generate a more respectable return to shareholders of 15% a year, the market cap of AOL Time Warner would have to reach US$2.4-trillion by 2015.
At that point, the company would have to be cranking out annual profit of $83-billion, or fully 10% of the entire profit of the Fortune 500. Currently, no firm accounts for more than 4% of the 500's total earnings.
THE SPECTRE OF ANTITRUST
The prospect of that happening gets even dimmer when the demands of antitrust regulators are factored in. They're likely to require that the new company open its cable systems to rival Internet service providers, which undermines the deal's rationale of attaining Microsoft-like sway over Internet-based communications.
For good measure, the European Union might block Time Warner's effort to bolster its flagging Warner Music business with a planned takeover of Britain's EMI. Indeed, the possibility of AOL Time Warner achieving anything like a lock on any vaunted niche -downloading music videos online on a pay-per-play basis, for instance, an initiative that excites R.E.M. fan Mr. Case -- is likely to invite the same antitrust consequences that point to Microsoft's breakup.
Canadian regulators are likely to abide by whatever precedent arises from the U.S. and European antitrust decisions. Already they're angry that Canadian cable firms are still dragging their heels on providing access to their networks to rival Internet service providers. And they've noticed that the ExpressVu and StarChoice satellite services, offered by BCE and cable giant Shaw Communications Inc., respectively, are not much of an alternative to traditional cable.
What the convergence promoters describe as greater customer choice increasingly looks to regulators, and consumers, like nothing more than a convergence of near monopolies. As they take on the characteristics of monopolies, the likes of BCE and a possible federation of Rogers, Shaw, Videotron and Cogeco meant to counter BCE risk being treated by government for what they are -regulated "infocom" utilities. The effect of smothering regulation will be to stifle, rather than promote, true innovation.
Many AOL shareholders are not so quietly cheering on the antitrust regulators in Washington and Brussels. Shares in AOL plunged on news of the Time Warner deal, which would see a nimble 15-year-old AOL lash itself to an Old Economy firm with 82,000 cubicle people and 77 years of bureaucratic tradition. Yet Mr. Turner, the biggest shareholder in Time Warner, says the pairing of the two firms is as good as making love for the first time.
Here we get to the real motivation for convergence deals, which turns out not to be convergence.
CONVERGENCE AS EXIT STRATEGY
Time Warner CEO Gerry Levin candidly acknowledges that his firm's patient investors, who suffered abysmal returns for most of the 1990s, deserved to profit in high style when AOL came knocking on his door.
Mr. Levin drove a hard bargain. AOL is paying a 70% premium to market for his company's shares, which translates into a US$22-billion windfall for Time Warner shareholders. Once-in-a-lifetime opportunities don't come cheap.
Like other convergence evangelists, Mr. Case talks about willing a New Media Order into being against any evidence it might not work. And there's reason to think he's a true believer. Fresh out of college in 1980, when he was an unsuccessful job applicant at Time's HBO unit, Mr. Case gushed that "innovations in telecommunications (especially two-way cable systems) will result in our television sets (big screen, of course!) becoming an information line, newspaper, school, computer, referendum machine, and catalogue."
But consider a more blunt reality. AOL has a limited future as a glorified Internet access provider, one that ultimately won't justify its swollen market cap. And its relatively slender revenue of US$4.8-billion, two-thirds of which are reaped from US$21.95-a-month subscription fees, are jeopardized by free Internet access offered by Yahoo!, Excite and others. With Time Warner, Mr. Case gets a stable source of profits to protect his backside. At least in the short term, whether any true convergence occurs between the two firms is almost incidental.
Mr. Asper was thinking the same thing when he bought Conrad Black's newspapers a few weeks ago. If synergies can be realized between the dailies and his Global TV network, that's fine. If not, the Vancouver Sun and Ottawa Citizen are nice stand-alone properties with reliable earnings. Mr. Rogers bought Maclean Hunter Ltd. in the mid-1990s on the same principle, as a Niagara of cash flow to bail out his capital-hungry cable and wireless businesses.
That explains why Maclean Hunter has been more of a cash cow than a convergence story. Needing money for his other businesses, Mr. Rogers sold off MH's Sun tabloids, Canoe portal and the Financial Post (later the platform on which the National Post was launched). In doing !so, he missed an opportunity to co-opt his longtime nemesis BCE in its current strategy to channel Globe content through its Sympatico portal. And in Mr. Rogers' hands, MH has been conspicuously inactive.
But then, Mr. Rogers has been preoccupied for much of the past decade with survival, not convergence. By 1998, Mr. Rogers' debt-crippled company had been temporarily banished from the Toronto Stock Exchange 100, its shares having plummeted to about $5. It wasn't convergence that revived Rogers Communications. Bill Gates pumped money into the firm in exchange for a promise that Mr. Rogers would use Microsoft's set-top boxes in its cable system of some 2.2 million subscribers. And AT&T and British Telecom bought into Mr. Rogers' stand-alone wireless business.
All these partnerships, as life-giving as they have been for Mr. Rogers, have loosened the mogul's grip on his scattered holdings. That's a contradiction of the Case and Disney orthodoxy that convergence is rooted in the imperative to own -- and exert singular control over -- all the acts in the three-ring circuses these men are staging.
LET'S MAKE A DEAL
In truth, many of the media entrepreneurs have only a shaky hold on their companies. If it sometimes seems they're making up strategy as they go along, that's because while they're routinely described as revolutionaries of New Media, they're actually old-fashioned dealmakers. And they make old-fashioned mistakes.
Mr. Murdoch's News Corp. was nearly bankrupted after he lavished $3-billion on a trophy, TV Guide, which he bought at the top of the market and has since unloaded.
From a balance-sheet perspective, neither Mr. Rogers nor Quebecor had any business contemplating a run at Videotron. Both firms are already bloated with debt. Pierre Peladeau was renowned for driving a hard bargain. But his son, current CEO Pierre Karl Peladeau, a stranger to cable, is paying the equivalent of some 20 times earnings for Videotron, against the industry average of about 14.
When it comes to building media monoliths, sound judgment easily gives way to a dynamic of reckless growth, in which the pursuit of one questionable deal soon begets even more dubious propositions. Assessing the curious marriage of Ma Bell , the Globe and sports franchises, analyst Lis Angus of Angus Telemanagement Group Inc. hinted in the Financial Post this week at the vortex that BCE's chief executive has been drawn into.
"Can Jean Monty and his team make this [strategy] work? It's an expensive and high-risk strategy, but, on the other hand, once you're headed into that strategy you can't sort of say, we'll buy a couple of things and then we'll get out."
Aggrieved investors in BCE have been led down this path before.
BUYER'S REMORSE AT BELL
on the theory that regulated natural gas distribution was an obvious fit with its regulated phone utility, BCE bought TransCanada PipeLines Ltd. in the 1980s. It then added oil and gas production assets to give TCPL some upside potential, just before the collapse in energy prices.
Its decision to build BCE Place, a Toronto monument to the new BCE holding company, prompted the firm to buy West Coast developer Daon for its real estate expertise. It quickly appended Oxford Development's U.S. properties to bail out the troubled Daon, just as North American property values were poised for a meltdown. (Which also crippled lender Montreal Trustco Inc., yet another BCE foray into the unknown.)
on the premise that it was already in the publishing business with Yellow Pages, BCE bought the publisher of Homemaker's magazine and its printer, Ronalds-Federated. BCE's vaguely defined media business ultimately mushroomed to include currency printer British American Bank Note, retailer Computerland and a stake in Rod Bryden's ill-fated computer services firm Systemhouse.
By the early 1990s, every one of these assets had been disposed off, erasing hundreds of millions of dollars in shareholder value.
Earlier this year, BCE spun off its remaining shares in the renamed Nortel Networks Corp. in a bid to "surface" the value of other assets that had supposedly been disguised by stock-market darling Nortel. But Mr. Monty was in for a shock. Investors took a look at BCE naked of Nortel and headed for the hills, shaving BCE's market cap by about one-quarter.
What they saw was Mr. Monty's $9-billion purchase of Teleglobe Inc., whose earnings power has since turned out to be wildly exaggerated; and an overpriced $2.3-billion acquisition of CTV Inc., whose value as a content provider for Sympatico is doubtful given that CTV is basically a repeater outlet for imported programming such as The West Wing.
In search of a genuine content provider, Mr. Monty has now turned to the Globe, which does create original content. But like all newspapers, the Globe is a copious importer of content from Reuters, Bloomberg, the Associated Press and other third parties that Sympatico could easily tap without the benefit of a newspaper sibling.
But Mr. Monty can't help himself. Like his BCE predecessors, he seems to lack interest in Ma Bell's basic business.
He is fighting a mere holding action against the much smaller Rogers Communications in wireless. And as with its ExpressVu satellite service, which was agonizingly late in reaching the market, Bell has been slow-footed in high-speed Internet and ADSL services.
In fairness, the cable companies have so far reneged on their promise to offer phone service over their own Internet pipes. For all their talk of convergence, the cable operators' biggest initiatives have been takeovers designed to expand their lucrative cable monopolies.
"We want to be more than a network operator," said Mr. Monty this week, already sounding as bored with mere distribution channels such as CTV and Sympatico as he is with copper phone lines. "We want to sustain it, provide it with some of its content."
Mr. Monty will learn soon enough that owning content rather than renting it robs the owner of flexibility, as Mr. Murdoch found after dropping NHL coverage due to lousy ratings.
WHAT BUSINESS ARE WE IN THIS WEEK?
The strongest argument against blending content and pipelines is focus.
AOL trounced huge rivals such as Microsoft and IBM because Mr. Case and his crew lived and breathed online services, while their competitors were distracted by a multitude of ventures. Mr. Case is surrendering that advantage, but Web rival Yahoo isn't ready to follow its example. "Consumers on the Internet want choice," says Vancouver native Jeff Mallett, president of Yahoo. "They don't want to be tied to house brands."
With an eye to the antitrust regulators, Mr. Case, like Mr. Rogers, vows that his services will offer content from competitors. But it's a self-defeating promise. Where's the synergy in making your service a platform for rivals?
In his drive to create a force big enough to do battle with what he describes as "the massed armies of Bell," Mr. Rogers is taking enormous financial and managerial risks in what could be the late stages of a remarkably long economic boom. Unprecedented ad spending has lifted all boats in recent months. But less than two years ago, three of the big four U.S. TV networks were in the red. And Canada's largest newspapers endured years of losses in the recession of the early 1990s.
Mr. Hearst, in his pitched battle with Joseph Pulitzer, Henry Luce and Louis B. Mayer for audiences, was driven to build a media conglomerate more ambitious in its time than anything being contemplated today. It encompassed 28 big city newspapers, mass-market magazines, wire services, radio stations and a Hollywood studio. He was a trailblazer in convergence, using his papers to tout the movies from his Cosmopolitan studio and requiring his magazine writers to sign over film rights to their short stories.
But Mr. Hearst's debt-laden enterprise didn't survive its first real test, the Depression. The more cautious Mr. Luce continued to thrive. But by the mid-1930s, Chase National Bank had stripped Mr. Hearst of control over his vast holdings, which escaped total ruin only when Canadian newsprint suppliers decided against forcing him into bankruptcy. Money-losing papers and radio outlets were sold, and a floor at Gimbel's was set aside for a clearance of the Hearst art collection. All that remains of Hearst Corp. is a handful of newspapers and magazines, anchored by Good Housekeeping.
"No other press lord ever wielded his power with less sense of responsibility," said Mr. Luce's Time of Mr. Hearst's lack of financial discipline. Mr. Case, prospective inheritor of both men's legacies, might want to frame that long-ago assessment.
3/14/01
U.S. experience exposes some flaws in media marriages
David Olive, Senior Writer Financial Post
14 March 2001
Perhaps no commentary better expresses the frustration of investors over the exaggerated claims of media convergence than the sputtering protest of Alan Towers, a New York consultant and shareholder in America online Inc.
Of the proposed US$183-billion combination of AOL and Time Warner Inc. announced in January, Mr. Towers told Business Week: "I feel betrayed. I bought a company that was going to change the world. I didn't buy a big, fat, stupid conglomerate. And now I've got one."
The planned union of the world's largest Internet portal and the world's biggest stable of magazines, cable systems, motion pictures, music labels and other "content" properties has greatly accelerated the trend in which distributors and creators of programming feel an almost desperate need to combine forces in new agglomerations they imagine will be vastly powerful and immensely profitable.
The frenzy to combine content with the "pipes" that carry it has ignited speculation about even more improbable deals.
Perhaps, for instance, AT&T Corp. will seek to remedy its botched US$110-billion cable strategy by getting hitched to Walt Disney Co., and snap up NBC and The Wall Street Journal for good measure.
Stranger things have happened.
Vivendi SA, a French company that knows something about real pipelines (its original business is sewer and filtration systems) was the unlikely paramour of Seagram and its holdings in the Universal films and theme parks and PolyGram music. Viacom Inc., owner of a creaky movie-house circuit and the MTV Network, has gobbled up Tiffany network CBS. Rupert Murdoch, who had never witnessed an L.A. Dodgers ballgame, bought the team (and Dodger Stadium) to feed his Fox Network with programming; and a similar compulsion has driven cable czar Ted Rogers to purchase the Blue Jays. And Ma Bell, after sweeping the august Globe and Mail into its ambit of phone, wireless, broadcasting and satellite services, is girding to bring the Montreal Canadiens or Toronto Maple Leafs and Raptors into the fold as well if Rogers doesn't get there first.
The Holy Grail of business at the dawn of this new century is convergence the melding of news, entertainment and data with the cable, telephony and online systems that deliver them -- just as assembly-line manufacturing and vertical integration defined the early decades of the 20th century. Despite the sheen of newness that architects of these new media models try to give them, though, these models of hyper-interactivity are merely the same old vertical integration (and mass production and mass marketing) by a different name.
The true distinction is that the vertical integration that worked at General Motors Corp. when it dominated the new Auto Age -- a frequently cited comparison -- shows little promise of enriching shareholders in what Steve Case, chief executive of AOL, has labelled the Internet Century.
The few skunks at this picnic, such as Mr. Towers, worry that convergence is an unduly speculative and costly experiment that might be the ruination of media firms that once profitably focused on publishing or cable or motion pictures and the like. But it is worse than that.
Convergence is not a potential boondoggle. Convergence is a proven failure, tried and found to be largely unworkable by everyone from William Randolph Hearst in the pioneer days of mass media to Ted Turner, Rupert Murdoch, Michael Eisner and Edgar Bronfman Jr. in the modern era.
The results, while not always calamitous, have been uniformly disappointing.
Only franchises as durable as Mickey Mouse, Time and Seagram's Paramount Pictures, possibly, could have survived the indignities that have been visited on them in the name of ego-driven empire building in recent years. It's not that the deal-making media moguls have bought bad assets. It is that they have tended to overpay for them, and then failed to make them truly converge. As the accompanying chart shows, the multimedia giants created in the past decade have significantly underperformed "pure plays" that stick to one or two segments of the media universe.
The ranks of those pure plays are thinning, of course, as single-suited firms such as AOL and CBS yoke themselves to larger and slower-moving enterprises. A lonely few companies that have stuck to their knitting, and can boast superior returns, are Thomson Corp., which has ramped up in information services, and Tribune Co. and New York Times Co., which have doubled their bets on old World media with acquisitions of the Los Angeles Times and The Boston Globe, respectively. But those family controlled firms aren't under the same Wall Street pressure to goose sales with unnatural acts, in which, for instance, AOL takes on the task of managing reporters at Sports Illustrated and mercurial studio executives at Warner Bros.
How is it, with their tremendous array of star talent and evocative brand names, that these convergence models haven't worked? How is that Tribune, for instance, generates roughly as much pure profit as Time Warner and Disney -- companies eight times its size? Or that Izzy Asper's prosaic Global television network has been a consistent money-spinner, while Mr. Rogers' empire, one of the most diversified collections of media assets in North America, hasn't turned an operating profit in 10 years?
The answer lies with two insurmountable problems.
THE ILLUSION OF SYNERGY.
Synergy is over-rated. This is the idea that bashing together a cable company and the producer of Friends somehow makes each firm more profitable together than they were separately.
The disruptive turnover that followed the 1989 merger of Time Inc. and Warner Communications Inc. -- the granddaddy of modern multimedia firms -is a blow from which the firm has yet to recover. And Pierre Karl Peladeau's rapid transformation of Quebecor Inc. from a newspaper publisher into a multimedia juggernaut, most recently with last week's $5.4-billion purchase of the Videotron cable operation, has prompted an exodus of talent in every part of the company.
In the Internet Century, with its bounty of option-enriched jobs at Internet-related startups, talented people can't easily be commanded. Disney's Michael Eisner discovered that earlier this year, when he ordered 100 top executives at ABC in New York to relocate to the kingdom's headquarters in Burbank, Calif. -- and more than 50 off them abruptly quit.
The new media conglomerates are not without their successes. But convergence has seldom played a role in them.
Mr. Eisner revived an ailing Disney in the mid-1980s by raising prices at his theme parks, hauling classic films out of the vault and releasing them on videocassette and investing heavily in a nascent live-action studio that became a prodigious maker of hit films.
These feats, accomplished by individual units of Disney, were untouched by the magic wand of convergence. Quite the contrary. Before Disney bought ABC in the mid-1990s, its studios were free to peddle their products to the highest bidder. ABC, for its part, could reject the offerings of Disney on grounds of high cost or unsuitability for its target audience. It's not pure coincidence that since these units became each other's captive partners, ABC is no longer the No. I-rated network it was when Disney bought it.
Mr. Murdoch built the Fox network with hits like The Simpsons, The X-Files and Ally McBeal, shows that found an audience because they were compelling entertainment. Viacom cashed in on an old-fashioned box-office smash, Titanic.
CBS and ABC owe their current robust profits not to assistance from their corporate siblings but to a couple of sleepers, Who Wants to Be A Millionaire and Survivor, respectively. Conversely, no amount of cross-promotion among Seagram's theme parks, record labels and licensed merchandise divisions could make a silk purse out of Babe: Pig in the City.
Meanwhile, the managerial distraction of running a multimedia colossus is beyond the talents even of supercharged moguls. After the spectacular success of The Lion King, Disney's fabled animation studio went into decline as Mr. Eisner allowed himself to be distracted by the purchase of ABC, a foray into Broadway productions, a chain of Disney retail stores, the Celebration planned residential community in Florida and a Disney cruise line that has been plagued with late delivery of ships.
But in trying to have it all, Disney lost its focus. It has not been able to cash in on even the most natural synergistic opportunities, as when Mr. Eisner's go.com portal project flopped. The problem was that executives at Disney's ESPN and ABC units insisted on promoting their own Web sites at go.com's expense. (They stood to reap no credit from go.com's success.)
THE MYTHICAL POWER OF SPORTS OWNERSHIP
No modern media myth is more powerful, perhaps, than the supposed synergistic power of sports ownership in building audiences.
True, Mr. Murdoch famously used sports programming as a "battering ram" to quickly build large audiences for his fledgling Fox network. But he merely holds the local broadcast rights to most of the U.S. major-league teams -he's not the paymaster for all the players. Mr. Murdoch has ceded control of the money-losing Dodgers scarcely three years after buying the club in the most expensive baseball transaction in history. He likely wants to back away from his joint ownership with Cablevision of New York's Knicks and Rangers as well.
In their obsession with sports ownership, Mr. Rogers and BCE are girding to pay astronomical sums a likely $1-billion for Toronto's Leafs, Raptors and Air Canada Centre in the belief that such opportunities come around once in a lifetime. That is nonsense, of course. The Jays have had three owners in the past five years. And the Leafs, Expos, Grizzlies, Flames, Oilers, Senators and Argos have all changed hands in recent years. Disney is a rumoured seller of its Mighty Ducks and Anaheim Angels, poor performers in the league standings and at the gate.
TREES DON'T GROW TO THE SKY
A more daunting problem for the convergence titans than elusive synergy is the law of large numbers.
It was a lot easier for Mr. Eisner to generate heady profits in the late 1980s, when his US$4.7-billion company, with a workforce of 47,000, delivered a total return to shareholders of 71%. That performance at a firm that was recovering from hostile takeover attempts secured Mr. Eisner's reputation as a wizard at creating shareholder value. But it is a lot tougher to squeeze double-digit returns from today's US$23.4-billion Disney, which now employs 120,000 people. In the past two years, Disney delivered shareholder returns of -8.6% and -1.8%.
The challenge for Mr. Eisner is dwarfed by the task facing strategists of the AOL Time Warner combination, the biggest takeover in history if approved by antitrust regulators in the U.S. and Europe.
With 204 million subscribers for its online services, magazines, cable and pay-TV services, AOL Time Warner figures it can put more digitized information in front of more eyeballs than anyone else.
That's a bit like the age-old marketer's dream about China and its 1.2 billion people, which fades when confronted by that country's low standard of living.
There's nothing that says subscribers to Teen People are going to sign up for HBO just because a flyer for them arrives with their parents' cable bill. And there's nothing that says advertisers will share the enthusiasm of Mr. Case and Jean Monty, BCE's chief executive, for what Mr. Monty calls "a multi-platform capability that you provide the major advertisers." Content providers such as Conde Nast have offered package deals for decades. But Procter & Gamble rarely sees a need to advertise Tampax in Glamour and Wired.
In January, the proposed AOL Time Warner would have had a market cap of $290-billion. Assume the new firm enjoys a handsome annual growth rate of 15% in profits. At that rate, AOL Time Warner would generate a return to shareholders of 5.8% a year.
That's not much of a reward for the enormous risk inherent with a play on the unknown world of cyber-media. After all, the cable pipes of AOL Time Warner and Rogers Communications could be rendered obsolete by alternative "broadband" technologies that deliver content over phone lines, wireless, satellite dishes or handheld devices like the Palm Pilot.
To generate a more respectable return to shareholders of 15% a year, the market cap of AOL Time Warner would have to reach US$2.4-trillion by 2015.
At that point, the company would have to be cranking out annual profit of $83-billion, or fully 10% of the entire profit of the Fortune 500. Currently, no firm accounts for more than 4% of the 500's total earnings.
THE SPECTRE OF ANTITRUST
The prospect of that happening gets even dimmer when the demands of antitrust regulators are factored in. They're likely to require that the new company open its cable systems to rival Internet service providers, which undermines the deal's rationale of attaining Microsoft-like sway over Internet-based communications.
For good measure, the European Union might block Time Warner's effort to bolster its flagging Warner Music business with a planned takeover of Britain's EMI. Indeed, the possibility of AOL Time Warner achieving anything like a lock on any vaunted niche -downloading music videos online on a pay-per-play basis, for instance, an initiative that excites R.E.M. fan Mr. Case -- is likely to invite the same antitrust consequences that point to Microsoft's breakup.
Canadian regulators are likely to abide by whatever precedent arises from the U.S. and European antitrust decisions. Already they're angry that Canadian cable firms are still dragging their heels on providing access to their networks to rival Internet service providers. And they've noticed that the ExpressVu and StarChoice satellite services, offered by BCE and cable giant Shaw Communications Inc., respectively, are not much of an alternative to traditional cable.
What the convergence promoters describe as greater customer choice increasingly looks to regulators, and consumers, like nothing more than a convergence of near monopolies. As they take on the characteristics of monopolies, the likes of BCE and a possible federation of Rogers, Shaw, Videotron and Cogeco meant to counter BCE risk being treated by government for what they are -regulated "infocom" utilities. The effect of smothering regulation will be to stifle, rather than promote, true innovation.
Many AOL shareholders are not so quietly cheering on the antitrust regulators in Washington and Brussels. Shares in AOL plunged on news of the Time Warner deal, which would see a nimble 15-year-old AOL lash itself to an Old Economy firm with 82,000 cubicle people and 77 years of bureaucratic tradition. Yet Mr. Turner, the biggest shareholder in Time Warner, says the pairing of the two firms is as good as making love for the first time.
Here we get to the real motivation for convergence deals, which turns out not to be convergence.
CONVERGENCE AS EXIT STRATEGY
Time Warner CEO Gerry Levin candidly acknowledges that his firm's patient investors, who suffered abysmal returns for most of the 1990s, deserved to profit in high style when AOL came knocking on his door.
Mr. Levin drove a hard bargain. AOL is paying a 70% premium to market for his company's shares, which translates into a US$22-billion windfall for Time Warner shareholders. Once-in-a-lifetime opportunities don't come cheap.
Like other convergence evangelists, Mr. Case talks about willing a New Media Order into being against any evidence it might not work. And there's reason to think he's a true believer. Fresh out of college in 1980, when he was an unsuccessful job applicant at Time's HBO unit, Mr. Case gushed that "innovations in telecommunications (especially two-way cable systems) will result in our television sets (big screen, of course!) becoming an information line, newspaper, school, computer, referendum machine, and catalogue."
But consider a more blunt reality. AOL has a limited future as a glorified Internet access provider, one that ultimately won't justify its swollen market cap. And its relatively slender revenue of US$4.8-billion, two-thirds of which are reaped from US$21.95-a-month subscription fees, are jeopardized by free Internet access offered by Yahoo!, Excite and others. With Time Warner, Mr. Case gets a stable source of profits to protect his backside. At least in the short term, whether any true convergence occurs between the two firms is almost incidental.
Mr. Asper was thinking the same thing when he bought Conrad Black's newspapers a few weeks ago. If synergies can be realized between the dailies and his Global TV network, that's fine. If not, the Vancouver Sun and Ottawa Citizen are nice stand-alone properties with reliable earnings. Mr. Rogers bought Maclean Hunter Ltd. in the mid-1990s on the same principle, as a Niagara of cash flow to bail out his capital-hungry cable and wireless businesses.
That explains why Maclean Hunter has been more of a cash cow than a convergence story. Needing money for his other businesses, Mr. Rogers sold off MH's Sun tabloids, Canoe portal and the Financial Post (later the platform on which the National Post was launched). In doing !so, he missed an opportunity to co-opt his longtime nemesis BCE in its current strategy to channel Globe content through its Sympatico portal. And in Mr. Rogers' hands, MH has been conspicuously inactive.
But then, Mr. Rogers has been preoccupied for much of the past decade with survival, not convergence. By 1998, Mr. Rogers' debt-crippled company had been temporarily banished from the Toronto Stock Exchange 100, its shares having plummeted to about $5. It wasn't convergence that revived Rogers Communications. Bill Gates pumped money into the firm in exchange for a promise that Mr. Rogers would use Microsoft's set-top boxes in its cable system of some 2.2 million subscribers. And AT&T and British Telecom bought into Mr. Rogers' stand-alone wireless business.
All these partnerships, as life-giving as they have been for Mr. Rogers, have loosened the mogul's grip on his scattered holdings. That's a contradiction of the Case and Disney orthodoxy that convergence is rooted in the imperative to own -- and exert singular control over -- all the acts in the three-ring circuses these men are staging.
LET'S MAKE A DEAL
In truth, many of the media entrepreneurs have only a shaky hold on their companies. If it sometimes seems they're making up strategy as they go along, that's because while they're routinely described as revolutionaries of New Media, they're actually old-fashioned dealmakers. And they make old-fashioned mistakes.
Mr. Murdoch's News Corp. was nearly bankrupted after he lavished $3-billion on a trophy, TV Guide, which he bought at the top of the market and has since unloaded.
From a balance-sheet perspective, neither Mr. Rogers nor Quebecor had any business contemplating a run at Videotron. Both firms are already bloated with debt. Pierre Peladeau was renowned for driving a hard bargain. But his son, current CEO Pierre Karl Peladeau, a stranger to cable, is paying the equivalent of some 20 times earnings for Videotron, against the industry average of about 14.
When it comes to building media monoliths, sound judgment easily gives way to a dynamic of reckless growth, in which the pursuit of one questionable deal soon begets even more dubious propositions. Assessing the curious marriage of Ma Bell , the Globe and sports franchises, analyst Lis Angus of Angus Telemanagement Group Inc. hinted in the Financial Post this week at the vortex that BCE's chief executive has been drawn into.
"Can Jean Monty and his team make this [strategy] work? It's an expensive and high-risk strategy, but, on the other hand, once you're headed into that strategy you can't sort of say, we'll buy a couple of things and then we'll get out."
Aggrieved investors in BCE have been led down this path before.
BUYER'S REMORSE AT BELL
on the theory that regulated natural gas distribution was an obvious fit with its regulated phone utility, BCE bought TransCanada PipeLines Ltd. in the 1980s. It then added oil and gas production assets to give TCPL some upside potential, just before the collapse in energy prices.
Its decision to build BCE Place, a Toronto monument to the new BCE holding company, prompted the firm to buy West Coast developer Daon for its real estate expertise. It quickly appended Oxford Development's U.S. properties to bail out the troubled Daon, just as North American property values were poised for a meltdown. (Which also crippled lender Montreal Trustco Inc., yet another BCE foray into the unknown.)
on the premise that it was already in the publishing business with Yellow Pages, BCE bought the publisher of Homemaker's magazine and its printer, Ronalds-Federated. BCE's vaguely defined media business ultimately mushroomed to include currency printer British American Bank Note, retailer Computerland and a stake in Rod Bryden's ill-fated computer services firm Systemhouse.
By the early 1990s, every one of these assets had been disposed off, erasing hundreds of millions of dollars in shareholder value.
Earlier this year, BCE spun off its remaining shares in the renamed Nortel Networks Corp. in a bid to "surface" the value of other assets that had supposedly been disguised by stock-market darling Nortel. But Mr. Monty was in for a shock. Investors took a look at BCE naked of Nortel and headed for the hills, shaving BCE's market cap by about one-quarter.
What they saw was Mr. Monty's $9-billion purchase of Teleglobe Inc., whose earnings power has since turned out to be wildly exaggerated; and an overpriced $2.3-billion acquisition of CTV Inc., whose value as a content provider for Sympatico is doubtful given that CTV is basically a repeater outlet for imported programming such as The West Wing.
In search of a genuine content provider, Mr. Monty has now turned to the Globe, which does create original content. But like all newspapers, the Globe is a copious importer of content from Reuters, Bloomberg, the Associated Press and other third parties that Sympatico could easily tap without the benefit of a newspaper sibling.
But Mr. Monty can't help himself. Like his BCE predecessors, he seems to lack interest in Ma Bell's basic business.
He is fighting a mere holding action against the much smaller Rogers Communications in wireless. And as with its ExpressVu satellite service, which was agonizingly late in reaching the market, Bell has been slow-footed in high-speed Internet and ADSL services.
In fairness, the cable companies have so far reneged on their promise to offer phone service over their own Internet pipes. For all their talk of convergence, the cable operators' biggest initiatives have been takeovers designed to expand their lucrative cable monopolies.
"We want to be more than a network operator," said Mr. Monty this week, already sounding as bored with mere distribution channels such as CTV and Sympatico as he is with copper phone lines. "We want to sustain it, provide it with some of its content."
Mr. Monty will learn soon enough that owning content rather than renting it robs the owner of flexibility, as Mr. Murdoch found after dropping NHL coverage due to lousy ratings.
WHAT BUSINESS ARE WE IN THIS WEEK?
The strongest argument against blending content and pipelines is focus.
AOL trounced huge rivals such as Microsoft and IBM because Mr. Case and his crew lived and breathed online services, while their competitors were distracted by a multitude of ventures. Mr. Case is surrendering that advantage, but Web rival Yahoo isn't ready to follow its example. "Consumers on the Internet want choice," says Vancouver native Jeff Mallett, president of Yahoo. "They don't want to be tied to house brands."
With an eye to the antitrust regulators, Mr. Case, like Mr. Rogers, vows that his services will offer content from competitors. But it's a self-defeating promise. Where's the synergy in making your service a platform for rivals?
In his drive to create a force big enough to do battle with what he describes as "the massed armies of Bell," Mr. Rogers is taking enormous financial and managerial risks in what could be the late stages of a remarkably long economic boom. Unprecedented ad spending has lifted all boats in recent months. But less than two years ago, three of the big four U.S. TV networks were in the red. And Canada's largest newspapers endured years of losses in the recession of the early 1990s.
Mr. Hearst, in his pitched battle with Joseph Pulitzer, Henry Luce and Louis B. Mayer for audiences, was driven to build a media conglomerate more ambitious in its time than anything being contemplated today. It encompassed 28 big city newspapers, mass-market magazines, wire services, radio stations and a Hollywood studio. He was a trailblazer in convergence, using his papers to tout the movies from his Cosmopolitan studio and requiring his magazine writers to sign over film rights to their short stories.
But Mr. Hearst's debt-laden enterprise didn't survive its first real test, the Depression. The more cautious Mr. Luce continued to thrive. But by the mid-1930s, Chase National Bank had stripped Mr. Hearst of control over his vast holdings, which escaped total ruin only when Canadian newsprint suppliers decided against forcing him into bankruptcy. Money-losing papers and radio outlets were sold, and a floor at Gimbel's was set aside for a clearance of the Hearst art collection. All that remains of Hearst Corp. is a handful of newspapers and magazines, anchored by Good Housekeeping.
"No other press lord ever wielded his power with less sense of responsibility," said Mr. Luce's Time of Mr. Hearst's lack of financial discipline. Mr. Case, prospective inheritor of both men's legacies, might want to frame that long-ago assessment.
3/14/01