BREAKINGVIEWS-Charter deal runs valuable $35 bln extension cord

By Jennifer Saba

NEW YORK, May 16 (Reuters Breakingviews) - Charter Communications CHTR.O is building a different sort of bundle. The U.S. cable operator agreed to acquire smaller rival Cox Communications in a $35 billion deal, including net debt. Hefty cost savings would come in handy as the industry wrestles with cord-cutting customers and other challenges. If trustbusters greenlight the combination, the best thing boss Chris Winfrey will be buying is time.

The merger with family-owned Cox features quirky finance. Charter is paying $4 billion in cash and nearly 34 million partnership shares worth about $12 billion. Some $6 billion of convertible preferred units make up the rest, yielding almost 6.9%, or more than $400 million a year, until they’re eligible to be exchanged for common stock. All in, Cox backers would own 23% of a company leapfrogging Comcast to be the largest U.S. cable provider, with 38 million customers.

Cox offers some breathing room. Charter anticipates squeezing out $500 million of expenses a year, after valuing its quarry at the same 6.4 times multiple of EBITDA at which it trades. Those savings are worth almost $4 billion today, once taxed and capitalized. They’d be a welcome fillip to the bottom line of a company whose top line grew just 2% over the previous two years.

More broadly, the transaction looks like a good use of Charter’s capital. Generously add the synergies, which won’t be fully achieved for a few years, to the $3 billion of operating income Cox generated in 2024, and the after-tax sum implies an 8% return from the enterprise. Charter’s weighted average cost of capital is around 7.5%, per MoffettNathanson analysts, and New Street’s reckon deal synergies could be even higher.

The strategic benefits are tantalizing, too. Charter has been remaking itself as pay-TV subscribers flee for video streamers such as YouTube and mobile providers roll out WiFi service to compete with broadband. As the buyer expands its network, boosts internet speeds and grows in wireless with a Verizon Communications partnership, Cox has even more customers to target with a variety of packages.

This fierce competition, from challengers both old and new, might ease the deal’s regulatory path, but it’s far from assured. When AT&T tried to consolidate the cellular market by acquiring smaller rival T-Mobile US in 2011, U.S. antitrust authorities blocked it. A few years later, Comcast’s attempt to absorb Time Warner Cable met a similar fate. And scrutiny of M&A has only become tougher. Assuming Charter can get through Washington, however, it will have plugged in a useful extension cord.

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CONTEXT NEWS

Charter Communications said on May 16 it had agreed to buy smaller rival Cox Communications for $34.5 billion, including debt, in a deal that would create the biggest U.S. cable operator with nearly 38 million customer relationships.

Under terms of the deal, shareholders of privately held Cox would receive $4 billion in cash, a notional $6 billion of convertible preferred units paying a 6.875% coupon, and 33.6 million common shares with an implied value of $11.9 billion. Cox would own about 23% of the combined company.

Charter said it expects to generate about $500 million of annual cost savings within three years of the deal closing.

Citi and LionTree are advising Charter while Allen & Co. advises family-owned Cox Enterprises. BDT & MSD Partners, Evercore and Wells Fargo are advising the Cox Communications subsidiary.