Deal makers brace for ruling in AT&T-Time Warner case

Chairman and Chief Executive Officer of Time Warner Jeffrey Bewkes (L) speaks with Chairman and Chief Executive Officer of AT&T Randall Stephenson before a Senate Judiciary Committee Antitrust Subcommittee hearing on the proposed deal between AT&T and Time Warner in Washington, U.S., December 7, 2016.
Joshua Roberts | Reuters
Chairman and Chief Executive Officer of Time Warner Jeffrey Bewkes (L) speaks with Chairman and Chief Executive Officer of AT&T Randall Stephenson before a Senate Judiciary Committee Antitrust Subcommittee hearing on the proposed deal between AT&T and Time Warner in Washington, U.S., December 7, 2016.

Disney's offer to buy 21st Century Fox. CVS's bid for Aetna. T-Mobile's proposed merger with Sprint.

The path for these blockbuster deals and others could be transformed in an instant on Tuesday, when a federal judge is expected to issue his opinion on the government's effort to block AT&T's merger with Time Warner. It is one of the most influential antitrust cases in decades, enthralling Hollywood, Silicon Valley and Madison Avenue.

If the merger is blocked, some executives are likely to slim down their deal aspirations. If the deal ends up going through, expect a cascade of mergers and acquisitions.

"It could have a collateral effect on every other transaction," said Blair Levin, an adviser to New Street Research and a former chief of staff at the Federal Communications Commission.

The Justice Department suit to stop AT&T from buying Time Warner, an $85.4 billion deal, surprised investors and antitrust experts when it was filed late last year. The two companies are in related industries but do not produce competing products — one makes media content, and the other distributes it. Deals between such companies, called vertical mergers, typically pass regulatory scrutiny with minimal roadblocks.

During a six-week trial at the United States District Court in Washington, the Justice Department argued that the merger would hurt consumers because the combined company could have the power to raise prices and squash upstart rivals. AT&T and Time Warner said the deal was necessary to compete with fast-growing streaming video giants like Netflix and Amazon.

The case will be decided by Richard J. Leon, a plain-spoken judge appointed by President George W. Bush. He is expected to give a shortened version of his opinion in remarks around 4 p.m. on Tuesday. The full opinion, released around the same time, could be more than 200 pages and will be closely read.

Although Judge Leon has given few clues about his thinking, many analysts expect the companies to prevail because of the history of similar cases that were approved. Some have also said the government struggled in the trial to show that the deal would cause substantial harm.

But the decision may not be clear cut. The judge may allow the merger with several conditions, such as restrictions on how AT&T negotiates with rival cable companies that want to run Time Warner content.

"Anything is possible, and the reality is that any side that loses will be appealing," said Rich Greenfield, an analyst at BTIG Research.

About $816 billion worth of transactions in the United States were announced this year through May, according to Thomson Reuters, up 71 percent from a year earlier.

The reason: Companies need growth, and buying other companies remains one of the fastest and most effective ways to achieve it. Despite recent interest rate increases by the Federal Reserve, borrowing the vast sums of money needed for deal making remains cheap by historical standards.

But there is little doubt that Judge Leon's decision will reverberate widely. The vertical deals already reached could be at greater risk, for example.

Here are potential implications of the three general outcomes.

If the deal is allowed, no conditions

If Judge Leon clears the way for the merger without any restrictions, expect other companies to see it as a green light for more consolidation.

Companies pursuing vertical deals, like CVS and its $69 billion acquisition of Aetna, will point to the court decision to support their case with regulators. The same goes for another health care deal, Cigna's $52 billion offer for the drug benefits manager Express Scripts.

More upheaval in the media industry is also likely. Comcast has signaled that if the deal goes through, it will make a bid for the 21st Century Fox parts that the Walt Disney Company is in the process of acquiring for $52.4 billion in stock. Comcast, which was rebuffed by the Fox board in the fall, largely because of regulatory concerns, said on May 23 that it was preparing a "superior all-cash offer" for the Fox assets.

"We expect a Comcast bid for Fox under almost any circumstance, unless there is problematic language in the AT&T-Time Warner court decision that makes the prospect of vertical media mergers untenable going forward," Mr. Greenfield of BTIG Research wrote on Wednesday.

The outcome of the AT&T case could also prompt a range of smaller entertainment companies to join forces as a competitive maneuver. Speculation surrounds Lionsgate, which owns Starz; Metro-Goldwyn-Mayer, which controls the rights to the James Bond franchise; Sony Pictures Entertainment, which has rebounded at the box office; and Discovery Communications, the TV powerhouse.

Media and telecom companies will also look for any signs that the judge agrees with AT&T and Time Warner's assertion that Silicon Valley is a competitive threat and should also be defined as part of the media ecosystem — adding new competitors for regulators to consider.

If so, companies like Verizon and Dish could view the court decision as a sign that they could buy media companies. T-Mobile and Sprint could also point to the court decision to support their pending wireless merger, which they say would bring better mobile service as companies like Comcast enter the wireless market.

"You will see a rush to consolidate major media and transmission assets," said Gene Kimmelman, an antitrust official during the Barack Obama administration.

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If the deal is blocked

A victory for the Justice Department could encourage the department to act more aggressively on similar deals.

Makan Delrahim, the antitrust chief at the Justice Department, has been adamant that competitive concerns in mergers cannot be resolved through promises to hold back on certain anticompetitive practices. Those requirements, called behavioral remedies, are common in vertical mergers. Comcast's merger with NBCUniversal in 2011, for example, was granted with more than 100 conditions, such as a requirement that the combined company give competitors access to its programming.

Instead, Mr. Delrahim has said the best way to resolve antitrust problems is to sell off assets. The department offered AT&T and Time Warner a settlement that would allow them to merge as long as they sold Turner Broadcasting or DirecTV. The companies rejected the proposal, leading to the suit to block the deal.

Establishing his standard as the new norm would send a chill through markets, which had become accustomed to government approval of mergers with restrictions. The investment bankers, public relations operatives and media executives working on deals could go back to their corners.

It would mean the Justice Department could be tougher on mergers and demand companies sell off assets to resolve antitrust concerns.

"Makan Delrahim strongly believes that behavioral remedies are regulations of sorts, and he doesn't want to turn the D.O.J. into a regulatory agency," said Paul Glenchur, a senior policy analyst at Hedgeye Potomac Research.

If conditions are placed on a deal

Judge Leon could also allow the deal but insist that the parties agree to certain conditions, a middle ground that could go in multiple directions.

For example, during the trial, Judge Leon asked about promises by AT&T and Time Warner to appoint a third party to oversee disagreements between AT&T and rival cable companies over the fees to license Time Warner content. The companies have argued that arbitration would resolve concerns that AT&T could use Time Warner content like CNN, TNT and TBS as a weapon to increase costs for rivals.

The Justice Department has argued that the promises of arbitration aren't strong enough. Analysts viewed the judge's questions on arbitration as an area where he could find compromise and may use them to resolve competitive problems with the deal.

He may also demand divestitures like those proposed by the Justice Department. But AT&T and Time Warner would almost certainly fight such a decision in an appeal. They have been adamant that they would not sell parts in order to get the deal approved.

Such a decision on divestitures would be a rare move by a judge in a vertical merger and, like a decision to block the deal entirely, could have a chilling effect on other vertical mergers.

Judge Leon, experts say, is keenly aware of the ramifications of his opinion. And he will most likely make his findings narrow, which would limit the scope of an appeal.

"Conventional wisdom is that AT&T and Time Warner will win," Mr. Glenchur said. "But even we who are in the business of trying to predict what will happen can only really say that we really can't know at this point."

--Comcast is the parent company of NBCUniversal and CNBC.