AT&T is Still in the Content Business, Just in a Different Way

One key question some might have had about the spin out of DirecTV assets was the impact on AT&T cash flow. That was the reason DirecTV was purchased in the first place, and cash flow generation matters mightily to AT&T.  Also, there were few other major transactions AT&T could have made without regulatory opposition. 

The acquisition, in other words, was the fastest way to add free cash flow, of the alternatives available to AT&T at the time. So what else could AT&T have done with $67 billion--what it spent on DirecTV--assuming a 4.6 percent cost of capital? 

Cost of capital is the annualized return a borrower or equity issuer (paying a dividend) incurs simply to cover the cost of borrowing.

In AT&T’s case, the breakeven rate is 4.6 percent, which is the cost of borrowing itself. To earn an actual return, AT&T has to generate new revenue above 4.6 percent.

First of all, AT&T would not have borrowed $67 billion if it needed to add about three million new fiber to home locations per year. Assume that was all incremental capital, above and beyond what AT&T normally spends for new and rehab access facilities.

Assume that for logistical reasons, AT&T really can only build about three million locations each year, gets a 25-percent initial take rate, spends $700 to pass a location and then $500 to activate a customer location. Assume account revenue is $80 a month.

AT&T would spend about $2.1 billion to build three million new FTTH locations. At a 25-percent initial take rate, AT&T spends about $525 million to provide service to new accounts. So annual cost is about $2.65 billion, to earn about $720 million in new revenue (not all of which is incremental, as some of the new FTTH customers are upgrading from DSL).

The simple point is that building three million new FTTH locations per year, and selling $80 in services to a quarter of those locations, immediately,  does not recover the cost of capital.

The DirecTV acquisition, on the other hand, boosted AT&T cash flow about 40 percent.

 

To be sure, the linear video business deteriorated faster than AT&T expected. Still, to the extent that triple play still made strategic sense at the time, the deal allowed AT&T to claim a major position there without the time and expense of upgrading its copper fixed network to achieve such a position. 

AT&T said as part of its second quarter 2021 results that the company expected lower revenues by $9 billion; cash flow (EBITDA) lower by $1 billion and free cash flow lower by about $1 billion. AT&T also received about $7 billion in cash as part of the transaction. 

The now separated asset still means AT&T gets a 70 percent share of DirecTV cash flow and revenue, plus equity value upside. That answers the question. 

Assuming the primary use of free cash is payouts to the owners, rather than heavy reinvestment in the business, AT&T continues to receive the great bulk of cash flow value. Widely viewed now as a “mistake,” in large part because of the debt burden, the DirecTV acquisition still was a reasonable bet on boosting free cash flow immediately. 

Even now, after spinning out the asset, DirecTV offers AT&T most of the cash flow, though de-consolidating the asset, raising cash to pay down debt, and freeing up management time for other work.

Is AT&T DirecTV Acqusition a Big Mistake, a Clear Win, or a Deal of Unknown Ultimate Impact?

Some critics believe AT&T should not attempt to buy DirecTV. Some might say the deal was a reaction to the Comcast proposed acquisition of Time Warner Cable and will not provide enough synergies to drive value. In that view, AT&T should spend its acquisition or network capital elsewhere.

Some question the amount of potential acquisition savings AT&T has claimed. But that might not even be significant. The issue is that AT&T might wind up in a situation where it has to pay out 70 percent to 80 percent of its cash flow to cover its dividends.

For that reason, some think AT&T simply shouldn’t do the deal. So far, there is no evidence AT&T will withdraw. In fact, AT&T already seems to have reached agreement with regulators about what AT&T has to do to gain antitrust clearance.

Those who oppose the deal are left with the hope regulators will block the deal, but that seems unlikely, in view of the news that antitrust concerns have been dealt with.

But what if “synergies” are not the issue, or even video scale? What if AT&T actually believes DirecTV offers a high cash flow opportunity, even if it might be a slowly declining business, and that the cash flow is reason enough to do the deal?

AT&T would not be the first company to find it must finance both high investments in its core business, as well as pay significant dividends.

In that view, whatever AT&T might do, access to high cash flow from DirecTV helps by supplying cash for dividend payments, while the company continues to invest in its gigabit networks and other new lines of business.

To be sure, some will make the argument that AT&T essentially is not telling the truth; that it will eventually do something other than what it now says it will do.

An independent DirecTV might actually already believe it has passed the highpoint of its subscriber adoption, if it remains an independent company.

But AT&T might argue it has a solution for that problem, namely the ability to bundle DirecTV with mobile service, fixed Internet access and voice. In that scenario, might DirecTV’s eventual decline is much more gradual?

It’s a reasonable theory, if still a theory. Keep in mind that virtually everybody believes linear video, as an industry, already has passed its peak. What forecaster, inside the companies or outside them, really believes the market can grow from here?

Rather, the strategic challenge is to prolong product demand as long as possible, as profitably as possible.

AT&T and DirecTV might believe bundling opportunities will play a big role in that regard.

Some argue there are synergies.  Certainly AT&T has suggested it will benefit to some extent by becoming a more-sizable buyer of content for its linear video services, on the strength of DirecTV’s mass.

But much will hinge on what conditions the Federal Communications Commission or Department of Justice might attach--and to which AT&T already has agreed--in exchange for approving the merger.

If past precedents provide guidance, that will mean a period of perhaps three years when existing packages and prices for current customers are protected from change.

In a drastic scenario AT&T obviously does not expect, AT&T might be required to divest video subscribers in any areas where its U-verse services are offered. That seems an unlikely FCC or DoJ objection, but it is possible.

Still, it seems unlikely AT&T would be willing to buy DirecTV for its stated price if AT&T believed the value of DirecTV would be reduced by as much as 5.7 million video accounts that would have to be divested.

About as thorny an issue as that is which network would support the divested customers. AT&T, it seems likely, would not want to support a new third-party owner of divested U-verse video accounts, running over AT&T plant. Nor would AT&T seemingly gain so much contract scale were it to have to divest its 5.7 million U-verse video accounts.

It therefore is hard to believe significant divestitures are contemplated.

Assuming few if any accounts actually must be divested, there is the matter of potential synergies. AT&T might, some think, simply continue to operate U-verse video on the fixed network and DirecTV as separate businesses.

There are no network synergies there. And some might argue there could be additional costs, particularly if AT&T has to do something major with the DirecTV or U-verse decoders to harmonize features and user experience.

DirecTV decoders might ultimately be outfitted with Long Term Evolution capability for return path signaling, for example. Depending on the number of box swaps, that could represent a rather large capital outlay, at $400 per customer, on average. Or pick some other number, if you like.

The point is that synergies might be few. And AT&T might still want to do the deal.

Any bundled offers would necessarily be a billing and marketing issue, with actual service provided by as many as three separate networks--satellite, fixed and mobile networks.

It might not be as elegant as a single fiber-to-home platform, but it can work. Service providers already do such things.

Still, there are other currently-imponderable longer term decisions. Perhaps half of AT&T high speed access customers bundle video with broadband access.

In the first quarter of 2014 AT&T had 11.3 million U-verse broadband customers and 5.7 million U-verse TV subscribers.

Compare that to Verizon Communications, which sells a FiOS video unit to about 80 percent of customers who buy FiOS broadband.

Verizon had 6.17 million FiOS broadband customers as of March 31, 2014, plus 5.32 million pay-TV subscribers.

If regulators approve the DirecTV purchase, AT&T says that it will still offer U-verse-branded TV to consumers in areas where its network has been upgraded to enable the service.

What happens in the future is probably the bigger issue. "Longer term, I think they will look to sell a bundle of satellite and U-verse data: it's more efficient and a better service," argues  UBS analyst John Hodulik.

Whether that is “better” is a judgment call. But that approach could have implications. Some might argue AT&T will simply slow down its bandwidth upgrades. If it does not have to support video services over its fixed network, virtually all the physical bandwidth could be devoted to Internet access.

Cable companies face the same issue: they have to apportion bandwidth to support both video and Internet access. One of the advantages of switching to all-digital video delivery is that it is more efficient, in terms of bandwidth consumption, and essentially allows cable operators to use more of the network to support high speed access.

At some point, more than three years out, one could conceive of a move by AT&T to stop delivering video over its U-verse network. That would be disruptive, and could lead customers to churn off U-verse in substantial numbers, so one would think that is an unlikely plan.

U-verse video, assuming an average $80 per unit, represents $960 a year of gross revenue. At At 5.7 million units, that is $5.47 billion a year in annual revenue.

Of course, one can imagine other scenarios. AT&T could try and induce customers who buy U-verse video to buy DirecTV instead, reducing its exposure to the loss of U-verse customers, were it ever to decide U-verse video was not warranted.

That migration strategy would reduce exposure, if AT&T did decide to abandon U-verse video at some point. A couple of scenarios could drive that decision.

Linear video subscriptions could take a suddenly sharper downward path industry wide, shrinking the total linear video market.

Or AT&T might someday conclude that the profit margin on high speed access is so much higher than linear video that the business case for devoting nearly all bandwidth to high speed access becomes more compelling.

It is less crazy than it sounds. Cable operators already can model a future business where demand for linear video is much lower, and demand for high speed access is much higher.

Verizon Communications executives say in public that the profit margin on FiOS video really isn’t that great.

There are probably more scenarios than we can even imagine right now.

AT&T Bid for DirecTV Really Isn't Puzzling

AT&T’s potential deal to acquire DirecTV will strike many as puzzling, given the deal’s inability to directly affect either AT&T’s mobile business, its international profile or fixed network business.

To some extent, the potential bid has been triggered by the Comcast bid to buy Time Warner Cable, a deal that would vault Comcast clearly into leadership of the U.S. high speed access business, though keeping its overall video subscriber market share below a 30-percent level that draws regulatory scrutiny.

When a key competitor in a supplier’s core market makes a move that promises to make it stronger and bigger, rivals typically have to respond.

To be sure, AT&T might well have preferred an opportunity to expand internationally. But deals large enough to make a difference, available at reasonable cost and relatively likely to win regulatory approval arguably did not exist.

source: National Broadband Plan

And a new threat in its core market likely also affected strategic thinking. As difficult as “broadband” and “video” have been for U.S. telcos, in terms of capital investment intensity and financial return, it now is clear that the future of fixed networks is bound with high speed access and video entertainment.

And in that sense, AT&T has to take seriously a jump in market share for high speed access, by Comcast, to 40 percent of the U.S. market, making Comcast the undisputed market leader.

That has strategic implications for all other major competing service providers.

To the extent that fixed networks have a clear value and rationale, it is as suppliers of the highest-bandwidth platform, delivering connectivity at the lowest cost of any platform, on a cost-per-bit basis.

Source: UBS

In that regard, it is high speed access itself which becomes the foundation service, but video entertainment has emerged as the lead application for such a network, beyond Internet access.

Perhaps not far behind is the value of the fixed network as a means for offloading traffic from a mobile network, the most-important indirect driver of value for the fixed network.

So it is not so much Comcast’s gain in video subscriber share that are most important, from AT&T’s perspective. It is the immediate market share lead in high speed access which is most important.

What is very clear is that, with a few exceptions (Verizon FiOS and Google Fiber, plus a few independent ISPs), cable-provided high speed access operates faster than telco high speed access. Cable TV suppliers also are winning the battle in terms of net new high speed additions as well.

Some might argue that acquiring DirecTV does very little to help AT&T extend its potential high speed access footprint. That is true.

But there are other important elements. DirecTV would supply high-margin revenue and cash flow that AT&T can use to upgrade its fixed networks for faster speeds and video services.

And there are few acquisitions AT&T actually can make in the U.S. market in its core triple play and quadruple play markets. Regulators already rejected AT&T’s effort to buy T-Mobile US, as that was deemed to reduce mobile competition too much.

And AT&T has, since 2006, not been in the market to expand its overall fixed network footprint for several reasons. Higher returns from mobile services are a primary reason. But market share issues exist.

source: http://www.leichtmanresearch.com/press/031714release.html

AT&T’s fixed network market share (looking only at the telephone industry), measuring either by subscribers or revenue, is the highest of any telco, reaching more than 40 percent share of voice or high speed access connections.

AT&T’s fixed network passes about 50 million U.S. homes, or about 42 percent of total U.S. homes.

AT&T holds about 47 percent of “telco” high speed market share, for example, though only about 20 percent of total U.S. ISP high speed access accounts.

The point is that, within the U.S. telephone industry, AT&T already arguably has reached a size where any further acquisitions would be challenged on competitive grounds.

http://www.tefficient.com/Blog-State-of-industry/

The upshot is that AT&T cannot easily make domestic acquisitions in the fixed network or mobile realms. Buying DirecTV, though, changes only AT&T’s small video service market share.

In 2013, for example, AT&T had only about six percent share of the linear video subscription business. DirecTV had about 21 percent share. So a combined entity would have only about 27 percent market share.

The point is that AT&T would face far fewer regulatory opposition by making a DirecTV acquisition, and almost no chance of approval were AT&T to propose buying additional mobile or fixed network market share.

The other issue is that AT&T (originally SBC) has grown primarily through acquisition, not organic growth.

AT&T bought Pacific Telesis for $16.6 billion in 1997, Ameritech for $73.2 billion in 1999, AT&T for $16.1 billion in 2005 and BellSouth for $85.2 billion in 2006. Those deals primarily gres its fixed network business.

AT&T Mobility similarly was built on acquisitions. In 2000 BellSouth Mobility and SBC merged to form Cingular. In 2004 AT&T Wireless was bought. IN 2006 AT&T Mobility acquired the former BellSouth interest in Cingular.

AT&T Mobility also acquired Dobson in 2008 and and Centennial in 2009, as well as Leap in 2014, with the failed bid for T-Mobile US in 2011.

A DirecTV acquisition is one of the few deals of any magnitude that AT&T can make, with hopes of winning approval.

The bid might seem puzzling. It really isn’t.

AT&T Announces DirecTV Acquisition

AT&T will acquire DirecTV in a stock-and-cash transaction for $95 per share, or about $48.5 billion.

The transaction enables the combined company to offer consumers bundles that include video, high-speed broadband and mobile services using all of its sales channels nationwide, better positioning AT&T in the competition with cable TV operators.

That is the most immediate change, as up to this point AT&T had been able to sell an owned and branded video product only in parts of its fixed network, limiting the scale of AT&T triple-play and quadruple-play offers.

By 2015, AT&T, for example, will be able to market to only about 33 million locations, some argue, using its fixed network. But AT&T now says it will reach 70 million broadband locations, after the deal.

The DirecTV buy means AT&T can sell its own branded service to nearly every home in the United States.

Verizon’s FiOS covers about 17.8 million homes, so the two telcos will pass about 51 million U.S. homes, by 2015, out of perhaps 145 million U.S. homes by 2015. That implies coverage of about 35 percent of U.S. homes. Other telcos will sell telco TV as well, but collectively could only theoretically reach about 14.5 million homes, or so, by 2015, best case.

Even under the best of circumstances, it is unlikely U.S. telcos would pass even 45 percent of U.S. homes by 2015, some might argue, without satellite coverage.

So the DirecTV acquisition instantly and fundamentally changes AT&T’s video footprint. Though the ultimate implications are yet unclear, AT&T also gets DirecTV’s operations in South America as well, offering a potential growth vehicle in international markets, at some point.

But AT&T also points to the deal’s ability to help AT&T deliver entertainment video to any screen, fixed or mobile, linear or on-demand.

But AT&T also says 15 million customers--mostly in rural areas-- will get faster high speed access as a result of the deal, mostly because the additional cash flow can be used to upgrade existing facilities, in addition to the upgrade plans AT&T already had announced as part of Project VIP.

To help it gain regulatory approval, AT&T will sell broadband-only service at current prices for three years after deal closing, at speeds of at least 6 Mbps. That measure will address concerns that the deal will lead to forced bundling of video with existing “broadband-only” offers.

AT&T also will maintain “stand-alone” purchasing of DirecTV nationally for at least three years after deal closing, with uniform national pricing. That likewise is designed to allay fears that an immediate shift to bundling will happen.

AT&T also will operate under 2010 Federal Communications Commission network neutrality rules, selling “best effort only” consumer Internet access, for three years after deal closing, irrespective of whether the FCC re-establishes such protections for other industry participants following the DC Circuit Court of Appeals vacating those rules.

DirecTV’s South American business is the biggest in the region and DirecTV has more than 18 million subscribers, still growing.

The deal includes a stock price “collar,” automatically adjusting AT&T’s bid if the price of AT&T’s stock falls or grows before the deal is concluded.

AT&T DirecTV Acquisition Shows Power of the Bundle

As U.S. Federal Communications Commission officials weigh a number of high-profile proposed mergers, the definition of “relevant market” will arise. It might seem obvious that Comcast buying Time Warner Cable is a simple matter of consolidation within the video entertainment or cable TV market.

That might not be the case. If the transaction is approved, Comcast would have 40 percent market share of the high speed access market.

If AT&T’s bid to buy DirecTV is approved, AT&T would instantly become the second-biggest provider of subscription linear video entertainment services, but would not see its voice, high speed access or mobile segment market share change at all.

Any future proposed consolidation in the leading ranks of mobile service providers likewise would directly affect the mobile provider segment, and might change multi-play services market share.

The point is whether it makes sense to regulate cable TV, video, mobile, high speed access and voice as discrete industries and markets.

Consider that 97 percent of AT&T customers bundle their video subscription service with other AT&T services.  Cable providers have 75 percent or more of their subscribers on a bundle of video and broadband, AT&T notes.

About 41 percent  of Comcast’s customer base bought triple play packages in 2013, for example. And that is a global trend.

Aside from free cash flow, subscriber mass and the value of video entertainment services, AT&T sees upside from new bundling capabilities as a result of the DirecTV acquisition.

All considered, AT&T sees the opportunity to gain new customers through the effective bundling of video, fixed network high speed broadband and wireless services to at least 70 million locations.

AT&T also sees upside from the ability to bundle linear TV and mobile service to another 45 million U.S. customer locations.

Depending on how one wishes to characterize such a bundle, it is a dual-play package(mobile plus entertainment video) or a triple-play offer (video, broadband Internet access and voice).

One example of how the mobile-plus-video package represents new ground for AT&T is the fact that about half of AT&T retail stores do not currently sell a subscription TV product. After the merger, all AT&T stores can sell a dual-play or triple-play bundle.

Overall, the DirecTV acquisition allows AT&T to sell a conventional triple play service to at least 70 million fixed network locations (perhaps 24 million fixed network locations than originally foreseen for Project VIP) and a mobile-plus-video bundle to another 45 million locations.

AT&T DirecTV Buy is Not Perfect, Just Best Available Move

None of the largest U.S. telecommunications providers have “perfect choices” where it comes to growth strategy. Comcast, AT&T and Verizon are big enough that market share issues alone will continue to raise antitrust issues in the internal U.S. market.

CenturyLink has room to grow, but as a fixed network services provider, faces the issue of inability to enter the mobile business. At this point, it has neither the capital to buy its way in, nor the platform to grow a business organically.

Historically a rural fixed line provider, CenturyLink now is a hybrid, operating some larger metro networks as well as in “traditional” smaller markets.

CenturyLink could grow by eventually acquiring rural assets AT&T or Verizon might like to divest. That is a tack Frontier Communications has taken, for example.

But both Windstream and Frontier, traditionally providers of smaller market fixed network services, have gotten their recent revenue growth from business services, not consumer services.

Dish Network has particularly been concerned about the viability of any stand-alone satellite video business in an era of triple-play and soon quadruple-play services in the consumer markets.

Though a combination of Dish Network and DirecTV might have made lots of near term sense, that deal would not solve the problem the satellite providers face as there is a strategic shift in the consumer market to quad-play services.

And such an option obviously is foreclosed if AT&T buys DirecTV. One way or the other, Dish now seems committed to becoming a provider of triple-play or quadruple-play services.

Despite the business model difficulties, one might argue that is precisely the context that has shaped small and independent fixed network telco strategic choices as well.

As always, the price at which any significant new assets are obtained could make a difference, but in the absence of “distress” sales, though additional scale helps, there are issues about the amount of leverage would-be acquirers must face.

In AT&T’s case, some observers worry that an acquisition of DirecTV means debt burdens would grow, as well as decreasing the amount of cash flow available to fund network upgrades and further growth. AT&T will have to address those concerns operationally.

And all of the larger firms face antitrust and competition concerns.

Comcast diversified significantly by buying NBC Universal, but also has offered to sell off perhaps three million video accounts as a concession to win Time Warner Cable, that move an effort to say below 30 percent share of the U.S. video market, even as it would vault Comcast into a clear lead in high speed access share, with perhaps 40 percent share of that market.

Sprint faces similar issues as it considers an acquisition of T-Mobile US.  Antitrust authorities and regulators consider the mobile market already too concentrated. The issue there is whether Sprint can convince authorities that long-term competition, innovation and investment, as well as consumer welfare, are better served by three strong providers.

As in France, that now is precisely the conclusion national regulators have reached. Though four strong providers are preferable, French telecom regulators now believe levels of competition in mobile services have reached ruinous levels.

At least in part, French regulators believe consumer welfare, in the form of lower prices, as well as investment, are best served by three stronger providers, rather than four weaker providers.

So in addition to regulatory issues, leverage and even dividend policy are key concerns for any large deals. Taking on large amounts of debt to fund acquisitions is out of the question for most of the largest service providers. But for AT&T, issuing new equity also increases the dividends it must pay.

There also is an issue of “where” growth by acquisition is most strategic. Some observers think AT&T does not benefit as much from owning DirecTV, compared to other uses of capital.

Beyond the concern that the linear video business is mature, with growth decelerating, there is the larger strategic concern of the shift to online delivery that imperils the whole linear video business.

For the larger rural providers, the issue is the wisdom of becoming bigger suppliers in a market whose growth prospects are negative, and where recent success has been gotten in business services, not consumer services.

For fixed network providers, where participation in the mobile segment might be helpful, it now is mostly too late to enter the market, with needed scale. Basically, the mobile business has become a “national” business, with little if any room for small or regional providers, long term.

Even if AT&T wants to grow its mobile share, regulators have closed that route. Whether AT&T can afford, or wants to add significant new fixed network assets, likewise is questionable, even assuming regulators would approve, and that seems equally unlikely.

Inability to grow domestically is one reason why AT&T had been looking to buy international assets, recently. In fact, buying a specialized video provider is one of the few domestic options AT&T actually can exercise.

AT&T faces all those issues, ranging from regulatory barriers to revenue growth to capital constraints.

In proposing the acquisition of DirecTV, AT&T undoubtedly will tout the incremental boost to free cash flow, a fundamental change in profile in the video services segment, ability to better manage large dividend payments as well as fund fixed network high speed access investments.

AT&T might also suggest there are advantages in negotiating programming contracts that could be worth $400 million annually. AT&T possibly will hint at ways to use DirecTV to offload video traffic as well, allowing nearly all of its fixed network bandwidth to support high speed access.

But none of the choices are “perfect” at this point, for any of the larger service providers. If it cannot grow internationally at the moment, and if its key U.S. competitors are making moves to gain share or change the strategic context, a DirecTV might be the best immediate move.

Keep in mind the fundamental growth context for cable and telco service providers over the past decade. Telcos have gained video share, while cable has gained voice share, as well as dominance in high speed access.

But there are strategic changes as well. As Google Fiber has shown, the foundation for fixed services revenue now is high speed access, packaged in a disruptive way, complemented by video entertainment, with new cost parameters.

Though “video” has been the big business model challenge for telcos, high speed access now has become more crucial as well, first to catch up with cable, and now to fend off challengers providing gigabit levels of service at vastly destabilizing price points.

AT&T is likely to argue, in essence, that buying DirecTV helps it solve both problems. At least in principle, buying DirecTV helps AT&T fund its fixed network high speed access investments while gaining an important new position in video, the key strategic complement to high speed access.

It perhaps is not a “perfect” move. But it just might be the best available move.

AT&T 3Q 2016 Results Illustrate Why Time Warner Ownership Matters

AT&T’s third quarter 2016 financial results might be confirmation that the DirecTV acquisition, heavily criticized in some quarters, is working for AT&T. To wit, AT&T consolidated revenue grew 4.6 percent, year over year, principally because of DirecTV revenues, AT&T said.

More significantly, some might say, the generally flattish growth profile in the quarter shows why AT&T is moving into new lines of business, and how ownership of Time Warner matters.

Net income also grew four percent, year over year.  Operating income grew 8.2 percent, year over year.

Most of the mobile segment account gains of 2.3 million net subscriptions came from connected devices, the Mexico market and Cricket additions.

U.S. mobile postpaid churn was 1.05 percent. AT&T says it gained 700,000 U.S. branded smartphone accounts and 323,000 U.S. DirecTV net adds and 171,000 IP broadband net new accounts.

AT&T also reiterated confidence that it will meet its full-year guidance.

None of that is going to be top of mind, though, as the focus now is on prospects for AT&T’s acquisition of Time Warner. That move sometimes is said to be an effort to lower AT&T’s content acquisition costs, but is incorrect.

Owning Time Warner will not cut the fees AT&T pays to Time Warner for use of its content. AT&T would get price discounts based on volume, as will all other distributors who buy Time Warner content.

During the recent Spectrum Futures conference, mention was made of the fundamental strategy U.S. cable operators will take to “move up the stack (value chain).” Simply, the idea is that “you have to own at least some of the content that flows over your pipe.”

The Time Warner deal appears to be a perfect example of that same strategy, employed by a telco instead of a cable company.

The issue is that all triple-play providers sell a mix of services, ranging from “dumb pipe” Internet access (“tickets to Disneyland”) to applications such as voice, messaging, video entertainment or home security.

But to avoid being reduced simply to a “dumb pipe,” an access provider has to own at least some of the content, some of the apps, some of the services its customers want to use.

In other words, in addition to selling “dumb pipe” Internet access service, which under competitive conditions is subject to price per unit reductions and price competition generally, service providers must become owners of at least some of the new apps and services that its customers want to use.

It is not complicated: that is the strategy for “adding value” and “moving up the stack.” To be sure, there are some tangible benefits. As a major buyer of content from Time Warner, AT&T now at least is able to “pay itself.”

AT&T also now earns more from video than voice services.  

How AT&T benefits from owning Time Warner is a complicated question. Some might think AT&T could win by changing Time Warner content distribution, and making that content exclusive to AT&T.

AT&T will not be able to do so, at least for those networks routinely sold on linear video services.

U.S. rules force content networks that sell content to linear video distributors to sell to all such providers. There is no exclusivity. On the other hand, there are some content services--largely selling only online, that are not covered by the rules.

The interesting example is DirecTV’s NFL Sunday Ticket service, broadcasting football games. NFL Sunday Ticket is not covered by the rules pertaining to programming networks, presumably in large part because the NFL is not directly a programming network, and simply licenses the rights to show games.

Likewise, some new mobile streaming services do not seem to fall under the rules covering linear video programming networks.

At least in principle, some content (programming, rather than networks) could be developed for “direct-to-consumer” delivery, not using the linear video distribution system, and therefore be free of mandatory wholesale rules that pertain to linear video distribution.

But AT&T does not seem to prefer the “unique content” strategy in any case, at least for the moment. That strategy is very expensive, and AT&T seems to prefer the sale of “widely-viewed content” on networks that are themselves widely viewed.

There is some benefit in the area of content acquisition costs, but not direct impact. As programming fees rise, AT&T has to pay more for such content. Owning Time Warner will not change that. But AT&T will gain--as a content owner--from the fees it earns from all other distributors.

But AT&T does seem determined to acquire additional content assets as well, just as it intends to create connected car or eventually other Internet of Things applications and services that also use its network.

What is important, though, is to note that the objective is to “own at least some of the content and applications that flow over the access pipe,” not the desire to create unique walled garden assets available only to AT&T customers. That is a crucial distinction.

The same strategy would seem to apply to other services, in other industries. Connected car services, for example, where AT&T supplies the actual end user service or platform to a car manufacturer, provide one example.

Instead of supplying simple mobile network access, AT&T will seek to become the owner and supplier of connected car services (content, security, vehicle monitoring).

There is a clear strategy here, pioneered by cable TV companies. In a business increasingly anchored by “dumb pipe Internet access,” where there is much competition for any app--voice, messaging, video, utilities, content, transactions--an access provider has to own at least some of the useful apps people want to use.

Exclusivity is not required. Branding is not constrained to the “service provider” brand, in all cases. If people want to use a particular app or service, and that is widely used, it makes sense to retain the retail brands, and not force the use of the access brand.

This is a shift in model. In the past, all services were branded under the parent’s name--AT&T X, Y and Z. In the future, what will matter is the revenue, cash flow and profits generated directly by the end user services and apps, even when--or especially because--those apps and services are in high demand by end users.

In essence, AT&T and Comcast become multi-industry conglomerates, to an extent, making money in several different industries whose common focus is that they require Internet or mobile access.

Moving up the value chain does not always require full branding under the legacy access provider name. It does require ownership of some of the assets.