Kingdom at a Crossroads.

In the Wake of AOL Time Warner Merger, Does Disney Now Have to Make a Deal?

Is the Magic Kingdom in play?

Last week's stunning news that America Online Inc. will merge with Time Warner Inc. set off a frenzy of speculation over which entertainment and Internet companies would next combine forces in response to the deal.

Media stocks soared based on the premise that the new AOL/Time Warner would create such a dynamic, pervasive powerhouse of new-media access and traditional media content that others would be forced to ink me-too deals. And Burbank-based Walt Disney Co. was chief among them.

On Jan. 11, the day after the AOL/Time Warner deal was announced, Disney's stock hit a 52-week high of $36.25 a share. Although it had slipped back to $34.81 by Jan. 13, Disney remained above its pre-announcement level, and speculation persisted that the company might make a supermega-merger deal of its own.

The names being thrown around were reflective of an "anything goes" mentality that is flooding Wall Street -- Yahoo Inc.? Amazon.com? Maybe even AT&T.

While such a scenario is certainly possible, don't bet the farm on it.

Christopher Dixon, an analyst at PaineWebber Inc., called such speculation "overblown."

"Disney doesn't need to make a deal," he said.

Maybe not, but on many fronts it does seem to be a logical candidate.

It has one of the most widely recognized brand names in the world and -- with its movies, retail stores, television programming and theme parks -- enough content to stream onto digital delivery networks for something close to eternity.

But Disney also has plenty of blemishes that could repel Internet suitors. For one, it has been plagued by an ongoing brain drain of talent, continuing last week with the resignation of Disney studio head Joe Roth. It also has a relatively static stock, some questionable acquisitions and less-than-flawless integration of those acquisitions.

Disney options

Its own foray into the Internet world, through its Go Network, hasn't been smooth. As a result, goes the argument, Disney would be best off partnering or merging with either a pure Internet company, like Yahoo, or with a telecommunications company like MCI Worldcom to ensure that it remains on the cutting edge well into the 21st century.

Dan O'Brien, a media analyst at Forrester Research Inc. in Cambridge, Mass., is among those who argue that for Disney to prosper in the Internet age, it will have to partner up. Building from within is doomed to failure.

"I can't think of a single good media company that has successfully leveraged the Internet," O'Brien said. "Disney's assets -- the animated library, the movie business, the sports plays -- all of those are going to be subsumed into the Internet. Our official position is that (Disney) might be in the offing."

But there are big differences between the participants in last week's deal and any that might merge with Disney.

For one thing, the AOL/Time Warner merger is, on paper, about as perfect a fit as there is in today's media world. America Online needed Time Warner's cable systems, and Time Warner needed better new-media access than it had been able to develop in-house.

But unlike Time Warner, itself a conglomeration of several mergers, Disney is far more proprietary of its content, which would give any potential suitor pause. The Disney brand carries with it a cachet that company executives -- most especially Chairman Michael Eisner -- fiercely protect, and would be loath to subsume into any other company's operation.

That brand is so recognizable that even if Disney's efforts to develop internal Internet capabilities ultimately failed, outside companies Would still be compelled to deal with Disney if they wanted to carry Disney content.

Global behemoth 

Despite its struggles over the past 12 months -- not to mention a torrent of bad press -- the company remains an awesome force. Its movie business dominated the industry in 1999, making Disney the first studio to have two fi ms gross more than $200 million in the same year: "The Sixth Sense" and "Toy Story 2." A third, "Tarzan," took in $170 million.

"Most Internet companies don't have anywhere near the scale of an entertainment company like Disney," Dixon said. "Disney comes into contact with 100 million people a day. How any Web sites come into that many? None."

By comparison, the combined site traffic on AOL and Yahoo for the entire month of November 1999 was just under 100 million unique visitors.

Another reason for Disney's likely reluctance is that it committed $1.6 billion last year to purchase the 57 percent of Infoseek it didn't already own. Adding to the cost of that decision is the river of red ink flowing out of Infoseek. The company posted a net loss of $265.2 million in the year ended Oct. 2, 1999. While some contend that the integration of Infoseek has been slow, Disney's online strategy seems to being shape.

The Go Network is only the fifth most trafficked site on the Web, far behind leaders AOL and Yahoo. But its traffic rose 31 percent between August and November, and the site is developing its own brand recognition. Despite some assessments that it can never catch AOL, the guaranteed content of Disney's Internet network is turning previously dubious analysts into believers.

"Go is doing quite well," said Scott Davis at Schroder Securities. "Is it Yahoo? No, not yet. But the way to look at Go is that it is a fledging operation. One of the best things about it is that (Disney) knows that they have a lot of work to do with it to make the portal and search engine work."

Intractable leader

Yet another reason why a major deal with Disney is unlikely: Eisner.

The man who has run the company for the past 15 years and overseen its rise from a staid animation studio to an entertainment juggernaut is unlikely to cede much authority at all.

One of the reasons the AOL/Time Warner deal got done was Time Warner Chairman Gerald Levin's willingness to let AOL head Steve Case take the top title. And even though Time Warner's revenues are about five times those of AOL, AOL's market valuation allowed its shareholders to walk away with 55 percent of the new entity.

Eisner, who has referred to the huge valuations of Internet companies as "monopoly money," is unlikely to agree to the same kind of deal.

"Unlike Jerry Levin, who is willing to do whatever is right for the good of the company, I can't see Michael Eisner giving up being chairman," said one Hollywood inside who knows both men. "It took a lot for him to make the ABC deal. He's always been a builder, not a buyer."

The "ABC deal" was Disney's $19 billion acquisition of Capital Cities/ABC in 1996 that brought with it enormously successful cable operations like ESPN, and more troubled properties like the ABC television network, which has been losing money ever since. Analysts still describe the deal as strategically sound, given how it provides the opportunity to spread Disney content through the ABC network.

The troubles Disney has experienced in merging the network into the company's preexisting operations has made Eisner, already known for being trigger-shy when it comes to finalizing a deal, even more so. He is famous (or infamous) for micro-managing, and the prospect of letting someone else make some of the major decisions would be a sizable hurdle toward making any kind of deal.

So while a merger with a telecom giant like MCI Worldcom or even AT&T might make sense in terms of fulfilling each other's needs, it is unlikely to happen on Eisner's watch.

"Who would run the company?" asked one Hollywood executive, when asked about melding the talents of Eisner and AT&T Chairman Michael Armstrong. "I wouldn't count on it."

That doesn't mean Disney would turn down the prospect of any deal offered. But it is more likely to form an alliance with a telecom company than approve an outright merger.

"It comes back to the value of content," said Michael Montgomery, managing partner in merchant bank Digital Coast Partners and a former Disney senior executive. "Disney, ABC, ESPN - all of these have extraordinary value. If Disney could get its online strategy right, it would be even more valuable. If they want to build a network to compete with AOL, they can do it. Or they can be a pure content play. Either one will work."

And despite all the assertions that AOL/Time Warner is a near-perfect fit, the deal still must clear many more hurdles before it is finalized, and even then, there are no guarantees that it will mesh as envisioned. Entertainment companies that wait to see what happens after the dust settles may be better off in the long run.

"Everybody loves deals," PaineWebber's Dixon said. "They're fun to write bout and fun to talk about. And at the end of the day, the AOL-Time Warner deal probably makes sense. But the other players will have to look and see if it makes sense for them at this stage of the development of the Internet."

Voices

AMERICA Online's merger with Time Warner sent shock waves through Hollywood last week. Here's what some top-ranking entertainment executives had to say about the deal.

Sumner Redstone

Chairman and CEO 

Viacom Inc.

"The announcement Steve Case and Jerry Levin made...underscores both the importance of the Internet as a distribution platform and the value of having the creative content that people want to experience. (Last week's) announcement was, I believe, just the first of many mergers to come. The opportunities to package and distribute content across multiple platforms are too compelling to ignore, and the opportunities to create real and lasting value for shareholders too difficult to resist. I'll confess that I had never thought about a merger between a prominent Internet company and a traditional company like Time Warner. So it took me by surprise."

Jeffrey Berg

Chairman

International Creative Management

"It's likely other traditional media companies will examine their options with online companies. And the (capital) markets might encourage online companies to make similar deals."

Bob Daly

Managing Partner

Los Angeles Dodgers 

Former Co-Chairman, Warner Bros.

"I think it's a terrific deal for both companies. Jerry Levin felt that for Time Warner to move the next level, it needed a deal like this. I think two things are going to happen. One, the dust has to settle on the deal, so everyone can look at it in the cold light and make sure it's a good thing. The second is that there is no question in my mind that there will be more deals. The (entertainment) industry has always proven that when one person does it, someone else has to do it as well. If I could guess who it was going to be, I'd be a rich man. My gut feeling is that there will be another deal before the year is out."

Jake Weinbaum

Co-Founder

ECompanies

Former head of Disney's Internet division

"I think the transaction was driven mainly by the cable network that Time Warner has, and that AOL wanted. It gives them a seat at the table in terms of high-speed cable access. If Time Warner were just a content provider, there would have been no transaction. There is no other deal comparable to this one. I don't think it portends some trend in consolidation."