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ETFs in Focus on AT&T-Discovery Mega Merger Deal

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Amid the global Internet video streaming war, telecom giant AT&T (T - Free Report) and Discovery Communications have agreed to merge in a $43 billion deal, and form one of the largest global streaming players. The deal will combine media powerhouses CNN, HBO and the Cartoon Network with HGTV, the Food Network and Animal Planet.

The combined Warner/Discovery company would have an enterprise value of roughly $150 billion, including debt. It will pose a huge challenge to the likes of Netflix (NFLX - Free Report) , Disney (DIS - Free Report) , Apple (AAPL - Free Report) or Comcast (CMCSA - Free Report) (read: Will Disney (DIS - Free Report) ETFs Shine Post Q2 Earnings?).

Inside the Deal

The megadeal is structured as an all-stock, Reverse Morris Trust transaction designed to reduce taxes. AT&T's shareholders would receive stock representing 71% of the combined company while Discovery shareholders would own 29%. The transaction, which is expected to close in mid 2022, is approved by the boards of both AT&T and Discovery and is pending Discovery shareholders’ and regulatory approvals. Discovery President and CEO David Zaslav will lead the new company with executives from both companies taking on key leadership roles.

The mega merger will form a new company that will have significant scale and investment resources with projected 2023 revenues of approximately $52 billion, adjusted EBITDA of approximately $14 billion, and an industry leading free cash flow conversion rate of approximately 60%. It plans to spend around $20 billion in content, which is more than what Netflix currently does. The transaction is expected to generate at least $3 billion in expected cost synergies annually, increase its investment in content and digital innovation, and scale its global direct-to-consumer business (read: 4 Best-Performing Stocks of the Best ETF of April).

The combined company would be an entertainment powerhouse with more original content for its streaming services, enhancing programming options across its global linear pay TV and broadcast channels, and offering more innovative video experiences and consumer choices. It will bring together the historic brands and franchises under one global portfolio, including HBO, Warner Bros., Discovery, DC Comics, CNN, Cartoon Network, HGTV, Food Network, the Turner Networks, TNT, TBS, Eurosport, Magnolia, TLC, Animal Planet, ID and many more. Additionally, the merged company will have one of the deepest libraries in the world with nearly 200,000 hours of iconic programming.

The merger is the latest deal in the race of the streaming players to beef up their subscriber base and deal with with the COVID-19 pandemic-triggered acceleration of consumers’ love for streaming.

Market Impact

Following the news, both companies surged initially but declined at the close on a broad market sell-off. Shares of DISCA plunged 5% on the day. The stock crushed its average volume as 89.5 million shares moved hands compared with 15.4 million on average. Meanwhile, shares of AT&T declined 2.7%.

This put the spotlight on some ETFs, which could be the best ways for investors to tap the opportunity arising from the proposed merger. Investors should keep a close eye on the movement of these ETFs over the coming weeks.

iShares U.S. Telecommunications ETF (IYZ - Free Report)

This fund follows the Dow Jones U.S. Select Telecommunications Index and offers exposure to 45 American companies that provide telephone and Internet products, services and technologies. AT&T occupies the top position with 22.9% of the assets. The ETF has AUM of $469.8 million and trades in an average daily volume of 172,000 shares. It charges 42 bps in annual fees and has a Zacks ETF Rank #2 (Buy) with a Medium risk outlook (read: Can Telecom ETFs Gain Despite Mixed Q1 Earnings?).

Invesco S&P 500 Equal Weight Communication Services ETF

This fund follows the S&P 500 Equal Weight Communication Services Plus Index. It holds 28 stocks in its basket with AT&T and Discovery having a combined share at 5.9%. The product has amassed $43.8 million in its asset base and trades in an average daily volume of 12,000 shares. It charges 40 bps in annual fees and has a Zacks ETF Rank #3 (Hold).

Vanguard Communication Services ETF (VOX - Free Report)

This fund also targets the telecommunication services sector by tracking the MSCI US Investable Market Communication Services 25/50 Index. Holding 114 stocks in its basket, AT&T takes the fifth spot with 4.6% share. Interactive media & services is the top sector, accounting for 48.1% of the portfolio, while movies & entertainment, and cable & satellite round off the next two. VOX has AUM of $3.7 billion and trades in a good volume of 148,000 shares a day, on average. It charges 10 bps in annual fees and has a Zacks ETF Rank #3 with a Medium risk outlook.

Communication Services Select Sector SPDR (XLC - Free Report)

This ETF offers exposure to companies from telecommunication services, media, entertainment and interactive media & services and has accumulated $13.4 billion in its asset base. It follows the Communication Services Select Sector Index and holds 26 stocks in its basket, with AT&T occupying the seventh position at 4.5%. About half of the portfolio is allocated to interactive media & services, while entertainment, and media round off the next two. The product charges 12 bps in annual fees and trades in an average daily volume of 4.1 million shares. It has a Zacks ETF Rank #2 (read: ETF Areas to Win on Smashing Q1 U.S. GDP Growth).

Multifactor Media and Communications ETF

This ETF targets a wide range of U.S. media and communication stocks to exploit the sector's opportunities by tracking the John Hancock Dimensional Media and Communications Index. It holds 53 stocks in its basket with AT&T and Discovery accounting for a combined 5.6% share. JHCS has managed assets worth $31 million and charges 40 bps in annual fees. It trades in an average daily volume of about 2,000 shares.

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