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New Services Cloud AT&T's Bet on Pay TV

03/26/2015 | 09:37pm US/Eastern
By Thomas Gryta 

AT&T Inc. knew it was buying a melting ice cube when it agreed to acquire satellite-TV company DirecTV last year for $49 billion. But recent moves by HBO, Apple Inc. and the National Football League have turned the temperature up a few degrees.

A wave of new TV services delivered over the Internet allow Americans to get prime programming like the hit HBO series "Game of Thrones" and ESPN sports without paying a big cable or satellite bill. That, in theory, means fewer customers for bundles of TV channels like those sold by DirecTV. And unlike cable companies, DirecTV doesn't have a significant broadband business to fall back on.

AT&T is aware of the risks. Chief Strategy Officer John Stankey says the telecom giant figured when it did the deal that demand for traditional bundles of TV channels probably had peaked. But AT&T is betting the decline will be slower than many people think--a gradual 34-degree melt, as opposed to a 75-degree one-- and that it will be able to milk the cash produced by the declining satellite business in the meantime to fund upgrades in its networks.

"The world is going to be broadband--wireless and fixed--and that is where we want to be," Mr. Stankey said.

AT&T announced the DirecTV deal last May. Since then, the agreement's value has fallen by about 4% to about $46.5 billion, due to a decline in AT&T's stock, which DirecTV shareholders will get in addition to some cash. AT&T expects the deal to close by the end of June.

Randall Stephenson, the company's chief executive, said at the time of the deal that AT&T would benefit from the satellite broadcaster's scale in TV. That would bring down the cost of programming for AT&T's own U-verse service and give the company more clout to negotiate content deals for over-the-top services of its own.

AT&T also committed to extending broadband service to another 15 million households. The carrier had 16 million broadband connections at the end of 2014.

DirecTV rival Dish Network Corp. has since launched its Sling TV service, which offers a slim package of channels, including Walt Disney Co.'s ESPN and Time Warner Inc.'s CNN, over the Internet for $20 a month. HBO, also owned by Time Warner, is launching an Internet version of its channel that will cost $15 a month on Apple TV.

Apple itself is talking with content companies about a service of its own, people familiar with the matter have said. And, the NFL said Monday that it will broadcast one game this coming season only over the Internet.

Telecom and cable analyst Craig Moffett of MoffettNathanson says the new services pose very little threat to traditional pay TV, which will keep losing customers at a very slow rate. But he also says the new offerings from companies that control content have made the industry's trajectory harder to forecast.

The conventional wisdom is that such services aren't comprehensive enough for most households and will take a long time to catch on. Still, developments signal that the companies that make the TV shows and control big-league sports are ready to start experimenting with services they had to this point largely held at bay.

The NFL's experiment bumps up against DirecTV's main asset--its Sunday Ticket package, which promises complete coverage of out-of-market professional football games for about $250 a season. The service is so critical to the satellite broadcaster that AT&T negotiated the right to walk away from its deal if DirecTV's agreement with the NFL wasn't renewed.

Last year, the NFL renewed its deal with DirecTV for eight years, with the broadcaster reportedly paying about $1.5 billion a year. That gives the league an incentive to move slowly with any Internet offerings to avoid upsetting a rich vein of revenue.

In regulatory filings, DirecTV identifies over-the-top products as a risk to its business. It also says its inability to offer broadband or telephone service helped drive it to seek a merger with a partner that could diversify its business.

Charlie Ergen, co-founder and incoming CEO of Dish, said there is no question that his company's new online-video service will cannibalize its traditional satellite service. In a March 25 interview on CNBC, Mr. Ergen said the vast majority of those who signed up for Sling TV in its first six weeks came from outside the traditional pay-TV market. But he said the new service will inevitably lure some current Dish subscribers.

AT&T rival Verizon Communications Inc. has said buying a satellite-television business wouldn't make sense for it because it is more interested in over-the-top video than in the traditional TV model.

In essence, AT&T is betting on inertia. Old technologies can be slow to fade. even when newer alternatives catch on. Most Americans now carry smartphones. But about 53% of U.S. households still pay for a landline phone, according to data released in December by the Centers for Disease Control and Prevention.

"This is a slow moving thing," said Moody's senior telecom analyst Mark Stodden.

Shalini Ramachandran contributed to this article.

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