After PSKY's $31 Bid, Could Netlfix Exit the WBD Bidding War?

Key Points

• Warner Bros. Discovery says Paramount Skydance’s revised bid could lead to a superior proposal, even as it still recommends the Netflix deal for now.
• The higher offer price matters, but stronger equity backstopping to reassure lenders appears to be the bigger swing factor.
• Netflix stock’s rally suggests investors may prefer Netflix to step away rather than escalate the bidding.

The Warner Bros. Discovery NASDAQ: WBD acquisition saga took another dramatic turn that the company itself may not have seen coming. After Netflix NASDAQ: NFLX agreed to a seven-day waiver period, which accelerated Paramount Skydance’s NASDAQ: PSKY bidding process, PSKY has upped its offer. And, for the first time, Warner Bros. is indicating that Paramount’s bid could win out.

Paramount Sweetens the Pot With $31 Bid, Stronger Equity Backing

When Warner Bros. and Netflix gave Paramount one week to submit its best bid, WBD didn’t sound as if it expected much to change. In announcing the waiver, WBD management said, “To be clear, our Board has not determined that your proposal is reasonably likely to result in a transaction that is superior to the Netflix merger." WBD added, “We continue to recommend and remain fully committed to our transaction with Netflix." It seems that thinking may now be growing stale.

After the conclusion of the waiver period, Paramount increased its headline offer to $31 per share, up from its previous $30 bid. After receiving this, WBD’s rhetoric took a clear turn. The company said that Paramount's revised offer could reasonably be expected to lead to a "Company Superior Proposal." In short, WBD is circling back to PSKY, believing its offer could be better than Netflix’s.

However, the $1 price increase was far from the biggest factor that shifted the entertainment giant’s perspective.

Beyond this, Paramount made several key concessions designed to address WBD’s concerns about deal certainty and financing risk.

Most critically, Paramount agreed to contribute additional equity funding, as needed, to satisfy PSKY’s lenders should debt markets or the fundamentals of the combined company deteriorate. Essentially, Paramount’s owners, specifically Oracle NYSE: ORCL founder Larry Ellison, will pay for WBD in cash should debt funding dry up. This directly addressed one of WBD’s biggest concerns, as the financing certainty around PSKY’s previous offer was inferior to that of Netflix’s.

Netflix’s bid also includes debt financing. However, Netflix has nearly $9.1 billion in cash and equivalents on its balance sheet. It also generated $9.46 billion in free cash flow over the last 12 months. At Paramount, these figures stand at just $2.66 billion and $308 million, respectively. Netflix’s vastly superior cash position and production capacity made it much less likely that lenders would withdraw their funds. But, with a net worth of over $190 billion, Larry Ellison’s backing is the great equalizer for Paramount.

Netflix Shares Rally as Investors Anticipate a Retreat

Notably, Warner Bros. has not actually determined that Paramount’s offer is superior to Netflix’s yet. WBD’s Board “continues to recommend in favor of the Netflix transaction and is not withdrawing or modifying its recommendation.” 

It is currently evaluating whether the Paramount deal is superior. Should it decide this is the case, Netflix will have four days to negotiate a counteroffer.

In a telling reaction, Netflix shares popped approximately 6% after Paramount provided its updated bid. As Paramount’s chances of winning WBD have now increased, the market is clearly indicating that it believes Netflix not buying WBD is what’s best for the company. Investors are now assigning a larger probability to Netflix walking away from the deal, rather than trying to beat out Paramount’s offer.

Prior to this latest reversal, Netflix shares had fallen around 20% since announcing the WBD acquisition. This shows that investors did not view the deal as a good use of capital. It also may have signaled that Netflix internally questioned its ability to maintain robust organic growth.

WBD Going Forward: Will Netflix Back Out or Pony Up?

For WBD shareholders, the possibility that Netflix will walk away from the bidding war is now a greater threat. This is important, as the prospect that NFLX and PSKY will push their offers higher has been the main driver of WBD stock. Getting a better deal from Paramount is all fine and dandy, but the absence of a continued bidding war will limit further upside.

At the same time, it’s possible that Netflix counters, and a bidding war commences once again, leading to further gains. Still, the jolt in Netflix's stock indicates that investors view this as a lower-probability outcome. And at the end of the day, the deal still needs regulatory approval for investors to receive the $31 price. It’s still possible that regulators don’t approve a Netflix or Paramount deal. Frankly, it’s difficult to say what might happen next.

With WBD now trading near $29 per share, further gains may only be incremental compared to what the stock has already achieved. Meanwhile, Netflix backing away and the Paramount deal falling through for whatever reason could lead to considerable downside. Overall, these factors make it worth considering whether it's time to take the money and run with WBD.