While continued sluggishness in retail and job growth data lately cast ominous clouds over the health of the U.S. consumer discretionary sector, the recently signed deal between Comcast Corp. (CMCSA) and Time Warner Cable Inc. (TWC) might give a much-needed boost to the space. The merger means a lot to the cable industry, given Comcast and Time Warner Cable are the top two operators in the space.
Inside the Deal
On February 13, Comcast announced an all-stock take-over agreement with and of Time Warner Cable. Comcast’s bid of approximately $159 per share will add up to a total consideration of $45.2 billion. Each share of Time Warner Cable will translate into 2.875 Comcast shares.
Following the completion of the transaction, Time Warner Cable shareholders will hold around 23% of the merged body. The deal is expected to be wrapped up within a year, subject to regulatory approval.
Investors should note that Time Warner Cable, which has been an interesting acquisition target for quite some, repeatedly was offered decent sums by the likes of Charter Communications Inc. (CHTR) and Liberty Media Corp. (LMCA). However, Time Warner Cable declined those proposals as it viewed the offer prices as too low.
We view the deal as strategically positive as both operate under the same group thus deriving significant cost synergies. Both the parties can gain on each other’s exposure profile.
The deal’s effectiveness can further be validated by Comcast’s plan to bolster its share repurchase activity to $10 billion at the close of the transaction, even after its recent plan to expand share buyback authority to $7.5 billion from $1 billion.
Upon completion of the deal, the merged entity will likely derive as much as $1.5 billion of operating savings, of which 50% may be realized within the first year after merger.
Market & ETF Impact
The shares of Comcast and Time Warner Cable saw opposite movements at the close of February 13 with the former slipping and the latter moving northward. However, Comcast gained slightly (0.29%) in after hours trading while Time Warner Cable dipped 0.06%.
Notably, Time Warner Cable’s latest share price of $144.73 is still more than 8% below the offer price. Investors might have sought to capture this near-term potential in Time Warner Cable. Trading volumes were about 8 times higher than the average level for both the stocks.
Quite expectedly, if the deal gets approved, Comcast will emerge as a much bigger entity in the U.S. Cable TV space. Keeping that in mind, it would be prudent to identify some ETFs having sizable exposure in Comcast indicating that these ETFs might hugely benefit from Comcast’s potential uptrend and enhanced buyback. Below, we have highlighted some of the funds:
Consumer Discretionary Select Sector SPDR Fund (XLY)
XLY is by far the largest product in the consumer discretionary space with more than $5.0 billion in assets. In its 86-stock portfolio, the in-focus Comcast takes up the top spot with 7.15% allocation.
The ETF charges a meager 18 bps in fees a year and pays a dividend yield of 1.21%. The fund returned 42.7% in 2013 but has lost about 3.0% in the year-to-date time frame (as of February 12, 2014).
The fund gained 0.31% in the key trading session on February 13. XLY has a Zacks ETF Rank of 2 or ‘Buy’ rating with a ‘Medium’ risk outlook.
iShares U.S. Consumer Services ETF (IYC)
The fund tracks companies in fields like Retail, Media, Hotels, Textile and Apparel. The product manages an asset base of $446.2 million which it invests in 185 securities. Media captures the second position as far sector holdings are concerned having an exposure of approximately 29%. Comcast occupies the top spot in individual holdings with about 5.49%.
The fund charges an annual fee of 45 basis points. IYC gained 42.5% last year, but lost 1.61% year to date. Yesterday, IYC gained 0.41%. The fund has a Zacks ETF Rank of 3 or Hold with a ‘Low’ risk outlook.
PowerShares Dynamic Media Portfolio (PBS)
Though Comcast is not PBS’s portfolio, the ETF has 4.81% share in Time Warner Cable and thus should indirectly benefit from this deal. The ETF – a 30-stock basket of media-related companies – has amassed $304.6 million in assets. The product charges 63 bps in fees and expenses from investors.
The fund has a Zacks ETF Rank of 2 or Buy and ‘Medium’ risk outlook and has delivered a stellar return of 59.94% in 2013 year to date but lost 3.76% year to date. PBS gained 1.34% on the day of the deal’s announcement.
Bottom Line
Overall, the consumer discretionary space is pushing the market lower to start 2014 hit by severe cold in the U.S, faltering consumer sentiment regarding the sustainability of the economic growth and overvaluation of the space. However, some specific corners of the segment, like media, may brighten up in the coming days.
At present, Comcast and Time Warner Cable have a Zacks Rank #3 (Hold) and #2 (Buy), respectively. Investors might want to buy in the products on its dip to lock-in the new entity’s potential, if the deal can pass what looks to be significant regulatory hurdles.