NEW YORK – Sony and Metro-Goldwyn-Mayer are reaching the end of a 15-day negotiating period and many of the details that could lead to a purchase of MGM by Sony have been worked out. However, other suitors, including General Electric’s NBC Universal and Time Warner, are anxiously waiting to see if Sony will make a firm offer when the exclusive due diligence period expires today. (EDIT: Sony is asking for a two week extension.)
According to sources close to the negotiations, a purchase price of $5 billion was one of the first issues agreed upon. The deal calls for Sony’s U.S. unit, The Sony Corp. of America, to pay for MGM by combining a $3.5 billion loan with $1.5 billion from private equity partners.
Sony wants to leave MGM as a separate film production company, and not combine it with its own Hollywood studio, Sony Pictures Entertainment. The separate MGM entity would be a stand-alone company, and would be owned by Sony and the equity partners. Sony would kick in about $400 million of the $1.5 billion in private equity. The remainder would come from the equity partners, Texas Pacific Group and Providence Equity Partners.
What Sony Pictures would get in return is a deal that would allow it to distribute MGM’s film library, which includes over 4,000 pictures and is one of the largest in the industry. By combining MGM’s library with its own library, Sony Pictures would then control over 40% of all of the motion pictures ever made in Hollywood.
By structuring the deal in a way that allows Sony to effectively take a minority stake in the separate MGM unit, the Japanese consumer electronics and entertainment giant can park the purchase loan with the new MGM company and avoid having to consolidate the debt on its own balance sheet. This could be important to Sony, since the company’s consumer products unit has struggled and the ability to avoid any downgrading of its debt is a priority in the MGM deal.
MGM, however, is a valued property and others would like to also get it. It is Hollywood’s smallest major studio and aside from some recent hits like Legally Blonde and Barbershop, the studio’s track record with new releases has been average at best.
But MGM’s film library, which includes the James Bond, Pink Panther and Rocky films, is highly coveted and has been a strong driver of profits in recent years as consumers have built DVD collections and as the growing number of cable channels fill their program schedules with content. The MGM library has generated cash flow growth of 22% compounded annually over the last three years. In 1999, MGM had negative cash flow of $400 million, yet by 2003 the company had positive cash flow of $200 million. The company’s debt, which totaled $1.2 billion in 1999, has been totally erased. And recently, MGM paid shareholders a dividend of $1.9 billion, equal to 40% of the company’s market value. MGM has said that it expects to report a 2004 net loss of $75 million.
Most of the recent dividend payment went to MGM’s primary owner, Kirk Kerkorian, who holds 74% of MGM’s stock and will ultimately decide who, if anyone, purchases the company. Kerkorian would like to receive stock for the company, as opposed to cash, the currency that Sony would pay with. Kerkorian would like to avoid the huge tax consequences of a cash deal, and even after paying off the taxes the 86-year-old financier would still likely put the money in stocks anyway. Kerkorian’s preference for a stock transaction could bolster the chances of Time Warner or GE-owned NBC Universal entering the picture. Getting a deal done still won’t be easy. NBC Universal Chief Bob Wright has indicated that he believes the $5 billion price tag is too high.
Spokespeople at MGM and Sony would confirm only that the two companies are still in negotiations.
Owning the gigantic film library could be a boon to Sony’s future. The company’s chairman, Nobuyuki Idei, is keen on controlling content to interconnect with Sony’s electronic products. Sony is currently locked in a battle to determine what the standard will be for the highly anticipated high-definition DVD film format currently in development. The battle is much like the one that Sony engaged in with Video Cassette Records, but lost when its Beta format was superseded by the VHS format. By owning so much film content, Sony would gain the upper hand in dictating what standard will be adopted.
By BRETT PULLEY