MGM: Dark Horse in the Vivendi Derby


By Ronald Grover Hollywood loves the story of the underdog. And as French conglomerate Vivendi Universal (V) sifts through the bids for its Hollywood assets -- including the Universal studio, theme parks, a music company, and its brace of cable channels -- a live one may be in the making on Universal's backlot. When the bids were delivered to Vivendi on June 23, John Malone's Liberty Media (L) was considered the front-runner. Consortiums led by former Seagram CEO Edgar Bronfman Jr. and Los Angeles billionaire Marvin Davis were also said to be strong players. All but forgotten in the pack is MGM (MGM), the long-suffering studio better known over recent decades for its losses rather than blockbusters.

It's easy to overlook MGM. The studio, which in the past produced such legendary films as The Wizard of Oz and Gone with the Wind, now lives largely off a massive library of older films and churns out the occasional James Bond blockbuster. It has had other hits, like last year's Barbershop and its kiddie version of 007, Cody Banks Special Agent. But it still loses money. In its most recent quarter, it dropped $55.8 million on revenues of $395 million. That has made it anything but a Wall Street darling.

GOING FOR A BIG ONE. However, don't underestimate the drive of MGM's 85-year-old majority owner, the reclusive billionaire Kirk Kerkorian, or Alex Yemenidjian, the 47-year-old MGM chairman and CEO. Since Yemenidjian arrived in 1999, the one-time accountant has revamped the company, slashing overhead and taking on partners to make many of its more expensive films. To capitalize on the booming DVD market, he bought back distribution rights for many of MGM's films that had been sold off in earlier clearance sales.

Kerkorian and Yemenidjian are intent on making this Lion roar again. And the best way may be to buy something big, transforming it from the risky business of making films to a diversified company. So, on June 23, MGM offered what those who know the bidding say was more than $11 billion for the Universal studio, theme parks, and cable channels. Although details are sketchy, about $2 billion of that is cash from partners that include Kerkorian's Tracinda Corp. holding company and from Providence Equity Partners. The debt is being arranged by MGM's longtime bankers at BankAmerica (BAC) and from Morgan Stanley (MWD), which both submitted "highly confident" letters that they could raise the cash for MGM, which declined to comment on the terms of its offer.

From MGM's position, the deal makes great sense. By combining its library of more than 4,000 films with Universal's cache of 1,500, the newly formed company would become the world's No. 1 film owner, capable of setting terms with cable and satellite operators around the globe. As MGM and its investment bankers have done the math, the merged operation would save more than $300 million a year in operating costs by combining the two companies' various operations, most likely by shutting down production at MGM and laying off duplicative marketing, sales, and other staff. MGM would likely save money as well by funneling its films to its own cable channels, which would include the USA Network, SciFi Channel, and Trio, which shows smaller, independent movies.

PROVE IT. Will it fly with Vivendi? The French company wants cash, and it might welcome MGM's all-cash bid. Moreover, because MGM says it will buy more than 90% of Vivendi Universal Entertainment, the holding company in which the assets are housed, the deal wouldn't trigger various tax provisions that would cost the French company more than $2 billion. MGM has also told the French it would honor the "tag along" provisions that would allow former media mogul Barry Diller, chairman of InterActiveCorp (as USA Interactive has been recently renamed), to sell his 7% stake in the company thus overcoming yet another set of potential roadblocks.

Still, that doesn't make the deal a slam-dunk for MGM. For one thing, it must yet prove its costs projections.

Then there's the whole issue of the music company. The other major bidders -- Liberty and the Davis and Bronfman groups would take the troubled music unit off Vivendi's hands, while MGM has steered clear. MGM has apparently told the French it would arrange for a buyer if that were to become an issue, say sources with knowledge of the deal.

WHO'LL ADVANCE? MGM has to wait only until July 1 to figure out whether its bid still has a chance. That's when the Vivendi board is expected to decide which of the offers will go to a second round, when Vivendi will give the surviving bidders detailed financial documents such as major contracts and bank loans before they firm up their pitches. Insiders say Vivendi is likely to pick three or even four bidders then.

With a cash horde of more than $5 billion, Malone is almost certainly a lock to move forward because he can guarantee his deal will close. Bronfman, who's still a Vivendi board member (although on "suspended" status during the auction), will also likely get a ticket to the next round. After plugging away at the deal for months, the Davis group will also likely advance.

And MGM? To boost its chances, the studio offered Vivendi a small stake in the company - and then guaranteed that the value of Vivendi's minority stake would never fall. That's a deal that's hard to beat: money upfront and equity that can't decline in value. But is all of that enough to win over the always-fickle French? Maybe. In a lot of those Hollywood stories, the underdog ends up on top. Grover is Los Angeles bureau chief for BusinessWeek. Follow his weekly Power Lunch column, only on BusinessWeek Online


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