Case Study. Sony Buys MGM

question 11

Essay

Case Study. Sony Buys MGM
Sony's long-term vision has been to create synergy between its consumer electronics products and music, movies, and games. Sony, which bought Columbia Pictures in 1989 for $3.4 billion, had wanted to control Metro-Goldwyn-Mayer's film library for years, but it did not want to pay the estimated $5 billion it would take to acquire it. On September 14, 2004, a consortium, consisting of Sony Corp of America, Providence Equity Partners, Texas Pacific Group, and DLJ Merchant Banking Partners, agreed to acquire MGM for $4.8 billion, consisting of $2.85 billion in cash and the assumption of $2 billion in debt. The cash portion of the purchase price consisted of about $1.8 billion in debt and $1 billion in equity capital. Of the equity capital, Providence contributed $450 million, Sony and Texas Pacific Group $300 million, and DLJ Merchant Banking $250 million.
The combination of Sony and MGM will create the world's largest film library of about 7,600 titles, with MGM contributing about 54 percent of the combined libraries. Sony will control MGM and Comcast will distribute the films over cable TV. Sony will shut down MGM's film making operations and move all operations to Sony. Kirk Kerkorian, who holds a 74 percent stake in MGM, will make $2 billion because of the transaction. The private equity partners could cash out within three-to-five years, with the consortium undertaking an initial public offering or sale to a strategic investor. Major risks include the ability of the consortium partners to maintain harmonious relations and the problematic growth potential of the DVD market.
Sony and MGM negotiations had proven to be highly contentious for almost five months when media giant Time Warner Inc. emerged to attempt to satisfy Kerkorian's $5 billion asking price. The offer was made in stock on the assumption that Kerkorian would want a tax-free transaction. MGM's negotiations with Time Warner stalled around the actual value of Time Warner stock, with Kerkorian leery about Time Warner's future growth potential. Time Warner changed its bid in late August to an all cash offer, albeit somewhat lower than the Sony consortium bid, but it was more certain. Sony still did not have all of its financing in place. Time Warner had a "handshake agreement" with MGM by Labor Day for $11 per share, about $.25 less than Sony's.
The Sony consortium huddled throughout the Labor Day weekend to put in place the financing for a bid of $12 per share. What often takes months to work out in most leveraged buyouts was hammered out in three days of marathon sessions at law firm Davis Polk & Wardwell. In addition to getting final agreement on financing arrangements including loan guarantees from J.P. Morgan Chase & Company, Sony was able to reach agreement with Comcast to feature MGM movies in new cable and video-on-demand TV channels. This distribution mechanism meant additional revenue for Sony, making it possible to increase the bid to $12 per share. Sony also offered to make a $150 non-refundable cash payment to MGM. As a testament to the adage that timing is everything, the revised Sony bid was faxed to MGM just before the beginning of a board meeting to approve the Time Warner offer.
-In what way do you believe that Sony's objectives might differ from those of the private equity investors making up the remainder of the consortium? How might such differences affect the management of MGM? Identify possible short-term and long-term effects.

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