Faculty of Graduate Studies

EMBA Program
EMBA636: Managerial Economics
Advisor: Dr. Adel Zagha
February 2020

Time Warner, Inc., Is Playing Games with Stockholders

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 Table of Content
1. Abstract 3
2. Introduction 4
3. Problem Statement 4
4. Motivation 5
5. Significance of the Case Study 5
6. Literature Review 6
7. Process to Approach the Solutions 7
8. Findings 8
9. The Analysis and Interpretation of Findings 9
10. Conclusion 12
11. References 12

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1. Abstract

Background: The case study is significant in understanding the impact of instituting unplanned
policies and procedures that have impact to both shareholders and the entire company in general.
Such policy includes the game theory concept.

Objectives: To identify how Time Warner failed to involve shareholders in business affairs
affecting their stock within the Company and how that may compromise the typical operations of
the business.

Methods: Using the payoff matrix of rights offerings and share decision along with applying
secure game theory strategy and principles.

Results: Time Warner Company made an ineffective decision of demanding for additional
cash from the shareholders in order to raise the capital required to meet obligations such as
settling debt.

Conclusions: The mismanagement and failure to adopt effective expansion strategies made the
Company unable to achieve the unanticipated growth. Such scenario had negative impact on
shareholders of the Company. The strategic expansion of a Company should be executed in a
manner that will not compromise the overall objectives of the business on both short-run and
long-run basis.

Keywords:Time Warner, Paramount, Media, Rights offering ,Payoff matrix, Management,

Game Theory, value-maximization concept.

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2. Introduction

Time Warner is recognized as the largest entertainment and media Company in the globe.

The Company has been ranked top, relative to executing various operations such as the

publication of magazines including Sports illustrated, Fortune, People and Time. Time Warner

has operated in other industries such as the technology industry dealing with Television

production, electronic commerce, cable television systems, filmed entertainment, recorded music

and broadcast television. As a multinational Company, Time Warner has participated in

magazine publishing, music and book publishing. The engagement in business diversification

has made the Company to obtain market recognition while upholding the value of the Company

from the shareholders. The Company’s profile has been enhanced due to capability of the

management to consider the entertainment-filed technology. The technology has been interactive

to facilitate the ability of customers to access different services including movies and an

assortment of products.

3. Problem Statement

Based on the current case study, the problem statement is the introduction of practical

application of game theory concepts. Under the initiative, the Company offered shareholders

57.8 million shares held for common stock, the right to possess 34.5 million shares of new stock

that translated to 0.6 rights for each share. The problem was stimulated by the fact that the

shareholders had a mandatory requirement of compensating Time Warner $105 that was

intended for the number of shares that was not specified to the shareholders.

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4. Motivation

The secure game theory strategy for Time Warner was executed based on the principle

that the providing the common shareholders with the contingent rights would raise the new

equity required by the Company. The Company placed more focus on demanding that the

shareholders should add more cash to the company through the shares offered in the market. The

additional cash was contrary to the typical formation of strategic alliances applied by Companies,

when they plan to increase equity of the capital.

5. Significance of the Case Study

The case study is significant in understanding the impact of instituting unplanned policies

and procedures that have impact to both shareholders and the entire company in general. Such

policy includes the game theory concept.

The case study is effective in providing a comprehensive understanding of how business

diversification can be challenging, especially relative to raising new capital through different

equity raising methods.

The case study is important understanding the impact of shareholder’s rights, relative to

the regulations enacted by the Company through its management.

The case study is important in understanding the overall impact of stock market,

including the falling and increase of shares, to the Company and how the impact translates under

the stand point of a shareholder.

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6. Literature Review

Following the research findings of (Spigel et al. 34), Time Warner is recognized as a

company operating the best television and film brands in the world. The study found that the

large and diversified operation enabled the Company to report massive revenues worth $31.27

billion in the fiscal year 2017. The large financial earnings reporting have made the Company to

gain trust from the shareholders who have preferred to stock the company’s stock. Moreover, the

research findings of (Carlton et al. 4) outlined that the massive growth of Time Warner has

enabled the Company to divide its operations in Turner Broadcasting System, Warner Bros and

the Entertainment Incorporation. Such subdivision has played an important role in making

certain that the shareholder’s stock is valuable in both short-run and long-run basis. The

Company does not retain total control for all its businesses, some assets such as Time Warner

Cable incorporation are not regulated by the business. The research study outlined further that

Warner operates in 16 different fully owned subsidiaries that have played a vital role in

enhancing the value of the Company.

The research findings of (Kumar et al. 32) suggested that failure to involve shareholders

in business affairs affecting their stock within the Company might compromise the typical

operations of the business. The study outlined that Time Warner applies an effective system of

Pro rata share management system, whereby, the shareholders are entitled to both profits and

losses of the Company depending with the earning obtained by the Company. That has an

implication that the Company allocates such amounts based on a proportionate basis. Warner has

operated under the principle that participating strategic alliances would improve the overall

balance sheet of the Company.

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 According to the research study of (Fitzgerald 67), when company management demands

additional cash from shareholders in order to repay company liabilities is considered as an

ineffective mode of administering the Company. Moreover, such additional cash renders the

Company as a business that is administered in unethical mode. The research identified Warner as

a Company that demanded more capital from the shareholders in order to settle a $13.1 Billion

worth debts for the Company.

7. Process to Approach the Solutions

In order to rectify the problem originating from the Company management, resulting to

the demand of additional from the shareholders, the Company will have an obligation of

establishing various initiatives.

The Company should consider using strategic alliance as a way of raising the Capital

required to repay the debt obligations. When companies combine, they are capable of joining

resources such as financial resources. Financial resources of two companies tend to be relatively

extensive; as a consequence, the business is able to perform more obligations compared to when

the strategic alliance was not initiated. Warner could have opted to the solution of forming

strategic alliance in order to increase the volume of cash flows, that would later enable the

Company to cover the debt of 13.1 $billion.

Moreover, the Company should have obtained debt financing from the financial

institutions. Such financing would be facilitated by the fact that Warner enjoys massive

reputation as well as financial success; as a consequence, the banking sector would be willing to

offer credit facilities and enable the Company settle its long-term liabilities.

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 The Time Warner Shareholders could purchase additional shares at $90, such shares will

correspond to $90 per share decision, on the other end, they will have a decision to participate in

rights offerings as illustrated by the payoff matrix below.

Table 1. The payoff matrix of rights offerings and share decision.

Decision 60% Participation 80% Participation 100% Participation

Alternatives
Market Purchase $90 $90 $90
Rights Offering $63 $84 $105
Participation

Based on the matrix, the shareholders will adopt per share decision when the rights

offering price is $90 per share or lower at $60.

8. Findings

Time Warner Company made an ineffective decision of demanding for additional cash

from the shareholders in order to raise the capital required to meet obligations such as settling

debt.

The Company was associated with poor management and administration of resources that

caused the value for the shares to decrease.

The Company participated in business malpractices that defrauded the shareholders, such

acts include the fact that Company was imposing the underwriters fee without risking any of its

own capital contrary to the expected fair operation of the Company.

There are controversial questions designed to spur debate on the issues of capital market

efficiency and the convergence or divergence between shareholder and managerial interests.

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Paramount’s 1989 above-market offer for Time, Inc. is consistentwith the notion that the

prevailing market price for common stock is an accurate reflection of the discounted net present

value of future cash flows to the extent that such a merger promised significant synergistic

benefits. As a separate entity, the stock market estimated the discounted net present value of

Time, Inc. at $125 per share. It is possible that advantages from combining Paramount and Time

might have led to such an improvement in cash flows that a $200 versus $125 market price per

share could be justified.

However, subsequent events may call this interpretation intoquestion. Paramount and

Warner have many similarities, and Time Warner’s failure to generate such synergies makes the

magnitude of such benefits questionable. Still, one might argue that Paramount management

might have better managed the combined company than the Time Warner management team. On

the other hand, if the 1989 offer of $200 per share was above the fair value of Time, Inc., then

perhaps hubris on the part of Paramount management is to blame. In light of Time Warner’s

subsequent performance, the fact that such anattractive Paramount offer was turned down by

Time management suggests that they neglected to fully consider shareholder interests

9. The Analysis and Interpretation of Findings

The decision of informing the shareholders to increase their shares at Time Warner

incorporation was aimed at making the shareholders to encounter the compelling feeling that

would later enable them to exercise their rights that would later make certain that they obtain

cheap stock in the market, while the existing stock will not be diluted. The Company adopted the

strategy due to the belief that such capital raising technique is a common strategy in Britain.

Based on assessment, the Company administration had hidden reasons of using the strategy,

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given that there a requirement to raise operating capital for Warner that would be used to finance

debt.

The evaluation revealed that Warner did not consider engaging in strategic alliances due

to the anticipation that the Company would consider operations that will be effective in raising

massive capital for the business. In addition, the management targeted an instant deal that would

bring more capital, other than waiting for the strategic alliances that might offer returns after

several years. Based on the desire, the Company’s administration preferred that setting

requirements for shareholders to add the volume of their shares could be an effective deal to the

Company. Based on response from shareholders, the Company was ineffective in the manner on

which it adopted and implemented the decision.

Taking the payoff matrix (table 1) into consideration, a secure strategy guarantees the

best possible outcome given the worst possible scenario. In this case, the worst possible scenario

for current shareholders would occur if they chose to participate and all other shareholders also

decided to participate in the rights offering. In that case, everybody would pay$105 per share. To

avoid that outcome, the secure strategy for current shareholders is not to participate in the rights

offering, and to instead buy additional shares in the market place for $90. Because the best

possible outcome cannot be assured without knowledge of the actions of other participating

shareholders, there is no dominant strategy in this case.

The defrauding of shareholders is evident due to the use of capital intended for business

growth in meeting the debt faced by the Company. The directors of the Company failed to

operate in alignment with the expected best interest of the Company. As a consequence, the

overwhelmingly negative reaction from the Company’s stakeholders was evident.

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 The price of Time Warner common stock fell subsequent to the announcement of the

company’s controversial rights offering for a number of reasons. The uncertain nature of the

contingent rights offering increases the risk of Time Warner stock and, absent any offsetting

increase in cash flows, thereby reduces the risk-adjusted net present value of future cash

flows. Thus, the contingent nature of the rights offering has the predictable effect of reducing the

market price of Time Warner stock. The simple fact that the company wanted to sell additional

common stock at a market price of $105 per share also seems to suggest that management views

this price as “high,” and indicates some lack of confidence in the company’s future

prospects. And finally, the cohesive nature of the offering might drive down the price of the

company’s stock because it suggests an adversarial rather than cooperative relationship between

management and stockholders.

Interestingly, in light of the controversy caused by its contingent rights offering, Time

Warner decided to withdraw the offer a few weeks after it had been announced. In

its place, the company decided to offer current shareholders the right to purchase up to34.45

million new shares at a fixed price of $80 per share. The company’s investment Advisors

(Merrill Lynch and Time Warner’s seven other key advisers) reduced their commission of the

amount raised and agreed to purchase any free shares.

The initial contingent rights offering was a bad idea. Both large and small investors

announced the company’s change in the offering as a victory for shareholders.

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10. Conclusion

The mismanagement and failure to adopt effective expansion strategies made the

Company unable to achieve the unanticipated growth. Such scenario had negative impact on

shareholders of the Company. The strategic expansion of a Company should be executed in a

manner that will not compromise the overall objectives of the business on both short-run and

long-run basis. Failure to strategize made Warner to trade at a point lower than $125, for

clarification, the Company traded for $66 in 1990.

11. References

 Spigel, Jeffrey S., et al. "Additional Lessons From AT&T/Time Warner: Self-Help

Remedies in Merger Challenges." (2019): 34

 Carlton, D. W., Israel, M. A., &Shampine, A. (2019). Lessons from AT&T/Time Warner;

2-7.

 Kumar, B. Rajesh. "American Online: Time Warner Merger and Other Restructuring."

Wealth Creation in the World’s Largest Mergers and Acquisitions. Springer, Cham,

2019. 31-43.

 Fitzgerald, Scott. "Time Warner." Global media giants. Routledge, 2016. 65-85.

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