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Here’s One Way to Play the Discovery/Warner Media Merger

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Every summer, the Discovery channel features a week of shark programming.

Courtesy of Discovery

Buyers of

Discovery’s

richly priced class B shares don’t seem to have gotten the message that their shares will be converted into stock that will likely have a much lower value as part of the company’s planned combination with WarnerMedia next year.

 The thinly traded shares (ticker: DISCB) that are 95% owned by media mogul and Discovery board member
John Malone
traded Tuesday at $68.88, down $1.02. That is more than double the price of the nonvoting

Discovery

(DISCK), which are at $30.12, up 7 cents, The

Discovery,

which have one vote, are down 11 cents, at $32. The supervoting class B shares have 10 votes each.

Under the terms of the Discovery/Warner Media merger, all three classes of Discovery stock will be converted into new class A stock, with one vote per share.

AT&T

shareholders will also receive the new class A stock for 71% of the combined company. The new company will be called Warner Bros. Discovery.

Chris Marangi,
co-chief investment officer for value at Gamco Investors, says it is a mystery why the class B stock continues to trade at such a lofty price. He thinks the new class A shares of Discovery may trade somewhere between the current nonvoting stock and the class A shares.

That suggests that investors who like the prospects for the deal should consider the Discovery nonvoting “K” shares (so-called because of the K at the end of their ticker symbol) that trade at about a $2 discount the A shares. It also suggests a lot of downside in the B shares.

The deal is due to close in mid 2022, which means it could take some time for the B shares to close the gap relative to the A and K shares.

“Many dynamics (liquidity, borrow, index inclusion) influence the relative prices,” of the A and K shares, Marangi wrote in an email to Barron’s. “Something in the middle probably best reflects the market’s expectation of where Newco should trade.” Newco refers to the combined Warner Bros. Discovery. 

Malone agreed to receive no premium as part of the Discovery/Warner Media combination, a deal he is championing, after AT&T insisted on a one-share, one vote structure for the new company.

Discovery is one of several companies in Malone’s Liberty empire that he controls—or exercises considerable influence. He owns very thinly traded class B stock in the three tracking stocks for Liberty Media. They are

Liberty Braves

(BATRB),

Formula One

(FWONB), and

Liberty SiriusXM

(LSXMB).

Malone holds about 6.2 million of the Discovery B shares, leaving a public float of little more than 300,000 shares. Volume lately has averaged about 5,000 shares a day, down from an average of 13,000 during the past year. The B shares represent just about 1% of the total amount of Discovery stock outstanding.

The B shares have been volatile, hitting a high of $150 in late March when all classes of Discovery stock rocketed higher on buying by Archegos Capital Management. Given the tiny float, there could be more wild trading in the B shares before the deal closes.

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