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Here’s why AT&T decided to buy Time Warner, according to CEO Randall Stephenson

Think Netflix.

AT&T CEO Randall Stephenson Asa Mathat

AT&T is close to nailing down its deal to buy Time Warner, a massive content company that owns HBO, CNN and the “Harry Potter” film franchise.

But I’ve wondered about the merits of the deal. Since Time Warner content still has to be made available to competing distributors — whether Verizon or Comcast or Amazon or Netflix — AT&T doesn’t get an advantage by owning HBO or Warner Brothers or rights to NCAA games on Turner.

Recode Executive Editor Peter Kafka gamely asked AT&T CEO Randall Stephenson why it makes sense for his company to spend $85 billion to own Time Warner when it could simply license that same content. His answer came down to Netflix.

“A key variable is the direct relationship with the customer, and a lot of the media companies don’t have that direct relationship with the customer,” Stephenson explained onstage at the Code Conference in Rancho Palos Verdes, Calif.

Netflix is one of the few standouts with that direct relationship, some 125 million by last count, he said. Stephenson cited Amazon as another and mentioned that Disney CEO Bob Iger’s bid to buy most of Fox is also about building a business that will allow it to ultimately circumvent distributors.

“Bob Iger clearly has big ambitions to establish that direct relationship with the customer,” he said. It’s about being “vertically integrated.”

Separately, he praised Iger on his quick canceling of the renewed ABC series “Roseanne” after the star posted a racist tweet about Valerie Jarrett, senior adviser to President Obama.

“You have to admire how he did that,” Stephenson said. “I can’t imagine how you would not.”

The larger issues facing media companies today lie closer to Silicon Valley, he said.

“How do you feel about going toe to toe with Silicon Valley?” he asked, citing the companies that make up the famed FANG index of stocks: Facebook, Apple, Netflix and Google.

“If you don’t have vertical integration, you’re going to have a hard time competing with these guys,” he said. “That’s what this is about. Building the ability to compete.”

Stephenson envisions the higher profit he can extract by marrying Time Warner’s content with AT&T’s data to sell targeted advertising.

“Think about what’s coming together here. Turner has an amazing inventory of advertising that they kind of sell broadly; it’s not a very targeted advertising approach.”

AT&T’s 130 million mobile subscribers give it “great customer insight,” he said. “Can you pair a very formidable ad inventory with data and can you create something unique and change how you’re monetizing content?”

It’s traditional TV’s way of capitalizing on the very ads that Facebook ad Google have been selling for years.

Stephenson also imagines how the combined company can create new forms of content, especially for mobile devices. That all squares with what AT&T said a few years ago when it announced the deal, but it’s worth noting the company’s consistency in the rationale for the deal.

That’s also part of the reason why AT&T bought DirecTV in 2015, but the company “was not in love with the satellite business,” Stephenson said. “What we loved was the ability to innovate.”

He cited the rapid development of DirecTV’s over-the-top service, DirecTV Now, which replicates a skinny bundle of live TV channels delivered over the internet. It now has 1.5 million subscribers, “and it’s still growing,” he said.

Still, that customer group isn’t profitable, he said. Over time, as that service adds new features such as DVR, you can charge more and make money.

The steep decline in DirecTV’s traditional satellite business was still surprising to Stephenson. “It was a step change,” he said, as people cut the cord much faster than AT&T had anticipated.

“We know where that traffic went. ... It’s millennials,” he said.

As for the Time Warner merger, Stephenson is still awaiting approval. The Justice Department sued the company to block the deal, calling it anti-competitive. The judge plans to issue a ruling by June 12.

Experts anticipate a win for AT&T, with some conditions attached. But what’s plan B if they don’t get a favorable ruling?

“I don’t want to go there,” he said. “Right now we’re just focused on winning this thing.”

Stephenson also sounded off on AT&T paying Trump’s personal attorney Michael Cohen for insights into the new administration. Cohen is under investigation by Robert Mueller, the special prosecutor in charge of the probe into possible collusion between the Trump campaign and the Russian government.

“It was a bad decision,” he said. “It was a bad mistake. I don’t know how else to say it.”

You can watch the full Code Conference interview here:

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