Why the smartest move for Netflix and Paramount is to let the other guy win Warner Bros.

By Mark Hulbert

History shows the 'loser' in high-stakes bidding wars usually gets the last laugh - and the better stock performance

Acquisitions, it's been said, are "the most value-destructive action a company can take."

Paramount Skydance's (PSKY) shareholders should hope the company's sweetened bid to acquire Warner Bros. Discovery (WBD) (WBD) is rejected - and Netflix succeeds.

Meanwhile, Netflix (NFLX) shareholders should hope its takeover bid for WBD is rejected - and Paramount wins.

The reason? Most mergers and acquisitions don't work out. One comprehensive analysis of over 40,000 mergers and acquisitions over four decades found that between 70% and 75% of them failed. Another study put the failure rate at 83%.

This high failure rate is frequently overlooked because it's hidden. A failed M&A is when, several years postacquisition, the combined wealth of the acquiring company and the target company is lower than it would have been had the two companies remained separate. This calculation involves counterfactuals and assumptions, so it isn't obvious.

Nevertheless, the overwhelming consensus among academic researchers is that acquisitions are a bad idea. Aswath Damodaran, a professor of finance at New York University, summarized the consensus several years ago, saying that acquisitions are "the most value-destructive action a company can take."

Executives at Netflix and Paramount Skydance believe they can beat these dismal historical odds. But that is unlikely, according to Feng Gu, a professor of accounting and law at the University at Buffalo School of Management, and Baruch Lev, a professor of accounting and finance at New York University.

Gu and Lev co-authored the 2024 book "The M&A Failure Trap," which is based on an analysis of 40,000 acquisitions between 1980 and 2022. In addition to finding that between 70% and 75% of those deals were failures, the professors identified certain factors that increased or decreased those odds.

On balance, these factors suggest that failure is the far more likely outcome - regardless of which bidder acquires WBD.

Netflix and Paramount are each projecting that they will take on more than $50 billion in long-term debt if their bids are successful.

One of the most important factors affecting success, Gu said in an interview, is deal size: Larger deals are less likely to succeed. That speaks poorly of a possible WBD acquisition, since, at an estimated $80 billion, it would be one of the largest involving two entertainment companies. Given the "humongous" size of the proposed deal," it will be a "major challenge for the acquirer to get value out of it," Gu said.

Another factor affecting the odds of acquisition success is how much debt is used to finance the deal. This factor also works against the ultimate success of a WBD acquisition, since both Netflix and Paramount are projecting that they will take on more than $50 billion in long-term debt if their bids are successful. This amount of debt decreases the odds of success, Gu said, since while "success of acquisition is uncertain, debt service is certain."

Gu hedged that not all factors work against the success of a WBD acquisition. One positive is that it would be a so-called horizontal acquisition: a combination of two companies within the same industry. That's relevant because acquisitions of companies in separate industries have especially poor odds of success - a phenomenon known as the "diversification discount."

Netting the positive and negative factors, Gu said that his and Lev's research implies extremely poor odds that a WBD acquisition would be successful - worse even than the historical average. And as the bidding war continues and the deal size keeps growing, those odds get even worse.

This perverse consequence of a bidding war is often referred to as the "winner's curse." This phenomenon was documented by a study entitled "Winning by Losing: Evidence on the Long-Run Effects of Mergers." The researchers here focused in particular on acquisitions that were the result of close bidding contests - similar to the Netflix and Paramount battle.

The researchers found a significant contrast in the relative performances before and after the acquisition of the contest's winner and loser. Before the acquisition, the winners and losers performed similarly, on average. But after the acquisition, the two diverged significantly, with the stocks of the winning companies underperforming those of the losing companies by 24% over the subsequent three years.

"Whoever wins this bidding war [for Warner Bros.] will have a poisoned chalice."

In this regard, the chart above is relevant. Netflix and Paramount stocks have risen and fallen in tandem over the last two years.

The bottom line is well summarized by what Damodaran wrote in an email: "Whoever wins this bidding war [for Warner Bros.] will have a poisoned chalice. The entertainment business is broken." He added: "Spending tens of billions up front for WBD provides no real benefits other than consolidation, and ending up with a larger market share of a broken business does not qualify as winning."

Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com

More: Paramount looks to put itself in the driver's seat on Warner Bros. deal with increased bid

Also read: Big Warner Bros. shareholders are losing patience with the Paramount-Netflix bidding war

-Mark Hulbert

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02-24-26 0927ET