AT&T Concealed Severity of WarnerMedia's Financial Woes, Alleges Shareholder Suit

AT&T misled Discovery by “materially overstating WarnerMedia’s financial performance and misrepresenting and concealing the severity of WarnerMedia’s financial and business difficulties,” alleged a securities fraud suit Wednesday (docket 1:24-cv-00420) in U.S. District Court for Delaware in Wilmington. The suit names AT&T, CEO John Stankey and Warner Bros. Discovery as defendants.

Davant Scarborough owned Discovery common stock before AT&T’s spin-off of WarnerMedia in a $43 billion transaction to combine its media properties with Discovery to create the stand-alone Warner Bros. Discovery (WBD) media and entertainment company in April 2022. A Suffolk County, Massachusetts, resident, Scarborough owned Discovery stock until April 11, 2022, when Nasdaq suspended trading it; he received WBD stock in exchange.

The complaint cited media reports that AT&T "knowingly omitted" approximately $350 million in startup costs for WarnerMedia’s streaming news service, CNN+, from the projections and budgets it provided to Discovery. Jeff Zucker, CNN president at the time, "raised alarms” that the costs needed to be disclosed, but AT&T has since acknowledged that it “withheld this information from Discovery,” the complaint said.

AT&T also misled Discovery by omitting that WarnerMedia had “largely halted” the external content sales critical to its revenue generation, the complaint said, giving the example of Warner’s selling the sitcom Friends that it created to NBC, where it aired for many years. Unknown to Discovery, in the lead-up to the sale, WarnerMedia “largely stopped such external content sales in favor of hoarding shows” for its own streaming service, HBO Max, “throwing off the financial projections for WarnerMedia that AT&T provided to Discovery and rendering AT&T’s representations to Discovery misleading,” it said.

Discovery issued an amended S-4 and proxy statement for the transaction on Feb. 4, 2022, that included “the false and misleading financial statements and projections for WarnerMedia that AT&T had provided to Discovery,” the complaint said. On March 28, 2022, AT&T filed an information statement that also included the false and misleading information, it said. Discovery stockholders on March 11, 2022, approved the transaction “pursuant to the misleading Proxy,” the complaint said, and the deal closed the next month on April 8.

The previously undisclosed decision to “largely cease licensing” WarnerMedia content to third-party distributors before the deal closed “was highly significant” because Warner’s content-licensing revenues constituted about 38% of WarnerMedia’s total revenues in 2021, the complaint said. Since the deal closed, WBD has publicly acknowledged that the WarnerMedia projections AT&T provided ahead of the acquisition were “vastly overstated,” the complaint said.

On its Aug. 4, 2022, earnings call, WBD disclosed that since having an opportunity to “fully assess legacy WarnerMedia’s financials post closing,” WBD “determined that certain legacy WarnerMedia budget projections that were made available to us prior to closing, varied from what we now view as legacy WarnerMedia’s budget baseline post closing," said the complaint. That resulted in “significantly lower earnings projections.” The day after the disclosures, WBD stock closed at $14.59 per share, a drop from $17.48, it said.

A research analyst said that the announcement indicated Discovery “overpaid significantly for the acquired [WarnerMedia] assets,” and others noted that AT&T was the one party that benefited from the deal because it was able to “unwind its disastrous acquisition of the WarnerMedia assets,” the complaint said.

The transaction stemmed from AT&T’s “failed” $85 billion acquisition of Time Warner in 2018, said the complaint, citing a Fortune article calling the deal “one of the greatest corporate strategy blunders of recent decades” that cost it “tens of billions of dollars at a time of intense competition in its industry.”

The defendants’ wrongful conduct “directly and proximately caused the economic loss suffered by WBD,” the complaint said. If they hadn’t engaged in the wrongful conduct, the transaction wouldn’t have been agreed on, approved by stockholders or closed on the same terms -- “or at all,” it said. As a result, WBD suffered economic loss, or damages, under the Exchange Act, said the complaint. Scarborough seeks damages and equitable relief in favor of WBD against the defendants jointly and severally, plus attorneys’ fees and costs.

In another case involving the transaction, the Ohio Public Employees Retirement System and the State Teachers Retirement System of Ohio alleged (docket 1:22-cv-08171)) that false and misleading statements about streaming subscriptions were in the offering materials that preceded Discovery’s transaction with WarnerMedia. U.S. District Judge Valerie Caproni for Southern New York ruled in February that the plaintiffs haven’t “adequately alleged any actionable statements or omissions” under sections 11 or 12(a)(2) of the Securities Act (see 2402060059).

The offering documents “accurately explained the methodology WarnerMedia and Discovery used for calculating the number of subscribers to their streaming platforms,” said her order. The lead plaintiff shareholders are appealing the Feb. 5 dismissal of their case to the 2nd U.S. Circuit Appeals Court (see 2403050003)