Fitch Ratings has affirmed the Long-Term Issuer Default Ratings (IDRs) of Warner Bros. Discovery, Inc. (WBD), Discovery Communications, LLC (Discovery), WarnerMedia Holdings, Inc. (WMH), Warner Media, LLC (WM), and Discovery Communications Benelux B.V. (DCB) at 'BBB-'.

Fitch has also affirmed Discovery's and WMH's 'BBB-' senior unsecured instrument ratings and WM's 'BB+' senior unsecured instrument ratings.

Fitch has also affirmed the Short-Term IDRs and commercial paper ratings of Discovery and DCB at 'F3'.

The IDRs are driven by WBD's elevated leverage, which offsets its position as the world's second largest media company. Although leverage remains outside Fitch's negative rating sensitivities it was only 0.5x outside Fitch's prior total leverage expectations for Dec. 31, 2023.

Key Rating Drivers

Operational Headwinds: The diversified media industry has faced significant macroeconomic and operating headwinds over the past four years culminating in a linear advertising recession from 2H22 into 4Q23 and the writer's and actor's strikes in 2023 which impacted content creation. The introduction of multiple competing digital content distribution platforms accelerated viewership fragmentation and provided a further drag on linear advertising. In addition, Discovery's debt-funded merger with AT&T's WarnerMedia assets closed in April 2022, just as the ad recession began to take hold.

Merger Synergy Benefits: WBD has fully realized its adjusted merger-related expense synergies of $4 billion, exceeding Fitch's rating case expectations of $3.6 billion. The synergies were driven primarily by operating efficiency improvements and corporate function and technology benefits.

Debt Reduction: Fitch takes considerable comfort from WBD's significant debt reduction efforts following the merger's completion. Fitch-calculated debt, which includes the revolving receivables facility, has been reduced by $13.2 billion, or 21%, to $49.2 billion at Dec. 31, 2023 from $62.4 billion at the merger's closing. Fitch expects WBD to continue repaying sufficient debt to return to within Fitch's sensitivities and reach its net leverage target of 2.5x to 3.0x during 2026.

Heightened Leverage: Despite the company's debt reduction efforts, Fitch-calculated leverage (5.0x at Dec. 31, 2023 excluding annualized cost savings) remained outside Fitch's negative sensitivities due to the ongoing industry-wide macroeconomic and operating headwinds. However, it was down from a peak of almost 6.0x at closing and behind Fitch's Dec. 31, 2023 expectations of 4.5x. Fitch expects leverage to decline below 4.0x over the next 18 months due to the expected linear advertising recovery in 2024, continued profitability improvements in its direct-to-consumer (DTC) segment, and additional debt repayments.

Advertising Recession: Although digital advertising has recovered, linear weakness continued into 4Q23 as Fitch expected. Fitch expects linear media, including cable networks, to recover slowly, although they will become increasingly hyper-cyclical and continue losing share to digital. The next 18 months will be critical to determine if WBD's operating models have been overly compromised by this shift, as Fitch expects only a portion of digital growth will be captured by WBD's DTC offerings.

Linear Network Secular Threats: Fitch's ratings recognize the threats to WBD's linear cable networks as multichannel video programming distributors (MVPD) subscribers are expected to continue their long-term secular decline. While acknowledging the relative strength of WBD's networks, Fitch expects cash flow generation and margins will remain under long-term pressure. However, over at least the near term these networks are expected to continue to benefit from their dual-stream revenue profile and FCF generation characteristics.

DTC Offerings: DTC is a critical components of content aggregators' long-term viability as MVPDs continue shedding subscribers. Fitch views scale and content investment as prerequisites for DTC success in general and several competitors are part of larger, better capitalized diversified conglomerates. With that said, the growth prospects of DTC services could be hindered by viewers' willingness and ability to subscribe to multiple services especially given the expected continuation of rate increases.

In FY23, WBD became the second DTC provider to reach profitability after Netflix, Inc. due to its focus on maximizing both revenue and subscriber growth while simultaneously managing operating and content costs. WBD generated $103 million of DTC EBITDA in FY23, a $2.2 billion improvement over FY22 and well ahead of Fitch's $670 million loss expectation. Management initially expected its U.S. offerings to break even by 2024 and continues to expect its global offerings to generate approximately $1 billion of EBITDA by 2025.

Strong Asset Portfolio: WBD's brands include Discovery, Food Channel, HGTV, TLC, Animal Planet, HBO, CNN, TNT, TBS, Cartoon Network, Warner Brothers Studios and DTC offerings Max and discovery+. Its IP includes DC Comics, Harry Potter, Game of Thrones, Lord of the Rings and Friends, and it has a broad offering of news and sports content and more than 200,000 library content hours.

Strong Market Position: WBD is the world's largest pay-TV company, second-largest global media company, and second-largest U.S. television company in terms of aggregate share and reach across linear and digital platforms. Its suite of U.S. networks delivers almost 30% of all ad-supported linear U.S. aggregate television and nearly 25% of female viewers, with the top four female-skewing U.S. cable networks.

Parent-Subsidiary Relationship: Fitch links and equalizes the IDRs of WBD, Discovery and WMH under the strong subsidiary/weak parent approach and the IDRs of WMH and WM under the strong parent/weak subsidiary approach.

Warner Media, LLC's Structural Subordination: WM is an indirect, wholly-owned subsidiary of WBD. Its $1.1 billion of legacy debt is notched down one from the IDR as it is structurally subordinated to all WMH and Discovery debt and is not guaranteed by WBD or any of its subsidiaries.

Derivation Summary

WBD's rating and outlook reflects its leading positions in scripted, reality-based, news, sports and documentary programming, positive EBITDA from its DTC segment, and significant debt repayment following Discovery's debt-funded merger with WarnerMedia in April 2022. However, despite being the second largest global media company, WBD lacks the size and diversification of The Walt Disney Company (A-/Stable) and NBC Universal Media LLC (A-/Stable) and has higher leverage than both.

WBD is larger than Paramount Global (Paramount; BBB-/Negative) and has lower leverage. Although Fitch expects both companies to have similar declining leverage trajectories over the next 18-24 months, we expect WBD to generate significantly more FCF and to repay additional debt, in line with management's expectations. Although both companies are facing similar concerns over linear advertising's recovery, our additional expectations that its DTC segment won't reach profitability until 2025 drove Paramount's Negative Outlook.

Key Assumptions

FY24 total revenues increase low single digits. Studios expected to grow by low single digits due to the overhang of the strike effects. Network's decline low single digits as slow linear advertising recovery is more than offset by continued MVPD subscriber declines. DTC has mid-single-digit growth as growth in ad-supported subscription tier drives digital advertising growth and improvement in average revenue per subscriber;

Thereafter, total revenues grow in the low single digits. Studios benefit from increased content production and distribution following delays in 2024 from the strikes. Networks see continued low single digit annual revenue declines due primarily to continued MVPD subscriber losses and linear advertising softness. DTC continues to grow driven by advertising and ARPU growth and new international market rollouts;

Margins remain roughly flat as ongoing DTC growth is offset by continued margin compression at the Networks and slight improvement in Studio margins;

Capex intensity declines to 2.5% as the company finishes its global digital platform buildout;

Fitch-calculated annual FCF remains approximately $5 billion over the rating horizon;

No M&A or share buybacks over the near term, in line with Discovery's behavior after the Scripps Network Interactive, Inc. (SNI) acquisition. Fitch expects share buybacks to resume in 2026 once the company reaches the upper end of its 2.5x-3.0x leverage target;

Near-term FCF geared toward debt repayment, driving leverage below Fitch's negative sensitivity of 3.5x in 2026.

RATING SENSITIVITIES

Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade

Fitch-calculated EBITDA leverage sustained below 3.0x;

--(CFO-Capex/debt) sustained above 20%.

Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade

Sustained operating underperformance amid ongoing competitive pressures;

Fitch-calculated EBITDA leverage not approaching 3.5x over the next 12 months-18 months;

--(CFO-Capex/debt) sustained below 12.5%.

Liquidity and Debt Structure

Adequate Liquidity: As of Dec. 31, 2023, WBD had cash of $3.8 billion and full availability under its $6 billion unsecured revolver maturing in June 2026, with two 364-day extensions. Discovery and WMH are co-borrowers. Fitch excludes the $1.5 billion CP program (full availability) given the overlap with revolver availability and the 'F3' Short-Term IDR. Discovery and DCB are co-issuers under the CP facility. Aggregate near-term maturities are $1.8 billion in 2024, $3.1 billion in 2025 and $2.3 billion in 2026.

WBD has redeemable equity balances with put/call rights of $165 million, $156 million of which is related to Hasbro Inc.'s 40% ownership interest in Discovery Family that has a put-call election period between Jan. 31, 2025 to March 31, 2025.

Despite leverage being outside sensitivities at the merger's closing, WBD reiterated its desire to remain investment grade after the merger and tightened its leverage target to 2.5x-3.0x from the prior 3.0x-3.5x. To insure adequate liquidity to allow WBD to reach that, it temporarily paused share buybacks and continue to redirect FCF to debt repayment, which is in line with the company's efforts to quickly delever after acquiring SNI in 2018.

Issuer Profile

WBD, formed with the April 2022 merger of WarnerMedia and Discovery, Inc., is the second largest global media company offering significant scale of scripted and unscripted content across a broad range of internal and external distribution platforms.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG Considerations

The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.

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