A couple of days ago, on July 7th, news broke that Paramount Global (NASDAQ:PARA) (NASDAQ:PARAA) will finally sell itself to a consortium of investors, ending months of speculation regarding the future of the beleaguered entertainment business. Interestingly, shares of the company, specifically the Class B units, are still trading quite a bit below the buyout price. This is in spite of the fact that, according to the data provided by its acquirer, shares are attractively priced at this time. While I don't have any real hope of meaningful upside for investors in the Class A units, I do think that buying into the Class B units could make sense at this time.

An interesting transaction

Back in early May of this year, I talked in some detail in an article about the prospect of Paramount Global selling itself to some acquirer. Over the past several months, there have been multiple parties interested in the company. This interest, combined with what I believed to be a fairly high probability of a deal being made, resulted in my conclusion that downside for investors would likely be limited. This was aided by the fact that the company continues to see attractive growth on the streaming side of the equation and that shares were attractively priced at that time.

Fast forward to today, just over two months after the publication of that article, and we now have some resolution. The transaction ultimately agreed upon is rather complicated. In fact, it involves not only the two different classes of stock of the company, but also another acquisition. According to the press release issued by Paramount Global, Skydance Investor Group, which is comprised of the Ellison Family and RedBird Capital Partners, will allocate $2.4 billion to acquire National Amusements on a debt free and cash free basis. On an equity value basis, the total deal will be about $1.75 billion.

At that point, Skydance Investor Group will then merge with Paramount Global at a $4.75 billion equity value, or $4.76 billion on an enterprise value basis. The end result will be a new company, currently being referred to as New Paramount. Current shareholders of Skydance Investor Group will end up with 317 million newly issued Class B shares of Paramount Global stock valued at $15 apiece. This is the same price that shareholders of the Class B shares will receive for their units. All shareholders of Class B units will have the right to get cash for their shares. But there is a cap on the total amount paid of $4.3 billion.

At this time, there are 625.8 million Class B shares outstanding. This implies about $9.4 billion worth of consideration. This excludes about 40 million units in mandatorily convertible shares, stock options, and RSUs that need to be factored into the mix. Anything above the $4.3 billion will result in shares, on a prorated basis, of New Paramount on a one-for-one basis. The holders of the Class A units, meanwhile, will get $23 per share in cash, or they can elect to swap those in exchange for 1.53 Class B units in New Paramount for each share that they currently own. Most of the Class A units, however, will be retained by Skydance Investor Group since those shares, nearly 78% of all outstanding, are currently owned by the same National Amusements that the business is acquiring.

Assuming that the maximum amount of cash is paid out, the total equity value of the company, based on the buyout prices discussed, should be about $17 billion. On an enterprise value basis, the price of New Paramount will be even larger at $28.1 billion. Using the baseline assumptions, current Class B shareholders of the company, excluding National Amusements, will own about 30% of the new company. The other 70% will be owned by Skydance Investor Group. It is worth noting that, depending on how much cash is elected from investors and how much stock is ultimately issued, Skydance Investor Group could use any excess proceeds in order to pay down debt and to recapitalize the company's balance sheet and order to better focus on strategic initiatives moving forward.

Conceptually, this transaction does make a lot of sense. For those not familiar with Skydance, the company operates as a full-service independent film and TV studio that creates much of its own content. It has also been, with Paramount Global, a co-owner of major franchises such as Top Gun, Jack Ryan, Reacher, Mission: Impossible, Star Trek, and Transformers. By partnering up with other companies such as Netflix (NFLX) and Apple (AAPL), Skydance has developed a track record of distributing popular content across platforms.

It also boasts other assets as well. As an example, Skydance Animation is an animation studio that consists of over 800 in-house artists that is scaling a partnership with Netflix that was seen the company launch two films per year, starting in 2026, on that streaming platform. Skydance Sports, which was launched in 2022, focuses on sports content across platforms. In fact, the NFL even selected Skydance Sports as its exclusive partner for NFL content outside of live games. Meanwhile, Skydance Games is the company's gaming division. One example of its success can be seen by the launch of The Walking Dead Saints & Sinners, which has sold over 3 million units using Facebook parent Meta Platforms (META) as a medium.

The goal here is to combine this ecosystem of content creation with the ecosystem that Paramount Global has in order to create additional value as time goes on. This could involve some changes, including when it comes to Paramount Global’s direct to consumer platform. Add on top of this exciting new opportunities like those involving generative AI, and management believes that the combined company will achieve $2 billion in annual run rate synergies. About 50% of these savings will be incurred in the first full year of the merger. Of course, this won't come without a cost. Management anticipates total restructuring and integration costs in order to achieve these savings of about $1.6 billion.

In the images above, you can see projections that Paramount Global revealed for the combined company, starting in the 2025 fiscal year, and extending through 2027. The expectation is for the combined firm to see modest revenue growth but meaningful improvements in operational EBITDA. If this comes to fruition, overall net leverage should drop from about 4.3 (for Paramount Global as a standalone business) to 2.4 by the end of 2027. This reduction in leverage will be made not only as a result of the improvement in profitability. It will also be because management will use that profitability in order to reduce net debt by around $1.5 billion by the end of 2027. In the image below, meanwhile, you can see what this means from a valuation perspective for the combined business. This assumes, of course, that synergies are ultimately realized. I am always hesitant to assume that will be the case. But if this does come to fruition, the stock will go from a trading multiple of 8.2 next year to 6.8 the year after. That's based on pricing for the transaction as it stands today.

Takeaway

What we have on our hands is a very interesting but complicated situation. This is not a simple buyout. There will be a new publicly traded company that current investors will own a piece of if they end up with some stock instead of cash. At this time, the spread between the price at which shares of Paramount Global’s Class A units are going for, and the buyout price implies upside of only 8.8%. For a transaction that is not expected to close until September of next year, that's not all that impressive. About the spread for the Class B units is a robust 30.1%.

This disparity is almost certainly because of the fact that a good portion of this deal will be in the form of units in the new company as opposed to cash outright. And with concerns over the overall health of Paramount Global, and risks involving this transaction such as integration, it makes sense for there to be some discount on these shares. Even so, the extent of the discount seems too large to be sensible. We also need to keep in mind that there is some small probability that an alternative deal could be made for Paramount Global. As part of the arrangement, the company has a 45 day go-shop period whereby management can actively solicit and evaluate alternative acquisition proposals. I don't think investors should bank on this happening. But it could serve as a catalyst for additional upside. Given the situation as it stands today, I think that rating the Class A units a ‘hold’ makes sense. Meanwhile, the Class B units deserve a ‘buy’ in my book.