The attractiveness test: structural attractiveness

Disney wanted to grow its entertainment business, and be the #1 entertainment company. ABC had been the top rated network and built a global media network channel. Acquiring ABC would give Disney access to viewers around the world. At the time of the merger, Disneys business portfolio consisted mostly of cash cows: studios, theme park, consumer products. Disney had significant market share and revenues, but the markets served were experiencing low growth rates, with the exception of internet content which Disney had a very small market share. The media network business was, at that time, still a high growth business with a growth rate of 20.6% (calculated from ABCs revenue 5 years following the merger), and ABC at that time was the market leader in that segment which would make it a star in the BCG matrix. Given Eisners goal of achieving return on stockholder equity of more than 20%, ABC offered high growth rate which fitted very well into Eisners plan.

The cost-of entry test: cost of entry should not capitalize all the future profits

Disney bought ABC for $19 billion, which was the second largest acquisition in the US history. The acquisition made Disney the largest entertainment company in the US. The merger involved each Capital Cities shareholder receiving one share of Disney stock in addition to $65 cash represented a 27% premium over the market price of Capital Cities stock. This deal led to additional debt of $9 billion for Disney which reduced the companys excess cash flows. The deal transformed Disney from a company with 20% debt ratio to one with a 34% debt ratio ($12.5 billion) after the takeover. Therefore, the cost of entry was high as Disney was paying a premium of 27% over the market value of Capital Cities, and to sustain the current level of ROI the profits of ABC should grow by that margin.

But there was a decline in the profits after the merger occurred because the company wasted considerable amount of time in fully integrating ABC with Disney, which resulted in high levels of inefficiency.

The better-off test: competitive advantage from its link with the corporation
ABCs acquisition complemented Disneys corporate strategy of vertical integration, giving more control over the value chain. Instead of relying on partnerships and agreements with various distribution networks; Disney would own distribution network for complete control over its contents, as well as consolidated resources and reduced cost of operations. The acquisition also added to Disneys horizontal integration as a content provider. ABC had rights to content media different from Disneys traditional studio business. One such content category was sports, namely the ESPN sports channel, which was the most profitable sports channel at that time, as well as content targeted towards the adult audience. This would also enable cross-promotion between Disneys content and ABCs content. Overall, the increased vertical and horizontal integration would open up possibilities for synergy, which Michael Eisner had made a focal point of his management team. There were several well-intentioned strategic reasons why the merger made sense both to ABC and Disney, and they were aligned with Disneys corporate strategies of fostering synergy, encouraging creativity, controlling quality and improving financial performance.