With a surprise $85 billion bid for Time Warner, AT&T CEO Randall Stephenson is betting big on the future of mobile video. The marriage would pair Time Warner’s award-winning content, ranging from HBO’s “Game of Thrones” to Warner Bros. movies and CNN, with a national communications network run by the second largest U.S. wireless carrier. As more people move away from their TVs to watch content wirelessly on smartphones and tablets, AT&T believes it needs to be in the forefront of this trend. “The future of video is mobile, and the future of mobile is video,” Stephenson said in a corporate video announcing the acquisition.

But Wall Street is skeptical about the transaction. Shares of both companies fell on October 24, the first trading day after the deal was announced. And while AT&T has pledged to pay Time Warner shareholders $107.50 per share in cash and stock, Time Warner shares still hover below $90 — meaning that its stock is not as popular as would be expected in the face of a big payout.

There are many reasons why investors would be hesitant to bless this transaction. AT&T is paying what Moody’s Investors Service deemed as a “full” price for Time Warner — while it’s still fresh from the $49 billion purchase of DirecTV and its Latin American business to become the biggest pay TV provider in the world. The acquisition would balloon AT&T’s already hefty debt load to more than $170 billion, the credit ratings agency said.

Moody’s, which put AT&T’s senior unsecured rating on review for possible downgrade, also sees the move as a defensive strategy for the company amid stalling wireless growth and intense competition. As for Time Warner, the deal comes at a time of pressured ratings at cable networks as people migrate to Netflix and other “over-the-top” content services providers.

Moreover, regulatory approval could be tough with both the Republican presidential and Democratic vice president nominees opposing the transaction and congressional committees calling for hearings. While the deal is seen as similar to Comcast’s approved purchase of NBCUniversal, Comcast’s later bid for Time Warner Cable (spun off by Time Warner in 2009) was shot down even if their service areas don’t overlap. And even if the AT&T deal does pass, Moody’s says regulators will ban their ability use premium content as an advantage over competitors on antitrust grounds.

Stephenson and Time Warner CEO Jeff Bewkes, meanwhile, continue to point out the deal’s merits. In the corporate video, they said their companies will be well-positioned to provide content to mobile viewers. “The media and communications industries are converging. And when it comes down to it, premium content always wins. It’s been true on the big screen, the TV screen and now it’s proving to be true on the mobile screen,” Stephenson said. The deal “creates a unique company that will lead the next wave of innovation and how people enjoy video entertainment.” Bewkes added that AT&T “dramatically accelerates our ability to deliver … our leading brands and premium content to consumers across all platforms and devices.”

But how will they do it? “I’m skeptical there is real synergy here,” says Kevin Werbach, Wharton professor of legal studies and business ethics who has advised the Federal Communications Commission on broadband issues. “It’s hard to see what the big value proposition of AT&T and Time Warner is here if it’s not somehow to extract more out of this bundle and effectively lessen competition.” But that’s something regulators will seek to ban.

Why AT&T Wants Time Warner

So why make the move now? “AT&T feels like it has to do something because its fundamental business of connectivity for broadband and wireless is going to be challenged over the long haul,” Werbach says. Indeed, Verizon is pursuing a similar strategy with its own content acquisitions — AOL and Yahoo — as it faces similar competitive pressures from Sprint and T-Mobile as well as cable and satellite TV operators and online TV services.

“It’s hard to see what the big value proposition of AT&T and Time Warner is here if it’s not somehow to extract more out of this bundle and effectively lessen competition.”–Kevin Werbach

“The companies are in a similar position. They have a wireline telephone business that’s going away. They have a wireline broadband business that’s losing out to cable even with a higher-speed fiber-based offering. They have a wireless business that is peaking in terms of the potential for subscribers and revenue growth,” Werbach says. Moreover, cable companies’ ventures into mobile phones that hop between Wi-Fi and cellular could be “very devastating to their economics.”

AT&T’s third-quarter results already show declining trends in its core business: The number of net new U.S. wireless subscribers fell by 39%; subscribers of U-verse, AT&T’s pay TV service, declined by 23% and broadband also lost customers. Its DSL and landline phone services continue to lose subscribers in spades.

But while the telecom side was languishing, AT&T’s DirecTV unit did well, with satellite subscribers up by 6%. AT&T’s Mexican unit also was a highlight, with wireless subscriber rolls up 32%. With assist from DirecTV and Mexico, AT&T’s posted a 4.6% revenue gain to $40.9 billion in the quarter, with net income up 11.2%.

Adding Time Warner would further strengthen AT&T’s overall business. Indeed, both companies said the deal would add to AT&T’s adjusted earnings the first year after it closes, projected to be the end of 2017. It should also give AT&T more financial power to become better able pay out its historically high dividends.

The deal would improve revenue and earnings, diversify revenue sources at AT&T and lower capital intensity since the additional revenue brought in by Time Warner ($29 billion projected for 2016) would not require much in additional capital spending. Analysts are forecasting that AT&T, which has 133 million wireless subscribers, would post $164 billion in 2016 revenue.

But buying a company to shore up a business under fire is not a convincing growth strategy. Instead, AT&T has to come up with a “compelling story about why the combined company will deliver better products and services — and that means why it’s beneficial for consumers,” Werbach says. The deal’s rationale has to be “more than financial engineering. You’re in a big media market with a lot of big, sophisticated players. If you’re going to spend two years integrating, you better have a good story.”

It’s Not AOL Time Warner Redux

Thus far, this is the story AT&T and Time Warner are telling: They plan to develop innovative TV bundles that stream to mobile devices and experiment with various models to see which ones consumers will like. AT&T could not do this easily before because it didn’t own prime TV and movie content — and programming contracts with Hollywood were often restrictive.

“There’s always going to be synergies when you have two companies coming together, but [in this case] they’re pretty modest.”–Peter Fader

The pair also expect to ramp up advertising efforts such as offering addressable ads where different households are served differing ads based on relevance even as they watch the same content. Also, the companies can combine data culled from wireless and content sources to inform their advertising decisions and strategy.

One product AT&T touted as an example of innovation is DirecTV Now. Launching in November, it is a $35-a-month TV bundle featuring more than 100 channels that streams to mobile devices. At the WSJ Live technology conference, Stephenson noted that 20 million households have “cut the cord” — left cable, satellite and telecom TV services. “How do you access those people?” he said. Buying DirecTV, with its 20 million customers, gave AT&T the scale to make Hollywood (NBC, Fox and others) agree to join the bundle. “This isn’t the junk nobody wants,” he said.

The addition of Time Warner to AT&T’s family should lead to even more innovation, Stephenson said. “Time Warner will be the launching pad of innovation,” he said. For example, “we’ll try to touch the third rail. How do you bring a la carte pricing into the ecosystem?” Programming contracts by TV and movie companies usually call for cable, satellite and telecom TV providers to buy a bundle of channels instead of singles. Most resist breaking the bundle for a la carte pricing of channels. But once AT&T owns Time Warner, it can experiment with its own content.

That sounds good, but these types of mergers have been done many times before with mixed results. Gerald Faulhaber, Wharton professor emeritus of business economics and public policy, says the history of content and conduit mergers points to many challenges. AOL’s acquisition of Time Warner for $164 billion in 2000 was a fiasco that wiped out billions in company value.

But the failure of AOL Time Warner is not a bad omen for the AT&T transaction as there are important differences. Back then, AOL was a much smaller entity trying to take over a large Time Warner. “Time Warner used to be this much bigger, greater and more powerful company than it is today,” Wharton marketing professor Peter Fader says. AOL was “punching way, way, way above its weight.” In the AT&T deal, “it’s a behemoth buying a smaller … content company.” Bewkes had famously whittled down Time Warner post-AOL by selling off assets such as Time Warner Cable and Time magazine to focus on TV shows and film.

The Price Isn’t Right?

What’s more troubling to Fader is the deal’s lack of dynamic synergies. “There’s always going to be synergies when you have two companies coming together, but [in this case] they’re pretty modest,” he says. “That’s my overall concern here. I’m not seeing one plus one equals three. I’m seeing one plus one equals 2.1.… I don’t see this as a game-changer in the media landscape.”

However, Faulhaber notes that one content-conduit deal that has done well was Comcast’s purchase of NBCUniversal. Werbach agrees: “Comcast has a very long history and experience running media and content businesses, and a very distinguished history of effectively integrating and operating acquisitions. That’s something you can’t overestimate.” Stephenson freely admits he doesn’t know how to run a movie studio so he will keep the Time Warner team [except Bewkes] in place after the deal closes.

Fader adds that “NBCUniversal is a much, much better asset than Time Warner. It’s multifaceted — there’s more to it.” Comcast bought not only the NBC network and related digital properties as well as cable networks such as CNBC and MSNBC, but it also acquired Universal Pictures and Universal Studios theme parks. Time Warner owns mainly content: CNN, TBS, TNT, Cartoon Network, HBO, Cinemax, Warner Bros. and New Line Cinema and related sites. Both Comcast and Time Warner own stakes in Hulu.

While content is king, the jury is out on whether it works best as part of a distribution network like AT&T. “Everyone knows that cord-cutting is happening and the whole broadband and internet media industry is experimenting with different kinds of bundles and non-bundled offerings,” Werbach says. “Clearly, [we are] moving to a world where more people get their content separately from their network operator.” For instance, people may subscribe to Comcast’s broadband but mainly watch Netflix.

“If that’s the case, it’s not clear AT&T owning a lot more content puts them in a good position. The companies in the best position are ones that can afford to open up their network,” Werbach says. These are operators who make enough money on broadband that it doesn’t matter which content the viewer watches. “That’s cable position — it’s a good position to be in.”

Such drawbacks still may not stop other companies from pursuing their own mergers following the rise of a media giant in AT&T and Time Warner. “Any time there’s a big deal like this, everyone else becomes in play,” Werbach notes. “Certainly, there will be other deals pitched and other deals proposed. There’s so much consolidation and so much uncertainty with the great unbundling of media, it’s hard to see another obvious next deal, but there will be more mergers coming.”

“The companies in the best position are ones that can afford to open up their network.”–Kevin Werbach

Speculation has arisen that media mogul John Malone might make a move. Either directly or through various companies he controls, Malone holds stakes in Charter Communications, which became the nation’s second largest cable company after buying Time Warner Cable; SiriusXM; Discovery Communications (Discovery, Animal Planet, TLC); and Lions Gate Entertainment (“The Hunger Games”, “Mad Men”, “Orange is the New Black”).

Werbach notes there aren’t many large content players left; Viacom and Disney are big enough to stand alone. But some analysts said even Disney could be pressured to acquire. Disney reportedly has renewed its interest in Twitter. It already has a stake in Hulu, in partnership with other big media companies. Two years ago, it bought Maker Studios, a YouTube network.

That same year, Rupert Murdoch’s 21st Century Fox tried to consolidate more content by offering to buy Time Warner for $85 per share, but it was rebuffed. This time, Time Warner did accept AT&T’s much higher $107.50 per share offer. The phone company says it has $40 billion in financing lined up and the rest will be paid in stock. And to prove that it can handle the debt, AT&T also announced it would raise its quarterly dividend by 2.1%.

Werbach believes that ultimately, the key question before AT&T and Time Warner is not going to be how much the transaction cost. “The question is going to be, ‘Is it a deal that’s accretive, that generates real, long-term synergies?’ If it does, no one will care about the price. If it’s not, no one would care if they got it for cheap,” he says. “My guess is they’re making this deal more out of fear than out of opportunity. In the long term, those often are the deals that don’t pan out.”