Merger of Carolco, Live Entertainment May Be in Jeopardy : Stock swap: Analysts attribute the possibility of failure to a sharp drop in the companies’ share prices.

It’s been a bumpy ride lately for Live Entertainment Inc. and Carolco Pictures Inc.

Since announcing their pending merger two weeks ago, both Live, a Van Nuys home-video distributor, and Carolco, the Los Angeles-based producer of the blockbuster film “Terminator 2: Judgment Day,” have seen their stocks plunge.

Both companies also reported big third-quarter losses--$40.5 million for Live and $43.7 million for Carolco--and warning flags have been raised about Carolco’s $845-million debt and its ability to raise additional financing. Amid all the tumult, Live last week announced the resignation of its chairman, Wayne H. Patterson.

Does any of this mean that the merger, scheduled for early next year, will crumble?

“That possibility is very real right now,” said analyst Emanuel Gerard at Gerard Klauer Mattison in New York. The reason, Gerard said, is because of the way the murky and complex Carolco-Live merger deal is structured.

After months of negotiations, Live, which is 53% owned by Carolco, announced Nov. 19 that the two companies had tentatively agreed to merge in a stock swap. For every share of Live stock, investors would receive at least $14 worth of stock in a new company formed by the merger--to be called Carolco Entertainment Inc. The $14 would be made up of 2.5025 shares of Carolco Entertainment.

If the market value of the 2.5025 shares is less than $14, as it now is, the difference would be made up with something called “contingent value rights,” which would entitle the investor to either cash or securities, or some combination of both--although neither company has publicly announced those details.

Carolco shareholders, meanwhile, would swap their shares one-for-one for shares in the newly merged company.

The idea behind the merger is to offset Carolco’s volatile movie-making business with a steady source of earnings and cash flow from Live’s videocassette sales, while Live would be guaranteed a supply of films to release on video.

Since the terms of the merger were revealed, however, Live’s stock has plummeted 28% to its closing price Monday of $7.25 a share. Meanwhile, the stock of Carolco has fallen from $4.375 a share when the deal was announced to $3.125 as of Monday’s close.

The problem, Gerard said, is that as Carolco’s stock continues to fall, more stock in the new company must be issued to Live shareholders to make up the $14 a share they are guaranteed. With that amount increasing as Carolco’s stock falls, Carolco’s management might be rethinking the deal, he said.

“At certain prices, Carolco is not prepared to do the deal because they’d have to give more stock,” Gerard said.

Analysts said both stocks are dropping for several reasons, chief among them the deteriorating financial conditions of both companies and confusion about the value of the securities that Live’s stockholders would get.

Also cited is a high degree of arbitrage activity, in which professional speculators are using various buy and sell strategies to profit from the merger proposal whether it goes through or collapses.

Some investors might be holding Live’s stock while selling Carolco’s so they would get more stock in the new Carolco after the merger, the analysts said. They might also be shorting Live--selling borrowed stock in the hope that its price falls, after which they can replace the stock at a cheaper price--in case the deal collapses.

But Steven E. Hill, an analyst at Sutro & Co. in San Francisco, said, “It’s not just arbitragers driving the stock down.”

Hill said Live’s stock decline might also reflect investors’ wariness over Carolco’s heavy debt and skepticism about the value of the combined companies. “It indicates there’s some serious problems” with investors’ perceptions of the deal, he said.

Carolco blamed its big third-quarter loss on certain property transactions, writedowns on previously released films and the settlement of a shareholder lawsuit.

In reporting the quarterly loss, Carolco warned that it did not meet all of the financial requirements of its bank credit agreements. Without changes in the agreements, Carolco said, it might not be able to borrow more money to complete the films it has under way and its creditors might require that its debt be repaid at a faster rate.

The company also cautioned that the amounts available for it to borrow under its existing credit agreements probably wouldn’t cover its cash needs for 1992.

Carolco had also warned that its losses could also have put it in violation of the terms for some of its outstanding notes. But the company won a reprieve from the note holders, who voted to temporarily ease their terms.

Carolco obtained some additional breathing room recently by raising $65 million through a private placement of debt and securities with foreign investors.

Meanwhile, Live attributed its third-quarter loss, which came on a 22% decline in revenue to $85.7 million, in part to slower sales of its “Teenage Mutant Ninja Turtles” videos and weak sales at its retail division.

The loss also included a $22.5-million write-off that Live took in connection with its sale in July of its Lieberman Enterprises subsidiary for $100 million. It wrote off another $15 million for its July acquisition of home-video concern Vestron Inc. after determining that the $53 million in cash and stock it paid “exceeded the fair value” of the assets.

Both Live and Carolco have said they expect the home-video release of “Terminator 2,” which has grossed more than $200 million at the box office, to boost their results in the fourth quarter.

In another development related to the pending merger, Live last week announced that Patterson had resigned and that a temporary management team that would run the company until the merger is completed. Patterson, former chairman of Pace Membership Warehouse, joined Live in April, 1990.

“There’s no room for two chairmen of the board or two CEOs,” said Michael J. White, a Live senior vice president and general counsel.

Patterson was replaced by entertainment industry veteran and Live board member Alan J. Hirschfield, who will run Live with a committee headed by Cy Leslie, also a Live director and former chairman of MGM/UA Home Entertainment Group. Hirschfield has also served as CEO of 20th Century-Fox Film Corp. and Columbia Pictures Entertainment Corp.

Carolco Chairman Mario F. Kassar is widely expected to take full control of the combined company after the merger, although analyst Hill said he wouldn’t be surprised to see further management “battles” played out at Live.

“I think there are people at Live that would like Live to have a substantial say in the new company, not just to have Kassar run the whole thing,” he said.