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Is Murdoch’s confidence in Sky justified?

December 12, 2016

One comment over this past weekend summed up the news, saying: “The return of the Fox”. Prior to Friday’s news that Rupert Murdoch’s 21st Century Fox had made an approach to buy the 61 per cent of Sky’s European assets it does not own, Sky’s share price value was in the toilet. Precisely a year ago Sky’s shares were trading around £10.88 each. On December 7th, prior to the upward trend as gossip started to circulate, they were a bargain at £7.70.

Murdoch’s offer is to pay £10.75 and while this is an impressive 36 per cent premium on the December 8 price – and should not be sniffed at – it is still a discount on the price of a year ago. Add in the devaluation of the pound against the dollar that’s happened since the June Brexit vote, and 21st Century’s bid is at ‘bargain basement’ levels, and no doubt has plenty of headroom in which to rise quite a few more percentage points. Indeed, Clare Enders of Enders Analysis said on December 9 that this deal was “the bargain of a lifetime” for Fox.

The £18.5 billion overall valuation, and the Fox bid (of $14.2 billion), represents a special confidence in Sky’s pay-TV model, which most shareholders this past year have tended to dismiss – hence the steady fall in value as the market started collectively thinking that the days of Sky’s dominance were well and truly over.

The market has grumbled about James Murdoch’s role as chairman, and major (non-Murdoch) shareholders have been highly vocal in what they see as a lack of independence for the company. A special committee of those ‘independents’ is now evaluating the bid. And smaller shareholders continue to moan. One City of London investor even suggested that Sky’s recent “underwhelming” launch of its cellular service was just another ploy to drive the share price down.

By any measure, Sky’s UK pay-TV business is ‘mature’ with falling DTH subscribers only bolstered by various low-cost packages. Observers are also fearful that the ever-rising costs of exclusive sports rights is simply unsustainable. Sky’s move into telephony, broadband and now mobile and very much focusing on extracting value across the board from existing faithful sports fans, is praiseworthy. Indeed, the complete Murdoch bid for Sky’s European assets – Brexit or no Brexit – also recognises that they remain content that there’s plenty of opportunity to do much the same in Italy and Germany. Moreover, Sky is fully backing Ultra-HD, generally regarded to be the ‘next big thing’ in broadcasting.

The Murdochs clearly feel that the threats from Netflix and Amazon, and their imitators plus the deep pockets of BT, can be brushed aside. Strategically, this is a move to get rid of dissenting shareholders and to simply get on with running a profitable business unencumbered. Indeed, anyone who has ever been at a shareholder meeting with Rupert in the chair, and to see him listen politely to a grumbling shareholder, and to then ask the complainant ‘Why don’t you sell your shares?’ knows how much he likes to be in control.

Sky Europe’s CEO Jeremy Darroch, in an e-mail to staff, said that the next few weeks would become a formal process in the acquisition scheme, which Sky’s independent directors support. Darroch would pick up a very useful £24 million by cashing in his share options with attractive bonuses for other option-holding Sky execs.

Fox has until January 6th to formalise a bid. Assuming its bid goes through, the deal represents a revenue gain for Fox of some $15 billion (2016 revenues for Fox were some $27.3 billion). “We view the deal as positive both from an accretion perspective but more importantly from the perspective of diversification of revenue beyond US cable advertising,” Ben Mogil, analyst at Stifel Nicolaus & Co. wrote in a note to clients.

Media analysts at Exane-BNP/Paribas said the next major problem was the regulatory examination. The bank said it was far from a done deal, and despite the corporate split between Murdoch’s newspaper and broadcasting interests, there would be a regulatory hurdle to be climbed. The risk, said the bank, was a blocked bid. “A blocked bid would likely sharply curtail the long-term prospects of a 21C takeout of Sky, reversing the bid related share price moves. With 21C arguing current ownership is ‘not an end state that is natural’, a blocked bid could lead to speculation of a 21C sell down of their stake.”

Another analyst, Sarah Simon at Berenberg Bank, spoke of the risk of the “fit and proper” test being applied again. “Potentially the biggest issue, though, is political. David Cameron was seen as sympathetic to the Murdochs, while Theresa May will likely wish to be seen as not being in the hands of big corporates. The culture secretary, Karen Bradley, is an unknown quantity, having come from a different ministry, while Sharon White, head of Ofcom, has been taking a tough line with companies that are not driving benefits for consumers.”

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