StarHub – CIMB

From hubbing to drubbing

More light on the BPL loss

Maintain UNDERPERFORM, target price and earnings forecasts. We maintain our earnings forecasts pending details on the impact on StarHub’s top and bottom lines from the loss of British Premier League (BPL) broadcasting rights to SingTel during StarHub’s 3Q09 conference call. There is no adjustment to our DCF-based target price of S$1.58 (WACC: 9.4%, LT growth: 1.0%). Maintain UNDERPERFORM as we remain concerned about: 1) a potential spike in pay-TV churns; c) an unravelling of its hubbing model; and 3) the prospect of SingTel snaring more content from StarHub. StarHub’s CEO has provided some insights into the firm’s loss of the 2010-12 BPL rights. We believe the group had underestimated the threat posed by SingTel, could not match the financial muscle of SingTel and was handcuffed from bidding too aggressively as it would not have been able to pass on the increased costs given probable caps on retail tariffs.

StarHub’s CEO’s thoughts on the loss are as follows:

• The outcome of the auction process was not what StarHub had wanted or expected as the CEO had felt strongly that StarHub could retain the rights either on an exclusive or non-exclusive basis.
• While not underestimating SingTel, he felt it was too risky for SingTel to take on BPL because:
• Firstly, SingTel’s ADSL2+ service is not adequate in many parts of Singapore to deliver acceptable-quality IPTV services and SingTel would not be able to serve the entire market with IPTV unless it upgraded its network. Thus, StarHub thought SingTel would bid aggressively only in 2012.
• Secondly, the MDA had been rather explicit that it was studying the BPL situation and would look very unfavourably on any efforts to raise retail pricing.
• As it was not recovering the cost of Champions League and BPL, had network issues and could not raise retail prices, StarHub believed that it did not make sense for SingTel to bid aggressively this round. Interestingly enough, the prospect of a joint bid was possible until the last moment.
• StarHub believed that winning the rights would not benefit SingTel’s business. While unable to divulge SingTel’s bid, StarHub noted that it was a substantial amount over what StarHub was paying. The press has estimated the amount at S$283m (S$400m).
• StarHub’s CEO revealed that only 10% of customers take up the sports package and at least three basic groups. There are more subscribers who sign up to content other than sports. StarHub believes there would be a minimum loss of its pay-TV service presence in households. With negative margins from BPL eliminated, it can allocate more resources to shoring up content and its hubbing proposition.

StarHub will be providing more details on the impact of the loss on its top and bottom lines in its 3Q09 results. It notes that the damage would not be as big as some had feared.

Comments

Underestimated SingTel. Our overall impression was that StarHub had underestimated the threat posed by SingTel. In a post-NGNBN world and in its bid to transform into a multimedia company, it will be critical for SingTel to acquire meaningful content to differentiate itself. The problems outlined by StarHub, while legitimate, are not completely insurmountable. By July 31, SingTel’s ADSL2+ network should reach the entire island from 90% coverage now and issues over its quality should be resolved by then. SingTel Singapore’s CEO Allan Lew was quoted as saying that every home and every business will have access to BPL by that time.

Does not possess the same financial muscle. The other main point was that StarHub lacks the financial muscle to compete with SingTel in a head-on bidding war by virtue of its smaller size. StarHub’s ability to bid up the cost was effectively curtailed by the MDA’s warning to potential bidders about raising retail tariffs. We feel that StarHub was not willing to absorb further pain and margin compression as this would have destroyed shareholders’ value. Cable margins had fallen to 26% from 19% in 1Q08. SingTel, on the other hand, has no such qualms as it is seeking to establish its foothold in pay TV. While dilutive, the impact can be absorbed by its other businesses.

Does not change our view. SingTel is now the premier sports content provider having snared the game-changing BPL rights. The next content up for grabs is the 2010 World Cup where SingTel will give it its best shot. As other exclusive content comes up for renewal after end-2011, we believe SingTel will continuously bid for this in the areas of education, entertainment, movies and drama. StarHub currently has rights to exclusive content such as HBO, National Geographic, CNN, Cinemax and Discovery.

Still a winner’s curse. Although the win would completely transform SingTel’s pay-TV business, it would still be overall negative for SingTel, in our view, as:

• SingTel is unlikely to recover the cost of the rights, which has skyrocketed from S$250m in the 2007-09 seasons to an estimated S$400m. We believe that SingTel will be a loss leader in this segment, leading to negative margins in the initial years.
• SingTel will charge S$23/month, in the first year, for subscription to BPL alone and S$25/month for BPL plus additional sports content (tennis, F1, ESPN, ESS, etc). It would not raise prices in the second and third years. The S$25/month is the same as StarHub’s current charges for its sports package.

We believe that positively, mio TV could be flooded with 239K new subscribers, assuming 45% of the subscribers are on sports, from its base of 101K. SingTel has agreed with StarHub’s assessment that about a quarter of households watch sports alone or an estimated 286K households.

The negative impact is estimated at S$62m p.a. or a marginal 3% on SingTel Singapore and 1.4% of the group’s FY11 EBITDA. We arrive at this figure after assuming that the rights are won at a cost of S$400m (S$133.3m per annum) and SingTel manages to lure about 239K subscribers (entire estimated 45% of subscribers who sign-up for sports packages at StarHub) who will pay S$25/month (S$71.6m per annum). Our estimate does not take into any account additional revenue from advertising.

What sort of impact on StarHub? As customers who sign up before 1 Oct 09 can cancel after Jul 10 without paying a penalty, StarHub’s FY10-11 core profits could be reduced by 19-25% as customers churn and its topline could be crimped to 9%.

Losses could escalate if a mass defection occurs. This is based on the following assumptions.

• While less than half of the subscribers are on sports packages vs. our earlier expectation of 60-70%, we have assumed a 20% churn for FY10-11 as our base case. We believe that some customers may want to retain their subscriptions for other content such as movies, learning and entertainment.
• In addition, we expect some unravelling of its hubbing appeal where we have assumed that 50% of the pay-TV churners will be postpaid mobile and broadband users who will also churn.

Valuation and recommendation

Maintain UNDERPERFORM, target price and earnings forecasts. We maintain our earnings forecasts pending details on the impact on StarHub’s top and bottom lines from the loss of BPL broadcasting rights to SingTel during StarHub’s 3Q09 conference call. There is no adjustment to our DCF-based target price of S$1.58 (WACC: 9.4%, LT growth: 1.0%). Maintain UNDERPERFORM as we remain concerned about: 1) a potential spike in pay-TV churns; c) an unravelling of its hubbing model; and 3) the prospect of SingTel snaring more content from StarHub.

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