Managing Satellite Services For Profit
The satellite communications industry has entered a period of transition. A few private equity firms now control several large satellite operators. Previously, telecommunications companies or the original owners that had a technology or strategy tie-in generally controlled satellite service providers. Pure investment houses had managed none of these companies.
One glance at an accompanying chart shows that the relatively small industry has been filled with recent transactions. Satellite service companies appear to be attractive investments because they are well established, offer fairly steady cash flows and high profit margins. Investors have been willing to pay handsome prices for these companies with the expectation that they will become even more valuable in the future. The sales prices have ranged from six to seven times Earnings Before Interest, Taxes, Debt and Amortization (EBITDA), whereas more typical transactions today are about four times EBITDA.
Banks also are comfortable with providing large loans to finance such deals because the income streams are secured by relatively long-term transponder contracts. The equity down payments by the new investors have dropped from 33 percent to 12 percent in the latest transactions. This situation produces highly leveraged investments with amplified potential for profit or loss.
The investor strategy is to use the large cash flows from these enterprises to pay off the debt. We expect that the new owners would cut both operating and capital expenses to a minimum. Then in three to five years, the present owners would sell off the companies to new owners or create a public company by issuing an IPO.
This profound change leaves many questions. Have the new owners paid too high a price for an industry that has a history of unexpected expenses? Will new management have adequate domain knowledge, insight, and judgment to navigate these companies through high-tech rapids in the years to come? Will frugal management lead to long-term deterioration of the assets?
It is clear that the industry has far too much transponder capacity. Furthermore, some of the operators have continued to buy satellites for several years since the imbalance between supply and demand became apparent. Perhaps now that trend will be reversed. Intelsat management said it does not intend to buy more satellites for three years. Most operators are on austerity plans.
Nonetheless, a few operators still advocate aggressive growth. Some operators have cut transponder lease prices to secure additional business. Overall transponder lease prices have been falling, as would be expected under the current circumstances of slack demand. Rectifying this situation will require a disciplined approach by all of the operators. Until now, this has been difficult because of the intense competition between the service companies.
Over the next few years, it will become necessary to replace satellite transponders that reach the end of life. Although satellites typically are designed for 15 years, the average life seems to be only 12 years. There are frequent surprises. Perhaps the life of some of these deteriorated satellites can be extended through clever operational techniques. We expect that there will be strong need for satellite replacements well before the end of the decade.
A great deal of logistical planning must be devoted to tailoring the supply and demand in each region of the world. There is no mandate to replace unused capacity. Sharing and swapping of capacity arrangements could be a tremendous benefit to the entire industry. Ultimately, the downsizing of capacity could lead to unexpected shortages if fewer transponders are planned to provide in-orbit spare capacity.
The space business has a particular, fragile nature because of high risks and high costs. Governments have recognized the need to nurture and protect space capability. Various forms of preferences and indirect subsidies have prevailed in the industry for decades. Nonetheless, the industry cannot expect to depend on military contracts and other government spending for growth.
However, tight production budgets stretch the manufacturers and launch service companies thin. Cutting costs further runs the risk of reducing service quality or causing costly failures.
Roger Rusch is the president of TelAstra, Inc, a satellite industry consulting firm in Palos Verdes,Calif. He can be contacted by phone at 310/373-1925 or by e-mail at RogerRusch@telastra.com.