Dollars And Sense: IGO Privatizations: Transforming An Industry
by Armand Musey
The privatization of former intergovernmental organizations (IGOs) is transforming the global Fixed Satellite Services (FSS) industry from what was historically a relatively sedate business into a highly competitive global industry. Under the terms of the ORBIT Act of 2000, Intelsat, the largest former-IGO, is required to complete an initial public offering of its shares by year-end 2002. Intelsat completed its privatization in July of 2001. Inmarsat and Eutelsat, other former IGOs, have also been privatized recently and should IPO their shares at some point in the future. These privatizations provide former IGOs with leaner, more competitive business models, more diverse shareholder bases, attractive acquisition currencies and increased investor interest.
The most direct effect of these privatizations and IPOs, in our view, will be a significant increase in merger and acquisition activity across the sector. Eutelsat has already begun with its announcement of acquiring a 21 percent stake in the Spanish operator Hispasat. Intelsat has also recently built an alliance with the Asian operator, Sinosat. The incentives for sector consolidation are to rationalize excess capacity, to create global footprints of satellites, and to realize improved economies of scale. On the cost side, we see three major benefits of consolidation: economies of scale for both operations and marketing; ability to invest in enhanced-value projects; and improved access to capital.
Given that each has a slightly different business strategy, the former IGOs confront various challenges during this transition, and will likely use IPO proceeds for different purposes. For Intelsat, the key challenge will be to increase its proportion of point-to-multipoint video and data transmissions and to diversify beyond its traditional businesses. A logical first step has been to expand into the broadband trunking market (a natural extension of IGO’s core competency). VSATs provide yet another attractive diversification. Eutelsat has a predominantly video focus to its business, but its coverage is limited primarily to Europe. We would expect the company to use share sale proceeds to increase its footprint outside of Europe. Inmarsat offers a global mobile voice telephony and data service. Since Inmarsat already has a global footprint, the company will likely use proceeds to fully develop its broadband global area network.
Our thesis is that the FSS market should benefit the larger players equipped to provide customers’ needs on a global basis. We expect privatized IGOs to play an important role in this process. We also foresee fewer, larger companies and a bigger public equity float once this process is complete. In 2000, Intelsat, Panamsat, SES Global and Eutelsat were the largest FSS operators globally, and collectively accounted for 53 percent of the total transponders and 54 percent of the $7.2 billion in industry revenues. We see additional opportunities for both geographic fill-in as well as shareholding increases in minority-controlled companies. We also expect consolidation among FSS operators to occur first, due to the relative ease of integration and realization of synergies.
We also expect a major shift in the business model of FSS operators away from pure resellers of transponder capacity and into vertically integrated satellite communications providers. Teleports, which provide transmission links from terrestrial networks to satellites, provide a prime consolidation opportunity. Currently, there are not any significant publicly traded teleport companies, and the industry remains highly fragmented. The VSAT industry is less fragmented, but still provides attractive consolidation opportunities for the FSS operators. SES Global already owns 34 percent of Gilat and Hughes controls Hughes Network Systems.
Over the longer term, once consolidation within the FSS industry is complete, we expect FSS companies to sell or be integrated into complementary terrestrial telecommunications businesses. Selected long-haul fiber players could present interesting consolidation opportunities for FSS operators. Fiber companies are much better suited for long-haul point- to-point communications. Combinations of FSS and fiber companies could make sense financially given that fiber companies have high growth, but significant leverage, while FSS operators have significant cash flow and more-moderate leverage levels. Moreover, they share many of the same customers.
Armand Musey is the satellite communications analyst at Salomon Smith Barney (SSB). The foregoing article should not be considered as a recommendation with respect to any security. SSB and its affiliates may maintain a long or short position in, act as a market maker for, or purchase or sell a position in, securities of referenced entities and may also perform investment banking, advisory, or other services for any such entity.