Frownfelter: PanAmSat Unworried By Intelsat

The North American satellite landscape has dramatically changed with Intelsat securing a deal to acquire some of the Loral Space & Communications satellite assets. But, Loral has now confirmed that it has received an informal offer for those assets from EchoStar Communications [Nasdaq: DISH]. EchoStar has also indicated that it is interested in acquiring the balance of Loral’s fixed-satellite service (FSS) fleet and satellite manufacturing assets. It remains to be seen if this dramatic intervention will impact Intelsat’s deal.

For Intelsat’s arch-rival, PanAmSat [Nasdaq: SPOT], there is likely to be greater competition in the domestic video market. But PanAmSat is not standing still. It is trying to develop new growth opportunities in its home markets, primarily in the areas of government services and high-definition TV (HDTV). In an exclusive interview with Interspace Senior Editor Mark Holmes, PanAmSat COO Jim Frownfelter talks about the growth opportunities for the company, as well as how the company will be affected by Intelsat’s recent acquisition, assuming it goes ahead.

Interspace: Over the next 12 months, what do you see as the major growth opportunities for the company? Do you view a potential for increased revenues in the HDTV arena? Could you also tell us about your expectations for the G2 Satellite Solutions Division? How do you see the potential demand for hybrid satellite and fiber services?

Frownfelter: We have been looking at two main markets for growth. One is the U.S. government and one is primarily video applications. In the U.S. government business, we recently acquired HGS – Hughes Global Services. We have integrated that with our government group and I can tell you we completed the acquisition in March so we have seen one quarter of results. Watching the synergies, we have been able to achieve by combining the two groups, we are very excited about the future. We think there will be additional growth throughout this year and moving into next year and then the following five to 10 years. We are very excited about that segment of our business.

In the North American video market, there are two phenomena that are going to add growth over the short term, and eventually over the long-term. One is in HDTV. We have seen a shift. In the interviews I was giving about 18 months ago, people were asking me when we were going to start seeing HDTV impact our business, I told them 12 months. I was probably off by about six months. We are really starting to see an impact now. We have designated one of our satellites at 127 degrees West for HDTV and we are building an HDTV neighbourhood there. In the first half of this year, we have signed contracts with some of our major customers, including Time Warner and HDNet, where we are filling up that satellite. This is a next-generation satellite and it is going to be launched on Sept 30. Most of these services are going to start as soon as that satellite is put into service. We see a tremendous uptake in terms of a desire on the part of our customers to deploy HDTV in the U.S. It is probably fair to say that right now, we probably have the most HDTV contracts completed over the near term. So, we are very excited about that … We have signed a new contract with ESPN. We are providing HDTV for specific events … For the industry as a whole, we think there will be a pick-up in terms of general demand for satellite-based services in the late 2004 timeframe.

Interspace: If we could talk about the two Boeing [NYSE: BA] satellites where you are experiencing anomalies. The PAS-6B from my understanding has an insurance exclusion in terms of XIPS failures. How are you addressing this situation in terms of the scenario that this satellite is a total loss?

Frownfelter: I think in this current age of very significant requirements for U.S. corporations, we have strict guidelines in terms of disclosures. Sometimes I think the disclosures get misinterpreted as we have to evaluate all worst case scenarios. The XIPS system is a relatively new propulsion technology for commercial operations. It has been around military and government type applications for a while. We have deployed these on our HP601 satellite. In total and in addition to the two that you mentioned, there are five satellites in our fleet which have that technology. As part of our reliability initiative that PanAmSat began in 1998 with the objective of having the highest quality and most viable network in the industry, we went and evaluated all of the satellites, which were under construction and evaluated risk relative to new technologies, relative to designs for success. We wanted to build more robust margins into our satellites and back-up continuously these systems wherever we saw risk. Thirdly, we integrated a lot of people at the manufacturer to make sure all processes are followed appropriately. Problems sometimes arise due to problems on the factory floor and these are addressed by PanAmSat.

While these XIPS systems have been around, they had never been deployed for commercial services. What we have done is that we have built a back-up system for each of these units, which is a totally separate system which uses conventional chemical propellant, which is the bi-propellant system that virtually all satellites use today that don’t have XIPS. For each of these satellites, we have this back-up system. The amount of propellant that you are able to load in the back-up system is directly correlated to which launch vehicle you use and the performance of that launch vehicle. The range in the lifetime of these back-up systems we have on these five satellites range from 3.2 years to 7.4 years in addition to the 15 years the XIPS is going to give you. When you look at these two satellites in particular of course, Murphy’s law is that the GIVR satellite was the 3.2 year satellite, and for PAS6B, there are four and a half years of additional bi-props on board.

The PAS6B was launched in 1998. If the XIPS systems are unable to be recovered on 6B, it would mean we would go to that back-up system which has at least four and a half years, so instead of having a 15 year satellite, you would have a satellite with around 10 years of life expectancy. We are planning on keeping both of these systems on. We just can’t keep them operating in the manner they are supposed to give us the level of propulsion efficiency we would want. So, we are going through an exercise now on each of those satellites to determine how we can use those systems to extend the life out. What we have defined is a worst-case scenario where we can’t get anything out of them and we know that is not true.

In terms of PAS6B, under an insurance policy, if there was no XIPS exclusion, it would not be a total constructive loss, it would be a small partial loss, so somewhere around 30 per cent and then there would be salvage. You would end up with a very small insurance payment anyway.

Interspace: You mentioned you are going through a process of examining the systems on both satellites. When do you expect that process to be completed?

Frownfelter: We are going through some testing of the systems. It should be done in the next two weeks. We will then probably take two weeks to sit down with the manufacturer and analyse what kind of operational modes we want to move forward with. I am expecting by the end of August to have this completed.

Interspace: Can you give us an update in terms of DirecTV Latin America? Do you see consolidation in the Latin American direct-to-home (DTH) arena?

Frownfelter: We have been working with DirecTV Latin America throughout this process. DirecTV has formally filed for Chapter 11. They are in the middle of a reorganization. I can tell you that they have fully paid all of their invoices. They are not in arrears. We are in a strong position as PanAmSat is critical to their business. Our expectation is that while we will sit down and work with them because we want our customers to be successful, we are hopeful that the impact will be minimal for PanAmSat moving forward. In terms of consolidation on the DTH side in Latin America, as everyone knows the economies in Latin America have not done very well. I think that is a question, which will have more of a longer term impact. I am not privy to those discussions if any are occurring, but I think for us over the short-term, which would mean the next 2 to 3 years, I don’t anticipate any major shifts relative to the customers we serve there.

Interspace: What impact do you think News Corp’s [NYSE: NWS] deal to acquire Hughes Electronics [NYSE: GMH] will have on PanAmSat? Is there any uncertainty over PanAmSat’s future that could impact your ability to generate revenues?

Frownfelter: We are very excited about the opportunity to be part of News Corp. Rupert Murdoch has been quoted as saying that he does not intend to sell PanAmSat. He is excited by the business and is very excited about working with PanAmSat to grow the company. Likewise, we are very excited about being part of News Corp. We think it will be a great combination that will help us with some of our strategic initiatives to grow the company.

Interspace: How do you view Intelsat as a competitive threat in light of its recent deal with Loral? They want to become a major player in the North American video arena. How does this acquisition change the dynamics of the market?

Frownfelter: My answer will surprise you, but I am very happy with it. The reason is, when you look at our domestic fleet, we have very strong customers in very strong cable neighbourhoods. Our satellites are primarily focused and have built up over the years ground infrastructure. Some of our satellites serve 100 per cent of all of the eyeballs in the U.S. We made investments at the cable headends in the U.S. and we serve virtually all 11,000 cable headends from our satellites. In the U.S., our strategy for success is that you have to have the ground network, which is co-existent with your space network. That is an investment that Loral has never made and hence they have never been a direct competitor to PanAmSat in this arena for the heart and soul of our business here. I think the market share is evenly split between SES Americom and us. We are both around 40 per cent of the market each. The remaining 20 per cent is shared by Loral and some of the other small entities that have satellites in the arc. The problem that we have seen is that we have some capacity that is not part of this network, a very small proportion of our network, and where we would compete with Loral and other types of businesses in C-band and because of Loral’s weak financial situation, they have been dumping in the market place and causing instability in the U.S. market for those types of services. So, with Intelsat paying a very large sum of money for a very small market share, our expectation is that they are going to have an obligation to their various entities and eventually to shareholders as they issue their IPO [initial public offering]. They will be required to get a reasonable return on that large investment that they have made and we think that will bring stability to the market place and benefit us on the long-term.

Interspace: Intelsat CEO Conny Kullman told Interspace (see issue 774) that this was a unique deal for the company? How did you view the deal?

Frownfelter: When you look at Intelsat’s network, they have a huge gap. They don’t have good satellites that cover North America. That has been a big problem for Conny for years. He has tried numerous ways to try to get into this market because it is one of the most stable markets in the world. This is a way for him to get in, so I tip my hat to him and I think it helps him fill a gap. I do think this is a long-term play for him and that over the short-term, he is going to have to do a lot of development in that market to get to a place where you can compete, which Loral was never able to do. I think it is a good move for Intelsat. I am sure they are prepared to make the investments they need to be competitive in the 2015 timeframe.

(Contact: Philip Robertson, PanAmSat, [email protected])