By Mark Crossman and Anh Steininger

In mid-March, Hughes was up significantly on speculation that News Corp. (NWS) was considering purchasing General Motors (GM) in order to obtain control of GM’s 69 percent financial stake in Hughes. The sharp run up of the shares is an opportunity to take profits for three reasons.

First, it is unlikely that News Corp., or any company, could successfully acquire GM in order to obtain its financial stake in Hughes Electronics. As David Bradley, our automobile industry analyst, points out, any acquirer of GM would have to find a means of supporting $50 billion to $90 billion of commercial paper (debt) that GM’s finance subsidiary uses to fund its assets. Because this is virtually impossible, the finance subsidiary becomes a de facto poison pill. We believe GM’s management would do everything possible to block the sale of GM. Management is not going to let an outside entity take advantage of an arbitrage that it is in the process of exploiting itself. The arbitrage is that the current share price of GM is well below the combined value of the core auto business and the market value of its ownership position in Hughes.

GM’s current market capitalization is roughly $54 billion. If the core auto business is worth approximately $35 billion, then the market is only valuing GM’s 69 percent stake in Hughes at $19 billion. However, Hughes market value is roughly $61 billion, 69 percent of which is worth $43 billion. Therefore, buying GM and selling the auto business for $35 billion would effectively let the purchaser gain control of 69 percent of Hughes for $19 billion instead of $43 billion. With the exchange offer announced back in March (see March issue). GM is working towards realizing the market value of Hughes.

Second, it is unlikely that a friendly deal between News Corp. and General Motors for the purchase of Hughes will occur. Third, Hughes’ stock price could come under near-term selling pressure after the exchange ratio is set. In addition, once the transaction is complete, expect to see continued selling pressure as GM investors taking advantage of the exchange offer shed their newly acquired GMH stock.

Separately, after having spoken with management, our revenue and EBITDA estimates are adjusted down for 2000 and 2001. Management has been lowering guidance slightly for 2000. As a result, our revenue estimate is lowered from $8 billion to $7.5 billion and our EBITDA estimate from $810 million to $780 million. The revenue estimate changed primarily due to DirecTV. The estimate for DirecTV was too aggressive because of Primestar.

We had assumed that all of the Primestar subscribers that were converted to DirecTV would increase their average bill from $45 to $58 (DirecTV’s current average). This has not been the case; therefore, the revenue expectations for DirecTV are overstated. In 2001, the revenue estimate is lowered from $10 billion to $9.5 billion and the EBITDA estimate from $1.7 billion to $1.4 billion. The resulting impact of estimate changes has been a reduction in EPS for 2000 from $0.72 to $0.96. For the first quarter of 2000, estimated loss from continuing operations increased from $0.27 to $0.40. Consensus estimates will continue to come down as new guidance is reflected in Street estimates.

EBITDA revisions were primarily related to the start-up of the Spaceway project, which was not reflected in earlier figures. We still believe that Hughes is a fundamentally sound company, and rate it a buy with a $150 price target (currently trading at $120). We believe, however, that in the near-term, the stock will come under selling pressure when GM sets the exchange ratio, and that the strength in the stock created by the News Corp. speculation creates an opportunity to take profits.

Marc Crossman and Anh Steininger are satellite analysts at J.P. Morgan in New York City. These views are those of the authors and do not necessarily reflect the views of the Via Satellite editors or J.P. Morgan.