Wall Street Analysis

By Tom Watts, SG Cowen Securities

Rupert Murdoch indicated last week that he will approach EchoStar Communications [DISH] about sharing capacity for local channels. This opens the opportunity to broaden satellite’s offering and keep satellite competitive with cable. We expect EchoStar to seriously consider the offer.

Both DirecTV and EchoStar intend to expand the number of markets where they offer local programming. DirecTV plans about 100 markets by yearend 2003 and ultimately may reach all 210. EchoStar plans 106 by year-end. The challenge in adding local markets lies in the declining profitability of each incremental market. Even though the operators often see a 20 percent lift in net new subscriber additions in each market where they introduce local signals, the revenues from this lift do not offset the fixed investment for uplinks and the operating costs of service in markets smaller than about #70. Sharing spectrum and uplink facilities should make local profitable in much smaller markets. Finding a common encryption/access control technology appears to be the biggest hurdle.

Just combining local service should increase profits and add subscribers for both DirecTV and EchoStar. More importantly, though, spectrum sharing would free up satellite capacity to offer HDTV versions of local channels. Right now, cable TV claims satellite lacks the capacity to match cable’s HDTV offerings, particularly of local channels. Spectrum sharing would help keep the playing field level. Satellite has proven its ability to offer consumers a better programming package than cable at lower prices. Sustaining this benefit with the offering of local HDTV will be critical to continuing to offer consumers a competitive cable alternative.

Of course, spectrum sharing for local brings up a broader issue – would DirecTV and DISH share platforms for broadband? WildBlue, which is positioning its satellites between DirecTV and DISH hopes to see that evolve. Murdoch indicates he views broadband as “a commodity,” which suggests he would consider any cost-effective alternative. EchoStar, however, says it’s unlikely to partner for broadband, and it has committed to capacity from SES Global [LU: SES]. We expect DISH to keep conducting trials but to hold back until the last minute before any long-term commitment.

Tom Watts is a managing director and satellite analyst at SG Cowen Securities. He can be reached by phone at 212/278-4260 or by e-mail at [email protected]. Readers should assume that SG Cowen Securities Corp. and/or its affiliates intend to offer services in investment banking to the above referenced companies within the next three months, and to seek compensation for such services.