Stream-telepiu: Long Road To Profit

News Corp. CEO Rupert Murdoch has spent the week in Europe in a quest to line up co-investors for the planned acquisition of Italian pay TV leader Telepiu by his rival platform Stream. But observers say the real challenge for Murdoch will begin once he closes the deal, which would create a lone Italian satellite TV player.

After all, profitability has so far eluded the pay TV sector in Italy — and many other European countries.

To reach the promised land of profitability, the combined Stream-Telepiu will need several years, according to analysts. They have suggested that the merged entity wouldn't write black ink for the next three to four years.

The merger would strengthen the company on the cost side as well as the revenue side of the business, allowing for a gradual move to operating profits, observers predict. "The merger … should provide an industry structure allowing both subscriber growth and ability to negotiate more favorable cost structures," UBS Warburg analyst Tony Wilson said.

He estimated that News Corp. will have to fund as much as €300 million-€350 million ($289 million-$337 million) annually for operating losses of the merged company "prior to any significant reduction in content costs when major sporting contracts are renegotiated in 18-24 months."

Credit Suisse First Boston analyst Jolanta Masojada pegged fiscal 2002 losses of the combined Stream-Telepiu at €700 million ($674 million). "The specific timing of a turnaround in these losses is difficult to predict given that it is dependent on existing programming contracts, the terms of which are unknown," Masojada said.

But thanks to opportunities for cuts in operating costs, as well as a recognition by Hollywood studios that content deals with international pay TV platforms have strongly been to their own advantage, Masojada believes that a 20% cost reduction is possible over the near term. Adding potential subscriber upside of 20% over the near term, the analyst predicts operating losses for fiscal 2003 to come down as much as €500 million ($482 million).

Stream-Telepiu could follow a path similar to British Sky Broadcasting's in the United Kingdom, Masojada believes. "It took 16 months for the combined entity, which had higher operating losses than Stream and Vivendi, to achieve break-even," he said.

For now, however, the focus remains on getting the deal done. Murdoch met with prominent Milan bankers and Telecom Italia CEO Marco Tronchetti Provera on Thursday.

The media mogul — accompanied by Tunisian entertainment entrepreneur Tarak Ben Ammar, who is his adviser for European investments — has been making the rounds of Italian media market regulators, politicians and financial gurus as part of "due diligence and trying to understand the Italian system," Ben Ammar said.

The Italian blitz follows a memorandum of understanding between News Corp. and Vivendi Universal whereby News Corp. is to acquire Telepiu in a €1.5 billion ($1.45 billion) deal subject to regulatory approval (HR 6/10). The merged entity would boast 2.4 million subscribers.

It is key for News Corp., which owns 50% of Stream, to have Italian partners in the proposed single pay-TV firm, both to share financial risk and to make the venture more palatable to legislators and regulators, analysts said.

Besides Telecom Italia, other Italian partners could be banks or investment funds. According to a News Corp. spokesman, no financing commitments have been lined up.

Some observers are voicing doubt, however, that Telecom Italia, a partly privatized national telecom, will agree to continue its partnership with News Corp. given that it has been looking to sell off its Stream stake and exit the pay TV sector.

Ben Ammar has said that News Corp. likely would not go ahead with its deal without an agreement with Tronchetti.

Either way, Murdoch and Ben Ammar today will meet with European Union Competition Commissioner Mario Monti.

"We don't think Italian and European authorities will reach a decision (regarding the merger) before September," Ben Ammar said.

Nick Vivarelli reported from Rome; Georg Szalai reported from New York.