Murdoch prepares to tighten his grip

News Corporation's bid for Sky is a smart commercial move that will worry those who already fear its power

The rumour had been rumbling for years. It enjoyed a brief resurgence in March, but the excitement quickly died down; that was until Monday night, when Rupert Murdoch finally made his move on BSkyB.

News Corporation owns a near 40 per cent stake in the pay-TV provider and the Australian tycoon has decided the time is right for one of the company's founding shareholders to take full control.

Yesterday morning News Corp announced to the market it had proposed an offer, and then an improved offer to Sky. The target's independent directors also announced they had dismissed both, and the shares leapt 16 per cent, the most in a decade, on the belief a deal will be done at a full price.

Given the market chatter and the close relationship between the companies' senior executives, Singer analysts said that "the bid will not surprise many given the business was effectively built into its current form by James Murdoch, who is now chairman of News Corp Europe and still chairman of Sky".

Paul Richards, an analyst at Numis Securities, said the move "makes a lot of sense" and added that despite wranglings over price, the deal would be closed by March next year.

News Corp deputy chairman and chief operating officer Chase Carey took the company's informal approach to Nick Ferguson, Sky's senior independent director, for the first time last Thursday. Insiders said this was the first time such an approach had been made.

Mr Carey, who sports a distinctive handlebar moustache, wanted to sound Sky management out over an offer of 675p per share for its outstanding shares, valuing the entire company at £12.9bn.

"We believe that this is the right time for BSkyB to become a wholly owned part of News Corporation with its greater scale and broader geographic reach," Mr Carey said yesterday. "For News Corporation, our proposal presents an opportunity to consolidate a core business with which we have been closely associated for over two decades."

The move made sense for the New York-based media group, he said, as it would benefit from "increasing the geographic diversification of our earnings base, reducing our exposure to cyclical advertising revenues and increasing our direct consumer subscription revenues". News Corp added that it could pay the £7.8bn for the remaining 61 per cent of Sky out of cash and debt and would not look to a rights issue. One News Corp insider added it would also be a good move for Sky, whose chief executive is Jeremy Darroch. "It would give both companies more flexibility as their markets develop. Sky's competitors in the future will not just be Virgin Media and Top Up TV. It will be looking at Apple and Google, the big international players. News Corp would give it international scale."

Analysts pointed to a series of reasons why the deal made sense for News Corp. Mr Richards called it "very astute timing. It has had a good downturn, with third-quarter results showing it is seeing a strong recovery across its operations."

He added: "News Corp has built up $8bn of cash on the balance sheet, but the interest rates mean it isn't getting a great return. At the same time weak sterling makes a UK company more attractive to a US bidder." He added Sky's current valuation did not fully value its medium-term growth potential.

Sky is also attractive as it comes out of an investment cycle, according to Mr Richards. "The company has invested over a decade in moving from analogue to digital, poured money into infrastructure, into high definition and broadband. It has reached a tipping point."

Thomas Singlehurst, an analyst at Citi, agreed: "BSkyB is entering a period of harvesting previous investments. At this stage, most of the new initiatives being planned by the group – the rollout of 3D, the launch of its Anytime Plus, internet video on demand system – can be facilitated with existing technology and at marginal cost." He added that News Corp could be interested at the moment because of a "potentially more accommodative UK Government". Mr Murdoch had cultivated close ties with the Conservative Party in the run up to the general election.

Mr Ferguson called a meeting of the eight independent directors on Sky's board and brought in the investment banking groups UBS and Morgan Stanley to advise on a response. James Murdoch will not be party to Sky's plans relating to the approach. The directors rejected the initial proposal. As negotiations dragged through the weekend, and despite News Corp upping its offer to 700p per share, it became clear no agreement would be reached.

The directors said they would support an offer if "it would deliver value in excess of 800p per share". Mr Ferguson, who is chairman of private equity group SVG Capital, added yesterday: "It is the unanimous view of the independent directors that there is a significant gap between the proposal from News Corporation and the value of the company. We believe the company has a track record of very strong performance and excellent growth prospects." News Corp insiders believe the group is fully valued at its current offer.

The discussions on price have now been put on ice, but the process will roll on. "There is a big gap between the two sides. There is no point going further with trying to decide a price until the regulatory process is clearer." Analysts have forecast an offer as high as 860p, although the consensus is about 730p. Sky shares closed yesterday at 700p, up 99.5p.

News Corp is set to put its proposals in front of the European Commission, Sky has pledged to co-operate. There is expected to be a full phase two investigation, and the Office of Fair Trading is likely to look at the deal in the UK. Goldman Sachs' analyst Richard Jones said he did not expect "any significant regulatory hurdles, as there is no significant business overlap".

Talks will resume when the potential regulatory remedies become clear. Mr Richards, of Numis, said regulation "would not be insurmountable and, subject to price, we expect the deal to go through".

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