Radio industry tunes in to a wave of consolidation

Government concession on ownership rules opens door for fewer local stations and even a merger among the big three

Tessa Jowell tuned in to the radio industry's demands to relax ownership rules last night so that even the biggest players can merge. The move opens the door to a wave of consolidation among the 70 separate companies that own local radio stations. It could even mean a merger of two of the big three players, Capital, Emap and GWR.

The Secretary of State for Culture, Media and Sport gave the industry what it wanted: the ability to merge down to just two commercial players in any particular area, plus the BBC. In the draft Bill, published in May, the Government proposal was three different radio owners in a market, plus the BBC.

This was huge concession from the ministry and it followed months of increasingly desperate lobbying by the radio industry, led by Capital Radio's David Mansfield.

The draft Bill's plan was that no player would be allowed to grab more than 45 per cent market share. While this was more liberal than the current rules, it would still not have allowed any big mergers and it would have prevented lots of smaller deals.

Ms Jowell told a media conference in London yesterday that the Government had listened to the radio industry and it would allow a single operator to take 55 per cent market share in an area, thereby accepting the sector's "two plus the BBC" argument. The announcement was a slap in the face for the regulator, the Radio Authority, which had insisted that "three plus the BBC" was as far we the Government should go.

So will Tessa Jowell's change of position see radio companies rushing to jump into bed with each other? Who will be the first to tie the knot?

The big three companies, Capital, Emap and GWR have 70 per cent of the market. Analysts at Investec Securities predict that by 2005, 90 per cent of the market will be held by whoever is in the top three groups by then, at least one of which will come from another media sector, such as newspapers, or will be a foreign company.

The second-tier radio companies, are Scottish Radio Holdings and two mini media conglomerates, Chrysalis, owner of the fast-growing Heart stations, and SMG, which has Virgin Radio.

The focus of merger speculation tends to turn first to Capital Radio, because it is a pure radio player, unlike Emap, and because it has institutional shareholders. Some of its rivals have non-institutional shareholders, who may well block a takeover bid: notably GWR, in which Daily Mail & General Trust is a large shareholder, and Chrysalis, in which the chairman, Chris Wright, has a 28 per cent stake.

Reporting full-year results, Capital's David Mansfield said: "The advantage we have is that our shareholders own our stock for one reason. That's radio. They understand the story. [Deals] are not a strategic issue for our shareholders, but a valuation issue. [But] I don't anticipate a big bang moment [for consolidation]. It's very difficult to find anyone who's a willing seller of assets."

However, it seems just as likely that Capital will be the prey as the predator. This is because its cash firepower is limited to about £70m and it is an open question whether others would accept Capital paper.

Capital is clearly still feeling the heat. It reported pre-tax profits almost halved to £14.6m in the year ended September, and revealed that advertising for October and November was likely to be down 8 per cent.

Emap is a much bigger company and while it is criticised for not providing a pure radio investment, the strong cash flow from its other media interests, mostly magazines, could finance a cash acquisition. Alternatively, it may spin off its radio assets, in order to exploit the higher stock market rating given to pure radio groups.

Richard Menzies-Gow, an analyst at Dresdner Kleinwort Wasserstein, said: "There are real tangible benefits to consolidation in radio. You can just strip out most of the costs.... Emap has more bulk and firepower than the others."

A Capital-Emap merger has industrial logic but this would raise competition concerns in the London market, because it would bring together Capital FM and Emap's Kiss 100. This highlights the other and remaining regulatory concern for radio companies ­ even if the law allows more consolidation, deals must still get past the competition authorities. Capital, for instance, has 50 per cent of radio advertising in London.

Paul Gooden, an analyst at Morgan Stanley said: "No one has a clue how the competition rules will now be interpreted [after the Bill]. That's what's causing confusion."

Ofcom, the new media regulator, is to take on many of the competition decisions for the sector that would formerly have been handled by the Office of Fair Trading.

Tim Schoonmaker, the chief executive of Emap's broadcast businesses, said: "How will Ofcom behave as a competition regulator? The last time the OFT looked at a radio deal [Capital's attempt to buy Virgin] they turned it down, even though it was within the [ownership] rules."

It is likely that DMGT will swallow GWR. DMGT could even have a pop at Capital. Chrysalis may sell its non-radio business, making it a tempting target, for Capital Radio, for instance. Virgin Radio and Scottish Radio Holdings will probably get swallowed up by others.

Then there are the famed big boys from the US, such as Viacom and Clear Channel, who will be allowed to buy British radio assets once the Communications Bill becomes law. It is possible that some of the consolidation moves will seek to pre-empt the Bill receiving royal assent, which could take up to a year, but it seems likely that the pulse-racing major transactions are some way off.

Deals for individual stations are much more likely in the short term. But, no doubt the investment bankers got to work on scenarios yesterday. Investors should keep listening.