Storm clouds gather on Sky's horizon

The brand that changed British television faces a tumultuous year of internal rows and rivals poised to take its laurels. Mark Leftly reports

A major new competitor on the verge of launching. A chairman who is considered a pariah by both politicians and the public. Outdated infrastructure that badly needs investment.

A share price in freefall. Super-rich rivals eyeing up the star asset.

This is not a good time to be BSkyB, the satellite broadcaster that has transformed television since it was formed the best part of quarter of a century ago. This week investors will pore over the group's interim results, looking for clues as to how BSkyB will attempt to surmount the unprecedented obstacles the pay TV-to-internet service provider now faces.

On the face of it, BSkyB remains a media phenomenon. For example, analysts at UBS forecast that revenue will be £6.93bn for the first half of the company's financial year, up around £335m on the same period last year, and with 10.3 million subscribers the group's satellite dishes have become a feature of the British landscape as it bought the rights to big US shows including Mad Men, starring Christine Hendricks, right.

Even investors angered when Rupert Murdoch's News Corp bid to buy the 60 per cent of BSkyB it did not own collapsed in the wake of the phone hacking scandal last year have been appeased. James Murdoch survived as chairman after the group announced a package of share buybacks and dividend hikes worth around £1bn.

Empires rarely last. Just this month, Netflix, a US group that streams films to games consoles and mobile phones, started in the UK to take on the similar Sky Go service. Netflix's chief executive, Reed Hastings, has already said subscriber growth has been better than expected and that within a few years it will be able to outbid Sky for deals with major film studios.

However, Sky's major concern is YouView, a video-on-demand tie-up between a number of broadcasters, including the BBC and ITV, and communications companies, most notably BT. This is expected to be launched in May in good time for the Oly mpics. It is essentially a supercharged update of Freeview.

Not only will there be a host of free, high-definition channels, but also internet connection and the ability to rewind and record programmes. What's more, YouView customers will be able to get Sky Sports. Better still, as that is an individual subscription rather than part of a larger package, it is expected that they will pay maybe only one-third the price of a BSkyB customer who shells out around £60-a-month.

"YouView looks like it could take some good share of Sky's market," argues one fund manager who recently sold his stake in BSkyB. "There's Freeview, a hard drive, catch-up TV and football if you want it. All that for maybe £20 a month."

One leading media analyst says he wants to see a clear strategy from Sky next week as to how it will take on YouView, as by increasing free content significantly it will be a major challenge to the pay-TV business model.

The analyst also points out the significance of BT being part of the team behind YouView. The telecoms giant is challenging Sky on several fronts, including broadband.

At present, BT and Virgin Media controls about 50 per cent of broadband infrastructure and both are aggressively marketing moves from traditional copper to superfast fibre wiring. "The cost of fibre to Sky is about double that of copper," says the analyst. "Sky has to buy fibre wholesale from BT."

These costs would almost inevitably be passed on to Sky's customers, potentially freezing the group out of the broadband market. However, analysts at Numis believe that a less costly deal between the two FTSE 100 powerhouses could be struck, as Sky customers who also want superfast broadband are more likely to switch to Virgin Media, which has a comparable entertainment package, than BT Vision should costs rise.

Either way though, Sky must invest in its online infrastructure, which one potential investor says is cause for concern: "The trouble for BSkyB is that, historically, the stock has struggled when investment has gone up. The share price increases when capital expenditure falls as a percentage of sales."

Investors saw 25 per cent wiped off the value of their stock last summer, plus more recent falls following a mini-recovery. This leaves Murdoch junior, who resigned from the GlaxoSmithKline board on Friday, and lost his personal spin doctor, Matthew Anderson, in a quandary. Sky badly needs to invest, but doing so could lead to further falls that could cost him his job – after all, one-in-five shareholders voted against his reappointment in November, even after the £1bn of sweeteners.

To make matters worse, it appears that Murdoch does not have the same level of support among senior Sky executives as he did just two months ago. Since then, City heavyweight Allan Leighton and long-time director David Evans have stood down from the board.

The biggest problem, though, has little to do with the boardroom. At the end of this football season, the three-yearly English Premier League rights auction comes back up for renewal. This is rightly considered the jewel in Sky's crown, the company's dominance such that the Premier League is now split up into six live rights packages. Sky is not allowed to own all of them, but still has five of the current packages to ESPN's one.

The latest auction, the winners of which would have the rights from the start of the 2013-14 season, is attracting interest from some seriously wealthy overseas rivals. Al-Jazeera, the Qatar-owned broadcaster, and Apple, which would look to stream matches live online, are reported to be considering bids.

This duo would have the firepower to outbid Sky, with The Football Association expecting as much as 15-20 per cent more than the £1.6bn the satellite operator coughed up last time around. Research Nomura goes as far as to state that "football is the real unknown" among the plethora of problems Sky faces, though, in truth, most expect that the longstanding relationship with the Premier League means that it will win out in the end.

As one City source argues, even if Al-Jazeera or Apple were to win, they would still have to go through Sky to broadcast most of the games if they wanted to maximise viewing numbers. Certainly, the FA would be more comfortable with a partner that has access to more than 10 million homes.

The real worry is the auction after this one. "Three years from now we'll all be sitting at home with superfast fibre broadband," says the source. "Then, Al-Jazeera would have a way to broadcast the games."

Sky has a perfect storm of problems on the horizon. If the board finds a way past those later this year, it will then have to ready itself for even fiercer competition from overseas.

From Bart to Bruno

Key steps in a TV revolution

The rise of sky BSkyB introduced Britain to The Simpsons which still pulls in 500,000 viewers for each new episode; Sky really took off in 1992 when it snapped up the rights to show Premier League football with stars such as Eric Cantona in 1996, the pay-per-view concept was imported from the US for Frank Bruno's world heavyweight title clash with Mike Tyson.

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