Mark Fowler: Darkening days ahead for Sky TV

Sky TV has more levers to pull than many give it credit for, but it must first address the issue of customer churn. Last month Sky TV announced (to rather limited fanfare) it would be making changes to its basic tiered pricing model — splitting the current basic offer into two tranches, and effectively offering new subscribers cheaper access to sports content.

This prompted many to ask: is this the last dance of the desperate, in an effort to address subscriber erosion? Or, is this a case of Sky TV's management being more innovative around changing consumer needs?

To my mind, the truth lies somewhere in between.

The market reaction, however, has been resoundingly negative — with shares trading approximately 15 per cent lower in the wake of the announcement.

Equity holders have focused on the dividend cut, with Sky's management advising a reduction to 7.5c per share, from 12.5c per share in the previous period.

Speculation is also mounting around BlackRock's 13.2 per cent stake in Sky TV — with the AFR suggesting equities desks on both sides of the Tasman have approached BlackRock, testing the opportunity for a potential sell-down. With Sky TV included in a number of select dividend indexes offshore, its decision to cut the dividend may threaten ongoing inclusion in these Exchange Traded Funds.

Ironically, the change is a positive one for senior bond-holders, with management prioritising the balance sheet — even though pricing for bonds is essentially unchanged.

On the face of it, Sky TV is still a highly cash-generative business, having reported $66.7 million of net profit after tax for the first half of 2018. It has enviable market penetration, and has displayed operational efficiencies around reducing costs. It's important to note that as these types of businesses mature they do tend to become more profitable.

So how do you forecast future revenue when so much seems premised around Sky TV "shoring" up content (namely sport) in a highly competitive environment? Markets don't like uncertainty, and the share price reflects that.

I believe Sky TV has more levers to pull than many give it credit for, but it must first address the issue of customer churn and the need to deliver more content on demand, based on viewer's preferences.

Sky's UK counterpart has signed a deal with Netflix which will see the video-on-demand service offered via its new Sky Q set-top box — and articles talk of Sky NZ following suit.

For now, all Sky's eggs seem to be in one sporting basket — and the market pricing of the equity reflects that this is not sustainable.

The debt looks more than manageable while the status quo remains, with a somewhat "scorched earth" outcome needed to see stress in bonds.

So is the Sky falling in?

Not just yet, but storm clouds are on the horizon.

• Mark Fowler is head of portfolio strategy group & fixed income at Hobson Wealth Partners.