Media

Leila Abboud is a Bloomberg Gadfly columnist covering technology. She previously worked for Reuters and the Wall Street Journal.

Chris Hughes is a Bloomberg Gadfly columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

Sky has begun to look like a Brexit bargain.

The shares are down 21 percent from the 15-year high they touched in 2015. Adjust for weaker sterling, and the group is 34 percent cheaper in dollar terms than it was 14 months ago.

Overcast Sky
The shares are lagging the European media index over concerns over content rights inflation
Source: Bloomberg

So now might look like an opportune moment for Rupert Murdoch's 21st Century Fox to buy out the 61 percent of Sky it doesn’t already own. Indeed, the stock clawed back some of those losses last week amid vague speculation of an offer. If only it were so easy.

The dwindling stock price is in part due to concern Sky is too reliant on increasingly costly sports content (such as the English Premier League) to stop customers defecting to the likes of Netflix.

Sporting Numbers
Soaring content costs have crimped Sky's profit, even as revenue has grown steadily
Source: Bloomberg

Sky is doing smart things to win and retain viewers -- like introducing its budget Now TV brand and premium SkyQ service -- and operating profit is forecast to jump in the next two years. But right now, the company is running hard to stand still: revenue per user is stagnant.

Running to Stand Still
Sky has had to cut prices to attract customers unwilling to pay for traditional pay-TV
Source: Bloomberg Intelligence

For Fox, the immediate financial benefits of moving to full ownership would be small. There's little scope for cutting cost by stripping overlaps. Analysts see some small tax savings, and Fox’s shares might get extra credit for owning all of Sky instead of 39 percent. And while there’s no obvious legal bar to a transaction, a bid would create a political stink -- just as when Murdoch tried buying out Sky in 2010.

So why bother? Simple. Sky would make Murdoch's TV empire truly global. Plus, Sky is his baby -- the billionaire bet heavily on its fledgling technology in the 1980s and 1990s.

The appetite to regain control is there. Murdoch’s son James, who is CEO at Fox and chairman at Sky, recently said partial ownership is not "a natural end state.”

The only question is price. Limited scope for cost-cutting, combined with the fact that Fox already has a stake and faces little risk of an auction, would theoretically only justify a small premium in any offer. A bid at 20 percent more than Sky's undisturbed share price would come to a neat 10 pounds a share.

A deal at that price would be great for Fox. It would cost an affordable $13.6 billion, leaving indebtedness at a comfortable level. The return on investment in 2018 would be just below Sky’s 6 percent cost of capital, but surpass it the year after, Gadfly estimates.

The reality looks different. Sky’s investors would want at least last year’s 15-year-high of 11.41 pounds -- especially given many analysts have price targets of between 10 and 14 pounds for the stock.

They'd have a strong hand. A bid at, say, 13 pounds would deliver acceptable returns for Fox’s shareholders -- but it would take a few extra years to for these to materialise.

Murdoch won't bag Sky at a bargain price unless the U.K. broadcaster suffers a crisis. The depressed share price would enable Fox to start bidding at a lower level than last year. It doesn’t greatly change where Fox would need to end up.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the authors of this story:
Leila Abboud in Paris at labboud@bloomberg.net
Chris Hughes in London at chughes89@bloomberg.net

To contact the editor responsible for this story:
Edward Evans at eevans3@bloomberg.net