Murdoch's `Cosmic Armada': Pie In The Sky?

Rupert Murdoch's botched deal with EchoStar suddenly throws his global strategy into question

Call him the mogul who fell to earth. Just weeks ago, News Corp. executives were calling Chairman Rupert Murdoch's fleet of satellites a "cosmic armada." The military allusion declared Murdoch's intent: This was a campaign to control television across four continents. When Murdoch kick-started his invasion of the U.S. direct-broadcast satellite (DBS) market in late February with an announced $1 billion acquisition of 49% of EchoStar Communications Corp., he adopted the stance of an invincible conqueror surveying a new colony. Murdoch's top satellite executive, Preston Padden, joked that Sky, their DBS service, would leave U.S. cable companies suicidal and "calling for Dr. Kevorkian."

Since then, much has gone wrong. So much, in fact, that Murdoch may end up grabbing little more than a token presence in the crucial U.S. DBS market. Sky's goal to be up and beaming local signals by early 1998 appears doomed. News Corp.'s stock is trading nearly 20% below where it was six months ago, as investors signal that his grand satellite scheme is too risky. A quick regulatory fix that Murdoch needed to get his 500-channel Sky operating didn't materialize. Broadcasters, whose local signals Murdoch had counted on getting for free, were unexpectedly cool to his plan. Padden abruptly quit. Although News Corp. stubbornly maintained it would cost only $3 billion to bankroll Sky--"Paying for it is easy," said Chief Financial Officer David DeVoe--others in the industry suggested a likely figure was more than $7 billion.

EchoStar Chief Executive Charles Ergen balked, too, convinced that Murdoch wouldn't keep a promise to let him run Sky. It's possible that Murdoch engineered the blowup, as it became clear that clouds were gathering over Sky's prospects. Indeed, Murdoch has long had a reputation as a difficult partner. "We were naive," declares Ergen. "EchoStar was a pawn in a much larger game." Although Ergen is suing News Corp. and may have reason to question Murdoch's resolve, he maintains that his erstwhile partner "just decided the fight against cable wasn't worth it [and] lost his enthusiasm for DBS." Murdoch declined to comment.

"HUGE GAMBLE." News Corp.'s relationship with EchoStar had apparently disintegrated beyond repair by May 9, when Ergen slapped News Corp. with a $5 billion suit for breach of contract. Ergen is now looking for another partner. Meanwhile, industry sources say, Murdoch has tried to strike a deal with Primestar Partners, a DBS concern owned by U.S. cable companies, but archenemy Time Warner Inc. may never let him join. "He took a huge gamble," says C. Michael Armstrong, CEO of Hughes Electronics Corp., whose

DirecTV Inc. is the largest U.S. DBS company. "He made the investment before any of the questions were answered. That sort of uncertainty is inimical to good investing."

Is Murdoch permanently grounded in the U.S.? Clearly, losing EchoStar is a huge blow, and not having satellites over the U.S. leaves a gaping hole in his half-constructed global satellite network. But Murdoch could use his American Sky Broadcasting satellite slot to eventually launch a service similar to DirecTV. Alone, that would be hugely expensive, and ASkyB would be perhaps fatally late to market. "We are at a point where we have to make some decisions about how we intend to proceed," says News Corp. co-Chief Operating Officer Chase Carey. But the U.S. "is a market with great potential, and we intend to be a part of it." Though Murdoch may be scrambling to find a new strategy in the U.S., no one is willing to conclude that the wily mogul is out of the game. "I would simply not count Murdoch out of anything, prima facie," notes Lazard Frres & Co. media investment banker Steve Rattner.

How could Murdoch's plan to establish himself as the titan of the Information Age, ruling atop a seamless satellite network that would beam TV content around the globe, disintegrate so quickly? Murdoch had used bravado and bluster in the U.S. to give Sky an aura of inevitability, and he apparently counted on his would-be enemies not mounting an effective counterattack.

But Murdoch's Sky wasn't done in by a lone enemy. It suffered easily a dozen serious blows from disparate quarters. To win widespread consumer acceptance for Sky, particularly among dissatisfied cable customers, Murdoch planned to use spot-beam technology to deliver 500 channels and critically important local stations to subscribers. To do so, Sky needed the capacity of the satellites controlled by EchoStar plus the satellite slot Murdoch still controls through his ASkyB partnership with MCI Communications Corp. But a federal court ruled in late April that no one company should control so many satellites.

And though he is often credited with adroit manipulation of politicians from Tel Aviv to Albany, Murdoch misread Capitol Hill this time. He had hoped to get a complicated reworking of U.S. copyright law tacked on to an appropriations bill that would have let his system carry local broadcasts. But the changes were so controversial that the copyright law now won't be changed without lengthy hearings. Also, ASkyB partner MCI's pending acquisition by British Telecommunications PLC stirred up momentum in Washington to restrict foreign ownership of U.S. satellites.

Murdoch was also frustrated by his inability to lure a local phone company to be a partner in Sky. Without a local partner in place, Sky lacked even the bare beginnings of a sales force or back-office operation. Murdoch was offering around 15% to 20% of Sky's revenues, industry sources say, but no phone company took the bait. News Corp. declines to comment, but clearly Murdoch wasn't leaving himself much financial maneuvering room.

Such sweet terms show just how eager Murdoch was to get Sky off the ground in the U.S. and complete his global satellite network. It would have given News Corp., primarily a content company, the power to distribute its programs wherever it liked. For years, Murdoch has been frustrated by an inability to get carriage for his programming on other companies' distribution systems, especially on cable systems in the U.S.

A GEM. Murdoch's love of satellites springs from British Sky Broadcasting Ltd., the world's largest DBS service, with 6.1 million customers. Although BSkyB nearly bankrupted News Corp. several years ago, it's now a gem of a business. Murdoch's 40% stake of separately traded BSkyB has a market value of more than $6 billion, which is more than 40% of the market value of all of News Corp. Indeed, the market is deeply undervaluing News Corp.'s other assets (table, page 153). "BSkyB is one of the best businesses I've ever seen," notes State Street Research portfolio manager Larry Haverty. It is a model Murdoch hopes to replicate.

That may be impossible. The conditions that made BSkyB such a prize--Murdoch's cozy relationship with Britain's political Establishment, coupled with BSkyB's monopoly position in an underserved market--may be unique. Indeed, in every market except Britain, the challenges he faces to get his satellites up and profitable are breathtakingly difficult.

Even before the EchoStar fiasco, Murdoch had been struggling with a string of setbacks in almost every corner of his far-flung satellite empire. Consider Murdoch's plight in India, where he is spending $3.4 billion on India Sky Broadcasting. Gary Davey, CEO of Star TV, says ISkyB, with 40 channels, is "the most important development in the history of Indian broadcasting."

Well, maybe it will be--once Indians can watch it. Shortly before the planned April launch of ISkyB, the government abruptly decreed it illegal for anyone to own a DBS satellite dish without getting a government license. The government has not yet said where consumers might acquire such a license, and Indian customs impounded all the decoder boxes, anyway. "The government can delay until doomsday, and everyone will be in a state of limbo," says Indian media consultant Iqbal Malhotra, who once advised Murdoch. "This is his Waterloo."

In Japan, a potentially huge market with 42 million TV households, Murdoch and partner Softbank Corp. stumbled badly when they tried to barge into the closed, elite world of Japanese media.

Last June, as they formed JSkyB, Murdoch and Softbank Chairman Masayoshi Son announced they had also acquired 21.4% of TV Asahi, a Japanese network. The move was seen as a hostile attempt to get a lock on TV Asahi's programming for JSkyB. It generated a terrible backlash, and it became clear Asahi wouldn't cooperate with JSkyB. Murdoch and Son eventually sold back their Asahi stake. Then, in an apparent effort to mend fences, JSkyB brought in Sony Corp. as an equal partner. It also signed up Japan's Fuji Television, which will likely provide badly needed local content.

But Murdoch is late to market. Japanese-owned PerfecTV, with 70 channels, has attracted 235,000 subscribers since it was launched last October. DirecTV Japan plans to open this fall with 100 channels. JSkyB was to start operations in April with just nine digital channels, including Fox News, Star movies, and Sky Sports, but even that limited offering was delayed until July.

NO TAKERS. Then there's Murdoch's plight in Continental Europe. He has failed to strike deals in France, Germany, and Italy. A recent deal with Germany's Kirch Group recently dissolved--also over control issues. In Latin America, Murdoch has strong local partners, but trailed DirecTV to market there as well.

Perhaps Murdoch's most surprising trouble has been in Indonesia. Indovision seemed to have a lot going for it when it was launched in 1994 as a state-sanctioned monopoly. Initially, it was managed not directly by News Corp. but by a well-connected local partner. But Indovision flopped. At the end of 1996, it had only 20,000 subscribers, far short of expectations.

The problem? Pick one. "The programs were relatively painful" to watch, and the service offered only five channels, admits David Dennis, a News Corp. executive who took over as CEO of Indovision in 1995. On Mar. 1, Indovision started broadcasting 19 more digital channels and plans 40 when it gets a new satellite. But a reputation for bad service, high prices, few channels, and installation problems has left Indonesians leery, says a Jakarta advertising executive. "People have been pissed off," he says. "[Many] had dishes that didn't work. Now, [Indovision wants] everyone to buy new digital equipment."

Murdoch's biggest headache has been Star TV. Four years after Murdoch took control, Star has little revenue from China, a key market. Until Star is fully blessed by the Chinese government, Murdoch can't charge subscriber fees for premium service. And since there is no reliable way of measuring how many people in China are watching Sky, Murdoch's ability to attract advertising revenue is limited.

Murdoch is still making amends for remarks critical of totalitarian regimes that he made in a London speech in 1993. After the speech, Beijing essentially declared China closed to Star. Given these difficulties and the increased programming costs as it develops more local programs across the region, Star is spending some $250 million a year, says News Corp.'s DeVoe, and is taking in only $150 million in revenues, mostly from advertising.

To gain access to China, Murdoch has spent years courting Beijing. He pulled the BBC off Star, perhaps because the Chinese government sees it as hostile and pro-British. In March, 1996, Murdoch took a 45% stake in Phoenix Satellite Television Co., teaming up with two Hong Kong companies that have ties to mainland China. Phoenix is airing such government-friendly fare as a recent 12-hour Deng Xiaoping biography. One sign of the improving relations is a planned three-day joint broadcast by Phoenix and Chinese state television of Hong Kong's transfer to Chinese control. Says Star CEO Davey: "We've been able to reestablish very positive relationships in China through Phoenix."

TENACITY. Murdoch's willingness to slog through years of losses and slow progress in these markets makes it hard to dismiss him, even in the U.S. News Corp. executives insist they are prepared to suffer through many such setbacks as they carry out Murdoch's long-term vision of a global satellite network. "These markets have to be developed," says Carey. "To say that there are not going to be bumps in the road would be naive."

In the U.S. Murdoch could try to forge ahead with ASkyB, which could launch a service similar to the one offered by DirecTV. But even the ASkyB relationship may not be stable. MCI paid $682 million to buy a coveted orbital slot for ASkyB and invested $1.3 billion in News Corp. On the other hand, News Corp. has invested less than $200 million to date in the venture. Now that it is being acquired by British Telecom, MCI is negotiating to reduce its stake in ASkyB from 50% to about 20%, and it may be unwilling to sink more capital in a stand-alone ASkyB.

But Murdoch has more at stake than just peddling satellite dishes. The chief purpose of his satellites has always been to guarantee that he has an outlet for his programming. Through his Twentieth Century Fox Film Corp., his Fox TV network, and such cable networks as Fox News, Fox Sports, and fX, Murdoch is committed to snaring as many viewers as possible for his programs. With his own distribution network, Murdoch has the ability to spread the cost of his own programming across potentially hundreds of millions of customers.

Even the turmoil in his satellite empire isn't slowing Murdoch down elsewhere in News Corp. He's still making acquisitions, recently paying $1.7 billion for supermarket-coupon outfit Heritage Media Corp. and pondering a $1.4 billion deal to buy the Family Channel. He's also negotiating to buy the Los Angeles Dodgers baseball franchise for about $350 million, and he will very likely pay $1 billion for the 50% of the Fox Sports cable network that he doesn't already own. "Some people feel there are too many things being chased," says Montgomery Securities media analyst John Tinker. "When is enough enough?"

For Murdoch, never. The number of major battles he is willing to fight as he expands his media empire may be unlimited. Ever the chameleon, Murdoch shifts his corporate and financial structure and trades in his partnerships--seemingly without a second thought--until he hits upon a combination that he thinks gets him closer to his goal.

Murdoch's plan to gird the globe with his satellites was a compelling and brilliant gambit that seemed to flout all existing laws of commerce--regulatory hurdles, political barriers, financial constraints. Even now, departed satellite chief Preston Padden says it would have worked if the relationship with Ergen hadn't disintegrated: "There's no doubt in my mind that if the business deal [had held], the power of the idea would ultimately have prevailed."

Up in orbit, 22,300 miles above the messy heave of the business world, Murdoch's satellites would have escaped the pull of gravity. But Murdoch's overconfidence in his plans for Sky blinded him to the forces that eventually brought it crashing down. Perhaps his own executives doomed Sky early on, when they called the fleet of satellites Murdoch's "cosmic armada." The Spanish Armada was a fearsome force, to be sure. But it sank.

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