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Cable Operators

Cable's Triple Play Keeps Heat on DBS

4/27/2007 8:00 PM Eastern

Declining subscriber growth at the two largest direct broadcast satellite service providers — DirecTV Group and EchoStar Communications — is expected to continue in the first quarter, according to Sanford Bernstein cable and satellite analyst Craig Moffett. The decline comes as both companies battle cable's triple-play package of voice, video and high-speed data and an increasingly disconnected relationship with telephone companies.

DirecTV is scheduled to release its first-quarter earnings on May 9. EchoStar is expected to release its first-quarter results on May 10.

Satellite Snapshot
Estimates of key financial benchmarks in the first quarter of 2007.
DirecTV EchoStar
Source: Sanford Bernstein estimates
Revenue $3.95 billion $2.69 billion
EBITDA $919 million $703 million
Churn 1.53% 1.52%
Average Monthly Customer Revenue $74.03 $65.07
Net New Subscriber Additions 211,000 226,000
Subscriber Acquisition Costs $663 $702

DECLINES IN ADDS

Net new subscriber additions have been on the decline for about two years for both companies. According to Moffett's April 20 report subscriber growth has dipped from a high of 14.4% in the first quarter of 2005 to an estimated 5% in the first quarter of 2007 for DirecTV. For EchoStar, Moffett wrote that net new additions fell from a peak of 15.7% during the fourth quarter of 2004 to an estimated 8.7% in the first quarter of 2007.

And despite relatively strong subscriber gains through their resale agreements with telephone companies like AT&T, Moffett said that as the telcos begin to roll out their own video offerings, the numbers should decline.

According to Moffett, AT&T added about 170,000 DBS customers in the first quarter of 2007 (versus 110,000 additions in the fourth quarter of 2006).

“But it is far too early to suggest that DBS has 'weathered the storm' of cable's triple play,” Moffett wrote. Cable's triple-play footprint is expected to expand by 50% this year and evidence suggests that cable phone penetration doesn't peak until the third year of availability in a given market. Moffett expects cable phone subscriber gains will nearly double in 2008 and basic-subscriber growth — bolstered by the triple play — won't peak until one year later.

“Said differently, the impact of cable's triple play has barely been felt,” Moffett wrote.

Moffett added that two separate issues may dog the stocks in the coming quarter: retention marketing costs and capital spending for DirecTV and average revenue per unit for EchoStar.

According to Moffett, retention marketing — those marketing dollars spent to keep existing customers on the rolls — could climb 29% in the first quarter at DirecTV to $449 million, or about $9.38 per subscriber per month.

Driving that increase will be DirecTV's push for HDTV services, Moffett said. DirecTV has been heavily advertising its planned rollout of about 100 HD channels, over three times what any cable or satellite company currently has, by the end of the year. Add to that rising sales of HDTV sets — electronics retailers reported blow-out Holiday sales of high-definition gear, which did not abate until February — and Moffett estimates that DirecTV likely handled record demand for HD installs in the first quarter.

While that should translate into subscriber growth, it also could mean higher equipment costs. Moffett estimates each HD install requires a new dish (priced at $75), $125 or more to reinstall and reaim the dish, as well as a new HD set-top box.

High-definition and digital video recorder penetration levels are relatively light at DirecTV — less than 15% and 25% respectively in 2006 — and the company stated on its fourth-quarter conference call with analysts that it is focusing on upgrading existing customers to advanced services.

“But given the low starting points, reaching the high penetration levels commensurate with their stated strategy is therefore an expensive proposition,” Moffett wrote.

At EchoStar, efforts to keep pricing low — it announced relatively small pricing increases in 2007, keeping its introductory $30 price point in place but is raising rates for higher-end packages and HDTV — and heavy discounting to new customers could come back to haunt the company.

DISCOUNTED DISH

According to Moffett, since January, EchoStar, which still has higher average revenue per unit than any cable operator except Cablevision Systems, has promoted a $10 per month discount for every service tier for 10 months, dropping the price of its basic service to $19.99 per month and slashing its newly announced $20 HD service to $10.99 per month.

Lower ARPU shouldn't be a factor for EchoStar in the first quarter — Moffett actually predicts a 8.6% rise in first quarter ARPU to $65.07 from $59.93 in the same period in 2006 — but could play a major role in the full year. At an estimated 1 million gross subscriber additions per quarter, many of whom will come in through promotional offerings, Moffett estimates that ARPU could be $3 lower by the end of the year.

September