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The Sydney Morning Herald
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May 18, 2013
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Analysts say the split into two divisions may lead to a re-rating of the embattled publishing business.
Analysis
‘Goal!” was the ecstatic tweet from Rupert Murdoch just before Australia Day this year when the British arm of his empire secured the mobile and internet highlights for English Premier League football matches at an annual cost of £30 million ($45.7 million).
Not for the first time exclusive sports rights will play a significant role in the group.
But in a rewrite of his usual playbook, it will be defending his beloved print division, which will be spun off next month – away from the protective embrace of what is now a vastly more profitable entertainment division encompassing pay TV, broadcast and film.
Scoop: News Corp’s British arm has secured the mobile and internet highlights for Premier League. Photo: Getty Images
News Corp is a long way from the days when the cash flow from its newspapers funded the broadcast expansion that made the company what it is today.
The impending split means it can no longer support massive losses on some of its print titles by ignoring costs and offering content from its most popular mastheads free online.
The profitability of The Sun is sinking while The Times and Sunday Times lose an estimated £50 million a year.
Not that losses are a recent occurrence for The Times. It has never recorded a profit in more than 30 years of News Corp ownership.
This week, the colourful Australian editor of the New York Post, Col Allan, broke the news to staff that 10 per cent of them would be made redundant to stem losses estimated at more than $100 million annually.
”This restructuring is at the heart of our strategy to better secure our future as we navigate the difficult journey as a print/digital/media business,” staff were told in an internal memo.
In Australia, the size of News Corp’s newspaper operation only served to ensure that it has been highlighted in the company’s most recent results as a significant drag on overall group profits.
Not even the might of cable, which provides 70 per cent of group earnings and strong growth, could hide the poor performance of just this part of Murdoch’s publishing empire.
Last week’s third-quarter result showed that $US227 million of restructuring charges were ”primarily related to the restructure of the Australian newspaper business” announced at the end of the previous financial year, and the continued reorganisation of the British newspaper business.
This does not include the damage from the phone-hacking scandal in Britain, where costs are closing on the $400 million mark, according to News Corp’s accounts.
The legal ramifications of the phone-hacking scandal still represent an unknown. While the new News Corp is indemnified for any civil charges from the scandal, it will be liable for any criminal charges.
This is what made keeping News Corp intact an untenable proposition even for Murdoch.
”We believe that the publishing unit has outlived its usefulness as a cash cow, because in our opinion the poor growth prospects for the unit are serving as a valuation headwind on the combined enterprise,” Saibus Research said after News Corp’s third-quarter earnings result.
Not that Murdoch would give much importance to such a view.
When the split was announced, he told staff in a memo: ”Over the years, I have become accustomed to the noise of critics and naysayers … and pretty thick-skinned! Remember what they said when we started the Fox Network, Sky, Fox News and The Sun? These experiences have made me more resilient. And they should you, as well.”
News Corp is counting on its content to build subscription revenues and stem the flow of red ink from its newspapers as readers head online and print revenues dry up.
Its British unit announced this week it would be introducing a pay wall at The Sun, asking £2 a week from subscribers who will get access to Premier League highlights that will otherwise be available only to subscribers at sister publications, The Times and Sunday Times.
Earlier this month, News Corp announced its Sydney tabloid The Daily Telegraph would put up a paywall, with sports-related sweeteners from its Fox Sports Australia business. There will be a similar AFL-flavoured offer to the Herald Sun readers in a reworking of its digital subscription offer.
Don’t believe for a second that Murdoch has abandoned his beloved print empire.
For starters, he will remain executive chairman of the new group as well as chief executive and chairman of the Fox business, despite continued attempts by some investors to loosen his control as an investor and executive.
Investors will receive securities in the new News Corp that mirror the current company’s structure with A and B class shares.
This dual tier structure ensures the Murdoch family continues to control both companies after the split, with 39.4 per cent of the voting stock, despite owning just 12 per cent of the company.
But the dirty little secret of the split into so-called entertainment and publishing arms is that the publishing business – which will retain the News Corp name – will have a surprising amount in common with its high-profile sibling, 21st Century Fox.
Traditional newspaper businesses, which also include The Australian and The Wall Street Journal, will make up only a third of the new group’s value, analysts say.
Pressure from investors may have forced Murdoch to hive off the more lucrative international film, network, satellite and cable television assets, but they did not bite when it came to antipodean gems such as the company’s stake in realestate.com.au, or what is now full-ownership of Fox Sports Australia and a half share in Foxtel.
The pay TV assets alone, with a combined valuation about $4 billion, are reckoned to be worth more than the entire newspaper business.
Keep in mind that the publishing business includes The Wall Street Journal/Dow Jones, which News Corp paid $US5.5 billion for in 2007.
On top of this is the $2.6 billion cash balance and the $2.7 billion valuation of News Corp’s stake in realestate.com.au.
All up, News Corp says the publishing spin-off will have $18.6 billion worth of assets, including the cash.
This may be why Murdoch was so typically bullish at the announcement of the split nearly a year ago.
“Our publishing businesses are greatly undervalued by the sceptics,” he said in his staff memo last year. ”Through this transformation we will unleash their real potential, and be able to better articulate the true value they hold for shareholders.”
But will it be enough to counterbalance the challenged newspaper business and keep faith with investors in the new News Corp?
The news so far is good.
The stock has risen almost 70 per cent since Murdoch announced the split, and analysts see more upside for both businesses.
Credit Suisse analyst Samantha Carleton says that while the driving factor behind the split appears to have been the desire to unlock value within Fox Group’s cable business, she believes the ”new media” assets in the new News Corp will benefit from the additional scrutiny afforded them.
”There is significant scope for a re-rating of new News Corp away from a presumed publishing multiple as investors become more familiar with the high-growth assets contained within the new company [Fox Sports Australia, Foxtel, realestate.com.au],” she says.
But analysts are having a harder time pinning a valuation on the new group.
Nomura has valued the spin-off at as little as $2 a share, Credit Suisse has a price target of $5.50, and Bank of America Merrill Lynch tops the tables with a valuation of $5.60.
It may add to the volatility of the stock when it begins trading, with many expecting US investors to dump the re-minted News Corp and keep their Fox shares.
Analysts expect the Fox shares to be driven by an expansion of the earnings multiple on which the new stock will trade, as investors focus on the company’s high-growth assets without the distraction of the publishing business.
The stock is already being
re-rated on this basis now.
Bank of America Merrill Lynch’s $39 share price valuation is nearly double what News Corp shares were worth this time last year.
Investors are enthusiastic as well.
”There’s a bright future for both on the split,” Ausbil Dexia’s Paul Xiradis says.
He says the investment group has been keen followers of News Corp for some time and describes the holding as ”one of our most overweight positions”.
”We thought it was undervalued and one of the reasons was international investors were not investing in the stock due to the print assets, and there was obviously concerns about what happened in the UK,” he says.
The strong Australian flavour of the new News Corp is expected to be attractive to local investors, and Xiradis sees the traditional media assets as part of the appeal.
”I think the expectations are pretty low for earnings, and I think that’s the attraction,” he says of the publishing business. Valuations tend to be low and ”that’s where the upside is”.
But Neil Boyd-Clark, of Arnhem Investment Management, does not agree and may buck the expected trend of US investors going for Fox and Australian investors concentrating on the new entity.
”Our interest in News Corporation has always revolved around the subscription television assets, and clearly most of those are going to be in 21st Century Fox,” he says.
The new News Corp will have some high quality assets, he says, but ”I think the newspaper businesses still have some work to do.”
Macquarie has forecast that, over the next three financial years, earnings before interest and tax (EBIT) will grow by $269 million across the new company’s Foxtel, realestate.com.au and education businesses, more than offsetting a $110 million decline in publishing EBIT.
It says its valuation of the new company has included a further $1.1 billion in costs for restructuring, pension liabilities and continuing litigation.
The 21st Century Fox arm also has its challenges, especially in network television, with US advertisers reacting to record low ratings across the sector and moving more advertising dollars to cable where audiences have never been higher.
News Corp achieved higher earnings for the March quarter at Fox Broadcasting by cutting costs and charging more for the retransmission of its signal.
But this is also under threat, thanks to a new service, Aereo, which captures the signals of network television services such as Fox and streams them to paying subscribers without having to pay for the signal in the way that cable and satellite TV providers do.
It led News Corp chief operating officer Chase Carey to threaten to shut its public broadcast of Fox and head to cable instead, to protect earnings.
It seemed more of an idle threat at this time though and investors are focused on cable, which will dominate the new company’s earnings even more than it does now.
More detail is expected to be made available at an investor day in Australia scheduled for June 5, one week after a similar briefing in New York, to help spruik the publishing spin-off scheduled for later that month.
A briefing for the Fox business is scheduled for early August, following the company’s year-end earnings.
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