The Chancellor, Alistair Darling, recently underlined the severity of the current economic crisis by describing it as "the worst in 60 years". Although the magnitude of his pessimism might be overstated, directionally he's probably right.
This week's buy recommendation operates the home entertainment sector, which should prove more resilient than others in the event of harsher times ahead, as people often seek the solace of a cheap night in front of the box to save cash.
BSkyB (BSY), rated a BUY by Goldman Sachs
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Compared with most of its peers in the £20bn British pay-TV, telecoms and broadband market, Sky is flying high. In the past three years it has launched 19 high-definition (HD) channels and a new online SkyPlayer service, while also rapidly expanding its broadband (1.6 million subscribers), telephony (1.1 million) and pay-TV (nine million) customer base 35% of all British households now have Sky pay-TV.
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This makes BSkyB a leading power in triple-play services, something that has not only driven average revenue per user up to £427, but also reduced the rate of customers lost to 9.8%, down from 13.7% only 18 months ago. The firm's next goal is to hit ten million subscribers by 2010, helped by the switchover from analogue to digital TV, the penetration of HD services and the phenomenal growth in Sky+ (which has quadrupled in size since 2005). But that's not all. There also remains considerable scope to cross-sell broadband and telephony products to existing TV customers. Over half of subscribers take more than one premium product, yet only 11% take all three services, compared with 50% at some other providers.
The City is forecasting turnover of £5.3bn and underlying earnings per share of 31.1p for the year ending June 2009, together with a dividend of 18.3p. That's a 3.9% yield. At 479p, the shares trade on a forward earnings multiple of 15.8 times. That may seem high, but compare it to its massive £1bn (or 57p/share) of operating cash flow and it really isn't. Additionally, with gross margins of 65%, any increase in sales should largely drop down to the bottom line, thus further boosting profitability.
So what's spooking the Square Mile about this one? Well, clearly competition from the likes of Setanta, BT Vision, Virgin and Freeview is hotting up, while the cost of buying exclusive content is also escalating. Sky paid a whopping £1.3bn dowry (or £4.8m per game) for its premiership football rights last time round. Moreover, the group may be forced by Ofcom to divest its 17.9% stake in ITV at a loss, while the deepening economic gloom could knock performance. Lastly, the City of London is sceptical that the ten million subscriber target will be met.
On the plus side, consider how much Rupert Murdoch might want were he to decide to sell News Corp's 37% stake in BSkyB. Given its trophy-like status, attractive recurring revenues, relatively low exposure to advertising (7% of sales) and near-impregnable position in pay-TV, I wouldn't be surprised if the business was purchased at a multiple of 12-15 times earnings before interest, taxes, depreciation and amortisation, equating to a take-out price of between 550p and 750p. The next trading update is due out on 26 September.
Recommendation: LONG-TERM BUY at 479p
Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments.
