For Digital TV Europe.net June 04, 2009

With it likely to be some time before capital markets loosen up, the highly-leveraged European cable business is going to face a rough 12 months. The combination of a slowing economy and debt-heavy companies that can’t raise necessary capital from tapped-out credit markets could cause problems. Although most European cable operators now have pretty healthy cash flow, they need more capital to keep innovation at the forefront, rolling out digital networks, DOCSIS 3.0, interactive services and HD.

The best-placed cable companies are those with low debt-to-capital ratios, no near-term amortisation and enough cash flow to be able to extend debt maturities. For example, Liberty Global has 4.5 times EBITDA leverage and plans to start de-leveraging in 2010 with no significant amortisation until 2013-14. This gives it time to push out maturities and room to manoeuvre in terms of access to capital.

Not everyone is so lucky. For ONO in Spain, which has posted decent operating results, cash conversion is not happening as fast as it would like, putting pressure on its capital structure. ONO has cash flow of about €500m, which makes John Hahn of Providence Equity (a part owner) comfortable. But pressure is building and the 12 months that ONO likely has before it has to refinance may not be long enough for the capital markets to recover sufficiently. Hahn continues to be optimistic: “Cable is at the untroubled end of the businesses [being put under pressure by the current crisis],” he recently said.

Evidence for the case that pay-TV is recession-proof is not hard to find – take the example of UK pay-TV provider BSkyB’s continuing stellar performance. Predictable revenues from subscriptions is an important feature of cable as well. UK cabler Virgin Media’s latest results also demonstrate a bit of a recession proof quality with churn at the lowest rate ever for the first three months of 2009 (1.1%) and ARPU up year-on-year to £42.29 (€48). However, the company admitted that gross new additions were down 13% on the prior quarter and 8% down year-on-year. CEO Neil Berkett dismissed the fall-off saying that “this is a quality game” and that he is only interested in the kind of customers that create “appropriate returns”. Like all cable operators, Virgin Media is focused on growing cash flow especially as a way to help bring down its debt (which stands at £6.2bn or 4.8 times annualised operating cash flow). “We are focused on de-leveraging a bit,” said Berkett on the company’s first-quarter analysts call, adding that he hopes the company would be down to the “mid threes” in leverage by 2012.

One of cable’s biggest problems, according to Richard Alden, outgoing CEO of ONO, is that the industry in Europe is considered more a child of private equity firms than of the public markets, thanks to a legacy of reorganisation and consolidation funded largely by private equity. “Maybe the next step is to make cable more transparent, where cable gets more respect,” Alden recently said.

There are very few listed cable companies in Europe: Zon Mulimédia in Portugal; Multimedia Polska; Telenet of Belgium has a limited publicly-held element to its ownership (Liberty Global is majority owner) and Virgin Media is listed in the US. Liberty Global has been trying to send the right signal to its investors by using its cash flow to buy back its own stock. It feels that its shares have been heavily discounted by a market that doesn’t understand the European cable business well.

The cable industry needs to keep an eye on its cash flow and also on its competitors – particularly the incumbent telecom players that have a bigger financial cushion that can enable them to take the risk of launching new products. Another threat is the proliferation of digital terrestrial platforms and over-the-top internet services, both of which will pose significant competitive threats to cable.

The threat from over-the-top has led some to mull whether the whole cable model may be breaking down faster than anticipated. Certainly Time Warner in the US is taking the threat very seriously indeed, with CEO Jeff Bewkes recently calling for an extension of the pay cable model to include web distribution. Dubbed TV Everywhere, the idea is that TV shows can go on sites including Hulu and YouTube, but people have to prove they are paying a cable subscription first. “If you want to watch your favourite TV network or shows through broadband on any device – PCs or mobile – you can do it as long as you subscribe to any multichannel provider,” Bewkes told a US cable gathering in March. “It’s a natural extension of the existing model.”

All in all, the next few months promise to be interesting and potentially bloody. The robustness of cable’s business model will be tested along with its financial health. In this environment the winners will focus on cash flow and on future-proofing the product and service side of the business. It’s a tall order but, if the industry doesn’t rise to the challenge, TV Everywhere could become TV Everywhere but here.