Issue 11, 01 November 2001

Given the amount of speculation both in the UK and on the continent, where corporate predators are sniffing the prevailing winds for an opportune moment to pounce, you'd think the UK's digital terrestrial pay TV platform was on its last legs.

And you'd be right, at least up to a point. There is fierce pressure from institutional investors on ITV Digital's shareholders Granada Media and Carlton Communications to cut their support for the service. Ironic that this pressure has intensified even as the nearly three-year-old service reported a rave performance, adding on 82,000 new subscriptions in its most recent quarter.

But a new total of 1.2m subs doesn't come close to righting all of ITV Digital's wrongs. Its churn rate, at 23%, is still high. Its programming line-up has improved but is still less compelling than competitors. It struggles with frequencies that barely reach 60% of the UK population and its interactive proposition is very thin indeed.

ITV Digital is moving in the right direction: new price increases could lower losses by 40% in 2002. It claims the cost to sign up a new subscriber has fallen to £150 from about £250 a year ago. This means that, although the platform's ARPU is £227 as against £320 for Sky, ITV Digital's costs are lower. "Anyone who looks at this business with a sensible eye can see this is a sensible business," in the words of an ITV Digital spokesman.

But these are not sensible times. ITV Digital's owners are being rocked by the biggest advertising downturn in decades. At the same time an additional £300m (on top of the £800m already spent) is needed to take ITV Digital to breakeven. In fact, the only "sensible" prediction that can be made is that ITV Digital cannot continue in its present form. The shrinking advertising cake has cut huge chunks out of Carlton and Granada's profits.

Carlton has already seen its shares kicked out of the FTSE 100 and Standard&Poor's, the US credit agency, lowered its rating on the company's debt in October.

With Carlton's defences exposed, the smart money is on a company like Bertelsmann scooping it up. The German media giant's TV unit, RTL Group, already owns a big stake in Channel 5 and CEO Thomas Middelhoff has made it clear that a bigger UK presence is on his agenda. There are regulatory hurdles to jump because RTL definitely will not be allowed to own both Carlton and Channel 5. But the more damning analysis is that, cheap as Carlton looks today, RTL won't even consider a bid as long as the loss-making ITV Digital is part of the portfolio.

RTL isn't the only one calling ITV Digital a "poison pill". Investec Henderson Crosthwaite believes £750m could be saved by closing down ITV Digital and the recently launched ITV Sport Channel. ITV Sports has attracted 138,000 subscribers, but, according to Investec. its high cost means it will never breakeven even on the most aggressive subscription forecasts.

Sky has previously tried some PPV experiments with Nationwide matches but decided not even to try for those rights in the latest bidding war, leaving ITV to rub its hands with glee. However, that supposed "win" now appears to be one of several own goals by the terrestrial service.

ITV Digital might boast more football, but at a crippling cost.

It's no surprise that some sources in the City are calling for the sacking of Carlton's Michael Green. Granada's Charles Allen is better liked by those with voting power, but hearing even distant chants of "chairman out!" is not nice. Something has to give. Perhaps not all-out closure (writing off £800m), but a new investor or a new financial structure.

Some say BT is the best hope. More help from the government is also on ITV Digital's agenda. An increase in transmission power could help.

ITV Digital likes to argue that if it fails, government plans to switch off analogue between 2006 and 2010 will be jeopardised. This is one argument that simply doesn't wash. There are already many ways for people to pay for digital TV. For those people (and they are many) who are loath to pay more than their annual BBC licence fee for television service, there needs to be a cheap digital upgrade alternative, such as a subsidised digital adapter for analogue TV sets.