Sky Upgraded on Dividend Cancellation

Sky announced it won’t pay its final dividend of 22p per share, but analysts have upgraded their fair value estimate for Sky’s shares 

Allan C. Nichols, CFA 8 August, 2018 | 8:16AM
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Morningstar equity analysts are increasing their fair value estimate for Sky’s (SKY) shares to £14.75 per share from £14.53 to equal Comcast’s full offer price as Sky announced it won’t pay its final dividend of 22p per share.

We now model a roughly £4.5 billion takeover premium beyond what we believe the business is worth on its own. The market continues to trade higher than the current offer, betting on a continued bidding war. However, it is becoming increasingly difficult to justify higher prices, in our opinion.

The firm continues to perform well, and we still anticipate improvements in all three reporting regions. We expect revenue to grow 4.6% in fiscal 2019 and to average annual increases for the following four years at 4.3%.

We expect Sky Deutschland to grow faster than the UK business but Italy to grow at a slower rate. However, the new businesses have much lower margins than the British business.

Best Case Scenario?

Our bull-case fair value estimate is £17.95 per share. In this scenario, we expect a bidding war between Comcast and either Fox or Disney to push the offers much higher than Comcast’s £14.75 per share proposal. Also, helping to drive such a price would be Sky having greater success adding new subscribers in television, phone, and broadband than we expect in our base case.

This scenario also assumes that the firm's cross-selling of additional services will drive higher average revenue per user growth. Because the firm's costs are in many cases fixed, for example in the case of sports programming and network maintenance, the additional subscribers allow those costs to be spread over more people, thus increasing margins. Additionally, the acquisitions perform better, providing faster revenue growth and greater cost savings.

Worst Case Scenario?

In our bear-case scenario, our fair value estimate is £10.10 per share. In this scenario, the weak UK economy, which is likely exacerbated by Brexit, hits Sky's subscriber and ARPU growth, pushing down growth rates for both. Additionally, Virgin Media, BT, and others have more success in selling television and broadband services, taking market share away from Sky.

In this scenario, margins decline as the benefits of scale fail to materialise. Additionally, in this case, Sky Italia loses customers, and Sky Deutschland's growth is less than we projected in our base scenario. Additionally, in this case, all offers are withdrawn.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Allan C. Nichols, CFA  is a senior stock analyst and international investing specialist with Morningstar.