BSkyB vs Virgin: The Wider Implications 

1 April 2007

What will be the outcome of the BSkyB – Virgin Media bun-fight? David Hastings unwraps the crystal ball.

Although BSkyB’s decision to play “hard ball” with Virgin Media over the cost of carrying Sky’s basic channels has helped to reduce the potency of Virgin Media as a major competitor, this has come at a significant short-term cost to BSkyB’s revenues. And such a strategy could prove problematic if advertisers start to lose patience at later negotiations.

BSkyB has usually proven to be very shrewd in its business dealings and strategies, but it has often been helped by a favourable regulatory and political climate (if not deliberate assistance) combined with a lack of a direct competitor to its operations.

The support of its News Corporation parent together with the availability of programming from its US Fox offshoot has also been crucial in building the Sky brand, though inevitably it has been the monopoly of the digital satellite pay-TV platform in the UK combined with deep pockets that have helped given BSkyB a sporting rights monopoly in the UK for years.

In the past, Sky’s competitors were either easily dealt with or were no real threat to begin with: BSB was dealt with by a takeover, ONdigital/ITV Digital was sunk by football rights and the cable companies were too preoccupied building networks to offer credible competition. And Top Up TV was just watched from a safe distance.

Until now that is, when the two large cable companies NTL and Telewest recently joined together along with Richard Branson’s marketing support to form Virgin Media. And Setanta came along with some Premiership football rights, causing Top Up TV to suddenly become a competitor to Sky’s valuable football revenue stream.

And although its profile is relatively low at present, the BT Vision offering that combines video on demand with Freeview and additional bundled services is yet another potential Sky competitor that somehow needs to be dealt with; the planned removal of the three free Sky channels on Freeview may also be part of a BSkyB strategy to neutralise this potential rival.

Combine these new pay-TV threats with the fact that Freeview has proven to be a runaway success – presumably at the expense of paid Sky subscriptions – and Sky suddenly finds itself significantly threatened on at least three different fronts. Top of the list just has to be Virgin Media since it competes head-on with BSkyB’s core businesses with similar products.

Therefore it’s not surprising to learn that the relationship between BSkyB and Virgin Media has bordered on the hostile ever since a merger was finalised between NTL and Telewest. The stake purchased in ITV plc by BSkyB happened soon after NTL-Telewest tried to raise the capital required for an ITV plc takeover, even though the ITV board weren’t interested anyway.

It was obvious that BSkyB was out to scupper an ITV takeover in the only way possible, namely by buying as many ITV shares as it legally could (though arguably speaking still too many from a competition standpoint). This very issue is being investigated at the moment, and the outcome could be influenced by BSkyB’s other business tactics in the interim.

Judging from feedback on the recent Sky-Virgin negotiations, it now seems even more apparent that BSkyB was trying to make life difficult. For one thing it is alleged that BSkyB forced Virgin to drastically reduce the fees it charged for carrying the Flextech channels on SkyDigital before in turn significantly raising its fee for carrying the Sky channels on Virgin Media.

As for the potential Freeview and Setanta threat, Sky decided to offer a new proposal on the day of the Virgin Media press launch, namely that of removing Sky Three, Sky News and Sky Sports News from Freeview and replacing them with four pay-TV channels using the MPEG4 method of compression, hence this new service will also require a brand new set-top box.

If BSkyB had launched such a terrestrial pay-TV service two years ago it would have stood a much greater chance of success, but Freeview has entrenched itself as the dominant choice with Top Up TV being a distant second option. However it was only Ofcom recently relaxing the usage rules of digital terrestrial television that permitted BSkyB to make such a belated move.

Presumably BSkyB wants to attract subscribers to some of its content as opposed to virtually giving it away on Freeview (the satellite pay-TV promotional effect must be pretty negligible), and to this end it even seems to be prepared to take a revenue hit that could happen if some of its satellite pay-TV customers switch to this (presumably cheaper) new service.

Launching such a substantial new service requires permission from Ofcom to do so, and this has caused the inevitable ‘consultation delay’ (Sky may have thought that permission could have been little more than a formality).

But recent rumours suggest that this delay is causing more problems for BSkyB, especially in the light of Virgin Media losing the basic Sky channels which has hit both their viewing figures and revenue prospects. Advertisers have been less than impressed with Sky’s tactics but seem prepared to tolerate this in the short term because of Sky’s long term track record.

On top of all this, it’s now starting to become apparent that BSkyB’s influence in political circles may finally be coming to an end, which in turn may have been triggered by the declining fortunes of parent company News Corporation’s newspapers (particularly The Sun, which sank to its lowest sales figures since January 1974 – just over 3.1m copies – back in November).

The very fact that BSkyB’s 17.5% ITV shareholding is being investigated by Ofcom “without prejudice” is just one indicator of a changing political climate. Also consider the planned ‘junk’ food advertising ban which has turned out to be far wider-ranging than previously thought; ministers are now getting an appetite for regulatory action within the television sector.

Add in the Richard Branson/Virgin Media factor and the whole issue is transformed into business mogul versus business mogul as opposed to government policy versus business mogul; something that is far easier to be justified from an interventionist viewpoint as opposed to just an ideological stance.

As for the future, there appears to be two fundamental weaknesses relating to BSkyB’s position despite its undeniable marketing strengths. Firstly its core channels (Sky One, Sky Two, Sky News, etc.) are still not as popular as some at Sky like you to think; Sky One only tops 1 million viewers on rare occasions and it still relies too much on imported programming.

Nowadays the plentiful availability of broadband internet connections is threatening to render the traditional broadcasting model obsolete for channels that tend to rely on imports; programme downloads are available from both legal and illegal sources and in turn is making the Sky One proposition in particular less attractive.

It’s no wonder then that Sky is looking to revamp Sky One to incorporate more movies and live sport, and this is also presumably to make its proposed terrestrial pay-TV offering more attractive at the same time. But of course this could make some of its satellite TV packages less attractive as well to many households.

The second weakness in BSkyB’s business model appears to be a historical reluctance to develop anything else other than pay-TV digital satellite services in the UK. Freeview was reluctantly supported by BSkyB (with three channels) but the arrival of Setanta seemed to be good enough a reason for BSkyB to consider removing these channels.

Until very recently (and a view that could still be held), Sky’s stance was that anything other than the wide choice offered by its pay-TV packages is ultimately doomed, and looking at the failure of ITV Digital it may have been tempting to go along with this argument. But the success of Freeview has conclusively proved that not everyone wants to watch 300 channels.

This insistence on only developing satellite pay-TV services must have been the sole reason why BSkyB passed on buying Channel Five when it could have done so (and legislation was worded in such a way as to allow this to happen). Indeed BSkyB could have increased its dominance of UK broadcasting if it had broken its own so-called faith in the SkyDigital product.

Every move that BSkyB has ever made has had the support of its satellite pay-TV subscription model in mind; even the three Freeview channels were ultimately viewed as just a promotional tool to migrate viewers to a pay-TV service. Freeview (for one thing) in public has been openly derided by Sky as being a thoroughly second-rate choice compared with its pay-TV offering.

Indeed it is still tempting to consider that BSkyB’s proposed digital terrestrial pay-TV service (if it gets the go-ahead that is) will be just yet another stepping stone in its ultimate quest to get more customers signed up to the ‘full fat’ satellite service. Plus ironically if viewers really want more channel choice they may well choose the satellite option instead.

And of course its “See, Speak, Surf” promotional bundling of digital TV, phone line and broadband internet is designed to prevent customers from easily defecting from the Sky pay-TV service, in line with similar tempting deals from rival suppliers such as Virgin, BT, Tiscali and others.

Of course it is still foolish to write-off BSkyB in their quest to be the main provider of television in the UK; they certainly still dominate the UK pay-TV sector to an unnerving degree, and it’s this potential misuse of both content provision and platform control that quickly manifests itself if anyone else (step forward Virgin Media) is brave enough to take on Sky at its own game.

There’s no doubt that BSkyB are in the pay-TV market for the long term, even if it means making numerous (and significant) short-term sacrifices to reach that goal. But the goalposts have shifted immeasurably since the launch of SkyDigital in 1998, with broadband internet connections threatening to uproot the whole of BSkyB’s business model.

Obviously BSkyB has tried to use its business acumen to keep in touch with all these changes – the purchase of Easynet being just one attempt to stay in control from a content delivery perspective – but there’s no way it can continue with the same level of domination when it comes to programme delivery methods.

BSkyB may still be an important media player for many years to come but it will probably never dominate a single field again in the future like it has done with SkyDigital over the last few years. The biggest potential threat is from programme producers bypassing the traditional broadcaster outlets, and this is particularly true for imported programming.

In the meantime Rupert and James Murdoch will be having some sleepless nights, with Richard Branson’s Virgin Media proving to be a match from a marketing perspective plus possibly providing a good excuse for restless government ministers to finally take some form of long overdue (and hopefully decisive) action against BSkyB.

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