Pay TV phase three document - Stakeholders - Ofcom

Pay TV phase three document – non-confidential version
6.196 On the relative profitability of Sky’s wholesale sports and movies activities, as we
have highlighted previously, a critical challenge relates to revenue allocation for
products sold in bundles. However, because most costs are direct, it is possible to
reach a clearer view on the most appropriate cost allocation. Under Oxera’s central
“preference based” assumption for revenue allocation, and based on Sky’s wholesale
rate-card prices, it estimates margins of [ � ]% and [ � ]% for sports and movies
respectively.
6.197 Oxera then considers an alternative approach to disaggregating sports and movies
revenues when these products are sold in bundles. At one extreme, all subscribers to
bundles of sports and movies are treated as “sports lovers”, purchasing movies as an
add-on. Hence Oxera considers the stand-alone price of sports as the relevant price
of sports in the bundle, and the incremental price of movies to be the relevant price of
movies 447 . At the other extreme, all subscribers to the bundles are treated as “movie
lovers”, so the relevant price of movies is the standalone movies price, and the
relevant price of sports is the incremental price. These extreme assumptions do not
change the overall result that margins for movies are greater than those for sports,
although the maximum allocation of revenues to sports narrows the gap substantially
(margins for movies are [ � ]% and margins for sport are [ � ]%).
6.198 Nonetheless, Oxera concludes that “estimates of returns for sports / movies channels
do not seem sufficiently robust to draw conclusions on the relative returns at the retail
and wholesale levels”.
6.199 We agree that it is difficult to be definitive on returns on investment. However, in our
own view, because of the relatively low level of common costs in this area and the
possibility of identifying the reasonable limits for revenue allocation, we can be more
definitive with respect to margins. We consider that the evidence points towards
margins for movies being higher than those for sports.
Comparison of Sky’s returns to other comparators
6.200 We also asked Oxera to benchmark Sky’s results against appropriate comparators
(firms with similar business characteristics to Sky, both TV and non-TV). The results
of this comparison are described in detail in Oxera’s report (Annex 9), but in
summary Oxera found that Sky in aggregate, and Sky’s wholesale operations in
particular, had a higher ROCE than comparator businesses over the period 2003-07.
While the range of results was wide, the mean and median ROCE across 30
comparators were both around 7%, compared to Sky’s ROCE of [ � ]% (book asset
values) and [ � ]% (based on replacement cost). Sky’s retail operations had a
similar ROCE to comparators, although Sky’s retail margins appeared lower than
comparators.
Conclusions
6.201 Oxera’s results suggest that Sky is earning returns considerably above its WACC. As
Oxera states in its report, its analysis suggests that Sky is making returns higher than
would be expected in a competitive market where new entrants were able to compete
447 Any greater allocation of revenues to sports would assume that purchasers of the bundle were
paying more than their willingness to pay for movies. To take a simple and entirely illustrative
example, if the combined price of sports and movies is £50 and the standalone price of sports is £40,
then this extreme allocation would assume that the sports product was priced at £40 in the bundle,
and the movies product was priced at £10. Any subscribers with a lower willingness to pay for movies
would only purchase the standalone sports product.
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