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Morgan Stanley drops SES to “underweight”

Firm says overcapacity could be bigger problem than industry expectsrn

Morgan Stanley has moved SES to an “underweight” rating, citing a number of risks that could affect the operator in the near future. Patrick Wellington, a satellite equity analyst at Morgan Stanley, listed some reasons for the new rating in a research note, adding that overcapacity could be more of a problem than anticipated by the industry.

“We calculate [that] the proliferation of traditional satellite launches, coupled with the rollout of high throughput satellites (HTS), could increase the total marketable transponder capacity globally by up to 75% by 2016. We think the risk that HTS, which have a more powerful and cost-effective technology than traditional satellites, drive price deflation in data (c.30 percent of sales) could be greater than consensus expects,” notes Wellington.

In contrast, industry experts hold a different stance regarding overcapacity explains Wellington.

“The view of SES and the rest of the FSS industry concerning overcapacity is that it will prove temporary and that, ultimately, demand will catch up. While this is a possible outcome, we are concerned the magnitude of the imbalance may mean it could take several years for demand to catch up, [but] by this time new technology that will further increase supply and which could disrupt the pricing dynamics of the industry will have hit the market, while the continuous roll-out of terrestrial networks, especially optic fibre, will have increased competition from the telcos.”

The recent research report also noted the potential impact that HTS could have on SES’ fiscal health. While 70% of SES’ business is from video, “the remaining 30% could very possibly be prone to sharp pricing pressure as superior HTS technology hits the data market en masse. This is something that is reflected neither in our model nor in consensus expectations since HTS are driving a paradigm shift that is extremely difficult to model,” says Wellington.

The US military vertical could add to SES’ challenges, adds Wellington. “We believe the weakness of US military demand creates an additional source of potential downside, or at least a lack of upside surprise. We estimate SES generates just under 10% of revenue from military activities. Budget constraints, sequesters and troop withdrawals have had a negative impact on this segment over the past 18 months, and we do not expect an uptick in the short to medium term.”

Despite having noted several challenges, Wellington still considers SES to be a strong business, explaining that its new “underweight” rating was just a “relative call.”

“SES remains a strong business with a number of undeniable assets. Seventy per cent of its business is highly visible and looks poised to keep on growing for the next decade. Our new, more conservative numbers still see SES print 5% EPS growth per annum boosted by the many launches realised over the last 18 months. SES has invested in O3b and has a path to full control. It will therefore partly benefit from the HTS growth, which will mitigate the negative impact that HTS will have on its existing data business.