The most interesting thing about Sky TV’s disappointing annual result is not to be found in the financial documents, but in the accompanying note CEO John Fellet sent to shareholders.

Fellet’s annual letter provides more insight into the company, and the media industry, than any set of numbers ever will. The contents are more empirical than numerical and are aimed at individual investors rather than institutional ones.

A careful read of the latest letter will leave you in no doubt about how much pressure the boss of this once high-flying company is under.

In a relatively short space of time, Sky has gone from sharemarket darling to one of New Zealand’s most unpopular companies.

Its latest profit is down 20 percent, and 30,000 subscribers have abandoned ship for the likes of Netflix, Lightbox and Freeview.

Sky, like nearly all media companies, is under siege from the disruptors, and the normally good natured Fellet has come out swinging.

In a statement that surprised commentators, Fellet revealed that he is more worried about pirates than streaming services.

“Piracy has become our biggest competitor,” he says.

“The big problem is the increasing ease by which pirated content is accessible.

“Devices preloaded with piracy software enable users to access pirated content stored on servers overseas, from the comfort of their living room.”

“Mark Twain once said, ‘never pick a fight with people who buy their ink by the barrel.’ I certainly understand this quote now more than ever.

John Fellet

Fellet saved a couple of his sharpest jabs for local newspapers, which he accuses of a subtler form of piracy.

“In an attempt to reinvent themselves they are developing their online presence. This makes perfect sense. As more of their customers access their news online they can leverage their news-gathering to populate their sites with stories with their greatest assets – their reporters.

“But sadly, to save money, there is a trend of news media taking clips of the best parts of our Sky Sport content and placing them on their websites without permission. They do this without any compensation to the sporting codes or Sky.

“It is common for these sites to clip highlights of key sporting events and put them online within minutes of them happening, almost always with ads (for which they receive revenue) wrapped around them.

“This is tantamount to Sky starting a 24-hour news channel and instead of hiring reporters or paying for the use of a news service, merely clipping articles out of the newspapers without paying anything for copyright and having presenters read them out.”

The use of video highlights has annoyed Sky so much that it has taken TVNZ, Fairfax, (which is renaming itself as Stuff) and NZME to court. The media companies claim they are entitled to use the video clips under the “fair dealing” provision of the copyright act.

Fellet, rather bizarrely, claimed that the newspapers have responded to his legal action by waging an editorial campaign against the pay TV company.

“The American humourist Mark Twain once said, ‘never pick a fight with people who buy their ink by the barrel.’ I certainly understand this quote now more than ever. The media companies in question have spent a lot of effort running every negative article they can find about Sky, some of which sadly are justified, but many are not.”

Fellet’s conclusions are both right and wrong. Yes, there is a lot of negative stories in the papers about Sky, but there is no premeditated campaign against it.

Many companies, including media companies, have felt the blowtorch of newspaper criticism. Just ask the former CEOs of Spark, TVNZ, MediaWorks, Fonterra, and Jetstar.

The negative stories reflect what the papers’ readers are telling them. A quick look at the comments section below an online story on Stuff or NZ Herald will tell you there are two things that make Sky unpopular.

The first is price. A lot of subscribers don’t feel they are getting value for money in the current environment. Sky is frequently accused of price gouging because it has a monopoly on sport.

Secondly, a lack of flexibility is often cited as a big negative. Customers can’t pick and pay for what they want, instead they must subscribe to a basic package that, in the minds of many, includes a lot of “crap.”

If Fellet moved on these issues the noise would die away – but, of course, so would some of his revenue.

The Sky boss also gives the Commerce Commission the middle finger. Fellet describes its decision to block the merger with Vodafone as “flawed” but rather than waste money on a legal appeal, he’s decided to get on with things.

“… as time went by it became apparent that we could action many of the opportunities and synergies through commercial agreements without the escalating costs of a merger. Some of these are in the market now, and you will see further proof points of the closer working relationship in the foreseeable future.”

Fellet didn’t give much away about the future direction of the company or how he plans to stop the alarming profit slide.

SVOD’s lower cost structure could be Sky’s light at the end of the tunnel.

Video on Demand (VOD) delivered over the internet is clearly going to be a key driver. According to Fellet, it is already the most disrupting force in television.

He says nearly 50 percent of homes with MySky decoders have them connected to wifi, and last month 775,000 pieces of content were downloaded.

SKY’s subscription SVOD service, NEON, had 1.7 million requests for movies or episodes last month.

Fellet points out that SVOD services with smart recommendation engines don’t require anywhere near the same amount of programming hours that tradition pay TV platforms need.

This is an important factor for Sky as its programming costs continued to go up while revenue is falling. Last year they increased by 5 percent – from $331 million to $349 million.

Potentially, SVOD’s lower cost structure could be Sky’s light at the end of the tunnel but as Fellet says, we are in the middle of a transition and there is not yet a clear cut or direct shift away from linear viewing.

So, in the meantime the old beast still needs feeding, and it is a hungry beast.

Fellet and his management team really need to find a way to reduce programming costs quickly or they are in for a very tough time.

Mark Jennings is co-editor of Newsroom.

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