SATELLITE—Merger Drama Clouds Picture Inside DirecTV

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As Rupert Murdoch’s News Corp. closes in on a deal for Hughes Electronics Corp. and its subsidiary DirecTV, employees at the El Segundo satellite TV provider could be in for a rough ride.

Uncertainty hangs over the day-to-day operations of the company, which in seven years has grown from a handful of engineers into a 4,000-employee business that leads the nation in satellite television operations.

A disappointing forecast for new subscribers and turmoil surrounding General Motors Corp.’s imminent sale of Hughes already are ushering in significant changes.

But the longer the merger talks go on, it is expected that more speculation will be fueled.

“People hate uncertainty and once the rumor mill starts generating it’s very disruptive to the operations of a company,” said David Barnes, director of the mergers and acquisitions group at Houlihan Lokey Howard & Zukin.

DirecTV Chief Executive Jack Shaw, who took over in May for Michael Smith who resigned in what was widely viewed as a move forced by his resistance to the News Corp. deal admitted as much when he called the company’s latest results “unacceptable to shareholders.”

“The uncertainty…and drawn out nature (of the merger discussions) have been a major distraction. We have not dedicated enough time to running the business,” Shaw told investors.

Hughes Electronics Corp. reported a net loss of $105.3 million (7 cents per diluted share) for the first quarter ended March 31, down from a net loss of $81.9 million (6 cents) in the like year earlier-quarter. First quarter revenues were $1.89 billion up from $1.7 billion in the first quarter of 2000. But revenues were down more than $300 million from the fourth quarter of 2000. Hughes’ stock, which reached a 52-week high of $38 in October, ended trading at $20.45 on June 21, having lost about one-fifth of its value since January.

What lies ahead depends on who you ask.

“There’s going to be some layoffs because of duplication but it will be worse for other parts of Hughes than DirecTV. I don’t think there will be too much of an effect in Los Angeles other than management changes,” said ABN Amro analyst David Kestenbaum.

He believes that News Corp. will emerge as the likely buyer of Hughes, although DirecTV rival EchoStar Communications Corp. is also in the chase.

Rohit Shukla, chief executive of the Los Angeles Regional Technology Alliance, said a News Corp. deal could be considerably more painful for DirecTV, a company with a tight-knit corporate culture that has seen its fortunes zoom in recent years.

DirecTV has grown from about a million subscribers in 1995 to upwards of 9.8 million subscribers. The prospect of becoming a cog in Murdoch’s global media machine may not be attractive to employees who would rather see the company carry on by itself and build up shareholder value.

“It’s possible that their worst fears will be realized. That DirecTV will be swallowed by a larger interest and it will cease to exist as an independent company,” said Shukla, pointing out that Murdoch intends to merge DirecTV with his Sky Global Networks, which has holdings in Asia, Australia, Europe and Latin America. “They just don’t have the market clout or the stomach to fight off a hostile takeover by News Corp.”

Senior executives at DirecTV declined to be interviewed, but company spokesman Bob Marsocci did his best to put a positive spin on the situation, particularly regarding the company’s future in Los Angeles. “I think we’re going to be in El Segundo for some time,” he said.

Acknowledging that merger talks have created some uneasiness among employees, Marsocci said the sale of Hughes from GM to a traditional media company would be positive for everyone involved.

“It would be a better fit. General Motors has been very supportive, but clearly there would be more tangible benefits with a media company,” he said.

In the case of News Corp., those benefits would include pairing with a vertically integrated company that has financial clout, massive bargaining power and an international distribution network for its media properties.

News Corp., which is aggressively seeking to gain a major foothold in the U.S. satellite TV market, has remained GM’s preferred suitor, but EchoStar, despite financing difficulties and regulatory questions, refuses to bow out of the contest for DirecTV and its nearly 10 million subscribers.

Meanwhile, the ongoing negotiations and almost daily plot twists that have engulfed DirecTV are taking a toll on the El-Segundo company. After years of steady growth, Hughes earlier this month cut in half its second quarter projections for new DirecTV subscribers, its second downward revision in as many months.

The projections could not have come at a worse time for GM as it seeks to negotiate a more favorable deal with News Corp. With EchoStar struggling to secure $3 billion in loans it would need to make a competitive bid, News Corp.’s negotiating position has grown stronger, particularly with its recent announcement that it had lined up Microsoft Corp. and Liberty Media Group as strategic partners.

And as DirecTV revised its subscriber projections downward, EchoStar’s DISH Network says it will exceed projections and outpace DirecTV by more than 200,000 subscribers in the second quarter.

Had DirecTV accepted News Corp.’s initial offer, the combined entities might have been in a position to buy EchoStar outright, though such a deal surely would have drawn interest from federal antitrust regulators because the companies are one and two in the U.S satellite TV market.

As it stands, the longer the merger talks go on, the more market share DirecTV stands to lose, weakening GM’s negotiating position with News Corp.

Like DirecTV, News Corp. and EchoStar are trying to lower their profile regarding a possible merger by limiting public statements, though Murdoch recently announced to shareholders that his company was close to a deal.

In the meantime, the 1,200 or so DirecTV employees based in Los Angeles and their 2,800 colleagues around the nation can only sit back and wait.

“I see it like a baseball player who is going to get traded but he doesn’t know when and he doesn’t know what city he is going to live in,” Barnes said. “There’s no question that that kind of uncertainty affects your performance. Your intensity and focus begin to wane.”

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