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Analysts: DISH's bid to cut satellite costs amid wireless build a 'prudent move'

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Analysts: DISH's bid to cut satellite costs amid wireless build a 'prudent move'

While DISH Network Corp. spends heavily on its planned wireless network, the company has found a way to cut a significant fixed cost out of its shrinking satellite video business.

The company agreed to acquire EchoStar Corp.'s broadcast satellite service division, including nine direct broadcast satellites, in a tax-free, all-stock transaction valued at about $800 million. Prior to the deal, DISH had paid EchoStar for its broadcast satellite services, with EchoStar reporting service and other revenue from DISH of $378.7 million in 2018. While the all-stock deal is ultimately dilutive to shareholders given the shares being issued, analysts were generally positive on the deal, noting DISH's need to free up cash amid its wireless network build.

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"The biggest risk for DISH is the company running out of cash before they have an opportunity to monetize their spectrum" through their wireless network, New Street Research analyst Jonathan Chaplin wrote in a research note.

DISH plans to spend between $500 million and $1 billion to build a narrowband network, known as an NB-IoT network, specialized for the low-power machine-to-machine communications that characterize the internet of things. Due to the terms of key spectrum licenses, the company faces a build-out deadline of March 2020.

Longer term, DISH plans to upgrade that network to support next-generation 5G connectivity, a project that DISH executives have estimated could cost as much as $10 billion.

The EchoStar deal, according to Chaplin, will eliminate DISH's regular payments for satellite broadcasting services, thus increasing the company's EBITDA and free cash flow immediately upon close.

Jeffrey Wlodarczak, Pivotal Research Group principal and senior analyst of entertainment and interactive subscription services, similarly said the deal "effectively should boost DISH DBS financially" given that DISH paid $576.6 million in satellite and transmission costs in 2018.

DISH's total satellite and transmission expenses include not only the cost of leasing satellite and transponder capacity from EchoStar but also the cost of digital broadcast operations and the costs associated with Sling TV streaming services.

While Wlodarczak said he does not "love the deal" given that it amounts to DISH issuing equity to give the declining direct broadcast satellite business more financial flexibility, he ultimately regards it as "a prudent move."

Notably, DISH's expected savings going forward may be smaller than the costs it recorded in previous years given the declines occurring in its satellite video business.

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The $576.6 million DISH spent on satellite and transmission expenses in 2018 were down 12.4% from 2017, when expenses totaled $658.0 million. DISH attributed the drop to a decrease in transponder capacity leased from EchoStar related to its DISH TV service and decreased costs in its digital broadcast operations.

The DISH TV traditional satellite service has decreased in size as the company has continued to shed subscribers. The company lost more than 1 million DISH TV satellite customers in 2018, ending the year with 9.9 million subscribers versus 11.0 million at the end of 2017.

The losses have continued thus far in 2019, with the company losing 266,000 net DISH TV satellite customers in the first three months of the year. By comparison, the company lost 185,000 net DISH TV satellite customers in the first quarter of 2018.

Noting the acceleration in DISH's rate of decline, MoffettNathanson pay TV analyst Craig Moffett said in a research report this month that DISH's satellite TV subscriber base is now shrinking at an 11.2% annual rate.

"The DBS ice cube is melting," Moffett said.

The problem with these subscriber losses, according to Moffett, is that they drain the company's ability to support fixed costs. DISH's acquisition of EchoStar's broadcast satellite service division, expected to close in the second half of 2019, means at least one of the company's costs will no longer be an issue.