Austar United Communications Ltd

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Investment Rating

AUN is the largest subscription television operator in regional and rural Australia

with the exclusive licence to deliver pay TV services to 2.4m homes, equal toone-third of Australia´s total homes. Service delivery is primarily through digital

satellite technology. Greater access to high-speed digital internet opens the

market to internet protocol television (IPTV) operators. Uncertainty about how

the market will develop adds investor risk. The established subscriber base

represents a competitive advantage as long it matches content and pricing of

new competitors. This stock is not suitable for conservative investors.

Event

• We view the court's recent ruling on Metcash, as increasing the probability of

Foxtel's offer being approved. There are significant similarities in the

Metcash and AUN situations, where defining the market becomes the coreof the argument.

Impact

• The ACCC sees the proposed acquisition by Foxtel as substantially

lessening competition within the subscription television industry. The key to

this statement is the definition of 'the market,' which is isolated as just the

subscription television industry, with no commercial bearing on the broader

competitive tension from free-to-air and internet protocol television.

• This narrow market focus was also taken when the ACCC assessed

Metcash's acquisition of Franklins within the wholesale grocery market.Metcash's action and subsequent success in the Federal Court and before

the full bench of the Federal Court has set a new benchmark in broadening

the definition of competition within a market.

• We view the court's ruling as increasing the probability of Foxtel's offer being

approved. There are significant similarities in the Metcash and AUN

situations, where defining the market becomes the core of the argument.

Woolworths and Coles present competitive tension to independent grocers.

In a similar vein, the free-to-air television industry and its array of channels

represent material competiton to subscription TV. Since launching Freeview,

the free-to-air industry's digital set-top box, subscription TV has reported

weaker growth in new additions.

Recommendation Impact

No change to recommendation.

Austar United Communications Limited ( AUN )

Legal defeat for ACCC paves the way for change

Recommendation: Hold 07 December 2011

Recommendation Trigger Guide

Note: Marker indicates price of $1.22 at publication date.

Snapshot

Last Price

Market Cap.

52 Week High

52 Week Low

Shares on Issue

Sector

Moat Rating

Intrinsic Valuation

$1.215

$1,545 million

$1.46

$0.87

1,271.5 million

GICS - Media

None

$.97

Risk

Business Risk

Pricing Risk

Company Beta

Sector Beta

High

Medium

1.08

1.21

Investment Fundamentals

Year-end Dec FY09A FY10A FY11E FY12E

NPAT ($m) 58.0 98.1 77.5 90.8

EPS (¢) 4.6 7.7 6.1 7.1

EPS Growth (%) -75.3 67.1 -21.0 17.0

PE Ratio (x) 21.1 13.8 18.9 16.1

DPS (¢) 0.0 0.0

Dividend Yield (%) 0.0 0.0

Franking (%) 0 0 0 0

Source: Morningstar analyst estimates.

Price Chart

Business Description

Austar United Communications Limited (AUN) is a

provider of subscription television services in Australia,

providing satellite and cable network services to

regional and rural Australia. AUN also offers mobile

telephone and internet services.

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Event Analysis

Legal defeat for ACCC paves the way for change

Foxtel's offer for AUN is $1.52. The reason for AUN trading at a 22% discount stems from

the Australian Competition and Consumer Commission's (ACCC) initial finding. The ACCC

sees the proposed acquisition as substantially lessening competition within the subscription

television industry. The key to this statement is the definition of 'the market,' which is

isolated as just the subscription television industry, with no commercial bearing on the

broader competitive tension from free-to-air and internet protocol television. This narrow

market focus was also taken when the ACCC assessed Metcash's acquisition of Franklins

within the wholesale grocery market. Metcash's action and subsequent success in the

Federal Court and before the full bench of the Federal Court has set a new benchmark in

broadening the definition of competition within a market.

We view the court's ruling as increasing the probability of Foxtel's offer being approved.

There are significant similarities in the Metcash and AUN situations, where defining the

market becomes the core of the argument. Woolworths and Coles present competitive

tension to independent grocers. In a similar vein, the free-to-air television industry and its

array of channels represent material competiton to subscription TV. Since launching

Freeview, the free-to-air industry's digital set-top box, subscription TV has reported weaker

growth in new additions. Consumers, who are increasingly becoming value conscious, are

less convinced of the benefits of paying for premium TV content.

Optus has launched MeTV, a hybrid set-top box offering a combination of free-to-air

programming, a digital recorder, and internet connectivity enabling access to paid content

from Fetch TV. We expect this new offering, priced at $9.95 per month, adds further

evidence to the ACCC of the increasing commercial competition from a variety of sources to

capture audiences.

Austar United Communications Limited (AUN)





Investment Perspective

Thesis (Last Updated: 24/02/2010)

After recovering from earlier difficulties,

Austar is now a well-run and well-financed

company that has built a platform for

delivery of subscription television and videoservices and which at the right price is an

attractive business to own. Not only does

its own and control 720,000 set-top boxes

in its customers homes, it also owns a 50%

share (Foxtel owns the other 50%) of the

television channel holding company, XYZ.

XYZ has long lasting contracts with key

channel providers for the delivery of

subscription television channels. Austar

also controls exclusive satellite and pay

television delivery rights for key

entertainment and events for its designatedgeographic regions (eg Fox Sports).

Originally these contracts were for 10-15

years, but time has eroded the benefit. It is

possible that these contractual advantages

may be competed away over the longer

term, as other content providers emerge

using the internet as the delivery

mechanism. Even in such a situation,

satellite delivery rights are likely to remain

exclusive to Austar, giving it strength to

defend its competitive advantages forlonger.

Austar s penetration of its target and

addressable market remains below 30%,

well short of the 50% pay television

penetration rates achieved in many

countries. As well as the opportunity to

grow the number of subscribers, Austar's

position as a provider of premium services

exclusively through the direct-to-home

(DTH) platform has created the opportunity

to increase prices by mid single digits

regularly. In other words, the services

provided to consumers are price inelastic,

which relates to the utility customers derive

from the availability of multiple

entertainment options. This suggests that

the competitive advantage will continue

until a viable competitive product is more

widely available. The competitive threat is

dependent on both alternative delivery

mechanisms and content rights being

available. Management aim to minimise

customer churn, since the cost of replacinga lapsed subscriber with a new subscriber

will still run to hundreds of dollars. The

introduction of new services such as the

recently launched PVR (MyStar - like

Foxtel iQ) and multi-room services should

assist customer retention. The ability tooffer a desirable broadband product would

add a further string to Austar's bow.

Austar offers investors the opportunity to

invest in a relatively narrow segment of the

media and television market. Austar offers

a growth profile which should deliver even

through an economic slowdown, and may

deliver for a significant period, and is

suitable for otherwise diversified investors

who appreciate the consumer exposure

with less than usual cyclicality.

Valuation (Last Updated: 03/11/2011)

Despite uncertainty in how the pay TV

market will evolve we assume revenues will

grow at mid single digit levels for the next

five years. This growth will enable profit

margins to gradually build. Gross margins

of 56% are expected to grow to 58% over

the next five years.

Risk (Last Updated: 30/05/2011)

The proposed NBN, to be supported by

government, with proposed coverage of

98% of all Australian households will

represent a significant threat since

television and other video services may

then be delivered by the new fibre rather

than through AUN´s satellite dish.

Strategy (Last Updated: 24/03/2011)Austar has moved over the past two to

three years from beneath the spectre of

financial distress caused by operating and

cashflow losses on a highly geared balance

sheet to a sound cash positive operating

business with growth opportunities in its

quasi monopoly market. By far the largest

source of revenues is subscriptions. Pay

per view services like box office movies

represent further high margin revenue

opportunities that successfully exploit the

monopoly position that Austar occupies inits markets. With subscriber numbers now






Per ShareYear to 31 December 2008A 2009A 2010A 2011E 2012E

Earnings ¢ 18.7 4.6 7.7 6.1 7.1Dividends ¢ -- -- -- -- --Franking % 0.0 0.0 0.0 0.0 0.0

Profit & Loss ($M)Year to 31 December 2008A 2009A 2010A 2011E 2012E

Sales Revenue 632.0 674.6 711.2 715.6 738.6EBITDA 197.7 214.4 215.1 354.2 280.6Depreciation & Amort. -83.6 -98.5 -99.7 102.8 106.0EBIT 114.2 115.9 115.4 251.4 174.7Net Interest Expense -65.7 -63.0 -61.3 50.2 50.2Profit Before Tax 48.5 52.9 54.1 206.9 130.1Tax -37.4 -29.1 17.9 -62.1 -39.0Adjusted NPAT 11.1 23.8 72.1 77.5 90.8Reported NPAT -74.7 58.8 99.7 144.5 90.8

Cash Flow ($M)Year to 31 December 2008A 2009A 2010A 2011E 2012E

Receipts from Customers 697.2 742.5 781.9 712.0 737.4Net Operating Cashflow 201.4 154.2 164.6 145.7 195.5Capex -112.7 -113.2 -99.9 -100.0 -100.0Acquisitions & Investments -- -- -- -- --Sale of Invest. & Subsid. -- -- -- 95.8 --Net Investing Cashflow -112.7 -113.2 -99.5 -12.2 -100.0Proceeds from Issues 7.6 .2 .1 -- --Dividends Paid -- -- -- -- --Net Financing Cashflow -27.7 -37.8 -51.1 -49.7 --Net Increase Cash 61.0 3.2 14.0 83.8 95.5Cash at Beginning 30.5 91.5 94.7 108.7 192.4Exchange Rate Adjust. -- -- -- -- --Cash at End 91.5 94.7 108.7 192.4 287.9

GrowthYear to 31 December 2008A 2009A 2010A 2011E 2012E

Sales Revenue % 11.3 6.7 5.4 0.6 3.2EBIT % 4.2 1.6 -0.5 117.9 -30.5EPS % 0.0 -75.3 67.1 -21.0 17.0

DPS % 0.0 0.0 0.0 0.0 0.0

RatiosYear to 31 December 2008A 2009A 2010A 2011E 2012E

Price/Earnings % 137.9 51.3 18.8 18.9 16.1EV/EBITDA % 8.6 11.7 8.6 6.2 7.8Dividend Yield % 0.0 0.0 0.0 0.0 0.0EBITDA Margin % 31.3 31.8 30.2 49.5 38.0EBIT Margin % 18.1 17.2 16.2 35.1 23.6Net Profit Margin % 1.8 3.5 10.1 10.8 12.3ROE % -3.0 -6.6 -29.4 -83.7 -164.5ROA % 9.1 11.1 17.6 20.8 11.8ROIC % 17.0 21.8 32.4 27.5 42.2Net Debt/Equity % -- -- -- -- --Interest Cover x 1.7 1.8 1.9 5.6 3.9

Balance Sheet ($M)Year to 31 December 2008A 2009A 2010A 2011E 2012E

Cash & Equivalent 91.5 94.7 108.7 192.4 287.9Receivables 25.4 26.4 28.0 35.3 36.4Inventories -- -- -- -- --

Other Current Assets 9.5 7.6 4.8 .5 .5Current Assets 126.5 128.7 162.7 -- --Prop. Plant & Equipment 224.3 241.2 221.8 221.4 217.9Intangibles 29.1 24.5 17.8 15.3 12.9Other N on-C urrent Assets 256.8 239.0 259.8 261.2 261.2Total Non-Current Assets 510.2 504.7 501.3 -- --Total Assets 636.6 633.4 664.1 726.3 816.9Interest Bearing Debt 839.7 814.3 753.6 703.9 703.9Other Liabilities 168.6 182.0 155.8 123.2 123.1Total Liabilities 1,008.3 996.3 909.4 827.0 826.9Net Assets -371.7 -362.9 -245.3 -100.8 -10.0Total Shareholders Equity -371.7 -362.9 -245.3 -100.8 -10.0

Top 5 Substantial ShareholdersLiberty Global Inc 54.2%Fortis Investment Management Australia Limited (Formerly ABNAMRO Asset Mgt Ltd)

5.6%

Previous Research

03/11/2011 ACCC to rule on 30 November04/08/2011 Consumer weakness not confined to the high street27/07/2011 A lessening of competition22/07/2011 ACCC view acquisition will lessen competition for

subscription TV31/05/2011 Foxtel offers $1.5231/03/2011 Possible takeover target02/03/2011 Press speculation22/02/2011 Strong cost control

04/11/2010 Residential growth remains low04/08/2010 Growth Slows29/07/2010 Disappointing subscriber growth26/07/2010 Competition to control the remote intensifies29/04/2010 Residential subscriber additions soften in the 1Q10/03/2010 Subscriber additions soften in the 3Q24/02/2010 Strong subscriber growth delivers operating leverage29/10/2009 Strong 3Q Result31/07/2009 Countercyclical qualities emerge

Principals & DirectorsPrincipals

Company Secretary Ms Deanne Weir

Directors

Mr Michael T Fries(Non-Executive Director,Non-Executive Chairman)

Mr John C Porter(Chief Executive Officer,Executive Director)

Mr Timothy D Downing(Non-Executive DeputyChairman,Non-Executive Director)

Mr John W Dick(Non-Executive Director)

Mr Roger Amos(Non-Executive Director)

Mr Balan Nair(Non-Executive Director)

Mr Bernie Dvorak(Non-Executive Director)

© 2011 Morningstar, Inc. All rights re served. The data and con tent contained herein are not gua ranteed to be accurate, complete or timely. Neither Mo rningstar, nor its affiliates nor their content providerswill have any liability for use or distribution of any of this information. To the extent that any of the content above constitutes advice, it is general advice that has been prepared by Morningstar AustralasiaPty Ltd ABN: 95 090 665 544, AFSL: 240892 (a subsidiary of Morningstar, Inc.), without reference to your objectives, financial situation or needs. Before acting on any advice, you should consider theappropriateness of the advice and we recommend you obtain financial, legal and taxation advice before making any financial investment decision. If applicable investors should obtain the relevant productdisclosure statement and consider it before making any decision to invest. Some material is copyright and published under licence from ASX Operations Pty Limited ACN 004 523 782 ("ASXO").

DISCLOSURE: Employees may have an interest in the securities discussed in this report. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf.






Research Methodology

We seek undervalued stocks with a

medium to long-term investment time

horizon. Companies that make the best

investments tend to be those able to grow

earnings per share year after year andwhich are able grow at rates above the

average of the market. Earnings growth

supports a solid and growing dividend

stream which is the essence of shareholder

return.

In searching for the best businesses in the

market, we want to see an ability to turn

revenue into profits and a record of strong

returns to equity. The ability to generate

strong free cash flow is critical as this is

where the funds come from to pay

dividends or to invest in new growth areas.

The greatest free cash flow generators will

have strong margins, good controls over

working capital and limited requirement for

capital expenditure. The best businesses

will also have robust balance sheets

including a not onerous level of debt. We

believe in strong, experienced and

disciplined management.

Recommendations

Our qualitative recommendations are

simple and easy to understand:

• Buy: Suitable for purchase now

• Accumulate: Undervalued but there istime to purchase

• Hold: Appropriately priced, neither buynor sell

• Reduce: Sell part holding

• Sell: Sell all holdings now

• Avoid: Not investment grade

Economic MoatsThe pursuit of high quality businesses is

central to our investment philosophy.

These offer the greatest gains to the long

term investor, so long as they are bought at

a reasonable price. The concept of

economic moats is valuable in assessing

the quality of a business, with the phrase

popularised by Warren Buffett and Charlie

Munger. Just as wide moats protected

castles from invaders in medieval times,

businesses with wide economic moatshave strong defences against their profits

being competed away.

We ascribe a moat rating to each stock

researched: Wide, Narrow or None.

The moat is the competitive advantage that

one company has over other companies in

the same industry. Wide moat firms have

unique skills or assets, allowing them to

stay ahead of the competition and earn

above-average profits for many years.

Returns on their invested capital will

exceed the cost of that capital. Without a

moat, highly profitable firms can have their

profits competed away. Other companies

will see how attractive the market is and try

to move in to reap some of the rewards

themselves.

Sources of economic moats include

innovation skills or first mover advantages,

a superior cost position, the ability toprovide a range of products to suit the

needs of a variety of markets, high

switching costs or locking out of

competitors.

The moat rating is just one of the

ingredients used in determining whether a

company is undervalued, though it is

obviously an important one. We are not

saying that no-moat companies should be

avoided. Simply, the very best long term

investments are in wide moat firms boughtwhen they are undervalued.

Intrinsic Value

Intrinsic Value (otherwise known as Fair or

Underlying Value) is the analyst's

interpretation of what the stock is worth

today. The stock is considered to be

undervalued when the quoted price is

below this point or overvalued where the

price is above it.

Whether to invest in a stock will depend on

consideration of the prospective return and

the risk undertaken. Prospective return

includes both share price moves and

dividend yield. Our analysts incorporate the

stock's risk in their intrinsic value. Other

things being equal, lower risk stocks will

have greater intrinsic value than higher risk

ones. A stock becomes a buy when the

quoted share price is at a discount to

intrinsic value that provides a sufficient

prospective return.


Business Risk

Business risk encompasses all

operational risk and financial

risk. Companies with low

business risk have the most

reliable earnings streams. Achange in business conditions

may reduce earnings

predictability and therefore

increase risk. Examples are

market entry of a new

competitor, unfavourable shifts in

the economy, changes in key

management personnel, major

investment in an uncertain new

venture or acquisition, and

increased interest burden

caused by higher debt levels orraised interest rates.

Pricing Risk

Pricing risk reflects the premium

or discount implied in the current

price of the shares. Many growth

stocks trade on high earnings

multiples giving them high pricing

risk though they may have low

business risk.

Investors should consider their

risk tolerance before investing in

the share market. Many

investors will decide to have only

low risk stocks in their portfolio

though others will accept higher

risk levels in order to pursue

higher returns.


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