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We reaffirm our long-term Neutral recommendation on DIRECTV (DTV - Analyst Report). The company reported mixed financial results for the first quarter of 2013. While revenues outpaced the Zacks Consensus Estimate, net income fell below the same. DIRECTV currently has a Zacks Rank #3 (Hold).

Why Kept at Neutral?

DIRECTV continues to enjoy huge net subscriber addition in both the U.S. and Latin America, growing average revenue per user in the U.S. and higher operating margin and operating profit before depreciation & amortization. However, the rate of subscriber addition has slowed down due to a stricter credit standard and reduced promotional discounts. The company is trying to establish itself as a premier pay-TV operator targeting high-quality subscribers. Management is confident that it will be able to achieve its long-term financial goals in 2013 without any difficulty.

Nevertheless, growing saturation in the U.S. pay-TV market and increased competition from the low-cost online video streaming service providers are forcing established pay-TV operators to restructure their business models. A recent Reuter report stated that DIRECTV offered $1 billion to acquire Hulu, the online video streaming service provider. Hulu is jointly owned by News Corp. (NWSA - Analyst Report), Walt Disney Co. (DIS - Analyst Report) and Comcast Corp. (CMCSA - Analyst Report).

The U.S. pay-TV market is extremely competitive. In addition to the traditional Cable TV and satellite TV operators, telecom giants are also offering fiber-based high-speed video services. In contrast, low-cost online video streaming services have also become very popular especially when the economy is still reeling under fluctuations.

We believe that DIRECTV needs to restructure its business model and the decision to bid for Hulu is one such step. Hulu commands over 4 million subscribers and generates revenues of about $700 million per annum through subscriptions and a free ad-based service. Hulu will enable DIRECTV to offer low-cost online video in addition to the company’s expensive premium-brand pay-TV package.

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