UK phone hacking: a half-a-billion-dollar headache for News Corporation already … and rising?

All those investors and analysts who have blithely written off the UK phone-hacking and bribery scandals as a minor financial irritant for News Corp and the Murdoch family should think again. Costs have now run past $US400 million and are heading higher. In fact, including other charges and costs — the loss of profits and sales from the closure of the News of the World, the ending of the takeover bid for the rest of BSkyB and the cost of legal investigations in the US — the cost to News Corp and its shareholders could easily be about $US500 million. But it is hard to pin down a precise amount.

That’s serious money and underlines how much the investment community and some shareholders (not to mention News Corp media outlets around the world) have been seduced by the way the company is using the current $US5 billion share buyback to prevent a nasty and sustained fall in the price of the company’s shares.

Up to the middle of last week News Corp has spent $US3.4 billion buying 197.5 million News Corp A shares in a price range between a low of $US14.73 since the buyback kicked in last July, around the time of the Milly Dowler scandal, which triggered the closure of the News of the World. That buyback has been supporting News Corp shares for more than 10 months and allowed the company to ride the rebound in US share markets since last October.

It has helped insulate the share price against by investors made more nervous by the string of bad news, arrests, widening investigations (including the bribery allegations involving The Sun and the NDS hacking claims aired on the BBC’s Panorama and in The Australian Financial Review). In some respects the share buyback has helped artificially inflate the market for News Corp shares by allowing the company to buy back stock during periods of bad publicity, which would have normally pushed the shares lower.

The buyback has also allowed News and chairman Rupert Murdoch to resist investor pressure to resolve the hacking scandal quickly. News and Murdoch and their supporters claim the market isn’t concerned by the scandal and point to the strong share price, which as noted, has been so far supported by the use of more than $US3.4 billion of the company’s own money.

For that reason, news of the continuing escalation in the cash and non-cash costs of the hacking scandal won’t impact the News Corp share price. In fact the cost is open-ended because there has so far been no appearance of any provisions against potential costs relating to criminal investigations taking place in the UK and the US (the FBI in particular).

In a filing with the UK Companies House just before Easter, the directors of News Group Newspapers revealed the closure of the News of the World had cost £244 million, or $375 million. News Group directors indicated the bill is continuing to escalate

The company said it made a £160 million ($246.6 million) non-cash write-off on the value of the “publishing rights” for News of the World, in its accounts for the year to July 3, 2011. In addition, News Group took a a £55.5 million ($84.7 million) charge relating to redundancy and restructuring costs and legal fees, and after sign-off on the financial documents filed to Companies House on March 30 this year notched up another £5.1 million.

NGN reported that a 17% rise in operating profits before exceptional items in the year to July 3 to £103.6 million ($158.6 million). Revenues remained almost flat year on year at £654 million ($1.007 billion), a still handy gross profit margin of just over 15%.

The filing reveals that most of the £244 million of charges were taken in the current financial year, because the News of the World was closed on July 10 last year. Costs for claimants’ legal fees and damages as at March 30 this year hit an extra £23.6 million ($36 million) and directors said the final cost remains unknown. Their statement in the financial results read:

“The company is subject to several ongoing investigations initiated in 2011 by regulators and various governmental authorities after allegations of voicemail interception, inappropriate payments to public officials and other related matters.

“The company is fully co-operating with these investigations, but is not able to estimate the ultimate outcome or cost associated with these investigations.”

But the company did take the exceptional charge against profits of £23.7 million in respect of hacking claimants’ legal fees in the July 3 year, reducing reported operating profits to £81.7 million.

Interestingly, the filing reveals that during the 2010-11 financial year (ended July 3) News Group changed how it manages the licensing agreement for the publishing rights and titles for The Sun and the News of the World. Those rights had been in a separate subsidiary company called News 2026 Ltd, an agreement that was supposed to exist from July 1, 2010 until June 30, 2022.

However, less than a year into the deal on June 10, 2011 — a month before the News of the World was shut — News Group Newspapers decided to repurchase the rights for the two newspapers at a cost of £720 million ($1.108 billion). The closure of the News of the World led to a non-cash write-down in the value of those rights by £160 million ($246.6 million), which means that the notional value of the publishing rights to The Sun is now £560 million ($862.4 million). NGN directors said in the filing:

“As at the balance sheet date there is no indication of impairment and the directors feel that the valuation is appropriate. The directors believe that the publishing rights and titles have sufficiently well-established position in the marketplace to be defended against any threats arising from current competitors, potential new entrants and potential technological changes in the industry. Any impairment results from specific events or circumstances and do not indicate that the inherent lives of the assets are anything other than indefinite.”

Given the Murdochs and News Corp are masters at gaming corporate tax systems around the world, there had to be a tax reason for the repurchase of the rights to publish both papers in June of last year, so close to the end of financial years for both companies (News Corp’s end of year is June 30).The News Group accounts contain an interesting item, what’s called an “emphasis of matter” from the group’s auditors. It’s not a qualification, more a highlighting of a current and future concern. It sums up the reality for News Group, News International and News Corp. Referring to the provisions made against civil claims, the auditor states:

“The ultimate exposure of News Group Newspapers in relation to these matters is subject to significant uncertainty, and the total amounts … will be dependent on many factors, including the number of individuals making claims against the company, any findings as to the extent of their loss, as well as the potential size of any civil, administrative or criminal fines or penalties.”

And, that’s before the results of any criminal investigations, of which there are three in the UK and at least one known in the US. The financial and reputational toll is going to be much higher for News Corp and the Murdochs (James Murdoch’s reputation has already taken a battering).

Previously, News Corp has dribbled out cost estimates each quarter, but has so far not clearly set out the non-cash write-downs and the other charges disclosed in the News Group filing in London. For example, in November of last year, News Corp said the financial cost of the News of the World phone hacking debacle cost it a $US91 million restructuring charge and a $US68 million hit to its publishing profits in three months to September stemmed primarily from the closure of the NotW. News Corp also incurred $US130 million in “other” charges in the September quarter, which included the cost of dropping its bid to buy the remaining 60.9% of satellite broadcaster British Sky Broadcasting.

In the December 2011 quarter, News Corp said it paid out $US87 million in legal fees and investigations for the three months alone. That was in addition to the $US108 million spent in the September quarter. That’s roughly $US200 million, and it has continued into the first quarter of 2012 with millions of dollars more in settlements and legal fees alone.

And then there’s the cost of starting The Sunday Sun (to replace NotW). Its circulation has shrunk from a debut of 3.2 million copies to about 2.3 million.

Including some of these costs and those disclosed by NGN in its filing, plus the £23.6 million of legal fees and damages for the current year to March 30, you get a total of more than $US400 million of cash and non-cash charges, write-downs and provisions. But you could argue that it already approaching half a billion dollars later this year and continue rising as more settlements continue in the UK courts of the phone-hacking claims.

Accounts for News Group’s parent company NI Group are overdue. The company has informed US Companies House the results will be produced within a month. The London reports said other accounts released late last week showed that Times Newspapers, owners of The Times and The Sunday Times, incurred a loss in the 2011 financial year of £11.6 million, down from a loss of £45 million in 2010.

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Peter Fray
Peter Fray
Editor-in-chief of Crikey
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