price 891.00p equity analyst inmarsat plc overnight buy · please see important disclosure...

USD Prev. 2014E Prev. 2015E Prev. 2016E Prev. 2017E

Rev. (MM) 1,263.0 1,285.9 1,265.3 1,260.5 1,415.9 1,412.0 1,552.9 1,544.2

EBITDA (MM) 669.1 701.0 661.7 659.8 773.5 774.2 897.7 861.7

EV/EBITDA 11.3x 12.0x 10.2x 9.2x

EPS 0.48 0.76 0.41 0.43 0.59 0.62 0.88 0.77

FY P/E 17.7x 31.2x 21.7x 17.4x

Dividend

FY Dec 0.47 0.49 -- 0.49 -- 0.51 -- 0.54

Div. Yield 3.65% 3.65% 3.80% 4.02%

Price Performance

MAR-14 JUL-14 NOV-14 MAR-15

1,000

900

800

700

600

COMPANY NOTE

Target | Estimate Change

UK | Telecommunications | Telecom Services 9 March 2015

Inmarsat plc (ISAT LN)Clearer and Bluer

EQU

ITY R

ESEARC

H EU

ROPE

BUYPrice target 1,050.00p

(from 925.00p)Price 891.00p

Financial SummaryNet Debt (MM): $1,900.7

Market Data52 Week Range: 902.00p - 653.00pTotal Entprs. Value (MM): £5,257.2Market Cap. (MM): £3,993.5Insider Ownership: 0.4%Institutional Ownership: 80.0%Shares Out. (MM): 448.2Float (MM): 445.8Avg. Daily Vol.: 979,366

Giles Thorne *Equity Analyst

+44 (0) 20 7029 8005 [email protected] Dellis *Equity Analyst

44 (0) 20 7029 8517 [email protected] Rathe, CFA *

Equity Analyst44 (0) 20 7029 8286 [email protected]

Nicholas Prys-Owen *Equity Associate

+44 (0) 20 7029 8044 [email protected]

* Jefferies International Limited

Key Takeaway

Developments since we first looked at the European Aviation Network underpinour conviction on the upside. On US government, we seek to flip the bearcase on its head. Finally, we give our take on the AWS-3 auction read acrossfor Inmarsat. Our Blue Skies analysis now sees a 1,450p (previously 1,300p)valuation within Inmarsat's medium term grasp. Reiterate Buy.

European Aviation Network (EAN). We review industry / Inmarsat / Gogo-relateddevelopments since the publication of our "Blue Skies" (25 June 2015) note. Evidentmomentum leads us to reduce the discount on the 240p per share of upside from 50%to 40%. This remains an area of the story that is under-represented and under-estimated,though near-term commercial announcements (of which we envisage several) should snapconsensus from its slumber.

Unpicking the USG bear case. There have been concerns that Global Xpress' (GX)pursuit of US government revenue in the post-sequester world is a fool's errand. We'd arguethe exact opposite: GX's combination of managed service / mobile / global augmentationin the military Ka-band is in the sweet-spot for USG as it embarks on the secular migrationto proprietary supply. Sequestration will yet be proven to have played into management'shands.

Spectrum. We debate the best way to read the AWS-3 spectrum auction results across toInmarsat. We conclude that the "bird in the hand" (the co-op agreement) should remainthe best valuation steer for investors (and not mark-to-market). Indeed, we are now in theLightSquared "end-game" and Inmarsat, as a supplier to (or even owner of) the business,is very well positioned (specifically, 100-300p per share of overnight upside).

L-band surprise. We look at scope for L-band upside surprise given the plethora of growthopportunities Inmarsat has pursued in the past year as it seeks to "innovate, diversify andinternationalise" that business. We conclude that 2015 looks to be an exciting year asInmarsat harvests the seeds of growth it made in 2014, with scope to contribute to consensusupgrades.

Valuation/RisksOur PT moves to 1,050p, driven by: 1. a lower EAN discount (as above); 2. higher GX revenueassumptions ($550m) on the back of our expectations that the fourth GX satellite will belaunched; 3. lower tax contingency; 4. USDGBP strength. We revisit our Blue Skies valuationand now estimate that Inmarsat has a 1,450p valuation within its medium term grasp. Risks:third GX satellite launch failure; failure to execute on the EAN plan.

Jefferies does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that Jefferies may have a conflictof interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.Please see analyst certifications, important disclosure information, and information regarding the status of non-US analysts on pages 25 to 29 of this report.

Long Term Drivers

FY14-17 EBITDA CAGR 7.1%

Organic Revenue Growth 6.3%

Acquisition Contribution 0.0%

Operating Margin Expansion 3pp

Other Considerations

LightSquared Phase 2 payments ($50m

per annum, indexed at 3%) have now

restarted but likelihood of receiving the

cash is low

Inmarsat has a number of open tax

disputes with HMR&C that have been

provided for but not paid ($80m in total)

1 Year Forward P/E

Source: FactSet

0x

20x

40x

60x

2007 2009 2011 2013 2015

1yr PE Target

Upside Downside

Inmarsat Plc operates as a provider of global mobile satellite communications solutions. It

offers portfolio of solutions and value-added services for use on land, at sea and in the air.

It operates through two segments: Inmarsat Global and Inmarsat Solutions. The Inmarsat

Global segment engages in selling wholesale L-band satellite communications airtime to

distribution partners, who then on-sell services to service providers and end-users. The

Inmarsat Solutions segment operates direct and indirect distribution business, which offers

a wide portfolio of remote telecommunications solutions to service providers and end-

users, including L-band services. The company was founded on July 16, 1979 and is

headquartered in London, the United Kingdom.

1Q15 results on 6 May 2015

I-5F3 launch in 2Q15

Announcement on Inmarsat-5F4,

probably mid-2015

Catalysts

Target Investment Thesis

Core MSS revenue meets guidance of

“growth” in FY15 (low single digit)

Sequestration remains only a short

term headwind

Global Xpress (GX) launched on time

with solid build-up in XpressLink wins

GX delivers FY13-16 CAGR in MSS

revenue of 8.3% (8-12% guidance)

60% probability of ATG network

This implies 2015 EPS of $0.43, core

PE of 37x, 1,050p target price

Upside Scenario

Core MSS revenue beats guidance of

“growth” (mid-single digit)

Replacement capex comes down by

17.5%

$660 of normalised GX revenue

100% of ATG / satellite EV

$100m LightSquared lease revenue

2015 EPS of $0.50, re-rating to 45x,

1480p target price

Downside Scenario

Core MSS revenue misses guidance

of “growth”

FleetBroadband migration continues

to drag revenue

Sequestration cuts deeper into

government revenue than expected

GX revenue misses expectations

ATG capex and no revenue

2015 EPS of $0.40, de-rating to 30x,

780p target price

Long Term Analysis

Scenarios

Forward PEs

Source: FactSet

31.0x

22.0x 22.0x

7.5x

0 x

10 x

20 x

30 x

40 x

ISAT ETL SES I

2014-17 earnings CAGR vs. P/E

Source: FactSet

ISAT

ETL

SES

TEF(10)%

0%

10%

20%

0x 20x 40x

Recommendation / Price Target

Ticker Rec. PT

ISAT Buy 1,050p

SESG Buy €35.0

ETL Hold €31.0

AVN Buy 270p

I Hold $12.50

Company Description

THE LO

NG

VIE

W

Peer Group

Inmarsat: ISAT LN

Buy: 1,050p Price Target

ISAT LN


9 March 2015

page 2 of 29 , Equity Analyst, +44 (0) 20 7029 8005, [email protected] Thorne

Please see important disclosure information on pages 25 - 29 of this report.

Reiterate Buy, price target to 1,050p (from 925p) Following the investment in the new European Aviation Networks we moved to a sum of

the parts DCF valuation for Inmarsat, splitting out the new venture from the L-band / Ka-

band (Global Xpress) businesses. Our PT moves to 1,050p from 925p. The drivers of the

PT upgrade are: 1. USDGBP strength since last publishing (0.65 from 0.60); 2. lower base

net debt for FY14; 3. lower tax provision following the successful resolution of $50m of

the previously signalled $125m of contingent tax obligations; 4. reduced discount on

European Aviation Network (40%, from 50%); and 5. increased GX revenue expectations.

With a 3.6% dividend yield and 18.1% upside to our PT, we estimate 21.7% twelve month

total return and rate Inmarsat a Buy within our ratings framework.

Table 1: Inmarsat, sum of the parts valuation Valuation Methodology EV ($'m) FY14 EBITDA

($'m)

FY15 EBITDA

($'m)

EV / 2015

EBITDA

EV / 2016

EBITDA

Stake % Value to ISAT

($'m)

EV per share % of EV

L-band and GX DCF (WACC: 7.9%; Term gr: 1.5%) 8,289.2 649.9 772.5 12.8x 10.7x 100% 8,289.2 $18.49 89.4%

S-band (ATG / satellite) As above, 60% probability 981.0 n/a n/a n/a n/a 100% 981.0 $2.19 10.6%

Enterprise value 9,270.1 9,270.1 $20.68 100.0%

Less: tax provisions (FY14) (80.0)

Less: net debt (FY15) (2,013.3)

Equity value 7,176.9

Shares in issue (FY15) 448.3

Value per share (USD) $16.00

Value per share (GBP) £10.50

Current share price (GBP) £8.90

2015 dividend yield 3.6%

Upside / (downside) 18.1%

Total 1-year return 21.7%

Source: Jefferies estimates

Inmarsat’s multiple upside catalysts justify the high multiple

Inmarsat’s 2015 PE of 31x remains excessively high compared to peers on ~21x (Table 2).

While the valuation is eye-watering at these levels, the marginal investor in Inmarsat now

faces significant upside from a range of catalysts. Our 1,050p price target is based on

conservative assumptions for the ultimate performance of the business:

We now assume a terminal revenue potential of $550m for GX, which is

consistent with management guidance, but doesn’t include the full revenue

potential of the spare fourth GX satellite (our base case is now that the satellite is

launched on the back of an incremental business case);

We have zero revenue in for Phase 2 lease payments from LightSquared;

We discount our standalone EV for the ATG / satellite business by 40%.

Table 2: Comparable valuation multiples* Share price EV / EBITDA PE Dividend yield 2014-17 CAGR

Current Target % diff 2014 2015 2016 2014 2015 2016 2014 2015 2016 Revenue EBITDA OpFCF

Intelsat (Hold) $11.56 $12.50 8.1% 8.6x 8.4x 8.2x 8.1x 8.0x 6.8x 0.0% 0.0% 0.0% (0.4)% (0.7)% (4.5)%

SES (Buy) €31.55 €35.00 10.9% 10.5x 9.9x 9.6x 22.0x 17.0x 15.6x 4.1% 4.5% 5.0% 6.0% 5.8% 2.7%

Eutelsat (Hold) €30.79 €30.00 (2.5%) 9.3x 8.8x 8.4x 21.9x 20.3x 19.1x 3.4% 3.7% 3.9% 5.7% 5.6% 9.9%

Avanti (Buy) £2.37 £2.70 14.0% nm nm nm nm nm nm 0.0% 0.0% 0.0% 94.5% (206.5)% (5.9)%

Inmarsat (Buy) £8.91 £10.00 12.3% 11.3x 9.7x 8.3x 31.4x 21.9x 16.4x 3.6% 4.0% 4.2% 6.3% 8.6% 24.8%

Source: Jefferies estimates, company data *Multiples are based on calendarised financials

ISAT LN


9 March 2015



In Table 3 we present scenario analysis that builds the valuation for each of the potential

upside catalysts the Inmarsat equity currently benefits from. For a fuller discussion of the

valuation impact of lower launch costs (Scenario 6) please see the Appendix of the

aforementioned “Blue Skies” note. Should all the catalysts crystallise, we believe Inmarsat

could be worth 1,450p, 66% above the current share price (Chart 1).

Table 3: Valuation scenarios No. Description Price Target (GBp) Upside 2014 dividend

yield

Total 12 month

return

1 GX revenue of $500m, GX replacement capex of $1.6bn 872 (2.0%) 3.6% 1.6%

2 Scenario 1 but GX replacement capex of only $1.2bn 903 1.5% 3.6% 5.1%

3 Scenario 1 but GX revenue of $660m* 985 10.7% 3.6% 14.3%

4 Scenario 3 plus LightSquared Phase 2 payments of $50m indexed at 3% 1,067 19.9% 3.6% 23.5%

5 Scenario 4 but LightSquared Phase 2 payments of $100m indexed at 3% 1,165 30.9% 3.6% 34.5%

6 Scenario 5 plus reduction in terminal capex of 17.5% 1,241 39.4% 3.6% 43.0%

7 Scenario 6 plus ATG / satellite network (EV of $1.8bn) 1,480 66.3% 3.6% 69.9%

Source: Jefferies, company data *GX revenue run rate of $660m is estimated by scaling up the $500m run rate up from three satellites to four

Chart 1: Blue-sky valuation per share (GBp)


Cheaper access to space: the omens are good

In our recent note, “HTS-LEO: the good news outweighs the bad” (25 February 2015), we

highlighted the positive industry developments we’ve seen on our previously presented

upside catalyst from SpaceX’s march towards reusable rockets and the associated cheaper

access to space. SpaceX’s successful first landing of a Falcon-9 is still pending, but could

(we believe) happen in 2015. Elsewhere, CNES’s baby steps towards reusability (albeit,

the renaissance of an abortive reusability programme from some 10 years ago) is another

welcome catalyst. We continue to watch developments closely but don’t feel cause to

revisit our terminal capex assumptions for Inmarsat at this stage given the legion number

of questions that still need answering. But the omens are good.

HTS-LEO risk lowest for Inmarsat

In the aforementioned note, we also looked in some detail at the risk to the incumbent

satellite operators from plans to launch HTS-LEO constellations. Out of all the satellite

operators we cover, we see the risk to Inmarsat from a HTS-LEO constellation as the

lowest. In addition to the points we make in the note about deliverability of HTS-LEO and

the analysis that price elasticity could / should be positive enough to absorb all the

incremental capacity, we would highlight that Inmarsat’s L-band heritage in mobile

services will not readily be displaced by a disruptive challenger for self-evident reasons:

highly reliable service, focus on mobility, trusted global supplier.

890 872

1,48031

8282

98

76

239

400

600

800

1,000

1,200

1,400

Current share

price

L-band and GX GX r'ment capex

of $1.2bn

GX revenue of

$660m

LightSquared

Phase 2 of $50m

LightSquared

Phase 2 of

$100m

17.5% reduction

in replacement

capex

S-band Blue-sky

ISAT LN


9 March 2015



Share price performance

Since the 3Q14 results, Inmarsat’s equity has performed very well (Chart 2). We see

multiple factors driving the share price rise: 1. the 3Q14 and 4Q14 results have been good

and have provided welcome visibility on areas of historic earnings risk (principally

sequestration); 2. increased visibility on the European aviation network; 3. the successful

launch of the 2nd Global Xpress satellite, Inmarsat-5F2; 3. a positive read across from the

AWS-3 spectrum auction in the US; and 4. appreciation of USD against sterling in 2015

(Chart 4).

Chart 2: Inmarsat share price, 2-year

performance

Source: FactSet

Chart 3: Forward 12-month PE, 2-year

performance

Source: FactSet

Chart 4: USDGBP

Source: FactSet

The shareholder returns profile is compelling

Investors have been concerned that newly announced ATG / satellite network investment

will push back the long awaited capex holiday and associated free cash flow ramp / de-

leveraging. While some push back is inevitable given the associated capex cost of the new

network, the investment is not so large as to completely erode the capital returns story.

Even on our capex forecasts, which include 100% of the cash outlay for the European

aviation network, Inmarsat should de-lever over the short term. On a five year view, we

still estimate enough leverage headroom to allow for a buyback of up to 20% of its equity

so as to maintain 2.5-3.0x leverage (Table 4). Indeed, on the 4Q14 results call, the CFO

indicated that even 3.5x would be a comfortable level. Of perhaps far greater importance

is that the new investment will likely generate significant share price upside for investors.

Table 4: Inmarsat, buyback potential FY14a FY15e FY16e FY17e FY18e FY19e FY20e FY21e

Actual vs. target leverage (0.0x) 0.3x (0.1x) (0.5x) (0.9x) (1.2x) (1.5x) (1.9x)

Potential buyback 27.1 0.0 110.3 434.6 864.9 1,181.4 1,695.6 2,262.9

Buyback per share $0.06 $0.00 $0.25 $0.97 $1.93 $2.64 $3.78 $5.05

% of equity value (cumulative) 0.4% 0.0% 1.8% 7.1% 14.2% 19.4% 27.9% 37.2%

Source: Company data

£5

£6

£7

£8

£9

£10

Mar-13 Sep-13 Mar-14 Sep-14

ISAT-GB

10

15

20

25

30

35

Mar-13 Sep-13 Mar-14 Sep-14 Mar-15

Inmarsat - forward PE

0.50

0.55

0.60

0.65

0.70

Mar-13 Sep-13 Mar-14 Sep-14

USDGBP

ISAT LN


9 March 2015



US government: addressing the bear case Some doubt has been expressed as to Inmarsat’s ability to grow USG revenue in the short

and medium term. The argument has been centred on the conclusions of a 14 August

2014 DoD published report (the “Satellite Communications Strategy Report”) which

called upon the Secretary of Defense, inter alia, to provide detail “a 5/10/25 year strategy

for using an appropriate mix of proprietary and commercial satellite communications

bandwidth” (“milsatcom” and “comsatcom”, respectively)”.

Among many things, the report puts forward an overarching strategy of preferring

proprietary satellite supply based on the cost differential of comsatcom versus milsatcom

(in 2013, it was estimated that a unit of capacity for Wideband Global Satcom [a major

proprietary USG satellite system] was $14,200 / MHz / year compared to “multiple year”

contracts average annual costs of $56,220 / MHz / year for comsatcom) and the dedicated

nature of milsatcom: so for wideband applications, WGS should always be used over

comsatcom where / when WGS is available except when user demand exceeds the supply

of WGS capacity or when the users ground infrastructure will only operate over

commercial satellites.

It feels like a slightly circuitous debate given the presence of profit seeking owners will

always mean that comsatcom will “cost” more than milsatcom. Nonetheless, as a source

of potential WGS augmentation, Global Xpress – it has been suggested – will be a net

loser from greater use of “cheaper” WGS supply. We disagree with this line of thinking

and would in fact argue the exact opposite. We present our logic below. We do see risks,

but it is not in the augmentation argument, it is more on a return to budget sequester.

A reminder of recent history: the Ku-band comsatcom gravy train…

For context, the DoD’s military satellite capacity consists of three segments: 1. Protected

wideband and narrowband segments (e.g. the Milstar and Advanced EHF systems) where

the application is deemed so sensitive to national security as to be beyond the scope of

use of comsatcom; 2. the wideband segment (Defense Satellite Communications System

III [DSCS III] and Wideband Global Satcom [WGS]); and 3. the narrowband segment

(Fleetsat, UHF Follow-on and MUOS).

Prior to the events and immediate aftermath of 11 September 2001 (9-11), the majority of

wideband milsatcom was provided, as referenced above, by the now retired DSCS III,

which was based on a five satellite constellation operating in the X-band, the last of which

was launched in 2003. The current wideband system, WGS (6 satellites on-orbit, with 10

ultimately planned, operating in X- and Ka-bands, ten times the capacity of DSCS III) was

launched from 2007 onwards and is / was the successor to DSCS III.

Given timings however, the ramp-up of op-tempo following 9-11 (Operation Enduring

Freedom in Afghanistan and Iraqi Freedom in Iraq) precipitated a massive reliance on

comsatcom, especially in the Ku-band (in spite of the investment in WGS / Ka-band, Ku-

band from commercial FSS operators was a readily available resource). At the same time,

the ready availability of supplemental funding for “Overseas Contingency Operations”

(which the Iraq and Afghanistan campaigns were) resulted in unconstrained growth for

the commercial satellite operators. Intelsat and Eutelsat, along with most commercial

operators, were huge beneficiaries of this trend.

…was de-railed in 2013

We have now seen the dramatic end of the comsatcom “gravy train”. Prevailing trends in

the US government segment are now well established: the potent mix of less in-theatre

military operations coupled with the US government’s budget sequestering (the

statutory-driven and broad-based cleaving of US spending across multiple areas of

government, notably military) have created a glut in commercial satellite supply.

ISAT LN


9 March 2015



Where does that leave the satellite operators in the post-sequester world?

The implications of the decided shift from X-band to Ka-band by the DoD (i.e. in the act of

replacing the X-band DSCS III with the Ka-band WGS) but the absence of available

capacity at the time of a massive surge in demand should be considered in more detail.

On the face of it, a big internal push to better utilise WGS would appear a risk to the

commercial satellite operators, especially given the cost comparatives of the two options

(though there is a lot of push back from the industry on the cost competitiveness of

milsatcom to comsatcom). We do not see this as a blanket risk for the industry. As already

touched upon, the upshot of the dearth of available milsatcom during the period 2001-

2007 was that military commanders elected to invest in Ku-band comsatcom.

In spite of evidence that WGS could yet be de-scoped in one way or another, the ascent of

Ka-band in military applications is not a debate. It’s a fact. We also know that milsatcom

supply is not sufficient to meet all the demand from the US government. In this context,

we see Global Xpress, which has been built from the ground up to look and feel and

operate interchangeably with WGS, as perfectly positioned to thrive in the post-sequester

world.

In that context, the US DoD report doesn’t represent a risk to Inmarsat – quite the

opposite – it is evidence that underpins the opportunity for Inmarsat. Inmarsat has a

history of augmenting milsatcom in narrowband (the Mobile User Objective System, or

MUOS). We expect this to now be expanded into the wideband arena, the status of

which, we turn to briefly now.

Long term analysis of WGS augmentation

A SpaceNews interview with the Head of the US Air Force Space Command, General John

Hyten, on 18 December 2014 provides some critical visibility into the status of potential

WGS augmentation by comsatcom. The US Air Force Space Command is currently

undertaking an Analysis of Alternatives for wideband capacity. Details on exact scope are

very limited but it would appear that the AOA is looking at all possible models for long–

term wideband capability.

In Hyten’s words, “it’s important to not just look at a traditional model but at any number

of models and that’s what the AOA will ask us to do”. In terms of timing Hyten spoke of

“showing his hand” for the FY17 budget (as this is the earliest point at which budgeting

to start replacing the original WGS satellites will need to be made) in spite of the fact that

the AOA won’t be completed by that time.

NSR: focus on collaboration

In a “Bottom Line” blog post from December 2014, Northern Sky Research picked up on

the debate as to comparative costs of milsatcom versus comsatcom. NSR notes that with

more proprietary capacity available, preferential reliance on internal assets will increase

and consequently curb procurement from commercial vendors. But NSR goes on to

suggest that despite ongoing arguments on cost / performance / security, the market will

continue to feature a mixture of commercial and proprietary capacity and the debate will

move on from being one about “who can do it better” to “how can both sides collaborate

[to] address demand.”

What the DoD report was really getting at, in our view

For what it’s worth, having now read the report multiple times, it’s clear to us that the real

thrust of the August 2014 DoD report was to identify shortcomings that prevent

inefficient comsatcom procurement. Specifically, identifying why the DoD has not yet

been able to move to longer term contracts for comsatcom capacity. The DoD’s

regulations for financial management allow for “multi-year procurements” for up to five

years based on a detailed assessment along the lines of three criteria: stability of

requirements, stability of funding and realisation of substantial savings. Within that

framework, to progress with longer term comsatcom contracts (which would remove a

lot of volatility for Eutelsat / SES / Intelsat and others), the DoD feels it needs to address

two issues:

ISAT LN


9 March 2015



Demand prediction: an accurate estimate demand over the contract period is

a key pre-requisite. Previous demand prediction has focused very much on

milsatcom and not comsatcom, with the latter only being included more

recently and has never been validated against existing scenarios to determine if

predicted comsatcom demand was accurate. The historic decentralised

approach to procurement (i.e. each “agency” within the military procured

separately) plus the muddying impact of supplemental funding for OCO can’t

be used for accurate demand forecasting. The strategy going forward is for more

formal, rigorous and timely analysis of demand with processes for validation.

Available Funding. Funding for comsatcom has come down dramatically with

supplemental funding bearing the largest cuts. Currently, as mentioned above,

funding for comsatcom is decentralised with limited regard for sharing

opportunities. This approach hinders centralised, multi-year acquisition and,

moreover, the ability of the DoD to manage comsatcom and milsatcom

“holistically”. We understand that a centralised approach is being actively

considered, with the Space and Missiles Centre (within the US Air Force Space

Command) as a candidate to play the role.

In summary, the document puts into action key initiatives designed to progress the DoD

towards a more efficient use of comsatcom, with particular focus on demand prediction,

utilisation monitoring, funding and procurement. The strategy is very much focused on

moving towards larger bulk buys on longer term contracts (not about a vanilla switch-off

of comsatcom).

2016 budget process – welcome visibility, but yet to be set in stone

The Obama administration published its FY16 budget request on 2 February 2015. As was

widely expected, after the aggressive budget sequesters of FY13 and FY14 (albeit,

followed by the sequester relief for the current FY15 budget), the request was notable for

a $38bn increase in defence spending (for a FY16 total defence budget of $534bn). It

appears that the Obama administration has essentially ignored sequestration - Obama

was quoted as saying that “I want to work with Congress to replace mindless austerity

with smart investments that strengthen America”.

This rhetoric builds on a number of voices from the military in the weeks running up to

the budget request declaring that a return to automatic budget sequesters would be

“crazy” at this time. Note that the Budget Control Act of 2011 was / is set to resume

automatic budget sequesters from October 2015 following a two year hiatus. It is for

Congress to pass a budget, but the President can veto it. The passage of the budget

request could yet bring downside risk (and recent history is a salient reminder of the

fraught passage of US government budgets). Notwithstanding, for the satellite operators,

all of whom have been impacted by sequestration and continue to see declines in US

government revenue, these developments provide some welcome, and positive, visibility

on a major industry headwind.

Summary: GX is uniquely positioned to excel in USG

Putting the demand side environment, we conclude with a summary of why we think GX

plays so well into the current USG environment:

More with less: the USG dynamic must not be interpreted as a one-

dimensional reduction in spending. The pressure is on value not price. The USG

wants to do more with less. As discussed above, Global Xpress is a unique

extension and enhancement to the WGS system (Inmarsat is the only operator

capable of selling global military Ka-band high throughput capacity). It's a

managed service at a time when efficiencies and flexibility and agility are

incredibly important to the USG. It delivers military Ka-band, procured, paid for

and delivered by someone else (i.e. not on the government’s balance sheet) but

in a highly secure and unique way, and for a reasonable price. In our view,

Global Xpress is in the “sweet spot” in the post-sequester world.

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Mobile not fixed: Global Xpress has been built from the ground up to be

mobile and to be global. It's not a patchwork quilt of different capabilities (as

competition in the Ku-band is) and is fungible with proprietary systems. In the

traditional FSS model, the USG would have to commit to fixed coverage for a

fixed period of time over a fixed area – this is an inflexible model that doesn’t

play well in the post-sequester world. Global Xpress can be switched on and off,

anywhere in the world, at any time. This is a powerful value proposition for the

USG. And, it goes without saying, Inmarsat’s whole heritage is in this type of

mobile service (in the CEO’s words, “[don’t forget], we’re a mobile operator

whose base station is in the sky”).

We now believe Inmarsat-5F4 will be launched We have long expounded the view that the GX revenue guidance could be conservative

(see original note of the same title, 19 October 2012) and could support a launch of the

“spare” Global Xpress satellite, Inmarsat-5F4 (first procured in November 2013 in

response to Proton failures). We now have enough conviction to embed the same within

our forecasts: 1. At the 4Q14 results presentation, the CEO shared his view that there is an

incremental business case for the fourth satellite and expects to bring more news on the

topic during 2015; 2. The 2016 capex guidance (only provided for the first time at the

4Q14 results), it has been confirmed, includes the launch cost for Inmarsat-5F4.

Inmarsat has indicated that Inmarsat-5F4 will be completed during 1H16 and could be

launched as early as 3Q16 on a Falcon-9 rocket (one of the options that Inmarsat secured

with SpaceX back in Jul 2014 (and for which, the “option” prepayments were made

during 4Q14). We increase our GX revenue expectations by $50m, being less than half

the pro-rata implied revenue potential of a single GX satellite (i.e. $500m guidance

divided by 3, equalling $167m). We had already assumed that all four GX satellite would

be replaced in our terminal capex assumption, so this remains unchanged.

LightSquared: spectrum speculation Read across from the AWS-3 auction

The AWS-3 spectrum in the United States completed on 29 January 2015, with the prices

far outstripping initial expectations (>$44bn in total bids before discounts against reserve

prices totalling $10.6bn). Inmarsat’s share price has responded well, with the market

either: 1. treating the auction as a mark-to-market mechanism for Inmarsat’s “spare”

spectrum currently being leased to LightSquared (a rather fanciful thing to be doing, for

reasons discussed in the following paragraph); or 2. more credibly, seeing the auction as a

salient reminder of the “strategic” nature of wireless spectrum (discrete raw material

input to a growth industry) and therefore concluding this event the various LightSquared

stakeholders to arrive at a successful restructuring.

To mark-to-market, or not to mark-to-market, that is the question

Let us, for a moment, assume that the auction was a meaningful mark-to-market

mechanism. The unpaired B1 block of 10 MHz of 1700-1710 MHz spectrum (the

spectrum most “comparable” to LightSquared’s spectrum) was auctioned for $0.707 /

MHz / pop. Applying this to the 40 MHz of spectrum being made available to

LightSquared equates to a valuation of $9.0bn or £13.3 per share. Clearly, the price paid

for spectrum to be put to use in terrestrial mobile will far exceed satellite spectrum for use

in MSS given that the size of the former market far outstrips the latter market. To assume

that Inmarsat’s spectrum could converge towards AWS-3 prices, one needs to believe that

the ITU and the FCC will allow MSS spectrum to be re-purposed towards terrestrial

mobile, either fully or in part.

This was a theme that Inmarsat’s Chairman picked up at the 4Q14 results. Investors must

always ground their approach on the fact that spectrum is raw material input to a wireless

business. The Chairman made the point that Inmarsat is an “operating satellite company”

who uses spectrum “to drive a business”. Its L-band spectrum holdings have been used

almost exclusively to date in MSS (as is its mandated purpose according to the FCC and

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ITU), which is a profitable and attractive market, but nowhere near the size of cellular

mobile. Inmarsat could have sought to agitate for L-band to be used in terrestrial

applications but never felt the case was there. When LightSquared approached the

company with the idea of a hybrid network (the ancillary terrestrial component network)

and was willing to lead the charge on a fight with the FCC to approve the use of L-band in

such a context, Inmarsat concluded that this was a risk-averse way to pursue putting its

spectrum to work in “higher value” markets. But the philosophical approach has always

been to create value through using spectrum, not speculating on it.

Co-op agreement remains the most likely monetisation outcome

We prefer to anchor our expectations to “axiomatic” truths that govern the ultimate

direction of this important catalyst: 1. spectrum is a scarce resource; 2. there is a

monetisation roadmap with LightSquared that could be worth between 100p and 300p

per share (though there could be a renegotiation); and 3. the failure to restructure

LightSquared and a move to liquidate the business would almost certainly result in a

cancellation of the cooperation agreement and position Inmarsat as the front-runner to

bid for the LightSquared spectrum (indeed, probably the only bidder but if other bidders

emerged, a new co-operation agreement would undoubtedly have to be entered in to).

In our view, Inmarsat will focus primarily on the “bird in the hand”. A successful

restructuring of LightSquared remains the lowest risk route to monetising its spare L-band

in North America. On this point, we found the CEO's language around the LightSquared

situation to be the most concise and, frankly, optimistic we've ever heard it be at the

4Q14 results. He spoke of being in the "end-game of the bankruptcy" with a "fully-funded

exit" possible. He spoke of Inmarsat, as it’s always been, as well positioned under the

Cooperation Agreement and highlighted that the Phase 2 payments continue to be met.

He spoke of being "cautiously optimistic" and looks forward to being a "more vigorous

partner". All incrementally more positive rhetoric in our opinion and adds weight to our

view that the AWS-3 auction in the US has been/will be a catalyst for the LightSquared

stakeholders to finally reach a resolution (although actual news flow around the latest

restructuring proposal isn’t completely consistent with the CEO’s optimism).

Notwithstanding, the LightSquared situation remains in flux and we remain uninclined to

second guess the myriad permutations and agendas that will ultimately deliver a

monetisation event for Inmarsat’s 40 MHz of L-band spectrum currently being made

available to LightSquared under the cooperation agreement. Too much remains open to

speculation. Inmarsat is well positioned, but we keep the Phase 2 payments out of our

forecasts.

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Chart 5: Cooperation Agreement, Phase 2 revenue stream,

valuation per share


Chart 6: Cooperation Agreement, Phase 2 revenue stream,

valuation per share as % of current share price


Looking to the Blue Skies: what’s new? In our note, “Looking to the Blue Skies” we considered in some detail the potential of

Inmarsat’s European Aviation network (a recap of which is given in Table 5), concluding

that the upside looks significant. The network gives Inmarsat a scaled, hard to replicate,

structurally superior proposition in an, effectively, greenfield market with massive latent

demand. In this note, we revisit some of our key findings and update our views for

developments since the network was first announced in June 2014. Our approach is to

consider developments in three different categories: 1. Inmarsat related; 2. wider industry

news; and 3. Gogo related. Our work increases our conviction that Inmarsat will deliver

the revenue and EBITDA growth we’ve previously disclosed, and hence why we unwind

our discount to 40%. Our original (and unchanged) bottom-up workings for the

European aviation network are included in the Appendix.

Table 5: Overview of the European Aviation Network programme Objective Build an integrated ATG / satellite network covering the EU

Opportunity Pan-EU in-flight connectivity market

Timing Satellite segment to be launched in 2016

ATG segment to be rolled out as national licenses are obtained and business case supports, we expect

from 2015 onwards, spread over six years

ATG segment Terrestrial cellular signals 30 MHz of S-band spectrum

Distributed from a series of ~300 towers spread across EU

Satellite segment Shared payload on HellasSat-3, to be manufactured by Thales

Inmarsat’s payload to be called EuropaSat

Shared payload reduces by 50% the cost of delivering the satellite standalone

Cost ATG segment - $200-250m spread over six years

Satellite segment - $200m spread over three years

Financials No guidance yet provided (we present our expectations in this note)

Source: Company Data

Inmarsat latest: significant progress

From Inmarsat’s perspective, we would highlight the following:

Alcatel-Lucent: Inmarsat announced on 20 November that Alcatel-Lucent had

become a technology partner for the development of the European Aviation

Network. Alcatel-Lucent will be delivering the ground infrastructure component

of the network (the often referred to “Air-to-ground” or ATG segment). Inmarsat

reiterated that commercial service should start by the end of 2016. This new

development completed the major elements of the overall procurement “line-

up”: Alcatel-Lucent for the ATG segment, Thales for the satellite segment

(EuropaSat, confirmed at the time of the initial network announcement on 5

£1.08

£1.62

£2.48

£3.12

50 75 115 145

12.2%

18.3%

28.1%

35.4%

50 75 115 145

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June). We had previously said that the ATG segment had low investment risk

given it is essentially a terrestrial cellular network pointing up at the sky, so we

can’t say this is a major de-risking of the overall business case. Nonetheless it is a

positive to see tangible progress on the roll-out.

Speed to the plane: another interesting element to come out of the Alcatel-

Lucent release was confirmation that Inmarsat’s ATG network will offer the

world’s fastest in-flight connectivity with speeds up to 75 Mbps (note that

Gogo’s ATG network in the US is currently only able to offer 10 Mbps on some

routes, but with a roadmap to 70 Mbps in time, Chart 7). This is back-up to our

conviction view that with this network, Inmarsat is going to be able to offer a

price / throughput trade-off that is: 1. far superior to any possible competing

infrastructure; and 2. will be low enough to act as a catalyst for the greenfield

European in-flight connectivity market.

Regulatory risk: at the 4Q14 results, Inmarsat confirmed that it has secured

more regulatory approvals for the critical ground component – 11 EU countries

have now provided authorisation or “in-principle” approvals, including 2 of the

big 5 EU countries – this is up from 2 countries at 3Q14 results. We had

previously highlighted regulatory risk as an overhang for the investment, so this

news is welcome (indeed, the CEO's comments are that this process is tracking

ahead of expectations).

Commercial momentum: We would have liked to have heard of new

customer agreements for the network by now, in addition to the British Airways

MoU. The CEO did indicate at the resutls presentation that interest is "huge" and

that discussions with several major airlines and partners “are advanced”. On the

face of it, we would expect commercial announcements to be forthcoming in

the short term. At the results prsentation the CEO reiterated that European

aviation is due to be 6,000 aircraft by the end of the decade, larger than Gogo’s

North American market opportunity (note our European Aviation Network

modelling assumes only 3,400 aircraft, see Appendix).

Interview with Leo Mondale: In an interview with the Runway Girl Network

website (5 December 2014), Inmarsat’s president of aviation, Leo Mondale was

quoted as saying the target is to launch the network in 2016. He was also

quoted as saying that for the ATG / S-band network, Inmarsat was strongly

considering the option of offering the service directly to airlines. Mondale says

Inmarsat is “in constant communication with the partners in our eco-system to

develop the best possible offer to airlines”, but he stresses that airlines are in the

driver’s seat.

Ku-band land grab: it has become increasingly apparent that there is a land

grab happening in the in-flight connectivity market, with incumbents pushing

solutions hard (here, we’re referring to Panasonic Avionics, Gogo and Global

Eagle) to ensure as large an installed base of customers as possible. The rationale

being that once a commitment has been made, the long replacement cycle and

high capex costs associated with fitting-out a plan make that customer hard to

churn. What’s a concern from Inmarsat’s perspective is that that the land grab is

happening in the Ku-band, given it is the readily available satellite capacity

available. Inmarsat’s capabilities are in the L-band, Ka-band (Global Xpress) and

the S-band (ATG). Inmarsat is having some success in securing share of airlines

new to in-flight connectivity (see Table 6), but we do fear that investment

decisions could be swayed by what’s available now.

Chart 7: Broadband speeds to

the plane, Mbps


0.0

0.4

3.1

10.0

50.0

60.0

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0 20 40 60 80 100

Iridium

Inmarsat SBB

Gogo ATG

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Gogo GTO

Gogo 2KU

Inmarsat ATG

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Table 6: Recent announcements of in-flight deployments, non-US Date Airline Fleet / Route Band Product Provider (retail) Provider

(wholesale)

15-Oct-13 Japan Airlines Domestic 777s Ku Ku Gogo Multiple

19-Feb-14 Air China A330s Ka GX Honeywell Inmarsat

5-Jun-14 British Airways UK routes S ATG British Airways Inmarsat

26-Aug-14 AeroMexico 737s Ku 2Ku Gogo Multiple

16-Sep-14 Vietnam Airlines 787s, A350s L / Ka SwiftBB / GX Gogo Inmarsat

17-Sep-14 Virgin Atlantic Existing fleet Ku 2Ku Gogo Multiple

7-Jan-15 Qatar Airways A350s Ka GX OnAir Inmarsat


Industry latest: more interest, more momentum

Across the industry there have been a number of notable developments, we would

highlight the following:

Ryanair: On 14 January 2015, it was reported that Ryanair will begin testing a

free in-flight wifi service on selected routes. It will initially be a limited trial

offered on a handful of aircraft. The cost of the service will be funded via

targeted advertising. Ryanair is in talks with two partners. The Ryanair CTO has

been quoted as saying the implementation and running costs of a service must

come down before a mass roll-out can be considered and that “one possibility”

is for Ryanair to use Inmarsat’s ATG network.

EasyJet: the question of inflight connectivity came up on the full year results for

EasyJet, presented on 18 November. EasyJet CEO, Carolyn McCall, said that the

business isn’t getting an “avalanche of customers” asking for the service now,

but it is “going to become normal in the next few years”. Her comments that

wifi is currently too highly priced and patchy and therefore doesn’t support

being a first mover on in-flight connectivity are probably supporting of

Inmarsat’s position given the ATG network will dramatically bring down the cost

of the service.

Lufthansa: On 7 October 2014, Lufthansa issued an RFP for an in-flight

connectivity service for its short and medium haul routes. We note that

Lufthansa offers Panasonic Avionics’ Ku-band satellite-supported inflight

connectivity solution on its long-haul aircraft.

AT&T: an issue that Gogo faced was replicability. On 28 April 2014 AT&T

announced that it will be building a competing ATG network to address the US

in-flight connectivity market in direct competition with Gogo by 2015. A

fundamental factor that allowed AT&T to replicate Gogo’s network was that

wireless spectrum in the US, for the most part, is licensed on a national basis. In

August 2014, AT&T actually began to lobby the FCC to allow it to use some of

its 2.3 GHz spectrum for an ATG network. This was a considerable threat to

Gogo given AT&T’s heritage in wireless, its significantly larger spectrum assets

and financial muscle. However, in November 2014 it emerged that AT&T was no

longer looking at entering the market – after the Iusacell and DirecTV

acquisitions, capital for this investment was no longer available. Indeed, Gogo

has expressed a willingness to talk with AT&T about potentially leasing the

aforementioned spectrum from AT&T.

SmartSky networks: After working in secret for the past four years, SmartSky

announced at the NBAA convention in Orlando in October 2014 that it plans to

take on Gogo with its own ATG network. SmartSky’s goal is to deliver wireless

connectivity equal to that available on the ground. SmartSky promises to

provide at least 10 times the typical speed and capacity of existing aviation

networks by using 60MHz of spectrum for air-to-ground (ATG) data

communication. SmartSky plans to launch an exclusive beta-customer trial for

business aviation and airline customers in the USA in late 2015. A nationwide

commercial roll-out is scheduled for 2016. Commenting on its 3Q14 results call,

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Gogo shared its view that SmartSky’s apparent use of unlicensed spectrum is an

“extraordinarily risky” way of going about an ATG network.

Saturation point: In its latest report on the state of in-flight wifi, Routehappy

notes that connectivity on US airlines is reaching saturation point with a clear

trend of airlines returning to connectivity providers to upgrade (Virgin America

upgraded to Gogo’s ATG-4, Alaska Airlines to follow). According to Runway Girl

Network, there are virtually no commercial aircraft in the US not looking at

connectivity.

Usage: ViaSat in its 3Q14 results call noted that per-device consumption has

doubled on its flights over the past year. United Airlines seems to believe that in-

seat entertainment is “a dinosaur” (with rumours of tablet holders being

installed on tray tables in first class with the plan to stream DirecTV to

passenger’s devices). Glen Latta, president of Thales’ LiveTV unit, actually

envisions, as the cost of delivery of connectivity continues to come down, that

all personal entertainment will move to the cloud and being streamed to

passengers, thereby saving airlines the cost of bulking and inefficient on-board

equipment.

Echostar: As previously highlighted, Echostar is Inmarsat’s only source of

potential “like-for-like” infrastructure competition for the European Aviation

Network given it is the only other S-band license holder. For these reasons we

closely track Echostar’s intentions. To date, the rather loosely worded objective

is to build a hybrid network using satellite capacity and terrestrial repeaters in

order to provide “MSS services”. On its 4Q14 results call, Echostar management

indicated that the Echostar-21 S-band satellite for Europe should be launched in

1Q16. Management have indicated a level of frustration as to the “daunting

task” of working with each EU member state to gain the necessary licenses to

operate a complementary ground component in the S-band in each individual

country.

Gogo latest: growing coverage, yield and capacity

As a highly comparable peer for Inmarsat’s European Aviation network (namely, in-flight

connectivity using a combination of ATG and satellite) we again revisit Gogo, and

specifically recent developments in the latter’s progress since our detailed review of the

business in the “Looking to the Blue Skies” note. Broadly, we continue to have a

favourable impression of where Inmarsat’s investment could take it based on Gogo’s

progress. We would highlight in particular:

Addressable market: Gogo management have articulated the in-flight market

as 40,000 commercial and business aircraft, climbing to 70,000 over the next 20

years, mostly outside the US. It is “inevitable” that most if not all aircraft will get

connected, leading to, Gogo believes, a $30bn revenue industry within 20 years.

2Ku (I): on 25 February, Gogo announced that Delta had selected its

narrowbody aircraft serving long-haul domestic / Latam / Caribbean routes will

be upgraded to Gogo’s 2Ku technology, equal to a total of 250 aircraft (over

10% of Gogo’s commercial installed base of aircraft). 2Ku is a satellite based

technology first announced in 1H14 and delivers a massive upgrade in

deliverable speeds (70 Mbps to the plane, 20 times the original ATG speeds). As

such, 2Ku is critical tool for addressing Gogo’s increasingly problematic capacity

constraints.

2Ku (II): it’s important to put the optimism around 2Ku into context given that

this marks satellite as the preeminent infrastructure for Gogo going forward,

rather than the air-to-ground network. Investors could rightfully question why

Inmarsat is pursuing ATG when Gogo is de-emphasising it. Firstly, Gogo’s ATG

network, as we’ve previously highlighted, has only one tenth of the spectrum

that Inmarsat’s will, causing absolute limitations on throughput – Gogo needs

Chart 8: Gogo, share price

Source: FactSet

$0

$5

$10

$15

$20

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Jun-13 Dec-13 Jun-14 Dec-14

GOGO-US

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satellite to augment ATG, and in 2Ku they have a great solution. Indeed, note

that Gogo’s 3 March 2015 $340m convertible bond offering is to build a war

chest in anticipation of 500 MHz of 14 GHz spectrum being auctioned in the US.

Secondly, Gogo’s embarking on a period of massive international expansion,

where there are no ATG networks; hence satellite has to be the kernel of its

network strategy.

It’s all about ARPA, not take-rate: a point we made in the aforementioned

note was Gogo’s low take-rate for its service. This has remained low (LTM to

4Q14 of average of 6.7% compared to LTM to 1Q14 of 6.4%) but the message

from Gogo management has been that the metric they measure the business on

is average revenue per aircraft online in any given quarter which has been

accelerating its growth (currently >20% yoy). The message is that monetisation

of Gogo’s “connectivity” can take many forms rather than just basic internet

access – and here Gogo has launched associated products such as Gogo Text

and Gogo Vision – that take-rates are too one-dimensional. On its 4Q14 results

call, Gogo was very clear that it has been using pricing as a tool for managing

take-rates down in the US (total average revenue per internet session grew 7% in

2014).

Bringing more capacity to bear: Gogo has been very active in migrating

aircraft to ATG-4, tripling the speeds to the plan in the process (3 Mbps to 10

Mbps). Management indicated the insatiable demand existing customers have

for more capacity. More and more airlines are considering either Gogo’s 2Ku or

GTO technology as a next logical step in their in-flight offering.

International expansion. Gogo is pushing hard on growth opportunities

outside of the US. In 3Q14 it signed up Virgin Atlantic and Vietnam Airlines as

customers, following on from pre-existing Aeromexico and Air Canada

international customers. On 26 January 2015, Gogo announced that it was on

track for record aircraft installs in 2015. The company now has a backlog of

more than 1,000 commercial aircraft, more than half of which are expected to

be installed in 2015 and 25% are international aircraft. Current aircraft online is

2,098.

Chart 9: Gogo, aircraft online*

Source: Company data *Number of commercial aircraft on which Gogo’s ATG network equipment is installed and Gogo service has been made commercially available

Chart 10: Gogo, ARPS ($)

Source: Company data *Average revenue per session is revenue divided by the total number of sessions during the period. A session is defined as the use by a unique passenger of Gogo on a flight (multiple logins or purchases under the same user name during one flight segment count as only one session)

Chart 11: Gogo, connectivity take rate

Source: Company data *Number of sessions during a period expressed as a percentage of gross passenger opportunity (being, the total number of addressable passengers in any given period)

1,5

65

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2Q12 4Q12 2Q13 4Q13 2Q14 4Q14

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2Q12 4Q12 2Q13 4Q13 2Q14 4Q14

5.9%

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4.5%

5.0%

5.5%

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6.5%

7.0%

2Q12 4Q12 2Q13 4Q13 2Q14 4Q14

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Chart 12: Gogo, revenue ($m)


Chart 13: Gogo, EBITDA margin


Chart 14: Gogo, EBITDA - capex ($m)


L-band upside So much of the discussion of the Inmarsat equity has, necessarily, focused on Global

Xpress. We must of course also consider the outlook for the legacy L-band business,

which remains, in our view, a high quality growth / high barrier to entry growth business.

Inmarsat continues the re-invention of the L-band business with a focus on “innovation,

internationalisation, and diversification”. We share management’s optimism and believe

the L-band business is positioned for upside surprise. We would highlight the following:

Maritime: in the maritime segment we see scope for both subscriber growth

and ARPU growth. Inmarsat have highlighted its low market share in the leisure /

fishing / yacht markets (Chart 15) where it has quantified $160m of incremental

market share it will be able to address with the various new low-end product

launches (Fleet One launched in 2Q14). In terms of ARPU growth, we see

exceptionally strong growth tailwinds: 1. Price elasticity of demand as

FleetBroadband brings down data pricing upon migration (45% of the FB base

have already moved to higher volume plans); 2. New products will drive

utilisation (and here, Fleet Media – the “downtime” streaming of movies / TV

shows to ships – has huge scope); and 3. More qualitatively, the secular moves

towards “smart shipping”, where vessels are seen as a node on a corporate

network – this is perhaps best summed up by the change of perception by the

shipping operators to viewing communications as “value not cost”.

Global government: with US government budget sequester dominating

perceptions of “government” business, it is easy to overlook Inmarsat’s $126m

global (i.e. non-US) government business. Inmarsat’s business is currently

heavily skewed towards Europe (where budget constraints also exist) but with

large scope to expand both market size and share in emerging market regions

(in 2012, 80% of revenue was derived from six countries). NSR believes overall

market growth to be 11% compounded from 2012-2022 from a $2.7bn base

currently. Inmarsat is, not surprisingly, number 1 in MSS. The strategy is to grow

into new markets, particularly emergency services / border protection / critical

national infrastructure. The graphic from the CMD in Chart 16 gives a sense of

the opportunity given the countries in yellow represent where Inmarsat has only

recently established dedicated sales teams and those in red are in development.

Inmarsat has now built direct or indirect presences in 24 countries since the start

of 2014, with the incremental points of presence delivering revenue in excess of

its costs. In 2015, the focus will be on driving penetration in these new markets.

Developers conference: in January 2015, Inmarsat hosted its first ever

developer’s conference, a three day event attended by over 300 software,

hardware and application developers. Inmarsat’s objective is to open up its

0

10

20

30

40

50

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80

Commercial

(US)

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(RoW)

Business

2Q12 3Q12 4Q12 1Q132Q13 3Q13 4Q13 1Q142Q14 3Q14 4Q14

(2%)

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2Q12 4Q12 2Q13 4Q13 2Q14 4Q14

(40)

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0

2Q12 4Q12 2Q13 4Q13 2Q14 4Q14

Chart 15: Maritime MSS market

segmentation


Chart 16: Global government*

Source: Company Data *Countries in yellow indicate where ISAT has only recently established dedicated sales teams

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platforms to developers to encourage new ideas that will change the way

satellite communications are implemented. The IDC builds upon Inmarsat’s

October 2012 announcement of an alliance with Cisco to develop a service

delivery platform that would work on Inmarsat’s satellites. The conference

launched a Certified Application Partner programme that offers delegates the

chance to become an official Inmarsat developer. By opening up its technology

platforms to third parties, Inmarsat, in our view, has increased the scope for

volume growth than if it had pursued a more close architecture.

Enterprise and the “internet of things”: building upon the previous bullet

point, a major thematic that constantly recurs with Inmarsat is the “big data”

thematic, often interchangeably used with the phrase “the internet of things” or

“the industrialised internet”. The idea is that, in time, everything will be

connectable and therefore all providers / operators of communications

infrastructure could yet benefit from huge increases in data demand. For

Inmarsat’s L-band business, the enterprise segment is where the company

would see the growth (in particular, in M2M). We look at this theme in some

more detail below.

Spotlight on “internet of things”

Cisco predicts that connected devices will grow from 12bn in 2013 to 50bn by 2020. NSR

predicts the satellite M2M / IoT industry to grow at a CAGR of 9.3% from 2.4m units in

2013 to 6.0m in 2023. While infrastructure competition is fierce (given cellular coverage is

now virtually ubiquitous over land) the strengths of satellite based solutions are many,

particular on low cost coverage and perhaps most importantly of all, reliability. NSR

predicts that L-band will dominate satellite M2M connections, with 93% share. L-band

dominates primarily due its lower cost terminals, and their smaller size.

This is welcome upside for Inmarsat, but the real challenge is to face-off against

infrastructure competition to take a slice of the much bigger M2M “pie”: consumer IoT,

which is set to be dominated by cellular connections but will be the largest segment of

the overall 50bn installed base (as per the Cisco forecasts above).

In NSR’s view, satellite consumer IoT has potential, although it is still finding its place.

One specific opportunity NSR has highlighted is dual-mode solutions, which are IoT

devices that can connect to both cellular and satellite signals. Eutelsat’s investment in IoT

player Sigfox (announced on 11 February 2015), whose solution is cellular is testament to

the satellite industry’s belief it can contribute. In NSR’s words, “whilst the majority of

consumer applications will be based on cellular technologies, the vast growth of the

number of connected devices will mean that even a small sliver of devices being

connected to satellite networks will allow [for sustained growth]”.

We would finally highlight Inmarsat’s November 2013 strategic alliance with Orbcomm

covers the joint ownership and future development and commercialisation of the IsatData

Pro (IDP) technology, enabling Inmarsat to enhance the offering to its M2M partner

ecosystem, further supporting the adoption of IDP in multiple new markets.

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Changes to Estimates

Table 7: Changes in estimates FY15 FY16 FY17 FY18

Revenue

JEFe prior 1,265.3 1,415.9 1,552.9 1,771.9

JEFe current 1,260.5 1,412.0 1,544.2 1,741.9

Change (0.4%) (0.3%) (0.6%) (1.7%)

Consensus 1,269.0 1,365.1 1,498.9 1,717.9

JEFe vs. consensus (0.7%) 3.4% 3.0% 1.4%

EBITDA

JEFe prior 661.7 773.5 897.7 967.5

JEFe current 659.8 774.2 861.7 950.2

Change (0.3%) 0.1% (4.0%) (1.8%)

Consensus 672.8 751.8 825.6 1,035.6

JEFe vs. consensus (1.9%) 3.0% 4.4% (8.2%)

Source: Jefferies estimates, FactSet consensus

Table 8: Summary Forecast Changes for Inmarsat FY15e New FY15e Old % Change FY16e New FY16e Old % Change

Sales 1,260.5 1,265.3 (0.4%) 1,412.0 1,415.9 (0.3%)

EBITDA 659.8 661.7 (0.3%) 774.2 773.5 0.1%

EBIT 344.8 333.4 3.4% 461.2 448.8 2.8%

EPS $0.432 $0.408 6.0% $0.620 $0.593 4.6%

Drivers of change: FY14 actual base shifting FY15 onwards with unchanged growth rates


Table 9: Inmarsat, revenue forecasts ($’m) 1Q13a 2Q13a 3Q13a 4Q13a 1Q14a 2Q14a 3Q14a 4Q14a FY14a FY15e FY16e FY17e

Revenue ($m)

Maritime 126.7 132.8 132.4 132.9 148.2 152.6 147.6 147.2 595.6 631.7 688.6 741.4

Government 107.7 111.0 94.1 95.5 79.5 80.5 76.3 83.6 319.9 302.0 350.3 376.6

Enterprise 54.9 57.1 53.0 56.6 44.4 39.9 40.9 41.5 166.7 166.7 179.2 186.4

Aviation 16.3 17.6 18.2 21.3 22.2 23.8 20.7 34.4 101.1 121.3 145.6 167.4

Central Services 5.2 5.9 4.3 6.1 5.1 9.0 5.3 7.8 27.2 27.7 28.3 28.9

Total MSS and other revenue 310.8 324.4 302.0 312.4 299.4 305.8 290.8 314.5 1,210.5 1,249.4 1,392.0 1,500.6

LightSquared 2.9 2.2 4.8 2.4 45.3 1.8 9.8 18.5 75.4 10.0 10.0 10.0

Total revenue 313.7 326.6 306.8 314.8 344.7 307.6 300.6 333.0 1,285.9 1,259.4 1,402.0 1,510.6

Revenue growth

Maritime 6.3% 3.8% 3.4% 4.3% 17.0% 14.9% 11.5% 10.8% 13.5% 6.1% 9.0% 7.7%

Government (7.0%) (8.2%) (17.9%) (18.7%) (26.2%) (27.5%) (18.9%) (12.5%) (21.7%) (5.6%) 16.0% 7.5%

Enterprise n/a n/a n/a n/a (19.1%) (30.1%) (22.8%) (26.7%) (24.8%) 0.0% 7.5% 4.0%

Aviation n/a n/a n/a n/a 36.2% 35.2% 13.7% 61.5% 37.7% 20.0% 20.0% 15.0%

Central Services n/a n/a n/a n/a (1.9%) 52.5% 23.3% 27.9% 26.5% 2.0% 2.0% 2.0%

Total MSS and other revenue n/a n/a n/a n/a (3.7%) (5.7%) (3.7%) 0.7% (3.1%) 3.2% 11.4% 7.8%

LightSquared n/a n/a n/a n/a 1462.1% (18.2%) 104.2% 670.8% 513.0% (86.7%) 0.0% 0.0%

Total revenue n/a n/a n/a n/a 9.9% (5.8%) (2.0%) 5.8% 1.9% (2.1%) 11.3% 7.7%

Source: Jefferies estimates, company data

Table 10: Inmarsat, EBITDA forecasts ($’m) 1Q13a 2Q13a 3Q13a 4Q13a 1Q14a 2Q14a 3Q14a 4Q14a FY14a FY15e FY16e FY17e

Maritime 98.1 106.3 107.6 104.5 111.5 114.9 113.8 110.2 450.4

Government 66.5 74.8 63.1 63.5 53.9 53.6 51.4 57.5 216.4

Enterprise 27.6 28.5 28.7 30.8 26.0 23.5 24.5 28.1 102.1

Aviation 15.3 15.9 16.9 19.1 20.5 21.4 17.4 27.9 87.2

Central Services (53.2) (52.6) (52.3) (69.3) (47.2) (55.3) (50.8) (76.8) (230.1)

Total MSS and other EBITDA 154.3 172.9 164.0 148.6 164.7 158.1 156.3 146.9 626.0 649.9 772.5 862.9

Margin 49.6% 53.3% 54.3% 47.6% 55.0% 51.7% 53.7% 46.7% 51.7% 52.0% 55.5% 57.5%

Margin progression n/a n/a n/a n/a 5.4pp (1.6pp) (0.6pp) (0.9pp) 0.5pp 0.3pp 3.5pp 2.0pp

Growth n/a n/a n/a n/a 6.7% (8.6%) (4.7%) (1.1%) (2.2%) 3.8% 18.9% 11.7%

LightSquared 0.9 1.1 4.7 2.3 45.2 1.7 9.7 18.4 75.0 9.9 9.9 9.9

Total EBITDA 155.2 174.0 168.7 150.9 209.9 159.8 166.0 165.3 701.0 659.8 782.4 872.8

Margin 49.5% 53.3% 55.0% 47.9% 60.9% 52.0% 55.2% 49.6% 54.5% 52.4% 55.8% 57.8%

Margin progression n/a n/a n/a n/a 11.4pp (1.3pp) 0.2pp 1.7pp 3.1pp (2.1pp) 3.4pp 2.0pp

Growth n/a n/a n/a n/a 35.2% (8.2%) (1.6%) 9.5% 8.0% (5.9%) 18.6% 11.6%


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Table 11: P&L forecasts ($’m) 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 FY14a FY15e FY16e FY17e

Revenue 306.8 314.8 344.7 307.6 300.6 333.0 1,285.9 1,260.5 1,412.0 1,544.2

Growth 9.9% (5.8%) (2.0%) 5.8% 1.9% (2.0%) 12.0% 9.4%

Net operating costs (138.1) (163.9) (134.8) (147.8) (134.6) (167.7) (584.9) (600.7) (637.8) (682.5)

Growth (15.0%) (3.1%) (2.5%) 2.3% (4.6%) 2.7% 6.2% 7.0%

EBITDA 168.7 150.9 209.9 159.8 166.0 165.3 701.0 659.8 774.2 861.7

Margin 55.0% 47.9% 60.9% 52.0% 55.2% 49.6% 54.5% 52.3% 54.8% 55.8%

Growth 35.2% (8.2%) (1.6%) 9.5% 8.0% (5.9%) 17.3% 11.3%

D&A (60.2) (63.5) (67.6) (68.5) (76.5) (79.2) (291.8) (317.6) (315.6) (318.4)

% of capex 53.0% 1411.1% 39.0% 67.1% 105.4% (3600.0%) 84.4% 76.8% 88.3% 98.2%

Acquisition related adjustments 3.0 1.6 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Growth nm nm nm nm nm nm nm nm nm nm

Gain on sales of assets / (impairments) (77.0) (98.9) (1.1) 0.4 (0.1) (1.7) (2.5) 0.0 0.0 0.0

Income from associates 0.7 0.2 0.5 0.8 0.8 0.5 2.6 2.6 2.6 2.6

Growth (37.5%) 33.3% 14.3% 150.0% 13.0% 0.0% 0.0% 0.0%

Operating income 35.2 (9.7) 141.7 92.5 90.2 84.9 409.3 344.8 461.2 546.0

Margin 11.5% (3.1%) 41.1% 30.1% 30.0% 25.5% 31.8% 27.4% 32.7% 35.4%

Growth 51.9% (22.7%) 156.3% (975.3%) 71.7% (15.8%) 33.8% 18.4%

Interest income 1.1 1.6 0.9 5.7 0.9 0.6 8.1 2.0 0.2 (0.3)

Growth (35.7%) 612.5% (18.2%) (62.5%) 65.3% (74.8%) (90.2%) (267.1%)

Interest expense (12.8) (25.5) (9.1) (49.2) 13.0 (29.8) (75.1) (91.1) (94.6) (93.8)

Effective interest rate 0.5% 3.0% (0.7%) 1.6% 4.0% 4.7% 4.7% 4.8%

Profit before tax 23.5 (33.6) 133.5 49.0 104.1 55.7 342.3 255.8 366.8 451.9

Margin 7.7% (10.7%) 38.7% 15.9% 34.6% 16.7% 26.6% 20.3% 26.0% 29.3%

Growth 54.5% (56.6%) 343.0% (265.8%) 81.0% (25.3%) 43.4% 23.2%

Income tax expense (13.9) (9.2) (27.3) (7.2) (25.3) 58.6 (1.2) (61.4) (88.0) (108.4)

Effective tax rate 20.4% 14.7% 24.3% (105.2%) 0.4% 24.0% 24.0% 24.0%

Minority interests (0.2) (0.2) (0.1) (0.2) (0.1) (0.2) (0.6) (0.6) (0.6) (0.6)

Growth 0.0% 100.0% (50.0%) 0.0% 0.0% 0.0% 0.0% 0.0%

Net income attributable 9.4 (43.0) 106.1 41.6 78.7 114.1 340.5 193.8 278.2 342.8

Margin 3.1% (13.7%) 30.8% 13.5% 26.2% 34.3% 26.5% 15.4% 19.7% 22.2%

Growth 63.5% (41.2%) 737.2% (365.3%) 233.8% (43.1%) 43.5% 23.2%


Table 12: Cash flow forecasts ($’m) 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 FY14a FY15e FY16e FY17e

Cash generated from operations 195.9 (1.5) 303.9 153.7 197.8 (2.0) 653.4 650.5 764.9 852.4

Interest received 0.2 1.2 0.4 0.0 0.2 0.3 0.9 2.0 0.2 (0.4)

Income taxes paid (1.1) (2.1) (1.8) 3.0 (1.1) (9.6) (9.5) (61.4) (88.0) (108.4)

Net cash flows from operating activities 195.0 (2.4) 302.5 156.7 196.9 (11.3) 644.8 591.1 677.0 743.5

Capex (113.5) (4.5) (173.4) (102.1) (72.6) 2.2 (345.9) (413.3) (357.5) (324.2)

Additions to capitalised development costs (7.5) (8.3) (15.9) (7.3) (6.0) 0.2 (29.0) 0.0 0.0 0.0

Own work capitalised (7.0) (6.3) (15.8) 0.0 (6.3) (8.7) (30.8) 0.0 0.0 0.0

Acquisition of subsidiaries (0.6) 1.5 (18.5) 4.5 0.0 (4.7) (18.7) 25.0 0.0 0.0

Net cash flow from investing activities (128.6) (17.6) (223.6) (104.9) (84.9) (11.0) (424.4) (388.3) (357.5) (324.2)

Dividends paid to shareholders (1.9) 44.2 (142.1) (142.1) (1.6) 73.2 (212.6) (219.5) (230.5) (242.0)

Net drawdown / (repayment) debt 27.2 (130.5) 98.8 91.9 10.4 (42.6) 158.5 (94.7) (83.4) (73.4)

Other loan charges (0.9) 150.6 (8.9) (8.7) (2.1) 5.9 (13.8) 0.0 0.0 0.0

Interest paid (12.5) (2.8) (47.4) (36.7) (11.3) 6.4 (89.0) (73.0) (70.0) (67.4)

Net proceeds from issue of shares 0.0 0.0 0.0 0.0 0.0 0.2 0.2 0.0 0.0 0.0

Buybacks 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Other financing activities (0.1) (2.7) 13.8 13.4 0.6 (27.5) 0.3 0.0 0.0 0.0

Net cash flow from financing activities 11.8 58.8 (85.8) (82.2) (4.0) 15.6 (156.4) (387.2) (383.9) (382.8)

FX impact 0.2 0.5 0.5 0.0 (0.6) (0.3) (0.4) 0.0 0.0 0.0

Increase / (decrease) in cash 78.4 39.3 (6.4) (30.4) 107.4 (7.0) 63.6 (184.4) (64.4) 36.6


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Table 13: EPS and DPS forecasts 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 FY14a FY15e FY16e FY17e

EPS $0.760 $0.432 $0.620 $0.764

Growth 233.8% (43.1%) 43.5% 23.2%

DPS $0.489 $0.514 $0.540 $0.567

Pay-out ratio (earnings) 64.4% 118.9% 87.0% 74.1%

Pay-out ratio (cash) 146.2% 219.9% 97.0% 72.2%

Yield 3.6% 3.8% 4.0% 4.2%

Growth 5.0% 5.0% 5.0% 5.0%


Table 14: Cash flow forecasts ($’m) 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 FY14a FY15e FY16e FY17e

EBITDA 168.7 150.9 209.9 159.8 166.0 165.3 701.0 659.8 774.2 861.7

Capex (128.0) (19.1) (205.1) (109.4) (84.9) (6.3) (405.7) (413.3) (357.5) (324.2)

Operating cash flow 40.7 131.8 4.8 50.4 81.1 159.0 295.3 246.5 416.7 537.6

Growth (104.1%) 316.5% 99.3% 20.6% 332.4% (16.5%) 69.1% 29.0%

Cash generated from operations 195.9 (1.5) 303.9 153.7 197.8 (2.0) 653.4 650.5 764.9 852.4

Capex (128.0) (19.1) (205.1) (109.4) (84.9) (6.3) (405.7) (413.3) (357.5) (324.2)

Net interest paid (12.3) (1.6) (47.0) (36.7) (11.1) 6.7 (88.1) (71.0) (69.8) (67.7)

Tax paid (1.1) (2.1) (1.8) 3.0 (1.1) (9.6) (9.5) (61.4) (88.0) (108.4)

Equity free cash flow 54.5 (24.3) 50.0 10.6 100.7 (11.2) 150.1 104.7 249.5 352.0

Growth (219.9%) (114.6%) 84.8% (53.9%) (278.7%) (30.2%) 138.2% 41.1%


Table 15: Net debt 1Q14 2Q14 3Q14 4Q14 FY14a FY15e FY16e FY17e

Reported net debt (Jefferies calc) 1,952.8 1,615.2 1,811.2 1,900.7 1,900.7 2,013.3 2,018.8 1,935.2

Reported net debt (Inmarsat) 1,952.8 1,615.2 1,811.2 1,900.7 1,900.7 2,013.3 2,018.8 1,935.2

Difference 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Net debt / EBITDA 5.41x 2.34x 2.64x 2.71x 2.71x 3.05x 2.61x 2.25x


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Appendix: European Aviation Network

Table 16: The arguments against the upside potential from the S-band ATG / satellite investment Arguments against the investment Thoughts for consideration

Echostar will launch a competing ATG / satellite network It is only fair to assume that this eventuality could indeed play out. Echostar is far further along the track vis-à-vis

the satellite segment than Inmarsat and could probably partner with mobile operators / infrastructure operators

to replicate the ATG segment (given it has the only other pan-EU spectrum license)

Bear in mind that the major enabling factor of this opportunity would be the ATG segment, where Inmarsat does

have first mover advantage

What Echostar will never be able to replicate is Inmarsat’s ability to roam seamlessly onto a global high

throughput network (i.e. Global Xpress). This is a major source of competitive differentiation for Inmarsat

Regulatory risks (obtaining national licenses, spectrum / license fees) Inmarsat would not have moved to announce the investment programme without road testing the proposition

with national regulatory authorities

There is an 80:20 dynamic to the national licenses with just five countries representing the comfortable majority

of European airspace and passengers

The ATG segment capex will only follow behind the securing of national licenses

At most, Inmarsat is “at risk” for the $200m of satellite capex, which as a hosted payload is half what it would’ve

cost to do standalone

As Inmarsat moves forward, it will be accruing value with each license obtained, irrespective of whether the full

set of 28 national licenses are obtained

Gogo only delivers 3.1 Mbps with its ATG network, and 9.8 Mbps with its

ATG-4 network

Even at 3.1 Mbps, this is a competitive offering compared to what’s achievable on a wide-beam satellite.

Nonetheless, Inmarsat’s ATG segment, given it has a far larger spectrum availability will far outstrip Gogo’s

throughput for the same cost (compared to Gogo’s ATG or ATG-4 technology). This combination ensures the

service has consumer appeal

Gogo is aggressively pushing into the international, non-US, markets

Gogo held its first ever capital markets day on 18 June. The number of

international proposals that Gogo has submitted in 2014 has increased 400

percent compared with 2013. It is targeting achieving contract awards of

500 to 1,000 aircraft by the end of 2015, compared with 332 today

Gogo and Inmarsat have a memorandum of understanding for the former to use Inmarsat’s Global Xpress

network outside of the US. We would take it as almost certain that that MoU incorporates some form of non-

compete agreement that would cover the proposed ATG / satellite network to cover the EU

Indeed, it wouldn’t be a surprise to see Inmarsat and Gogo partner on the European operation, allowing the

latter to deliver the retail capability (marketing, software, billing etc.) where the airline doesn’t have the appetite

to control the customer relationship

Gogo top-line growth is impressive (Chart 11) but the profitability is low

(Chart 12) and it has negative operating cash flow (Chart 13)

Gogo is at the very bottom of the S-curve. It is investing to grow, focusing on both expanding geographical

markets (opex) and increasing its network capacity (the aforementioned technology roadmap, capex)

Gogo management have spoken, with high conviction, that its 50% gross margins can translate to attractive

profitability as the business matures

The ATG / satellite network cannibalises GX GX was never about aviation. The aviation market was consistently positioned by Inmarsat as an interesting,

growth segment into which it plays well with GX, but it was never the primary focus (US government was / is the

primary focus for GX)

With the ATG / satellite network, Inmarsat is basically investing a superior infrastructure to GX to address the

aviation market in Europe, but we would argue that European aviation with the GX business plan was only ever a

very small contributor

The European airlines don’t want to have to wait three years

Competing options will win market share now, with long equipment

replacement cycles

Inmarsat has unequivocal first move advantage on ATG, the best technical solution for in-flight connectivity

Inmarsat expects to be able to launch a service using the ATG segment in certain geographies independently of

the satellite segment, therefore reducing time to market

In-flight connectivity is a greenfield market opportunity currently

Getting the ATG / satellite equipment certified and retrofit / line-fit onto

planes is a big bottleneck

Inmarsat does not have a standing start. It has now accumulated significant certification experience from the

execution of its L-band and GX aviation strategies

The certification process for ATG equipment is significantly less onerous than for satellite equipment given its

much smaller and less sophisticated

Source: Jefferies

We perform our own analysis on Inmarsat’s potential addressable market, using Gogo’s

operational KPIs as a framework. Our objective is to quantify the “Gross Passenger

Opportunity” (GPO) for Inmarsat as a foundation for generating a potential revenue

forecast.

GPO measures the total number of passengers in any given period that could potentially

subscribe for a broadband service while in flight. It is a function of the total number of

“aircraft online” (i.e. planes with Inmarsat’s equipment installed), average seats per plane,

average flights per day, total flying days and load factor. The output of our analysis is

presented in Table 17 below, with all key assumptions given in the footnotes. In short, we

see Inmarsat having an annual GPO of ~200m five years of launch (growing to 300m in

time). We can then apply a “connectivity take rate” and a spend assumptions to arrive at a

revenue figure.

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Table 17: Addressable market (building the “Gross Passenger Opportunity”, or GPO)

2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025

Total aircraft (units)1 3,400.0 3,434.0 3,468.3 3,503.0 3,503.0 3,503.0 3,503.0 3,503.0 3,503.0 3,503.0 3,503.0 3,503.0

Growth n/a 1.0% 1.0% 1.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Aircraft online (units)2 0.0 34.3 104.1 175.2 525.5 875.8 1,050.9 1,226.1 1,401.2 1,576.4 1,751.5 1,751.5

Penetration of total aircraft 0.0% 1.0% 3.0% 5.0% 15.0% 25.0% 30.0% 35.0% 40.0% 45.0% 50.0% 50.0%

Average seats per plane (units)3 180.0 180.0 180.0 180.0 180.0 180.0 180.0 180.0 180.0 180.0 180.0 180.0

Growth n/a 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Average flights per day (units)4 3.5 3.5 3.5 3.5 3.5 3.5 3.5 3.5 3.5 3.5 3.5 3.5

Growth n/a 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Flying days (units)4 360.0 360.0 360.0 360.0 360.0 360.0 360.0 360.0 360.0 360.0 360.0 360.0

Growth n/a 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Load factor5 80.0% 80.0% 80.0% 80.0% 80.0% 80.0% 80.0% 80.0% 80.0% 80.0% 80.0% 80.0%

Change n/a 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Gross Passenger Opportunity (m)7 0.0 6.2 18.9 31.8 95.3 158.9 190.7 222.5 254.2 286.0 317.8 317.8

Growth nm nm 203.0% 68.3% 200.0% 66.7% 20.0% 16.7% 14.3% 12.5% 11.1% 0.0%

Source: Jefferies, company data 1 Based on fleet size for the top 6 European airlines (Table 18) grossed up for the Top 6 share of airline passengers in 2013 (68%, source: Anna.aero) 2 Defined as total number of commercial aircraft on which Inmarsat’s ATG network equipment is installed and service made available. Penetration rate lags behind what Gogo achieved in North American market (Chart 14) 3 Based on capacity of BA’s core short haul airplane, Airbus 320 / Boeing 767 4 Based on JEFe 5 Measures the % of available seats actually sold. Based on IATA data

Table 18: Fleet size for top 6 European airlines Number of short

haul planes

Number of medium

haul Planes

Number of

long haul Planes

Total

IAG 0 266 153 419

AF-KLM 141 216 172 529

Lufthansa 162 265 177 604

RyanAir 0 303 0 303

EasyJet 0 217 0 217

Turkish Airlines 0 90 141 231

Total 303 1,357 643 2,303


Chart 17: JEFe for Inmarsat “aircraft online” as % of total EU fleet compared

to Gogo’s ramp rate since launch in August 2008 in North America

Source: Jefferies, company data

We outline our approach to modelling revenue for the ATG / satellite business (Table 20):

Retail revenue calculation. We build on our estimate of Inmarsat’s GPO with

estimates for the potential connectivity take-rate (i.e. how many passengers

within the GPO are actually using the service in any given period) and average

revenue per session (how much they’re paying for it). Again, this approach

0%

10%

20%

30%

40%

50%

60%

FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 FY24

Aircraft online (Gogo, time-shifted) Aircraft online (Inmarsat)

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mirrors Gogo’s reporting of its operational KPIs. Gogo’s current connectivity

take-rate is 6.9%, with guidance that the market should see significant uplift in

this number in time (“to saturation”). In our modelling, we make the relatively

conservative assumption that the take-rate climbs to just over a third by 2025.

Gogo’s current average revenue per session in 1Q14 was $10.55. We translate

this to Euros (€8). For reference, we include a table summarising Gogo’s current

retail pricing (Table 19).

Table 19: Gogo, pricing over time Tariff name 1-Hour pass All day pass Airline Unlimited Gogo Unlimited

Price on 4 February 2015 $5.00 $16.00 $49.95 $59.95

Hours 1 24 60 60

Cost per hour of connectivity $5.00 $0.67 $0.83 $1.00

Terms Continuous use

Single flight

Continuous use

Multiple flights

Single airline

Multi-use

Multiple flights

Single airline

Multi-use

Multiple flights

Multiple airlines

Price on 27 July 2015 $5.00 $16.00 $49.95 $59.95

Hours 1 24 60 60

Cost per hour of connectivity $5.00 $0.67 $0.83 $1.00

Terms Continuous use

Single flight

Continuous use

Multiple flights

Single airline

Multi-use

Multiple flights

Single airline

Multi-use

Multiple flights

Multiple airlines


Revenue share: our model is based on the assumption that Inmarsat pursues

an exclusively wholesale model (this is still an area of debate). On that basis, we

need to make an assumption on how our estimate of retail revenue passes

through to Inmarsat as the wholesale access provider. We use a basic

assumption that 45% of retail revenue will be withheld at the retail end of the

value chain, and 55% will pass to Inmarsat. This is based on our understanding

of the revenue share model between Eutelsat and its distributers for its Tooway

consumer satellite broadband product.

Operational currency. Given the pan-EU nature of this opportunity, we use

Euros as our operational currency for modelling purposes. We translate our

revenue estimates to USD based on the spot rate for EURUSD.

Table 20: Revenue forecasts

2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025

Gross Passenger Opportunity (m) 6.2 18.9 31.8 95.3 158.9 190.7 222.5 254.2 286.0 317.8 317.8

Growth nm 203.0% 68.3% 200.0% 66.7% 20.0% 16.7% 14.3% 12.5% 11.1% 0.0%

Average connectivity take rate1 2.0% 6.0% 12.0% 18.0% 23.0% 27.0% 30.0% 32.5% 34.5% 35.5% 35.5%

Penetration of total aircraft 2.0% 4.0% 6.0% 6.0% 5.0% 4.0% 3.0% 2.5% 2.0% 1.0% 0.0%

Average revenue per session2 €8.00 €8.00 €8.00 €8.00 €8.00 €8.00 €8.00 €8.00 €8.00 €8.00 €8.00

Growth 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Avg. monthly revenue per aircraft €0 €0 €18,212 €32,659 €34,776 €35,628 €39,079 €41,933 €44,186 €45,201 €42,941

Growth nm nm nm 79.3% 6.5% 2.5% 9.7% 7.3% 5.4% 2.3% (5.0%)

Retail revenue (€m)3 1.0 9.1 30.5 137.3 292.4 411.9 533.9 661.0 789.4 902.5 902.5

Growth nm nm nm 350.0% 113.0% 40.9% 29.6% 23.8% 19.4% 14.3% 0.0%

Retail revenue ($m)3 1.1 10.0 33.6 151.0 321.6 453.0 587.3 727.1 868.3 992.8 992.8

Growth nm nm nm 350.0% 113.0% 40.9% 29.6% 23.8% 19.4% 14.3% 0.0%

Revenue to Inmarsat (55%, $m) 0.6 5.5 18.5 83.1 176.9 249.2 323.0 399.9 477.6 546.0 546.0

Growth nm nm nm 350.0% 113.0% 40.9% 29.6% 23.8% 19.4% 14.3% 0.0%

Source: Jefferies, company data 1 Jefferies estimate of penetration of the GPO 2 Jefferies estimate based on current Gogo retail pricing 3 Product of GPO x Take-rate x Average revenue per session

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Normalised EBITDA margins of 50% over time

Based on our assumption that Inmarsat will stay focused on the wholesale segment of the

value chain, we can expect superior normalised margins to Gogo (who is active across the

whole chain). Inmarsat’s wholesale margins within its L-band business are ~70%. We

believe an integrated ATG / satellite network will necessarily have lower margins given the

additional cost of maintaining the terrestrial infrastructure. We assume ~50% normalised

margins over time, which is below what the typical terrestrial telecom operators (BT, DT

et al) generate on their wholesale revenue lines (c.55%).

Table 21: EBITDA forecasts

2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025

EBITDA ($m) 0.0 (8.2) (11.1) (8.3) 0.0 49.8 129.2 200.0 238.8 275.7 274.6

% of revenue 0.0% (150.0%) (60.0%) (10.0%) 0.0% 20.0% 40.0% 50.0% 50.0% 50.5% 50.3%

Margin (compression) / expansion 0.0pp (150.0pp) 90.0pp 50.0pp 10.0pp 20.0pp 20.0pp 10.0pp 0.0pp 0.5pp (0.2pp)

Growth nm nm nm (25.0%) (100.0%) #DIV/0! 159.3% 54.8% 19.4% 15.5% (0.4%)


Capex

Our capex forecasts for the roll-out period reflect management guidance ($200m for the

satellite segment spread over three years, $200-250m for the ATG segment spread over

six years). For normalised capex, we assume $10m p.a. We also accrue $3.3m per year to

cover the potential cost of replacing the S-band license upon expiry of its initial 15 year

term. In our terminal year (2025) we inflate the capex to cover the replacement cost of

EuropaSat ($200m divided by 15 years of life, plus $5m normalised capex). See Table 22.

Table 22: Capex forecasts

2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025

Satellite segment capex 66.7 66.7 66.7 5.0 5.0 5.0 5.0 5.0 5.0 5.0 18.3

Growth nm 0.0% 0.0% (92.5%) 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 266.7%

ATG segment capex 37.5 37.5 37.5 37.5 37.5 37.5 5.0 5.0 5.0 5.0 5.0

Growth nm 0.0% 0.0% 0.0% 0.0% 0.0% (86.7%) 0.0% 0.0% 0.0% 0.0%

Spectrum license fees 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3

Growth nm nm nm nm nm nm nm nm nm nm nm

Total capex 107.5 107.5 107.5 45.8 45.8 45.8 13.3 13.3 13.3 13.3 26.7

Growth nm 0.0% 0.0% (57.4%) 0.0% 0.0% (70.9%) 0.0% 0.0% 0.0% 100.0%


Standalone valuation of $1.8bn

Our discounted cash flow analysis values the ATG / satellite venture at $1.8bn (Table 23).

We use the same WACC (7.9%) and terminal growth rate (1.5%) assumptions that we use

for the group. The valuation is highly sensitive to input assumptions around addressable

market, airline and passenger take-up, wholesale revenue share and EBITDA margins.

Nonetheless, our consistent focus on conservative assumptions leads us to have

reasonable conviction in this initial estimate of value. As touched upon in the valuation

section, we apply a 50% discount to the standalone ATG / satellite network valuation in

our Inmarsat SoTP to reflect the various execution risks.

Table 23: DCF valuation

2016 2017 2018 2019 2020 2021 2022 2023 2024 2025

EBITDA (8.2) (11.1) (8.3) 0.0 49.8 129.2 200.0 238.8 275.7 274.6

Capex (107.5) (74.2) (45.8) (45.8) (23.3) (13.3) (13.3) (13.3) (13.3) (26.7)

Cash tax (24%) 27.8 20.5 13.0 11.0 (6.4) (27.8) (44.8) (54.1) (63.0) (59.5)

Free cash flow (87.9) (64.8) (41.1) (34.8) 20.1 88.1 141.8 171.3 199.4 188.4

Discount factor (WACC of 7.9%) 0.93 0.86 0.80 0.74 0.68 0.63 0.59 0.54 0.50 0.47

PV of free cash flow (81.5) (55.6) (32.8) (25.7) 13.8 55.8 83.3 93.2 100.6 88.1

Terminal value (USDm)

Terminal growth rate 1.50%

Terminal cash flow 191.3

Terminal value 2,986.8

Enterprise value (USDm)

PV of modelled period 239.1

PV of terminal value 1,395.8

Enterprise value 1,634.9


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Company DescriptionInmarsat is the global leader in mobile satellite services MSS. It owns a fleet of 11 L-band GEO satellites in nine orbital locations offeringseamless coverage globally across land, sea and air for voice and data services. Inmarsat Global wholesales its services through distributorsbut in 2009 it acquired one of the largest, Stratos, followed by Segovia and Ship Equip. It is set to launch a global Ka-band service calledGlobal Xpress in 2013/14, and is leasing L-band spectrum in N. America to LightSquared.

Analyst Certification:I, Giles Thorne, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Jerry Dellis, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Ulrich Rathe, CFA, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Nicholas Prys-Owen, certify that all of the views expressed in this research report accurately reflect my personal views about the subjectsecurity(ies) and subject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specificrecommendations or views expressed in this research report.Registration of non-US analysts: Giles Thorne is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.

Registration of non-US analysts: Jerry Dellis is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.

Registration of non-US analysts: Ulrich Rathe, CFA is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.

Registration of non-US analysts: Nicholas Prys-Owen is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.

As is the case with all Jefferies employees, the analyst(s) responsible for the coverage of the financial instruments discussed in this report receivescompensation based in part on the overall performance of the firm, including investment banking income. We seek to update our research asappropriate, but various regulations may prevent us from doing so. Aside from certain industry reports published on a periodic basis, the large majorityof reports are published at irregular intervals as appropriate in the analyst's judgement.

Company Specific DisclosuresFor Important Disclosure information on companies recommended in this report, please visit our website at https://javatar.bluematrix.com/sellside/Disclosures.action or call 212.284.2300.

Meanings of Jefferies RatingsBuy - Describes stocks that we expect to provide a total return (price appreciation plus yield) of 15% or more within a 12-month period.Hold - Describes stocks that we expect to provide a total return (price appreciation plus yield) of plus 15% or minus 10% within a 12-month period.Underperform - Describes stocks that we expect to provide a total negative return (price appreciation plus yield) of 10% or more within a 12-monthperiod.The expected total return (price appreciation plus yield) for Buy rated stocks with an average stock price consistently below $10 is 20% or more withina 12-month period as these companies are typically more volatile than the overall stock market. For Hold rated stocks with an average stock priceconsistently below $10, the expected total return (price appreciation plus yield) is plus or minus 20% within a 12-month period. For Underperformrated stocks with an average stock price consistently below $10, the expected total return (price appreciation plus yield) is minus 20% within a 12-month period.NR - The investment rating and price target have been temporarily suspended. Such suspensions are in compliance with applicable regulations and/or Jefferies policies.CS - Coverage Suspended. Jefferies has suspended coverage of this company.NC - Not covered. Jefferies does not cover this company.Restricted - Describes issuers where, in conjunction with Jefferies engagement in certain transactions, company policy or applicable securitiesregulations prohibit certain types of communications, including investment recommendations.Monitor - Describes stocks whose company fundamentals and financials are being monitored, and for which no financial projections or opinions onthe investment merits of the company are provided.

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https://javatar.bluematrix.com/sellside/Disclosures.action

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Valuation MethodologyJefferies' methodology for assigning ratings may include the following: market capitalization, maturity, growth/value, volatility and expected totalreturn over the next 12 months. The price targets are based on several methodologies, which may include, but are not restricted to, analyses of marketrisk, growth rate, revenue stream, discounted cash flow (DCF), EBITDA, EPS, cash flow (CF), free cash flow (FCF), EV/EBITDA, P/E, PE/growth, P/CF,P/FCF, premium (discount)/average group EV/EBITDA, premium (discount)/average group P/E, sum of the parts, net asset value, dividend returns,and return on equity (ROE) over the next 12 months.

Jefferies Franchise PicksJefferies Franchise Picks include stock selections from among the best stock ideas from our equity analysts over a 12 month period. Stock selectionis based on fundamental analysis and may take into account other factors such as analyst conviction, differentiated analysis, a favorable risk/rewardratio and investment themes that Jefferies analysts are recommending. Jefferies Franchise Picks will include only Buy rated stocks and the numbercan vary depending on analyst recommendations for inclusion. Stocks will be added as new opportunities arise and removed when the reason forinclusion changes, the stock has met its desired return, if it is no longer rated Buy and/or if it triggers a stop loss. Stocks having 120 day volatility inthe bottom quartile of S&P stocks will continue to have a 15% stop loss, and the remainder will have a 20% stop. Franchise Picks are not intendedto represent a recommended portfolio of stocks and is not sector based, but we may note where we believe a Pick falls within an investment stylesuch as growth or value.

Risk which may impede the achievement of our Price TargetThis report was prepared for general circulation and does not provide investment recommendations specific to individual investors. As such, thefinancial instruments discussed in this report may not be suitable for all investors and investors must make their own investment decisions basedupon their specific investment objectives and financial situation utilizing their own financial advisors as they deem necessary. Past performance ofthe financial instruments recommended in this report should not be taken as an indication or guarantee of future results. The price, value of, andincome from, any of the financial instruments mentioned in this report can rise as well as fall and may be affected by changes in economic, financialand political factors. If a financial instrument is denominated in a currency other than the investor's home currency, a change in exchange rates mayadversely affect the price of, value of, or income derived from the financial instrument described in this report. In addition, investors in securities suchas ADRs, whose values are affected by the currency of the underlying security, effectively assume currency risk.

Other Companies Mentioned in This Report• Alcatel-Lucent (ALU: $3.70, HOLD)• AT&T Inc. (T: $32.78, BUY)• Avanti Communications (AVN LN: p241.75, BUY)• Cisco Systems, Inc. (CSCO: $28.66, HOLD)• easyJet plc (EZJ LN: p1,737.00, BUY)• Eutelsat (ETL FP: €30.68, HOLD)• Inmarsat plc (ISAT LN: p891.00, BUY)• Intelsat S.A. (I US: $11.27, HOLD)• Ryanair Holdings plc (RYA ID: €10.50, BUY)• SES (SESG FP: €32.03, BUY)

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Distribution of RatingsIB Serv./Past 12 Mos.

Rating Count Percent Count Percent

BUY 1056 51.04% 289 27.37%HOLD 839 40.55% 159 18.95%UNDERPERFORM 174 8.41% 11 6.32%

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Other Important Disclosures

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to the publication of a research report containing such rating, recommendation or investment thesis. Any comments or statements made herein arethose of the author(s) and may differ from the views of Jefferies.

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price 891.00p equity analyst inmarsat plc overnight buy · please see important disclosure...

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