News Corp.’s post-scandal future dims

July 13, 2011, 8:45 PM UTC

Why should a Murdoch be at the helm?

FORTUNE — The latest casualty of News Corp.’s phone hacking scandal is the company’s deal to acquire all of British Sky Broadcasting Group. The decision to drop the BSkyB bid raises questions about whether the media empire owned by Rupert Murdoch has the management team and the strategy to create value at the company.

News Corp. [NWS], which currently owns a 39% stake in BSkyB, already controls the pay television broadcaster; but analysts and investors felt that it was important for News Corp. to acquire the rest of the company for several reasons. Full ownership would increase News Corp.’s exposure to pay-TV — which generates steady, secure revenue streams — to 66% of earnings from 55%, and create tax advantages for the conglomerate, according to a report by Barclays analyst Anthony DiClemente. And earnings at BSkyB were expected to double in five years once the company was fully owned by News Corp, according to a report in Variety that cites analyst Toby Syfret, of Enders Analysis.

Most importantly, the BSkyB deal was seen as the safest way for News Corp. to invest its considerable $12 billion cash balance, according to Morningstar analyst Michael Corty. “Like many media companies, News Corp. has struggled to acquire businesses that create value,” Corty says, referring to deals to acquire Myspace and Dow Jones.

News Corp. bought MySpace in 2005 for $580 million, never figured out a way to staunch losses at the social media company, and sold it this summer for just $35 million to Specific Media. Dow Jones, which was acquired for $5.7 billion, has so far produced a $2.8 billion write-down, notes Terry Smith, who heads UK-based money management firm Fundsmith.

News Corp. shares rose after the BSkyB bid was dropped, in large part because it took away immediate uncertainty created by the deal being in limbo. But the company’s future is still hazy. The BSkyB deal was to be the largest acquisition in News Corp. history, and investors felt confident that the acquisition would be a success. Now the company is left to either buy back shares, or find an acquisition that can actually work, says Corty.

News Corp. recently announced a $5 billion share buyback plan, in an attempt to keep its stock from sinking further in the wake of the phone hacking revelations. But there are questions as to whether a buyback is the best use of the company’s cash at this very moment. Such a move presupposes that the shares are trading below their true value. Macquarie analyst Alex Pollak reduced his valuation of News Corp. shares Monday due to the company’s UK newspapers being under pressure from advertisers, the possibility of class action lawsuits brought by the estimated 4,000 victims of phone hacking, and the threat of investigations into News Corp. in the United States.

Smith also believes that the buyback plan was created to keep disgruntled shareholders from asking the most important question about the company’s strategy and future: whether a Murdoch is the best person to helm News Corp.

“Looking at the performance of News Corp., any investor should surely query why Rupert Murdoch believes that the best person to control News Corp. must be someone named Murdoch,” Smith wrote in an email. “So far his clans’ control has produced a mediocre 10% return on capital cmployed over the past five years and a share price which has underperformed the S&P 500 index for the past 15 years.”