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Dish Network (NASDAQ:DISH) is the third largest pay TV provider in the US after Comcast (NASDAQ:CMCSA) and DirecTV (NASDAQ:DTV). Dish Network recently launched a new marketing campaign whereby it will waive its $10 per month add-on fee for high-definition programming for customers who commit to a two-year contract. However, Dish’s Platinum HD tier will continue to be an additional $10 extra per month. Platinum HD includes Epix , MGM Studios and Lionsgate, Universal HD, MGM HD, HDNet Movies, MavTV HD, WFN HD, Logo HD, Indieplex HD, Retroplex HD, and Crime & Investigation Network HD.

Although this new HD promotion can help Dish win new subscribers, it can come at the expense of Dish’s HD margins.

Dish’s move can attract consumers and increase HD penetration

Dish Network, through its aggressive promotional offers, turned subscriber losses to subscriber additions over the last year. Now the company’s latest move of providing HD programming for free is likely to attract more subscribers and help it improve its pay-TV market share.

According to a research published by In-Stat in early 2009, out of 39 million US households with HDTV nearly 44% did not watch HD programming, indicating a gap between HDTV ownership and HD programming viewership. The primary reasons behind the gap were the extra cost of watching HD programming and a limited selection of HD channels. With Dish increasing its HD count and offering free HD access to new subscribers, a significant number of new subscribers are likely to sign up.

Two-year contract may act as a hindrance

In order to get access to free HD programming, new consumers will need to sign up for a two-year contract and an auto-payment method using a credit or debit card. Existing customers may get access to this offer by paying an upgrade fee of $99 or signing a contract similar to that for new customers. These contracts could act as hindrance for these customers to sign up for the promotional offer.

Declines in average fee per HD subscriber and HD margins are likely

Dish’s average monthly revenue per subscriber (ARPU) for basic satellite services along with gross margins declined in 2009 as a result of promotional offers on programming packages. We expect similar effects as a result of the current HD promotional offer. With customers signing up for free HD programming, average HD fee per subscriber may decline. Below you can see how a decline in Dish Network’s average HD subscription fee can affect its stock.

By offering HD for fee, Dish Network’s gross margins are likely to take a mild hit as they did in 2009 due to promotional offers on programming packages. Below you can see how Dish Network’s stock may be affected if its gross margins were to decline more than expected.

However, if Dish is successful in attracting new subscribers as a result of its HD promotion, the negative impact of declining average HD fees and declining HD margins will likely be offset by the additional satellite service subscription fees from new subscribers.

Disclosure: No positions

Source: Dish Network: HD Promo Could Boost Subscriber Numbers, But at a Margin Cost