Commercial radio needs to consolidate to become more profitable and to compete effectively with the BBC, according to new research from the University of Bristol’s Centre for Market and Public Organisation (CMPO).

Professor Paul Grout of the CMPO and Phillipa Marks of consultants Indepen argue that mergers (like the recently approved union of GWR and Capital Radio, two of the UK’s biggest commercial radio groups) will produce larger, stronger radio companies, which can innovate and develop digital services.

Unlike TV, the radio industry is very fragmented.  Radio licences were initially assigned to areas that did not have a local commercial radio station and once these gaps were filled, the Radio Authority sought to license services that would broaden choice in regions and major metropolitan areas or would provide a smaller scale, localised service. In addition, three new national services were licensed between 1992 and 1995.  The overall effect is that there are currently 263 commercial radio stations owned by 72 different operators.

Commercial radio’s share of advertising is still very small.  Although it has grown rapidly in the 1990s, these 263 stations still account for only 4% of all UK advertising revenues compared with TV’s 28%. Of the UK's top 100 advertisers, 40 devote less than 2% of their total media budgets to radio, 21 spend more than 6.6% and only five of those spend more than 10%. In broad terms, advertisers tend to use other media, disregarding or substituting for radio.

Commercial radio has to work hard to compete with the BBC’s national and local stations. Audiences dislike ads and the BBC’s funding structure gives it a strong advantage. Indeed, the BBC has now increased its share of listeners to over 50%. Future commercial radio advertising revenues are expected to increase at rates closer to 5% a year than the 12% a year of the 1990s.

Despite the recent rapid growth of commercial radio, many of the stations are still not profitable and may not be so in the future. To compete effectively with the BBC and to become more profitable and stable overall, the industry is likely to seek to consolidate significantly in the coming decade.

But even putting these direct financial aspects to one side, there are strong reasons why this consolidation may bring some benefits. For example, since audiences prefer stations with fewer ads, commercial stations must offer better and more innovative products than the BBC.

Frequently, these innovations are easily copied by the BBC, which is then able to bring the successful ones to a larger audience, thereby providing large public benefits relative to the scale of the innovating commercial sector.

One example is football phone-ins, originally pioneered by Radio Clyde.  Another is Asian networks: the first commercial station of this kind started in 1989 in London and was followed by services in Bradford, Birmingham, Leicester and Manchester; in the mid-1990s, the BBC started its own Asian services.

Copying and disseminating new ideas is beneficial for the public precisely because the BBC has such a large audience base.  But only strong private companies are well placed to innovate in such a highly competitive market since innovations are costly – in terms of finance, employee time commitment and the potential risk to market share.

Digital innovation is also likely to depend on the scale and strength of the stations. Digital radio currently has very few listeners: despite considerable investment in services and transmission, the sector is currently unprofitable and likely to remain so for some time.  The ability of companies to invest in digital radio depends on their analogue services being profitable.

Mergers assist in this respect by providing the opportunity to exploit scale and scope economies and to grow audiences and hence revenues.  Small or unprofitable radio stations are less likely to provide digital radio services because they cannot afford the costs of transmission or developing new services.  Mergers with larger companies can therefore provide the funding required for the provision of digital services.

Professor Paul Grout said: "Mergers may actually increase the variety of stations on offer.  US evidence indicates that the increased concentration of radio markets that followed the deregulation of radio ownership controls under the 1996 Telecommunications Act has generally been associated with greater diversity in radio station formats."

'Competition Law and Commercial Radio Consolidation’ by CMPO’s Paul Grout and Phillipa Marks (of consultants Indepen) is published in the Winter 2005 issue of the bulletin of the Centre for Market and Public Organisation.