For AT&T, It Could Be Comcast or Nothing


AT&T Chief Executive Michael Armstrong was his usual bold self when he took the stage at Goldman Sachs's investor conference in New York on Oct. 3. His message: AT&T is still open to bids on its cable and broadband division, which was effectively put on the auction block by a surprise $58 billion offer from Comcast (CMCSK) in July. Let's see some more offers, Armstrong seemed to be saying: "After the announcement of the Comcast bid, the phone started ringing off the hook. We thought the right course of action was to understand those inquiries and combinations. That's what we're doing."

Armstrong wouldn't comment on specific proposals. But that may be because AT&T's options are in fact dwindling. On Sept. 25, dark horse Vivendi Universal (V), officially pulled out of the race to acquire AT&T's cable unit. AOL Time Warner (AOL) and Disney (DIS), both rumored as potential bidders, have seen their shares fall sharply in recent weeks. That's a problem, since bidders would likely use stock instead of cash to acquire the unit as a way to make the deal tax-free for AT&T shareholders.

Moreover, with political and economic uncertainty roiling the markets, Comcast's original bid -- $44.5 billion in stock, plus an assumption of $13.5 billion in debt -- is looking better and better. With AT&T in a cash crunch, a sale could solve a number of headaches for Armstrong (see BW Online, 10/4/01, "AT&T Hits a $5 Billion Wall"). "Frankly, in this market environment, Comcast's original offer looks pretty attractive," says Jeff Wlodarczak, a cable analyst at CIBC World Markets. Neither company would comment on the potential merger.

"HIGHLY UNLIKELY." What other realistic options does AT&T still have? A Disney bid looks increasingly remote, since its share price is down 20%, to around $18, on fears the terrorist attacks and U.S. military response will hurt theme-park attendance and TV revenues. To present an attractive proposal, Eisner & Co. would have to cough up more shares than the company seems comfortable with. Plus, Eisner has no experience running a cable business. At the Goldman Sachs conference, Disney President Robert Iger confirmed that, "given today's environment, investment in [cable] pipe by Walt Disney Co. is highly unlikely."

How about AOL? As of Oct. 8, its stock has regained some of the ground lost after the attacks. But on Sept. 25, the company warned that it expects slower growth in earnings and revenues because of a slump in advertising, worsened by the September 11 attacks. AOL Time Warner said it now expects full-year revenues to grow 5% to 7%, down from previous estimates of 12% to 15%.

It also forecasts that earnings before interest, taxes, depreciation, and amortization will grow about 20%, down from previous estimates of 30%. With the Street hounding AOL for better earnings, it would hardly seem an opportune time to purchase a cable system in need of huge capital investment.

THE CABLE GUYS. An AT&T-AOL linkup would also face regulatory hurdles. The deal would combine the two biggest operators and create a behemoth of roughly 25 million customers. That's about three times Comcast's 8.5 million subscribers and close to one-third of the entire U.S. cable market. Already, Disney has publicly objected to an AOL deal, saying it would place too much control in the hands of a single entity.

"How can one company control the largest Internet access provider and the largest cable company?" asks CIBC's Wlodarczak. "Even in the most laissez-faire environment and with the Bush Administration distracted, I can't see how it can get around the regulatory requirements."

That leaves the cable guys, Cox and Comcast. Both signed confidentiality agreements with AT&T to prove they're serious. Analysts think that if Cox were to make a realistic play, it would need a partner with deeper pockets, such as Disney, which says it's no longer interested. Even if it could find a flush teammate, Cox would probably have to lose some control. That's anathema for a family company used to running a cable system its own way.

The upshot? "There are no other credible deals on the table. It makes no sense for Comcast to raise their bid," says Drake Johnstone, an analyst at investment firm Davenport & Co.

SEAL THE DEAL? Comcast, however, could change its proposal to include an offer for AT&T's cable media properties, which include a 25.5% stake in Time Warner Entertainment (TWE). For months, AT&T has been trying to sell that holding back to AOL Time Warner but hasn't gotten the price it thinks it deserves. Johnstone estimates that AT&T media stakes are worth between $12.5 billion and $14 billion, which values the Time Warner Entertainment holding at at least $9 billion. An firm and fair offer from Comcast could tip the deal in its favor.

Though it has so far resisted doing so, Comcast also could put a collar on its offer, which would set a minimum price for the deal regardless of how low its shares fall. On Oct. 9, Comcast shares closed at $37.03, down around $3 from its pre-bid levels, bringing the equity portion of the deal billions shy of its original offer.

As with Cox, control over the merged company would likely prove the most contentious issue with Comcast. The Roberts family owns about 2% of Comcast stock but 86% of the voting control. Until now, Comcast executives have resisted altering that structure, since they believe keeping control is key to reaching promised results. Analyst Wlodarczak believes that Comcast may keep its financial bid intact and negotiate on the voting rights.

SLIM HOPES. Still, these obstacles could seem trivial if AT&T's financial position erodes further. With the markets in turmoil, analysts say the chances of AT&T getting a better deal than Comcast's original offer are slim. Armstrong may need the Roberts family more than they need him.

Without AT&T's cable division, Comcast will continue to turn out the best free operating-cash-flow rates in the industry. With it, Comcast becomes a behemoth, with reach and scale heretofore unseen in cable's 30-year history. For Comcast, it's win-win, either way. And for AT&T, now more than ever, the only win may be a deal with Comcast. By Jane Black in New York


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