Comcast’s AT&T bid under the microscope

Jul 16, 2001  •  Post A Comment

Many on Wall Street are betting Comcast Corp.’s $54 billion offer for AT&T Broadband will be sweetened and maybe even challenged but in the end succeed in creating a new dominant U.S. cable operator.
While Comcast officials waited at press time Friday for formal response from AT&T’s board to their nearly week-old unsolicited stock and debt bid, they campaigned for support among many of their biggest institutional shareholders-38 of the top 50 of which also own AT&T stock. Such support could pressure AT&T to sit down at the negotiating table.
“We’re prepared to go for whatever time it takes. It’s obviously going to be controlled by the AT&T board,” said Comcast President Brian Roberts. “We’re hopeful their board will work with us and give our bid serious consideration.”
Sources close to the situation said AT&T can mull Comcast’s offer for weeks while proceeding with its shareholder proxy and vote on spinning off its broadband unit as a tracking stock. The board conducted two telephone meetings last week to “evaluate” the bid, while its embattled Chairman and CEO Michael Armstrong publicly reflected his dissatisfaction.
Questioning whether the offer reflected the full value of AT&T Broadband, Mr. Armstrong said, “We’re under no obligation to sell.”
However, he added, the AT&T board is considering other factors such as Comcast’s overall strength and the governance structure of a merged entity that would shift control from the public to the Roberts family.
At the very least, sources said, AT&T will seek to improve the $12.60-per-share value to AT&T stockholders inherent in Comcast’s offer of $41 billion in stock and $13.5 billion in assumed debt.
AT&T also could seek a collar, or a fixed price range, for the exchange of Comcast stock, to ensure AT&T shareholder value. As Comcast goes, so goes the offer’s value, which initially was $58 billion and had drifted down to about $54 billion by week’s end, reflecting the 8 percent drop in Comcast’s stock price.
Sources close to Comcast said the company is concerned about protecting against the dilution of its own shareholders’ stakes. If Comcast can generate $600 million in savings in the first year of the merger, the transaction will be about break-even. If it can achieve as much as $900 million of savings in the second year of the merger, the deal can be between 21/2 percent and 5 percent accretive to Comcast shareholders.
“None of our numbers take into account any new content, Internet or other value-creating opportunities,” Mr. Roberts said in a two-page bid letter he faxed to Mr. Armstrong’s home late Sunday, July 8.
However, last week both AT&T and its largest shareholder, John Malone, appeared to be encouraging interest from prospective competitive suitors as a way to sweeten what Mr. Malone called an “insufficient” Comcast bid.
Mr. Armstrong said he received “inquiries” from other interested companies, which could include consortiums: leading content providers headed by The Walt Disney Co., telephone companies headed by Verizon and other cable operators headed by AOL Time Warner, Cox Communications and Charter Communications.
All in the family
While Mr. Malone said neither he nor his Liberty Media Group planned counterbids, sources said they could back other suitors. At Herb Allen’s closed conference for media moguls in Sun Valley, Idaho, last week, Mr. Malone met with Mr. Roberts and other Comcast officials about what he will do in the future. Comcast and Mr. Malone declined comment.
Even if no competitive bids surface, Comcast may feel compelled to improve its offer to achieve its goal.
Although Comcast’s founding Roberts family took the major step of agreeing to dip below the majority 51 percent threshold to 49 percent, they still would be the single-largest shareholder and would have management control. The Roberts family has 86 percent voting control of Comcast. Giving AT&T shareholders voting control would make the merger tax-free.
Just last week, Comcast handed AT&T shareholders $14 billion in added value as the merger bid boosted AT&T’s sagging stock to a new one-year high of more than $21 a share last week, up more than 20 percent on the heels of its first core business spinoff of AT&T Wireless.
A wild card in all of this could be AT&T’s 25 percent troubled stake in Time Warner Entertainment (valued at more than $10 billion), its 36 percent stake in Cablevision Systems and a lesser stake in its Rainbow Media Group.
Comcast said it is willing to use equity and debt to acquire those interests if AT&T is unable to unload them before a cable merger is complete. But Comcast said it would not retain those stakes long-term-they are collectively valued at $20 billion and could be used as short-term bargaining chips. Mr. Malone, a shareholder in all three entities, last week said that any Comcast deal should include the monetizing of the Cablevision, Rainbow and TWE assets.
A role for AOL Time Warner
Tom Wolzien, analyst at Sanford Bernstein, said he believes AOL Time Warner could join Comcast’s crusade for AT&T Broadband as a strategic equity partner that stands to gain from the deal.
For instance, Comcast could acquire AT&T’s stakes in TWE, Cablevision and Rainbow and flip them to AOL Time Warner in exchange for long-term program deals with Warner Bros. or Turner Entertainment for its combined 22 million cable subscribers and a long-term high-speed Internet access agreement at special rates with America Online, well-placed sources said.
Access to Time Warner’s 9 million cable subscribers and the newly merged Comcast-AT&T’s 22 million would ensure the successful launch of any new program or other service. AOL’s ISP presence would be a major challenge to AtHome, the Internet access service supported by AT&T, Comcast and Cox.
Such exploratory talks among the companies began last week, sources said. AOL joined Comcast in its 1999 bid for MediaOne Group, which it eventually lost to AT&T.
Comcast also could yield on more minor issues such as having the merged company headquartered in the New York City area rather than its hometown of Philadelphia, which sources said was a sticking point in earlier discussions.
However, AT&T’s most potent negotiating ploy may be securing an agreement to provide cable telephony services to the merged company’s dominant footprint. Telephony has been the driving force behind AT&T’s entry into cable. Comcast has been the most aggressive of cable operators to roll out all-new digital cable services other than telephony. Comcast is waiting for Internet-protocol telephony and would hold the line on the 700,000 subscribers AT&T has developed so far for its telephony services.
Comcast has said it will dash AT&T Broadband’s $500 million in annualized telephony losses and bring the business to break-even within two years.
There was a sense of frustration in the Comcast camp as reports circulated about AT&T’s board and management swapping memos and notes about the basic buyout offer. Designed to go over management’s head and force the AT&T shareholders and board to consider Comcast’s offer, the bid, which was made by letter, culminated six weeks of lukewarm talks between the companies.
The situation was made more complicated last week when Mr. Malone resigned a month early from the AT&T board, because he would have been excluded from the Comcast deliberations since he would be exiting Aug. 10 when his Liberty Media tracking stock will be completely spun off from AT&T.
Mr. Malone filed with the Securities and Exchange Commission late last week to sell about 20 percent of his remaining AT&T shares. He has lost more than $1 billion on his investment in the past year.
“John Malone will keep the pressure on AT&T to do a Comcast deal and keep pressure on Comcast to sweeten its offer,” said a source close to Mr. Malone. “He won’t launch his own bid for AT&T cable, but he could get behind someone else’s bid.”
Comcast made the AT&T bid alone and last week continued not to consult with prospective allies such as current investor Microsoft Corp.
“We’re not talking to
anyone else at this point. Our goal is to hear back from the AT&T board and to map this out on our own without any partner up our sleeve,” said a top Comcast executive.
Counterbidders would be hard-pressed to match the strengths Comcast brings to the table.
Eager to move quickly
Aside from having a stellar balance sheet and operating record and financial wherewithal, Comcast made a bid for AT&T Broadband that is structured as a tax-free transaction that would likely take a year to close.
“No other bidders are obvious, and so we count Comcast’s bid as having a modest to high probability of success,” Mr. Wolzien said.
Comcast also is not expected to receive much regulatory scrutiny, since the merged company’s combined 22 million subscribers will be well below the old 30 percent market-share rule and still will be cable’s most formidable competitor to direct broadcast satellite competitors such as DirecTV and EchoStar.
Steve Burke, president of Comcast Cable Communications, said, “This represents an acceleration of the spinoff plan that AT&T has put in place and a premium to what they could get if they went through their plan for the spinoff. We eliminate all the market risk and uncertainty. This is a sure thing-right here, right now.”
Comcast argued the merits of a merger to investors last week, citing $1.25 billion in initial annual savings that could swell to as much as $2.8 billion in savings and synergies over the first five years if AT&T cable’s sluggish 18-percent-plus profit margins can double to match the 41 percent margins of Comcast cable systems within 18 months.
Comcast’s price reflects 75 percent of the value of AT&T Corp. for the broadband assets that generate $2 billion in annual cash flow, or about 20 percent of AT&T Corp.’s total.
Is the price right?
Comcast estimates it will spend about $2.5 billion to complete the upgrade of the remaining 35 percent of AT&T’s systems and the ongoing maintenance of its plant.
Mr. Burke said Comcast is willing to pay a premium that is 30 times AT&T Broadband’s dwindling 2001 and 2000 cash flow because it can immediately realize synergies and improve AT&T’s operating performance.
The combined company would be the dominant cable provider and the third-largest entertainment company in the world, with $15 billion in annual cable revenues, $6.3 billion in earnings before interest, taxes, depreciation and amortization and $24 billion in debt. It would service 85 percent of the subscribers in the top 50 cable markets and dominate 8 out of the 10 top U.S. markets.
Comcast has said it would talk to Mr. Armstrong about a role for him as other than CEO in the merged company, sources said. “This is very well thought out and agonized over. We really did try to do this privately, and here we are,” Mr. Roberts said.
“We wanted to do an acquisition. AT&T is spinning it off to shareholders, so why not let those shareholders merge it into something at a bigger price and get a growth stock.”
AT&T’s recently announced plans to schedule an AT&T shareholder vote in September on the spinoff is what prompted Comcast to formulate a formal offer, Mr. Roberts said.
Because AT&T Broadband, which could be spun off as a tracking stock within the next six months, is part of a larger corporation, Comcast’s bid technically cannot be considered a hostile takeover, analysts said.