MediaOne Shareholders Should Take AT&T's Money and Run

As a current MediaOne (UMG Quote) shareholder, I am entitled, between now and July 14, to decide whether I want to exchange my shares for cash, AT&T (T Quote) stock, or some combination.

According to the information guide I received, when MediaOne agreed to merge, AT&T set aside a fixed number of shares and a fixed amount of cash to complete the merger. And if these amounts aren't sufficient, the stock and cash amounts I receive may be prorated.

To say the least, I am a bit confused as to what to do! I thought I would take the cash option. What would you suggest?

-- Marie Marrocco

Marie,

On June 15, AT&T and MediaOne Group, a broadband communications company, completed their merger. AT&T will issue 606 million shares of its common stock and $23 billion in cash to close the deal. The combined company will operate under the AT&T umbrella.

MediaOne shareholders have until Friday to indicate whether they want to exchange their shares for cash or for two different combinations of AT&T stock and cash. Here are the options:

• Standard election: If you do not make an election, AT&T will exchange each of your MediaOne shares for 0.95 AT&T shares plus $30.85 in cash and a "top-up" payment (I'll explain this term shortly) of $5.42. Using Monday's closing price of 33 for AT&T, this option values your MediaOne shares at 67.62 each.

• Stock election: You can take 1.4912 shares of AT&T for each of your MediaOne shares, plus a "top-up" payment of $8.50. This option values your MediaOne shares at 57.71.

• Cash election: You can accept $85 in cash for each of your MediaOne shares.

It doesn't take a rocket scientist to figure this one out: Take the money and run!

But wait! AT&T has a limited amount of cash to distribute. If enough people elect the cash option and that chunk of change vanishes, you'll wind up getting a portion of your payoff in AT&T shares anyway.

Top-Up When Stock's Down

What accounts for the wide disparity in value between the all-cash option and the two options that include AT&T stock?

When the companies agreed to merge in August 1999, AT&T stock was trading at 57, and each of the three elections was valued at $85.

To guarantee this value, MediaOne created a "collar" around the terms of the deal to protect shareholders from a fall in AT&T's stock of more than 10%. A collar is a combination of put options and call options that can limit -- but not eliminate -- the risk of shares falling in price. (See this previous Tax Forum for more details on collars.)

AT&T was at 57 when the merger agreement was signed, so if the stock fell more than 10%, or below 51.30, shareholders would get an extra cash payment as compensation. This extra "top-up" would've brought the value of the two stock elections to $85 even if AT&T stock fell to as low as 45.

But the company did not anticipate the stock price's plunge to 33. "Now that extra cash definitely doesn't make anybody whole. Shareholders are not going to see close to that," says Johnson.

Don't Forget Capital Gains

No matter which of the three options you choose, any cash you receive will be taxed at capital gains rates (20% for most people who have held MediaOne for at least 12 months). Even with that tax hit, you're still likely to be better off taking the all-cash option.

At worst, you would owe Uncle Sam $17 ($85 x 20%) in taxes on your $85 cash distribution, so you'll walk away with $68 -- more than you'd get with the other two options.

"Given what [AT&T] stock is doing, the cash is the most attractive alternative," says Janice Johnson, a partner at American Express Tax & Business Services in New York.

But, as noted, the $23 billion set aside for the cash payoff won't be enough to buy back each of MediaOne's 640 million outstanding shares. In addition, for the merger to qualify as tax-free (otherwise, you'd have to pay taxes on the stock swap as well), the tax code requires that close to 50% of the deal's value must be issued in stock, says Johnson. So you'll likely end up with some variation of stock and cash after all.

Once the election period is over, the company will determine if a pro-ration is necessary. The distribution date also will be set after election period ends.

Whatever you decide to do, make your decision known quickly. The transfer agent, EquiServe Trust, must receive your election by 5 p.m. ET on Friday. At this point, you may consider overnighting your paperwork. For more information, see the "frequently asked questions" section of AT&T's Web site.

A final note: If you hold your MediaOne stock in certificates, don't sign them before you put them in the mail. Once they're signed, they're negotiable, making them more vulnerable to fraud if they somehow fall into the wrong hands.

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