Cable Stocks Spring Anew on AOL Deal

It took a troubled titan desperate to appease Wall Street to do it, but someone finally came up with a deal that makes AT&T ( T) look smart.

After years of high-stakes blundering that transformed Ma Bell first into Ma Cable and then into a blushing bride for cable giant Comcast ( CMCSK), AT&T finally got its hands on a good deal Wednesday. Analysts say AOL's buyout of AT&T's stake in Time Warner Entertainment appears to have been done on terms favorable to the soon-to-be-formed AT&T Comcast.

AOL executives stressed in a Wednesday morning conference call that the buyout and the planned IPO of Time Warner Cable represented a fair solution to a complicated problem. The deal will make AOL easier to understand and simpler to manage, CEO Dick Parsons said. Investors cheered, sending the company's beaten-down shares up 5% and pushing AT&T and Comcast sharply higher as well.

But some observers, noting AOL's reticence to share some terms of the deal, suspect that AT&T Comcast demanded a hefty premium. After all, clearing the books of TWE was vitally important to AOL, which is struggling under the weight of a big debt load and mounting scrutiny of its books. Meanwhile, with cable stocks in free fall throughout 2002, not everyone is certain that even a high-quality cable IPO will be warmly received by a struggling, debt-sore market.

Gray Line

The ill-drawn line between content and conduit may get a little clearer with the cable spinoff. The transaction, valued at around $9 billion, will give AOL control of its prized programming like HBO, and put the Time Warner Cable operations into a separate unit.

Analysts and investors greeted the deal warmly in large part because it solves the 10-year-old AT&T problem. AT&T has a 28% stake in the Time Warner partnership, which has long been the grit in the gears of an ever-shifting media and communications venture. But as some analysts point out, AOL had to pay dearly to get the deal done.

AOL executives on a call with analysts Wednesday declined to discuss terms. Some analysts see that as a sign that the new Time Warner Cable venture will be paying well above the industry's monthly wholesale rate of $30 to resell Road Runner or AOL Broadband cable modem service to a small portion of the combined AT&T Comcast's territory.

"They're usually not to reluctant to reveal the price, especially when they feel they've locked in good terms," says Fred Moran of Jefferies & Co., who has a buy on AOL and Comcast. Jefferies has no underwriting ties to these companies.

The fact that they were mum suggests they had to "pay a premium for a cable modem carriage deal over two and a half years for access to only a third of AT&T Comcast's customers." This is probably one of the biggest downsides to the deal, says Moran.

The concern is that consumers in a down economy won't tolerate $50 monthly cable modem bills. And if broadband prices fall, the slim margin Time Warner Cable has with AT&T Comcast will quickly prove unprofitable.

Changing the Topic

Needless to say, the AOL executives didn't want to dwell on that topic and turned the discussion toward some of the financial positives of the deal. Among them, the prospects of a handsome IPO, which would help raise cash to pay off AT&T and debts.

AT&T stands to reap $2.1 billion in cash for its stake in the unwinding of the cable unit and its subsequent public offering. The new outfit -- 79% owned by AOL and 21% owned by AT&T Comcast -- will carry about $8.1 billion in debt and other obligations.

The credit rating agencies, which have recently taken a much more sober look at the high-cost, heavily leveraged cable sector, don't seem to be too alarmed by the deal. Moody's reaffirmed its long-term ratings on AOL debt, but kept the outlook negative Wednesday.

That in mind, the arrangement's other potential downside is that at this moment investors may not be dying to sink their dwindling pocket change into another debt-heavy, red ink-soaked cable IPO.

Sure, from a fund-raising and deleveraging standpoint the IPO makes sense, says Jefferies' Moran. But is the market ready for a new cable offering?

"I'd say the current climate wouldn't support it, that's for sure," the analyst says.

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