By the end of the year, you may be able to buy stock in

AT&T's

(T) - Get Report

cable business. But unless the

AT&T Broadband

unit digs itself out of a deep hole of debt, you may not want to.

Last week AT&T revealed it had assigned $28.4 billion in debt to AT&T Broadband, a crippling amount for a business that had operating cash flow of about $400 million in its latest fiscal quarter. But though AT&T has cut the debt load on its cable business since then, AT&T Broadband will still be highly leveraged compared to its peers unless AT&T successfully completes further asset sales. Ma Bell plans to issue a tracking stock for the cable business this year and to spin it off as a separate company by the end of 2002.

AT&T Broadband's finances spotlight the importance of borrowed money in the cable TV system business, in which regular and predictable cash flows from subscribers are often used to pay back loans taken out to build or upgrade systems. Like water for plants and animals, borrowed money is necessary for any cable TV system that wants to grow. But too much of it drowns a company.

Top Billing

In that light, AT&T's filing looked like a maelstrom for AT&T Broadband. The $28.4 billion in short-term and long-term debt on AT&T Broadband's Dec. 31 balance sheet, partially offset by $2.2 billion in short-term investments and $61 million in cash, amounts to 16.6 times the cable operation's annualized first-quarter EBITDA, a term used interchangeably with operating cash flow that is short for earnings before interest, taxes, depreciation and amortization. By comparison, a quick calculation of debt-to-EBITDA ratios for other major cable operations shows that debt minus cash on hand ranges from roughly three to 10 times EBITDA.

With rating agencies trying to appraise the creditworthiness of cable, a debt load in the neighborhood of seven times EBITDA usually makes a company's debt high-yield, meaning that it must pay higher interest rates to compensate investors for the higher risk of default. Companies whose debt comes in at around five times EBITDA tend to be deemed investment grade, which means lower rates, says Joe Galzerano, high-yield analyst at

CIBC World Markets

. Of course, cable operators need that EBITDA not only to pay off the interest on their borrowings, but also to upgrade systems. Borrowings coming in at 16.6 times EBITDA is "ridiculous," says one buy-sider who has investments in cable television stocks.

At least AT&T is in on the joke. Since the first of the year, the company has completed or announced several transactions that will push AT&T Broadband's debt down to about $15.6 billion, says AT&T spokeswoman Eileen Connolly. But that still leaves AT&T Broadband at the high end of the leverage brigade among major cable operators.

Variables

Exactly how leveraged AT&T Broadband's balance sheet will be, once the company's tracking stock starts trading, depends upon a few crucial variables. AT&T expects two major transactions to reduce AT&T Broadband's debt further, says Connolly: The sale of AT&T's stake in the

Time Warner Entertainment

unit of

AOL Time Warner

(AOL)

, and the sale of 30 million shares that AT&T holds in New York-based

Cablevision Systems

(CVC)

.

The Time Warner Entertainment stake is estimated to be worth somewhere in the neighborhood of $10 billion to $14 billion, and the block of Cablevision shares AT&T is trying to sell were worth about $1.7 billion at Tuesday's closing prices. But neither sale is free of complications. Though AT&T and AOL Time Warner would each be happy to dissolve their Time Warner Entertainment link, they haven't been able to agree on a price. And though AT&T asked Cablevision to register its shares for sale in April, Cablevision appears to be exercising its right to delay the registration, and thus a sale, for nearly five months. Any perception on the part of Time Warner and/or Cablevision that AT&T is in a hurry to sell to smooth its financial restructuring hurts AT&T's ability to get the best price for those assets.

Other variables include the amount of taxes AT&T will have to pay on any sale, and the money that would be raised in the planned IPO of AT&T Broadband. (Connolly says it hasn't been determined how proceeds from that IPO might be allocated among AT&T units, including Broadband, though the money netted from the Cablevision and Time Warner Entertainment sales will go to AT&T Broadband.)

Upgrade City

All of these unknowns will help determine AT&T Broadband's debt, which will in turn determine how much flexibility its management has to upgrade systems as necessary and how much money the company will pay for further borrowing. The lighter a cable operator's debt, the less interest it has to pay and the more cash flow it is free to spend on revenue-enhancing upgrades, says Galzerano. Though bankruptcy is "always a risk" with highly leveraged companies, it's not a major threat to larger cable operators such as AT&T Broadband, he says.

That said, AT&T will need further financing if its operations continue at current levels. Like other cable operators upgrading their systems, AT&T is showing negative free cash flow: Earnings before interest, taxes, depreciation and amortization amounted to $394 million for the first quarter ended March 31, while capital expenditures amounted to $807 million.

Connolly says things will work out for AT&T Broadband in the end. "We're seeking that each of the businesses will have a credit rating equivalent to that of its competitors," she says.