Once Sellers, They're Cable Buyers Now5/05/2002 8:00 PM Eastern
After the consolidation wave of a few years ago, many of the cable industry's old faces began to disappear, lured to the selling table by skyrocketing system valuations and new, deep-pocketed players with the necessary capital to take the industry into the high-tech age.
But to paraphrase an old adage, you can take the man out of cable, but you can't take cable out of the man. Just about three years after selling their systems, at least four former cable executives have returned to the industry.
One of them, Bresnan Communications Inc. president Bill Bresnan, has returned in a big way, purchasing 320,000 subscribers from AT&T Broadband in Montana, Wyoming and Colorado — the so-called Big Sky systems — for $735 million.
Bresnan plans to eventually grow the company even larger. For now, the focus will be on upgrading the former AT&T Broadband systems, and Bresnan and his partners have committed about $300 million over the next three years to do so.
Bresnan had been negotiating with AT&T Broadband for almost two years regarding the systems, in one iteration or another. In 2000, he was one of the bidders for a group of Iowa systems, which was later included with properties in Illinois, Georgia and Missouri that were sold to Mediacom Communications Corp. for $2.1 billion.
But Bresnan pressed on. In an interview shortly after the Big Sky acquisition was announced, Bresnan said that he felt he never left the cable industry.
"I just didn't have any systems," he said. "A slight oversight."
McHUGH, HOOKS, UNGER
Other seasoned cable executives returning to the industry include former Vista Communications Inc. president Neil McHugh; former Buford Cable president Ben Hooks; and Avalon Equity Partners co-founder and managing partner David Unger. While their system purchases have been on a smaller scale than Bresnan's, their enthusiasm for the industry isn't.
Unger, who sold his Cable Michigan Inc. to Charter Communications Inc. in 1999 for $845 million — after paying just $435 million for the system less than a year earlier — currently has about 31,000 subscribers in systems in Colorado and Oregon. Unger said that like his counterparts, getting back into the cable industry was an easy decision. He missed the excitement.
"It's a decent time," Unger said. "Every deal is an adventure. One deal that I went after, there were six bidders."
Hooks, who sold Buford Cable to Classic Communications Inc. in 1999 for about $300 million, said his desire to get back into cable was fueled by what he saw as a paradigm shift in the industry.
"The business is even more exciting now than it has been in the past," Hooks said. "I think of it like the change from the horse-and-buggy to the automobile.
"The opportunity going forward is more related to ancillary services like data and, in the future, IP [Internet-protocol] telephony, the future of VOD [video-on-demand]. I don't think you raise rates and the business grows. That tends to be more challenging in the smaller markets."
Hooks — now a partner and CEO at Buford Media Group, which does business as Alliance Communications — has about 7,000 subscribers in Arkansas. But the goal is to grow to between 100,000 and 200,000 customers, focusing on the Southwestern U.S., he added.
SELL AT 17, BUY AT 10
The rash of former cable executives returning to the industry is no surprise, said Unger, given that system prices have declined from their high of between $5,500 and $6,000 per subscriber in 2000 — and that many former executives are looking to put the money they made selling their businesses to work.
As many of them built their companies from scratch, and have intimate knowledge of the cable industry, returning was a natural choice.
"The smart money that got out, we got out at 17 times to 20 times cash flow and we're buying back in at 10 and 11 [times cash flow], where we think the industry never should have left," Unger said.
Over the past year or two, the trend has been for private-equity money to look for cable deals. But for the most part, Unger said, those players have bypassed the smaller deals that former operators like him have made.
And though he sees tremendous opportunity in smaller-market systems, Unger added that the business is not without its challenges.
"The challenges are getting good financing, programming costs that are really too high, and finding good properties to buy with reasonable sellers," Unger said. "Finding properties is not easy. You have to look at 10 things to find one you like."
Unger said that bank financing is hard to come by for smaller deals, particularly because banks and equity investors have been burned in the past by companies that had tried a small and midsized market strategy.
Prime examples of that are Classic Communications Inc. and Galaxy Telecom Inc., the first major MSOs to file for Chapter 11 bankruptcy protection in recent memory. After reaching a debt-for-equity swap that essentially gave control of the company to its bondholders, Galaxy emerged from Chapter 11 on March 22 as Galaxy Cable Inc.
But Classic and Galaxy had run into most of their troubles by focusing on the rural market, in which upgrade costs are high and competition from direct broadcast satellite service is fierce. In addition, Classic took on heavy debt to make acquisitions in the late 1990s, at the height of the consolidation craze.
In contrast, Unger said that he and his counterparts are focusing on a smaller-market strategy, not a rural one.
"Don't use the 'R' word," Unger said. "We don't do rural."
What separates his company from others that had similar strategies but failed is simple, said Unger.
"I have a better eye for cable properties," he said.
McHugh, who formed Vista III Media last year, recently purchased a former Galaxy system in northern Mississippi with about 25,000 subscribers. Vista Media increased its total subscriber base to about 27,000 customers, with the recent acquisition of 1,500 subscribers in Holly Springs, Miss. from CableSouth Media LLC.
McHugh, sold the last system in Vista Communications to Charter Communications Inc. in 1998.
McHugh added that his strategy is to make advanced services like digital cable and high-speed data service available to as many customers as possible. And it helps to target marketing efforts to each system's own special qualities, he said.
McHugh said he looks for three things when evaluating a cable system: an ability to interconnect headends with a base of 3,000 to 4,000 subscribers on each; good business and home growth; and an economy that's strong enough to support customers who'll buy advanced services.
"You need demographics that can support somebody paying in the $60, $70, $80 per month range, as opposed to $40 per month," McHugh said.
That means Vista is looking for customers that purchase a fair amount of advanced services, like digital cable or high-speed data.
McHugh believes he has found such a market with the Mississippi systems, located in Oxford and the areas surrounding Tupelo.
Those systems have about 27,000 subscribers on three headends — fulfilling his first criterion. McHugh added that home growth in Oxford — home of the University of Mississippi — is about 1.7 percent per year, while Tupelo is supported by a diverse manufacturing base that helps stabilize employment.
"We're enjoying the benefits of that," McHugh said.
McHugh said that his markets have high DBS penetration and to combat that, it's imperative for his systems to offer digital and high-speed data service. But he added that his success will likely hinge on the ability to make the most of his local presence.
Roughly half of all of his customers pay their bills in person, McHugh added. And because of that, he said, much of his marketing effort is centered on having his local-office staff introduce and upsell customers to advanced service packages.
"Our intention is to drive the person behind the counter to do some selling," McHugh said. "Direct them to the modem, try to explain to people the advantage of two-way service."
While McHugh said that strategy won't get non-customers to take his service, the word-of-mouth from existing customers will.
Most of the operators interviewed agreed that selling advanced services is the key to success in smaller markets. And while other companies, like Classic and Galaxy, failed with that strategy in the past, they said that new technology and plain old business savvy will help them avoid the pitfalls of those two companies.
Hooks, who has about 7,000 subscribers in Arkansas, said that lower-cost digital technology — like that of WSNet Inc., and Motorola Inc.'s quadrature amplitude modulation system — would allow smaller operators to offer digital service at a fraction of the cost of just a few years ago.
Hooks added that with services from WSNet — which provides satellite programming to smaller operators — as well as new offerings from Headend In The Sky and lower-priced headend technology, smaller operators can now offer advanced services at prices competitive to DBS.
In the past, a 35-channel cable system didn't have the room to accommodate a HITS package, said Hooks. But today, by combining WSNet with HITS and compressing the signal at a 10-to-1 ratio, operators can vastly expand their channel offerings without having to undergo a massive and costly physical-plant upgrade.
Buford Media is launching such service in one of its markets, he added, expanding a 30-channel system into a 200-channel operation.
"We're taking a 270-megahertz cable system that will have 200 channels on it and we didn't have to rebuild it," Hooks said.
But rebuilding a cable business — especially in a small market — is not easy. First, there's the problem of attracting financing. Second, and perhaps more important, is the dilemma of finding systems that are worthy of purchase.
While several private-equity firms are looking to reinvest in the cable industry, Unger said, they mainly want to focus on larger deals. The same holds true for the banks.
"There's a lot of talk, but not much action," Unger said. "I've talked to a lot of large funds, but they're not doing deals.
"It's really the bank side of the equation that is difficult. A lot of the banks were left with some not-great cable credits in the past."
Unger's other three colleagues agreed that equity capital is not that difficult to come by. And for the most part, they have been able to tap into past relationships for equity financing.
For example, McHugh is backed by Boston Ventures, the private-equity firm that helped finance Vista Communications. And Bresnan's backers include long-time financial partner Blackstone Group and Providence Equity Partners. Hooks also has several backers, which he declined to name.
"Equity is more available than debt," Hooks said. "It's like the banks and institutional investors have reversed their roles a little bit, especially in this particular market."
LENDERS ON BOARD
McHugh said that he has had a relationship with his two primary lenders — Fleet Bank and Textron Financial Corp. — since about 1988. That relationship continues today.
But since the Sept. 11 terrorist attacks and the overall sluggishness of the economy, banks have been more conservative.
"It's more a function of the capital markets in general," McHugh said. "For a banker, a cable loan is a pretty good loan, it's backed by hard assets to start with. You need to upgrade and spend capital, but you've got a hard asset there.
"I don't know any senior lenders that have had a problem in a cable deal."
Unger said there are ways to do deals without attracting a large amount of outside investment, mainly by putting up additional equity and negotiating lower prices.
Perhaps a bigger problem is the dearth of systems available for sale, a product of the consolidation craze of the late 1990s.
While most industry observers expect more systems to enter the market in the wake of larger deals — including the pending AT&T Broadband-Comcast Corp. merger, as well as Adelphia Communications Corp. systems that are expected to come on the block — Unger believes smaller operators like himself will be left out of the picture.
"They are not going to do 84 different deals; they're going to do one big deal," Unger said. "They're not going to be selling 22,000 subscribers anywhere."
"We've acquired 31,000 subscribers in nine transactions," Unger added.