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NOW, THE HARD PART

10/15/2000 8:00 PM Eastern

Europe down, the United States to go: As expected, the European Commission, the regulatory body of the European Union, signed off on the $117 billion merger of America Online Inc. and Time Warner Inc. last week.

But despite the four months of hand-wringing and compromise that led to the approval, it was a relative breeze compared to the scrutiny the deal will receive from U.S. regulators.

AOL and Time Warner did make major concessions in Europe. Time Warner agreed to scrap a separate merger with music giant EMI Group plc. AOL severed ties with European media giants Bertelsmann AG and Vivendi S.A.,agreed not to discriminate against other Internet-service providers for five years and will not require U.S. content providers to sign deals in Europe.

But the big compromise may come in the next few months. That's when the Federal Communications Commission and the Federal Trade Commission are expected to decide on the merger.

AOL and Time Warner issued a joint statement on the EC approval: "We are very pleased with today's approval of our merger by the European Commission, another important step forward in the approval process."

The companies added that their discussions with U.S. regulators are going well and they are confident of completing the merger in the fall.

The EC focused its review mainly on what it perceived as AOL-Time Warner's potential for dominance of the online music market-issues that are of little concern here.

Domestically, AOL-Time Warner must find a way to placate regulators on much meatier issues. On that list are open access to Time Warner's high-speed cable lines; concerns over its dominance in terms of movies and other video content with respect to other cable operators; and its relationship with the No. 1 U.S. cable operator-AT&T Corp.-through Time Warner Entertainment.

Time Warner stock was down 6.75 percent on Thursday, or $5.49, closing at $75.90. AOL's stock price dipped $3.50, to $51.

AT&T ENTANGLEMENT

Meanwhile, tensions between AT&T and AOL-Time Warner continued to build, with AT&T apparently attempting to convince regulators they should require Time Warner to bargain for its release from TWE.

Cable-industry sources said the AT & T-Time Warner feud was an open secret within the business. They could not recall a similar episode in which one cable-industry leader injected itself directly into another's regulatory approval process.

AT&T would not comment on the scope of its lobbying activity in connection with the AOL-Time Warner merger. But there are increasing signs that AT&T is talking with lawmakers and regulators about its problems with the union.

For example, Senate Judiciary Committee chairman Orrin Hatch (R-Utah) has signaled to regulators that AT&T Corp. should be required to divest its minority interest in TWE.

In a Sept. 26 letter to the FTC, Hatch said he was concerned about the anti-competitive impact of AT&T's 25 percent stake in TWE after the merger is approved.

"Indeed, it would be unfortunate, if AOL, Time Warner and AT&T, as the leading content, Internet, and broadband companies in the United States, coordinated their activities because of the economic incentives created by the TWE partnership," Hatch wrote.

Hatch asked FTC chairman Robert Pitofsky to "carefully consider whether a fair and expeditious resolution of the TWE partnership would be in the best interest of competition and consumers."

TWE incorporates 9.7 million cable subscribers, the premium cable programmer Home Box Office Inc. and the Warner Bros. film and TV production studio. AT&T inherited the TWE stake from MediaOne Group Inc., which paid $2.5 billion for it in 1993.

AT&T is telling the FCC it may encounter trouble meeting next year's deadline to dispose of the TWE stake, if necessary.

AT&T vice president and general counsel James Cicconi informed FCC chief staff Kathryn Brown of the company's predicament in phone calls two weeks ago, according to an Oct. 4 letter AT&T filed with the FCC.

AT & T's only way out of TWE without Time Warner's consent is through "a registration-rights process," or the sale of stock to the public, Cicconi said.

Because that registration process cannot begin until Jan. 1, 2001, Cicconi said, he was doubtful it could be finished by May 19, 2001-the FCC's deadline for AT&T to dispose of its 25 percent interest in TWE, if the company elects for that option.

AT&T has until Dec. 15 to inform the FCC whether it plans to sell the TWE stake. The company also has the option to sell 9.7 million cable subscribers or divest its programming interests, including Liberty Media Group Inc.

The FCC imposed these conditions when it approved AT & T's acquisition of MediaOne Group Inc. in June. That deal put AT&T over the agency's cable-ownership limit.

DEAL LOOKS 'UNLIKELY'

It appeared from Cicconi's letter that AT&T had opened talks with Time Warner, but they had not gone well. Cicconi said it "appears unlikely" AT&T and Time Warner could reach "a negotiated settlement."

With the companies at loggerheads, Cicconi said "the only alternatives to the uncertainties created by the registration rights process would be an obligation on both parties to ensure a fair and timely termination of the partnership."

An AT&T official would not address whether the company is attempting to prod regulators to force Time Warner to negotiate its exit from the TWE partnership.

"We recognize that the addition of [America Online] to the cable partnership raises regulatory concerns," the AT&T official said. "The FCC discussions and the Hatch letter are by-products of that concern."

While the MediaOne merger was pending, regulators were aware for several months that AOL would take over Time Warner's 75 percent stake in TWE.

Throughout the review, AT&T took the position that the TWE stake was effectively passive, because MediaOne surrendered its management rights when it agreed to the AT&T merger.

Neither the FTC nor the Justice Department required AT&T to sell its TWE interest. But AT&T now appears to be angling for regulators to obligate both AT&T and AOL-Time Warner to cut a deal on AT&T exit from TWE.

Sanford Bernstein & Co. analyst Tom Wolzien agreed.

"It [divesting TWE] isn't their only option," Wolzien said. "Now, is it tougher to deal with AOL-Time Warner or is it tougher to deal with [Liberty chairman] John Malone?

"I guess we got our answer. It sounds like they'd rather deal with AOL-Time Warner."

In talks about AT & T's future in TWE, Time Warner apparently is holding all the cards if AT&T is the only party required to negotiate. Although Bear Stearns & Co. analyst Ray Katz pegs TWE's value at $16 billion, AT&T and Time Warner are said to be far apart on the dollar value.

STEVENS STEPS UP

Sen. Ted Stevens (R-Alaska), chairman of the Senate Appropriations Committee, has said he is exploring ways to help AT&T escape from the MediaOne merger conditions as Congress winds down its work for the year.

Last week, the United States Telecom Association, a Baby Bell lobbying group, issued a statement saying it was "troubled by AT&T's 11th-hour lobbying attempt to preempt the FCC's cable-ownership ceiling." The USTA said AT&T should be held to the rules at least until the FCC decides whether cable operators need to provide access to unaffiliated Internet-service providers.

Both AOL and Time Warner are urging regulators not to do AT & T's bidding with regard to TWE. In a lengthy Oct. 5 letter to the FCC, AOL and Time Warner said it would be inappropriate for the FCC to interfere with the negotiations.

"The agency has no interest that warrants injecting itself into (much less attempting to influence) private, commercial negotiations," the 13-page AOL-Time Warner letter said.

AOL and Time Warner also told the FCC that "there would be no legal basis to look to [AOL-Time Warner].to eliminate AT&T's interest in TWE."

Months ago, the FCC set Oct. 12 as the deadline for completing action on the AOL-Time Warner merger. But last week, the FCC said it decided to hold off until after the FTC acts.

In a letter to AOL and Time Warner, FCC general counsel Christopher Wright told the companies that "stopping the clock" was "normal practice" because the FCC typically waits for the antitrust judgments of the FTC or Justice Department.

"Once the Federal Trade Commission has acted," Wright said, "we will promptly publish an anticipated timeline for FCC action."

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