Charter to Call AT & T on Upgrade Costs

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Charter Communications Inc. is going back to the negotiating table concerning a 1.3 million-subscriber system swap with AT & T Broadband, after a due-diligence investigation found that the AT & T Broadband systems would require more upgrades than expected.

In a conference call with analysts regarding Charter's first-quarter financial results, president Jerald Kent said he would meet with AT & T Broadband next week.

The system swap was first announced in December. According to the deal, Charter agreed to swap systems in Fort Worth, Texas; Massachusetts; Connecticut; California; Tennessee; and Kentucky, with 632,000 subscribers, for AT & T Broadband systems in the St. Louis metropolitan area and additional communities in Missouri, Illinois, Alabama and Georgia with 704,000 customers.

In the conference call, Kent said that upon doing its due diligence, Charter discovered that some of the AT & T Broadband systems were in worse shape than they thought.

"Following our due diligence, we found that the plant would require more money to upgrade, and the cash-flow growth, at least initially, was not quite as good as we initially thought," Kent said. "We've communicated our thoughts to AT & T. The systems we would be trading away are growing incredibly fast. We're still negotiating with them. We're meeting them next week."

AT & T Broadband declined comment.

One of the systems Charter will yield-Fort Worth-has had phenomenal revenue and cash-flow growth. Kent said operating cash flow at that system was up 55 percent in the quarter. He added that Charter's former Marcus Cable systems-of which Fort Worth is one-had operating-cash-flow growth of 18.5 percent and 2.4 percent subscriber growth.

Banc of America Securities LLC analyst Doug Shapiro said renegotiating systems swaps is common in the industry, and he did not believe the Charter/AT & T Broadband deal was in jeopardy.

"When you do your due diligence, you find things that pleasantly surprise you or negatively surprise you," Shapiro said. "It doesn't mean the deal is doomed, but it makes it clear that the deal may not be consummated as originally planned."

He added that adjustments could be made regarding cash compensation or additional systems.

In addition to its system-swap problems, Kent said, Charter's digital-cable rollout hit a snag in the first quarter due to a shortage of digital set-top boxes.

He said Charter had to delay 11 digital launches that were scheduled for the first quarter because it could not get enough Motorola Broadband Communications Sector digital set-tops.

He added that there were also problems with the supply of special set-top boxes from Scientific-Atlanta Inc. for Charter's Fort Worth and Los Angeles markets, where the MSO scrambles its analog basic signal. However, he said, those box problems have been solved.

"I've been personally assured by the CEOs of both vendors that we will receive an adequate supply," Kent said in the conference call. Still, he added, Charter has a 20,000-digital-customer backlog as a result of the shortage.

Shapiro was also unconcerned about the box shortage, calling it another common problem in the industry. He added that Charter's digital numbers were great, and the company was indicating in the interest of full disclosure that they could have been even better.

Despite those snags, revenue at Charter was up 10.2 percent and cash flow rose 13.7 percent during the first quarter, driven primarily by growth in digital subscribers.

Pro forma revenue for Charter-including its February acquisition of Bresnan Communications-was $759.3 million and operating cash flow was $352 million. The company added nearly 70,000 digital-cable subscribers in the period to close with 225,000. Data customers rose to 123,000 subscribers in the quarter, up from 84,400 in the fourth quarter.

Charter expects to beat its previous estimates of adding 10,000 new digital subscribers per week by about 20 percent, Kent said. He added that Charter also plans to accelerate its upgrade plans by almost one year.

Kent said that by the end of the year, about 70 percent of Charter customers will be served by 550 megahertz or greater plant, and 60 percent by 750 MHz or greater.

Overall subscribers were up 2.4 percent during the quarter, to 6.2 million customers. Average monthly revenue per subscriber was also up in the period to $43.68, compared with $40.59 in the first quarter of last year.

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