Justice Dashes Dish Deal

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It's time to find out how long it takes Charlie Ergen to take no for an answer.

On Thursday, the Justice Department filed suit in U.S. District Court here to block the proposed merger of EchoStar Communications Corp., Ergen's direct-broadcast satellite provider, and Hughes Electronics Corp., parent of archrival DirecTV Inc.

The action effectively derailed EchoStar chairman and CEO Ergen's plan to establish a combined EchoStar-DirecTV as the largest pay TV provider in the country.

The DOJ's move was the merger's second major setback in three weeks. On Oct. 10, the Federal Communications Commission rejected the deal and assigned it for hearing before an administrative law judge.

Such a one-two punch usually leaves a merger twitching on the canvas. But neither EchoStar nor Hughes was willing to throw in the towel — probably due to the legal fine print associated with the deal's $600 million break-up fee.

Charles James, chief of Justice's antitrust division, said he blocked the deal because it would have created a satellite monopoly for millions of U.S. households, and would have substantially lessened competition for millions more.

The DBS merger would have given the new firm at least 90 percent of the satellite market, with about 18 million subscribers. It would control only about 20 percent of the broader pay TV market of 90 million consumers.

"We think consumers potentially will be injured substantially by the lessening of competition that is caused by this transaction," James told reporters on a conference call. "I don't think that there is any sense in which this action could be characterized as picking on a little guy."

Twenty-three states, Puerto Rico and the District of Columbia joined the suit, which James said had been assigned to U.S. Judge Ellen Segal Huvelle.

In a statement, Ergen did not disclose his next move, though some observers expect Ergen to meet the Justice Department in court.

"We are obviously disappointed that at this time we have not been able to convince regulatory officials to share our vision," said Ergen. "EchoStar will continue to explore all possible means to be allowed to compete against the cable giants and for more choice for all consumers."

EchoStar and DirecTV have until Nov. 22 to file a restructured merger with the FCC. At the same time, EchoStar may ask the FCC to postpone the ALJ hearing while it considers a revamped merger.

Senators appeal

Last week, Sens. Herb Kohl (D-Wisc.) and Mike DeWine (R-Ohio) — critics of the original deal and heads of the Senate's antitrust subcommittee — urged FCC chairman Michael Powell "to consider seriously" proposed changes to the merger.

In a bid to salvage the transaction, EchoStar reportedly proposed to transfer satellite assets to Cablevision Systems Corp., a cable operator with plans to launch a satellite platform providing local-TV signals on a nationwide basis, as well as dozens of high-definition TV channels.

After careful review, Justice concluded that the Cablevision proposal was insufficient to counter the merger's anti-competitive effects within a reasonable period of time — typically less than two years.

"It didn't sway us," James said. "The legal standard is timely, likely and sufficient. We went though the analysis and ultimately concluded that Cablevision did not meet that standard."

James has already announced his departure to join ChevronTexaco Corp. as vice president and general counsel. He leaves the DOJ on Nov. 22.

James said he was unsure of the status of his review of the AT&T Broadband-Comcast Corp. merger, which would create a cable MSO with 22 million subscribers. The FCC is expected to approve the merger within days, though it's debating whether to require Comcast to produce an Internet-access agreement it inked with AOL Time Warner Inc.

Asked to explain why the government appeared ready to approve a cable merger that is larger than the rejected DBS merger, James said his job was not to compare the two deals but to examine the impact each transaction would have on competition overall.

"We look at one merger at a time," he said. "If I am speeding down the highway and the policeman pulls me over, I don't get to point to the other car and say, 'Give him the ticket and not me.' "

Litigation outlook

While most analysts expect EchoStar to launch a vigorous legal battle for merger approval, it is uncertain just how long such a fight could last.

"I think this is a bit of a Kabuki dance," said Janco Partners Inc. cable and satellite analyst Matt Harrigan. "Everyone is aware of how litigious the parties are."

Harrigan said he didn't believe any lawsuits would be allowed to last much longer than the drop-dead date for the merger — Jan. 21.

"It's a little unclear what happens if they litigate with the government," Harrigan said. "But I would guess that if it doesn't improve by the drop-dead date, that's it."

Also at issue is the $600 million termination fee EchoStar would be required to pay after the Jan. 21 deadline expires. Hughes parent General Motors Corp. had insisted on the fee because it had concerns about whether the deal would pass regulatory muster.

EchoStar also agreed to buy Hughes' PanAmSat Corp. subsidiary for $2.7 billion. EchoStar can escape the obligation to buy PanAmSat if there is a "material adverse change" in the business.

In August, PanAmSat said that eight of its top 10 customers may be unable to pay their bills — amounting to $1.1 billion — a development that could trigger the clause.

In a statement, Hughes said it was disappointed in the DOJ's decision and it would "consult with EchoStar to determine our next steps."

According to one analyst who asked not to be named, EchoStar could make it more difficult for the automaker to sell its Hughes unit by keeping the merger in the courts. But ultimately, if GM wants to do a deal, there would be little to stop it from doing so.

"I wouldn't be surprised if it complicates it," said the analyst who asked not to be named. "Does it [EchoStar litigation] preclude a sale? No. Does it complicate it? Yes."

But analysts also are split as to whether GM needs to sell Hughes at all.

GM originally put Hughes on the block to help it fund a $9 billion deficit in its pension fund. Although that gap is expected to balloon to between $18 billion and $23 billion by the end of this year, at least one analyst believes GM does not have its back against the wall.

"They [GM] are not in a desperate position," said Charles Brady, an automotive-industry analyst with Credit Lyonnais Secuirities. "They have a pension issue, and they have had pension issues before. I don't see it as being so severe that they have to sell Hughes."

Brady added that GM's options include spinning off the Hughes unit, selling it to a leveraged buyout group or continuing to run the company.

No quick bids seen

And though News Corp. and Liberty Media Corp. have been identified as prospective suitors for Hughes, analysts are not expecting either party to make a quick bid for the DBS giant.

"There are just way too many pieces to this puzzle," said the analyst who asked not to be named. "So much depends on what GM's priorities and constraints are."

Harrigan said it is unlikely that any potential suitor would emerge before the Jan. 21 drop-dead date.

News Corp. declined to comment on its plans.

The merger's death would also appear to mean the end of Cablevision's plan to create a competing DBS service, using spectrum and technology from EchoStar. Cablevision has submitted some documents to the FCC regarding a DBS service it first called HDSat, but later renamed Rainbow DBS.

According to reports, Rainbow DBS would proffer as many as 310 channels and would provide satellite service in a high-definition format.

According to reports, EchoStar was willing to give up 40 transponder slots, sell one satellite and lease two others to the Bethpage, N.Y.-based MSO. Cablevision already owns about 11 transponder slots.

EchoStar would also assist Cablevision in securing set-top boxes for the service, help it establish retail distribution channels and share the cost of providing local television channels in its markets.

But with the deal all but dead, it would appear unlikely that EchoStar would agree to hand over such a large chunk of its assets to a fledgling competitor. Nevertheless, Cablevision said in a statement last week that it will continue with its DBS plans.

"Cablevision continues to believe that the restructured merger with the divestiture of spectrum and assets provides a unique opportunity to ensure a programming- and technology-driven, competitive future for the satellite industry," the statement said. "We are moving forward, pursuing advanced satellite technology, new programming, and the benefits of HDTV as we continue to explore all available options to meet these consumer demands."

Cablevision options

But just how much Cablevision is willing to commit to the DBS venture remains to be seen.

The MSO is facing a $500 million to $1 billion funding shortfall next year. In December, it must address News Corp.'s "put" rights for its interests in five regional sports networks owned by its Rainbow Media Holdings subsidiary, estimated to be worth another $1 billion.

If Cablevision decides to go through with the DBS venture — which could cost $2 billion to $2.5 billion — the question remains: Where is the money coming from?

Although sources said the MSO is close to a deal to sell Rainbow's Bravo cable channel to General Electric Co.'s NBC television network for $1.25 billion, that deal would mainly involve the exchange of Cablevision stock that NBC already owns. Only about $100 million to $200 million in cash would be involved in the transaction, according to one source in the financial community.

Cablevision is also said to have put the AMC network on the block — Metro-Goldwyn-Mayer Inc. is a potential buyer — to possibly raise another $2 billion.

Most analysts said that they would prefer Cablevision to earmark the proceeds from those potential sales to bridge its funding gap.

"If asset-sale proceeds are used to fund this project, then we believe additional stock weakness is likely, as most investors have assumed that these proceeds would be used to pay down debt," wrote CS First Boston cable analyst Lara Warner in a research report.

At best, said Stifel Nicolaus & Co. cable analyst Ted Henderson, the DBS venture would take Cablevision's eye off its cable systems.

Analysts: Sell Spectrum

"It's getting distracting," Henderson said. "The best arrangement for anyone looking at Cablevision is for them to sell their spectrum and their satellite to EchoStar and get out."

One financial-community source who asked not to be named was more blunt.

"Cablevision is acting like it wants to throw capital at this thing," the source said. "The whole world's frustrated by [Cablevision chairman] Chuck Dolan. He was crazy enough to do it with the spectrum, maybe he's crazy enough to do it without the spectrum."

Although the source agreed that Cablevision shareholders would be best served if the MSO used any proceeds from asset sales to help close its funding gap, he added that the operator appears to be acting as if it has no pending funding crisis.

"The problem is that Cablevision doesn't believe it has a funding gap anymore," the source said. "People are questioning their judgement now.

"People say that Chuck Dolan is the entrepreneur, he's the visionary," the source added. "I would love to know what vision he has here. What is he seeing? The satellite industry has had four players in the past, and two of them are bankrupt."

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