Pundits Predict Deals Will Decline in Scale - Multichannel

Pundits Predict Deals Will Decline in Scale

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The cable industry was built on deal-making, and the last 25 years is more than evidence of that. But though the deal-makers still have some remaining steam, most analysts believe that the heyday of megamergers has passed.

“Obviously, we’re running out of high-profile big transactions,” said Fulcrum Global Partners media analyst Richard Greenfield. “There are fewer companies that can be acquired. And with several companies going private, there is probably less of a near-term need to sell out as you don’t have the pressure from public shareholders.”

In the past 25 years, the cable industry has gone from 17.7 million customers to 73.2 million customers, while penetration has risen to 66.8% from 22.6% of U.S. television households. Today, the top three MSOs — Comcast Corp., Time Warner Cable and Cox Communications Inc. — represent 53% of total cable households.

CALL THEM 'HUGE 3’

And that’s before the joint Time Warner Inc.-Comcast acquisition of Adelphia Communications Corp. Once that deal is completed, the big three cable operators will control 60% of the cable universe, or about 43.9 million homes.

Comcast was a participant in two of the largest deals in the past five years — its $54 billion purchase of AT&T Broadband in 2002 and, with Time Warner, the purchase of Adelphia for $17.6 billion. As part of the Adelphia deal — slated to close by the first quarter of 2006 — Comcast will receive a mix of Time Warner and Adelphia customers, totaling about 1.3 million subscribers. Time Warner, with 10.9 million customers the second largest MSO, will get about 3.5 million Adelphia and Comcast subscribers out of that deal.

Many Wall Street observers believe the only way that won’t be the last megadeal is if perennial bridesmaid Cablevision Systems Corp. goes on the block.

Earlier this year, Cablevision’s controlling Dolan family proposed taking the Bethpage, N.Y.-based MSO private for about $7.9 billion. That proposal is still being evaluated by a special committee of Cablevision’s independent directors.

Going private has been a growing trend in the cable industry in the last two years, kicked off by Cox Enterprises Inc.’s decision to buy out the 38% of Cox Communications outstanding stock it didn’t already own for $8.5 billion. Cox Communications, with 6.3 million subscribers, completed that deal in December.

In March, Insight Communications Co. — the 10th largest MSO with 1.3 million subscribers — received a buyout offer from its two top officers (chairman Sidney Knafel and CEO Michael Willner) and the Carlyle Group to take it private for $720 million. That offer was approved by Insight’s board in July and should be completed by the beginning of next year.

The Insight privatization also poses some questions. Comcast effectively owns 50% of the company, and could trigger a separation in December that would give it half of Insight’s customers. While Comcast said in May that it would likely exercise that trigger, it could take months to complete and the No. 1 MSO could always change its mind.

DEALS WILL BE SMALLER

Sanford Bernstein & Co. cable and satellite analyst Craig Moffett said that there are still systems deals to be done, but on a much smaller scale.

“The world appears to be consolidating into three big camps of Comcast, Time Warner and 'everyone else,’” Moffett said. “And, over time, that 'everyone else’ category is likely to continue to shrink.

That could mean future MSO deals involve Cablevision, Charter Communications Inc. and smaller operators, he added.

Greenfield believes that, while there are a few MSO deals yet to be made, in the future, operators will concentrate on programming acquisitions rather than buy more systems to increase scale.

“Given the increasing size of these companies, more and more transactions are probably going to be of a nature that is vertical rather than horizontal,” Greenfield said. “As the horizontal opportunities are fewer and fewer, these companies are likely to continue to look to branch out and to broaden their scope as Comcast has in building in the programming arena in the last few years.”

Comcast has increased its programming holdings — it is part of a consortium led by Sony Corp. and three private equity groups that bought Metro-Goldwyn-Mayer Inc. last year. Comcast has also made several smaller content deals: It bought struggling cable network TechTV from Paul Allen’s Vulcan Inc. in 2004 for $300 million, merging it with its video game-themed network, G4. Comcast already owns controlling interests in the Golf Channel, OLN, E! Entertainment Television, Style and International Channel Networks.

But Moffett added that even on the content side, big vertical deals are likely to go by the wayside too.

“It’s hard to see the logic for a big vertical alignment, at least of the linear channels,” Moffett said. “A lot of the value created out of linear channels was out of the explosion of new channels that have been created over the last 10 to 15 years. That process also looks like it is at an end. Increasingly, new content is going direct to video on demand.”

Moffett pointed to Comcast’s participation in the Sony buyout of MGM as a perfect example.

“The types of deals you’re likely to see are going to be much more strategic, but also more narrowly focused on bringing unique content to bear, especially for video on demand,” Moffett said. “These deals don’t have to be big to have an impact. And you could argue that Comcast already started down that path three years ago. Every deal Comcast has done could be seen in the context of trying to enhance the value proposition of video on demand relative to linear video.”

SPORTS NETS IN SIGHT

Moffett added that one likely area of focus for MSOs is regional sports networks. Several analysts have speculated that Cablevision could be better off selling its Rainbow Media Holdings programming division — which includes RSNs in San Francisco, Chicago and New England — as part of its going-private deal, rather than spinning it off to shareholders.

Comcast tried a much bigger content play in early 2004 — just months after it had successfully completed the integration of AT&T Broadband — by lobbing an unsolicited $59.9 billion bid to buy The Walt Disney Co. While that deal was ultimately rejected by Disney, Greenfield said the concept of merging content with distribution still holds water.

“Concept-wise, it has shown to work in other companies,” Greenfield said, pointing to Time Warner Inc. and News Corp., each of which have substantial distribution assets to go with their vast programming holdings.

And some big megadeals of the past are being unwound. Earlier this year Viacom Communications Inc. proposed splitting itself in two — one company consisting of its cable networks and movie studio, the other its CBS television network and radio holdings. While Viacom hopes to unlock the value of its flagging stock with the split-up, it effectively unwinds the merger between Viacom and CBS Corp. that was completed in 2000.

It could create an appealing target for a cable operator, Greenfield added.

“Look, Viacom is going to be split apart,” Greenfield said. “There is going to be a separate pure-play cable network and film entity that could be very attractive for a pure-play cable operator.”

On the MSO side, gaining scale appears to be the big driver of future and past deals.

The early 1980s were primarily a land grab, as operators scurried to scoop up as much scale as possible. In those days, though, operators focused more on securing franchises than acquisitions.

That changed a few years later, as larger operators began to swallow up small mom-and-pop cable systems.

WHEN DEALS WERE HOT

There was a flurry of deals between 1983 and 1994, including Continental Cablevision Inc.’s purchase of American Cable in 1984 for $431 million; Times Mirror Co.’s sale of its cable systems to Cox Communications for about $2 billion; and Tele-Communications Inc.’s and Comcast’s purchase of Storer Communications Inc. for $2.8 billion.

The deal-making continued through the 1990s: Bell Atlantic Corp. made a $30 billion overture to TCI, which was rejected by federal legislators in 1994; Continental sold out to U S West for $10.8 billion in 1996, creating MediaOne Group Inc., to just name a few. And in 1997, TCI hired a whirlwind named Leo J. Hindery Jr., whose job was to shore up the then-No.1 MSO’s bloated operations.

Hindery went on a tear, selling off systems and forming joint ventures and partnerships with other operators to fit his concept of the “supercluster” — consolidating operations into large regional pockets to take advantage of cost efficiencies. While the idea of clustering was nothing new, other MSOs latched on to Hindery’s strategy, transforming the industry once again.

In 1998, Microsoft Corp. co-founder Paul Allen started putting some of his vast fortune to work, buying Marcus Cable for $2.8 billion and a few months later snapping up Charter for $4.5 billion. A $3 billion initial public offering followed, then the third-largest in history.

Hindery’s moves also made TCI an attractive takeover target, and soon after the “Summer of Love” began, AT&T Corp. came knocking. AT&T’s $48 billion acquisition of TCI was completed in 1999.

But AT&T quickly found out that running a cable company is a lot different than running a phone conglomerate. Just three years after the TCI deal was finished, poor performance and pressure from Wall Street forced the sale of AT&T Broadband to Comcast for about $54 billion.

Adelphia joined in the binge in a big way as well, mostly in 1999, when buyouts of Century Communications Corp., Harron Communications Corp. and FrontierVision Partners helped the Rigas family’s cable company double in size. That foundation cracked when the company filed for bankruptcy protection and founder John Rigas and son Timothy Rigas were tried and convicted on fraud charges.

HEYDAY WAS IN ’90S

Communications Equity Associates chairman Rick Michaels said the heyday for cable investment bankers like himself was in the 1990s to 2000. CEA was part of several big deals during that time, the largest being the $1.1 billion acquisition of Prestige Cable by Adelphia. Other prominent brokers, like Daniels & Associates and Waller Capital Corp., were also a big factor in deals during that time.

But as consolidation began to wind down, so did the need for brokers, Michaels said.

“In the heyday, there must have been at least 20 to 25 cable brokers. Like the Buffalo nickel and the screen door, we have become a vanishing part of America’s heritage,” Michaels said.

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