TWE May Finally Get Unwound

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AOL Time Warner Inc., rocked by a management shakeup and federal probes into its accounting practices, may be on the verge of unwinding one of the many drains on its share price: the complicated Time Warner Entertainment L.P. partnership with AT&T Corp.

Sources familiar with the companies confirmed published reports last week that the two were working toward a solution to unwind TWE — which includes some of its Time Warner Cable systems, Home Box Office Inc. and the Warner Bros. studios. According to those sources, the current deal on the table — which is subject to change — would involve separating HBO and Warner Bros. from the partnership, and creating a new Time Warner Cable entity that would be traded on the public market.

AT&T would also receive a cash component for its 25.6 percent interest in TWE, up to $1 billion. According to a source familiar with AT&T, a deal could be reached as early as next week.


Fueling the speculation that a deal could be forthcoming was a joint statement AT&T and AOL Time Warner issued, essentially calling off the private valuation of the partnership by Banc of America Securities LLC.

In a prepared statement last Tuesday, AOL Time Warner, AT&T and Comcast Corp. said they have agreed to temporarily suspend the registration-rights process concerning the AT&T stake, so the parties can pursue discussions regarding an alternate transaction. Comcast is crucial in the negotiations because of its pending acquisition of AT&T Broadband, expected to be completed in the fourth quarter.

AOL and AT&T also said they have asked Banc of America Securities "not to deliver an opinion on how much AT&T's stake in Time Warner Entertainment is worth and how much of that stake could be sold in a public offering."

AT&T and AOL have been trying to unwind the TWE partnership for a number of years, but have been unable to agree on a value for AT&T's stake in it. In the past, AT&T has valued its interest as high as $10 billion, while AOL's estimate has been considerably lower.

Last year, out of frustration, AT&T exercised its right to register the shares for public sale. As part of that registration process, an independent party — Banc of America — was to privately value AT&T's stake.

AOL Time Warner has been under intense pressure to simplify the partnership, one of CEO Richard Parsons's top priorities. Its inability to do so has also put downward pressure on its stock, as investors feared that AOL Time Warner might be forced to pay AT&T in cash or stock for the stake.


Parsons has said in the past that AOL Time Warner would not issue shares or cash to unwind TWE.

Sources confirmed published reports that both parties are working on a solution that would involve an initial public offering of a minority stake in AOL Time Warner's cable operations, which AT&T could then sell to the public at a later date. AOL would continue to control the cable properties, with about 65 percent equity.

In addition, AT&T would get a cash infusion to offset the uncertainty surrounding a cable IPO in the current economic climate.

While a cable IPO could be worth billions, the current state of cable stocks — the sector is down 66 percent since the beginning of the year — make an IPO risky at best in the near term.

But splitting off the cable assets would solve both parties' problems. It allows AT&T to eventually monetize its interest, and it gives AOL Time Warner full control of HBO and Warner Bros., which would not be part of the IPO.

It also could provide AOL Time Warner with deal currency to acquire additional cable systems in the future.

"They felt good enough about the common understandings to put off the registration [of AT&T's interest in TWE] so they could work toward an agreement," a source familiar with the companies said. "AT&T has made it pretty clear that they are definitely looking for cash out of any agreement that takes place."

In a conference call with analysts discussing its second-quarter results, Comcast president Brian Roberts hinted that a resolution on the TWE situation could come soon.

"We are encouraged and hopeful that this process will yield a very positive outcome for all parties involved," Roberts said. "We are very much engaged and hopeful. I think it's appropriate not to negotiate publicly, but I think potentially, this is good news on the horizon."


The possible settlement of the TWE issue was a rare bit of good news in what has been a tough month for AOL Time Warner. After a major management shakeup in July — in which chief operating officer Bob Pittman resigned —the company last week acknowledged that its America Online Internet unit is the subject of a Department of Justice investigation into its accounting practices.

News of the DOJ investigation came less than a week after AOL said the Securities and Exchange Commission was conducting a "fact-finding inquiry" into the unit's accounting.

Those accounting irregularities were brought to light in a series of articles in the Washington Post
last month.

In a prepared statement, the company said: "In the current environment, when anyone raises a question about accounting, it's not surprising that the relevant government agencies will want to look into the facts. As we said last week, we are cooperating 100 percent with the SEC, and we will cooperate with the Department of Justice as well.

"Most importantly, as we have consistently said, our accounting is appropriate and in accordance with Generally Accepted Accounting Principles, and our outside auditors, Ernst & Young, have repeatedly confirmed that."

The online unit also is reportedly close to naming a CEO, with former USA Interactive Information and Services Group president Jon Miller at the top of the list.