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Buyers Chasing Sellers: Start-Up MSOs Learn Patience

Poor David Unger.

The former Communications Equity Associates Inc. broker and
Joel Cohen, ex-Harron Communications Corp. president and his partner in Avalon Cable, were
trying to build a 200,000-subscriber MSO from scratch. They had a couple of deals pending
to get them about one-tenth of the way there, and they were in various stages with other
possible acquisitions.

Then, billionaire Paul Allen came along and agreed to pay
more than $2,500 per subscriber -- or, by some measures, more than 12 times running-rate
cash flow -- for Marcus Cable Co. L.P.

Almost immediately, Unger said, one seller got cold feet
and put a deal on hold, trying to figure out how much more to charge. What's worse,
Allen's move briefly forced Unger to rethink whether he should be a buyer.

"I was tempted to sell what we've got,"
Unger said.

Unger was kidding about selling off the 22,000 New England
subscribers that Avalon has agreed to buy. But the Allen deal for Marcus and its ripple
effect on perceived system values are part of what makes life so challenging these days
for wanna-be MSOs.

In 1997, budding empire-builders like Mediacom LLC's
Rocco Commisso were able to seize on systems that the big MSOs decided to sell because
they were too far outside of the big guys' clusters.

They benefited from a combination of liquidity -- systems
up for sale -- and available equity and bank financing, as lenders and investors warmed up
to cable.

Former Tele-Communications Inc. chief financial officer
Donne Fisher is out there chasing systems for his company, Peak Cablevision LLC. He'd
like to get beyond 200,000 subscribers over the next 12 months, partly by seeking systems
from venture partner TCI.

"TCI has not stopped downloading systems, and
we've got our pan under those droppings," he said.

But in the view of several cable brokers and investment
bankers, the big MSOs are mostly done shedding systems. (TCI president and chief operating
officer Leo J. Hindery Jr. is fond of noting that six operators and their affiliates now
control 80 percent of all subscribers.) While there is no shortage of buyers, there may be
a shortage of properties to buy. That drives prices up and limits the number of
opportunities for bidders to win system auctions.

Rising prices have also put pressure on start-ups that are
backed by leveraged-buyout (LBO) funds and by other financial investors with rigorous
targets for returns on their investment -- say, 20 percent to 30 percent within five

Cable is increasingly attractive to those investors, partly
because the fundamentals (subscriber growth and the regulatory and competitive
environments) are attractive, and partly because systems deals can soak up millions of
dollars that have to find investment homes.

But as prices rise to one or two cash-flow multiples above
the market levels of a year ago, those returns prove harder and harder to achieve.

The rising prices are forcing buyers to assume that cable
customers will buy what used to be considered revenue wild cards -- new services,
especially high-speed data -- in order for the buyers to justify paying higher prices.

"They're either going to have to get much more
aggressive in their projections for the future," said CEA executive vice president
Tom MacCrory, "or accept a lower rate of return in the near term, or both."

Still, in recent weeks, several start-ups that had been
shut out of the market reported making their first deals. This obviously indicated that
they were able to find properties and that they were willing to pay the asking price.

Unger and his backers -- notably ABRY Partners Inc., which
controls a fund managing $575 million -- weren't really crying the blues, though.
Neither were other start-up MSOs and their backers that were interviewed in recent weeks.
They acknowledged the reality of rising prices, and they accepted that they have to be
more optimistic about new-service revenues in order to stay in the game.

They also conceded that there's heightened competition
for cable systems, but they said they're confident that they'll be able to swing
deals to meet their acquisition goals.

"I wouldn't say that the market is overpriced,
but it's certainly not a bargain," said Royce Yudkoff, managing partner at ABRY.
He added that his Boston-based firm has competed successfully for deals in other hot
investment arenas, including broadcast television and radio. ABRY's past investments
include Sullivan Broadcasting Co., which is being sold to Sinclair Broadcast Group for
about $1 billion.

Yudkoff said he thinks that there will be enough properties
to buy. And he and his partners invest for the long term -- five, six, seven years, or
more -- so he's not worried about a quick, big return. "We're very careful
in what we buy, and we try not to overpay," he added. "We're forced to pay
more than we'd want, but we try not to overpay." ABRY's target is to invest
$50 million to $60 million in equity in cable through Avalon.

That kind of backing helps when it comes to an auction.
Avalon's other backer is Lehman Bros. for senior debt, according to Unger.

But Unger said a key will be using his and Cohen's
extensive network in the cable community. "We know everybody," he said, "so
we're trying to not only deal with the brokers, but also to find some creative ways
to buy some systems that don't have to go to auction."

In other words, to find prospective sellers and cut deals
before other people get involved. That day, Cohen was looking at a system in Vermont for
which Avalon had bid $40 million, Unger said.

Jeff Sanders could be one of the competitors that Avalon
seeks to short-circuit. Sanders, former chief financial officer at Charter Communications
Inc., is vice chairman and CFO at Millennium Media, a St. Louis-based start-up founded
about a year ago with another Charter alum, Kelvin Westbrook, along with former Brooks
Fiber Properties corporate-development chief John Brooks and former SBC Communications
Inc. mergers-and-acquisitions executive Chuck Payer.

About three weeks ago, Sanders was happy to report his
first deal, for a 53,000-subscriber system owned by InterMedia Partners in Anne Arundel
County, Md., near Baltimore. In most of that franchise, InterMedia competes against Jones
Intercable Inc., and it has consistently captured about 75 percent of the subscribers in
that disputed territory, Sanders said.

"It took us a long time to screw up the courage,
frankly," to buy an overbuilt system, Sanders said, declining to reveal the purchase
price. "But the local management is outstanding. They've done a great job
dealing with competition," and Millennium assumes that most cable systems will be
competing for customers in one way or another, he added.

Millennium is shopping for systems in the top 50 markets,
armed with about $100 million in backing from The Stanford Group Co.'s TSG Capital
and investment bank CIBC Oppenheimer.

The principals had been "lunch buddies" in St.
Louis for years, Sanders said. He left Charter in 1996, feeling a bit burned out. The
MSO's aim had been to grow to 300,000 subscribers within five years, but instead, it
topped 1 million in less time than that. The catalyst to form Millennium came when Brooks
decided to leave Brooks Fiber, the company founded by his father, Robert Brooks, Sanders
said. Brooks also has a cable background, having worked at Cencom Cable Associates before
it sold out to Hallmark Cards Inc. in 1991.

"Based on our experience, it's been very easy to
raise the money," Sanders added. "It's been more time-consuming than we
thought to find the opportunities."

Like other start-ups backed by cable and telecommunications
veterans, Millennium hopes that its willingness to pour capital into the systems that it
buys will separate it from other bidders, and that the need to pour capital into systems
will persuade current owners to sell.

"I still feel that there are smaller companies out
there, smaller MSOs, that are looking at big capital investments," said David Testa,
executive vice president at Renaissance Media LLC, which is backed (and mostly owned) by
Morgan Stanley Capital Partners, a Morgan Stanley Dean Witter private-equity fund.
"That's one of the things that we wanted to bring into this: You can't be
out there with a 330-megahertz or a 450-MHz system. You're going to get your lunch

Testa -- one of six former Cablevision Industries
executives who are principals at Renaissance -- and his colleagues recently closed a deal
on its first purchase, of a half-dozen former CVI systems last owned by Time Warner Cable.

That estimated $300 million deal got Ferndale, N.Y.-based
Renaissance off to a fairly fast start, with 126,600 subscribers. According to Testa,
"We're turning over rocks and really looking for things that would enhance this
group of properties."

It hasn't been easy. "Some [systems] that
we've seen in the last few months hardly made it to the market before they were
spoken for," Testa said. He added that he's no Nostradamus, but here's what
he expects to see in 1998: "It'll be very competitive. And I would think that
with fairly high sale prices, historically speaking, people would want to sell."

Marcus' backers, after all, decided to sell. So did
Providence Ventures, the Rhode Island-based private-equity fund. Its Providence Media
Partners unit, along with Narragansett Capital Partners, has put up for sale systems with
about 100,000 subscribers owned in limited partnerships with Fanch Communications Inc.
This represents one of the bigger subscriber blocks openly on the market.

Providence chairman Gregory Barber said the need to step up
and rebuild systems in order to be competitive was a factor in opting to sell. So was the
length of time -- four to seven years -- during which its institutional investors had
money in the Fanch partnerships. So were market conditions: "There's probably a
lot more demand than supply right now. That's one of the other things that prompted

Barber still likes cable. "I'm bullish," he
said. "We still own a lot of cable investments." Providence owns part of the
Rifkin & Associates Inc. system in Miami Beach, Fla., he said, adding about Rifkin:
"[It's] a buyer."

That's true, said Kevin Allen, the new CEO at
Denver-based Rifkin. Before that, Allen, a former banker, ran Rifkin's
mergers-and-acquisitions arm. He's been helping to consolidate the Rifkin
partnerships, and he reported that deals under contracts or in the works should add more
than 220,000 subscribers to the company's current total of 550,000.

"We don't see a lot of things on the
market," Allen said. "But we also think that it's a great time to own
assets. If you were just starting out, I'd have to wonder.

"The returns are riskier than they have been in the
past," Allen added. "Not that they're not achievable -- not by any means.
We're big believers in the new services and the revenue opportunities."

Neil R. McHugh, former president of MSO Adams-Russell Co.,
now runs Vista Broadband Communications LLC, backed by Boston Ventures L.P. That venture
last month closed its first deal, buying Smyrna Cable TV (26,500 subscribers) from Cable
Holdings of Georgia Inc., after looking around for more than a year.

Smyrna will need a rebuild, McHugh said: "We're
channel-locked." And there's potential there for cable modems and other
new-revenue areas. But Vista's business plan is more fundamental. "The real
opportunity is that we have good internal growth and reasonably low penetration here
relative to other markets," he said.

Bruce Armstrong is also out there shopping, with equity
backing from sources that he declined to name. American Cable Entertainment, his venture,
has a 32,000-subscriber, single-headend system under contract, he said. Another system of
similar size is close to being signed up. "There's a desire to grow to be a
medium-sized MSO -- something in the 300,000- to 500,000-subscriber range."

Can he get there? "I think that there's a
chance," he said. "We have come close in a couple of auctions for systems being
brokered, and we have come not so close in systems where we thought that the price was too

If investors believe that multiples are going to be lower
five years from now, the current prices pose a big problem, Armstrong said. If you believe
that it reflects a future with digital and Internet revenue, the prices "make you
swallow harder" but stay in the game. He put himself in the latter camp.

So did Unger, of course. He recognizes that swallowing
harder means looking beyond the traditional revenue source, though.

"Our business plans do incorporate the capital
expenditures that you need to improve the plant," he said. "But we've not
had to, nor are we in a position to, start projecting what the new-revenue sources will
be. We're going to have to sit back and start figuring out how much money might be
coming from these additional revenue sources to be competitive in a bid process."

ABRY should be OK with that, Unger said of his backers. One
system under review also owns an Internet-service provider with 5,000 customers, he said:
"We're going to learn the ISP business and, ultimately, that could be a
tremendous advantage in the high-speed-modem area." Dial-up customers can be migrated
to the better, more expensive cable product when it's available, cutting marketing
costs. And ISPs are going for reasonable prices, Unger said. "There's no feeding
frenzy there yet."

The frenzy is there for cable systems. But Unger is also
confident that Avalon will find the opportunities needed to get to its 200,000-subscriber

"There are always buyers and sellers," he said.
Only now, there may be too many of one and not enough of the other.