Comcast's big pitch

Media moguls can be like kings. They sit at the top of their world constantly pursued by supplicants, from programmers, technology vendors, lenders, investment bankers and miscellaneous entrepreneurs wanting a piece of their lives. Carry our network. Buy our box. And the ever ironic, pay us to raise money for you.

The roles, however, do reverse. Every so often, it's the turn of even the mightiest, most successful media don to bow and scrape. For Brian Roberts, this is one of those times.

The president of Comcast Corp. spent last week jetting around the country to convince some of the largest shareholders to support him on the biggest quest of his lifetime in cable, a $58 billion bid for AT&T Corp.'s cable systems. Unable to coax AT&T chairman Mike Armstrong into selling, Roberts is campaigning among AT&T's largest shareholders to put the heat on. The trouble for Roberts is, if he is successful, he risks sending AT&T Broadband into the arms of a different owner, not necessarily Comcast.

Shortly after explaining their proposal in New York, where the deal-makers live, Roberts, Comcast Cable Division President Steve Burke and others from the Comcast crew headed off for places where the money lives and plays—Boston, Denver and Sun Valley—where, for a week each year, Allen & Co. sponsors a media-investment conference cum
summer camp for the media elite.

"I think people find the offer to be very compelling," Burke said, while jetting to the retreat. "Of the top-50 AT&T shareholders, 38 of them have Comcast [shares]. They understand what we're talking about."

Since Comcast wants to pay stock, not cash, it's not simply an auction. Roberts has to convince AT&T shareholders he can run the systems vastly better even than a spun-off, independent AT&T Broadband.

As an independent company, AT&T Broadband would get 100% of whatever upside Armstrong and AT&T Broadband Chairman Dan Somers can squeeze out of the largest portfolio of cable systems in the country.

Roberts has to convince AT&T shareholders that Comcast's performance would be so good that AT&T shareholders would make out even if they had to split that upside with Comcast's shareholders.


To investors in New York, Roberts said his plan steps up Armstrong's multiyear plan to first create a tracking stock around AT&T Broadband this fall, then, in another year or two, completely separate the cable unit from AT&T's core phone operation.

Separate those assets today, he argued. "What this would allow is a rapid acceleration and a significantly better outcome, I believe, for the AT&T shareholders than the deal that they're currently preparing to do," Roberts said.

So while pressuring shareholders to pressure Armstrong, Roberts also has to worry about triggering a bidding war. This, of course, is how he lost his deal to buy MSO MediaOne Group in 1999. Roberts thought he had a deal, but instead simply put MediaOne in play and got outbid.

The winner: Armstrong.

AT&T executives, unsurprisingly, are not thrilled. Armstrong, too, is accustomed to being courted into deals and, indeed, was being wooed by Roberts for a while. But Armstrong is testy about Comcast's rare and risky "bear-hug" tactic.

For all of Roberts' contention last week that AT&T rejected his approaches, AT&T Chairman Mike Armstrong said he never got a detailed bid for the telco's cable division until everyone else did. "Comcast never gave us a concrete proposal," Armstrong said in a speech to the Boston Chamber of Commerce Wednesday, "at least not until a two-page letter showed up on my home fax machine Sunday evening—about the same time that it appeared on fax machines of newspapers around the country."

Armstrong said the company is giving "serious consideration" to Comcast's offer to buy its cable systems. But he added that one of his best options is focusing on "the value we will create by growing our business and improving our margins."

Comcast executives have been lusting for AT&T for months. Almost as soon as Armstrong announced he would splinter AT&T into five parts last October, they began studying how to pry the cable systems out early. "If it becomes a tracking stock, there's nothing you can do with it," a Comcast executive said last December.


In the end, it was Armstrong and Somers who gave Comcast its best ammunition by turning in an abysmal performance during the first quarter ended March. While new digital cable, Internet and telephone products drove the cable unit's monthly revenues to a strong $50 per subscriber, cash flow was horrible.

Cash flow per subscriber was just $8 per subscriber, far lower than the $20-plus other operators generate. AT&T Broadband's cash-flow margin was just 16%, while other operators run 40% to 50%. "It was startling," said the CEO of another MSO. "I'm not sure I could get cash flow that low if I tried."

Comcast is seizing upon that as its biggest weapon. "The best place to start would be an examination of our margins vs. the AT&T margins, over the last five quarters," Burke said. "What you will find is a pretty consistent 20%-plus gap."

Burke contends that, even if Comcast only closes half that gap in the next two years, it would squeeze $1.2 billion in new cash flow out. "That is about $20 billion of value creation that would be mostly going to the AT&T shareholders."

And how does Comcast run things differently? While trying not to bash AT&T hard, Burke contends that AT&T is simply bloated. He sees $500 million in overhead "We don't see a reason we can't take this overhead below $50 million." AT&T's sales and marketing expenses run double Comcast's, 5% to 6% of revenues.


Cable telephone service is a big drain, $500 million a year, or $60-70 per telephone customer. When Comcast acquired old MediaOne systems from AT&T last year, they came with 150,000 cable telephone subscribers. "We have kept those operations going and during the last six months have taken those operations from a significant money loser to break even." Burke contends he can do the same to AT&T's operation in 12 to 24 months by halting phone expansion, marketing more efficiently and milking the operation for cash.

An AT&T executive scoffed. "We already know how to shut down marketing cut to the bone, but we're trying to build a long-term business here." The executive noted that Comcast has kept margins up in part by scrimping on system upgrades and product development, being forced to play catch-up later.

No one really expects Comcast's bid to be the last one. First off, Comcast specifically excluded AT&T Broadband's stakes in Time Warner Entertainment, Cablevision Systems Corp. and Rainbow Media Group; all of them problem children that AT&T is in the process of somehow "monetizing".

Roberts pretty much acknowledges' he'll have to make some sort of commitment on those. Wall Street and media executives widely expect Comcast to boost his price, as well.

And of course, convincing Armstrong to sell doesn't mean he'll sell to Roberts. Fee-hungry investment bankers are busily trying to convince other companies to get in the game, with the most obvious suspects being other cable operators like Cox or Charter or programmers who would like AT&T's remaining 13.5 million subscriber- distribution base to leverage their programming assets, like The Walt Disney Co. or Vivendi Universal. One company, AOL Time Warner, is in both camps.

Despite quitting AT&T's board in a huff last week after being shut out of discussions about Comcast, Liberty Media Chairman John Malone is still a major shareholder and would love to see a bidding contest.

"I expect that AT&T will be seeing alternative proposals and improved proposals," Malone told Bloomberg News Friday in Sun Valley. "AOL is not going to sit on its hands. There are a number of others that won't. So I think we're early in the game."