It’s not the easiest time to be a cable operator. Out of favor on Wall Street, the industry is caught in the bind of needing capital to pay for growth plans but not liking the choices open to it.
Most cable operators are carrying as much debt as their bankers will allow, making new equity the only option for raising fresh capital.
But the past year has seen cable stocks sink to levels that make it tough to raise equity.
“We are terribly frustrated by the trading level of our shares … We need enormous amounts of capital to do the things we want to do,” said Comcast chief financial officer John Alchin at an investment conference last month.
JP Morgan analyst Larry Petrella says investors have been scared off by the combination of increased competition looming for cable customers from satellite broadcasters and telcos and the multibillion-dollar cost of upgrading equipment to meet that competition. “That doesn’t sound like a great proposition to them,” Petrella says.
In addition, the drive for consolidation among operators, also prompted by the tough new world ahead, is dampening equity prices. That’s particularly true for public companies that are trying to buy higher valued private systems, and may dilute their stock to do it.
As a result, a restructuring wave has swept the public companies, anxious to do something to get their stock prices up and ease the way for capital-raising and potential acquisitions.
Time Warner and Tele-Communications Inc. are the most publicized but not the only examples. TW is plotting a restructuring to streamline its structure and make itself easier for investors to understand.
TCI announced late last year tentative plans to issue new classes of stock tied to its four new business divisions, a strategy known as “letter stocks.” Comcast is known to have closely examined a similar idea several months ago, where it would have spun off its cellular phone businesses in the hope that it would have been valued higher than its existing stock.
US West, one of the most aggressive telcos expanding into the cable industry, has seen its stock fall as it has expanded in cable. As a result, it is thinking about issuing a separate class of stock for its cable businesses; Wall Street sources say US West could go as far as a breakup of the company.
Cablevision Systems is in the middle of streamlining its complex structure, buying out partnerships that own some of the systems. Minority investors still own some of its assets, however, and their presence, as well as other financing mechanisms, make Cablevision’s structure almost as hard to understand as Time Warner’s. One Wall Street source says the company is considering further steps to make its structure easier to understand, although that is denied by a Cablevision spokesman.
Whether or not any of these restructuring ideas will work is another question, however. Some analysts say that stocks like TCI and TW will benefit simply by greater disclosure. But there is plenty of skepticism about what some people call a fad that is likely to reverse itself in a couple of years.
“A lot of these restructuring concepts are over-rated,” says one investment banker. Other sources say the reshuffling is often just “smoke and mirrors.”
No Comcast spin-offs
Comcast appears to agree. After a lot of examination, including talks with companies in other industries which have tried letter stocks, it decided against any spin-off. One source said the company felt it would not get the right value for any new stock.
Instead, Comcast has raised new equity privately, bringing California pension fund Calpers into its $1.3 billion purchase of Maclean Hunter’s U.S. cable systems. Calpers invested $250 million for a 45% stake in the deal and could be a source of more equity in the future.
“We have had discussions with Calpers about expanding the relationship,” Alchin said last month, adding that one of Calpers’ biggest concerns about the Maclean Hunter deal was that it didn’t want it to be a one-time-only investment for the fund.
Wall Street sources say that other cable companies are likely to raise equity privately from strategic investors, like Time Warner has already done with US West and its two Japanese investors.
Ray Katz, an analyst with Bear Stearns, argues that the cable industry will finance the upgrade of its networks through the joint venture between Sprint, TCI, Comcast and Cox Communications, and that these companies have enough cash or bank finance available to pay for their contributions. He says the need for equity arises for acquisitions.
Katz added that these equity raisings won’t be straightforward “plain vanilla” deals but will be more creative, both because of the stocks’ low trading levels and the entrepreneurial mentality of the cable operators.
One banker argues there are no solutions that can be applied across the board and that some catalyst will be needed to cause stocks to rise. In the past such a catalyst might have been evidence that cash flow was growing again, particularly after a bearish year like 1994.
Analysts and bankers say that there are plenty of signs now that cash flow growth is picking up – but these are being ignored by investors. Chris Dixon, an analyst with Paine Webber, says “the investment community appears to want to wait. It’s basically saying ‘show me.’ “
What investors are waiting for is some idea of how the big investments will pay off, say analysts. Morgan’s Petrella says investors neglect to recognize the potential to cable of tapping into the $85 billion (annual) telephone market, the $15 billion homevideo market and the $5 billion interactive games market.
Others on Wall Street say all forecasts are clouded because it’s still not clear what impact telephone companies will have moving onto cable turf.