US West to Buy Cable Firm for $10.8 Billion

In a landmark deal that combines for the first time a major telephone carrier with a leading cable operator, US West Inc. has agreed to buy Continental Cablevision Inc. in a transaction valued at a startling $10.8 billion.

The merger is a harbinger of the consolidation that promises to reshape the telecommunications industry. It is the largest deal to be announced since President Clinton signed into law this month far-reaching telecommunications reform that opens the cable and the long-distance and local telephone businesses to fierce new competition and, at least in theory, lower consumer prices.

“Clearly, passage of the Communications Act of ’96 has opened a whole new world,” said Amos Hostetter, who co-founded Continental 32 years ago and built the Boston-based, privately held concern into the nation’s third-largest cable company, with 4.2 million subscribers. “This will be a game of large players.”

The landscape has quickly evolved, even in the last month, with AT&T; investing in the Direct-TV satellite dish service and MCI teaming up with News Corp. to enter the satellite television business. In addition, AT&T; and MCI are negotiating joint strategies for delivering local phone service, while at least two local Bell operating companies, Nynex and Bell Atlantic, have discussed a merger to gird for the new competition.

For many in the cable industry, the high-priced purchase of Continental was an affirmation of their position in this new competitive world.

“The long-distance carriers have to be thinking, ‘I’m going to get me one of them cable companies,’ ” said Richard N. Yelen, director of marketing for Southern California for Western Communications, which has been purchased by the largest cable owner, Tele-Communications Inc. “It’s cheaper to buy an existing wire than build it from scratch.”

AT&T; recently announced it would examine cable, among other technologies. While company officials said they are a long way from a decision, sources said the long-distance carrier has had negotiations with Time Warner about making a sizable investment in any cable spinoff. Some analysts and investors said AT&T; might even join with Englewood, Colo.-based US West to offer a phone and video service.

But the US West strategy contrasts sharply with the course taken by other local phone companies.

While the seven other local Bell phone companies have divided into two groups developing plans to use satellite and radiowave technologies to deliver video services to their local customers, US West has singularly pursued a cable strategy, aiming eventually to provide telephone, television and data services through a single wire. The purchase catapults US West, which now offers phone services to about 10 million households in 14 states in the West and Midwest, into the top cable ranks, behind leading TCI and Time Warner Inc.

Also unlike the other Baby Bells, US West has branched beyond its local market, buying a mid-sized cable system in Atlanta and a 25% interest in a Time Warner partnership. The latter gives the phone company 50-50 management control over 11.5 million Time Warner cable subscribers nationwide, though the two companies have been locked in a furious dispute stemming from US West’s opposition to Time Warner’s proposed merger with Turner Broadcasting System Inc. Time Warner officials praised the Continental purchase and analysts were divided over how the deal would bear on the ongoing dispute.

With the addition of Continental subscribers, concentrated in New England, Florida, California, Chicago and Virginia, US West will be positioned to eventually offer bundled services--telephone, high-speed data transmission as well as cable television--against locally entrenched competitors such as Nynex, Ameritech, Bell Atlantic and Pacific Bell. US West said it will begin offering telephone service to its cable customers in Atlanta by the end of the year, and is already doing so in Rochester, N.Y., through its partnership with Time Warner.

But skeptics contend the transition could take much longer than US West believes. Cable companies must upgrade their cable systems as well as add devices to transmit information from the home back into the system, a process that can cost up to $300 per customer depending on the age of the cable plant.

“They keep holding out this idea (of offering phone service over cable), but nothing has happened,” said Ameritech spokesman Dave Pacholczyk. “The term vaporware comes to mind.”

Media One, the Atlanta-area cable provider owned by US West, and other cable companies have repeatedly slipped behind original schedules to offer two-way service. Although Continental is generally considered to be farther ahead in upgrading its wiring, analysts are skeptical of the company’s claims that it will be 50% upgraded when the merger closes by the end of this year.

“The big opportunity [for cable companies] is in cable modems [for Internet access] and even that is several years away,” said John Aronsohn, senior analyst at the Yankee Group, a Boston-based market researcher.

“The business will pan out in the long term (for US West), but it’s going to take a long time to get it running. There are enormously complex issues to deal with.”

Considering the full price offered for Continental, Wall Street reacted calmly to the purchase. Shares of US West Communications Group, which represents the telephone assets, fell 37.5 cents to $33.50 on the New York Stock Exchange, while US West Media Group, formed last fall to track the cable and new media assets, dropped 50 cents to $21.625.

The stocks of other cable operators reacted blandly to the news, reflecting the tepid interest in cable by other phone providers.

“Cable stocks didn’t react because on Wall Street the feeling is this is the same old buyer,” said one cable investor. “US West has had a cable strategy all along. It’s not like one of the other phone companies came forward, although this deal could spur them to take a closer look.”

Still, cable operators were gleeful at the high price that the privately held Continental fetched in the deal. US West will pay $5.3 billion in cash and stock and assume about $5.5 billion in debt. Analysts estimated the value at 11.8 times cash flow, compared with the 8 to 10 multiples brought in other recent sales.

One investment banker said the deal valued Continental at about $30 a share--almost double the $19-a-share price the company was considering last fall in a public offering. Continental filed documents with the Securities & Exchange Commission in October to raise $345 million from the public. The offering was never made, as negotiations with US West heated up.

“This is a breathtaking price,” said Brian Roberts, president of Comcast Corp., the fourth-largest cable company. “It is a tremendous affirmation of the cable industry strategy and where the value appreciations are going to come from.”

Indeed, one analyst said such a multiple would suggest values in the low $30-a-share range for both Comcast, which is now trading in the high teens, and for TCI, which is trading at $20 a share.

It is unclear what impact the transaction will have on protracted and tense negotiations between US West and Time Warner. US West filed a lawsuit in September against Time Warner to block its merger with Turner Broadcasting System Inc.

When the merger was proposed, US West and Time Warner were trying to restructure the partnership to reduce Time Warner’s debt and spin off cable into a freestanding company. Talks between the two partners bogged down because neither wanted to cede control.

Some analysts said the Continental purchase gives US West leverage in the talks by relieving pressure to fulfill its own promise to shareholders to become a cable operating company. The US West Media Group, which made the Continental purchase, was formed last fall to oversee all of the phone company’s investments outside the telephone business.

Still, other analysts say the new purchase ties up cash that could otherwise have been used by US West to increase its stake in Time Warner cable.

Hofmeister reported from Los Angeles; Helm from Seattle.

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