Don’t believe it. The wreckage of the $22 billion merger may clog traffic for a while, but it won’t detour the communications revolution. Even the Federal Trade Commission’s decision last week to roll back cable rates by 7 percent can’t stop the wheels, although critics called it the straw that broke the back of the Bell Atlantic-TCI deal and say it will disable the cable industry. “This revolution is happening, merger or no merger,” says Smith, “cable re-regulation or not.” For his part, Malone may have headed home to TCI’s Colorado headquarters muttering that the new cable price controls have ruined everything, but he’ll be back. The public’s appetite for advanced communications-from video-on-demand to global data networking-has been whetted. Price regulations may make it harder-as the telephone companies have argued for years-but they will not stop the true believers. Says Comcast president Brian Roberts: “The drive to bring cable and telephone technologies together is simply too strong to be ignored.”
Still, you wouldn’t know that if you heard the screams coming from the cable industry last week-some of them clearly valid. The FCC’s rate rollback, which came on top of a 10 percent reduction last year, is expected to cost cable companies $3 billion in income next year. They say that means they won’t be able to spend money right away upgrading their systems to bring more video-on-demand and other interactive services into the home. And dreams of improving their network to carry voice may be even more distant now. As if to emphasize that point, after the merger was abandoned, Malone said he would cut TCI’s investment in new technology by 50 percent (sending down the stock of cable-equipment suppliers). Time Warner CEO Gerald Levin, who called the rules “arbitrary, unfair and unacceptable,” is expected to follow suit.
FCC chairman Reed Hundt defended the price controls on basic service as a way to protect consumers from monopolistic cable rates. Besides, he thinks cable companies are bluffing. After the overheated rhetoric calms down, he predicts, the cable industry will focus on programming that doesn’t fall in the basic tier of regulated services. And it will aggressively push costly premium channels and pay-per-view. Those offerings will, within a couple of years, make the industry enough money to finance technological improvements. “The cable companies will go from strength to strength,” he says.
In either case, what temporarily handicaps cable gives competing technologies room to zoom. For the Baby Bells, cable re-regulation is a windfall. Nipped at on all sides by new competitors such as satellite and wireless, they now can play catch-up with the cable companies. Companies like Ameritech and Pacific Telesis look smart now. They avoided cable alliances and instead are spending billions to add video capability to their phone systems. “The FCC’s decision buys the telephone companies at least another year to develop video capability,” says analyst Fred Moran of Salomon Bros. “That’s a lot.”
The telephone companies could benefit another way from the collapse of the deal and the new rate controls. While big diversified cable providers like Time Warner and TCI will survive the rate rollbacks, many smaller, local cable franchises are so deep in debt that they may have to sell out. And guess who’s buying? “No one else has enough money to bail them out but the Baby Bells,” says consultant Berge Ayvazian of the Yankee Group.
And despite the regulatory uncertainty, it will be a buyer’s market as prices fall; cable companies desperately need big money to upgrade their systems. This is a remarkable turnabout from just a few weeks ago, when cable companies were holding out for top dollar. Says Ayvazian: “This a fire sale.” The president and founder of a 35,000-subscriber cable company in the Midwest knows this all too well. He says he was approached last week after the merger news by a Baby Bell representative who “talked about an offer so inadequate it’s embarrassing.” Two years ago he turned down a 50 percent higher offer from another suitor. “I guess now the Bells will eat systems like mine for lunch,” he says.
This means that some of the deep-pocket Baby Bells and a few of the stronger cable companies will find a cheap way to get bigger. One weak cable player has already been singled out from the herd: heavily indebted Cablevision Systems. USWest will take a particular interest; some months ago the Baby Bell and its strategic partner Time Warner talked with founder Charles Dolan about selling his company. Now they may get it cheap. That might help finance plans to build a grand network to bring voice, video and data to subscribers’ living rooms.
Such distress-sale purchases represent the simple, safe way to form the alliances that are needed to build the superhighway. After last week’s merger collapse, there probably won’t be another joining of two behemoths any time soon-at least not in that sweeping style. The failed merger, like most large ones, was a stock swap between the two companies. That’s where the problems started. During the months it took to finalize the deal, the stock of both firms fell sharply. Investors drove down the shares because they were nervous about new cable price regulations and an uncertain future. The deal fell apart because Malone wanted more shares of Bell Atlantic as compensation for the falling stock price; Smith wanted to pay less for TCI’s cable Properties because the new FCC rules meant they wouldn’t bring in as much cash. The two men, tough guys accustomed to getting their way, grew farther and farther apart until the deal exploded.
In the future, companies in search of the fast lane will probably avoid outright mergers or acquisitions. Instead of stock swaps, they may offer up cash for a piece of the action. That’s what USWest did when it struck its strategic partnership with Time Warner in May 1993. The Baby Bell paid $2.5 billion for 25 percent of the nation’s second largest cable franchise and properties like HBO and Warner Bros. “It’s hard not to sing that deal’s praises now, considering how the TCI thing turned out,” says Smith Barney analyst John Reidy.
Count Ray Smith in the chorus. Sobered by the events of last week, he is nevertheless scouting for new deals. He may scoop up a few smaller cable properties or drive some strategic partnerships with other big players. He and John Malone have even chatted about an alliance, though clearly in some smaller fashion.
Even cable companies are expected to feel flush again eventually and will be back to spend billions on the interactive trail. Rumors are already flying that Malone will pair up with QVC chief and former Paramount suitor Barry Diller to seek out new deals. “I’ve got my uniform on,” says Malone. “Put me back in, Coach.” Considering what setbacks they’ve both seen lately, expect them to play a smarter game next round. The golden age of interactivity may not come in a blinding flash as promised, but it will come no matter what.
