Wall Street is concerned about reports that the Newhouse family wants to renegotiate its cable TV partnership with AOL Time Warner but realizes the giant media company faces other challenges that are just as ? if not more ? important.
Formed more than seven years ago, the cable partnership owns systems serving 6.7 million of Time Warner Cable's 12.8 million subscribers. The talks, which AOL TW has confirmed to analysts, could simply change the terms of the current agreement. In one of the more unlikely scenarios Advance/Newhouse would walk away from the partnership with about 2.2 million subscribers, leaving Time Warner Cable that much smaller even as it faces a much larger rival with the merger of Comcast and AT&T Broadband. In another senario, AOL TW could end up buying out Advance/Newhouse.
Advance/Newhouse, a powerful, privately held media outfit with newspaper, magazine and cable holdings, owns one-third of the partnership, while Time Warner Entertainment, the AOL TW subsidiary that owns most of AOL Time Warner's cable and filmed entertainment holdings and a portion of its networks holdings, owns the rest.
It's unclear whether the talks, first reported in The Wall Street Journal, are focusing on amending the agreement, which has been revised four times since early 1998, or whether the Newhouses actually want to pull out. AOL Time Warner did not return calls seeking comment.
Advance/Newhouse Communications president Bob Miron could not be reached for comment, and a spokeswoman for Advance Publications declined to comment on the nature of the discussions.
These negotiations come on the heels of AOL's $6.75 billion buyout of Bertelsmann's share of AOL Europe, which increased its debt. Wall Street has grown increasingly concerned over the company's financial flexibility in light of the growth issues facing America Online. Another obligatory transaction would reinforce those concerns. Since the media giant closed its merger in January 2001, its stock has fallen 47%, to $24.50 Friday.
Last week Lehman Bros. analyst Holly Becker cut her first-quarter revenue and cash flow estimates for AOL, largely due to concerns over continued weakness in advertising at America Online.
America Online's dial-up subscriber base is likely to be smaller two years from now, says Josh Bernoff, principal television analyst at Forrester Research, due to the expected increase in broadband Internet access. Of paramount importance for the company is finding a way to grow advertising and subscribers at America Online, Bernoff says.
Adds Tom Wolzien, a media analyst at Sanford C. Bernstein, the Newhouse talks are ?a secondary irritant? for AOL Time Warner. In his opinion, AOL TW's most pressing concern is to sign carriage deals with cable operators for AOL Broadband, which he says is essential for the company's long-term health.
Though Time Warner Entertainment manages the partnership, it must periodically submit to Advance/Newhouse for approval a five-year strategic plan; the latest plan was to have been submitted no later than Jan. 1, 2002, according to Securities and Exchange Commission filings. In addition, Advance/Newhouse must approve budgets for each division every year, and TWE must provide to Advance/Newhouse any other business plans it prepares for its cable division. Systems in the partnership also need to meet specific debt-to-cash flow ratios and net asset ratios.
?In general the strategic direction [for the partnership] is determined by Time Warner,? says Bernoff, but ?to the extent that there is interference or a need to consult it is a problem. The simplest thing would be for Time Warner to own the systems outright.?
Although AOL Time Warner could certainly raise the estimated $8 billion it would cost to buy out Advance, that would not be cost-effective for the company at this time, Bernoff says.
Further, Advance/Newhouse, which is controlled by Samuel Newhouse Jr. and Donald Newhouse, the sons of founder Samuel (Si) Newhouse, and which is said to be strong financially, is in a better position to drive a hard bargain than AOL. But one thing on AOL's side is a potential large tax hit Advance/Newhouse would take if it sells the systems.
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