By Robert Kuttner
Should AT&T (T) be added to the growing corporate rogues' gallery that now includes Enron, Global Crossing, and WorldCom? What these companies have in common is not just their financial tailspins but scandals of self-dealing and failures of corporate governance--sweetheart deals by insiders at the expense of shareholders. AT&T's proposed merger with Comcast Corp. (CMCSA)--replete with huge shareholder losses and insider favoritism--is not yet a front-page scandal only because the other scandals are worse.
As recently as two years ago, AT&T was on a buying spree. CEO C. Michael Armstrong spent $97 billion to acquire two giant cable competitors, TCI and MediaOne, in order to put AT&T squarely in the broadband business. By one indicator, cost per cable subscriber, Armstrong paid double their market worth. The buzzword back then was synergy; AT&T--facing declining margins in its core long-distance business--could bundle cable, Internet, wireless, and telephone services.
But that was then. Armstrong never executed the synergy strategy, and it's not clear that the idea was ever viable. As AT&T stock headed south, Armstrong threw the concept into reverse. In 2001, he announced that the company would be broken up into four pieces. Then Armstrong changed the game plan yet again, making a deal with Comcast CEO Brian Roberts for a super-merger that would give AT&T Comcast some 40% of all U.S. cable customers.
The deal, which still must be approved by three regulatory agencies and by shareholders, has several suspicious wrinkles. AT&T and Comcast would merge only to have the prime portion--the cable operation--be spun off into a separate venture. The venture would have Roberts as its CEO and Armstrong as its chairman. The Roberts family would get 33% of the new company's voting shares at a cost of only 1% of its assets. With Armstrong taking AT&T's crown jewels to the new venture, some other hapless soul would get to manage AT&T's low-margin leftovers.
To a lot of critics, this looks like nothing so much as an exit strategy for Armstrong and a sweetheart deal. When the merger was announced, the cable assets Armstrong acquired in 1999 and 2000 for more than $97 billion in AT&T stock and debt were to be sold for just $72 billion. Since the deal was announced, Comcast stock (which AT&T shareholders will receive) has declined from $38 a share to below $30, meaning that the deal is now worth only $62 billion to AT&T shareholders. So, after just two years, CEO Armstrong is unloading for $62 billion assets that cost AT&T shareholders $97 billion.
Unlike Enron or Global Crossing, let us recall, AT&T is no house of mirrors. CEO Armstrong took over a company that was once the gold standard of American capitalism. How does a chief executive get punished for blowing through $35 billion in shareholder value? Last year, Armstrong received $17.2 million in total compensation, plus more than 1 million stock options that can be exercised over the next five years. AT&T's compensation committee explained that this was an incentive to "align" Armstrong's interest with the company's through 2005. Evidently, the incentive failed. But the kindly committee recently voted Armstrong an additional 1.4 million stock options, worth $32 million even at AT&T's depleted stock price.
The merger is structured to defy shareholder challenges. There is only one shareholder vote on the financial terms of the deal and the new governance arrangements, which will make Roberts and Armstrong very hard to fire.
The merger also would dramatically increase concentration in the cable business. AT&T Comcast would instantly dwarf everyone else, giving it alarming control over pricing and content. As long-distance telephone and wireless services have increasingly become commodities with slender profit margins, cable continues to enjoy immense market power and profits to match. No wonder Armstrong covets cable, even if the rest of AT&T will languish.
For decades, the cable industry has succeeded in persuading Congress and the Federal Communications Commission that real competition is around the corner. But competition never materializes. Instead of competing with one another to offer competition, cable companies merge with each other to monopolize markets and raise prices. Cable rates have risen, since 1996, at triple the rate of inflation. FCC Chairman Michael K. Powell has a remarkably sanguine view of "intermodal competition"--the fantasy of cable modems competing with DSL telephone lines for Internet service, satellite competing with cable, and so forth. But a study by economist Marc Cooper of the Consumer Federation of America shows that these markets remain highly segmented and enjoy monopoly profits.
The AT&T Comcast deal is a perfect marriage of bad corporate governance and bad public policy. If such games can be played at AT&T, problems of corporate governance are endemic. Only the regulators can kill this deal--and they should. Robert Kuttner is co-editor of The American Prospect and author of Everything for Sale.