Prime Time For Primestar?

It could soar if Justice finally clears its News Corp. merger

For four years, the powerful cable companies that own PrimeStar have used the broadcast satellite service as a kind of safety blanket. In the case of rural viewers, it was a way to sign them up when they couldn't get cable. And for urban dwellers, most of whom already subscribed, the goal was to nab the few upscale customers who would otherwise bolt to competing direct broadcast satellite (DBS) services. In both cases, cable couldn't lose.

Now, as its DBS rivals DirecTV Inc. and EchoStar Communications Corp. pick off growing numbers of cable customers, PrimeStar wants to play for keeps. It is asking the government to approve a $1.1 billion asset merger agreed to last May with Rupert Murdoch's News Corp., which, along with MCI Communications Corp., controls key satellite slots and uplink facilities. The gambit is crucial for PrimeStar. A decision by the Justice Dept. to block the alliance would deny PrimeStar the high-powered satellite slots it needs to match services offered by rivals. Yet the government is under pressure to be tough, since permitting the deal, even with conditions, would give cable-TV interests a foothold in high-powered DBS, the only real competition for the big cable franchises across the U.S.

Under review since July, the case is now coming to a head, say sources close to the talks. In a matter of weeks, the companies are expected to meet with Assistant Attorney General for Antitrust Joel I. Klein. Lawyers close to the case expect him to either nix the deal outright or demand strict safeguards, such as a consent decree requiring PrimeStar's cable-TV owners to sell programming to rival DBS operators on equal terms. The Federal Communications Commission must also approve the deal.

CABLE CONNECTION. For PrimeStar, the merger with Murdoch is vital just to stay aloft. Although it has signed up 2.1 million subscribers since 1994, second only to DirecTV's 3.5 million, PrimeStar uses a medium-powered satellite and offers only 160 channels, about two-thirds that of its rivals. It can't provide Internet services and requires dishes twice the size of competitors'--averaging 36 inches in diameter, a turn-off for suburbanites and city dwellers.

But if the deal is okayed, PrimeStar would gain control of 28 satellite slots MCI won at auction in 1996 for $682.5 million. (MCI and News Corp. teamed up then to compete in satellite TV; MCI technically holds the license.) That would give it 29% of the high-powered transponders that can blanket signals across the continental U.S. PrimeStar President and CEO Dan O'Brien says the company plans to compete aggressively on price and hopes to double subscribers, from 2.4 million projected for the end of 1998 to 5 million by 2002. "PrimeStar knows the industry really well and has relationships in place, so the new slots would make them remarkably competitive," says DBS analyst Jimmy Schaeffler of market researchers The Carmel Group in Carmel, Calif.

Still, there's no dodging the cable connection. With the public mad about cable rate hikes, which last year rose at four times the rate of inflation, it's no wonder regulators are looking askance at the proposed merger. The concern is that allocating scarce DBS spectrum to cable interests may not be in consumers' interest. "Congress has an explicit policy to promote competition to cable. The last thing we'd want is to allow the very companies that are monopolists to dominate this alternative transmission medium," says Gene Kimmelman, co-director of the Consumers Union in Washington.

Indeed, PrimeStar's investors would seem to have an inherent conflict of interest with DBS. After all, they are the five biggest cable players: TCI Communications, Time Warner, Comcast, MediaOne, and Cox Communications. Together, they serve 67% of all cable homes and produce much of the content as owners of such units as Home Box Office, the Discovery Channel, and CNN. Its in-house programming muscle would be even stronger in the event of a green light, since News Corp.'s channels, including Fox's news, sports, and movie services, would be included. "PrimeStar's owners have such a complicated array of interests that it is impossible to engage in anticompetitive activities," says PrimeStar's attorney, Philip Verveer.

CARTEL. But to critics, it all adds up to a strong incentive for PrimeStar's cable owners to deny programming to rivals or offer shows only at unfair prices. PrimeStar hasn't helped overcome any mistrust by marketing mainly to rural consumers while shunning existing cable subscribers. In 1997, only 15% of its new subscribers were won over from cable, compared with 55% for DirecTV, according to The Carmel Group. Says Charles W. Ergen, CEO of rival EchoStar: "We don't believe the five biggest cable companies...should be able to form a cartel. It won't do anything but raise the price of programming to customers."

PrimeStar execs are hoping their plan to restructure and go public will go a long way toward assuaging critics. If the merger goes forward, 20% of all shares would be spun off to the public, creating an independent bloc of shareholders that could sue if management failed to pursue new customers vigorously. News Corp. would have a 30% nonvoting stake, and senior managers would get options tied to subscriber growth. Rather than sitting on the scarce spectrum space or favoring rural subscribers, "the goal is to have a national business and national economies of scale," O'Brien says. Even so, the government's leash will be short if it gives the nod. It will almost certainly require equal access to programming produced by PrimeStar's owners. And it may also monitor subscriber growth in cable strongholds and demand outside directors on the board.

Such terms wouldn't keep a merged PrimeStar from extending cable's reach deep into DBS, making life tougher for DirecTV and EchoStar. That would satisfy PrimeStar's owners, who ultimately care more about getting paid for programming than how it is delivered. But it would be a bittersweet win. Even as they reached more subscribers via satellite, many of those new viewers would be pulling the plug on cable.

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