Excite@Home: A Saga of Tears, Greed, and Ego
In August, Patti S. Hart made a last-ditch effort to save Excite@Home (ATHMQ ). The chief executive at the provider of speedy Internet connections set up a videoconference call with top executives from AT&T (T ), which had a controlling stake in Excite@Home. She told AT&T CEO and Excite@Home board member C. Michael Armstrong and other AT&T officials that Excite@Home had $100 million less in cash than her execs had told her to expect just weeks earlier. She needed financial help from AT&T to avoid bankruptcy. Armstrong said a cash infusion was out of the question. Hart pleaded and tears welled up in her eyes, according to one former exec close to Hart. Armstrong was not swayed. "After that, it was over," says the former exec. "It was just a matter of who turns out the lights."
That flick of the switch could be just weeks away. After filing for bankruptcy protection on Sept. 28, the company is auctioning off its few remaining assets and plans to shut down on Feb. 28. Already, a bankruptcy judge in San Francisco has allowed Excite@Home to shut off service to 850,000 AT&T customers--in a high-stakes game the startup is playing to force the phone giant to cough up more money. AT&T is refusing payment, and few expect Excite@Home will be saved. When the judge's gavel falls again, the startup that was once worth $35 billion could go for about $350 million, 1% of its peak market cap.
Eighteen months after the Internet bubble burst, it's hard to muster sympathy for yet another Net flameout. But this was no ordinary Web startup. Unlike the thousands of fledglings with harebrained ideas, Excite@Home could have become a Net powerhouse. It held a trump card: the exclusive right to offer broadband Net connections over the cable-TV networks of most top cable companies. Today, it claims 4.2 million high-speed subscribers, more than any other company in the U.S. What's more, it possessed the Excite portal, one of the most popular gateways to the Internet--and a challenger to the gateways of Yahoo! Inc. (YHOO ) and America Online Inc. (AOL ) To top it off, it had big-moneybag backers: AT&T, Cox, Comcast, and Silicon Valley's premier venture-capital firm, Kleiner Perkins Caufield & Byers. "It looked like a marriage made in heaven," says Ron Conway, a founding partner of venture firm Angel Investors, which has no financial stake in the company. "I thought it was brilliant."
SHARPIES. The company also boasted an all-star team. Kleiner Perkins' powerful venture capitalist L. John Doerr helped set up both Excite and @Home, then supported their merger in 1999. Cable mogul John C. Malone played a critical role in establishing @Home and was a longtime member of the board. So was AT&T's Armstrong. And the company's CEOs were sharpies: Thomas Jermoluk, who had run Silicon Graphics Inc. in its heyday, and George Bell, who brought his skills in documentary filmmaking and traditional magazines to the new-media world of the Net.
So why is Excite@Home in ruins? Blame it on a lethal combination of management missteps, clashing egos, and old-fashioned greed. In the end, the cable companies that backed Excite@Home and took more than $1 billion from investors to finance it decided to walk away, leaving public investors to pay the price. Cox Communications Inc. (COX ) and Comcast Corp. (CMCSA ), which had pledged to keep all of their broadband customers on Excite@Home's network through June, 2002, negotiated early exits so they could provide their own service.
The most serious questions, however, swirl around AT&T. The long-distance giant controlled the startup, thanks to its 74% voting stake and its 6 out of the 11 seats on the board. Several developments over the past year raise questions about whether those directors were looking out for Excite@Home and its shareholders or whether they pushed the company into bankruptcy so AT&T could buy its assets for very little. At minimum, AT&T pushed the company to spend heavily on its network earlier this year, refused to chip in more money when cash ran low, and then offered to buy Excite@Home's network for just $307 million--before withdrawing the bid just days ago. "There is a rightful concern that AT&T could have stepped up and supported the company in its time of need--or tried to pick up the assets on the cheap out of bankruptcy," says Andrew Watt, a debt analyst at Standard & Poor's.
AT&T says the idea that it drove Excite@Home into bankruptcy is ludicrous. After all, its execs point out, the long-distance giant paid $3.5 billion for its controlling stake in the company--then lost all its money. "We've always supported this company because we believed strongly in the broadband marketplace," says John Petrillo, AT&T's executive vice-president for corporate strategy and a former Excite@Home board member. What caused the company's demise, he says, were management mistakes, a steep slide in online advertising, and the persistent quality issues that alienated cable outfits. And AT&T was under no obligation to bail out the company with cash. "We didn't think it was a good application of AT&T shareholder money," he says. Armstrong, Jermoluk, and Hart declined to comment for this article.
Indeed, Excite@Home execs didn't do themselves any favors. Despite their strong reputations, former CEOs Jermoluk and Bell made loads of mistakes. Most damaging, they blew millions on investments and acquisitions--money that just might have saved the company. Example No. 1 is BlueMountain.com, an electronic greeting-card company that Bell bought in 1999--over the objections of several execs, including his chief financial officer, Kenneth A. Goldman. BlueMountain had become one of the most popular Web sites, so Excite@Home acquired it for a walloping $780 million, including $350 million in cash. There was just one problem: BlueMountain wasn't generating a dollar of revenue at that time and never became much of a business. It was sold in September for a paltry $35 million. "I was very vocal about it," says Goldman, now CFO at Siebel Systems Inc. (SEBL ) "I didn't like the business model--since there wasn't one."
HURTING. The public investors are left holding the bag. Excite@Home raised $210 million by issuing stock and nearly $1 billion through debt issues. The company's stock is trading for 3 cents. Bondholders may get 10 cents on the dollar--or less--once the asset sales are completed. "We financed one of the great expansions of the Internet," says Michael Katto, a shareholder who has lost $188,000 and has joined a lawsuit seeking compensation from AT&T, Cox, Comcast, and Excite@Home.
Investors aren't the only ones to get hurt. The rollout of broadband Internet service throughout the country was supposed to bring a fundamental change in the way the U.S. economy works. With lightning-quick Internet links, people were going to be able to work from home, shop from home, and perform loads of other routine tasks more easily and quickly. The consulting firm Eastern Management Group Inc. estimates broadband may add 3.7 billion work hours to the economy each year.
Now that the biggest, highest-profile provider in the country is crashing, the promise of a broadband future is fading from sight. If the No. 1 broadband player, with so much money and corporate support behind it, cannot survive, which broadband player can? Local telephone companies and cable players will continue to roll out broadband service, but they're sure to move more slowly and charge customers more than upstarts such as Excite@Home. "It's very troubling," says William E. Kennard, former chairman of the Federal Communications Commission. "You're seeing a duopoly market develop. That's going to slow broadband down."
FAT PIPES. No one imagined such an end when @Home was launched in 1995 by Tele-Communications Inc. and Kleiner Perkins. At the time, the CEO was William R. Hearst III, grandson of newspaper kingpin William Randolph Hearst. Cox and Comcast joined the company the next year. Kleiner partner Doerr spun a magical vision of the company's potential. It would develop the technology to take advantage of the fat pipes that cable TV used, so that consumers could surf the Net at unheard-of speeds: 50 times as fast as the poky modems of the time. The cable players would market @Home's service to their customers, and the two sides would split the revenues. @Home got 35% of the typical $40 that customers paid each month, and the cable companies got the rest. The service was launched in September, 1996, in Fremont, Calif., and became an instant hit. "People were flagging down our trucks to get the service," says ex-CFO Goldman. In 1997, @Home went public, raising $95 million, and quickly set out to build a national network.
In 1998, it became clear that such popularity had its price. As more customers signed up, the company's network often became overloaded, and quality deteriorated. Customers, particularly in Fremont and in Hartford, Conn., complained to local politicians. Since cable companies depend on local municipalities for their franchise, this was a grave problem. Execs at TCI and other cable outfits fretted that they could get their cable-TV licenses yanked. Screaming matches broke out during @Home board meetings, according to two former members. In one session at @Home's Redwood City (Calif.) headquarters, Leo J. Hindery Jr., then TCI's president, and Jermoluk traded expletives. "We're their customers," says Dallas Clement, Cox's senior vice-president for strategy and development. "And we never felt like they cared about their customers' needs."
@Home's move to acquire Excite in 1999 only added to the friction. Founded by six friends from Stanford University in 1993, Excite had grown into one of the Web's most popular portals, compiling news, stock quotes, and other information. By combining the two companies, @Home chief Jermoluk and Excite's Bell hoped to create an AOL on steroids. They would reap revenues from connecting users to the Web and from ads and e-commerce on the Excite site. Jermoluk boasted that Excite@Home would become "the new media network for the 21st century."
Meanwhile, AT&T was doing a deal of its own. It was in the midst of buying TCI, primarily so that it would have an alternative network for local phone service. It was only in May, 1999, when Excite and @Home completed their merger, that AT&T and the other cable players fully realized the regulatory troubles it would cause them. AOL and others mounted a lobbying effort to force cable outfits to let other Net-access companies use their networks to provide broadband service. AOL's "open access" argument was this: The cable companies had been given monopolies in cable TV, so they had to let customers pick the Internet-access service they wanted--whether it was Excite or AOL. Excite@Home's cable investors found themselves spending time and money courting politicians, instead of building a business. "It opened up a Pandora's box of regulation," says Hindery.
It also created more conflicts in the boardroom. Hindery, the TCI president who continued to run the cable business after AT&T acquired it, hated the idea of Jermoluk's getting into the content business. In 1999, while Jermoluk was at an AT&T golf tournament in Pebble Beach, Hindery negotiated a tentative deal with Yahoo so that @Home customers could default to the Yahoo site instead of Excite. At a later board meeting, Jermoluk confronted Hindery and the deal was quashed. Cox and Comcast, however, supported the Excite deal, pulling Jermoluk in different directions. "That makes it difficult to execute," says Hearst.
SPEND, SPEND. More bad deals lay ahead. In the boom times of 1999, Jermoluk and Bell spent loads of cash. Over the summer of 1999, the company invested at least $60 million in startups, including Quokka Sports Inc., a Web site. Quokka is now defunct, and the other investments have dropped sharply in value. On Oct. 25, they cut the fateful deal for BlueMountain. Bell says the acquisition was a product of the times. "We had the mentality of scale," he says. "We thought scale mattered a lot, and we wanted to add to ours."
While Jermoluk and Bell were spending the company's cash, the stock market was beginning to turn against them. After hitting a high of $94.66 in April, 1999, Excite@Home shares slid downward during the summer. Investors were concerned that if AOL won its "open access" battle, Excite@Home could lose its monopoly. When a newspaper reported in August that AT&T was negotiating a deal with AOL to give it access to AT&T's cable network, Excite@Home's stock dropped 11% in one day, to $38. Both AT&T and Excite@Home denied the report, but investors remained skittish. Its stock closed the year at $42.88.
The new year brought some measure of relief for the startup. On Jan. 10, AOL and Time Warner Inc. announced plans to merge. Once AOL planned to combine with a company that owned a cable network, it stopped pressing for open access. On Jan. 20, Bell took over the CEO post from Jermoluk, who stayed on as chairman. Jermoluk said he couldn't run the company properly because he was spending so much time soothing cable partners. The previous year was "the single most difficult and painful year of my life," Jermoluk said at the time. In May, he gave up the chairman's post and became a partner at Kleiner Perkins.
In March, Armstrong realized the huge potential for broadband and decided he wanted more control over Excite@Home. AT&T boosted its voting stake in Excite@Home to 74%, up from 56% when the startup gave Cox and Comcast the right to sell their 60 million shares to AT&T for $48 each. The way the change was announced, though, did not spell out all that it would mean. Jermoluk put out a statement saying: "We are delighted that our cable partners are committed to a long-term relationship that will provide consumers with a great broadband experience." In fact, the deal gave the cable companies an exit from Excite@Home they never had before. Starting in 2001, Cox and Comcast could give six months notice and end their exclusive deals with Excite@Home. Before then, the cable companies could not offer any other broadband services through June, 2002.
Excite@Home shareholders and bondholders point to that single change as erasing a big chunk of the company's value. Instead of keeping all their customers on the Excite@Home network through June, 2002, Cox and Comcast could terminate exclusivity as much as a year earlier. "Who does that benefit? Not Excite@Home," says Don Morgan, a managing director at MacKay Shields, one of the company's largest bondholders. "AT&T got control, and what did Excite@Home get?" AT&T's Petrillo says that the upstart did benefit: Instead of having all the cable partners pulling in different directions, the company would finally have guidance from one company: AT&T.
QUASHED. With AT&T firmly at the helm, Bell laid out a new strategy. On Apr. 20, the CEO said the company was "doubling down on its bet on broadband." After adding 350,000 new subscribers in the first quarter and hitting 1.5 million subscribers total, Excite@Home was going to accelerate its rollout--to about 500,000 subscribers per quarter--so that it could reach 3 million subscribers by yearend. "We are committed to go big," said Bell. Bell admitted that this would result in at least $100 million in operating losses in 2000, vs. $24 million in 1999. But Bell and Daniel E. Somers, who had replaced Hindery as head of AT&T's cable operations, assured investors they would have enough cash to pull off the more aggressive strategy.
As the days of 2000 rolled on, that assurance became increasingly suspect. Technology stocks continued to drop precipitously throughout the summer. That quashed Bell's plan to raise more money through initial public offerings of its foreign operations. The result: The company was steadily burning through its money. Its cash and short-term investments fell from $502.3 million when Bell unveiled his "doubling down" strategy to $200.8 million at the end of the year. On Sept. 19, with the company's stock at $16, Bell announced he would resign the CEO post as soon as a replacement could be found. He said he would stay on as chairman through the end of 2001 at least, helping to manage the relationship with AT&T.
In January, 2001, the lame-duck CEO made one of the most controversial decisions of his tenure. He brought in Hossein Eslambolchi, a networking veteran at the long-distance company, to improve the quality of Excite@Home's service. AT&T and Bell both say that AT&T requested that Bell hire Eslambolchi as president of Excite@Home, but Bell agreed to hire him only on a temporary basis. Eslambolchi improved Excite@Home's network--but at a tremendous cost. The company spent $54 million on equipment and other improvements, 29% more than the year before, according to Securities & Exchange Commission filings. That contributed to a 48% drop in the company's cash and short-term investments, to $104.5 million.
Excite@Home couldn't afford that kind of spending. On Apr. 17, Bell held a conference call with investors in which he admitted the company was in dire straits. It was going to miss its financial targets for the rest of the year and it needed to raise $75 million to $80 million by June 30 to keep operating. AT&T's Petrillo says Eslambolchi's spending was necessary to boost the quality of Excite@Home's service. "Unless the quality improved, there was no argument to persuade Cox and Comcast to stay," he says. Petrillo and Bell say the key factor in the cash crunch was the steep drop in online advertising, which fell 41% in the first quarter to $45.1 million.
That set the stage for the entrance of Patti Hart on Apr. 23. The former Sprint Corp. executive was supposed to start as CEO before the Apr. 17 announcement, but she got wind of the bad news and insisted Bell take the heat. She also asked for the chairman position, so that she would have enough control to make some drastic changes.
It was a sign of the deteriorating times at Excite@Home. In June, Cox and Comcast gave six-month notice that they would discontinue marketing Excite@Home service exclusively. Still, Hart was able to raise twice as much money as Bell had said was necessary in April. On June 11, the company received $100 million from a group led by Promethean Capital Group. Eight days later, the company got an additional $85 million from AT&T by selling the long-distance company certain assets, which it then leased back.
Even that cash wasn't enough. On July 23, Hart told shell-shocked investors that the company needed still more money to survive the year. What happened? In an interview at the time, Hart explained that online ads had continued to plunge, that other companies planning to lease Excite@Home's office space had disappeared, and that suppliers were demanding cash up front. During the next few weeks, Hart made several appeals to AT&T for more cash, according to AT&T and others. On Sept. 28, the company filed for Chapter 11 bankruptcy protection.
DEADBEATS. That wasn't the end of the rancor. Once the company was in bankruptcy, bondholders found out that one factor contributing to the cash crunch was that several cable companies weren't paying their bills to Excite@Home--because of quality issues, they said. The total amount in arrears: about $50 million. "The liquidity problem was caused in large part by the cable companies withholding payments," says William P. Weintraub, a lawyer at Pachulski, Stang, Ziehl, Young & Jones who represents bondholders. AT&T was up to date on its bills, but Weintraub wonders why AT&T execs on Excite@Home's board didn't lean on other cable players. "Our guys made phone calls," says Petrillo. "[But] the management team had the responsibility to collect the money."
Is AT&T responsible for the demise of Excite@Home? Certainly, the company had only the upstart's best interests in mind at the beginning. Armstrong, perhaps more than anyone else involved, believed in the prospects for broadband Internet services. But at some point, Armstrong and AT&T decided they were not going to help Hart any more. Why? Ultimately, AT&T, like Cox and Comcast, decided that broadband was too important a business to leave in the hands of another company. "The business is so bad that every cable company wants to be in it," says Hearst. In the end, what sealed Excite@Home's fate was that it was the company that stood between the cable companies and that goal.
By Peter Elstrom in New York