A German court has blocked Liberty Global’s attempted $4.25 billion purchase of the country’s third largest cable company on antitrust and anti-competition grounds.

John Malone’s European cable conglomerate already owns UnityMedia, but has been turned away from acquiring Kabel Baden-Wuerttemberg on convincing evidence that the combination of the two cable operators would be grossly anti-competitive and violates German antitrust laws.

Liberty Global is hurrying to the German federal court to overturn the regional judge’s decision. If it cannot, it will have to unwind the merger between Kabel BW and UnityMedia.

The head complainant against Malone’s cable consolidation plan is the German telephone conglomerate Deutsche Telekom. Liberty Global’s investors hoped consolidating the German cable systems would lead to higher prices and revenue for the combined cable operation, as well as reduced costs. Liberty has similar plans to spark a renewed wave of cable consolidation in the American cable market.

Deutsche Telekom’s victory has emboldened the German phone company to consider filing a formal challenge to Vodafone’s separate $10.2 billion purchase of Germany’s largest cable company — Kabel Deutschland, on similar grounds.

John Malone’s power play for a Charter Communications’ takeover of Time Warner Cable would leave the nation’s second largest cable operator $60 billion in debt and has already cost creditors holding Time Warner Cable bonds $1.8 billion in value as markets react to the rumors of a leveraged buyout.

Two people familiar with ongoing private discussions report Liberty Media is prepared to borrow against its own or Time Warner Cable’s assets to put the deal together, spiking debt levels into junk territory. Charter itself already has the most debt among junk-rated U.S. cable companies, with $12.8 billion owed, according to Bloomberg.

Malone has structured highly leveraged acquisition deals throughout his history in the cable industry, borrowing heavily to finance merger deals and then raising subscriber rates to boost revenue to cut debt.

Time Warner Cable is highly exposed to a hostile takeover because its bonds lack safety provisions that would discourage the kind of acquisition Malone is attempting. Adam Cohen, founder of independent research company Covenant Review said Time Warner’s bonds are easily transferable to Charter’s name.

“The combined entity will be junk status, and the Time Warner bonds could be even junkier than the Charter bonds,” Cohen said in a telephone interview with Bloomberg. “This could be one of the worst covenant-related disasters ever for investment-grade bondholders.”

Moody’s senior vice president Neil Begley has suggested Time Warner Cable seriously consider “the Moe Green Strategy,” a nod to The Godfather.

‘You don’t buy Moe Green, Moe Green buys you!’

Begley suggested Time Warner Cable could consider putting in a bid to acquire Charter just to keep Malone on the outside looking in. That might be more effective than Time Warner acquiring a number of smaller cable operators like Cablevision, Mediacom, Cable ONE, and others to outflank Malone.

Malone is using an investment in Charter Communications as a springboard to launch his vision of a tightly consolidated cable industry, with just a handful of players providing service, instead of the dozen or so significant cable companies now in business. Malone sees Comcast as untouchable, so rolling up other operators around a Time Warner-Charter deal would be the next best thing, analysts suggest.

Again with the domination and control thing.

Dr. John Malone is wasting no time reacquainting the cable industry with the kinds of classic power plays he used while running Tele-Communications, Inc. (TCI), then America’s largest and most powerful cable operator. Malone’s latest salvo: proposing new broadband pricing schemes that run afoul of Net Neutrality by charging consumers higher broadband prices if they watch online video services like Netflix.

Malone, increasing his influence over Charter Communications before launching the next wave of cable company consolidation, implied the industry is hurting from the lack of power and dominance it used to enjoy when it had an unfettered, territorial monopoly back in the 1980s. Malone told an audience at the annual shareholder meeting of Liberty Global he advocates getting the industry’s mojo back by returning to “value creation” pricing models — code language for new ways to charge customers higher prices or add-on fees.

Malone sees raising prices for Internet service key to bringing the industry back to the golden profits it used to enjoy selling television subscriptions, even as customers faced massive rate increases that doubled, tripled, or even quintupled rates for certain services.

Malone’s assessment of the eight current largest cable operators wiring the country: Snow White (Comcast) and the Seven Dwarfs (Everyone Else). The disorganized agendas of various cable operators are troublesome to Malone, who wants the industry to act in lock step with a unified, cooperating voice. Consumer groups call this kind of friendly cooperation “collusion.”

Malone also thinks it is time to discard reliance on cable television to bring home the revenue and profits Wall Street expects. The industry should instead turn its earning attention to broadband, a product few Americans can live without. Malone believes the cable industry is not only positioned to control content distributed on its TV Everywhere online video platform for authenticated cable subscribers, but also have a say in competing content from Netflix, among others, which are totally reliant on the broadband pipes provided by ISPs.

With Netflix consuming a growing percentage of cable broadband resources, and possibly contributing to cable TV cord cutting, Malone does not advocate crushing its competition. Instead, he wants a piece of the action. How? By demanding online video providers pay for using cable broadband infrastructure. Consumers also face surcharges on their broadband accounts if they watch online video services like Netflix, Amazon, YouTube and other over-the-top-video. Malone also advocates the implementation of Internet Overcharging schemes like consumption billing and usage caps.

Malone’s “world of the future,” is, in reality, not much different from AT&T’s 2005 proclamation that use of AT&T’s broadband pipes should come at a cost to content producers.

Then-CEO Ed Whitacre’s public statements fueled support for Net Neutrality, which forbids broadband providers from traffic discrimination techniques like charging extra for certain content or artificially degrading service for producers who refuse to pay.

Malone’s incendiary ideas may be letting too much of the cat out of the bag, say some observers worried Malone’s rhetoric will remind people he was once labeled “the Darth Vader of Cable.” His statements could attract unnecessary attention that could be used to organize opposition.

Last week, the Wall Street Journal reported that broadband providers and content producers were already secretly cutting deals to exchange bandwidth for money without the public scrutiny Malone’s comments will generate.

The newspaper reports some of the biggest Net Neutrality proponents around, particularly Google, are quietly paying millions to large cable companies to guarantee their content reaches customers as quickly and smoothly as possible.

Among the top recipients: Comcast, which collects $25-30 million a year and Time Warner Cable, which nets “tens of millions of dollars” from Google, Microsoft, and Facebook.

The payments are buried in the murky world of “interconnection agreements” governing the backbone pipes carrying huge amounts of web traffic from popular websites and those owned by large telecom providers. Originally, content and broadband providers agreed to peering arrangements that would trade traffic without payment to each other. But as bandwidth-heavy online video began to turn those shared connections into lopsided floods of movies and TV shows headed into subscriber homes against a trickle of content coming back from broadband customers, the cable and phone companies began crying foul.

Netflix has so far navigated around paying Internet Service Providers directly to support their video content. Instead, it is building its own specialized content distribution network intended for ISPs to more effectively and efficiently deliver high bandwidth video. Connections to the Netflix network are free of charge to participating providers, but many ISPs are demanding to be paid.

Some content providers are fearful if they don’t pay, the free “peering” links will become hopelessly overcongested and slow web pages and services to a crawl.

For Verizon customers, that may have already happened as Netflix streams began stuttering and buffering earlier this month.

Cogent, which supplies Verizon with a considerable amount of Netflix traffic, immediately pointed the finger at the phone company for artificially degrading the Netflix viewing experience. Verizon promptly shot back:

Cogent is not compliant with one of the basic and long-standing requirements for most settlement-free peering arrangements: that traffic between the providers be roughly in balance. When the traffic loads are not symmetric, the provider with the heavier load typically pays the other for transit. This isn’t a story about Netflix, or about Verizon “letting” anybody’s traffic deteriorate. This is a fairly boring story about a bandwidth provider that is unhappy that they are out of balance and will have to make alternative arrangements for capacity enhancements, just like any other interconnecting ISP.

Cable giants like Malone see the battle as one the cable industry will have a hard time losing, because it is the only technology present in most communities that can handle the traffic and the growing demand for faster speeds.

Cable operators think content companies have a license to print money, especially since their success is built partly on broadband networks they don’t own or pay for delivering content to customers. At the same time, content companies fear they could be forced out of business if the cable industry decides to give itself preferential treatment.

[flv width=”504″ height=”300″]http://www.phillipdampier.com/video/WSJ Paying ISPs to Move Content 6-20-13.flv[/flv]

Reporters from The Wall Street Journal discuss the secret payment arrangements between content producers and some of America’s largest ISPs. (4 minutes)

Dr. John Malone’s Liberty Media will buy a 27.3 percent interest in Charter Communications with a $2.62 billion investment in America’s fourth largest cable operator.

Liberty will buy the stake from investment firms Apollo Management, Crestview Partners, and Oaktree Capital Management.

“We are pleased with Charter’s market position and growth opportunities and believe that the company’s investments in its high-capacity digital network which provides digital HD and on demand television, high-speed data and voice, will benefit its customers and shareholders alike,” Malone said in a statement.

Malone is no stranger to the cable industry, having been at the helm of Tele-Communications, Inc. (TCI), the largest cable operator in the country in the 1980s and 1990s. TCI systems were sold to AT&T in 1999, which eventually spun them off to Comcast and Charter Communications, which still run them today.

Dr. John Malone

Since Malone’s exit at TCI, he has been in charge of Liberty Global, which owns cable systems overseas and controls several U.S. cable programming interests through his Liberty Media operation. The investment in Charter represents Malone’s return to an American cable industry he helped pioneer.

The agreement requires Liberty to acquire no more than 35 percent of Charter until January 2016, at which point Liberty’s maximum allowable controlling interest rises to 39.99 percent. Liberty also wins four seats on Charter’s board of directors. But many industry analysts predict Malone will not be satisfied with anything less than eventual full control.

Malone often takes an initial minority interest in the companies he later intends to acquire outright. Macquarie analyst Amy Yong told Reuters he employed a similar tactic to gain control of SiriusXM, the satellite radio company.

“He’s probably going to have a pretty big say in the company’s future over the next few years. This will accelerate capital returns and take advantage of Charter’s tax assets to consolidate the cable industry some more,” Yong said.

Malone is attracted to investment opportunities in companies with high marketplace leverage opportunities and exploiting potential revenue from captive customers in the rural, less-competitive markets Charter has traditionally favored.

Here today, gone tomorrow: Bresnan Communications that was Optimum is now Charter Cable.

Malone also has a strong philosophy towards marketplace consolidation, something ongoing in the cable industry, particularly among smaller cable operators serving less-populated areas.

Under the leadership of ex-Cablevision executive Thomas Rutledge, Charter Communications recently acquired the interests of Cablevision West — former Bresnan Cable systems in the mountain west. Malone sees considerable opportunities expanding operations in smaller communities that have either received substandard cable service, or none at all.

Malone has recently been stockpiling available cash for investments, spinning off his former cable programming properties Starz, a premium cable channel, Discovery Communications, which runs the Discovery Networks, and Liberty Interactive, which owns the lucrative home shopping channel QVC.

Charter Communications has had a difficult history. Microsoft co-founder Paul Allen bought a controlling interest in the cable operator in the late 1990s, primarily because he saw cable broadband as a natural fit for his vision of a future wired America. Allen’s weighty investment was used to jump into a cable industry consolidation frenzy still underway more than a decade ago. Cable operators claimed consolidation was necessary to increase efficiency by building up regional clusters of cable systems. Before consolidation, it was not unusual for two or three different cable operators to serve customers in separate parts of a metropolitan area. Often one operator would serve the city with one or two other cable companies offering service in suburban and exurban communities nearby.

In 1999 alone, under Allen’s leadership, Charter Cable acquired 10 cable companies.

By 2005, Charter Cable had amassed millions of new subscribers, but not as many as company executives claimed when they artificially inflated subscriber numbers to protect the value of the company’s stock. Four executives were indicted that year for criminal accounting fraud. By 2009, with $22 billion in debt, the company declared bankruptcy, eventually wiping out shareholders.

The court’s decision to forgive 40 percent of the company’s debt angered creditors but opened an opportunity for private equity firm Apollo Capital Management to gain control by ending up with the majority of shares in the restructured company.

For years, the company has continued to receive some of the worst customer satisfaction ratings in the industry, usually ranking at or near the bottom. But many Charter customers stay because there is little competition from other players, especially telephone companies. AT&T’s U-verse is the most likely triple-play competitor, but AT&T has avoided introducing U-verse in many of Charter’s service areas because they are deemed too small.

Malone sees Charter’s future revenue potential grow as a broadband provider, considered both a money-maker and must-have service. Analysts say that Charter is well-positioned to poach more customers from phone companies, which typically only offer slow DSL service in much of Charter’s rural footprint.

Gore: Malone is the Darth Vader of cable.

But customers may find with Malone’s involvement, that service may come at a price. Malone was criticized heavily in the 1980s and 1990s for leading the charge for customer rate increases. TCI’s captive customers in Tennessee found their cable bills increased between 71-116 percent in just three years during the 1980s.

Former Sen. Al Gore, Jr., at the time called Malone the head of a “Cable Cosa Nostra” and the Darth Vader of big cable. The cable executive was a frequent target of lawmakers flooded with constituent complaints about poor cable service and accelerating prices.

In 1999, The Guardian noted Malone was an admirer of telecom oligopolies:

He is scathing about regulatory attempts to prevent monopolies and mergers. Governments, he says, are “antediluvian” in their approach to the emerging new world economic order. Instead of trying to prevent mergers and collusion between media and communications companies, Malone says governments should actually promote the creation of “super-corporations” (such as his own) with enough capital to exploit the potential of new technology.

That attitude may soon be back in play with the cable industry’s increasing focus on expanding broadband service as their new primary revenue generator.

Malone

Dr. John Malone is a force to be reckoned with and the British are about to get an introduction with this morning’s announcement Liberty Global has acquired Virgin Media in a blockbuster $16.3 billion acquisition deal that will make Malone and Liberty one of the biggest broadband providers in the world. (The deal is valued at $23.3 billion after Liberty agrees to take on Virgin Media’s existing debts.)

Malone will take control of Britain’s largest cable operator and will now also control another 18 million broadband customers in Europe, particularly in Germany and Belgium. His biggest rival will be News Corp.’s Rupert Murdoch who controls BSkyB, Britain’s largest multichannel provider.

Malone’s reputation for ruthlessness precedes him. In the early 1990s, then Sen. Al Gore, Jr., called Malone the Darth Vader of the cable industry. Gore also referred to Malone as the head of a mafia-like “cable industry Cosa Nostra” best known for customer abuse, cold-hearted mergers and acquisitions, and endless rate increases. In the 1980s and 1990s, Malone appeared regularly at congressional hearings to discuss cable industry abuses. At the time, Malone was CEO of America’s largest cable operator Tele-Communications, Inc. (TCI). Today, most of those cable systems are known by another name — Comcast.

In the late 1980s, TCI got the ball rolling on massive rate increases for basic cable service. Other operators quickly followed. As rates exploded upwards, the phones began ringing in Washington from outraged constituents. Gore recounted several recent rate hikes in his own home state of Tennessee in one hearing:

• In three years, rates increased 71% in Memphis,
• 99% in Crossville,
• 113% in Nashville,
• 115% in Chattanooga,
• and 116% in Knoxville.

Under Malone’s leadership, TCI Cable raised rates 60 percent in 1992 alone, helping drive the enactment of the 1992 Cable Act which began to slow the pace of rate hikes. The bill was vetoed by then President George H.W. Bush but overridden in Congress after tens of thousands of constituent complaints poured into Washington. It was sweet justice for many elected officials who were on the receiving end of Malone’s hardball tactics for nearly 20 years. Malone was well known for retaliating against local officials who opposed his unfettered rate increases by suddenly cutting off service to customers and putting up on-screen messages in the place of favorite channels with the names and phone numbers of elected officials Malone claimed were responsible.

Under Malone’s leadership, city officials and consultants working to bring a competing cable operator into Jefferson City, Mo., got a taste of TCI’s ruthlessness when Paul Alden, TCI’s vice president and national director of franchising personally threatened the mayor and a consultant working on the project.

“We know where you live, where your office is and who you owe money to. We are having your house watched and we are going to use this information to destroy you. You made a big mistake messing with TCI. We are the largest cable company around. We are going to see that you are ruined professionally.” Alden warned.

TCI later also claimed it had a First Amendment right to provide service wherever it wanted, with or without a cable franchise. It also threatened any would-be competitor with ruin. In Jefferson City, that would-be competitor eventually won $35 million in damages in a jury trial over TCI’s tactics.

Malone has made no secret he believes government officials are simply getting in his way. In 1999, The Guardian noted Malone is a big believer in telecom oligopolies:

He is scathing about regulatory attempts to prevent monopolies and mergers. Governments, he says, are “antediluvian” in their approach to the emerging new world economic order. Instead of trying to prevent mergers and collusion between media and communications companies, Malone says governments should actually promote the creation of “super-corporations” (such as his own) with enough capital to exploit the potential of new technology.

Malone has plenty of money to throw around. He engineered the sale of TCI Cable to AT&T and personally earned billions from the transaction. Three years later, AT&T sold those systems to Comcast.

Liberty Global has stayed on the sidelines of the cable business domestically, preferring to invest in cable networks and programming. Malone’s firm owns Starz!, which gave Netflix considerable trouble when the online video service lost the rights to a large number of recent movie titles. Netflix had negotiated a $30 million yearly deal with Liberty in 2008 which expired in early 2012. Renewal talks fell through when Liberty demanded $200 million annually to let Netflix keep streaming its movies.

Consumers in the United Kingdom may experience Dr. Malone’s idea of finesse soon enough, if shareholders and British regulators approve the buyout deal.

[flv width=”384″ height=”236″]http://www.phillipdampier.com/video/BBC News Liberty Global to buy Virgin Media for 23bn 2-6-13.flv[/flv]

BBC News reports the blockbuster deal will pit Dr. John Malone against his biggest rival, Rupert Murdoch. Virgin has five million customers in the UK and provides the country’s fastest broadband service. (2 minutes)