Buying and Selling Smaller Cable Systems
Pointers and Pitfalls from the Lawyer’s Perspective

By Christopher C. Cinnamon
And Emily A. Denney
Of Cinnamon Mueller

Introduction

We are seeing increasing activity in the selling and buying of small cable systems.
Clustering, spin offs, market reentry by cable veterans, all are resulting in more interest and
action in the smaller cable sector.  While some parts of a small cable deal are like any other
transaction, many aspects are unique.  After all, cable is still a heavily regulated business, and a
cable system has several types of assets that warrant careful consideration during the sale
process.

To help you better plan for a purchase or sale, we have updated our earlier articles on
considerations in selling and buying a small cable system.  We break the sale process down
into four steps.  Of course, these steps occur after you and your broker have found a potential
buyer or seller.  The four steps are:

• Letter of Intent
• Due Diligence
• Purchase Agreement
• Closing

This installment focuses on the letter of intent and due diligence.

Letter of Intent

At the start of most cable transactions, parties typically negotiate and sign a letter of
intent.  The letter of intent summarizes the key terms of a proposed deal, and can contain
several key provisions.

Generally, the letter of intent will state that it is not “binding.”  In other words, the parties
are not obligated to close the transaction until a formal purchase agreement is signed.  Still, the
letter of intent can be a very important instrument because it commits to paper the parameters
of a transaction and serves as a roadmap for the purchase agreement.  While a letter of intent
overall is generally not binding, it may contain certain terms that are binding obligations.  For
example, the letter of intent may contain confidentiality provisions and a time-limited “no-shop”
clause.

Important provisions in a letter of intent include:

Purchase price.  The letter of intent should specify the purchase price, and any major
adjustments to that price.  Most cable deals include a purchase price adjustment if the basic
subscriber count at closing is below an established threshold.  Another area to flesh out at the
outset is the form of the purchase price.  Will it be paid in all cash, stock of the buyer, a
promissory note?  Depending on the potential buyer, any of these options or a combination of
them may make sense.  Finally, sometimes a portion of the purchase price will be held back by
the buyer until some time after the closing.  Known as a “holdback”, this type of provision puts
“money in the bank” to secure seller’s promises.

• Form of transaction – assets or stock?  A letter of intent should specify if the
transaction will be structured as an asset or a stock deal.  In an asset deal, the buyer is buying
the assets of the cable system – the physical plant, subscriber goodwill and the rights under the
franchise.  Buyers generally prefer an asset deal because the buyer can specify which of the
seller’s liabilities the buyer will assume.  In a stock deal, the buyer purchases all of the stock of
the seller, thus buying the company as a whole.  This means that the liabilities of the seller
come along with the assets.  The form of transaction can have significant tax implications for
buyers and sellers.

• “No-shop” clause.  One of the main reasons buyers often want a letter of intent is for
the “no-shop” clause.  This is the seller’s promise, for a specified period of time, that it will not
make any efforts to find or negotiate with other potential buyers.

• Information and confidentiality.  At some point, the seller will share sensitive
information with the buyer.  Letters of intent often memorialize this expectation by requiring the
seller to provide the buyer with access to its books, records, and, sometimes, employees.  The
buyer’s review of this information is called “due diligence” and is discussed in more detail below.
Before sharing any confidential or sensitive information with a potential buyer, the seller can
insist that the buyer execute a confidentiality or non-disclosure agreement.  This often happens
even before the execution of a letter of intent.  If no separate agreement regarding
confidentiality has been signed, a seller may insist that one is included in the letter of intent.

A final word on letters of intent – have legal counsel review any letter of intent before you
sign it.  One party will often argue “the letter of intent is informal – your lawyer will have a cut
when we negotiate the purchase agreement.”  If you have read this far, however, you know that
a number of the most important terms may be decided at the letter of intent stage.

Due Diligence

For the buyer, an important step in the acquisition process is conducting “due diligence.”
Due diligence is the process during which a potential buyer gathers and evaluates information
about the seller.  The seller can expect the buyer to focus on these areas:

• Financial due diligence.  The buyer will want to review the seller’s financial records.  In
particular, the buyer will focus on revenues attributable to subscribers, subscriber counts, and
accounts receivable.

• Physical due diligence.  The buyer will often inspect headends and portions of the
cable plant.

• Legal due diligence.  The buyer will review franchises and other contracts relating to
the company.  One area of particular attention is in regulatory compliance such as copyright
filings, regulatory fee payments, tower compliance, and signal leakage testing.

With due diligence, the biggest variable is the level of organization of system and
company records.  For a seller, implementing sound record-keeping practices and making sure
regulatory compliance is in order can go a long way to easing this process.
In a later issue of the Independent Cable News, we will discuss the purchase agreement
and the closing.

Chris Cinnamon and Emily Denney are attorneys with the Chicago-based law firm of Cinnamon
Mueller.  The firm serves as general counsel to the American Cable Association and
concentrates on the representation of independent cable companies throughout the U.S. in
transactions and regulatory matters.  They can be reached at 312-372-3930.