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January 9, 2006

Kagan’s Column: Dr. Malone Rides the Endless Cycle of Bears and Bulls

We ended each of the last four years with both financial and political foreboding. This year is different. Most of the corporate malfeasance issues are history. We've gone half as long between terrorist attacks as the last time (eight years between World Trade Center 1 and WTC 2). The interest rate bottom was so low, rising rates appear to be no hurdle to rising values. Reelection of a business-oriented president took a huge uncertainty out of Wall Street. A falling dollar pleases a conservative electorate that would rather export goods than tourists to other countries. None of the crises of 2001-2004 have slowed technological development. Face it, we're in a bull market that began Oct. 9, 2002. Will there be setbacks? No doubt. Are the values of the past bull market being rebuilt? Absolutely. To the heights of the past bull market? Not for a long while. Some people, like Google shareholders, aren't complaining. And how about Yahoo, that flyer of the late 1990s? At $40 it was still less than a third of its $125 bubble top. But it was also up 64-fold from its all-time low of 64 cents, adjusted for 2-for-1 splits in 2000 and 2004. So life is good for some, still scary for many and frightening to those who worry about the war, the cost of health care, social security, the deficit and the specter of higher taxes and inflation. In other words, Simba, nothing is new in the circle of life.

The best evidence of recurring events is John Malone's latest exercise in financial engineering.

Chronicled in this column in May 2003 and June 2004, the good doctor's efforts to create value around Liberty Media's European and Japanese cable systems has borne its first fruit. An investment in UnitedGlobalCom made in two installments in May 2003 and February 2004 was up 79% by Dec. 3. Meanwhile, a similar two-step into Liberty this summer was up 29%. Even more interesting is the fact that Malone's plans were elaborately laid out in a series of candid conference calls over a period of more than a year, and both stocks still languished as recently as August (UCOMA) and October (L). The most significant aspects of the story: Bear markets don't obliterate the creation of value; they just delay it. And TCI wasn't the only example of Malone's ability to assemble appreciating securities around valuable assets.

Next up: probable creation of a publicly traded MSO in Japan, following the Nov. 30 consolidation of Liberty's (45%) and Sumitomo's (32%) interest in Jupiter Telecommunications. They've tried to buy out Microsoft's 19%, but Bill Gates has been holding out for a higher value, which Jupiter can attain once it can use public paper to buy out Japan's independent operators. Watching John Malone put together a corporate tapestry is like watching Monet fill in the flowers. He's not only a genius; he's an artist. Also on tap: the likely acquisition by Jupiter's parent, Liberty Media International, of Jupiter's European sibling, UnitedGlobalCom. LMI owns 54% of UGC, so raising the value of UGC helps LMI raise capital for Jupiter. See how it works? LMI shares (symbol LBTYA) were up 56% from $28.60 on Aug. 11 to $44.66 on Dec. 1. The company was spun off by Liberty on June 7 because, as Malone said in 2003, "people like doubles and triples."

Some investors think that News Corp. is the next object of Malone's acquisitive eye, because of his significant holding of voting stock in Rupert Murdoch's company. But Murdoch, the consummate purveyor of all things video, must surely covet the content assets under Malone's wing. They would seem to be natural partners. And then there's Barry Diller, whose power to perceive change enabled him to turn a Murdoch severance payment of $50 million plus a Gulfstream jet into a billion dollar fortune of his own. All we know is that none of these guys are ever satisfied with the status quo.

In other news, Deutsche Bank analyst Doug Mitchelson ventured into the telco future, projecting 7.5 million telco video subs by 2010, at 24% penetration of 40 million fiber homes. In his view, they take away 3 million cable subs, presumably in addition to cable losses to DBS. But he sees MSOs salving their pain with telephone subs of their own. How many billions of dollars will telcos spend to get 7% of a three-cornered market? If the Scott Peterson jury had to predict the telco video future, they would have remained sequestered a lot longer than two months.

This is my last column for 2004, a good place to wish everyone healthy and safe holidays. I'll look for you at the Consumer Electronics Show in Las Vegas in January, where the full scale of the new media future will be on display.

Analyst/investor Paul Kagan is chairman/CEO of Kagan Capital Management, Inc. in Carmel, Calif. He owns shares of Liberty Media, Liberty Media International, UnitedGlobalCom, News Corp. and Interactive Corp. Information in his columns is not intended to be a recommendation to buy or sell securities.

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