AT&T plans to sell its 27.6-percent stake in the partnership, Time Warner Entertainment, which includes the HBO cable channel, Warner Brothers film studio and Time Warner Cable, for $2.1 billion in cash, $1.5 billion in AOL stock and a 21 percent stake in a new publicly traded company holding the cable systems.

AOL, for its part, will get complete control of HBO, Warner Brothers, Court TV and Comedy Central, and the remaining 79 percent of the new company, to be dubbed Time Warner Cable.

The media giant, which faces federal probes into its America Online Internet unit, is betting the simpler structure will appeal to investors, while the cable stock will give it a new currency to pursue future deals.

SoundView Technology analyst Jordan Rohan said after the deal, AOL Time Warner would own more entertainment assets and less cable. "In my book, that's a positive due to the higher potential for content assets to generate free cash flow," he said.

AT&T, meanwhile, will use the proceeds, which it estimates will be about $6 billion to $7 billion after taxes, to cut its debt load and strengthen its balance sheet as it prepares to sell its cable TV business, AT&T Broadband, to Comcast Corp. (NasdaqNM:CMCSK - News; NasdaqNM:CMCSA - News) later this year.

The complex pact ends years of negotiations, which languished amid disagreements over price, the venture's complex mix of businesses, and the two partners' own financial constraints. The deals are expected to be completed in early 2003.

Shares of AOL gained 89 cents, or 6.7 percent, to $14.25 in morning trading on the New York Stock Exchange. Shares of AT&T added 52 cents, or 4.7 percent, to $11.70, also on the NYSE. Class A shares of Comcast jumped $1.41, or 6.5 percent, to $23.17 on Nasdaq.

AT&T, the No. 1 U.S. long-distance telephone and cable television company, also will grant AOL's America Online Internet service access to its high speed cable lines. Such access deals are essential if AOL is to offer higher-priced services and more extensive entertainment offerings over the Web. Currently Time Warner Cable is the only operator offering America Online over its cable lines.

AOL STARTS TO TACKLE PROBLEMS

By unraveling TWE and forging the Internet access deal, AOL made a first step to tackling some of the problems that have weighed on its stock price, analysts said.

"AOL still has some issues to resolve -- dealing with the SEC and DOJ investigations into their accounting practices, and addressing the outlook for their overall Internet subscriber base -- but they've just gotten rid of two big issues that had been plaguing them," said Guzman & Co. analyst David Joyce.

Credit rating agency Standard & Poor's placed the long-term rating of AOL Time Warner on review for possible downgrade, citing the additional debt the media company will take to restructure TWE and its federal investigations.

AOL said it expects the first $2.1 billion raised in the Time Warner Cable IPO would go toward paying down debt incurred by the $2.1 billion cash payment to AT&T. Time Warner Cable has 10.8 million subscribers.

MARKET ROCKY FOR CABLE STOCKS

While analysts applauded the transparency the restructuring will bring, the deal is not without risks. For one thing, the current conditions are not optimal for an IPO of a stand-alone cable company.

Investors have punished cable stocks in recent months, growing impatient with the billions of dollars the companies have spent upgrading their systems to add services like digital cable and video-on-demand to compete with satellite television systems like Direct and Dish Network. As of yet, cable companies have yet to see much return on their investment.

"We believe it will be difficult to float Time Warner Cable without a significant discount to current market multiples," said SoundView's Rohan.

AT&T took some risk in accepting a stake in Time Warner Cable as compensation in this depressed market for cable stocks, analysts said. AT&T, however, contends it will benefit as cable stock valuations improve over time.

"It is our intention to fully exit that investment over time and we would expect that -- over time -- that since cable values are depressed now -- that we would realize that value over an extended period," said AT&T Vice Chairman Chuck Noski said in a telephone interview.

AT&T COMCAST TO PARE DEBT

Proceeds from the deal will pare debt assigned to AT&T Broadband and will not be used by AT&T's core telephone business.

Comcast, the No. 3 U.S. cable TV company, will inherit the TWE stake as it acquires AT&T Broadband. The merged company, AT&T Comcast, will keep the AOL stock and the 21-percent stake in Time Warner Cable in a trust to avoid any potential regulatory concerns over the amount of cable TV assets its controls.

"Setting up the trust is really along the lines of 'We don't want to offend regulators by having the No. 3 cable company buy the No. 1 cable company, who also happens to own a sizeable stake in the No. 2 cable company.' They didn't want to give regulators any ammunition," said Richard Klugman, a telecom analyst with Jeffries & Co.

AT&T Comcast will have under priority rights to sell its Time Warner Cable stock quickly. It also plans to sell the $1.5 billion in AOL stock "as soon and as practically as we can," Noski said.