Bottom Line: Carriers Stirred, Not Shaken by Market Upset

Posted: 07/2000

Carriers Stirred, Not Shaken by Market Upset
By Ken Branson

The stock markets of the world–particularly The Nasdaq Stock Market Inc.
(www.nasdaq.com)–have been going up and down like window shades this spring.

As competitive telecom carriers see their stock prices rise and fall, you must wonder, how has this volatility affected their real-world businesses? Are their executives looking over their shoulders and managing to the stock price? And what about their employees?

Business as Usual?

“They [carrier executives] always keep an eye on the stock price because it affects their ability to retain people,” says
John Hodulik, telecom analyst at PaineWebber Inc. (www.painewebber.com). “But the best management teams don’t let it affect how they run the business to any large degree.”

Well, maybe not, but even the best management teams have to raise money; few enterprises are more capital intensive than competitive telecom carriers. Debt and equity have become harder to get in the past several months.

Todd Morgan, vice president of high-yield research at Credit Suisse First Boston Corp.
(www.csfb.com), believes the moment of truth is coming for some competitive carriers in 2000.

“We’re seeing a situation in which there haven’t been many CLECs that have run out of money, but we’re heading for a point where that could occur … five or six months down the road,” Morgan says. He adds that stronger companies–those with a track record of growing revenues and a history of making their numbers–may have capital expenditures they can defer, if things get really tough.

Still, some market analysts view the sector as fundamentally solid, and they believe that competitive carriers who–like the little pig who built his house of brick–built good business plans and executed them well, won’t need to worry about their houses being blown down.

Ken
Hoexter, vice president of broadband research at Merrill Lynch & Co. Inc. (www.ml.com), says he believes the sector as a whole is strong on its fundamentals, regardless of where individual stock prices might have fluctuated this spring.

“I’ve seen little impact–virtually no impact–to operations,” Hoexter says. “In fact, I’m seeing extremely strong fundamentals flow through to the first quarter. From the
capital funding side, of course, the market is shut, but a third to a half [of competitive carriers] are fully funded, or at least for 18 months.”

It may be that most carriers with
well-funded plans and well-regarded management, as well as most of the people who work for that management, will continue to run their networks as well as market, bundle and sell their services. It also may be that they will continue to plan for their futures. But even if they keep their corporate eyes on the strategic ball, the market can be distracting.

Many of the companies Hoexter covers, for example, reported first-quarter earnings before press time that beat his revenue and EBITDA (earnings before interest, taxes, depreciation and amortization) estimates. They included Covad Communications Co.
(www.covad.com), NEXTLINK Communications
Inc.(www.nextlink.com), AT&T Can-ada Inc.
(www.attcanada.com), ICG Communications Inc.
(www.icgcomm.com), NorthPoint Communications Inc.
(www.northpoint.net), McLeod-USA Inc. (www.mcleodusa.com), Intermedia Communications Inc.
(www.intermedia.com), Mpower Communications Corp.
(www.mpowercom.com) and Winstar Communications Inc.
(www.winstar.com). Most saw their stock prices go up and down this spring.

“It [the up-and-down market] generally makes life less pleasant inside these
companies,” says Judy Reed Smith, president and CEO of ATLANTIC-ACM (www.atlantic-acm.com), the Boston-based telecom consultancy.

She explains, on a personal level executives might defer vacations or spend them on the phone, to the chagrin of their families and employees. On the strategic level, companies may focus more closely on their core businesses and delay plans to expand into new markets, launch new products or acquire other companies.

Chart:Company revenues and stock prices

Most acquisitions and mergers are at least partly done with stock; many are mostly done with stock. If a company’s stock price rises, the company has what amounts to found money. It can use that money to acquire other companies by offering their shareholders stock in the acquiring firm. If the stock price drops, less found money is available. On the other hand, if everybody’s stock drops, acquiring firms will find themselves in the same relative position as their targets.

Things are rarely that neat, however. Not everyone’s stock goes down at the same rate at the same time.

“Certainly, we’ve seen a lot of financing of recent mergers and acquisitions out of stock,” says Richard Kent, vice president of The Phillips Group
(www.phillips-infotech.com). “So, naturally, it becomes more difficult to swing that sort of thing [as one’s stock price declines]. There’s a second piece to this story, and that’s that second- and third-tier
CLECs, where financing often doesn’t mean stock, will find raising capital more difficult.”

John
Klusaritz, a merger lawyer and a partner with Swidler Berlin Shereff Friedman LLP
(www.swidlaw.com), takes a slightly different view.

“It’s harder [in a volatile market] for companies that want to stay in business on their own,” he says.

In other words, with one’s stock price falling and with other ways of raising
capital–debt and equity–harder to come by, a competitive carrier may be compelled to look for a buyer and manage itself in a way that makes the search fruitful, Klusaritz explains.

Hoexter adds, however, companies that do this stand to lose.

“Companies that are managing themselves to get bought are not going to get bought at any kind of premium that will satisfy them,” Hoexter says. “[Investors] want to invest in companies that are building and operating their network infrastructure for the long term.”

Hodulik agrees that managing the company to boost its stock price or to pretty it up for acquisition can be deadly. Companies where management is painted into a corner may issue press releases regarding services they don’t offer yet and haven’t really thought through. Worse, they may offer services their sales people, billing and customer care systems, and back-office systems aren’t ready to support.

“Taken to an extreme, you have senior management teams who follow the latest fad in an effort to prop up the stock price,” Hodulik says. “They manage from press release to press release. First it was DSL, then it was hosting, and then content distribution. I’ve got to believe you’re going to hear mobile data solutions over the next year or so.”

Fortune Seekers Sweat

Companies have long dangled stock options in front of top-ranking executives
to attract and retain them. But these days, many companies, especially competitive
carriers, offer stock options to people who work for a living. A diminishing stock price can hurt morale.

“If your option is $63, and the price goes to $36, it concerns you a little,” says a
mid-level employee of AT&T Corp. (www.att.com), who asked not to be identified. “But, hey, I never really saw the money, and I still think AT&T is a great company to work for.”

When the stock price of Network Plus Inc.
(www.nwp.com) took a tumble this spring because the company paid more for its collocations during its network rollout than its management had predicted, the company’s corporate communications manager, Michael Robinson, winced a bit, but that’s about all.

“We all own stock options,” Robinson says. “The price took a little hiccup, but I think the business plan is good, and we’re executing, so I’m pretty confident in the future.”

A former employee of GST
Telecommunications Inc. (www.gstcorp.com), who asked not to be identified says, “When our stock price started to go down, the management told us, ” ‘Don’t worry, don’t panic.’ ” They said, ” ‘This is a stock market
thing–these things happen. Just concentrate on executing.’ “

Following two quarters in which the company failed to fulfill the covenants of its credit facility and jettisoned nearly all its senior managers, GST’s stock fell like a brick this spring, well ahead of the market in general. Then, when the company announced a drop in revenues from the fourth quarter to the first, and that it was considering “seeking protection under applicable bankruptcy laws,” the stock price all but disappeared. GST’s stock was trading around $3 before its May 9 despairing earnings report (issued after the markets closed), and then fell below $1.

GST interim CEO Thomas Malone brought in Salomon Smith Barney Inc.
(www.smithbarney.com) in March to explore money-raising possibilities–unsuccessfully, it would seem. Malone also recruited Deloitte Consulting LLC
(www.dc.com) to help formulate strategy. The results of exercise were expected to be released after press deadline.

“I still own GST stock,” the former employee says. “I suppose it’s possible the company may come back, or somebody may buy them, and the stock options will be worth something, but I’m not holding my breath.”

e.spire Communications Inc.
(www.espire.net) has a similar story. Turmoil exists in the senior ranks, and the stock price has dropped steadily since March when investors’ hopes that the company would be sold went unfulfilled. In April, two class-action lawsuits were filed alleging that e.spire misrepresented material facts to investors.

After weeks of silence, e.spire issued May 19, a terse press release that acknowledged the lawsuits and asserted it is blameless. e.spire’s stock has fallen at a more rapid pace than the rest of the market, and trading was more than $4 at press time.

Just Karma

For all who thought the upward trend would last forever, other observers believe what goes up must come down, and this is not altogether a bad thing. Klusaritz, for example, says the market may be harsh, but it isn’t unfair.

“Think about last year, when the stock of most medium-sized long-distance carriers started to go down,” he says. “That was because the market understood that everything was moving to three or four global players that were getting facilities all over the world. The market is smarter than
I am.”

Ken Branson is business and finance editor for PHONE+ magazine.