OVER THE PAST 18 months or so, the financial world has been rocked by bankruptcies at leading telecoms and communications equipment makers, including Global Crossing,Teleglobe, 360networks, Marconi, WorldCom and NTL.
But now these bankrupt operators are working their way through the bankruptcy net and starting to seek new funding. Rather than running for cover, investors and bankers are eagerly contemplating the massive debt capital markets opportunities presented by the return of these fallen angels as industry consolidation takes hold.
There may be despair, though, for smaller players whose prudence meant they were not lured into bankruptcy, With the big fish swarming back to the market, small telecoms’ financing plans might be shunned by lenders wooed by the allure of hefty fees from large financing packages.
UK-based cable operator NTL emerged from bankruptcy protection at the beginning of the year. In May, Marconi announced the completion of a complex restructuring, hammered out over a year of talks with creditors, which saved it from collapse. Marconi Corporation, the rejigged UK telecoms equipment maker, was relisted in May after a £4 billion ($6.4 billion) rescue programme and the appointment of new senior management. WorldCom should emerge from Chapter 11 bankruptcy in the autumn. It is even predicting a revenue upturn in 2004 and 2005 as it wins back business. Global Crossing should re-emerge this year too.
Marconi’s creditors overwhelmingly voted in favour of swapping £4 billion of debt for cash, loans and shares in the new firm. That gave them 99.5% of the equity. Old Marconi plc shareholders were not so lucky – they retain only 0.5% of the new stock, just one share for every 560 Marconi shares they previously held, in return for releasing their hold on its £1 billion cash.
The old defence and white-goods company once called GEC had expanded into telecoms equipment during the TMT boom in the late 1990s. The subsequent sharp fall in demand, as telecom operators battled to reduce debt, left the successor company Marconi extremely vulnerable.
But the newly listed Marconi Corporation got a positive welcome. The opening price beat many analysts’ expectations at 60.5p. That valued Marconi at around £600 million. Although the price fell back 3p to 57.5p, by mid-July it was at 72.5p.
The debt of the overhauled company now stands at around £20 million and 13,000 jobs have been slashed. But while costs are down, sales fell in the third and fourth quarters of last year.
Some of the US companies most closely associated with Wall Street wrongdoing are also edging back. WorldCom and Global Crossing are the two most famous casualties. Both are preparing to emerge from Chapter 11 after months of uncertainty.
Global Crossing’s bankruptcy filing was a condition made by Asia-based Hutchison and Singapore Technologies Telemedia, which agreed to inject $250 million cash in exchange for a 61.5% stake in the rejigged entity.
WorldCom entered Chapter 11 in July 2002 after a $3.8 billion accounting scandal. It filed its proposed plan of reorganization with a fast-track schedule for its re-emergence before the end of 2003. Most of its creditors have agreed to a debt-for-equity swap. The telecoms group rebranded itself as MCI in April this year.
Telecoms overcapacity Despite all these corporate reorganizations, wipe-outs have been avoided. That leaves the telecoms market in serious need of rationalization to take out overcapacity.
The future for such companies as Marconi, WorldCom and Global Crossing – as for the rest of the industry – looks difficult and the corporate scandals have driven many lenders out of telecoms. But the prospect of large loan and bond deals that consolidation could eventually bring is attracting the attention of those that remain. Many are forecasting that a combination of syndicated LBO financings and small IPOs will shape telecoms debt over the next couple of years as companies look to expand businesses with bolt-on acquisitions and to engage in consolidation.
“We have already been doing the rounds and talking about what is coming up over the next 18 to 24 months,” an M&A banker in London says. The first wave of large-scale consolidation is at least a year away. However, the market may feel the first ripples among some of the smaller players as early as October or November.
Since Canadian communication solutions provider Allstream emerged from bankruptcy in April – debt-free and with cash in the bank – rumours of a takeover bid by Telus have been circulating. Speculation intensified in June when Telus filed a multi-billion-dollar prospectus for a potential issue of securities.
In the US, Global Crossing is also at the centre of intense takeover interest. The suitor is Singapore Technologies Telemedia, which is still hopeful its bid to own the bankrupt carrier will be successful, despite objections from the US Department of Defense. Rival bidders XO Communications and IDT may yet scupper the Singapore government-owned company’s offer.
MCI is expected to be popular with potential buyers when it emerges from Chapter 11. The fact that the new company will be virtually debt-free and has managed to retain most of its customers as well as pick up new contracts makes it an extremely attractive target. Verizon has been cited as the most likely buyer for some time. Part of MCI’s business has already come under the hammer, with Nextel Communications agreeing to buy the high-speed internet wireless assets of the operator for $144 million in cash in June.
Any suggestion of MCI entering into a mega-merger has been dismissed by MCI’s chairman and CEO Michael Capellas. “It’s not in our thinking,” he said, speaking at the CeBIT America 2003 conference. “We have a great space in this next-generation IP. That’s where we’re positioning ourselves.” But Capellas also concedes that consolidation is inevitable. Telecoms has become “a game of size and scale”, where smaller providers will be gobbled up or forced out of the market, he said.
Even those companies that avoided Chapter 11 have not been able to avoid the financial effects of the downturn, and in some cases they are worse off than those that have undergone restructuring. Their preoccupation now is to complete the refinancing of existing debt.
The global debt market for telecoms turned around in the first half of 2003, for the most part overcoming the slump of the past two years. Among European survivors, Olivetti, France Telecom, KPN, Vivendi and TeliaSonera all rapidly wrapped up bank loan facilities. Spanish GSM operator Amena completed its self-syndicated subordinated e300 billion facility at the beginning of July. And in June, 21 lenders signed into Nokia’s e2 billion five-year revolver, with Deutsche Bank, Citigroup, CAI and Nordea as lead arrangers .
US-based Qwest’s $1 billion high-yield secured loan refinancing in June had an enthusiastic response. The deal was a massive success largely because of Qwest’s sound reputation, and the amended facility was increased to $1.75 billion. On top of this, equipment maker Motorola, which is still recovering from the credit squeeze last year, successfully signed a renewed $700 million revolving credit facility with a bank syndicate led by JPMorgan and Citibank.
There is also appetite for companies outside the US and Europe. Caribbean mobile operator Digicel Jamaica, for example, wrapped up a $203 million Citibank-led multi-tranche financing to restructure existing debt in May. In Asia, about 10 foreign and domestic banks are bidding for a mandate to lead mobile operator China Unicom’s maiden syndicated bank loan for an estimated $700 million.
A new phase Although telecom sector share prices have come back slightly in the past few months, the equity markets are still depressed. That leaves lenders thinking the industry is about to enter a new phase of financing. One banker says: “Liquidity will be very important. The big difference will be that instead of refinancing where there is often little revenue for the banks involved, there will be a lot of new money and fresh acquisition financing.”
This year, most loans have been smallish deals with tight relationship pricing, so factors that blighted the market in 2002 – an aversion to risk and a lack of deal flow – still linger. The rest of 2003 is likely to be busier.
“These companies have cut costs, deleveraged and stabilized, and they have new plans. It would be great to see some new money, there has been very little of it so far and there is the potential for this,” a European-based debt banker said.
As lenders begin to free up their balance sheets, it is likely that new deals will be less focused on old relationships, thus opening the door for operators to build up contacts with new lenders. Operators that have completed a successful restructuring or refinancing and return to the market for new money are likely to be warmly received, analysts say.
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Free cashflow generation at selected European telecoms Source: Standard & Poor’s |
A key question now is the prospects for large leveraged buy-outs. In Europe, the only really large LBO to be announced this year is the spin-off of Telecom Italia’s directories business, Seat. The transaction was valued at e5.6 billion and the leveraged loan section of the deal is expected to total just over e4 billion, comprising a record e3.2 billion of senior debt and just over e1 billion of high-yield debt. Over 20 banks have been invited in by arrangers Barclays, Royal Bank of Scotland and CSFB.
Bankers say it may be a sign of things to come. “At the moment lenders are averse to underwriting risk, meaning we have seen a host of club facilities, but I am confident we’ll see a change when the big deals for these new companies start coming in,” one banker says.
For now, however, only companies boasting BBB ratings or better, such as Deutsche Telekom and France Telecom, are likely to find their names on bankers’ approval lists.
“A lot of institutions are currently wary of large LBOs,” says a London-based loans banker. “The underlying problem is not structuring the financings but rather structuring company business plans. LBOs will start to come through next year, but it will only be deals for the higher-rated companies that will get done. Companies with a BB rating or less will struggle.”
Nevertheless over the past few months leveraged loan spreads have narrowed and the market is awash with cash after companies – taking advantage of strong demand for high-yield issues – repaid large amounts of bank debt by selling new bonds. Both Centennial and integrated wireless communications service provider Nextal Partners got successful bonds away in June.
The bond market has also proved popular in the first two quarters of 2003 as the use of hybrid capital by telcos, which allows them to manage credit ratings and equity capital, has picked up momentum. Deutsche Telekom has done several mandatory convertibles this year. In the straight debt markets, Vodafone has returned to the market with several issues. With a book totalling e7 billion, Telekom Austria has in the past few weeks achieved aggressive pricing for its debut euro bond led by ABN Amro, Bank Austria/Hypovereinsbank and Lehman.
The US bond market is also beginning to open up. Verizon reduced its loan liabilities with several bond issues in the first half of the year. In Asia, PCCW-HKT launched a $500 million 10-year bond issue in July that was 5.5 times subscribed, attracting about $2.8 billion in orders, rounding off a flurry of issues for the operator this year.
After the carnage of the past few years, bankers see the second half of 2003 and 2004 as make-or-break time for many of these reconstructed telecoms. Many loan providers are still over-exposed to the sector. When a newly restructured company does tap the market, the deal will come under intense scrutiny and a solid business plan will have to be in place and proven. It is perhaps still too early to judge whether the new business plans of restructured operators are viable, but analysts say customer loyalty or lack of it will reveal a lot about business strategies.
For the rest of this year, the market should expect to see few large loan or bond deals, LBO or otherwise, in excess of a billion dollars. Mid-market deals will continue to do well while the market is still tough and syndication is difficult. Bankers say the market is still not deep enough to handle a really big deal, unless it is for a big blue chip such as Vodafone.
From the end of 2004 onwards, bankers are dreaming of a return to the good old days, with financings topping $20 billion for the right name. Much will depend on the direction of the equity markets over the next few months. “We will see something start to happen in 2004, but to start with there will only be small deals. There will not be deals of the size the industry needs until later,” says Global Crossing’s senior vice-president for strategy and corporate development, Chris Nash.
Standard & Poor’s telecoms analyst Subhajit Gupta agrees: “Small deals funding bolt-on acquisitions will shape the next six to 12 months. An equity market revival is needed before anything major will happen.”
Small fish in a big pond And while bankers fantasize about big fees and rich pickings, the fear for smaller telecoms is that their debt plans could be shunned in favour of higher-fee deals from larger or newly restructured companies.
According to analysts this diversion of scarce capital coupled with stiff competition and price wars in the products markets from newly restructured companies could result in smaller firms going bankrupt. In line with a report by Fitch Ratings earlier this year, bankers predict that an increase in pricing pressure from newly restructured operators could signal the demise of previously well-managed companies. It seems their reward may be to be consumed by less-disciplined rivals.
“It could be the beginning of the end for some of these companies that haven’t gone bankrupt,” one banker predicts. “They are reasonably good companies, but they may feel the knock-on effect of the determination of recently exited [from Chapter 11] companies to succeed at all costs.”
Smaller companies that avoided bankruptcy are often left with more debt than the newly restructured ones. “Companies will have to merge with each other to survive the competition from their newly restructured rivals,” one analyst says.
Not all bankers share this view and some maintain that solid financing proposals regardless of size, if backed up by firm business proposals, will go through the market.
“You can get that fringe effect, but good deals will always get done whatever size they are,” one banker says.
Those now completing their restructuring and relaunching their commercial fortunes face the task of restoring credibility in the eyes of spurned equity investors.
As failed carriers gradually return, the market is keeping a close eye on whether they have any credibility left or whether, as their rivals and some bankers maintain, they are permanently damaged.
For now, new strategic investors will tend to side with existing lenders and bondholders in calling the shots. In the wake of corporate disasters, all investors want to be sure that the top management at these telecoms has undergone dramatic changes.
NTL for example, had a full clear-out at the top level after emerging from its $10.6 billion financial restructuring in January. Former COO of US wireless telephone carrier Nextel Communications James Mooney was appointed chairman of the UK cable company, while the chief financial officer of WilTel Communications Group, Scott Schubert, was named CFO.
Investors want evidence that a more conservative approach is being adopted in the boardrooms. Global Crossing’s Nash is fully aware that his company still has a lot to prove and knows that it will take a lot of time to attract equity investors back. “I think equity investors will come back, but I don’t think it’ll be that easy or that quick. They will become more demanding, they will want to see a dividend in their lifetime,” he says.
A banker adds: “They [institutional investors] have short memories – they are much more savvy than retail investors. It will be much easier to woo back both old and new institutional investors rather than retail investors.”
Although most bank lenders have suffered from over-exposure to the sector, they are expected to support companies with loans, enticed by the prospect of large IPOs and equity capital raising much later.
As one banker put it: “The potential for massive IPOs to compensate for the lack of investors will be huge and the likes of Merrill, Goldman, Morgan Stanley will be up there again. But it will be a long time before these IPOs come to the market.”
Directories business Yell priced its IPO in the middle of July at 285p, valuing the group at £2 billion. The size of the offer was raised by 30% to £1.14 billion, after its venture capitalist partners Apax Partners and Hicks, Muse, Tate & Furst decided to sell more shares.
Although there are no big telcos waiting in the wings, a series of conservative flotations from second-tier operators are likely to kick-start 2004. The bigger, more ambitious deals reminiscent of ones seen three years ago are expected to follow later.
“The market has improved enormously and the success of the Yell flotation is an indication of how things have turned around,” says an equity-linked analyst. “There will be some safe and solid deals coming through towards the end of the year. But it won’t be long before people are trying the more ambitious floats of 2000.”
With new management in place in all of the restructured operators, there is a growing confidence that bankers will be able to sell these companies again. Global Crossing is one such company that seems to share this view and even its fate still hangs in the balance – it is already said to be mulling over the prospect of going public again. “It’s certainly a possibility, but it’s important to do it when the time is right,” says Global Crossing’s Nash.
Belgian company Belgacom is also thought to be ready to launch its IPO. Banks were recently invited to pitch by the consortium of investors that holds a 49.99% stake in the operator for the global coordinators’ role. The consortium, comprising SBC Communications, TDC and Singapore Telecom, is said to be looking to sell up to 100% of the shareholding, which could lead to a e5 billion IPO. Banks invited to pitch were Lehman Brothers, financial adviser to the consortium, Goldman Sachs, Deutsche Bank, UBS and CSFB.
Only an optimist would suggest that the equity market might be receptive to a flurry of telecom IPOs – especially from alternative carriers. “There is not an appetite for IPOs just yet. Alternative carriers’ business cases have been under such a cloud it will take a long time to overcome that caution,” S&P’s Gupta says.
