It's Halloween, and spooky mergers are in the works. Level 3 Communications Inc. (Nasdaq: LVLT) is acquiring WilTel Communications Group Inc. in a cash and stock deal valued at about $680 million.

WilTel, following a 2003 bankruptcy and the impending loss of its largest customer, SBC Communications Inc. (NYSE: SBC), is a ghost of its former self. With two of the nation's biggest phone companies buying out their long-distance rivals, WilTel was under pressure to do something to make up for the revenues it was going to eventually lose when SBC starting sending its former WilTel traffic over AT&T Corp.'s (NYSE: T) network, essentially bleeding it of revenues and network traffic.

But up steps Level 3, which has made its name in the VOIP services space and now sees WilTel as a way to enter new markets and to increase its own network capacity on major traffic routes.

"This is an important consolidation move for Level 3 for many reasons," says Stan Hubbard, an analyst with Heavy Reading. "The operator will secure some valuable free cash flow, extend its network and market reach, pick up a major video transmission subsidiary, and acquire a team of well-regarded professionals of Tulsa."

Leucadia, WilTel's parent company, originally bought a 44 percent stake in the carrier for a price tag of $330 million in July 2002. WilTel, formerly Williams Communications, officially emerged from Chapter 11 bankruptcy protection in October 2002. And, about a year later, Leucadia acquired the rest of WilTel that it didn't own in an all stock deal worth about $440 million.

Level 3 is paying $370 million in cash and will issue 115 million shares for WilTel. All told, that's about $90 million less than Leucadia spent in total to make WilTel a subsidiary.

Leucadia will retain WilTel's existing $358 million credit facility, its Tulsa, Oklahoma, headquarters building, and the $60 million mortgage on the building. Leucadia will also manage WilTel's pension plan obligations. Additionally, if SBC bails on its WilTel contract after it buys AT&T, then Leucadia retains the right to receive a $236 million termination payment from SBC.

Level 3 expects WilTel to contribute $1.5 billion to $1.6 billion of revenue in 2006, but that gravy train will be watered down considerably after SBC buys AT&T and starts handling its own long distance traffic. In 2008, Level 3 is expecting WilTel's revenues to be around $600 million -- a 40 percent decline.

The cost to integrate the two companies will be between $100 million and $150 million, with most of that to hit in 2006.

Level 3 also gets WilTel's Vyvx subsidiary, which delivers video backhaul and transport services to dozens of entertainment and sports broadcast companies. That company reported $120 million in revenue in 2004 and $59 million in revenue for the first six months of 2005.

Will Level 3's WilTel buy create a market for the remaining non-incumbent carriers? Not really, according to some analysts. "In the near term, we do not expect other long-haul providers, Global Crossing Holdings Ltd. (Nasdaq: GLBC) and Broadwing Corp. (Nasdaq: BWNG), to get acquired anytime soon as there are no natural acquirers," writes Tim Horan, a carrier analyst at CIBC World Markets.

Table 1: Level 3 and Its Peers

"This transaction is not necessarily good for the valuation of the other long-distance carriers, given the low price terms and the fact that LVLT has become a more dominant player, one that can pressure its smaller rivals," Horan writes.

Level 3 shares crept up $0.15 (5.56%) to $2.85 in early afternoon trading following the news of the deal.

— Phil Harvey, News Editor, Light Reading