Buffett Boosts Level 3

Warren Buffett, through his Berkshire Hathaway Inc. holding company, has joined two other investors in a plan to invest about $500 million in Level 3 Communications Inc. (Nasdaq: LVLT). Level 3, a company that wholesales bandwidth to other carriers, says it plans to use the funds for more acquisitions (see Level 3 Raises $500M).

Of late, Level 3 has been trying to avoid violating the terms of its covenants for more than $6 billion in long-term debt (see Is Level 3 Next?). Those covenants call for Level 3 to meet certain revenue minimums in its telecom business. Level 3 thinks that one way it can increase revenues, even as the telecom industry flounders in recession, is to buy existing companies (see Level 3 Software Play Has Perils).

Wall Street reaction to the investment was mixed, and some wonder whether taking on more debt to solve debt problems is sound strategy. "I think it's great that [Level 3] got more money, but it's negative that the money has come in the form of more debt," says Rick Grubbs, a senior telecom analyst at Crédit Lyonnais Securities Inc.

Level 3 executives say that both it and its investors would have preferred an equity investment; however, as a company incorporated in Delaware, a provision in Delaware's securities law prevented it.

The investment is an interesting one for Warren Buffett, who has always stuck to investing in name-brand businesses that he understands, such as The Coca-Cola Company; GEICO Corp., the insurance company; and See's Candies Inc. Buffett, a frequent bridge partner of Microsoft Corp. (Nasdaq: MSFT) chairman Bill Gates, admits he's a "lifelong technophobe" and encourages potential correspondents to write him via postal mail, not email, according to a note to readers of Berkshire Hathaway's Website.

Buffett was introduced to the deal by his friend Walter Scott Jr., Level 3's chairman, according to Level 3.

The specifics of the investment are as follows: Level 3 is selling 9 percent junior convertible subordinated notes, due 2012, to three investors. Longleaf Partners is buying $300 million of the convertible notes; Berkshire Hathaway is purchasing $100 million; and Legg Mason Inc. is buying $100 million.

The notes mature in 10 years and pay 9 percent interest. The investors may convert the notes, at any time, into common stock at a price of $3.41 a share, subject to certain terms.

"If [the investors] converted the shares quickly and held on to the stock, I'd be pretty happy about that," says Grubbs. Such a move, Grubbs says, would signal that Level 3's new investors have a good deal of confidence in the company's long-term survival.

The notes purchased by the three investors can also be changed, at Level 3's option, into convertible preferred stock under certain conditions. Convertible notes rank junior to just about all of Level 3's existing indebtedness. In other words, the new investors will have to get all Level 3's senior creditors in line if dividends are paid or if Level 3 liquidates its assets.

Level 3 says all three investors have indicated they would consider possible additional investment in the company in the future.

With its new investment, Level 3 says it has a balance of about $1.5 billion in cash and marketable securities as of June 30.

During a conference call Monday afternoon, Level 3's chief executive James Q. Crowe emphasized that the new investment was to expand an already viable and healthy business. "Even absent this investment, we think Level 3 is fully funded to cash-flow break even," he said. "So the proceeds of this investment are intended to create additional opportunities."

Shares of Level 3 rose $1.47 (51%) to $4.36 in trading Monday, the highest they've been since June 3.

— Phil Harvey, Senior Editor, Light Reading
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malakraday1 12/4/2012 | 10:08:45 PM
re: Buffett Boosts Level 3 LR: why are you so slow in getting stories like this out? I read this on yahoo this morning. I have been checking light reading periodically during the day waiting for your take on it. The least you can do is mention something about the story earlier in the day saying that more news and analysis will follow. Then we will know you are paying attention.
DarkWriting 12/4/2012 | 10:08:43 PM
re: Buffett Boosts Level 3 This is clearly a "capitalist" bailout. At least it's better than the government using "my" money for corporate welfare. I would have loved to have been on the phone calls flying around to put this deal together. I would not be surprised it Dubya made a personal call on this one. We can expect to see more of these because there is no way the capitalists can afford to have all these companies go into the tank. Still, all this does is make the Rich richer.


P.S. Warren Buffett is a personal hero of mine (little or no inheritance to his kids) so I hope he knows what he is doing by going out of the way to by technology.
solver 12/4/2012 | 10:08:41 PM
re: Buffett Boosts Level 3 This article is no different than anything else that you would have read all day. There's no need to wait for it.
LR, the type of report that will actually create value for your readers are the types that uncovers the information that is not skin deep, public domain stuff that every equity analyst recites.
What we are really interested in is HOW Level3 is going to use the money? Specifically, what are the opportunity here? Which distressed asset are they going after? KPNQwest? WorldCom? etc. If so, which part of the business? What kind of valuation can we expect?
Will there be brand extensions? or will Level3 be content with being the carrier's carrier?

kbkirchn 12/4/2012 | 10:08:32 PM
re: Buffett Boosts Level 3 malakraday1: For your devotion to Light Reading in waiting for this story to be printed here: We give you a FREE T-SHIRT...

What? Oh! ahem.. Never Mind...
switch_this 12/4/2012 | 10:08:30 PM
re: Buffett Boosts Level 3 DarkWriting,

I think everyone is missing a very key element in Mr Buffet's transaction today; namely, he DID NOT purchase Level 3's equity. Mr. Buffet purchased some of Level 3's DEBT. There is a huge distinction between these two different animals.

netchinta 12/4/2012 | 10:08:28 PM
re: Buffett Boosts Level 3 switch_this said:

I think everyone is missing a very key element in Mr Buffet's transaction today; namely, he DID NOT purchase Level 3's equity. Mr. Buffet purchased some of Level 3's DEBT. There is a huge distinction between these two different animals.

Good point. Nevertheless, this debt is junior to all other Level 3 liabilities, so it is just above the highest preference levels of equity.

This is a good move by the lenders, as for the first time since this data revolution began, the biggest customers of Worldcom (which is the gorilla in the data services business) will be looking for alternatives, and Level 3 looks like one. Even if Level3 chooses not to service customers directly and remain a carriers' carrier (which was the original business model if I recall correctly), there may still be significant opportunity to provide bandwidth to Sprint, T, etc. along key routes.

malakraday1 12/4/2012 | 10:08:27 PM
re: Buffett Boosts Level 3 Exactly solver....If they wanted to post the article that they did they could have done it at 8:30 am instead of 1:30 pm. Then go into the analysis later in the day or the following day but the insight into the facts of the story is close to none. I get more insight from the posts than I do from the article.

Can anyone estimate now with this new infusion of cash how long it will take for Level3 to turn a profit?
Stagecoach 12/4/2012 | 10:08:24 PM
re: Buffett Boosts Level 3 My biggest concern with investing in carriers such as Level3 is that they may violate their covenants and thus turn a business plan that is "fully funded" into one that disintegrates into bankruptcy. The details of the covenants, and the likelihood of missing them, do not seem to be something that analysts (or media) covers very often.

Pardon my ignorance, but where is the best place to find more information on the covenants carriers are committed to? Is it covered in SEC filings "in English"?

rjmcmahon 12/4/2012 | 10:08:19 PM
re: Buffett Boosts Level 3 The details of the covenants, and the likelihood of missing them, do not seem to be something that analysts (or media) covers very often.


Nobody seems to be asking these questions. The convenant terms seem to be a strategic piece for the control investors. How does an equity investors protect themselves from bondholder raids triggered by such covenant terms? If on one hand the the outcomes can manipulated be company management, then on the other hand, can the outcomes be manipulated by financial traders? Why isn't anybody asking these questions?
steve 12/4/2012 | 10:08:18 PM
re: Buffett Boosts Level 3 For bonds the covenants are specified in the indenture, which is one of the documents governing the security. Should be filed with the SEC. For bank debt, it is in the loan documentation and not sure if it is filed.

The deal is, that in exchange for getting relatively low cost capital through a debt instrument your business needs to perform according to certain negotiated parameters. If you screw up, the debt holders get to renegotiate their deal, or at worst, force the company into reorganization. No secret here. Trick is negotiating the right covenant package. Hard to do now for telecom companies. You are right, the investor community does not spend enough time on this
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