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WorldCom's Woes Mount

Light Reading
News Analysis
Light Reading
4/22/2002

WorldCom Inc.'s (Nasdaq: WCOM) stock plummeted to a new low in trading today, as the market reacted to the company’s revised and reduced guidance. Late last Friday, it projected about $21 billion for full-year 2002 (see WorldCom Lowers 2002 Guidance). By closing today, the company’s stock had dropped $1.95 (32.61%) to $4.03.

Among the issues dogging WorldCom's stock and worrying investors: an investigation by the Securities and Exchange Commission (SEC), charges of overbilling, the potential writeoff of goodwill for massive acquisitions, and this most recent shock, a large earnings warning.

After trying to sneak the news by the public with an after-hours release on Friday, WorldCom officials awoke this morning to find their profit warning the talk of the town. The company dashed investors' hopes of a near-term revival when it announced that instead of the "mid single-digit percentage" growth it predicted two months ago for both EBITDA (earnings before interest tax depreciation and amortization) and revenues, it now expects little or no revenue growth this year. The company’s revenues for full-year 2001 were $21.3 billion, and it is now forecasting 2002 revenues of $21 billion to $21.5 billion. It expects EBITDA to be between $7 billion and $7.5 billion.

WorldCom probably didn't do itself any favors by trying to sneak the warning in after markets closed on Friday, perhaps in the hopes that most people would be away for the weekend. One analyst with Davenport & Company, F. Drake Johnstone, called the announcement a "sandbagging."

While investors might have been expecting bad news from the telecom giant after recent warnings by Qwest Communications International Inc. (NYSE: Q), SBC Communications Inc. (NYSE: SBC), and Verizon Communications Inc. (NYSE: VZ) (see Qwest to Cut 2,000 Jobs, SBC Reports Q1 Earnings and Verizon Updates Guidance), the scope of the company’s revision seems to have left many breathless. A long line of brokerage firms, including Credit Suisse First Boston, Davenport & Co., and Guzman & Company, reacted by downgrading WorldCom’s stock today.

What shook the market most, observers say, was the reduction in forecasted capital expenditure. In February, the company stated that it expected to spend between $5 billion and $5.5 billion in 2002, down from the $7.9 billion it spent in 2001. But in its revised estimate, the company said it was cutting capex further to only $4.5 billion for 2002. Light Reading published rumors earlier this month that WorldCom was planning to slash its capex once more (see WorldCom to Cut Capex?).

"The capex budget is an easy place to go right now to preserve cash," says Thomas Weisel Partners analyst Peter DeCaprio. However, he continues, "the announcement was probably surprising with regards to cash flow reduction. That has shocked and frightened a lot of people."

WorldCom wouldn’t comment today on how the cuts to capex, as well as the reduced revenues and EBITDA, would affect the company’s balance sheet or its continued operations. "We’re announcing first-quarter earnings on Thursday," a spokesperson for the company said, "and we will be elaborating on the company’s performance then."

Light Reading's own paid research service, Optical Oracle, foreshadowed potential trouble for WorldCom in a report published last month. In that report, titled "Carrier Crisis Report," the big-ticket acquisitions of Digex and Intermedia were cited as a potential drag on earnings. WorldCom bought Intermedia in July 2001 for about $6 billion in stock and debt. The deal, which included a stake in Digex, was originally announced in 2000. WorldCom eventually divested its Intermedia holdings, but held onto Digex.

"The acquisitions of Intermedia and Digex are becoming a major drag on overall resources and profits," said Optical Oracle's March report. "Management is attempting to use cash earnings (reported EPS less goodwill amortization) in an effort, we believe, to deflect attention away from the dilutive impact of past acquisitions."

The whole telecom sector today felt the aftershocks, not only of WorldCom’s earthquake on Friday, but also of Ericsson AB's (Nasdaq: ERICY) devastating earnings report this morning (see Ericsson Reports $290M Loss). Reuters reports that many of the sector’s stocks have been pushed down to multi-year lows. And although WorldCom insisted that its subsidiary MCI (Nasdaq: MCIT) was not revising its earnings forecast for 2002, that company also saw its shares take a dive today, falling $0.77 (15.40%) to $4.23.

MCI might feel WorldCom’s pain even more acutely over the next couple of months. Word on the street has it that the two might melt back into one company as early as this quarter.

"They’re likely to bring the two back together," DeCaprio says, pointing out that MCI isn’t the one making WorldCom’s numbers look bad anymore. "The reasons for splitting them apart no longer exists."

Observers say even WorldCom’s revised guidance might be optimistic. Davenport's Johnstone, who cut WorldCom’s stock rating from Hold to Sell today, says he doesn’t believe the company’s assurances that it should still have approximately $1 billion in free cash flow by the end of the year; instead, he expects a sum in the range of $500 million to $600 million. His low estimate, he says, is because the company might have trouble making huge payments on its $32 billion debt, especially if the SEC requires the company to write down its goodwill. "If that happens," Johnstone says, "it might not be able to access its $8 billion bank line."

The SEC is currently investigating WorldCom on a handful of issues, including: a whopping $341 million personal loan to CEO Bernie Ebbers; the company’s accounting methods for determining the value of the companies it has acquired; and all documents concerning the company’s policy for accounting and reporting goodwill (see WorldCom Accounting: What's Up?).

In its revised forecast, WorldCom blamed its shortfall on "volume reductions associated with current economic conditions, including lower voice volumes and Internet and data network reductions by enterprise customers."

Johnstone says another reason for the company’s revenue nosedive could be that, following several recent lawsuits, it has been forced to cut back on its practice of overbilling. "It is certainly a possibility that more than 10 percent of its revenue has come from overbilling," he says.

Indeed, the Federal Communications Commission (FCC), has informed Light Reading that between January 1, 2001 and April 16, 2002 there were approximately 188 informal complaints filed against WorldCom concerning overcharging or double-billing. 95 of the complaints are closed and 93 are pending.

DeCaprio, however, says that it's a mistake to point the finger at WorldCom, since overbilling disputes "are a fact of life in this industry... If you look at the totality of the telecom universe, overbilling is widespread. It’s across the board. Every carrier does it."

Still, some sources indicate that WorldCom's been doing it more than others. According to several published reports, WorldCom is the carrier that receives the most complaints for "slamming," the term for switching a customer's long-distance service without permission. [Ed. not: Thus, any bill is an overbill.]

The overbilling issue has fed a steady stream of lawsuits against the company. In one of the many lawsuits recently settled or pending against WorldCom, Food distributor Beaver Street Fisheries is reported to have been overbilled by $4 million.

Johnstone says that he is very worried about WorldCom's future. "My concern now is that the company is not taking the steps necessary to cut costs for its viability," Johnstone says.

— Eugénie Larson, Reporter, Light Reading
http://www.lightreading.com

Editor's Note: Light Reading is not affiliated with Oracle Corporation.

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fon_guy
fon_guy
12/4/2012 | 10:33:07 PM
re: WorldCom's Woes Mount
Alternatively, Worldcom's Mount Whoas.
null0
null0
12/4/2012 | 10:33:01 PM
re: WorldCom's Woes Mount
aka Gibson.

I suspect this will hurt Juniper more than most, with respect to the near 50% cut in capex over the 2001 number.

It will also give the likes of Cisco chance to to get their BSFR out the door. Looks like the TTM advantage Juniper used to enjoy will not be so significant this time round.
rtk
rtk
12/4/2012 | 10:32:54 PM
re: WorldCom's Woes Mount
The last round of layoffs were mostly engineers & EDPs. We should see managers hit in the next round ... and it's coming soon.
NotGeorgeGilder
NotGeorgeGilder
12/4/2012 | 10:32:43 PM
re: WorldCom's Woes Mount
We were at WCOM pitching a box, and it struck me how the us and them mentality of UUNET and MCI permeated the culture. I have seen pretty wild examples of this at other companies, but none so stark as this. Any insiders care to comment?

NGG
mc_jaded
mc_jaded
12/4/2012 | 10:13:03 PM
re: WorldCom's Woes Mount
It was even worse than people thought:

http://biz.yahoo.com/rc/020625...

NEW YORK, June 25 (Reuters) - Shares of WorldCom (NasdaqNM:WCOM - News) sank like a rock in after-hours trade on Tuesday following a news report that the beleaguered telecommunications giant has allegedly engaged in massive fraud that may force it to file for bankruptcy.

WorlCom plunged to 36 cents a share on the Instinet system from a close of 83 cents on Nasdaq. David Faber, a correspondent for the CNBC financial television network, quoted sources close to WorldCom as saying the company has inflated earnings before interest, depreciation, taxes and amortization, or EBIDTA, by about $3.6 billion, and will soon restate its financial statements.
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