McLeodUSA on the Brink

On a day in which the Nasdaq rallied and the Light Reading Index rose some 6.49 percent, telecom turmoil continued to unfold in the services market.

McLeodUSA (Nasdaq: MCLD) bondholders and investors are playing a game of chicken, as each positions itself against the other in a last-ditch effort to recoup investments from a company that may be forced to file for bankruptcy.

The matter is coming to a head after the competitive local exchange carrier (CLEC) balked at interest payments it was set to pay in January, in hopes of coercing the bondholders and investors to the negotiating table. But the clock is ticking, and McleodUSA only has 30 days to make its payment before it is forced to file for Chapter 11 bankruptcy protection.

Forstmann Little & Co., already a major shareholder in McLeodUSA and a firm that specializes in corporate buyouts, proposed a recapitalization that would clean up the CLEC’s balance sheet and get it headed toward recovery, but bondholders took issue.

Bondholders are unhappy with the terms defined in the Forstmann Little proposal because the plan highly favors new equity investors (like Forstmann Little) over bondholders, say analysts.

According to the news release published last night, McLeodUSA has missed January 1, 2002, debt payments and says it will also miss the January 15 payment. McLeodUSA now has a 30-day grace period before it must default on its loans and file for bankruptcy.

”Right now they’re all just jockeying for position,” says Aryeh Bourkoff, a senior high-yield telecom analyst at UBS Warburg.

Unlike its deal with XO Communications Inc. (Nasdaq: OTC: XOXO), by which Forstmann Little will spend $400 million in cash without gaining additional equity, the investment group only plans to invest $100 million cash into McLeodUSA. Forstmann has also offered to buy McLeodUSA's commercial-directory business for $535 million and convert its $1 billion in preferred stock into common stock. At the end of the day, the deal would eliminate at least 95 percent of McLeodUSA’s $2.9 billion in bond debt and $300 million in annual interest expense. And Forstmann Little would end up owning about 45 percent of the outstanding common equity of McLeodUSA.

“A hundred million dollars as part of plan on over $2 billion worth of debt is not significant," says Bourkoff. “The deal didn’t involve new cash coming in, and bondholders likely wanted additional cash recovery, more debt taken on, and more equity."

Currently, negotiations between the two sides seem to be at a standstill. In what looks like an effort to get the ball rolling again, McLeodUSA has refused to make its interest payment. The reasoning here is that McLeodUSA can use the threat of bankruptcy proceedings as leverage to get bondholders to agree to some sort of recapitalization package.

But some believe that bondholders favor bankruptcy because they could get better terms through the courts.

“The longer this drags out, the more likely it is that the bondholders will get a bigger piece of the reorganized pie,” says Peter DiCaprio, an equities analyst with Thomas Weisel Partners covering the CLEC industry. “But this is risky. If they wait too long, the courts could decide that there isn’t anything viable to reorganize. It’s a fine line.”

While some analysts say they think the two sides will work something out during the 30-day grace period, judging from the action on the bondtrading floor the company is likely headed toward bankruptcy. Since yesterday, the bonds have been trading around 24 cents on the dollar; compare this to recently bankrupt Enron Corp. (NYSE: ENE), whose bonds are trading at 21 cents on the dollar.

McleodUSA’s stock plummeted today as well, dropping 0.04 (10.81%) to 0.33 on a day when the Nasdaq was up 65.02 (3.29%) to 2,044.27.

But bankruptcy may not mean the end for McLeodUSA. For example, Covad Communications (OTC: COVD) filed for Chapter 11 bankruptcy protection last summer and is now about to emerge from proceedings with a clean balance sheet (see Covad Reorg OK'd).

There are positive signs that McLeodUSA could also pull through reorganization. For one, in its last earnings call in November the company reported revenues of $450.5 million, up 23 percent from the same period a year ago. And if it reduces its debt, it could eventually become profitable, say some analysts.

“If they can clean up the balance sheet and provide investors with information that their business is sound, then investors will return,” says UBS analyst Bourkoff. “But right now we have to wait and see. There is significant evidence that portions of its business are strong, but it’s hard to tell what the big picture will be right now.”

— Marguerite Reardon, Senior Editor, Light Reading
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heard_it_on_the_grapevine 12/4/2012 | 11:06:57 PM
re: McLeodUSA on the Brink heard a rumor... Cisco is at it again.
vomonquan 12/4/2012 | 11:06:56 PM
re: McLeodUSA on the Brink Old news, unless it is a fresh round. 4000+ (unconfirmed) got canned before Xmas. BUt this time Cisco is clever by calling it a redeployment: so axed employees got rounded to a wherehouse and gave 2 weeks to find non-existent jobs within the company. So technically it wasn't a "layoff".
heard_it_on_the_grapevine 12/4/2012 | 11:06:54 PM
re: McLeodUSA on the Brink hmm, could be the same thing, not 100% sure. i heard there is still more layoffs (severance packages being given) coming in the next couple of months.

looks to me like cisco is cutting WAY back. doesn't appear to be any spending recovery in telecom in 2002.
cleanup_man30 12/4/2012 | 11:06:53 PM
re: McLeodUSA on the Brink I thought this was a message board for the problems that McleodUSA is having. But enough of that in my estimation they bit off more than they can chew
noitall 12/4/2012 | 11:06:39 PM
re: McLeodUSA on the Brink could be a result of capex cutbacks. could also be the fact that the company has absolutely nothing new and nothing interesting to show carriers right now. i mean nothing. hfr is a total failure, the 7000 series is 10 years old, the catalyst line can't compete against riverstone or the other ethernet switch guys, the oadms are getting pressure from ciena finally, among others. so maybe cisco's just plain out of gas in products.

cisco also continues with this vendor financing scam that is going to lead to a big disaster for them (cogent anyone?) and the only reason they're still selling some lines of sp products is because they're basically giving them away. for example, the company keeps reporting market share gains against jnpr which is really funny because they're not winning any product vs. product rfps at all. bundling and heavy discounting are winning them business and that will only last so long.

another problem with cisco is that the company has a lot of very worthless, sleepy people hanging around who have no business in the communications industry and should be selling shoes or building am radios rather than routers. or, marketing women's hygiene products vs. gsrs. or manufacturing razor blades vs. atm switches. this layoff could be that cisco's getting rid of more dead weight. the company certainly has its share.

pure speculation. just having some fun here.
captain_photon 12/4/2012 | 11:06:38 PM
re: McLeodUSA on the Brink Hey Noitall- I guess you must have been layed off from Cisco!! What is everyone's beef with CSCO anyway?? I think those that slam CSCO were either layed off or couldn't get through the first interview. Who has the best management team in the industry? Cisco. Who has the best cash position? Cisco $20B and NO debt. Who's gaining market share? Cisco. Who will be there in the end standing tall? CISCO. So focus on what you need to do to help make your respective company succesful and stop crying. Captain_P
hitecheer 12/4/2012 | 11:06:38 PM
re: McLeodUSA on the Brink I went through CSCO's interview. I worked for CSCO some time. I am telling you, there are plenty of assholes in this company.
csco 12/4/2012 | 11:06:36 PM
re: McLeodUSA on the Brink You need to update yourself with the current
Cisco product line. No other vendor comes close
in terms of the number of best in class products
as well as the end to end story.

Do proper due diligence, use the right
products to make the comparisons and then see
for yourself.
Vesting 12/4/2012 | 11:06:36 PM
re: McLeodUSA on the Brink Doesn't anyone want to discuss McLeodUSA? Isn't this financial situation the direct result of their new high powered CFO Chris Davis having jumped over to McLeodUSA from ONI Sytems after proving she couldn't do it right there? Cisco will survive, but McLeodUSA might just die.
uttkadae 12/4/2012 | 11:06:34 PM
re: McLeodUSA on the Brink What kind of severance package does CSCO give...any idea ??????
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