Posted: 11/1998
There's Still Money in the Bank
By John T. Mulqueen
Telecommunications costs a fortune. Incumbent carriers spend tens of billions of dollars annually expanding and maintaining their networks. Newcomers have the same burden when they try to ramp up their networks to crack open existing markets. And, Wall Street has been more than happy to find the funds that carriers need, whether in the form of junk bonds (i.e., below-grade investment bonds in polite terminology) or stock offerings. But that all ended in August when the world financial markets went into a tailspin and the Dow Jones and other stock market indices plunged. New debt and equity financing also came to standstill.
It is raising hairs on the necks of some competitive local exchange carriers (CLECs) that are short of cash and planned to either sell bonds or equity to finance their network development, analysts say. Companies that raised money earlier in the year or in 1997 and have enough funds to carry their expansion plans into 1999 should be in good shape. Others that were hoping to sell debt or equity this year may have a tougher going, unless they can get bank financing. Industry executives, bankers and analyst say that banks and institutional funds are flush.
Loanmakers
Mike Bandzierz, managing director of Toronto Dominion Securities, New York, says that his bank has $2 billion to $3 billion in loans committed to telecommunications companies ranging from MCI WorldCom to CLECs. It recently partnered with Chase Manhattan and Goldman Sachs to loan Vienna, Va.-based Teligent Inc. $800 million in secured financing. "Telecommunications companies are very good credit risks. They have stable, predictable cash flows," he says, noting interest rates are in the 8 percent to 9 percent range.
Royce Holland, CEO of Allegiance Telecom Inc., the Dallas-based CLEC, agrees with Bandzierz. "There is plenty of money available at reasonably attractive rates--10 percent to 12 percent--that are better than high-yield bonds," he says. With $485 million in the bank, Allegiance has enough money to build its networks in 18 of its 24 target cities, he says, noting that the company will look for vendor financing or banks for the rest. Allegiance is operating in four cities now and expects to be in five more by January.
Bob Lazzeri, an executive with Daniels & Associates, a Denver-based firm that advises telecommunications carriers on mergers and acquisitions, says that pension funds and private investment funds are still willing to invest in companies with good management.
If the uncertainties in the financial markets continue for a long time, there may be an impact on mergers and acquisitions and network construction, but so far it has not happened, Lazzeri says. Daniels has done 58 deals in the first nine months of 1998 compared with 57 in all of 1997, he says.
Under the Wire
Blake Bath, a telecommunications analyst at Lehman Brothers, New York, warns that some CLECs and international long distance companies will run into funding problems by the middle of 1999 if they cannot raise money. However, bank financing is one alternative, he admits.
Holland says that Allegiance squeaked under the wire when it did a $150 million initial public stock offering (IPO) and $205 million debt offering early in July. "We were about the last fish under the net," he says.
Maybe not. Equant raised $768 million July 20 when it sold 30 million of common stock to finance purchase of international circuits and develop its corporate infrastructure. "The market peaked the week after our IPO," says Jim Armstrong, Equant's investor relations manager. "We don't foresee the need to come to the market for several years."
"There have not been any new issues [of telecommunications high-yield bonds] since the second week of August," says Drew Hanson, an analyst at DLJ Securities Inc., New York. "There were a number of potential high-yield financings on the calendar as of the end of August. They are still on the calendar. But since there is no calendar, the market is just in a wait-and-hold state."
Harry Resis, portfolio manager at Kemper High Yield Fund, Chicago, notes the only new high-yield issue of any sort in September was a $1.4 billion sale of debt by Cal Energy, which he calls almost an investment-grade utility bond that was not affected by any international factors.
Image: U.S. Commen Stock-Telecommunications Industry
The turmoil in Asia, Russia's meltdown, President Clinton's domestic problems, elections in Germany and a slow turnaround in Japan all are contributing to the uncertainty, he says. Interest rates on high-yield bonds are between 12 percent and 16 percent, Resis says.
Cyrille Conseil, vice president and senior analyst at Moody's Investors Service, the New York bond rating agency, notes that at the end of June interest rates on new junk bond issues were 450 basis points (4.5 percent) over the rate on a U.S. Treasury bond. By August the difference had risen to 650 basis points. "That is a big change," he notes. "I am not sure a new issue could find a market now."
New carriers like to finance their operations primarily with debt and then fill in their needs by selling some equity, he notes, adding that is the reason they tend to be rated at the bottom of the investment scale.
The industry's dependence on high-yield funds is not new. Junk bonds, in fact, have been a major source of capital for the industry at least since the 1980s. MCI Communications Corp., Tele-Communications Inc. and McCaw Cellular all were financed with junk bonds. Many of those bonds were sold by Mike Milken, the head of Drexel Burnham Lambert's bond trading operation before his conviction for securities violations.
Even without Milken, carriers continued to tap the high-yield bond market. From 1990 until September 1998, telecommunications companies sold $51.5 billion in high-yield debt. Demand accelerated in 1996-1997, and went into overdrive in the first 81/2 months of 1998, reaching a total of $20 billion by Sept. 24. Telecommunications carriers accounted for more than 38 percent of all high-yield issues sold in 1998, according to Securities Data Corp., Newark, N.J. (See Table 1 on page 156.) Since 1990 $41 billion in stock in telecommunications companies were sold. (See Table 2 on page 156.)
There are signs some companies expect the financial markets to improve. Covad Communications Corp., the CLEC offering digital subscriber line (DSL) service, has filed for an IPO of up to $143 million, and according to Sprint Communications Co., it will offer some of Sprint PCS to the public in a $600 million IPO. Covad could not do that deal today, but is positioning itself to be ready to do so when the market turns up, analysts say.
John T. Mulqueen is a freelance writer based in New Rochelle, N.Y. He can be reached at jtmulque@atgnet.com.
