Agents See Strong Bell Rival in PAETEC-McLeod Pairing

PAETEC Holding Corp.s purchase of McLeodUSA Inc. appears to hold a number of benefits for agents, not the least of which is a footprint that creates a strong CLEC rival to the Bell system.

But as with any merger, some challenges await. Agent and analyst reaction so far indicates PAETEC likely will encounter problems with integration and financial projections.

Overall, however, the competitive service provider industry is very receptive to the $557 million, all-stock deal that was announced Sept. 17.

I think its the perfect East meets West footprint for facilities-based carriers, said Ken Mercer, senior vice president of Telecom Brokerage Inc. (TBI), a master agent for both McLeodUSA and PAETEC.

[PAETEC has] made great decisions on converging networks, said Andrew McCarty, principal/owner of Tech Valley Consultants, a PAETEC agent. This only can increase their productivity, quality of service and footprint.

We are looking forward to continued collaborative growth with the new combined company, said Jay Bradley, president of master agency Intelisys Corp., also a PAETEC agent.

Other agents find the timing interesting. [PAETEC has] only been public a short time. I find it funny they are already buying growth, said PAETEC agent Peter Radizeski, president of Rad-Info Inc.

Master agent Ted Schuman, CEO of PlanetOne, would have liked to see PAETEC complete the integration of US LEC, which it bought last year for a total of $1.3 billion, before taking on another company.

He said the integration of US LEC has been slow. Other agents like MicroCorps Scott Eaton, vice president of sales, disagree. They did such a great job with US LEC, and we expect the same with McLeod, he said.

Schuman added that PAETECs CEO, Arunas Chesonis, is a bright guy and has a talented, experienced staff, so I am sure if anyone can pull this off successfully, it is the PAETEC team.

PAETECs timing does seem fast indeed, given that it hooked up with US LEC barely a year ago. And yet, buying McLeodUSA probably was too tempting for PAETEC to pass up, said Current Analysis senior analyst Brian Washburn. Thats because McLeodUSA has struggled to re-emerge as the powerhouse it was at the beginning of the decade. Twice bankrupt, the CLEC decided earlier this year it would go public for the second time and continued introducing new services for agents to sell.

But McLeodUSA has languished in its SEC-mandated quiet period since the middle of March. Financial analysts told PHONE+ sister magazine xchange in August that when a company retains that status for more than a couple of months, something has gone awry either with financial expectations or investor interest, or any combination of factors.

Based on that alone, it might not seem immediately obvious why PAETEC would jump to buy McLeodUSA. However, there are a couple of key reasons why observers welcome the deal.

First, McLeodUSAs network which includes colos, fiber, routers and switches spans 18 states. Add that to PAETECs footprint that covers 52 of the top 100 MSAs and you get a CLEC that can stand up big-time to the incumbents.

PAETEC purchasing US LEC and then McLeod makes an incredible national CLEC, said Mercer. He said agents would no longer have to cut McLeodUSA from the list of contenders for bids involving Verizon and BellSouth regions or PAETEC from those involving Qwest and SBC territories. Now, as one company, they will get a lot more bids. Agents will have one powerful option again.

PAETEC also gets to make the most of McLeodUSAs brand recognition. The New York-based carrier plans to run McLeodUSA as a subsidiary, rather than incorporating it into its umbrella operations; speculation is that this will be the best way to retain a well-known brand.

However, PAETEC faces two main issues that could prove dicey: integration and money.

Integration hasnt been a big problem for PAETEC and US LEC, as the two companies share corporate cultures of employee care and fiscal responsibility, said Washburn. McLeodUSA, he explained, is different. With two bankruptcies in recent years, and a reduction in workforce from 2,500 employees in 2005 to 1,550 employees in 2007, and a turnover of its executive team and board of directors in mid-2006, let’s just say, not so much?

Mercer, who worked in direct sales at McLeod before becoming an agent, said another integration challenge will be cultural, explaining that while McLeod is very price-oriented, PAETEC positions itself as the Cadillac of telecom, pitching service and support. While he expects some changes in leadership at McLeod as a result of these differences, Mercer said ultimately he foresees some sort of compromise.

PAETEC staff has taken on the top posts of CEO, COO and CFO, according to a press statement, which did not address other executive positions.

Theres also the issue of PAETECs projections. PAETEC expects to gain $30 million in synergies and record mid- to upper-single digit growth, Washburn said. Those numbers strike him as conservative because it doesn’t look like they’re good enough to justify the purchase. Thats because McLeodUSA was on track to get hit with more than $30 million in operating and net losses.

PAETEC will have to do better than that, and I expect that they will do better than that, that they’re playing it safe by setting expectations low, said Washburn, who called McLeodUSA much more of a fixer-upper than US LEC.

Still, the deal looks like nothing but good for the ailing McLeodUSA and its agents. McLeodUSA gets its go-public wish (PAETEC went public through US LEC) and agents get a national CLEC.

Well now have nearly 4,000 employees and we plan to increase our presence into 82 of the top 100 MSAs in 2008, said PAETEC CEO Chesonis. With this combined footprint, we offer a compelling alternative to the legacy carriers.

Current Analysis Inc.
Intelisys Corp.
McLeodUSA Inc.
PAETEC Holding Corp.
PlanetOne Communications Inc.
Rad-Info Inc.

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