The Level3/TWTC Deal Reverberates Around the Sector

June 16th, 2014 by · 32 Comments

The proposed combination of Level 3 and tw telecom is going to change a lot of the current rules of the road in competitive infrastructure. Here are a few thoughts as to some repercussions, feel free to add your own below in the comments:

  • On Icahn and XO: I’ve always thought tw telecom could use XO to plug a few holes, and many have argued that Level 3 might take them out just to clean up the remaining fiber IRUs XO had on their original footprint. Both deals are probably quite a bit less likely now, so if Icahn was still waiting for the right moment to sell, it has probably passed. If not, and XO has finished reorganizing internally and is ready to rumble organically, then with Level 3 and tw possibly distracted they may get a chance to show it.
  • On Zayo — tw telecom was never really a target for Zayo, they were more of a customer. So Caruso & company probably aren’t too upset, although Level 3 might be less interested in further swaths of the dark fiber tw telecom leased from Zayo late last year. Zayo has been rumored to be planning an IPO later this year. If anything, I think the greater interest in the sector this deal and reduced number of options for investors to invest in it may create could enhance such an event.
  • On Sprint wireline — With its EBITDA dwindling and two potential buyers/JV-partners now busy elsewhere, if Sprint wants to sell its wireline biz they probably have only CenturyLink to talk to now, or maybe (maybe) Windstream.
  • On other metro/regional fiber acquirers — Could this deal prompt further consolidation amongst the likes of Zayo, Lightower, FiberLight, Integra, Alpheus, Lumos, Telepacific, Earthlink, etc? While they all talk to each other all the time, the shift will probably at least get them talking again.
  • Will Verizon, Comcast, or any of the big guys sit up and take notice? Actually I bet they will. But at the same time, I don’t think they’ll change what they are doing very much.
  • Regulatory hurdles – I can’t think of any way the FCC or DOJ could object to this deal.  With the Comcast/TWC and AT&T/DirecTV deals in the wind, they’ve got enough actual issues to worry about.
  • Level 3’s European ambitions – These may pull back temporarily, but I don’t think by much.  If an opportunity like Colt became available, the lack over overlap with the US would make it doable and I think they could probably raise the money without much issue in the current environment.

Any other initial thoughts out there?

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Categories: Fiber Networks · Government Regulations · Mergers and Acquisitions

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32 Comments So Far

  • davidrohde says:

    I agree that L3/TWT puts together an intercity fiber leader with a metro fiber leader, and tends to combine a player more known to large enterprise with one that’s been mid-sized oriented. Level 3 also has much more play in enterprise with SIP trunking than TW Telecom. That’s a foot in the door that TWT has needed. The big question is whether Level 3 can leverage and then continue TWT’s momentum in success-based capex for on-net access lines, key to any big new customer, or whether Level 3’s debt overhang and the deal price will make them pull their punches in further metro builds.

    • Rob Powell says:

      The potential in SIP trunking paired with TW’s mid-sized customers is a nice point, thanks!

      • I think what made TWT so successful was a single minded focus on just doing fiber – like Zayo. No distraction with Voice and Managed Services and the like.

        My fear is that the integration, layoffs, etc. will destroy the success that TWT has. I don’t see how the problems that L3 has will be fixed by one more integration.

  • Anon says:

    I am no longer an investor in L3 but if I were I would hate this deal, or at least hate it right now. L3 seemed to have finally righted their ship financially but I wanted to see at least a couple more quarters of stability.

    If I were an investor I would also be worried about the integration. TWT is set up in local markets where most of the knowledge is local and not centered anywhere. This is going to make it tough to integrate and L3 is going to have to make some decision about integrations for savings vs operational efficiency.

  • davidrohde says:

    You bet integration is going to be key. Level 3 has come a long way from the days when they would regularly foul up merger integrations. But for the enterprise market this is their biggest test since they bought Broadwing seven years ago & didn’t handle it well out of the gate. Ultimately though Level 3 needs a lot more last-mile and metro fiber to make the economics of national enterprise bids pay off for more than specialized services like SIP Trunking on the centralized model.

    • Rob Powell says:

      2007 almost seems like a lifetime ago, doesn’t it? I think both companies have an appreciation of the importance of growth over synergies right now. It helps that nobody is burning cash and therefore desperate for the synergies to show up in the short term. They can hopefully take the time to do it right. Not that it will be easy by any stretch of course.

      • davidrohde says:

        Yes it is; point being that there are only so many of Level 3’s acquisitions that truly affect its ability to compete with AT&T and Verizon for enterprise business and this is the biggest one in years. Level 3’s capex-to-revenues ratio has not been aggressive as they’ve been attempting to satisfy shareholders. By contrast TWT has had a way of saying, our leadership in buildings & Ethernet builds on itself because we can more easily justify capex for new customers with other buildings nearby. Level 3 needs to be able to adopt this. I think we agree per the investor’s skeptical comment above that this is nevertheless the most logical move for Level 3 at this time, if they keep their nose to the grindstone and pull it off. Enterprises buy based on facts on the ground, not promises and potential.

  • NC dude says:

    Can someone explain with the debt, how does Level 3 come up with 7 billion dollars?

  • Robert says:

    Are you asking how does Level 3 come up with 7 billion with their existing debt? If that’s what you’re asking, I can provide some insight. When determining if a company is a credit risk, the creditors look at the company’s Debt/EBITDA ratio. The lower the ratio, the better positioned the company is to pay it’s debt. With this acquisition, Level 3 is actually lowering it’s Debt/EBITDA ration after it’s complete. They’ll actually be in a better position debt-wise after the purchase than before.

  • Anonymous says:

    any chance the combined Level 3/Tw lobby to retain cable company assets. They both have large existing markets that are all on cable fiber assets set to expire in 5 years or so. Maybe then get into dispute on Comcast/TW merger and ask for relief and continued use of Fiber

  • davidrohde says:

    My initial post on my own blog for business customers deals with the direct enterprise impact – TWT’s metro assets do kind of need to be in a place where it will get more attention from large brand-name enterprises. Commenters here are right that Level 3 is pulling this off financially (as it did with Global Crossing) by ratio analysis – in plain English that TWT brings as much or more profitable revenue as it does in debt. And LVLT’s CIO has been a wizard at restructuring debt in the current interest rate environment. But that doesn’t mean that the overall level of debt isn’t a concern – especially if Level 3 has to siphon off capex dollars that would have kept up TWT’s metro momentum. You can’t just leave your last-mile footprint static, it has to grow with customer wins as TWT itself learned and as I explain, thanks all

  • Frank Pabernoa says:

    Fibertech – this transaction imo makes fibertech more valuable to a Zayo like player and or to someone like Windstream who is looking to round out fiber assets in the northeast where paetec had minimal footprint. I would think this asset will go in the next 18 months.

    Telepacific – decent position as the incumbent in a few states, a very early cloud services business (if you can call it that) challenged by a poor B/OSS makes this a less attractive take out target but could pose a possible ideal strategy play for a smaller tier 2 player like Integra looking for critical mass to become a target. I doubt EarthLink would be able to convince its board that this play is the right next play for them b/c they seem busy coaching up their new ceo.

    Alpheus – look for smaller regional player to target this asset for its customer and fiber capabilities like an integra.

    EarthLink – No chance this activity raises the take out likelihood of EarthLink as its commonly understood that they have way too many integration issues to still address before they can become a possible target. Even still if they became a target who would want their assets? they have essentially nothing differentiated except for maybe the old IFN network in the southeast and talk on the streets is they are shopping their southeast network. Not sure what their end state is but good luck ….

  • davidrohde says:

    I’ve now posted a follow-up on my blog called “Can Level 3 really afford to buy TW Telecom?” In league with the answers here on the debt-to-EBITDA ratios, but with additional commentary on the dangers of limiting capex in service of this goal given the very reason for Level 3 coveting TWT’s footprint. Thanks Rob for allowing me to link here. As a reminder, I and my colleagues are consultants working exclusively for enterprise buyers of telecom and IT services from carriers and networking vendors.

  • Morty says:

    David Rhode—-LVLT will have 300 mil in positive FCF in 2014—-that will bring their cash on hand to 900 mil . TWTC comes with about 350 mil in cash —total is 1250 for lvlt yr end.
    LVLT has a substantial amount of debt becoming callable next yr . 605 mil is callable on 2/1/15,this has an 11.875 coupon . It will save lvlt 66 mil in int exp in 15 & another 6 in 16 . They have 475 mil in 7% converts with a strike price of 27. These mature on 3/15/15 & reduce int exp by 27 mil in 15 & about 6 in 16 . There are 3 more callable issues in 15 & 3 in 16 .LVLT can reduce int exp by 130 mil in 2015 & 60 mil in 2016 . It is a pretty good bet that lvlt on a standalone basis will have 500 mil in FCF in 2015 .
    I should note that TWTC is FCF positive . Bottom line,LVLT has no problem re funding the acquisition & with a successful acquisition,could have 1 bil in FCF in 2016 .

  • Morty says:

    To clarify—I expect them to pay off the 605 mil from cash on hand .

  • Morty says:

    I might add that approximately 3/4 of the 7.3 bil is being paid in LVLT stock .

    • beetlejuice says:

      Ahh now there is the LVLT we all love, dilute the piss out of your stock to pay it forward.

      Time Warner has always been fiercely loyal family and great place to work according to employees I talk to. They are in for a bumpey ride that is for sure. My condolences to all

      • Bricktop says:

        I completely agree with your comments beetlejuice. The TW employees are in for some shock treatments at the hands of Level 3 management.

  • Anonymous says:

    It will be interesting to see how the quarter looks for twtc. Being an insider lets just say it was obvious on the all-hands call and we are getting regular calls from prospects and customers saying they want to reconsider those contracts. Even if they still go with us the next month they are not stupid. They all know Level 3’s reputation and it gives them pause.

    Being at tw these last years was like being sheltered from the rest of the telecom world and its neuroses. slow but steady predictable growth, no layoffs, technology that kept up, thoughtful and good pace of releases, unique products to sell, decent market support, a really solid story to tell any prospect, customers that liked us, people at corporate that would actually help us, on a first name basis with the C’s, you name it.

    Don’t kid yourselves from the all hands call that all ended Monday even if you don’t realize it yet. Lots of people have come from Level 3 or other similar places over the years,,, and the grass is greener because there is a leaky septic tank just under the surface.

    • Robert says:

      That’s funny. Being on the “other side” has been a positive experience for me. Coming from 2 of the largest CLECS over the past 6 years, I am extremely pleased with where I’m at today.

  • anonymous says:

    As I said in another forum: TWT has been a jewel in a sea of mediocrity. The market will settle into just a few players and we can expect that innovation will go out the window. Many markets will find very few competitive options. Prices will rise and I suspect price fixing will surface in those markets where there is only two providers. The breakup of AT&T has been reversed. Due to the relentless consolidation many will have to leave the telecom business. Many years of developing skills and experience will not easily transfer to another industry. I don’t see XO ever climbing out of their hole to become a real player. A dark vision coming true.

    • anonymous says:

      And another thing: couple this comment with the real possibility that net neutrality becomes a thing of the past and now the world as we know it in the US telecom market is a historic relic. Large rules. Time for a vastly new approach to communications I think.

    • anonymous says:

      I would agree.

  • telecom guru says:

    I predict Google to purchase Level 3 within 2 years. Mark my words!

    • Anonymous says:

      That’s been a prediction for years. There could be a great fit with the fiber and bandwidth itself, and maybe even synergy in having a CDN/video outfit in tow; but the service portfolio, my god…

      I just don’t see how such an innovative titan would choose to debase themselves so much in the sewer of an infrastructure-based network provider, selling voice lines and waves and never-ending offnet access disputes and DIA to Enterprises (well, okay maybe that one makes some sense), some of the most boring and clunky product lines one could possibly imagine. Running a network company and service line is really nasty, dirty business compared to building software and platforms. Maybe they could sell most of it off and just keep the backbone, CDN, and cloud access type items.

      You also have to assume a Google-run network would want heavy automation and virtualization. And Level 3 has shown little to no ability to integrate their architecture (don’t give me that crap about them saying they did it with all the others they bought – they didn’t) which would be a pre-req.

      But stranger things have happened. Like Time Warner rolling over.

  • I didn’t understand how did how Level 3 come’s up with 7 billion dollars?

  • Crowe the Charlatan says:

    That’s right!

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