Entries in Deals - CLEC (5)


Birch Continues “Tuck-In” Acquisition Strategy in Florida

Georgia-based CLEC Acquires Operating Assets from AstroTel

Atlanta, Georgia-based CLEC and managed services provider Birch Communications announced on January 3rd that it has signed a definitive agreement to purchase the operating assets of AstroTel, a Sarasota, Florida-based CLEC. Through the deal, Birch will acquire AstroTel’s IP-based network that spans multiple cities along Florida’s West Coast.

Birch kicks off the New Year utilizing a growth strategy that it has stuck with for the past five years: using M&A to expand its private, IP-based network and to extend the reach of its services. Birch offers IP-based communications services in 38 states and has implemented a “tuck-in” acquisition strategy through which it targets properties that will expand its IP network near its current footprint and increase customer density in its existing markets.

While Birch’s roots are as a local telephone provider and long distance reseller, the company has since moved into managed communications and IT services, which it delivers to small and medium-sized business customers over its private IP network. Since 1997, Birch has grown its client base from 100 customers to over 100k customers, primarily through acquisitions.

The AstroTel deal represents Birch’s 14th acquisition since 2006, and its second Florida-based purchase in recent memory. In October 2011, Birch closed on a deal to acquire the assets of Orlando-based CLEC Cordia Communications for $8m.

A home state is not the only characteristic that Cordia and AstroTel share.  AstroTel, like Cordia at the time of its acquisition, has been operating under Chapter 11 for the past year.  It filed for bankruptcy protection in early-2011, reporting only $325k in assets and $675k in debts. AstroTel’s Chapter 11 filing coincided with an antitrust lawsuit that the CLEC brought against Verizon, in which it claimed anticompetitive actions on behalf of Verizon that included illegal cross-subsidizing of unregulated Internet services and intentional impairment of services to AstroTel subscribers. AstroTel’s lawsuit against Verizon is still pending.

While financial terms of the deal have not been disclosed, based on AstroTel’s distressed financial position, Birch likely picked up AstroTel’s assets at a discount. Over the past few years, the CLEC deals we have observed involving companies in Chapter 11—including Birch’s purchase of Cordia—have carried an average price tag of 0.2x revenue. According to its bankruptcy filings, AstroTel generated approximately $1m in revenue during 2009 and 2010.

While the AstroTel purchase marks Birch’s first deal of the year, odds are that it will be the first of many deals for the company in 2012. In June, Birch secured $77.5m in debt financing to help fund future acquisitions and network development. 


HickoryTech to Pay $28m for IdeaOne Telecom

Fargo-based CLEC Sells at 2.3x Revenue

HickoryTech (Nasdaq:HTCO) announced today that it has entered into an agreement to acquire IdeaOne Telecom Group, LLC, a Fargo-based CLEC and fiber network provider. The Minnesota-based ILEC will pay a reported $28m in cash for IdeaOne, in a deal that is expected to close by the end of 1Q12.

During its 3Q11 earnings call in November, HickoryTech continued to beat the business and broadband drum, and its purchase of IdeaOne supports the company’s strategy to expand services in both areas. Through the deal, HickoryTech will add 225 fiber route miles and 650 on-net buildings to its current fiber network in North Dakota, and will gain a customer base of 1,900 business and 1,700 residential customers.  

In addition to voice and Internet services, IdeaOne offers hosting, colocation, and data networking services to its business customers, utilizing a fiber network that includes multiple 10 GB fiber rings in and around Fargo. The acquisition deepens HickoryTech’s fiber footprint in the region and complements its ongoing $24m fiber build, that once completed will extend from Brainerd, Minnesota to Fargo.

On a conference call earlier today, John Finke, ceo of HickoryTech discussed the appeal of the North Dakota market, and shed some light on the capabilities that IdeaOne will provide. “There’s a lot of growth (in Fargo). The Fargo market has continued to expand due to the oil businesses. There is very low unemployment there, in the 3% range, and there are a lot of businesses which are expanding. When we built the route in 2010 to Fargo, really it was on a long haul basis to connect to the Fargo market place. We’ve been working with other providers in this market, like IdeaOne, to actually do the last mile termination to customers, so this will give the ability for us to own that last mile network all the way to the customer.”  

Financially, the acquisition will further shift HickoryTech’s revenue mix towards business and broadband services, which during 3Q11 accounted for over 70% of its top line. IdeaOne reported revenue of $11.1m in 2010, 85% of which was generated from business services, and it projects revenue of $12.3m in 2011. The deal will be accretive on a free cash flow basis for HickoryTech as IdeaOne expects its cash flow margins to be in the 40% range for 2011, while HickoryTech’s margins have been just shy of 27% over the past three quarters.

Despite the immediate margin improvement, the company does not expect significant future cost synergies from the deal, as it plans to invest more in Fargo in the coming years. Carol Wirsbinski, coo of HickoryTech, also indicated that integration costs are expected to be insignificant and will be spread over 4Q11 and 1Q12.

At a price tag of $28m, HickoryTech will pay around 2.5x IdeaOne’s 2010 revenue in the deal, but with IdeaOne’s top line projected to have grown 10%-11% YoY, the deal’s run rate multiple should be closer to 2.3x. From a cash flow perspective, the deal will be done at 5.8x projected 2011 OIBDA.


PAETEC Deal Clears Key Hurdles

Shareholders Approve Deal, City Opposition Withdrawn

Since we last looked at Windstream’s (Nasdaq:WIN) pending $2.3b PAETEC acquisition on TDA, the deal has received key regulatory approvals, and Windstream has navigated some key opposition to the purchase, keeping it on track for its late 4Q11/early 1Q12 close.

In late August, PAETEC announced that it had received notice from the Federal Trade Commission of early termination of the waiting period for its merger. And on October 30th, PAETEC shareholders voted overwhelmingly (99% approval of voters present) to approve the deal, through which PAETEC stockholders will receive 0.460 shares of Windstream common stock for each share of PAETEC common stock.

While Windstream sailed through the FTC and PAETEC shareholder approvals, garnering support from PAETEC’s hometown, Rochester, NY, and New York state proved more difficult (and costly). On September 29th, the city decided to wage war with Windstream, filing its formal opposition to the PAETEC deal with the FCC. The subject of the complaint: concern that Windstream would renege on a PAETEC commitment to relocate its headquarters to downtown Rochester.

This past January, Arunas Chesonis, ceo of PAETEC, along with then mayor of Rochester, Robert Duffy, signed an agreement that would see PAETEC construct its corporate headquarters in downtown Rochester, creating what would be the flagship building in the city’s redevelopment. In what was dubbed “The PAETEC Project,” Rochester invested $60m of state and city funds to create a shovel-ready building site for PAETEC. In return, PAETEC's commitment was to construct a new building, to move existing jobs downtown, and to occupy the 225 square foot facility for 20 years. To fund the construction, PAETEC committed to obtain $34m in loans and use $5m of its own equity.

When Windstream announced its merger with PAETEC in August, the initial reaction in Rochester was that “The PAETEC Project” was dead before it even started. After Chesonis confirmed that 800 Rochester-area workers would lose their jobs post-merge, it became even more evident that Windstream didn’t plan to make good on PAETEC’s commitment. As job threats loomed, animosity towards the deal built.

The city filed its comments with the FCC and the New York public service commission, arguing the deal would adversely impact Rochester residents. US Senator Charles Schumer joined the city, putting pressure on Windstream to honor PAETEC’s commitment. Initially, Windstream and PAETEC fired back at city and state’s criticism, filing a joint response to the FCC.  The pair argued that concerns about the city and job losses were not within the FCC’s power to review, and that efficiencies (job losses) are created in every merger and couldn’t be used to block the deal. Political pressure however mounted, and Windstream decided to compromise.

At a press conference Monday, Windstream ceo Jeff Gardner announced that the company will move 335 employees to downtown Rochester. It will occupy 67k square feet of office space under a 15-year lease with annual payments around $1.2m, compared to the initial PAETEC agreement of a 225k square foot building and a 20-year lease.  

The city subsequently withdrew its complaints from the FCC and New York Public Service Commission. While Gardner maintains that the agreement to stay in Rochester was not a political move, the lease agreement included a stipulation that the city withdraw its complaints and support Windstream’s efforts to get regulatory approval. The New York Public Service commission is set to weigh in on the deal during its session on November 17th.

With the end of the regulatory hurdles in sight, the real work for Gardner and Windstream is set to begin after the deal’s close. Both Windstream and PAETEC turned in lackluster 3Q11 results, and Windstream has set aggressive cost synergy targets following the deals close—$50m in the first year and $100m per year after three years.

PAETEC reported a loss of $17.1m in 3Q11, on revenues of $536.3m. While its revenue was up 31% YoY in 3Q11, the gains were due to its acquisition of Cavalier Telephone. PAETEC, like Windstream, has generated top line growth through M&A in recent years, but the company has been in the red since 2007. In that time frame, PAETEC has spent $2.65b on its six acquisitions, but the deals have not benefited PAETEC’s bottom line.

We recently reviewed Windstream’s 3Q11 results in Phone Numbers, and the story once again was: where’s the growth?  Pro forma revenue was down at Windstream YoY in 3Q11 to $1.02b, as earnings and operating margins dropped as well. Acquisition and merger related costs, not cost synergies appear to be having the largest impact on Windstream’s earnings.

The struggle and compromise between the city of Rochester and Windstream reveals just how difficult (and ugly) a road Windstream has ahead of it in order to meet the $100m cost savings it projects. Windstream is set to invest around $18m into the Rochester development, and take on around $1.2m in annual lease payments—costs it had not factored in when projecting the PAETEC deal’s synergies. And while the city’s opposition to the deal was ultimately withdrawn, the root of the city’s complaint and the main driver of the deal’s synergies— the loss of 800+ jobs at PAETEC—is still likely to occur.


NetTALK Adds Revenue Streams with Data Center Purchase

VoIP Provider to Offer Cloud Hosting and Managed Services

NetTALK.com (OTCBB:NTLK.OB) is diversifying its services once again. A provider of VoIP services and products, netTALK.com has purchased a 22k square foot data center in Miami from Core Development Holdings Corporation for $2.7m. The Miami-based company’s acquisition is the most recent purchase in an extremely active data center market. Perhaps the most strategic asset included in the deal is a 150-foot, 4G enabled cell tower that will complement netTALK’s new business venture into wireless.

A registered CLEC in over thirty states, netTALK was founded in 2008 using a similar business model to the more publicized MagicJack. Its flagship device, the DUO, allows customers to connect their phones to the Internet from a computer, or directly through a router—a feature MagicJack lacks. NetTALK charges about $70 for the DUO and $30 per year for service—which includes unlimited voice minutes. While its annual revenues will likely surpass $2m in 2011, up sharply from just under $600k in 2010, the company continues to operate at a loss. Through adding new revenue streams, netTALK aims to reverse this trend.

NetTALK’s entrance into the data center space marks another move in its strategy to diversify its revenue streams. The CLEC recently inked a multi-year deal with wireless wholesaler LightSquared to gain access to its 4G-LTE network. NetTALK plans to brand and sell its own wireless voice and data packages to complement its wireline VoIP offerings.

In the Miami data center, newly named the netTALK Cloud Center, netTALK acquires a property currently occupied by major players in telecom—Sprint Nextel Corp, Fibernet, Qwest/CenturyLink, AT&T Wireless and Verizon Wireless among others. In addition to operating the data center and providing cloud hosting and other managed services, netTALK will also use the property to provide connectivity for its wireless customers, courtesy of the data center's 4G enabled cell tower.

"Building on our recently-announced multi-year wholesale agreement with LightSquared, this facility provides us with additional capacity, power efficiencies and equipment such as a high-bandwidth antennae, which are key to our strategic growth plans, current and future, including television and wireless 4G transmissions,” commented netTALK President Anastasios Kyriakides.

NetTALK is attempting to replicate in wireless what it already offers through wireline—low cost phone service to customers anywhere in the United States and Canada. In the next year, it will add wireless voice and mobile broadband to its arsenal of services thanks to its LightSquared agreement and cell tower purchase. According to Kyriakides, the company is also developing a television product—netTALK TV—that will round out its triple play offering.

NetTALK’s $2.7m acquisition is the most recent purchase in an active data center market. Telx, a leading data center operator, announced in early August that it agreed to be purchased by two private equity firms in Boston, while telcos TDS and Centurylink finalized their acquisitions of OneNeck IT Services and Savvis in July. NetTALK recently confirmed to JSI Capital Advisors that it plans to expand its data center footprint in the future. 

The opportunity for growth in data centers explains why many buyers are surfacing. According to Tier1 Research, revenue generated by data center operators will reach $8.1b in 2011, up from $5.7b in 2009—a 42% increase over two years. For netTALK, its data center purchase could prove even more beneficial, providing it not only with revenues from network operations and cloud hosting, but with wireless revenues as well.  


Birch to Acquire Cordia Communications for $8m

Bankruptcy Lowers Deal Price to 0.1x Revenue

On May 2, 2011, Cordia Communications filed for Chapter 11 bankruptcy protection, and company management announced its intent to sell its CLEC assets--nearly 56,000 residential, business and broadband access lines scattered over 24 states.  While Cordia expected multiple bids, only one was received: Birch Communications’ $8m offer was approved by a Florida bankruptcy judge on July 18, with the deal set to close in 4Q11. The Florida-based Cordia offers traditional wireline local and long distance phone, and also generates significant revenue from VoIP services.

Birch’s acquisition of the financially troubled company is not surprising, given its own familiarity with the bankruptcy process.  Birch was founded in 1997 as a local and long distance reseller and five years later declared bankruptcy—its first of two trips to Chapter 11.  The company emerged from bankruptcy later in 2002, only to make a second visit in 2005. In 2006 Birch exited bankruptcy for good, and was purchased by Atlanta-based Access Integrated Networks (AIN) in 2008.  AIN subsequently took the Birch Communications name.

The make up of Birch today is much different than that of the telco of 1997.  It still offers local and long distance phone services, but now provides managed communications and IT services for small and medium-sized businesses.  Birch has grown revenue 152% from $65m in 2006 to $165.4m in 2009. Given its aggresive acquisition strategy over the past year, recent revenue estimates of $200m in 2010 are within reason. 

Birch has been on a spending spree of late, making purchases as part of its “tuck-in” acquisition strategy.  The strategy targets properties that can serve two purposes: generate immediate revenue, and expand its network, which now extends across 38 states. The Cordia deal is Birch’s fourth acquisition since Sept 2010, and by far the largest.  Its three other buys—American Fiber Network, Freedom Communications USD, and CloseCall America—added a combined 60k access lines compared to Cordia’s 56k. 

While Cordia was the largest of Birch’s recent acquisitions—given that bankruptcy deals generally translate into fire sales, it was most likely  the cheapest as well. Let’s take a look at the deal's numbers.

Cordia may have entered Chapter 11 on May 1, but its financial woes were evident long before then.  A glance at its past financial statements show that its current liabilities have been double the amount of its total assets since early 2009, and the company has been operating at a loss since 2007.

Annual revenue for Cordia however was sizable at $60.6m in 2010. With a purchase price of $8m, the deal was done at a sharply discounted 0.13x revenue multiple--indicative of Cordia’s financial distress. For a comparative deal, I had to look back to October 2010, when Lightyear Network Solutions acquired the bankrupt-CLEC SouthEast Telephone, Inc. That deal’s multiple of 0.2x was consistent with what Birch paid. Though details of Birch’s other recent purchases are undisclosed, we can safely assume that it paid higher multiples.

Despite Cordia’s historical financial struggles, the purchase will grow Birch’s top line to over $250m annually. Birch is confident that its team can leverage past experiences and seamlessly transition Cordia into its operations. "We've gotten very good at integrating new customer bases into our systems and not increasing our costs," Greg Corwin, Birch Communications’ spokesman stated. "We run a tight ship."

I suppose emerging from Chapter 11 is just like anything else, practice makes perfect.