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Report sees Qwest as a buyout lure
The once-troubled telecom has had five consecutive quarters of profit but still sits on a mountain of debt.
By Andy Vuong, Staff Writer
Denver Post
Thursday, May 3, 2007

After years of reducing debt and growing cash flow, Qwest has emerged as a possible candidate to be bought out by a private-equity firm, according to a recent report by JP Morgan.

A deal to take one of Colorado's largest public companies private could be worth $33.7 billion, the report estimates.  It assumes a transaction price of $10.26 a share, a 15 percent premium over Qwest's close of $8.92 on April 16.  The amount of cash needed to close such a deal: $4.9 billion.

"Based purely on financial analysis, it's a very strong candidate" to be acquired, JP Morgan telecom analyst Jonathan Chaplin said Wednesday.

Other analysts, however, say a buyout is unlikely at this point because Qwest, despite its improvements, is still highly leveraged.

"The analyst that's promoting that idea seems to be ignoring the fact that Qwest already has $14 billion of debt on their balance sheet," said Janco Partners analyst Donna Jaegers.

Denver-based Qwest has $14.9 billion in debt, down from $26 billion in 2002, and $1.1 billion in cash and short-term investments.

The company, which provides phone service in 14 states and operates a fiber-optic communications network, reported first-quarter earnings of $240 million Tuesday, its fifth straight quarterly profit.

Qwest has forecast that it could generate as much as $1.8 billion in free cash flow this year, up from $1.4 billion in 2006.

Qwest chief executive Dick Notebaert declined comment about any possible leveraged buyout.

"You know I'm not going to answer that," Notebaert said in an interview Tuesday.  "But it was a good question."

Notebaert stands to receive $63.5 million if Qwest is acquired and he isn't retained, according to a regulatory filing.

In addition to its improved balance sheet, interest in Qwest could hinge on the outcome of the "net neutrality" battle between network operators and Internet content providers.

Internet companies want Congress to enact laws to prevent the telecoms from having tiered pricing for access to their networks.  If they lose, online firms like Google and eBay might look to acquire a network operator such as Qwest rather than deal with escalating prices.

Winning the net neutrality battle "would raise the value of the telecom providers in one of two ways," said Colby Synesael, a telecom analyst with Merriman Curhan Ford & Co.  "One, they're simply going to be able to charge more money and therefore get more margin and revenue from what's obviously a very fixed-cost business.  Or two, from a more strategic standpoint, some type of (merger) or partnership of some sort could be formed."

Because Qwest is generating cash that could be used to pay down the additional debt required for a leveraged buyout, a private-equity firm could acquire the company, hold onto it for a year or two and then cash out by selling to a deep-pocketed online company.

JP Morgan's buyout model on Qwest is based on an 85 percent debt-to-value ratio, with a private-equity firm raising $13.9 billion in debt on top of assuming Qwest's $14.9 billion in debt.

That ratio is aggressive for leveraged buyouts, which typically run around 70 to 75 percent, said Jerry Paul, a Denver hedge fund manager who specializes in merger arbitrage.

"Maybe high-yield bank loan markets would accommodate that," Paul said. "It's not impossible, but it's a stretch in the debt markets."

While the price tag could ultimately be higher than $33.7 billion because of the recent run-up on Qwest's stock price, private-equity firms haven't shied away from deals of that magnitude.

Kohlberg Kravis Roberts & Co. announced last month a $29 billion leveraged buyout for Greenwood Village-based First Data Corp.

Qwest stock closed Wednesday at $9.39 a share, up 28 cents.

Staff writer Andy Vuong can be reached at 303-954-1209 or