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Qwest CEO pressured to buy assets
Telecom analysts recommend aggressive acquisition strategy
By Jeff Smith
Rocky Mountain News
Wednesday, August 22, 2007

New Qwest CEO Ed Mueller's honeymoon promises to be a short one as pressure mounts to be more aggressive on the merger and acquisition front.  It's not his only challenge, by any means.  But questions are growing more insistent about how successful Qwest can be as a stand-alone telecommunications company if it doesn't move to increase revenues through acquisitions as well as from internal operations.

"I think they need to be (more aggressive)," said Donna Jaegers, a telecommunications analyst with Janco Partners in Greenwood Village.

Mueller, 60, a telecom veteran who most recently served as chief executive officer of specialty retailer Williams-Sonoma, said last week that Qwest needs to build revenues, which have been flat at about $14 billion a year.

Boosting revenues from within could be tricky because of the competitive challenges facing Qwest from cable-TV and wireless companies, the losses in its traditional landline business and economic uncertainty.  There already is evidence that problems in the housing market are exacerbating line losses.

Mueller isn't expected to develop a full strategy for several months.

But in interviews last week, he said he is here to run a company, not groom Qwest for a sale.

He mostly reiterated predecessor Dick Notebaert's views on fiscal discipline.

Mueller indicated he's happy with the DirecTV alliance and doesn't plan to invest heavily in a fiber buildout to offer television services.

He said he wants to continue to reward the company's shareholders, which could mean another stock buyback and/or the first dividend since 2002.

And he said he would seek to be "opportunistic" when it comes to mergers and acquisitions.

Qwest could get a much-needed revenue boost from being awarded a piece of the government's multibillion-dollar Networx telecommunications program.  But the telco still must bid for contracts with individual government agencies.

More assets could help

At some point Qwest -- or pieces of the company, such as its fiber-optic network -- might interest AT&T or Verizon.  But most analysts believe it's more likely that Qwest will have to go out and do its own deals to improve its competitive position.

"There's no headline-grabbing deal, but there are some small assets out there that could reduce their costs," Chris Larsen, a telecommunications analyst for Credit Suisse, said in an interview a few days before Mueller was named.

The most logical next step for Qwest is to buy assets, agreed Ray Gifford, former Colorado Public Utilities Commission chairman and head of the law firm Kamlet Shepherd & Reichert in Denver.

A sale to a private-equity firm seems nearly impossible in Gifford's view because he thinks state regulators would block it, fearing the buyer would just hike debt and crimp capital expenditures.

Mueller has a lot of experience integrating operations, such as Pacific Bell with SBC Communications.  He also is a director of a newly organized acquisition company.  But it remains to be seen how good he'll be in identifying and evaluating possible acquisition targets.  He could bring in someone to do that for him.

Jaegers has long been of the view that Qwest needs to acquire assets that will boost traffic on its nationwide fiber-optic network.

Possibilities include Virginia-based XO Communications and Douglas County-based Time Warner Telecom, both of which provide communications services to businesses.  But Time Warner Telecom's stock has enjoyed a strong run, and the company may be too expensive.

Embarq, a Sprint spinoff that is the local phone provider in Las Vegas and in parts of the Southeast and Midwest, also has often been listed as a possible merger partner.  There was speculation that its CEO, Dan Hesse, was a possible candidate to succeed Notebaert.

But Embarq is similar to Qwest in terms of vulnerable local landline assets, "although girth sometimes helps when you're slowly starving," Jaegers said.

Or Qwest might contemplate acquiring or merging with a long-distance fiber-optic rival, such as Global Crossing or even Broomfield-based Level 3 Communications.  But Level 3 CEO James Crowe seems determined to remain independent, and Jaegers said she doesn't think Qwest would want to take on Level 3's nearly $7 billion in debt.

Qwest tried to buy MCI

Under Notebaert, Qwest made a run at MCI that some think was more a public relations effort to put Qwest back on the map.  Qwest also bought a small fiber-optic company called OnFiber for $107 million.

But it was Level 3 and Time Warner Telecom that did the big deals.  Level 3 snatched up a half-dozen local, regional and national communications networks.

While critics said Level 3 overspent for some of those assets, others say Qwest missed out on opportunities.  One big problem, analysts say, is that Qwest doesn't have the stockholders willing to take on as much risk or dilution of their shares.

The more conservative view has been reflected in recent analyst notes about Mueller.

For example, Kevin Coyne, a bond analyst at Goldman Sachs, liked that Mueller reiterated many of Notebaert's sentiments about fiscal discipline.

Coyne wrote that the key risks would be pursuing a fiber buildout of its network, introducing a large annual dividend or making an acquisition financed primarily by debt.

But if Mueller can't increase revenues internally, he might have no choice but to get more aggressive.

Phil Weiser, professor of telecommunications law at the University of Colorado, said Qwest's recent $2 billion buyback could have been used for strategic investments instead.  And he hopes that Mueller, with his background in retail, has a broader view.

If Qwest were just a seller to AT&T or Verizon, "in a sense it would be more of the same," Weiser said.  "In my viewpoint, society would be better served by some experimentation.  Qwest is in the position to try things out, take some risks.  But first there needs to be a strategic vision of what (kind of) acquisition can get you there.  Certainly they have some constraints, but they also have the opportunity to think differently."

Potential targets?

Here are some bigger companies that could be Qwest merger candidates:

Embarq  -  Kansas-based Embarq, a Sprint spinoff, is a communications provider in Las Vegas, the Southeast and central U.S.
  2006 revenue: $6.4 billion
  Market cap: $9.1 billion

Global Crossing  -  Bermuda-based fiber-optic network operator
  2006 revenue: $1.8 billion
  Market cap: $654 million

Level 3 Communications  -  Broomfield-based Level 3 is a fiber-optic network operator.
  2006 revenue: $3.4 billion
  Market cap: $7.3 billion

Time Warner Telecom  -  Douglas County-based business communications provider
  2006 revenue: $812.3 million
  Market cap: $2.8 billion. Revenue will top $1 billion this year, after acquisition of Missouri-based Xspedius.

XO Communications  -  Virginia-based XO Communications is a business communications provider, with broadband wireless networks.
  2006 revenue: $1.4 billion
  Market cap: $620 million

Windstream Communications  -  Arkansas-based provider of residential and business telecommunications services to mostly rural areas in 16 states.
  2006 revenue: $3 billion
  Market cap: $6.4 billion or 303-954-5155,2777,DRMN_23910_5679328,00.html