Up from Rock Bottom

Posted 11/01/2001

Up from Rock Bottom
Some Bankrupt Competitors Plan to Reemerge

By Josh Long

Several competitive carriers say they are poised to reemerge from Chapter 11 proceedings. However, the future of these companies appears to hinge on whether they can raise the necessary financing to issue equity and pay off secured creditors before submitting reorganization plans.

In August, Covad Communications Co.'s parent company filed a plan of reorganization that would abolish $1.4 billion in debt, and fixed wireless provider Teligent Inc. entered an agreement to buy the company's core business and related assets for more than $115 million.

Meanwhile, other companies, including ICG Communications Inc. and e.spire Communications Inc., say they intend to file reorganization plans and anticipate reemerging from the bankruptcy courts with a promising future. ICG and e.spire have received debtor-in-possession financing (DIP), which can be used to fund ongoing operations during the Chapter 11 proceedings. ICG has received $200 million in DIP financing from J.P. Morgan Chase & Co., while e.spire received $85 million financing, led by Foothill Capital Corp. and Ableco Finance LLC. e.spire chairman George Schmitt also was a lender.

From global carrier 360networks to DSL wholesale provider NorthPoint Communications Group Inc., a truckload of competitive carriers has filed for Chapter 11 protection with the U.S. bankruptcy courts during the last year.

Some companies have called it quits. NorthPoint, for example, folded its business operations and sold core assets to AT&T Corp. for $135 million. PSINet Inc., one of several competitive carriers to rack up billions of dollars in liabilities during the Internet gold rush, has entered into several agreements to sell its international assets. A spokeswoman declined to comment on PSINet's U.S. operations, however. And WorldCom Inc. received approval at a bankruptcy court auction to buy key assets belonging to DSL provider Rhythms NetConnections Inc. for $40 million..

Experts say many others are expected to follow in the footsteps of NorthPoint, Rhythms and PSINet.

"Most companies don't make it out of Chapter 11," says Tom Allen, an attorney at Columbus, Ohio-based Thompson Hine LLP, a law firm that has represented creditors in telecom bankruptcy cases. Allen says many companies use Chapter 11 as a vehicle to sell their assets and get out of their respective business.

But bondholders aren't likely to be happy as they watch their companies go under. These bondholders, who have invested billions of dollars in competitive providers, support reorganization plans for a few reasons.

For starters, some may have too much money at stake to call it quits. Investors likely will receive only a portion of their total investment in the company -- perhaps pennies or a few dimes on the dollar. For them, reorganization beats the alternative. If a company liquidates its assets, many creditors risk getting no return at all. But, under a reorganization plan, a company may issue creditors an equity stake in lieu of cash.

"They might take less than they are owed but that is better than just flushing it all down the toilet," says Ken Brunetti, an attorney handling bankruptcy law for Miller & Van Eaton, PLLC.

Plus, there remains great promise in telecommunications, including the broadband and the DSL market, says Chuck McMinn, Covad's co-founder and chairman. "People still want to get connected to the Internet faster."

McMinn notes that his company is signing up 1,000 customers each day.

Bondholders representing a majority of Covad's debt have agreed in writing to support a plan of reorganization that would eliminate $1.4 billion in long-term debt by 2002. The plan will require court approval.

Under the agreement, bondholders will exchange $1.4 billion in debt for $283 million in cash -- that's 19 cents on the dollar -- and a 15 percent equity stake in the company. Many bondholders did not purchase the bonds at face value; therefore they actually stand to make money, says McMinn.

Covad must raise $200 million by the first quarter of 2002 to fund the company to a cash-flow positive state by the third quarter of 2003, company executives say. At the end of the second quarter Covad had $524 million in its coffers, and it was burning through money at a rate of nearly $40 million a month. McMinn says the burn rate continues to decline as the company signs up additional customers.

The bankruptcy filing has not impeded Covad's operations because the provider's parent company, Covad Communications Group Inc., is the entity that declared Chapter 11. The bankruptcy filing does not affect Covad's daily operations, say company executives. Covad hopes to reemerge from bankruptcy in January. After the court approves a plan of reorganization and a disclosure statement, 50 percent of the company's bondholders and creditors representing 67 percent of the total debt must approve the reorganization plan. The latter guidelines also apply to other companies that seek to restructure their debt and leave the bankruptcy court.

Teligent, on the other hand, entered an agreement to sell the company's core business and related assets to a new company. Under the agreement, the new company will pay more than $115 million, subject to the completion of financing, for Teligent's core domestic fixed wireless business and assets with the aim of fully funding the current operations in 11 markets. Remaining assets will be sold as part of the bankruptcy proceeding. Teligent's COO, Jim Continenza, and its senior management team would lead the new company. Teligent had $1.5 billion in debt when it filed for Chapter 11 bankruptcy protection in May.

Teligent has sought authority through the bankruptcy court to conduct an auction of equipment from the markets in which the new company will not be continuing to provide services. The auction was expected to close Oct. 11, and a purchase agreement was anticipated the next day, according to sources within the company.

"The secured group of creditors obviously are eager to get some money for those assets," says a company source.

The sources would not say which individuals are backing the offer. At one time Teligent had significant retail operations in 43 markets. It had scaled down to 23 markets and recently filed an application to curtail its local operations to 11 markets as part of the purchase agreement.

ICG, which has debt claims in court valued at $2.81 billion, expected to disclose exit financing this fall and subsequently prepare a plan of reorganization, according to its CEO Randall E. Curran. He expects the company to reemerge from bankruptcy by early next year. Company executives would not comment on the details, but other bankruptcy reorganization plans suggest that ICG may propose swapping debt for cash or equity or a combination of the two.

ICG essentially halved the number of markets in which it is operating after filing Chapter 11 a year ago. It began recording EBITDA positive results in March, says company spokeswoman Susan Koehler. The company now operates in 27 markets.

Meanwhile, e.spire anticipates receiving exit financing, but it has not disclosed a date when it expects to secure funding. The company, saddled with $975 million in debt, has not left any markets as a result of the bankruptcy process, nor has it laid off any employees.

However, executives said in a September interview they expected to publicize their intentions in the near future.

The Chapter 11 Move

Companies that file for Chapter 11 protection are shielded from liability temporarily, and the are allowed to cancel contracts as part of their reorganization plan. Several carriers, including ICG, cancelled real estate agreements in office buildings around the nation. e.spire was approved to reject six or seven real estate leases.

And, PointOne Telecommunications Inc., which filed for Chapter 11 bankruptcy protection in August, can terminate contracts for circuits in markets where it is not operating without being held liable for fulfilling the remainder of the agreements, according to the company's CEO Paget Alves.

PointOne said the voluntary filing would give it the best opportunity to strike an agreement with a buyer or restructure its debt while remaining operational.

"You just reject the contract and it's over," says ICG's Curran.

But clearly Chapter 11 has its downsides.

Carriers that have filed Chapter 11 protection have strained relationships with their customers, vendors, sales partners and creditors.

e.spire executives say creditors, from equipment vendors to office suppliers, demanded the CLEC pay for some products and services in advance. They say many relationships have since been renewed and now fewer companies are asking for payments in advance.

Furthermore, companies that have gone out of business have shattered the confidence of their customers. After NorthPoint shut down, leaving customers stranded without high-speed Internet access, some business customers reportedly vowed to deal only with RBOCs in the future.

And perhaps embattled carriers under Chapter 11 protection have sacrificed one of the greatest advantages to a free economy: their autonomy.

Companies regularly must obtain court approval for practically any meaningful business decision they wish to make. Each month a creditor's committee, comprising about two dozen unsecured creditors, can object to a company's request for an approval.

"Any meaningful decision goes through the credit committee," says Curran.

A company also must file an operating report each month with the U.S. Trustee in addition to its quarterly report with the U.S. Securities and Exchange Commission, which all public companies file, says e.spire senior vice president and general counsel Juliette Pryor. U.S. Trustees are responsible for overseeing the administration of bankruptcy cases.

"It is more cumbersome as we move forward but it has not affected our customers at all," says Brad Sparks, e.spire's chief financial officer. Curran says ICG has retained its top 100 customers, but concedes the filing has created apprehension among some companies.

"It creates a certain amount of fear through your customer base," Sparks says. "The human spirit can handle any amount of bad news but it hates uncertainty."