What went wrong at GST Telecommunications Inc. (www.gstcorp.com)?
"Virtually everything," Robert Ferchat, chairman of GST's board since the summer of 1998, told X-change yesterday. "The fundamental mistake was the 'Field of Dreams' mistake: 'If you build it, they will come.' We were building and spending money on a network without having it pre-sold, which is clearly the way to go, in retrospect. We thought we were reigning in the previous strategies, but we weren't reigning them in quickly enough. There were so many things that we should have cut back on that we didn't, but it looks a lot easier to see that now than at the time."
Yesterday, a federal judge in Wilmington, Del., set the clock on GST's end-game: Bidding on the assets is now open to all comers until July 31. August 4 is the tentative date for an auction on those assets. Time Warner Telecom Inc. (www.twtelecom.com), which had signed a letter of intent to buy the assets for $450 million, failed to reach a definitive sale agreement with GST and let the letter expire. At least four other potential bidders, including AT&T Corp. (www.att.com), have signed non-disclosure agreements with GST, allowing them to perform due diligence before making a bid.
Ferchat came to GST's board in April 1998 from BCE Mobile Communications Inc. (www.bellmobility.com), where he was chairman and CEO. He became chairman in June, when former chairman and co-founder John Warta resigned.
The "previous strategies" he refers to were those followed by Warta and his colleagues: an aggressive build-out of a fiber optic network on the Pacific Rim, including Hawaii and Guam; the purchase of ISPs in Hawaii and California; the laying of submarine cable between the Hawaiian islands.
Ferchat and Warta had dinner shortly after Ferchat agreed to join the board.
"He was very different from my school," Ferchat recalls. "I grew up in an era where business men wore shirts and ties, and John was Hawaiian shirts all the time. But he seemed to have a great vision…lots of contacts in the industry. My impression was, here was the sort of guy you would have to keep a rein on, but who was full of ideas. The issue was, there wasn't much of a rein, but John was full of ideas."
Within four months, GST was engaged in litigation with Warta and other former directors, accusing them of diverting the assets of a Mexican subsidiary to a second company they had formed. The suit gave rise to countersuits. All the litigation was settled in July 1999.
In August 1998, GST announced that it was re-focusing on its "core business lines of CLEC, data and back-haul services," and it began to sell off businesses outside that core. Over the next several months, the Guam property was sold, and the Hawaiian assets were put up for sale. The GST Home division, which provided residential telecom services to multi-tenant units, was sold, as was the long-distance division.
And it seemed to be working. GST reported positive EBITDA of $1.7 million for second quarter of 1999. But Ferchat says it was at about this time that he could see something was amiss. Revenues were up; EBITDA was up - to $13.3 million for the third quarter of 1999. But in the fourth quarter - reporting of which was delayed - revenues dropped $2 million and EBITDA went south, to a loss of $13.1 million.
"At the end of the year (1999), we had to make a decision on the CEO," Ferchat says. "And then, in the first part of this year, the money outflow just accelerated."
The CEO in question was Joseph Basile, former COO of Cable and Wireless USA (www.cw-usa.net). Basile joined GST as president and COO late in 1997, became acting CEO after Warta's departure and CEO in June 1998. GST announced Basile's resignation on January 25 of this year, replacing him with acting CEO Thomas Malone, who joined the company as COO last fall. Malone is still acting CEO.
Where did all the money go?
"Most of it was cap ex (capital expenditures), but also SG&A (selling, general and administrative expenses) increased," Ferchat says. "As a board, we gave instructions to cut SG&A by 10 percent, but we didn't realize how much cap ex was in the pipeline. And I still don't have a good explanation about what happened with SG&A."
By early 2000, GST had been for sale for several months. Ferchat confirms that GST had discussions with Adelphia Business Solutions Inc. (www.adelphia-abs.com), ICG Communications Inc. (www.icgcomm.com) and Time Warner Telecom. No formal offer was ever presented to the board, he says. He believes GST's mounting debt - $1.2 billion at the time of bankruptcy - scared potential buyers off.
In the fall of 1999, GST mounted a "road show" in a hunt for an equity investor. They received a term sheet from one potential equity investor. Sources close to the GST say that investor was Welsh Carson Anderson & Stowe (www.welshcarson.com). Asked to confirm this, Ferchat says, "That's not a bad guess."
Ferchat says the term sheet was "somewhat speculative."
"It's the kind of thing that gets thrown out there to see if you will bite and then ask for concessions," he says. "We asked for concessions, but they never got back to us."
The Hawaiian property was no easier to sell, Ferchat says. MBN Communications Inc. (www.mauibiz.net), a company formed in July 1999 for the express purpose of purchasing those assets, claims to have signed a contract on April 27 to purchase GST's Hawaiian operations for $76 million. Ferchat acknowledges months of discussions with MBN, but says no contract was ever presented to the board. The original bankruptcy bidding rules proposed by GST and Time Warner Telecom would have forced bidders to bid on all the assets of GST, but those rules died with the letter of intent, leaving MBN free to pursue its claim.
GST employed Bear Stearns & Co. Inc.(www.bearstearns.com), then Salomon Smith Barney Inc. (www.smithbarney.com), to shop the company around. At that point, Ferchat says, he figures "just about everybody in the industry was talked to." But there were no takers, and in the spring, Ferchat says, the board and management knew the jig was up. He called Time Warner Telecom, he says, because they had been talking about buying GST for months "and had already done some due diligence." Ferchat says he made the call some time around May 10.
"I called them and said, 'We are in serious financial difficulties, and if we are going to file (for bankruptcy), it would be advantageous to file along with a note (the letter of intent), so we don't have to include equity,'" Ferchat says. "They came up with the $450 million figure themselves. I simply noted that our situation was getting dire - same time we announced to public - and then we negotiated a bit, and put the offer and the filing together."
Time Warner Telecom asked for an expedited processing of the bankruptcy by the U.S. Bankruptcy Court in Wilmington. The two companies had hoped to present Judge Gregory Sleek with a definitive sale agreement on June 2, but failed to reach an agreement. Bondholders, potential bidders and lawyers representing unsecured creditors (people and companies to whom GST owes money, unsecured by any of its assets) filed formal objections to the proposed bidding rules with the court. They objected to the speed of the process, to advantages they believed Time Warner Telecom would have in the way of due diligence, and to other aspects of the rules. At the close of the June 2 hearing, Sleek told the 30 lawyers assembled before him that he had "very, very grave concerns" about the matters raised in those objections, and gave Time Warner Telecom and GST another week. That week ended yesterday.
Looking back on his experience, Ferchat says he ought to have checked GST out more carefully before joining its board.
"Certainly, if I ever was to get this kind of deal (again) -- and I've talked to a lot of people in my position -- I would do a lot more due diligence," Ferchat says. "I thought the company would know the basics about the engineering of a network and the management of cash flow. I don't think there was a real understanding that if you spend $290 million for cap ex, which we did in 1999, you better have a quick way of recovering that. And they really didn't."
Ferchat and his board colleagues have come under criticism for the company's performance. There have been class action suits filed against them, as there often are when a public company takes a steep downward slide. And there has even been an effort on some Internet message boards to get enough shareholders together to oust the board and petition the court to overturn the bankruptcy.
Ferchat, who could have retired when he left his post at BCE Mobile Communications, must see the bankruptcy process through its conclusion. "Somebody will buy the assets and merge them into their operations, and it (GST) will cease to exist as a separate company," he says. "There's a lot of pain involved. The bondholders, they're big boys, but I feel bad for the employees."
