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Banks Tried a Freeze Play on WorldCom

The future of WorldCom may be going from bad to worse. In a development that threatens to reduce the prospects for a quick restructuring, some of the scandal-plagued telecom carrier's lenders have tried to freeze its cash, BusinessWeek Online has learned.

A request for a restraining order filed on July 12 was denied by the State Supreme Court in Manhattan, creditors speaking on condition of anonymity say, but it's a potentially explosive development. Until now, WorldCom has been hoping to get bondholders and bank lenders to agree on a prepackaged bankruptcy plan that could be filed in three weeks and completed in three to six months. Such deals --although tricky-- would help WorldCom retain customers and emerge from bankruptcy as a independent company.

However, this move signals the breakdown of talks between banks and WorldCom, and it raises the probability of a messy and protracted bankruptcy case. Even though the order was denied, the legal action suggests that the company and its banks are far apart and that a prepackaged bankruptcy and easy resolution will be very hard to achieve.

HEAD OF THE LINE? The telecom giant owes 21 banks $2.65 billion, in an unsecured loan. The banks that filed for the restraining order likely argued that because WorldCom obtained its loans under false pretenses, it should return the money. WorldCom said in June that it had uncovered a massive accounting fraud and that it would restate earnings for the past five quarters.

The order was filed by a group of the telecom's smaller lenders, after learning that lead bank Bank of America was quietly negotiating to provide WorldCom a debtor-in-possession loan, or DIP loan, says a bankruptcy attorney involved in the case. If Bank of America cut such a deal, it would be paid back before WorldCom's other lenders.

Meanwhile, Citigroup, another of the telecom's biggest creditors, has pulled out of the lenders' steering committee, other creditors say. The bank may be hoping to win a lucrative deal for DIP financing, they say. Neither WorldCom nor the banks would comment for this story.

"TOTAL AMBUSH." WorldCom has about $2 billion in cash on hand, but it has already been running out on its bills. On July 11, the company said that "in light of the current circumstances" it would not make a $72 million dividend payment slated for July 15. If the banks' ploy had succeeded, they would have been paid back most of their $2.65 billion loan up-front. Even though it failed, if WorldCom files for bankruptcy, banks would be on the same level as WorldCom's bondholders, who are owed $30 billion.

Holders of WorldCom bonds called the banks' move a "total ambush" but said they would have been surprised if the judge agreed to freeze WorldCom's cash. That probably would have shut down the telecom's operations entirely, which could be a threat to global communications. WorldCom controls half of the world's Internet network.

Faced with this new pressure, WorldCom attorneys might have to face a decision whether to enter a Chapter 11 plan sooner than they had expected. By Heather Timmons in New York, with Charles Haddad in Atlanta

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