On Feb. 25, Standard & Poor's Ratings Services placed its ratings on Denver-based telecommunications carrier Qwest Communications (Q ) and subsidiaries, including the BB- corporate credit rating, on CreditWatch with negative implications. This follows Qwest's counterbid to Verizon Communications (VZ ) for long-distance carrier MCI (MCIP ) for $3 billion in cash and $5 billion in stock. MCI also has about $6 billion of debt outstanding.
The ratings on MCI, including the B+ corporate credit rating, remain on CreditWatch with positive implications, where they were placed on Feb. 14, following Verizon's announced agreement to acquire MCI. The positive CreditWatch listing reflects MCI's potential acquisition by either Verizon or Qwest, both of which are more creditworthy entities.
However, the positive CreditWatch listing of the B+ rating on MCI's senior unsecured debt assumes no change to the current MCI corporate and capital structure under an acquisition by Qwest, such that this debt would become structurally junior to other material obligations.
The negative CreditWatch listing for Qwest's ratings reflects the higher business risk at MCI if Qwest's bid is ultimately successful. As a long-distance carrier, MCI is facing ongoing stiff competition from other carriers, especially AT&T (T ). Moreover, MCI is considered to be competitively disadvantaged relative to AT&T in terms of its materially smaller presence in the enterprise segment and fewer local points of presence (POPs). The latter, in particular, results in higher access costs relative to AT&T.
Qwest also faces the challenge of integrating and strengthening MCI's operations while improving its own underperforming long-distance business, which has negative net free cash flow. These issues overshadow the positive aspects of Qwest's incumbent local exchange carrier (ILEC) business that were encompassed in the former developing outlook.
MCI's entrenched position in the large enterprise customer segment should benefit Qwest, and the merged company should realize cost savings from combining two long-distance businesses. Qwest's local operations could also enhance MCI's local network access, which may help reduce its high access costs.
Nevertheless, Qwest's ILEC business is largely in less densely populated areas in the Western U.S., so benefits to MCI's enterprise customer segment could be somewhat limited. Furthermore, Qwest's ILEC operations continue to lose total access lines at a roughly 4% annual rate, which could accelerate as major cable companies roll out economical Internet-based phone services.
If MCI's shareholders accept Qwest's offer, S&P will evaluate Qwest's intentions for integrating MCI, its financial plans, and longer-term strategy in light of the competitive and consolidating telecom industry. Moreover, the status of shareholder lawsuits is still uncertain and could be a factor in the rating or outlook, even after the CreditWatch listing is resolved under an assumed successful bid by Qwest for MCI at current terms.
As such, if Qwest's bid is rejected and it terminates efforts to acquire MCI, ratings on Qwest will be affirmed and removed from CreditWatch, and a developing outlook will be reassigned.
From Standard & Poor's Ratings Services