Few Good Words for Williams Communications

As the telecom network operator slides toward Chapter 11, investors wonder if anything will be left worth salvaging when the dust settles

With a $5.2 billion debt load and mounting annual losses, Williams Communications Group (WCG ) has tried to stay on the bright side. In early February, it declared that it would work to restructure and deleverage its balance sheet. Bankruptcy wasn't an option, company execs declared.

That all changed on Feb. 25, when the Tulsa-based operator of a 33,000-mile network that connects 125 U.S. cities and 5 continents conceded that its restructuring plan, expected soon, could include a trip through Chapter 11 after all, and result in "substantial shareholder dilution." The news caused credit agencies Fitch and Standard & Poor's to downgrade their ratings of Williams.

And on Mar. 1, the New York Stock Exchange halted trading of its shares, which had slipped from $13 a share a year ago to around 20 cents. Williams says the NYSE will do an "interim review" to determine whether the company will remain listed.


  Slack demand for high-speed capacity and declining rates for transmission services have severely hurt Williams and other network operators. And bankruptcy could have an impact on Williams Communications' former parent, Tulsa-based natural gas pipeline and energy marketer Williams Cos. (WMB ), which would be on the hook for some $2.2 billion in debt it guaranteed for Williams Communications during a spin-off of the telecom company last April.

Assuming that Williams Cos. will eventually have to cover the debt of its former telecom unit, the market has already punished its stock, driving Williams Cos. shares down to around $16 -- the lowest level in years.

At least a dozen lawsuits have been filed against both companies alleging they misled investors. "Both Williams Communications and Williams Cos. are under an intense microscope right now," says Peter Adamson III, managing partner at Adams Hall Investment Management in Tulsa, which owns shares in both outfits. "As an investor, it's no fun watching what's happening to their stocks."


  Most of Williams Cos.' obligations to Williams Communications stem from the telecom company's sale last year of $1.4 billion worth of bonds. The bonds were backed by Williams Cos. shares, a maneuver similar to that used by Enron in financing the complex and controversial off-balance partnerships that ultimately helped bring down the energy trading giant. Now, with Williams Communications at the precipice and with only about $1 billion in cash, Williams Cos. will have to sell assets to cover the debt.

While it will be painful, analysts and investors say Williams Cos. can probably handle the debt obligations with some $38 billion in assets. "The value of Williams [Cos.] assets far outweighs its WCG [Williams Communications Group] debt obligations," says Fredric E. Russell, a Tulsa money manager whose namesake firm owns some 107,000 shares of Williams Cos. "While it's unfortunate that the company has to back up its WCG debt by selling assets, Williams [Cos.] will survive."

Williams Communications' prospects are far less certain, however. CEO Howard E. Janzen says it was forced to consider bankruptcy as a restructuring option after talks collapsed with potential outside investors that were considering injecting new cash into the business.


  Still, he expresses confidence that Williams Communications will survive. "We have been executing our business plan," he says. "It has been hitting on all cylinders."

Williams faces big hurdles, however. Telecoms that once held more favor on Wall Street than Williams have been unable to make it through the current market turmoil. One-time darlings such as 360 Networks, Winstar, and Global Crossing all declared bankruptcy in the past year.

Furthermore, a spending slump by Williams' key Baby Bell customers raises serious questions about its revenue picture. Analyst Susan Kalla of Friendman, Billings, Ramsey & Co. expects spending on the long-distance service that Williams provides to plummet 20% in 2002.


  Declaring bankruptcy would allow Williams to avoid paying some $500 million in interest payments this year and preserve much of its $1 billion in cash. But to have any chance of emerging from Chapter 11, the telecom would need to unload at least half of its $5.2 billion debt load, which includes $975 million owed to banks and $2.4 billion in bonds.

Williams Communications is likely to make cash payments to the banks to reduce its exposure. But that would leave it with less money to operate its business, says Aryeh Bourkoff, a telecom-debt analyst at UBS Warburg. With so little cash on its books, Williams would have to walk a fine line between keeping its capital spending low and making the sort of investments in its network that would attract revenue from customers.

Janzen's strategy? Reduce Williams' cost structure by about 25%, including workforce reductions. Network service and reliability, he says, won't be sacrificed. If anything, he adds, winning new customers and driving them to the company's network are key to its future. It recently has been on a roll, landing new contracts with customers such as Verizon Communications and Yahoo! Inc. "We've spent $6 billion building the best network out there. Now, we have to load it with customers," says Janzen.


  Moreover, he's banking on continued growth from its biggest customer, SBC Communications, which now represents 35% of revenues. But if SBC has plans to spend more with Williams, it hasn't said so, leaving some skeptical. "If SBC decides another network is more efficient or pricing is better elsewhere, it's likely to go there," says one banker in the telecom field.

New customers or not, Williams would still face plunging prices because of a capacity glut in its area of specialty -- the networks that zap data over long distances. Royce J. Holland, CEO of Allegiance Telecom, a local carrier in Dallas, says he can now buy long-haul capacity at one-tenth the price he paid a couple of years ago. Peter S. Cohan, an industry consultant and author, estimates that Williams Communications will see a 35% drop in revenues this year, to about $877 million.

Meanwhile, Williams' lenders and bondholders are anxiously awaiting the telecom's next move. On Feb. 27, its bank debt was going for just 60 cents on the dollar, a 10% drop from the prior week.


  If Williams emerges from bankruptcy as a new company, noteholders will probably swap debt for equity in the new outfit. But it wouldn't be much. Trent N. Spiridellis, a high-yield bond analyst at Bank of America Securities in New York, estimates that bondholders would likely end up with no more than 5¢ in cash and 15¢ in recapitalized stock for every dollar.

"Bondholders will take a substantial haircut, but the common stock [holders] will be completely wiped out," says Spiridellis. In the end, so might Williams Communications.

By Stephanie Anderson Forest in Dallas, Roger O. Crockett in Chicago, and Steve Rosenbush in New York

Edited by Douglas Harbrecht

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