Sunday, November 11, 2001

Broadwing's wings clipped

Job cuts not ruled out at Cincinnati Bell

By Mike Boyer
The Cincinnati Enquirer

        Even the nation's best-regarded telephone company isn't immune from the effects of a slowing economy.

        Employees of Cincinnati Bell, which this summer was named the nation's best local and long-distance provider by J.D. Power & Associates, are increasingly nervous that cost-cutting by parent Broadwing Inc. will include them.

        “I can't rule out job cuts at Cincinnati Bell,” said Tom Osha, vice president of corporate communication. “We are looking across the organization.”

        Broadwing was created in the 1999 merger of Cincinnati Bell and fiber-optic network provider IXC Communications in Austin, Texas. The company warned last month that it is exploring a number of moves in the face of the slowdown in its telecommunications business, particularly since the Sept. 11 terrorist attacks. Those include:

        • Dropping nonperforming services.

        • Deferring capital spending.

        • Cutting jobs.

        “The fourth quarter will be our most challenging quarter ever,” Rick Ellenberger, Broadwing's president and CEO, told investment analysts last month. He cautioned that the company might take a restructuring charge in the current quarter as it tries to bring operating costs in line with lower revenue expectations for the coming year.

Looking at Austin

               Broadwing told analysts that it now expects revenues this year in the range of $2.35 billion to $2.38 billion, down about 5 percent from previous expectations. The company said operating cash flow will be in the range of $620 million to $630 million, down about 2 percent from what had been expected.

        Most analysts think any restructuring will be focused on the Austin-based IXC operations, renamed Broadwing Communications, which have been hardest hit by the industry slowdown. However, the company won't exclude the possibility that Cincinnati Bell could be affected.

        The 127-year-old telephone company expanded into broadband, long distance and wireless services in the last few years. It employs about 3,500 after eliminating about 100 jobs earlier this year in a restructuring designed to make the company more customer-focused.

        The explosion of dot-com companies in the late 1990s spurred a building boom for broadband, telecom terminology for combining voice, data and video traffic moving at light speed on fiber-optic cable. But when the stock market bubble burst in the spring of 2000, so did funding for many dot-coms. That slowdown has rippled throughout the telecommunications industry, causing an oversupply of broadband capacity nationally.

        While acknowledging that the situation has stirred uncertainty among employees and investors, Mr. Osha said, “This is something we don't want to rush.

        “Our examination of the business is continuing. We're looking at all the options and possibilities. We're going to take the time we need to make the best decision for our company, our employees and our shareholders.”

Wider net loss

               Although Broadwing's revenues increased 13 percent in the July-September quarter at the same time some industry peers reported flat to down revenues, the company also reported a wider net loss of 14 cents a share, versus a loss of 12 cents a share a year ago.

        While Broadwing's broadband revenues were up 15 percent in the third quarter, that was only about half the rate of growth as in the second quarter.

        The wider loss, coupled with the uncertainty about the next year's outlook, sent Broadwing's stock down 25 percent on Oct. 16, the day of the earnings announcement. The shares have continued to slump as other telecom providers reinforced the bad news with poor earnings of their own.

        The stock decline has fueled a wave of second-guessing by pundits and some investors about the wisdom of the company's $3.2 billion purchase of IXC.

        In a commentary headlined: “Broadwing Pays for Reaching Too Far,” the's James J. Cramer wrote last month: “Few stories were more hyped, more advertised, more pushed toward portfolio managers than the story of Broadwing, the little Cincinnati phone company that transformed itself into a broadband giant.”

        Harrison Davis, a Houston investment banker and Broadwing shareholder, irate about the stock's drop, said Broadwing's management has misled investors over broadband's potential.

        “I've lost a substantial amount of money on paper,” he said, declining to say how much.

        But investment analysts say investors have overreacted. They say Broadwing is poised to be a long-term survivor in the broadband market.

Comparable to Qwest

               “We still like this company's ability to develop new product opportunities, load up their network and be successful,” said Steve Mygrant, investment analyst for Fifth Third Bank.

        Analysts said Broadwing's stock got hammered again at the end of October when Denver's Qwest Communications International Inc., parent of regional Bell US West and the company whose business profile is closest to Broadwing, reported an unexpected loss of 9 cents a share, on flat revenues of $4.7 billion.

        That sent Qwest's shares down 22 percent.

        “Whenever Qwest gets hit, Broadwing gets hit,” said Thomas Morabito, analyst with McDonald Investments in Cleveland.

        Said Andrew Hamerling, an analyst with Banc of America Securities: “I have no problem with their strategy. It's just a tough environment right now for all the telecom companies.”

        Challenger, Gray and Christmas, the national outplacement firm, said last week that telecommunications — not transportation or aerospace — was hit harder by job cuts last month.

        Telecom companies announced elimination of 42,347 jobs in October, out of 242,192 nationally, second highest to only September's 248,332.

        Cincinnati hasn't been immune from the telecom shakeout. Cincinnati Bell, in new print ads last week, pointed out eight telecommunications providers have left its market over the last year, forcing a couple thousand business customers to find new providers.

        “The Street has expectations for growth that quite frankly can't be met in light of this economy,” Mr. Hamerling said about Wall Street analysts and investors. “When you have employees being laid off and business closings, you can't expect data demand to increase dramatically quarter to quarter.”

        When the economy turns around, he said, “that's when we'll see a lot of growth come back to the (broadband) market. Realistically, Broadwing is a net share taker.”

        One reason is because the company's 18,500-mile fiber network was the first to introduce all-optical technology — which, stripped of telecom jargon, means Broadwing can set up networks for business clients much faster and less expensively than competitors.

        “It's a cheaper architecture that will allow it to get more business going forward,” Mr. Hamerling said.

Others hurting worse

               While Broadwing's shares have lost more than two-thirds of their value since the first of the year, some of its peers have been hit even harder.

        Qwest shares are down 70 percent this year. And broadband competitors Williams Communications Group and Level 3 Communications are each down about 90 percent.

        “The one thing Broadwing has that the other players don't have is the Cincinnati Bell operations,” Mr. Morabito said.

        Cash flow from Cincinnati Bell provides a strong underpinning to the broadband business, analysts say.

        “As long as Cincinnati Bell is there, they'll be able to raise money without any problem,” Mr. Morabito said.

        But Mr. Mygrant said Cincinnati Bell isn't just a cash cow. It has also been able to expand into long distance and offer higher-value telecommunications services to Cincinnati-area businesses as a result of the Broadwing national network.

        “They've taken about two-thirds of the residential long-distance market” in Cincinnati, he said. “And they've been pretty successful in developing their Zoomtown (broadband) product, which has about twice the penetration of other (local broadband suppliers).”

        Mr. Ellenberger told analysts last month that the largest business customers on Broadwing's network include such major local employers as Procter & Gamble Co., Fifth Third Bancorp and GE Aircraft Engines.

        Broadwing, like other technology companies, tends to focus on growth in cash flow or EBITDA (earnings before interest, taxes, depreciation and amortization), rather than net earnings used in the traditional accounting.

        “What that means is the company's balance sheet isn't as strong as some others,” Mr. Mygrant said. “And secondly, it leads to higher than average volatility in the stock price.”

        Since launching Broadwing two years ago, company officials have set a goal of becoming “free cash flow positive” by the middle of next year.

        “That means you have enough EBITDA to cover all your expenses and capital program. Basically, it means you don't have to borrow more money,” Mr. Osha said.

        Last year, Broadwing had about $800 million in capital spending and generated about $500 million in EBITDA.

        “By midyear, we will have enough EBITDA to service our expenses and capital spending as well,” Mr. Osha said.

        Broadwing has about $2.3 billion of long-term debt, but still has about $400 million in borrowing capacity on its credit lines, more than enough to see it through the middle of next year, officials say.

        Mr. Morabito, who thinks Broadwing is a buy at its current price, said investors are overlooking the company's acquisition potential.

        “It's a very attractive takeover candidate,” he said, “especially at these price levels.”

        Cincinnati Bell's business alone is probably worth about $13 a share, he said.

        Mr. Morabito said he doesn't think any rival is pursuing Broadwing, but BellSouth and SBC Communications, two nearby Baby Bells, have frequently been mentioned as possible suitors.

        “There's not an acquisition premium in the stock. All anybody's focusing on is the drop in the broadband market. You're getting the entire broadband operation for free,” he said.


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