CEO: Qwest Seeking Acqusitions After MCI

Foiled in his strategy to take a giant leap with the multibillion-dollar acquisition of MCI (MCIP), Qwest (Q) CEO Richard Notebaert (search) told investors at this week's annual meeting that he plans to rebuild by seeking smaller companies or assets that will put more customers on its nationwide fiber-optic network and strengthen its weak balance sheet.

It won't be easy — competition from Internet-based services and cell phone companies is nipping at Qwest's heels as it tries to find new revenue. It is saddled with $17.3 billion in debt, diminishing landline customers and lacks its own wireless division.

Although Notebaert refuses to say what companies, assets or partnerships are on his wish list, analysts have speculated that Qwest may look at Time Warner Telecommunications or XO Communications Inc., which could add business customers to its nationwide fiber-optics network.

Other options include buying assets such as rural phone lines or competitive local phone businesses that could be spun off to satisfy antitrust requirements in the mega-mergers of Verizon Communications Inc. (VZ) and MCI Inc., and SBC Communications Inc. (SBC) and AT&T Corp. (T).

The company is already rolling out voice over Internet (VoIP) protocol of its own, and it is persuading regulators and lawmakers across its service area to lift price controls on some of its services.

So far, eight of the 14 mostly Western states served by Qwest have agreed to at least some form of deregulation that will give the company more flexibility to respond to market changes.

Telecommunications analyst Donna Jaegers of Janco Partners Inc. estimated Qwest has two years to make changes and take advantage of the cost-cutting measures it already has implemented before cable companies move fully into its territory.

The trick, she said, will be for Qwest to buy a company that will continue to grow without adding too much debt to the balance sheet.

The best course of action for Qwest would be to recapitalize its balance sheet with more equity and some form of convertible debt, said independent telecommunications analyst Tom Friedberg.

"Putting another part on the jalopy is not the way to fix the vehicle," he said.

Denver-based Qwest Communications International Inc. has had a roller-coaster ride since it was founded in 1988 by Denver billionaire Philip Anschutz (search), who made his fortune in railroads and oil. He remains the company's largest shareholder with a 16.5 percent stake.

Qwest became a major telecom player by acquiring former Baby Bell US West Inc. in 1999 in a $38 billion merger that brought its total capitalization to about $85 billion. The company's stock hit an all-time high of $58 a share on July 5, 2000, days before the merger became final.

Just two years later, the Securities and Exchange Commissionbegan investigating Qwest, alleging the company inflated revenue through fraudulent transactions. The SEC accused Qwest and its senior managers of booking one-time revenue from the sale or trade of fiber-optic network capacity as recurring revenue from operations.

The company restated financial results for 2001 and 2002 to lower revenue by about $2.5 billion and agreed to pay $250 million to settle the allegations without admitting wrongdoing. SEC suits are still pending against several former executives.

In the past year, Qwest's stock has hovered between $4.86 and $2.56 a share on the New York Stock Exchange. Now trading at about $3.80 a share, Qwest's market cap has shrunk to less than $7 billion.

Qwest swung to a profit of $57 million, or three cents per share in the first quarter, compared with a net loss of $310 million or 14 cents per share a year ago. Management credited the turn to the sale of Qwest's wireless assets to Verizon Communications Inc., which boosted its bottom line by 14 cents per share (Qwest now sells cellular service by using Sprint Corp.'s network).

That is only slightly worse than analysts' consensus of a 10-cent loss per share excluding the wireless gain, according to Thomson Financial.

First-quarter revenue of $3.45 billion met analysts' expectations, but edged lower compared to $3.48 billion a year earlier as competitive pressures partially offset gains in long-distance and DSL Internet lines.

Earlier this year, Qwest and Verizon engaged in a highly public battle for Ashburn, Va.-based MCI, hoping to land its nationwide fiber-optic network with a lucrative roster of government and corporate clients.

MCI's board rebuffed Qwest's offer four times, saying it was concerned about Qwest's financial health and the long-term value of the shares it planned to use as partial payment for the deal. The board also questioned whether Qwest could meet its forecast of nearly $3 billion a year in cost savings from the merger.

Qwest withdrew its $9.85 billion offer May 2 after MCI agreed to Verizon's $8.54 billion offer.

While Notebaert considers other strategic moves, the company's deregulation campaign has been under way for months.

The goal is to at least partially lift state price controls on features such as voice mail, caller ID and call forwarding — something other Baby Bells want to fight competition from cable TV companies and providers of Internet-based phone service.

Many states are adopting some form of deregulation when it comes to special features, though basic phone service is still regulated. Qwest says it now has a level playing field with competitors in Utah, Idaho, Iowa, North Dakota, South Dakota and Nebraska.

"Finally, we're beginning to enjoy parity," Notebaert told stockholders this week.