DSL

DSL Prime News Weekly: The Inside Source —continued

Rhythms for sale

They didn't have much choice, not when Price Waterhouse wrote, "These factors raise substantial doubt about Rhythms' ability to continue as a going concern."

Lazard's been hired to "explore strategic alternatives, including sale," but the twenty-five cent stock price indicates the market believes any sale will wipe out stockholders and look for bondholders to take a haircut as well. (I hope, of course, the market is wrong—after all, they valued the DLECs over $18B not so long ago.)

Lazard will presumably bring in bondholders early, looking to cut a pre-packaged deal and avoid the courts NorthPoint was forced into. Any change of control could trigger an obligation to promptly repay $800M in bonds—a requirement that dissuaded MCI from purchasing Rhythms last summer. Rhythms, unlike NorthPoint, may have the luxury of time, with the company claiming their $500M January cash on hand will last at least six months more. But the 10K filing points to ominous signs:

• "In January 2001, one of our leasing companies, GATX Capital Corporation (GATX), notified us that an event of default had occurred under our lease program due to our failure to meet the operating cash flow covenant." (10K) Default like this may accelerate repayment demands, and the company has no obvious means to cover them. This could eliminate the cash, and force imminent action.
• Over $1B in bonds and preferred stock are ahead of other investors. Their prices, pennies on the dollar, reflect an assumption that even in bankruptcy little would be recaptured. No bidder valued NorthPoint's operation.
• NASDAQ has threatened to "de-list" the stock.
• A $5M investment in WinFire just three months ago has no apparent value, as FreeDSL has shut down. They presumably also face losses on $15M invested in @Home and $2.5M in Megapath. Insurers are also questioning their contribution to Tom Lafleur's $15M settlement for early stock options.
• While they continue to pay rent on 1,850 colos, only 1,400 are active.
• Cisco, which is cutting back, accounted for 21% of sales in 2000. Telocity was another 16%
  Although MCI's Bernie Ebbers said DSL would be crucial for 2001, there's no evidence MCI is taking the 100,000 lines they planned. Qwest seems another likely suitor, but Joe Nacchio is looking for bargains, and passed on NorthPoint at $150M. Rhythms debt alone is twice NorthPoint's.
• $832.3 million of long-term debt and approximately $451.3 million of mandatorily redeemable Preferred Stock stand senior to any common stock.
• Qwest is currently renegotiating their contract to "take or pay" a substantial number of connections from Rhythms. We haven't seen the original, but it's likely to have loopholes that Rhythms may need to contest in court.
• Moody's is clear that Rhythms cannot raise cash on the public markets, and current investors are unlikely to invest more.

Those are the business problems; management giving itself a raise last month is a major PR problem as well. But I disagree with a generally wise observer in The Industry Standard. Hapka should not be derided for selling a small fraction of her stock last year. No one believes Bill Gates has been pessimistic about Microsoft for the last half decade as he sells stock to diversify holdings. The downturn has made clear that anyone who doesn't set aside some reserves is a fool, not a sensible manager.

After the demise of NorthPoint, customers are proving scared of dealing with CLECs. The telcos have always had a big edge: Rhythms makes that clear, saying "We believe that we compare unfavorably with many of our competitors with regard to, among other things, brand recognition, existing relationships with end users, available pricing discounts, CO access, capital availability, and exclusive contracts. We may not be able to compete effectively in our target markets. The ILECs are larger, better capitalized, have stronger brand recognition, offer a wider range of products and services, own the copper lines, and have many more existing relationships with potential end users than we do."

Copyright 2001 Dave Burstein.
The DSL Prime Newsletter is reprinted with permission.

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—A.J. Leibling

The Internet is the cheapest printing press ever invented.

—End

 

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