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For years, Verizon Communications Inc.’s position on MCI Inc. was that crime shouldn’t pay, a criticism of the bankruptcy case that allowed the former WorldCom Inc. to shed tens of billions of dollars in debt despite its former management’s fraud. On Monday, however, the New York-based telecom said it will pay about $6.75 billion in stock and cash to acquire the nation’s second-largest long-distance company, and MCI’s svelte balance sheet is a significant factor in the deal. Verizon Chairman and CEO Ivan Seidenberg and MCI chief Michael Capellas used words such as “smart,” “achievable” and “compelling” to describe the transaction, which will combine one of the largest local phone companies in the U.S. with the second-largest long-distance company. It will also give residential phone giant Verizon a coveted base of large corporate and government contracts, one of MCI’s strengths. “Michael and I have been talking about this since late summer, early fall,” Seidenberg said during a media call on Monday. They agreed that Verizon will pay about $4.8 billion in stock and $488 million in cash. The companies will also use $1.46 billion from MCI’s cash hoard to pay dividends to investors, valuing the target’s equity at $6.75 billion. MCI has about $400 million in net debt, putting the implied enterprise valuation at about $7.1 billion. The company could have at least a further $1.7 billion in debt by closing, related to lingering bankruptcy issues. That could boost its enterprise value to $8.8 billion. The transaction values MCI’s shares at about $20.75 each. That’s below the $25 per share estimate in MCI’s reorganization plan, which won court approval in October 2003 and took effect in April 2004, when the telecom exited Chapter 11 protection. The price, however, is well above MCI’s May 2004 lows of $12 to $13 a share. “It’s definitely the right play at the right time,” Capellas said during the Monday call. The move follows SBC Communications Inc.’s $22 billion acquisition of AT&T Corp. on Jan. 31. The two deals mean the Bells, which have typically stayed out of each other’s home territories, will battle one another for corporate and government contracts. They will face increasing pressure in the residential market as well, as cable companies roll out Internet voice services to their video and broadband customers. Both SBC and Verizon expect healthy synergies from their long-distance deals. SBC projects more than $15 billion in benefits, which is nearly equal to the $16 billion it is paying for AT&T’s equity. Verizon, meanwhile, expects $7 billion in synergies, which exceeds the equity value in its MCI purchase. The companies plan to cut about 7,000 jobs and hope to achieve savings by combining systems and networks, among other steps. “Verizon and MCI are going to have quite an integration job here,” said David Rohde of Washington technology and telecommunications firm TechCaliber Consulting LLC. During MCI’s bankruptcy case, Rohde advised a group of the telecom’s largest corporate customers, the very clients Verizon hopes to tap. “Verizon has a long-distance operation of its own,” Rohde said. “MCI itself has never been completely integrated.” The Verizon-MCI deal will face a challenging regulatory process at the Federal Communications Commission, the Department of Justice, and the European Union’s antitrust division, according to some observers. Regulatory experts said the transaction can win approval, but with substantial divestitures. “The deal will require a sizable number of concessions,” said Andrew Lipman, regulatory telecom partner at Swidler Berlin in Washington. The lawyer said the companies would likely need to sell MCI’s consumer business nationally to achieve regulatory approval. The FCC could also require Verizon to divest some of MCI’s business and government customers, in which both companies operate. But some sources said the companies will need only to shed certain MCI business customers within Verizon’s region. By taking MCI off the market, Verizon presents the other Bells with a strategic quandary. BellSouth Corp. of Atlanta and Qwest Communications International Inc. of Denver will have limited options if they seek to increase their scale through acquisitions. Like the other local phone giants, BellSouth is trying to build its roster of corporate clients. It will now face competition in its territory from Verizon and SBC, which is BellSouth’s partner in the Cingular Wireless LLC joint venture. Many observers suggest SBC will eventually acquire the company. Qwest also pursued MCI, and several sources said that it lacks a clear alternative strategy. The company is the smallest of the regional Bells but has the highest leverage ratios. Acquiring MCI would have addressed both its problems, by giving Qwest more scale and providing added Ebitda to support its debt. “In this case,” wrote UBS Investment Research analyst John Hodulik in a Monday report, “we would expect Qwest to look for other acquisition candidates or pursue a sale of its struggling broadband business.” Other companies with long-haul fiber networks, such as Level 3 Communications Inc. of Broomfield, Colo., and WilTel Communications Group Inc., which is owned by New York firm Leucadia National Corp., could also feel pressure. The Bells have been large customers of wholesale carriers. Now the two biggest, SBC and Verizon, will have their own long-haul networks. Verizon retained Bear, Stearns & Co. as its banker and Debevoise & Plimpton as its main counsel. Cleary Gottlieb Steen & Hamilton was the buyer’s international antitrust lawyer. MCI retained Greenhill & Co., Lazard and J.P. Morgan. Davis Polk & Wardwell was MCI’s primary law firm, and Steptoe & Johnson did regulatory legal work. Copyright �2005 TDD, LLC. All rights reserved.

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