PAETEC Grows Even Larger

Still Digesting US LEC, the CLEC Buys McLeodUSA

Less than six months after closing a deal to buy US LEC, PAETEC Communications Inc. is at it again. The company’s latest acquisition is McLeodUSA Inc., which it plans to buy in an all-stock merger worth $557 million. This new deal, which consists of $492 million in PAETEC common stock and $65 million in net debt assumption, creates a company with an estimated $2.7 billion enterprise value.

PAETEC’s Arunas Chesonis

It also gives PAETEC significant new fiber-optic network assets. McLeodUSA’s fiber network is one of the nation’s largest, with 13,000 intercity route miles and 4,000 metro route miles spanning Midwest and Western states.

Through McLeodUSA, PAETEC also will significantly increase its footprint, which pre-merger covers 23 states and the District of Columbia. The deal expands the footprint with 18 additional states, including such key markets as Cleveland, Dallas, Denver, Detroit, Houston, Phoenix and Seattle. The combined company expects to have approximately 3.4 million access line equivalents in service and a local presence in 47 of the top 50 metropolitan statistical areas in the country in 2008.

“With this combined footprint, we offer a compelling alternative to the legacy carriers,” says Arunas A. Chesonis, chairman and CEO of PAETEC.

Of course, competing against the legacy telcos always has been a challenge for CLECs. But the challenge has grown even more formidable in recent years as the RBOCs have consolidated and brought the two big long-distance providers into the mix, creating what are now the monstrous AT&T Inc. and Verizon Communications Inc.

So CLECs like Integra Telecom and PAETEC, as well as Level 3 Communications Inc., have followed the RBOCs’ lead, bulking up to offer business customers better coverage, broader service portfolios and stronger support staff; and to provide the CLECs with economies of scale. The PAETEC-McLeodUSA transaction is expected to produce cost synergies of approximately $20 million in the first year following the closing, and run-rate synergies of approximately $30 million during the second year post-closing.

Recent M&A in the CLEC space includes Integra Telecom, which recently closed a deal to buy Eschelon Telecom. Integra also bought CLEC Electric Lightwave a few years ago.

Last year, PAETEC purchased US LEC, more than doubling the company’s revenue and transforming PAETEC into a company with more than $1 billion in sales revenue. And PAETEC a couple years ago acquired American Long Lines and in 2000 snapped up design and professional services outfits Data Voice Networks Inc. and Pinnacle Software Corp.

Meanwhile, Level 3 has been on an extended acquisition binge, having bought a variety of competitive service providers over the years, including ICG Communications, Looking Glass Networks, Progress Telecom, TelCove and WilTel.

Now comes the PAETEC deal with McLeodUSA, which following the close will become a PAETEC subsidiary. It’s an interesting turn of events, given McLeodUSA had been preparing for a second IPO. But folks thought the company’s plan to go public might be in trouble after its silent period preceeding the expected IPO dragged on for months.

ABOUT PAETEC

Customer target

PAETEC Communications Inc. targets underserved enterprises, mid-sized outfits as well as small segments of businesses with “personalized solutions” that include VoIP delivered over its private-IP MPLS network.

Growth story

According to a book recently written by its CEO Arunas Chesonis, 9-year-old PAETEC has been able to “grow more rapidly than superstars like MCI, before Verizon merged with it, and even more dramatically than famous startups outside telecom, like Dell and Amazon.”

From its launch in 1998 to 2002, PAETEC grew roughly 192,000 percent. Even if you don’t include the company’s first two incredible years of growth, the company’s overall growth rate is 250 percent, with growth in the 11 percent to 13 percent range in the last couple of years.

Leadership

After the deal closes, there will be no changes among the top ranks of PAETEC; however, PAETEC’s current board of directors will add one director to be designated by McLeodUSA Inc.

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