Carl Icahn's Latest Shuffle

By Jerry Knight
Monday, November 14, 2005

Carl Icahn has been trying lately to tell General Motors Corp. and Time Warner Inc. how to run their businesses. The 68-year-old New York financier has acquired significant stakes in both companies and is hectoring management to do something to "increase shareholder value" -- in other words, make the stock he just bought worth more.

But the honchos at GM and Time Warner might note that Icahn hasn't exactly worked wonders at a company he has controlled for more than two years: XO Communications Inc. of Reston.

Icahn is chairman of the board of XO and owns more than 60 percent of the company, a telecom-crash survivor that provides telephone and data communications services for businesses, using conventional wires and new-generation wireless hookups.

Just over a week ago, XO announced it is selling the wired part of its business for $700 million.

Selling it to . . . Carl Icahn.

XO said it will use most of the $700 million it gets from Icahn to pay back its debts and buy back its preferred stock.

Debt and stock owned by . . . Carl Icahn.

Companies he owns and controls hold all $213 million worth of XO's preferred stock and more than 90 percent of its $392 million in debt, XO financial reports show.

The bottom line is that Icahn & company will give $700 million to XO. Then XO will give $600 million of that back to Icahn. He will end up owning XO's traditional wired phone business outright. And he will still own his 60 percent stake in what's left of XO.

Buyer and seller, debtor and creditor, Icahn's simultaneous roles may sound like potential conflicts of interest. But in Securities and Exchange Commission filings, XO explains that a special committee of its board of directors weighed Icahn's bid and declared it the best of the offers the company got for its wired business. Investment bankers determined Icahn's offer to be "fair." The stockholders will have the final say -- they must vote on the transaction before it can go through.

Of course, stockholder approval is a foregone conclusion. As the company noted in one of its filings, "Mr. Icahn owns sufficient shares of our common stock . . . to assure the approval and adoption" of what he wants to do.

And the directors named by Icahn hired the investment bankers who put their stamp of approval on his offer.

XO referred questions about Icahn's role in all these maneuvers to his office in New York; Icahn did not respond.

Behind all the shuffling of deck chairs -- and money -- what Icahn appears to be doing at XO is trying to salvage a bad investment. Since Icahn brought XO out of bankruptcy in January 2003, the stock has traded as high as $8.33 a share, but it closed Friday at just $1.95.

XO is a swamp that executives savvier than Icahn have been unable to drain. Telecom genius Craig McCaw got the company off the ground but couldn't make it fly. Financier Theodore Forstmann, one of the greatest dealmakers of the 1990s, lost roughly $1.5 billion on XO.

XO was a child of the telecom revolution. It was started to compete with local phone companies by offering business customers better, cheaper ways to get telephone and Internet connections.

But so many people went into that business at the same time that almost all of them failed. There wasn't enough business to go around five years ago, when the telecom revolution was in flower, and there still isn't.

Icahn bought control of XO after McCaw bailed out and Forstmann balked at anteing up more millions of dollars.

He became chairman of the company not by buying its stock but by buying up its debts when XO was headed for bankruptcy. As the biggest creditor, Icahn was able to dictate terms of the bankruptcy reorganization. In the end, he swapped what XO owed him for a controlling stake in the company and then loaned it more money.

Better known for making deals than running companies, Icahn installed as president Carl J. Grivner, formerly chief operating officer of Global Crossing Ltd., another telecom that went bankrupt.

The idea was to roll up a batch of busted telecom companies into one giant survivor, buying the networks built by the losing companies for pennies on the dollar.

XO came out of bankruptcy in 2003 with Icahn and executives in Reston vowing to accelerate growth in revenue and turn a profit.

It never happened. XO's circuits are handling more traffic than ever, but fierce competition keeps bringing down prices. Just last week, the company reported that third-quarter revenue fell, to $359 million from $392 million in the comparable period last year, while its loss shrank to $31 million from $42 million.

XO uses two technologies to provide high-speed computer connections and telephone service. Some of its business customers are hooked up with fiber-optic cables, the "wireline" business in telecom jargon. Other customers are served by what is called "fixed wireless," as opposed to the "mobile wireless" of cell phones.

Fixed wireless is an industrial-strength version of the WiFi networks that are installed in homes, offices, coffee shops and airports to link computers to the Internet. Instead of cables or wires, fixed-wireless customers have a little radio station on the roof of their building that beams signals in and out, bypassing the phone system.

Touting the advantage of that technology, Grivner issued a statement last week saying the deal with Icahn "will create a pure-play fixed broadband wireless provider that combines significant resources with in-depth industry expertise." A key advantage of the deal for XO is that it eliminates the overhang of the company's debt, which was structured so that no interest is being paid now, but big payments will be due next year.

Communications experts yawned at the deal. Neither wired nor wireless telecom services are considered particularly lucrative businesses. Once it's on its own, the wired business probably would be easier to sell, they said. They assume Icahn will sell it, because running little companies is not his style.

Wireless is particularly competitive. Just down the road from XO's office in Reston is First Avenue Networks Inc. This year, it acquired what was left of Teligent Inc., the bankrupt local company that pioneered fixed wireless. Like XO, First Avenue has yet to turn a profit -- it lost $4.4 million last quarter on revenue of $333 million.

XO and First Avenue disagree over who is bigger in fixed wireless. Investors can't tell, because XO does not break out how much of its revenue comes from fixed wireless and how much comes from conventional wired networks.

The lack of that information makes it all but impossible for outsiders to evaluate the deal that XO made with its principal owner. The only analyst who follows XO, Vik Grover of Thomas Weisel Partners in San Francisco, upgraded the stock from the equivalent of "sell" to "hold" last week.

Wall Street clearly isn't sold on the Icahn sale. XO stock started skidding on the day the deal was announced and has dropped every day since -- down six days in a row from $2.55 a share to $1.95, a loss of more than 23 percent.

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