Paetec to Buy McLeod, Expand in Fiber Optics

By Amy Thomson
Bloomberg News
Tuesday, September 18, 2007

Paetec Holding, the U.S. phone company focused on corporate customers, agreed to buy closely held McLeodUSA for $492 million in stock to gain its high-speed fiber-optic network.

McLeodUSA, which operates in Denver, Detroit, Phoenix, and other U.S. cities, will increase Paetec's subscribers by almost a third, with customers in almost all the top 50 U.S. markets. The deal also will allow Paetec, which has no fiber-optic networks, to offer high-speed phone and Internet access via McLeodUSA's network, which spans 20 states.

"It positions them more effectively to compete," Kaufman Brothers analyst Raimundo Archibold said. Smaller business customers with service from AT&T, the biggest U.S. phone company, "may not be getting the attention that they deserve or certainly the level of service that they think they should."

McLeodUSA investors will get 1.3 shares of Paetec stock for each share they own, equal to about $15.50 per McLeod share. The combination of companies may reduce costs by $20 million in the first year and $30 million in the second, Paetec said yesterday in a statement.

Shares of Paetec, which is headquartered outside Rochester, N.Y., closed up 25 cents, at $12.38 a share.

McLeodUSA, founded in 1991 by Clark McLeod, has declared bankruptcy twice since its initial public offering in 1996. The company was twice as large as Paetec before the latest bankruptcy, with $716.2 million in sales in 2004.

The first bankruptcy, prompted by a spending slowdown that also hurt such rivals as Global Crossing, led to McLeod's departure in 2002. The Hiawatha, Iowa, company exited bankruptcy last year, and in March, McLeodUSA announced plans to sell shares to the public again.

Paetec, founded in 1998 by Arunas A. Chesonis, its chief executive, had 2.65 million customers at the end of the second quarter. McLeodUSA, which operates in almost 500 cities, will give the company about 3.4 million. Paetec lists Cisco Systems and Bank of America among its clients.

Paetec reported a profit of $5.97 million in the latest quarter, its first in five quarters.

"The systems and infrastructure we have in place will really help accelerate what McLeod has already begun," Paetec chief financial officer Keith Wilson said in an interview.

On a conference call yesterday, Wilson discussed the challenge of absorbing McLeodUSA.

"It's not as if we're trying to turn this whole thing on a dime," he said. McLeodUSA's new management team "have taken over the past couple of years a much different perspective and have done a lot of hard work here to redirect the efforts of where the company is going."

Paetec will assume about $65 million of McLeodUSA's debt. The companies expect the transaction to close in the first quarter of 2008.

Merrill Lynch gave Paetec financial advice on the deal, while Deutsche Bank Securities and Jefferies are McLeodUSA's advisers.

© 2007 The Washington Post Company