Think like a bondholder to assess contract term risk with carriers

One of the shocks that people often get with their first stock market investment is finding out what a stockholder really is. People often buy stocks thinking they're getting a "piece of the pie" along with the other stockholders. But that's only true if the company doesn't owe anybody any money. Debt holders go to the front of the line, way ahead of stockholders. If there's no pie left after the debt holders finish eating, then the stockholders are out of luck, no matter how good the company's story is or how innovative its products appear to be.

When you a sign a term contract with a carrier, you should think like a bondholder. Do you deserve service ahead of the stockholders? Of course you do. In fact, your term contract with a vendor creates one of the many layers of obligations that it holds ahead of the need to pay off stockholders. But if it can't pay off the bondholders, your carrier's performance is bound to suffer.

In recent months we've begun to see a gratifying upsurge in the number and quality of proposals from telecom carriers other than the AT&Ts and Verizons of the world for specific enterprise-class services. Many are getting their bearings around new services like SIP trunking and related, fully integrated voice/data networks over very high-capacity lines.

But more often than not, these carriers have sorry-looking stock charts that seem never to have recovered from the tech/telecom bust of almost a decade ago. Or they have strange financial histories littered with bankruptcies and buyouts by unfamiliar entities that seem to come out of a dark corner of Wall Street and have nothing else to do with telecom. That naturally makes these carriers a difficult sell within your organization.

You and your management have a right to be suspicious of carriers that look bad in the stock market, but this suspicion should lead to further investigation. Instead of tossing out a carrier because of its stock chart, a bond-like analysis is often a better idea. But it's tricky. Once you know how much debt a carrier has, what does it really mean? What do you compare it to -- the carrier's revenues, operating margins, profits, or what?

For enterprises, the key is the connection to the term of the contract you're being asked to consider. In a way, signing a three-year contract with a carrier is like issuing a three-year bond to the carrier. Just as the bondholder must be paid back in three years, you must receive service for three years. In fact, whatever the length of contract is before you, it's probably best to add one year to the deal for the purpose of this analysis, in order to account for ramping down the old service after awarding a replacement service to a new carrier.

At the upcoming Telecom Negotiation Conference in Washington, I'll be presenting some bond-maturity charts for carriers. Instead of showing the gross level of overall debt, these charts show on a year-by-year basis the amount of debt maturing in given years like 2012, 2013, 2014 and beyond. Making sure your contract expiration comes before a year with a large "balloon" in your carrier's debt is a good idea.

It may even be a good negotiation tactic to have this specific information in hand. But year-by-year debt maturities often have to be calculated from individual bond disclosures by companies in their SEC filings. It's not as easy as going to one of the popular financial websites and looking up a chart, as it would be if you were just looking at their stocks!

Be aware that actually having debt is not necessarily worse than the situation that some other carriers are in -- having no debt because of a past bankruptcy, but also having very concentrated ownership because of the way they were brought out of bankruptcy. That's another trade-off I'll be discussing in my breakout session, called "The Status and Prospects of the Telecom Providers."

See the full Telecom Negotiation agenda for details. Along with the rest of the TC2 and LB3 presenters, I look forward to the opportunity to meet you in Washington!