Supplier Risk Monitoring

Possible Consequences for the Acquisition of Level 3 Communications by CenturyLink

Vandana Mohanchandran Written by Vandana Mohanchandran

Over the last few months, most technology companies have been investing through acquisitions in order to accelerate growth and market share. Of late, Supply Wisdom has seen several organizations reorganizing their service models and growth strategies. With the rising requirement for newer technologies, most large suppliers are acquiring smaller companies to create more value for their shareholders. Such is the case of CenturyLink’s acquisition of Level 3 Communications.

Given the large number of connections and contacts at Level 3 Communications, it can be expected that the valuation of a company would increase with conjecture that the company is considering a buyout of itself. However, on the other side, with companies like Google showing interest in the company, more logical assumption would be that the valuation should decrease because such a strategic option is more likely to mean that potential purchasers would initiate offers

The Controversy Surrounding Level 3 Communication’s Acquisition

One problem for Level 3 not appearing to be an attractive acquisition candidate is that its long-term debt is approaching US$11 B. Another point is that if a corporate insider is expecting his or her company to be acquired, even if they are involved in planned share sales, one might wonder of slowing down of selling one’s stock if a buyout is coming up. Level 3 shareholders have sold nearly 200,000 shares since the start of June 2017; however, with no significant insider buying.

A third possible concern is that Level 3 had nearly 30 vendors in its transport network as a result of its acquisitions. Although the company developed an internal operating system to deal with the different types of equipment, the vendors no longer exist as separate units. This situation could make it difficult for the operations for an acquirer.

The Acquisition

CenturyLink announced its intent to acquire Level 3 Communications in late October 2017. Upon the news going public, shares of the telecommunications company fell more than 13% to a fresh 52-week low. However, at present, post the acquisition, CenturyLink’s shares are trading at 11 times this year’s expected earnings.

The deal was formally announced shortly after that CenturyLink had agreed to acquire Level 3 for US$26.50 in cash and 1.4286 shares of CenturyLink stock for each Level 3 share. That equated to US$66.50 per share at the time, valuing the deal at US$34 B, including the debt CenturyLink will assume.

This is a huge amount considering CenturyLink’s enterprise value stands at US$33.5 B. More than anything else, this acquisition should be considered as a merger of equals.

Benefits to CenturyLink

With the help of Level 3’s ~US$10 B in aggregate net operating losses, the acquisition should substantially improve free cash flow, and in turn help to enhance CenturyLink’s financial flexibility and significantly lower its payout ratio.

CenturyLink will also benefit from the increased scale of the two companies’ combined fiber networks, increasing its network by 200,000 route miles of fiber and giving it a presence in more than 60 countries. On-net buildings should increase almost 75%, to 75,000, after accounting those already served by both Level 3 and CenturyLink, including 10,000 buildings in Latin America and the EMEA regions.

Moreover, CenturyLink expects significant cost synergies. It will be able to focus its capital investments on increasing capacity and extending the reach of its fiber network. The company should be able to identify significant incremental revenue growth opportunities through its impending ability to deploy the combined product portfolios across the combined customer base. In particular, CenturyLink can avail benefits from Level 3’s global footprint.

The deal is still subject to federal and state regulatory approvals, as well as the approvals of both CenturyLink and Level 3 shareholders. However, if the acquisition closes as planned later this year, and if CenturyLink is successful in the integration process, shareholders who opt to continue despite the market’s suspicion are expected to benefit from their decision in the long run.

Opportunities and Potential Impacts to Clients

The acquisition of a company generally reflects potential impacts that the acquired company may face in terms of operations. During the first few months of being acquired, the company will be exposed to substantial changes the organizational structure, reshuffling of roles and physical assets to enhance productivity, as the two companies transition to a single company.

A common concern is the possibility of layoffs and job cuts. This could impact clients as it may lead to the exit/rearranging of key personnel that could be unfavorable to an ongoing project. While authoring a new contract or renewing an existing contract with CenturyLink or Level 3, including key personnel clauses will help minimize the impact of such attrition.

The progress of impending acquisition deals should be monitored to effectively leverage opportunities arising out of it. Whether the anticipated impacts of an acquisition are positive or negative, it is imminent to remain updated on any changes in a supplier’s business operations. A thorough analysis and a proactive action plan well in advance will ensure a smooth transition in adapting to new organizational changes.

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