Covad Files for Chapter 11

The company says that Chapter 11 will allow it to unload $1.4 billion of debt and retain enough cash to make it profitable by the year 2003.

by Jim Wagner of internetnews.com [August 7, 2001]

Covad Communications Group, Inc., announced it plans to cash in its bonds through a Chapter 11 bankruptcy debt restructuring filing in mid-August, which would free the company from $1.4 billion in debt and leave the company with $250 million in cash.

Officials said a majority block of bondholders agreed to convert their bonds for a combination of Off-The-Counter Bulletin Board shares and 19 cents per bond. All told, bondholders would receive $283.3 million in cash and 33 million shares.

The announcement comes after creditors started issuing warnings to Covad executives to stop "wasting its remaining cash assets." In May, bondholders said Covad had about $600 million in cash but expected to lose $450 million of that for the year.

The move, subject to legal approval, would give the troubled data competitive local exchange carrier (DLEC) some breathing room to get its operations profitable as it continues to acquire customers and trim operating costs.

It's uncertain whether a federal judge will decide if Covad has a chance to succeed with a debt restructuring. If not, the judge can rule against the Chapter 11 reorganization and counsel a Chapter 7, or liquidation, proceeding.

In that case, bondholders would get as much money back as Covad's assets are worth. Bondholders stand to lose a considerable amount on their loans if Covad doesn't have much in the way of cash and can't get much money for their equipment and subscriber base.

It's similar to what happened to defunct DLEC NorthPoint Communications, Inc., which filed for Chapter 7 bankruptcy protection earlier this year and only got $135 million for its troubles. Creditors were left with a defaulted loan and are currently looking to recoup losses in a lawsuit against Verizon Communications (NYSE:VZ).

Charles Hoffman, Covad president and chief executive officer, said the move puts them in a more comfortable position and leaves them only $200 million short of the monies it needs to make it to the third quarter of 2002, when he expects the company to operate cash-flow positive.

"Covad will be in a much stronger financial position going forward, with no debt and a much smaller cash requirement, if this transaction is successful," Hoffman said. "With the growth in our revenue and continued reduction of costs, all of which put us on a faster track to profitability, we expect to be in a much better position to raise the additional funding we need."

Despite an uneasy relationship with many Internet service providers (ISPs) around the nation, some are calling the move a good one that keeps Covad away from insolvency and puts ISPs back under the thumb of incumbent local exchange carriers (ILECs) like Verizon.

Harry Taxin, president and chief executive officer of DSL provider MegaPath Networks, said the Chapter 11 filing would be good for the DSL industry in general.

"This is a very positive step for Covad and we are pleased to hear that the financial issues are in the process of being resolved so as to move the company toward long-term success," Taxin said. "The industry needs a strong, independent data CLEC provider, and this news will help the DSL industry continue its rapid growth by ensuring that the supply chain is viable and stable."

"We believe this transaction to be in the best interests of our bondholders and shareholders," said Chuck McMinn, chairman of Covad. "We now believe that once this transaction with Covad bondholders is completed, we will need approximately $200 million more in cash to get us to a positive cash flow position, which we expect will be by the third quarter of 2003."

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