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Nothing Changes a Telecom Deal Like a Merger or Acquisition

The forces of change are always at work as technology advances and markets fluctuate. But sudden and wrenching transformations are more commonly brought about by a "change event"--a merger, acquisition or divestiture ("M.A.D."). In the third quarter of 2012, merger and acquisition activity in the U.S. was approximately $195 billion.

When companies acquire or divest business units, they seldom think seriously about the impact on their telecom networks or contracts until weeks--or months--after closing. That's a mistake. This article explores how your company can take steps to protect its investments and minimize the adverse impact of a M.A.D. or, better still, take advantage of the event to improve your deals.

There are three stages in dealing with a M.A.D.. The first takes place when you are negotiating or extending telecom contracts before anyone has bought or sold anything--that is, how you position and protect yourself for any eventual M.A.D., even if no M.A.D. has been announced at the time you're contracting for telecom services (this is the pre- M.A.D. contract stage); the second, during the planning for the event (the due diligence stage); and the last, immediately after the event (the implementation stage). We'll consider each in turn.

The Contract Stage--Before You Get M.A.D.
Your company's ability to lessen the impact of a M.A.D. on your network and associated contractual relationships (or to leverage an event to your benefit) is strongest during the contracting process. Most companies are focused on the nuts and bolts (prices and services) of their contracts and therefore overlook this opportunity, or do not anticipate a M.A.D. and discount the need to address the possibility in advance. But change happens, and there are three key actions your company can take during the contract stage to prepare for an eventual M.A.D.:

* Control your commitments
* Handle your assignment clause with care, and
* Consider adding a change clause.

First, pay attention to your commitments. Most contracts have two forms of commitments: minimum revenue commitment(s) and individual circuit commitments.

If you know a possible divestiture is in the works, you should account for any downward projected spend and the disconnect of dozens/scores/hundreds of circuits. On the flip side, if you know of a potential acquisition, try to leverage the additional spend to increase your "cushion" (the amount by which commitment-eligible spending exceeds the minimum commitment), and resist any attempts to boost the commitment level. No one wants to explain to senior management that the company must take an unexpected hit in the form of shortfall charges because you made too large of a revenue commitment, in anticipation of a merger that ultimately fell through.

If the carrier is unwilling to let you reduce your commitment or you are unable to disclose a potential merger or articulate the impact of a divestiture, you can protect yourself through a clause that allows you to reduce your commitment in the case of a business downturn or divestiture of a business unit or subsidiary. You can also get the right (and it is much easier to get this right in advance) to allow a divested entity to continue to receive services under your contract for a period of time (typically a year) so that the transfer of that unit is smooth. Note that you'll probably be "on the hook" for that usage vis a vis the carrier, and should negotiate a side letter with the acquiring company to take responsibility.

Individual circuit commitments are a bit harder to address. Carriers love to impose terms on individual circuits, and many have standard contracts in which the circuit terms auto-renew. Those can wreak havoc in a M.A.D. because they create commitments that are not coterminous with each other or the contract, substantially reducing the ability to realize the expense reductions that follow services consolidation.

It is hard to get carriers to agree to the right to terminate a circuit without penalty because of a divestiture or acquisition; a better solution (smart in any event) is to keep circuit terms to a minimum and limit them to high capacity circuits (100 Mbps is a good threshold). When that is not possible, you can try to get a M.A.D. clause that addresses circuit terms, or a provision that allows a divested entity to take over a circuit without the divesting company incurring early termination liability. Another option is to seek a lower termination liability for circuit terminations that are due to a M.A.D. (this allows you to "share" the pain with the carrier).

Next page: Assignment clause and M.A.D. clause

* Second, handle your assignment clause with care. Many carrier boilerplate assignment provisions allow the carrier to assign at will, while restricting the customer from any assignment, or only allowing assignment by the customer if certain conditions are met. Pay attention and work to defang the assignment conditions imposed on you. And make sure that assignment can be made to a successor in interest (e.g., a company that purchases and assumes the obligations of the purchased company) without permission.

* Third, consider adding a M.A.D. clause. A solid change event clause:

--Allows a company that acquires or merges with an entity that takes service from the same carrier to terminate one of the contracts without liability and move its services to the retained contract. The carriers will often allow this type of clause only if certain conditions are included, such as the recovery of any material up-front credits given as part of the terminated contract. That makes sense, but only if the credits are prorated (most credits are just ways to reduce rates, and repaying 100% of the credits would be a windfall for the carrier).

Carriers may also request adding together any remaining commitments. This can be a problem as most mergers anticipate some downsizing to achieve efficiencies--on the cost side, 1 + 1 is not supposed to equal 2.

--Includes the right to pick the account team that will service the new merged company. This won't guarantee that a particular person will stay involved, but it will increase the likelihood. If the carrier objects based on geography, remind them that they promote the ability of their people to work from anywhere, and their own ability to support users remotely.

--Gives the right to reduce your commitment if you spin off a business unit or affiliate. Carriers won't readily agree to this, but it is a reasonable request and if made early and part of your deal terms, you can get some protection.

These actions, when performed in advance of detail planning for the actual M.A.D., can address some of the risks associated with telecommunications agreements and services, and set the scene for the activities in the next stage.

The Due Diligence Stage
When a merger, acquisition or divestiture is contemplated, companies are thrust into a whirlwind of activity, mostly focused on key financial/business issues (and who will get the plum jobs in the combined or spun-off entity). People pay relatively little attention to the fact that the acquired entity must fit into the new company's consolidated network infrastructure. Sales and operations cannot come to a stop while the transaction takes place or the migration occurs, and it is unlikely that the day a deal is inked a divested business will no longer need telecom from its former parent. To avoid chaos, someone has to focus on the effects of a deal on telecom needs.

Next page: Details of due dilligence

Investigation and planning during the due diligence stage is critical to streamlining the network operations necessary to keep the data and calls coming. At a minimum, companies should focus on the following as part of their due diligence:

* What is the anticipated transition of services? What can be added to the acquiring company's network easily and quickly, and what will take more time/effort to move? If offices or facilities will be closed or divested, how will that affect network architecture, traffic, and spend? What about key toll free numbers and mobile phones? If the companies have different "lead" carriers, which will be retained or, if both are, how and where will traffic be exchanged?

* Will the acquiring company have to change technology to accommodate critical activities of the acquired business? For example, is one company using MPLS while the other remains on Frame Relay? If both parties are using business-class VoIP, do they use a centralized or distributed model? Do they have compatible session border controllers (SBCs)?

* What is the anticipated impact of the merger on the company's traffic and current bandwidth? Will the decline or increase affect rates, as may occur if you have to meet certain traffic levels to maintain prices or get critical credits, or if your contract has a provision that you lose discounts if your traffic goes above a certain level? (The latter are designed to discourage resale, but can be a problem if you make a large acquisition.)

* What is the impact on the company's data centers? Will key connections need to be resized? Does the company have a business-class VoIP/SIP Trunking solution in place; if so, how will it be affected by a substantial change in traffic?

* Who are the suppliers involved, and has available negotiating leverage with each been assessed? It is generally easier when both companies have the same lead carrier, but sometimes leverage can be enhanced if you have different service providers because then a merger or acquisition can spur aggressive competition.

* Will you lose (or gain) redundancy? Sometimes downsizing means losing redundant circuits. Conversely, if two companies have different carriers, the acquiring company may be able to use this fact to increase redundancy and diversity at relatively low cost, by keeping both carriers.

* What is the status of the existing contracts? If you have a contract that is about to expire, you have to decide how to deal with that. For example, if you are acquiring a company, it will take some time to merge networks, and if the merged company has a key contract that will expire shortly before or after the deal is set to close, you can face complications and artificial deadlines. You also need to look carefully for auto-renewal provisions, commitment obligations and "gotchas" that are embedded in the contracts.

* Does the acquired company or business unit have any private radio licenses that need to be transferred? Many companies overlook this and face penalties and fines from the FCC. Similarly, does the acquired company have software licenses that need to be addressed? Does the acquiring company have the capacity on its licenses to bring on the new equipment and individuals?

None of these questions can be addressed without rolling up your sleeves and really looking at the current status of both entities' contracts, which can be difficult if there are restrictions on exchanging contracts prior to the close of the deal. It can be even more difficult if contracts are misfiled or lost, or critical knowledge holders have departed.

To head off such problems, consider performing a regular audit of your network contracts and licenses so that you have current, reliable information available at all times. If you use a respected outside consulting firm or law firm with experience in M.A.D. for this purpose (yes, we do have a bias), you'll have the added benefit of a knowledgeable team available that will stay with you during this critical period and that is not tied up on the myriad other merger activities or the day-to-day operations.

To summarize, a detailed due diligence process addressing the volume of telecommunications services and their transition, data center impacts, suppliers, and redundancy is essential to keeping network operations running smoothly while preparing for the post-change event environment.

Next page: The implementation stage

The Implementation Stage
Once a M.A.D. takes place, the hard work of actually merging and right-sizing the network can begin. Opportunities exist on both the operations side and the business/strategy side.

On the operations side, both the acquiring company and the divesting company need to assess the impact of the change event. If the divesting company is allowing the unit to remain on its network during a migration period, it needs an agreement in place to cover usage, payment, indemnification, maintenance and account support, notification of disconnects and the like (new orders can be an especially sticky issue).

For its part, the acquiring company needs to establish a method of integrating the "knowledge holders" and making sure that it understands the needs and current setup of the acquired company's telecom services.

Now is the time, especially if it was not done during the due diligence period, to take a careful look at the contracts you acquired and how they can be integrated. Focus on expiration dates, automatic renewals, commitments and discount percentages (or credits) that vary with level of spend; transition periods; customer obligations; and hidden gotchas. You will also want to evaluate the strength of the services and account teams as a part of figuring out which you want to keep, and which you don't.

This period also provides an opportunity to do some long- and short-term planning. As noted above, you want to be sure that you have the coverage you need during the first part of the implementation. To do that, you may have to enter into short-term extensions. This is also a great opportunity to assess whether the M.A.D. gives you leverage to try out another provider and refresh or improve your contracts, which can be compared to assess their relative strengths and weaknesses.

From a longer-term perspective, this is the perfect occasion to prepare for an RFP to take advantage of the leverage you get from a M.A.D., especially if a change in network technology is spurred by the deal. If you didn't have two carriers providing service before, an acquisition may provide that opportunity and will incent both to provide competitive bids.

You may also have to deflect carrier attempts to tie you up through excessive commitments. We have seen several examples of a customer finding itself in shortfall after relying on carrier traffic projections when making a post M.A.D. commitment, only to find out that the volumes were inflated or the projection did not take into account merger synergies.

Change is disruptive, but that can be a good thing if it encourages companies to view contracts, networks and vendors from a different perspective. Savvy IT procurement and network managers plan in advance for disruption and have the tools in place to respond quickly and creatively when change occurs. Be part of the first group.

Jack Deal is a Managing Director at TechCaliber Consulting, LLC (TC2) and utilizes his 30+ years of industry experience to advise enterprise clients on all aspects of leading-edge network sourcing and strategy.

Laura McDonald is a Partner at Levine, Blaszak, Block & Boothby, LLP (LB3) and has spent close to two decades advising clients on matters related to telecommunications and network deals.

Laura McDonald is a Partner at Levine, Blaszak, Block & Boothby, LLP (LB3) and has spent close to two decades advising clients on matters related to telecommunications and network deals.