Suddenlink: Seizing Next Opportunity

About a year removed from the business-transforming, $3 billion acquisition of 1.1 million cable subscribers, Suddenlink Communications honcho Jerry Kent is bullish enough on the business to want to buy more and get bigger.

“Frankly, for just about a year, I [had] put a moratorium on any major acquisitions,” the former Charter Communications CEO said in a recent interview. “Our people have literally worked 18-hour days, seven days a week in a lot of these integration situations. We really were in a situation where we couldn’t afford to layer on another major acquisition.”

Now, the Suddenlink chairman and CEO says the integration phase is basically done and “we are now finally to the point where we can look at another significant acquisition.”

Buy what, and buy where? Kent won’t say.

Suddenlink would like to buy another 500,000 to 1 million subscribers, he said, but there doesn’t appear to be much available for sale. Not like at Charter shortly after it was bought by billionaire Paul Allen and made 18 major acquisitions in 1999 and 2000.

“That’s not going to happen again,” Kent said. “When you find those opportunities, like we did with Cox and like we did with Charter, we just need to be positioned to take advantage. We have a track record of doing that.”

Acquisitions could also be complementary, like telephone providers, fixed-wireless operators or security companies — an indication of the revenue opportunities the modern cable platform can accommodate.

Suddenlink’s even toyed with forming its own “Geek Squad”-type computer-support business, according to its CEO. “There are other opportunities out there that can fit in and provide synergies.”

Kent helped found Charter in the 1980s, then resigned as CEO in 2001 after falling out with chairman Paul Allen. His return to cable came in 2002, when he formed telecommunications investment firm Cequel III with partners Howard Wood (another Charter co-founder) and telecommunications lawyer Dan Bergstein.

Their first big cable deal was a 2003 management contract to run Classic Communications, the Tyler, Texas-based rural market operator that had reorganized under bankruptcy laws.

Cequel took on a big turnaround effort with that first deal, needing to consolidate headends in order to make the 300,000-subscriber operation more profitable.

Classic had suffered from a lack of money, a lack of sophisticated management and a lack of technology. It averaged about 700 subscribers per headend, substantially more expensive to operate than similarly sized mid-tier cable companies such as Mediacom Communications and Insight Communications, averaging 12,000 and 56,000 customers per headend, respectively. (Suddenlink now averages about 49,000 customers per headend.)

Kent said Classic looked like a good place to start building a footprint and a management team — while awaiting “transforming acquisitions that would morph it into a large, vibrant cable operator.”

Those transforming acquisitions didn’t take long to emerge.

A pair of them, in fact.

Last May, Suddenlink (then called Cebridge Connections) bought about 940,000 customers in 10 states from Cox Communications for about $2.55 billion.

Some two months later, the St. Louis-based operator made another big acquisition, getting 240,000 subscribers in Charleston, W.Va., and surrounding communities from Kent’s former company, Charter Communications, for about $770 million.

Those two deals vaulted Kent’s company into the top 10 U.S. cable companies (from No. 12) and changed its profile from a largely rural market operator to one inhabiting solid secondary markets.

Kent and his team have been working hard at integrating the two acquisitions, migrating customers onto Suddenlink’s network and billing system, adding new services like video on demand and telephony and assimilating more than 3,000 new employees.

In conjunction with the Cox and Charter acquisitions, Cebridge changed its name to Suddenlink and again began the process of weeding out unprofitable systems and consolidating headends. In the end about 100 cable systems — most with less than 100 customers per headend — were shut down. “At that size, you couldn’t justify putting the money in to build out the technology,” Kent said. Some 400 headends were sold, representing about 100,000 subscribers.

Suddenlink tried to make the shutdowns as painless as possible, giving customers 60 days of free service and suggesting they migrate to satellite.

The cable operator emerged from the consolidation with about 1.4 million customers clustered in eight states, more than half of those subscribers served by 14 headends. More than 70% of subscribers are served by headends with 10,000 customers or more and by plant upgraded to 750 Megahertz capacity or greater.

“What they did represents what you can do when you focus the operation,” said Leichtman Research principal Bruce Leichtman, a former cable marketing executive. “There are so many levels of economies of scale that you can take advantage of by doing things like that.”

The efforts also paid off financially, company executives say. Suddenlink generated more than $400 million in earnings before interest, taxes, depreciation and amortization (EBITDA), a measure of cash flow, in 2006 on pro forma revenue of $1.2 billion.

Chief financial officer Mary Meduski said the company is poised for double-digit revenue and cash flow growth for the foreseeable future — mainly through organic growth opportunities in phone sales.

Suddenlink’s phone service was available to just 16.1% of homes passed in 2005.

The target for 2006 is phone service availability in 80% of homes passed.

That growth potential helped draw in New York private equity firm Quadrangle Group as a recent Suddenlink investor. Quadrangle ponied up about $150 million for a 17% equity stake in April 2006, indicating a total Suddenlink equity valuation of around $900 million. The company has about $3 billion in debt, for an overall valuation of around $4 billion.

“Management has met and exceeded our expectations,” Quadrangle managing principal Jeffrey S. Nordhaus said. “Putting a company of this size together, with all the integration risk, and still hitting your numbers is a pretty strong accomplishment.”

Nordhaus breaks Suddenlink’s evolution down to three phases. The first was assembling the key people (managers and investors) and securing operational scale, via the Cox and Charter acquisitions.

The second was integrating those acquisitions, which Nordhaus said Kent and his team accomplished in fine fashion, “finishing ahead of schedule with no major hiccups.”

Now, Suddenlink is in the third phase: rolling out telephony as the third component (with video and high-speed Internet service) of an integrated bundle.

Suddenlink’s apparent smooth integration involved migrating some 420,000 high-speed data customers and 1.1 million video customers while also preparing to expand rollouts of ancillary services such as video on demand and telephony.

About 20% of the Cox systems Suddenlink acquired already offered voice over Internet protocol, mostly in Lubbock, Amarillo and San Angelo, Texas. Suddenlink expanded it to a handful of other markets this year (Tyler, Bryan/College Station and Georgetown, Texas) en route to the 80% availability target by year’s end.

“It’s a lot easier when you buy an entire company, you just kind of swallow it as a whole,” said Kent said of the integration process. “But when you buy pieces, we had to unplug the billing systems, the backbone and the telephone back office operations, we had to unplug those out of Cox and plug those into Suddenlink. That’s obviously a very risky process. You put your customers through a lot. If you fumble the ball you can lose a lot of customers and lose your reputation.”

The main short-term operational goal is to continue rolling out the phone service while continuing to roll out new features and services: video on demand, digital video recorders, HDTV.

Chief operating officer Tom McMillin said about 40% of Suddenlink’s footprint will have access to VOD by the end of the year, with the vast majority of its systems gaining access to the product by the end of 2008.

Suddenlink recently added five new HDTV channels to its systems — TNT HD, National Geographic HD, HGTV HD, Food Network HD, and A&E HD — bringing its total HD lineup to about 23 channels in systems that offer a full HD complement.

“One of our biggest problems right now is finding enough HD converter inventory. They’re flying off the shelves,” Kent said. “That’s both HD and DVR.”

Despite serving secondary markets, Kent said HD set sales are strong in Suddenlink markets mainly because of their demographic makeup — with relatively high household incomes — and declining HD television set prices.

“We were seeing that early adopters tended to be higher household income,” Kent said. “Now we’re seeing it from a broad spectrum of customers, now that you can buy HD sets for as low as $500 or $600. I think the crossover point was when the HD sets went into Wal-Mart. Then you saw that everyone is a potential HD customer.”

Suddenlink says HD’s helped keep customers from defecting. “What’s interesting is that in a number of our markets where we have broadcast channels with HD that we offer our customers, satellite does not have local HD from the broadcasters,” Kent said. “It gives us a competitive advantage, at least for now.”

Leichtman estimated about 25% of U.S. homes have at least one HDTV set. Even in secondary markets, that percentage is probably in the low 20s.

“That’s still a lot of people and a lot of opportunity,” Leichtman said. “They might index below the average, but there are still a lot of people there.”

Some Suddenlink markets have some high DBS exposure: Charleston-Huntington, W.Va., for example, has 32% DBS penetration of total TV households compared to 61% penetration for cable.

But Kent believes Suddenlink’s troika of voice, video and high-speed data should help secure an advantage.

Nordhaus likes the potential. “Part of Quadrangle’s strategy was to invest in systems in less densely populated markets where the risk of [regional Bell operating company] entry was somewhat reduced,” he said. “These are attractive markets where we expect to have minimal direct competition from the RBOCs. We clearly will have satellite competition, but satellite doesn’t have a triple play, whereas Suddenlink does.”

More than half of Suddenlink’s footprint is in AT&T territory but, so far, AT&T has been less aggressive in rolling out its U-Verse broadband and video services in Suddenlink markets than telco counterpart Verizon has been in general.

“We anticipate that [AT&T] will get their bugs worked out and they’ll be a viable competitor,” Kent said. “But we think that cable’s pipe has competitive advantage and if we have the triple play first and we’re keeping the customer happy, there is no reason for our customers to go over to AT&T or any other competitor.”

Kent said there has been some pricing pressure from EchoStar Communications’ Dish Network. But DirecTV, the largest DBS service provider, appears to be competing more on technology, such as HDTV offerings, than on price in Suddenlink markets.

Competing also “goes back again to taking good care of that customer,” Kent added. “It’s incenting our people and building a culture where you want to win one customer at a time.”

Kent also has to bear in mind eventually helping his investors recoup their investment with a profit.

But given that most Suddenlink investors have been on board for less than a year — with the average cycle for private equity investors being three to five years — there’s still time to figure out how to provide that return.

“We’ve toyed with doing a dividend recap to get a return to our investors,” Kent said. “Certainly an IPO is a possibility. A sale, bringing in different equity investors to replace the private equity investors, certainly a possibility. There are a myriad of options to get liquidity to the investors.”

Meduski added that “exits are very easy to talk about when things are going well and when we’re performing. Our investors will have lots of options down the road.”

If Suddenlink does decide on a public stock offering, Kent feels he has a management team that’s up to the added challenge and scrutiny.

“If that’s the right thing to do for our investors and the company, we’d do it,” the CEO said. “Can I tell you that I’m dying to be public again? No. I’m having too much fun right here. If that’s what’s best for the company, then we’ll do it.”