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April 6, 2005

MCI rejects Qwest again, as hostile takeover battle looms

MCI has spurned a sweetened takeover offer from Qwest Communications International for the third time, hours after receiving a stark warning from Verizon Communications that it was prepared to walk away from the deal. The rejection has also triggered speculation that Qwest could soon start a hostile takeover battle, depending upon the reaction of MCI shareholders to the news.

By CBR Staff Writer

The latest developments began after MCI was given until Tuesday midnight to respond to Qwest’s improved $8.9bn offer. According to reports the Ashburn, Virginia-based carrier had asked Qwest to increase its bid to $9.9bn, or $30 a share, up from its current $27.90 a share. Verizon’s deal is valued at $23.50 a share.

However Qwest apparently refused to increase its offer and reaffirmed the midnight deadline or it would withdraw its $8.9bn offer if its bid were not deemed superior to Verizon’s $7.6bn offer. This left the MCI board to make a decision, and on early Wednesday morning its Board of Directors announced it had decided that Qwest’s proposal was not superior to its merger agreement with Verizon.

The Board carefully reviewed and considered financial terms, merger-related conditions, market risks and customer reactions in arriving at its conclusion. The Board reached out to Qwest seeking improvements on financial terms, certainty of close and other merger terms. Qwest immediately rejected virtually all of MCI’s requests and reaffirmed that its latest proposal is its current best proposal.

MCI then went onto give its reasons for opting, once again, for Verizon, citing that Qwest’s bid was unpopular with its customers, and was also concerned with Qwest’s cost-saving assessments and its contingent liabilities.

MCI’s Board also took into consideration a number of uncertainties in terms of value and likelihood of closing, including the negative sentiment among MCI customers toward a Qwest combination. Other concerns centered on Qwest’s synergy assessments, as well as the risks associated with Qwest’s contingent liabilities.

In the face of these risks, MCI was not willing to jeopardize the certainty of its Verizon agreement for the uncertainties surrounding the Qwest proposal.

Qwest was quick to respond to the rejection, and in a sign of how closely its management is monitoring developments, it rushed out a statement.

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Qwest has diligently pursued a combination with MCI over an extended period of time. Throughout this process, Qwest has focused on delivering maximum value to MCI shareholders while creating benefits for all shareholders, stakeholders and customers.

MCI’s Board of Directors has chosen to reject what we believe is a superior offer to acquire MCI. The company is currently weighing its options and shareholders will dictate the next steps in this process.

Qwest then on went to outline why it thought its sweetened bid provided superior value for MCI shareholders, and highlighted that with its total cash and stock offer of $27.50, Qwest’s bid stands at nearly a 20% premium over Verizon’s offer of $23.10. The cash component of Qwest’s bid – $13.50 per share – is 62% greater than Verizon’s $8.35 per share.

Qwest then reiterated that its offer would provide a higher financial payout, faster regulatory approval and greater synergies than the rival deal with Verizon. It then again hinted at its next course of action.

We are confident that our offer is superior, and statements of support from many MCI shareowners indicate that they are in agreement with us…Qwest will allow shareholders to dictate the next steps.

MCI’s refusal yet again to entertain Qwest’s renewed bid means that the prospect of a hostile takeover battle is now a very real possibility. Essentially, Qwest could bypass MCI’s management and put its offer direct to MCI shareholders.

Yet in reality the ball is now fully in the court of the MCI shareholders, especially those investors who in recent weeks have been most vocal in urging MCI’s board to go with the higher offer from Qwest. The single largest block of MCI shares belongs to hedge funds, which bought MCI’s debt when it emerged from the WorldCom bankruptcy, and converted it into stock.

It was typically these investors who were leading the calls for the MCI board to accept the highest bid, in order gain maximum returns on their investments. Yet it is recognized that their interest is relatively short-term and financially motivated, and they may not that concerned with the business after the takeover.

However Qwest’s chief executive Richard Notebaert will now be hoping that he receives public statements of support for him to press ahead and present his offer to the shareholders. If these statements of support are forthcoming, it is highly likely Qwest will bypass the MCI board and trigger a hostile takeover battle. If they remain silent, Qwest risks an embarrassing rejection at any MCI shareholders meeting in May or June.

Indeed, according to Reuters, the chief executive of Legg Mason Capital Management, Bill Miller, who owns 5.6 million shares of MCI, went public on Tuesday evening and said he favors the Qwest bid, and would vote against MCI’s deal with Verizon.

In a letter to MCI he said that Qwest’s bid was clearly and significantly superior to the $7.6bn deal with Verizon that MCI’s board favors.

If the latest Verizon offer is presented to shareholders for approval, we intend to vote against it, Miller said. We believe the current shareholders of MCI overwhelmingly prefer the Qwest offer and that it provides superior short and long term value.

Qwest has been remarkably determined over the past seven week period to reverse MCI’s decision to go with Verizon. This is because the former WorldCom has a very attractive asset in providing telephone and data services to large corporations. Additionally, it has to be said that MCI’s cash flow is highly attractive to Qwest as a way of reducing its $17bn debt pile.

Interestingly, most of MCI’s workforce seems to be backing a tie-up with Verizon, rather than Qwest, which is hardly surprising given Verizon’s greater stability due to its position as the largest US local-telephone company.

Furthermore, Qwest had estimated that it could gain more cost savings from a merger with MCI than Verizon would be able to. Notebaert had previously said that merging with MCI would produce 12,000 to 15,000 layoffs, many of which are expected to come on the MCI side. Verizon’s layoffs are expected to be not as widespread, possibly totaling 7,000.

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