CenturyLink connects with Level 3 in 2016’s largest telecom deal

Contact: Mark Fontecchio

CenturyLink makes a move to the other side of the deal table, shelling out $24bn for Level 3 Communications in an attempt to expand its portfolio of business services as the datacenter market awaits an announcement on the fate of the company’s colocation business. Today’s transaction marks a big bump in telco M&A spending for the year. The acquisition is 2016’s largest telecom consolidation play by a factor of 10, although it would be less than half the biggest in either 2015 or 2014.

The purchase is uncharacteristically sizable for CenturyLink, which had a market cap of about $16bn before the announcement. The company had only paid beyond $10bn once before, when it bought Qwest Communications in 2010. Its next-largest purchase, the $5.8bn reach for EMBARQ in 2008, was a similar pickup of a consumer-focused telco. Most of CenturyLink’s recent investments have aimed to bolster its business services. Yet the only time it’s spent more than $1bn on such an effort was the $2.5bn acquisition of Savvis in 2011, some of which could be undone when it finishes exploring ‘strategic alternatives’ for its shrinking colocation unit – a process that it says will still wrap up this quarter.

CenturyLink will pay 60% of the cost of Level 3 in stock and the rest in cash. That dilution helped push the company’s stock price down 12% following the deal announcement. Including debt, the purchase values the target at $34bn, or 4.1x trailing revenue. That’s the second-highest multiple among the nine $10bn+ telco deals in the past half-decade, according to 451 Research’s M&A KnowledgeBase. The healthy valuation is certainly not due to recent growth, as Level 3’s revenue is flat.

What CenturyLink does obtain is an international footprint (20% of Level 3’s revenue is generated outside the US), an extensive fiber network and expanded revenue from businesses. Inclusion of Level 3’s revenue bumps CenturyLink’s enterprise sales to 75% from 64%. This acquisition is being driven as much by financial considerations as strategic ones. CenturyLink will inherit $10bn of net operating losses and gain an estimated $975m in cost reductions when the transaction closes, which is expected in the second half of next year.

The deal is the third-largest telco consolidation play in the past eight years, behind Charter Communications buying Time Warner Cable and AT&T nabbing DIRECTV. It significantly expands what had previously been a lean year for telecom M&A, with this single transaction nearly doubling the total amount that telcos have spent on acquisitions in 2016, to about $50bn. Compare that with 2014 and 2015, during which telcos spent an average of $150bn on purchases, according to the M&A KnowledgeBase.

Bank of America Merrill Lynch and Morgan Stanley advised and Evercore Partners provided a fairness opinion to CenturyLink on the deal, while Citigroup Global Markets advised and Lazard provided a fairness opinion to Level 3.