Deconstructing AT&T

Chuck Noski is leaving AT&T -- but not before he takes it apart.
A CFO InterviewJuly 1, 2002

Like many people, Charles H. Noski has tired of his commute. That’s understandable, since the vice chairman and CFO of AT&T Corp. hops on a corporate jet in New Jersey at the end of each week and flies to southern California, where his family lives. Having logged those 6,000-mile round trips since coming over from Hughes Electronics in December 1999, he’s now decided it’s time for a change.

But the desire for more time with his wife and two daughters isn’t the only reason Noski announced on May 23 that he will leave AT&T once the sale of its cable TV unit, AT&T Broadband, to Comcast Broadband, is completed late this year. After two and a half years in one of Corporate America’s toughest CFO jobs, Noski has done just about everything that chairman and CEO C. Michael Armstrong and the board of directors asked him to do.

That’s quite a lot, from conducting the auction of AT&T Broadband–which Comcast Corp. won for $47 billion over rivals AOL Time Warner and Cox Communications–to overseeing AT&T’s restructuring into four publicly held businesses. That monumental task began in October 2000, after Armstrong’s dream of building a communications superpower dissipated in the messy reality of cable operations and the nightmarish meltdown of the telecom industry.

AT&T Wireless became an independent company in 2001. And when Broadband goes, taking Armstrong with it as chairman of the new AT&T Comcast, the “T” ticker symbol will ultimately cover just AT&T Business Services (a tracking stock is planned for Consumer Services). The new AT&T will be even more exposed to the alarmingly rapid decline of the long-distance voice business, which currently accounts for about half of the company’s revenues. With more competition ahead from the regional Bells and more substitution of wireless and E-mail for long distance, AT&T is betting the future on providing communications services for businesses, a market that could be worth $60 billion in the United States alone.

Financially, AT&T will tower over such heavily leveraged rivals as WorldCom and Qwest, thanks to Chuck Noski’s overhaul of the balance sheet. Via a series of outsized transactions, the CFO and his staff have reduced a staggering debt load of $65 billion to $34 billion in total net debt. The sale of the cable unit will leave AT&T with around $15 billion in debt and one of the lowest debt-to-EBITDA ratios in the telecom industry.

Not that AT&T will have an easy time of it. Citing the erosion of long-distance revenues, Moody’s Investors Service recently downgraded the company’s credit rating two notches to Baa2 (Standard & Poor’s rating is BBB+). Some speculate that once Broadband is sold, a Baby Bell like Verizon or SBC will move to take over its former parent. One thing is sure: by then AT&T will be on relatively firm financial ground, an achievement that wins kudos for Noski from Wall Street. “What he’s done, I would argue, is basically save the company,” declares Adam Quinton, a telecom analyst at Merrill Lynch & Co. Without Noski’s shrewd management, “AT&T as we see it today might have taken a very different course,” says Quinton, who, tongue firmly in cheek, faults the CFO only for “his rather bad timing in terms of when he joined the company.”

Last February, the 49-year-old Noski publicly took himself out of the running to succeed Armstrong as CEO, so news of his departure probably caught few off-guard on the Street. It surprised CFO, however, coming just two weeks after he sat down for an interview with articles editor Edward Teach. Noski subsequently explained that his long good-bye ensures that investors will be forewarned before AT&T’s July 10 shareholder meeting, when the Comcast deal will be put to a vote. It will also give AT&T time to groom a new CFO–who was named as this issue went to press: Thomas W. Horton, the CFO of AMR Corp., the parent of American Airlines.

Last December, Ralph Larsen, then the CEO of Johnson & Johnson and a former AT&T board member, told the Wall Street Journal that you have “the toughest CFO job in America.”

I read that. [Laughs]

Do you agree?

It’s certainly one of the most challenging.

You seem pretty relaxed for someone in such a demanding job.

If I appear relaxed, it has more to do with the fact that from a financial standpoint, we have accomplished an awful lot in the last two and a half years. We’ve got a clear path to a level of financial health and stability, a clear strategic direction, and it is pretty much in our hands to execute and get there.

Much of what you’ve accomplished has to do with reducing the company’s enormous debt load, which stood at about $65 billion when you started.

When I came to AT&T, we were just completing a rather ambitious acquisition program. AT&T had issued a lot of stock, but it also took on a lot of incremental debt, and generally there was the expectation that the core long-distance telephone business–which had historically generated enormous cash flow, and still does today–was going to continue [to hold up] for some time, as new businesses like cable and wireless ramped up.

Unfortunately, the long-distance business, as an industry, declined faster than anybody would have expected. As a result, the level of debt we had was greater than what was going to be financially healthy. We needed to reduce it, and so we undertook a whole set of actions beginning in 2000, including reducing the dividend 83 percent and selling off billions of dollars of noncore assets.

We took AT&T Wireless public in the largest IPO in U.S. history–$10.6 billion. We also did the largest debt-for-equity swap ever done, involving $1.6 billion of AT&T Wireless common stock. And at the end of last year, we agreed to spin off AT&T Broadband, the largest cable television company in the U.S., and merge it with Comcast to create the nation’s leading entertainment, communications, and information company.

We’re projecting now that by the end of this year, we will have reduced the debt of the remaining AT&T Corp. down to probably the mid-teens, in terms of billions of dollars of debt.

Let’s talk about the strategy that gave rise to the debt. In 1997, Mike Armstrong came to AT&T with an ambitious vision of bundled services–to offer all kinds of voice, data, and video communication to anybody, anywhere in the world. In order to bypass the local Bell companies, he spent $100 billion on two big cable operators, TCI and MediaOne, and he bought a lot of other assets as well. Three years later, he abandoned this vision. Many people have said that the strategy was an expensive mistake, and that the restructuring, called Project Grand Slam, is just a retreat. How do you respond to that?

If you go back to the summer of 2000, we had some businesses that were high-growth businesses, but not generating a lot of earnings. And we had very large legacy businesses in voice communications that were declining in revenue but generating very substantial cash flow and earnings–although, again, declining. When you put that all together under the AT&T umbrella, you ended up with a business with modest single-digit revenue growth and declining earnings per share.

So you ended up with a security that, frankly, wasn’t that interesting to investors. You didn’t attract growth investors, because they saw a low single-digit growth rate on a consolidated basis. Income-oriented investors saw declining earnings per share because of the investments we were making in the growth businesses, the goodwill amortization from the cable acquisitions, and the investments needed to build out these new infrastructures. Yet, looking at the sum-of-the-parts valuation of AT&T, you saw an enormous gap between the value of the individual parts and what the market was valuing as consolidated “T.”

Project Grand Slam was not just about optimizing both the balance sheet and the capital structure of each of the businesses, but also about allowing our investors to hold those elements of AT&T that they were most interested in. If they wanted to invest in the growth elements like wireless or cable, they could. If they liked the profitability and the scale of our legacy communication businesses, they could invest in those as well.

But what about the synergies that were supposed to come from keeping the pieces together?

One thing I really dug into when I got here was to understand what the synergies were among those businesses. How great were they? Did we have to keep everything under one roof to obtain them? My definition of synergy would be sustainable, incremental cash flow and profitability being generated by the pieces being able to work together. What we determined was that we could preserve the principal synergies among those businesses without having them under one roof.

Well, the whole idea of using those big cable investments to sell local phone service–that didn’t pan out?

We have been very successful. We have well in excess of 1 million cable telephony customers on our cable telephone footprint around the United States, and it’s been a very popular product.

One of our expectations was that wherever we didn’t have a cable footprint, AT&T would be able to enter into ventures with the other cable operators to carry telephony over their systems. For any variety of reasons, that didn’t pan out, so we didn’t have a truly national footprint. Where we didn’t have that footprint, we continued to sell consumer long-distance service, or we could rent the loop from the local regional Bell operating company [RBOC].

Again, the issue for me was that a cable business didn’t need a consumer long-distance business to sell all-distance telephony over its cable plant to a cable TV customer. Similarly, we found in wireless that AT&T Wireless customers didn’t necessarily feel like they needed to be AT&T cable customers, nor did they feel that they needed to be AT&T consumer long-distance customers. You buy your cellular phone based on the best price and the coverage in your area.

The rating agencies eventually downgraded AT&T after Project Grand Slam was announced. Why didn’t they like the scheme?

I think they liked the scheme. The rating agencies are cautious by nature. We still had $65 billion in debt, and they focused more on the balance sheet. We still had one of the highest ratings among the long-distance companies at the time, and they put us on credit watch, which basically said, “Let’s see how you do against the restructuring plan you’ve laid out.” In fact, we did everything we said we were going to do, and a few other things as well.

Do you still issue commercial paper?


But your ability to do so is diminished?

That’s right. Keep in mind that we also reduced our net short-term debt, from around $29 billion at the beginning of 2001 to less than $2 billion at the end of 2001. We have restructured our debt purposely to not have significant reliance on commercial paper.

AT&T did a $10 billion bond offering in November, the largest 144a offering ever. Were you happy with the price, given your triple B­plus rating?

We got very attractive pricing. For all the different maturities, our all-in borrowing cost for that $10 billion was just under 7 percent.

After Broadband is spun off, won’t AT&T be ripe for a take-over–say, by a regional Bell that wants to get into national business services?

I think today, there would be some regulatory impediments to doing that. AT&T Business is the largest enterprise-communications company in the U.S. It has a great brand and a tremendously attractive customer base. It may be difficult for a regional Bell operating company to build from scratch a national capability to compete with us. I can understand why an RBOC might want to combine with us. I think it would need to make a compelling proposition to convince me that AT&T needs to combine with a regional Bell operating company.

The decline of AT&T’s long-distance voice business has been accelerating. Do you ever see that leveling off?

There’s been a lot of price competition; we see that moderating. Still, you can’t stop the march of technology to digital technologies, to IP technologies that are going to continue to drive down cost, and customers will demand that those cost savings be shared with them.

Long-distance voice is still very profitable for us, and it’s still a meaningful part of our business. But beginning in the third quarter of last year, less than half of our business-services revenues came from long distance. That means that more than half of our revenues are now coming from other services–data, IP, managed services, outsourcing, and activities like that–and those businesses are growing by the single-digit to the double-digit percentages.

In connection with the AT&T-Comcast merger, you recently announced a reverse one-for-five stock split that will take place when the merger is complete–the sort of thing associated with penny stocks.

We did a lot of study around this. First of all, appreciate that we have over three and a half billion shares outstanding, and over four and a half million shareholders. Over 50 percent of our shareholders are retail. We have one of the most widely traded and held stocks anywhere.

After we have spun off Broadband to merge with Comcast, the remaining business, based on today’s market, would trade at around $4 or $5 a share–for the largest consumer long-distance business in the country and the largest business communications­services company. When you look at the median trading value of most of the S&P 500, it’s typically in the $20 to $30 range. Analysts, our financial advisers, and others in the financial community suggest that a good place for a stock to be trading is in the low 20s, mid-20s. If you’ve got a stock that’s down at $5 or $4 a share, among other things, the commissions to buy or sell at that level really eat into the value.

The three and a half billion shares that we have outstanding are a legacy of how AT&T has evolved over many years. We thought that reducing the number of shares and redenominating them to something more rational–for a business that will have over $40 billion in revenues after we finish all of these restructuring actions–made a lot of sense.

I recently read an article that said since the 30-stock Dow Jones Industrial Average was established in 1928, no company has remained on the Dow after a reverse split. If AT&T does, it will be the first.

I read something similar to that. I don’t know if it’s true. But my guess is that if you look at the other members of the Dow over that period, you wouldn’t see too many that have undergone the radical restructuring that AT&T has–when you think about what AT&T was back in the 1920s, compared to where we are today.

It’s widely thought that AT&T’s president, David Dorman, will succeed Mike Armstrong as CEO. But you were also regarded as a strong candidate until you took yourself out of the running. Why did you do so?

First, it wasn’t a role that was all that interesting to me. But second, and more important, had I thrown my hat into the ring, there would have been the inevitable horse race between candidates. I think that’s very distracting to an organization, and it was something that would have gotten in the way of the restructuring–of all the things we need to get done to complete the transformation of AT&T.

I have high regard for Dave Dorman. He’s a very capable guy and a successful operator, running the businesses that will become the new AT&T.

There’s been a steady stream of negative press about AT&T. The stock continues to fall, and there have been layoffs. How do you sustain employee morale?

We’ve been through a lot, and there have certainly been periods over the last several years where the press about AT&T has been negative–at least as it relates to the team of people I work with who try to focus on this extraordinary journey we’re having to go through.

On the other hand, what we’ve accomplished over the last couple of years has been pretty notable, and has been done through the contributions of a lot of people working very hard to do a lot of remarkable things. What I’ve challenged folks to do is to see the vision of where we’re going, to accept the challenge of taking AT&T from where it was to where it can be sustainable and successful–something they can be proud of–and to recognize that it will take a lot of hard work, sweat, and tears to get there.

Communications Breakdown

In $ Millions

AT&T Business Services
AT&T Consumer Services
AT&T Broadband
Corporate and other
Total Revenue

Results for AT&T Corp. and subsidiaries. Results for AT&T Wireless Services (split off July 2001) and Liberty Media Group (split off August 2001) are excluded.

Source: AT&T