WASHINGTON-The formal memorandum opinion and order regarding the award of NextWave Personal Communications Inc.’s long-awaited personal communications services licenses creates more questions than answers about the licensee’s foreign capitalization and its equity vs. debt.
The order, written by the commission’s Wireless Telecommunications Bureau, tasked with investigating NextWave’s suitability for licensing, cites errors and questionable loan-repayment deals made by the company that raise questions as to NextWave’s fund-raising strategies.
Although NextWave has disputed claims made by Antigone Communications L.P. and PCS Devco Inc.-both unsuccessful C-block bidders that submitted petitions to deny NextWave’s licenses-that its foreign ownership exceeded Federal Communications Commission guidelines by 10 percent to 15 percent, the commission’s order set NextWave’s foreign ownership officially at 30.6 percent as of Dec. 9.
In other documents submitted by NextWave, the foreign-ownership percentage was set at 34.9 percent. Both numbers clearly exceed FCC rules, despite the company’s claims that “capital contributions do not reflect the foreign investors’ beneficial ownership interest in [NextWave].” In addition, the FCC reiterated that NextWave had not complied with rules requiring an applicant to “specifically and directly inform us that an ownership structure under consideration may exceed the foreign-ownership benchmark … Failure to do so violates the process under which we make [such] determinations.”
NextWave raised the majority of its auction monies through sales of subscriptions to foreign entities, most of which were from South Korea. The structure of these note agreements was picked apart inthe FCC’s order.
Prior to the start of the C-block auction May 3, foreign money “held 100 percent of the aggregate principal amount in [NextWave’s] convertible promissory notes,” unsecured stock-and-cash debt payable on demand between May 8, 1997, and May 7, 2001. Payback restrictions designed by NextWave and accepted by the foreign subscribers were murky, according to the commission, and here is where NextWave’s definitions of debt and equity begin to differ with the FCC’s.
“The terms of the convertible promissory notes, however, provide NextWave with the opportunity to avoid all payment of interest on the entire principal amount because principal converted prior to May 8, 1997, does not bear interest,” the WTB wrote. “Thus, if NextWave converts the [notes] on May 7, 1997, although interest has been accrued for one year, that accrued obligation for interest will not be paid.” NextWave also built into its agreements with foreign investors the option of replacing “partially converted outstanding notes with new notes `of like tenor and date.”‘ the bureau found. “This language raises a question of whether the new notes have the convertible promissory notes’ stated maturity date or terms of five years in perpetuity.
Moreover, the [notes] contain no amortization schedule for reduction in principal and, as a result, we find no reason to assume the new notes would include an amortization schedule.” If NextWave plans to convert principal amounts due to stock, the FCC said this indicates the notes are equity and not debt because “the lack of a fixed maturity date together with a continual growth of the debt may suggest that there is no intention to make full payment.”
Because no repayment terms were written into NextWave’s notes contracts, the FCC characterized this first reference to foreign “debt” as being, in reality, equity. “A bona fide lender would be concerned about the schedule for repayment of its debt given the time value of money,” it wrote. “The absence of a scheduled reduction in principal payments in conjunction with the absence of a clearly stated maturity date are not characteristic of debt obligations. Thus, the convertible promissory notes should be viewed as long-term equity commitments and not debt.”
The FCC also pointed to NextWave’s characterization of its $38 million note commitment as being junior to all other debt as a sign the company really considered the debt to be equity. “Subordination of the convertible promissory notes to claims of most of NextWave’s other debt amounting to billions of dollars indicates that the notes should be construed as equity and not debt,” the agency wrote.
Regarding NextWave’s claims that its debt-to-equity ratio is 2: 3, the FCC determined the company continued to disregard its $4.2 billion loan from the government for its PCS licenses as debt. When that number is added to the mix, NextWave’s debt-to-equity ratio reaches 14: 1. “We find that a 14: 1 debt-equity ratio evidences a thinly capitalized venture, further suggesting that the convertible promissory notes are equity rather than debt,” The WTB wrote.
And because NextWave has stated that proceeds of the notes have been earmarked for buying capital assets (including its licenses), the FCC files this under equity.
NextWave’s interest payments on its notes also raised WTB eyebrows. While saying that most bona fide lenders would have asked a high-risk venture like NextWave for a high interest rate on a loan-somewhere between 11.63 percent and 12.3 percent-the commission wondered why foreign investors would settle for the 6 percent “junior” rate offered by NextWave.
“The noteholders’ willingness to accept a commercially unreasonable rate on the return of such a high risk investment suggests the [notes] should be construed as equity and not debt,” it concluded on that issue.
NextWave’s convertible senior subordinated notes, totalling $130.3 million, can be converted at shareholder request at any time to all stock or some stock and some cash. NextWave, on the other hand, can opt to replace any remaining unconverted principal to new notes. Again, the FCC cites the lack of a clearly stated maturity date as a reason to call the senior notes equity instead of debt. These unsecured notes also would be repayable last should NextWave tank, also putting them in the equity category.
“Stated maturity dates and amortization schedules reducing principal amounts are measures designed to eliminate firm loan obligations normally found in arms’ length lending obligations,” the WTB wrote. “The perpetual ability to repay the [senior notes] with stock suggests that the noteholders expect repayment in stock rather than cash … [suggesting] that the senior subordinated notes are intended as long-term equity commitments and not debt.”
Senior noteholders also have warrants to replace any repaid senior notes with additional notes, which the commission said “indicates the [senior notes] are not intended to be debt.” The FCC also played the bona fide lender card again, finding that the low interest rate on senior notes being paid by NextWave-2 percent during the first two years, ratcheted up to 12 percent-is incongruent with real-world rates.
If full conversion of its promissory notes and the senior subordinated notes were to take place today, 30 percent of the company would be foreign-owned, NextWave has said. Now that the commission reclassified the two sets of notes as equity rather than debt, the WTB determined that “based on NextWave’s figures in its restructuring plan and the initial conversion price included in both instruments … we calculate that the percentage of foreign capital paid into NextWave would increase to 39.59 percent.”
Although the FCC disputed NextWave’s financial statements, in the end the commission granted NextWave the permits. Why? “This is not an easy question to answer,” said WTB chief Michele Farquhar. “Our plan was to find a way to make this work, not put them out of business.”
Analysts from the WTB, the International Bureau and the Mass Media Bureau hashed over the foreign cash involved, finally determining that when all of NextWave’s debt was considered, foreign money was such a small percentage that the c
ompany was allowed a six-month window to fix its foreign-ownership structure (
RCR, Jan. 6, p. 1).
What happens if NextWave doesn’t fulfill its mandate for change? Will the commission take back its desirable licenses and reauction them, as it did last year to several other C-block winners who experienced financial difficulties of other varieties? Probably not. The WTB built in a loophole to protect both the FCC’s aggressive stance on auctions as a licensing tool and NextWave’s financial commitment to the Treasury-public interest.
“NextWave’s failure to bring its foreign investment within the foreign-ownership benchmark … will result in automatic cancellation of NextWave’s licenses, absent a showing that it is in the public interest to permit NextWave to exceed the benchmark,” it wrote. “Should such a showing be made, we will then determine whether it is in the public interest to allow NextWave to exceed” the benchmark.
Whether the public would notice whether PCS channels were built by NextWave next year or by someone else the year afterward is questionable. There are other wireless providers in any given market from which to buy service, including PCS.
