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The MTS building in downtown Winnipeg is seen in this file photo. (Joe Bryksa/CP)
The MTS building in downtown Winnipeg is seen in this file photo. (Joe Bryksa/CP)

MTS strikes $465-million deal to sell Allstream unit to Zayo Group of U.S. Add to ...

After a multiyear journey, Manitoba Telecom Services Inc. has struck a deal to sell its Allstream unit to U.S.-based Zayo Group Holdings Inc. for $465-million in cash.

Zayo, which is based in Boulder, Colo., has a market capitalization of about $5.7-billion (U.S.) and is in the same business as Allstream, which operates a national fibre-optic network and provides Internet connectivity and managed communications services such as cloud computing to business clients. It is traded on the New York Stock Exchange.

The agreement to sell to a strategic player operating in the same industry comes more than two years after the federal government rejected an earlier deal to sell the unit to Egyptian investment firm Accelero Capital Inc. on national security grounds.

But MTS chief executive officer Jay Forbes said he has “high confidence” this deal, which the company announced Monday, will win the necessary regulatory approvals and close in the first quarter of 2016.

While MTS was engaged in talks with potential buyers, executives also spent time in Ottawa to “understand the complete needs and expectations of all the relevant regulatory stakeholders.”

“We undertook our own due diligence on each and every one of the prospective acquirers that we entertained, looking at them through that lens of national security,” Mr. Forbes said in an interview with The Globe and Mail. “We look at Zayo as a very public company and as a trusted, precleared secure provider to the United States government. We think we have a party that meets the needs and expectations of that regulatory community.”

Ottawa’s rejection of the Accelero deal – which was valued at $520-million (Canadian) – came as a shock to management at Winnipeg-based MTS. Since that time, the company has regrouped and hired Mr. Forbes, who took over in January of this year after long-time CEO Pierre Blouin retired.

Mr. Forbes undertook his own review of both MTS’s Manitoba consumer communications business and the national enterprise services division. In May, he announced plans to reduce capital expenditures and cut 500 jobs at Allstream over this year and next.

By the summer, MTS had hired bankers to advise it on the sale and said it was actively courting strategic players, as well as entertaining interest from financial buyers.

“We had the participation of six strategic bidders and multiple offers for consideration,” Mr. Forbes said, adding that they decided on the Zayo bid because it represented “full value for this asset” and “also gives us a reasonable degree of certainty in terms of closure.”

Zayo said in a statement it plans to reorganize Allstream into three parts. Allstream’s communications infrastructure, which represents about half of its revenue, will be incorporated into Zayo’s own core business operations while maintaining a “strong Canadian brand and presence,” and will form Zayo Canada.

‎Zayo said it expects about $300-million in revenue from Zayo Canada.

The ‎remaining part of Allstream’s business will be organized into two separate business units – voice and universal communications, and a small business division.

Zayo has an 140,000-kilometre fibre network in the United States and Europe, and the Allstream acquisition would represent a North American expansion for the company. It provides Internet bandwidth and data-centre and cloud services to customers ranging from wireless carriers to finance and health care companies.

U.S. telephone company AT&T Inc. was a past investor in Allstream – which was once known as AT&T Canada before rebranding in 2003 after emerging from creditor protection. The following year, MTS bought the company for $1.7-billion and the division has underperformed for many years.

Zayo would be the first U.S. carrier to fully own a Canadian telecom operator, a prospect made possible by a 2012 change to the Telecommunications Act to permit foreign investment in companies with less than 10 per cent of the total telecom market in Canada.

In 2014, Canada’s telecom market had revenues of $45.9-billion. Allstream’s revenue for the year was $644.1-million, well below the 10-per-cent threshold of about $4.6-billion.

The deal to sell to Zayo should not be subject to the “net benefit” test under the Canada Investment Act – in April, the threshold for review of private-sector investments increased to $600-million, up from $369-million – but the government can still review the transaction on national-security grounds. It also requires approval from the Competition Bureau.

If the Zayo deal does receive the necessary approvals and closes in early 2016, the next possibility investors will ponder is the sale of MTS itself.

Earlier this month, when the company announced its third-quarter results, Mr. Forbes also revealed a plan to overhaul customer service and rein in costs at MTS by cutting capital spending and offering voluntary buyouts to an expected 200 to 250 employees. He said he expects the efforts to result in $100-million in additional free cash flow annually.

After that announcement, Desjardins Capital analyst Maher Yaghi wrote that if an Allstream sale finally does happen, it “would improve the valuation of MTS and even put the remaining company on the block to become a potential takeover candidate by either Telus [Corp.] or BCE. [Inc.]”

Asked about a potential sale of MTS, Mr. Forbes said his focus is on completing the three-year transformation plan and “to continue to evolve this organization to be far more customer-centric and, as a consequence, create meaningful value for our shareholders.”

He said the company will share more detailed plans on what it will do with the proceeds of the Allstream sale next year, but said they could be used to retire some debt MTS incurred to prefund its pension obligations, as well as to purchase wireless airwaves from Wind Mobile earlier this year.

After closing costs and other adjustments, Mr. Forbes said the net proceeds of the Zayo transaction will be $425-million.

“The Accelero deal actually whittled down to about $400-million in net proceeds … so while the gross proceeds associated with this transaction are slightly less than what we had with Accelero, the net proceeds will be nicely above that,” he said.

In either case, it seems MTS fetched more for the asset than some expected it would. In an August report, Barclays Capital analyst Phillip Huang said consensus estimates pegged Allstream’s value at $300-million to $400-million. Earlier this month, RBC Dominion Securities Inc.’s Drew McReynolds said he assumed a $425-million value for Allstream.

MTS will retain responsibility for retirees and other former employees under Allstream’s defined-benefit pension plan. Pension benefits for current employees will remain Allstream’s responsibility.

Editor's Note: This story was overwritten with a newer MTS story in error on Monday. Find the newer story here.

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