Friday, June 22, 2007

Networx: Will The City Council Get the Real Story? Will Anyone?

Posted By on Fri, Jun 22, 2007 at 4:00 AM

MLGW Commissioner and Memphis Networx board member Nick Clark should be commended for the tech-savvy openness he displayed this week. He managed a digital "press conference" where traditional media and bloggers like Richard Thompson of Mediaverse-Memphis were given equal access.

But Clark's generous candor wasn't always as candid or generous as it seemed. His explanations about how Networx lost so much value in so little time were often cloaked in the less than transparent language of business.

"The 'business model' was failing," he said repeatedly. "We realized we had to change the business model" ... "The business model had to change" ... "Changes to the business model weren’t working." etc. etc. etc.

Ah! It was the plan that failed, not its creators or executors. That explains ... nothing. What, exactly, is Clark talking about when he references Memphis Networx's various misfired business models? And how can an understanding of those models provide insight into the nature of the company's impending sale to Communications Infrastructure Investments, a telecom-related holding company headquartered in Boulder, CO? Let’s take a look:

For eight years, Memphis Networx had a basic pass to operate without media and rate-payer scrutiny. Reporting by Andy Meek, in today’s Daily News, looks a little deeper into some of Networx excesses.

Meek's reporting turns on the testimony of Doug Dawson, president of CCG Consulting, who studied Networx's fair-market value in 2005 and determined that the company was overstaffed, overpaid, and overvalued.

"Wholesale companies in any industry by definition live on slim margins," he was quoted as saying. "Wholesale companies typically pay low salaries all around — it's the nature of being wholesale ... and Memphis Networx pays about the highest commissions I have ever seen anywhere."

But Networx wasn't only secretive about its generous compensation packages or its excessive overhead. The company's marketing strategy was also a disaster — one that did nothing to earn public confidence. It was a partly municipally owned company that ate truckloads of money while doing nothing to woo or wow the public — a recipe for disaster.

In addition to spending issues, there are also questions about the zeal with which Networx approached some potentially lucrative business relationships.

Conversations with Clark revealed that Networx may have missed out on some big opportunities — or liabilities — depending on whom you ask. Clark confirmed rumors that had circulated throughout 2006 that Networx had been approached by the Atlanta-based Internet provider, EarthLink, concerning a potential build-out and municipal wi-fi deal. This is relevant, particularly if the deal in question was anything like the recent partnership struck between Earthlink and Wireless Philadelphia, a not-for-profit organization committed to making Philadelphia the most wired city in America.

In October 2005 — about the time Networx stopped communicating with the public — Earthlink signed on with Wireless Philadelphia to create the largest wireless network in the nation. Shortly thereafter, Earthlink starting building a 135-square-mile wi-fi mesh connecting the entire city. Earthlink's investment in the Philadelphia project has been valued at $15 to 18 Million.

Clark was cagey in his descriptions of how such a deal might have affected the value of Memphis Networx — and how it ultimately fell through. He cites various competitors in the wireless market as a potential reason for cold feet on both sides. But Clark's final concern is somewhat puzzling in light of recent news. According to Clark, there was some concern that if a deal was struck with Earthlink, that company or some other competitor might eventually try to buy Networx. “

"The challenge [was whether or not] Networx could control the muni wi-fi system so it could profit, or would an outside entity just attempt to buy Networx on the cheap for the benefit of its fiber ring and not recognize value elsewhere."

There's one tiny problem with Clark’s answer: By the time negotiations with Earthlink broke down in 2006, the decision to sell Networx on the cheap was only months, if not weeks away. The decision to hire a private consultant to broker the deal had likely already been made.

In December 2006, Memphis Networx hired the McLean Group, a private banking firm headquartered in McLean, Virginia, to create a list of 50 potential buyers. CII, who, according to Clark, had been systamatically approaching companies like Memphis Networx for some time, in an effort to increase its infrastructure holdings, was one of those potential buyers.

Cut to the present: Last week, as Memphis media chattered endlessly about snakes, strippers, and a mayoral sex tape that didn’t exist, it looked like MLGW's decision to sell Memphis Networx for a $29 million loss would go unchallenged. It was something of a surprise when MLGW's board decided to remove the Networx vote from Thursday's board agenda, and reschedule the vote for July.

The decision was made to satisfy concerns raised by the City Council, particularly that the $11.5-million offer made by Communications Infrastructure Investments was not the highest bid. According to Clark, the delay is risky, but shouldn’t impact the deal.

Theoretically, the board was under no binding obligation to answer the City Council's concerns, and their decision to do so comes in light of a odd arrangement between Networx and CII — that Networx’s sale price will drop by $1 million if the Memphis City Council gets too deeply involved in the process. But it's unlikely that a cursory investigation into the bidding process by the council will yield anything definitive.

Although he agreed to provide the council with requested information about the top companies bidding for Networx, Clark offered words of caution:

"It's like when you’re selling a house," he said. Tipping your hand on the low bids might give the winning bidder second thoughts about the asking price.

The council's stepped-up interest in the sale comes in the wake of Tuesday's news that American Fiber Systems of Rochester, NY, claimed to have offered a bid for Networx valued at $13.5 million.

Clark was mildly dismissive of the council's concern, noting that AFS's offer included stock. He drew a round of knowing laughter from observers by comparing AFS's stock options to promises made by Memphis' all-purpose bogey-man Sidney Schlenker, the smooth-talking chiseler from Denver who sold Memphis on The Pyramid, a rideless theme park on Mud Island, and — pre-dating a memorable episode of The Simpsons — a monorail. Anything that can be compared to a bad guy like that must be extra radioactive. Right?

Maybe. MLGW and Networx did find CII via McLean Group consultant Tom Swanson. Swanson's participation adds another layer to the onion, and at least suggests that MLGW's decision to sell to CII rather than AFS is both impartial and justified. On the other hand, AFS is a serious company, and Memphis wouldn’t be its first municipal buyout. When Marietta, Georgia, decided to eat its $25 million investment in a Networx-like venture, AFS was there to take the tanking telecom division off the city's hands.

While determining whether or not the Networx sale is on the up and up, the City Council needs to look beyond the technical process leading up to the sale. The company made a point of operating under the radar to avoid the theoretically watchful eye of the council. Clark has confirmed as much.

And as the Flyer has reported previously, Networx was never run like a business bent on success.

From December 2005, until the present — a period of total media blackout for the company — Networx seems to have been engaged in a process geared toward reducing value while preparing for an eventual sale. Neither the media or the City Council was notified when Networx CEO Mark Ivie stepped down in 2006. Nor did the company announce that Dan Platko had been named COO, specifically to run the company during the period leading up to and through its eventual sale.

Perhaps all the suspicious behavior amounts to nothing more than the death throes of a failing venture struggling to find an quiet exit strategy. But such a spectacular failure couldn’t have come off better if it had been planned. And if Networx's ever-changing, ever-failing business models are any indication, it's possible that it was.

— Chris Davis

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