Madison River Communications

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Small-town operator, big idea
From The News & Observer - May 17, 2000
By KARIN SCHILL RIVES, Staff Writer, The News & Observer

MEBANE -- Steve Vanderwoude put the offices of his fledgling telecommunications venture in a former Maxway discount store in a quiet brick strip mall downtown. On the other side of one wall is Lowes Foods. His 70 staffers have a view of the dilapidated, vacant White Furniture factory across the railroad tracks -- once a source of jobs and pride for this town on the Orange-Alamance county line.

But don't be fooled by the casual clothing and modest, small-town atmosphere at the headquarters of Madison River Communications. The company is the brainchild of powerful Wall Street investors who created it four years ago to tap into the multibillion-dollar small-town market that tends to be overlooked by larger phone companies like BellSouth and AT&T.

Named after the Montana river that Vanderwoude likes to fish when he visits his Big Sky vacation home, Madison River is building a regional telecommunications system that is expected to rake in $405 million a year and serve more than 300,000 phone lines in four states within five years.

A lot of those new customers will be in bigger cities nearby as the company carries out its strategy of grabbing business in some of the hottest midsize markets in the country. While the region's dominant telecom players concentrate on fighting over lucrative business customers in affluent urban areas, Madison River is quietly nibbling away at their territories by buying little-noticed but lucrative rural phone companies not far from thriving business centers. Aided by healthy cash flow from its rural phone operations, Madison River is well-positioned to compete for well-paying customers in the Research Triangle Parks and Triads of the world.

It's a strategy that so far has been embraced by only a handful of telecom newcomers -- but one that's getting the attention of major investment firms. Other companies that have adopted similar business plans include FairPoint Communications of Charlotte, Country Road Communications of Morristown, N.J, and Valor Communications of Irving, Texas.

"I probably get two phone calls a week from venture capitalists who want to get into this area," said Michael Balhoff, who follows rural carriers for the Legg Mason brokerage firm in Baltimore. "They're looking at a cash flow of 60 to 70 percent, which is very significant."

That opportunity, however, wasn't apparent to Vanderwoude a few years ago.

He had left his job as chief operating officer for Sprint's local telecom division in 1993 when that position was transferred to Kansas City; he was unwilling to abandon the 36-acre horse farm in Southern Pines that he and his wife call home. After a brief flirtation with retirement, Vanderwoude jumped into a satellite television project and then a computer gaming operation, enjoying the fast pace of young, cutting-edge technology.

Sleepy, small-town phone businesses were the last thing on his mind.

"I got a call from an analyst in 1995 who said, 'Hey, how would you like to start up a rural telephone company?'" he recalled. "I yawned and said, 'Not interested.' Why would you want to do that when there are a lot of other exciting things to be working on?"

Nonetheless, he did some homework, and it wasn't long before the veteran telecom executive understood what had excited that investment analyst. Vanderwoude put together a four-member management team, three of them industry people he'd known for years and the fourth a financial expert with whom he had worked closely. Then they began developing a business plan.

In 1997, three investment banking firms that now own 95 percent of Madison River -- Madison Dearborn Partners, Goldman Sachs and Providence Equity Partners -- chipped in $5.7 million toward the company's first acquisition: Mebane-based Mebtel Communications. The Rural Telephone Finance Cooperative, a membership organization that offers favorable, nongovernmental loans and expertise to rural carriers, financed the remainder of the $23 million deal.

The attraction was not just the bills that more than 12,500 mostly residential customers pay Mebtel every month. It was also the company's proximity to the booming Triangle and up-and-coming Triad.

By November of last year, Madison River had encircled Raleigh, Durham and Research Triangle Park with a new fiber-optic cable that provides high-speed Internet access and other state-of-the-art services to picky business customers. The company also had extended its 240-mile system to Greensboro and Winston-Salem.

Madison River's Triangle and Triad operations share a Mebane switching station, billing, accounting, network monitoring services and -- at times -- utility trucks and personnel with Mebtel. That has helped Madison River control expenses.

More importantly, ownership of the rural phone company has given Madison River more leverage on Wall Street as it seeks loans for expansion. It also has given the company automatic access to low-interest loans from the federal government and to lenders like the RTFC, which has provided most of the $479 million the company has spent so far to acquire its four rural carriers. At an interest rate of 8.1 percent, RTFC loans were a bargain compared with those available from commercial banks.

As the company built its North Carolina operations, Vanderwoude sniffed opportunities in other states. Next on his shopping list was Gallatin River Communications in central Illinois, which Madison River bought for $232 million in 1998, followed by the $313 million acquisition of Alabama-based Gulf Telephone Co. in 1999 and the $145 million purchase this spring of Coastal Communications, just south of Savannah, Ga.

All are located near the midsize, fast-growing business hubs that Madison River is targeting. By 2004, those markets could give the company access to as many as 2.3 million potential customers, Madison River estimates.

But if such expansion is the heart of his business plan, Vanderwoude said he also sees an opportunity in the small towns that his rural phone companies have traditionally served.

"If you really focus on running telephone companies in rural markets, you can do a great job -- and make money," he said. "Rural residents have very similar appetites for services -- in some cases greater. They also rely on telecommunications access more than they do in urban markets. There's a demand for high-speed Internet service in particular."

Mebtel has signed up 1,417 Internet customers, and Vanderwoude boasts that anyone who wants high-speed service in the town can get it "within three days."

He believes he's blowing fresh air into old-time companies that had been owned by families for generations -- and needed new ideas and modern management practices. Nationwide, there are still several hundred such operations that provide service in small towns.

In Georgia, the two brothers who owned Coastal Communications -- they had taken over after their father, the company's founder, died -- had become such enemies that they refused to be in any building at the same time.

When the deal was closed, one waited outside in his car until the other had signed the papers and left the property before he would come inside.

"You can imagine the effects those dysfunctional relationships have on a business," Vanderwoude said.

But Madison River's accumulation of rural carriers also is ending a tradition of small towns having their own phone companies, owned by families that lived there. That change may not always be welcomed, said Martha Silver, a spokeswoman for The Organization for the Promotion and Advancement of Small Telephone Companies in Washington, D.C.

"The new company may not be familiar with the area to know which services would really benefit consumers," she said. "If in the past local phone companies provided a lot of free service to schools or libraries, that could now disappear. If the company used to be a key player in economic development, that could disappear."

Such fears notwithstanding, Mebane strawberry farmer Cindy Sykes has been pleased with Madison River.

"We felt pretty confident that Bob would choose a good buyer," she said of former owner Bob Hupman. "And the service has actually gotten better. We just joined this new program they came out with that gives us lower rates, so it seems like they're trying to meet people's needs."

It doesn't hurt that Vanderwoude is taking the trouble to nurture Madison River's small-town image, from the simple sign above the door of his Mebane headquarters to the framed hometown newspaper clippings in the lobby.

A native of New York City, the 56-year-old CEO chose one of the smallest offices in the building on purpose -- "I want everybody to know we're about creating value, not big offices" -- and he only wears a suit and tie when he goes on a road show to raise money for expansion.

And when he meets with representatives of the nation's leading investment firms, he leaves on his L.L. Bean boots "just because I can," Vanderwoude said.

"But we're a big-time company with big-time investors and, I would tell you, a big-time management team. We run billion-dollar companies."