Hawaiian Telcom

“When you define ‘local’ the way I define ‘local’,” says Eric Yeaman, who took over as CEO of Hawaiian Telcom this past June, “when you live and grow up in this community, you understand that this is a special place. There’s a lot about Hawaii that’s unique, and I think you have to know and have an appreciation of that in order to best serve your customers.”

Walter Dods, the new chairman of the board, nods his head vigorously as Yeaman speaks. The two of them are trying to explain the importance of local management, a subject about which both are passionate. “It has to do with sensitivity to the local marketplace,”
Dods says, offering an example. “The old McDonalds in Hawaii was owned by Sully [Maurice Sullivan, founder of Foodland], and it was extremely successful. It was also the only McDonalds in the United States that had Spam. Had saimin, too. Because Sully understood this was a different market. That’s what we’re talking about. We want Spam and saimin at the phone company.”

As Yeaman has named his management team at Hawaiian Telcom, there’s been plenty of Spam and saimin to go around. “I’ll tell you,” Yeaman says, “I looked first and foremost for people who were seasoned in what they were doing; second, people who were what I would call ‘natural leaders’; and third—and this was the non-negotiable piece—people who were teamplayers.” He also managed to put together a team composed almost entirely of people with strong local ties. John Komeiji, for example, the company’s new general counsel, was a founding partner at the well-connected local firm Watanabe, Ing and Komeiji. Steve Golden, the new vice president for external affairs came over from the Gas Company. William Chung, the new vice president of human resources and labor relations, spent eighteen years at Hawaii Tug and Barge. Even Geoff Louie, the new vice president of strategy and marketing, who spent most of his career on the Mainland, was born and raised here. In fact, of the new team members, only Mike Edl, the new senior vice president of network services, has no local connections.

Of course, debating what’s “local” and its relevance in the business community is an old sport in Hawaii. In this case, though, it’s far from academic. When the Carlyle Group announced its intention to buy Verizon Hawaii in 2005, “local” was a catch-word. Bill Kennard, the managing director of the Global Telecommunications and Media group for Carlyle, says, “At that time, we thought we would be able to acquire the company and really reconnect it to its local roots.”

According to Kennard, the local phone business nationwide is a profitable one, with margins between 25 percent and 50 percent. He says, “We thought the [Hawaii] company had tremendous brand recognition and loyalty. We also liked the notion that the incumbent telcom business had this potential to add some services.”

There were missteps, though. Many long-time observers of the phone company thought “local” meant choosing leadership from among the executives at Verizon Hawaii. Instead, Carlyle named an outsider, Mike Ruley, as the company’s initial CEO. According to Scot Long, the business manager of the union representing most of the employees, “The whole premise of Hawaiian Telcom was ‘local, local, local,’ but they were hiring all these guys from the Mainland.” Even so, the prospect of returning the company (and many of its Mainland jobs) to the Islands was supported by the union. “I think our membership, for the most part, was excited when they looked at it,” says Long. “They were excited to have this new group come in, bringing it back to Hawaii.”

But bringing the phone company home turned out to be harder than expected. In February, Ruley abruptly departed and restructuring specialist Stephen Cooper, chairman of Kroll Zolfo Cooper, was named CEO. In May, it was announced that Yeaman, who was then the senior executive vice president and chief operating officer of Hawaiian Electric Co., would take over in June.

In a sense, Hawaiian Telcom is one of the oldest companies in Hawaii—it was chartered by King Kalakaua in 1883—but it really ceased to be an independent, local company after it was bought by GTE in 1967. As a subsidiary—first of GTE, then of Verizon—many of the company’s back-office functions, like customer service, billing and provisioning, were handled in Mainland offices. Various parts of the local network were monitored by Network Operations Centers (NOCs) in at least seven different cities. Moreover, the systems and software used to manage all these operations belonged to Verizon, not the local phone company. Converting Verizon Hawaii into Hawaiian Telcom meant re-creating and integrating all these systems from scratch. “Think about creating a $1.5 billion dollar company with a couple of thousand employees,” Dods says, “And think about putting all the systems in at one time: finance, payroll, accounting, accounts receivable, provisioning. It was a horrible and horrendous job.”

Since the cutover from the Verizon systems in April 2006, Hawaiian Telcom’s back-office problems have been well-documented. Customers have been double- and triple-billed; bills have been sent to the wrong addresses; service appointments have been lost; and parts orders have been bungled. “No doubt about it,” Dods says, “the company took a great big PR hit.” And the problems aren’t over. According to Yeaman, progress has been made, but there is still much work to do.

“Are there things within the system that are working? Yes,” he says. “Are there things within the system that aren’t working? Yes. Do we have plans yet to figure out how to fix it? We’re in the process of developing that. As you might expect, that’s one of the key areas coming in here. And we’re in the process of developing short-, medium- and long-term solutions to address each issue. Once we get through those solutions, we’ll make a decision and we’ll have a clearer path in terms of how much it’s going to cost and how long it’s going to take.”

“One thing we’re absolutely going to do,” Dods adds, “is under-promise and over-deliver. We don’t have the luxury of going out to the community and promising things we can’t do ever again.” To its credit, though, Carlyle didn’t undertake the cutover from Verizon on its own. Even before the purchase, Carlyle contracted with the global management and technology consulting firm BearingPoint to assess and develop new back-office systems to replace those of Verizon. As Dods puts it, “We got some of the most experienced people, the people with the best reputations, to handle that.” And Bearing Point didn’t scrimp. “I remember, at one point, BearingPoint had something like 500 people working on it,” Dods says. But, clearly, it didn’t go well. In the end, BearingPoint paid something like $90 million to get out of the contract. In February 2007, Hawaiian Telcom contracted with Accenture to finish the work.

It didn’t all go wrong, of course. “Let me tell you what went right,” Dods says. “Not only on the day we took over the company, but on the day of conversion, all the phones worked.” In addition, while the new Customer Care Center, on the seventh floor of the Hawaiian Telcom building, has been at the center of many of the recent problems, it still represents real opportunity for the phone company. Jim LaClair, the vice president of network operations, points out that, before, the only call center actually located in Hawaii was for local telephone service. Internet, wireless, enterprise and any special services were spread out in call centers around the country. Now, for the first time, they’re all gathered under one roof and can talk to each other—in theory, providing the company an opportunity to offer better, more integrated service to its customers. And, using new technology, its becoming better at finding and fixing problems before the customer does. Across the hall from the Customer Care Center, in a setting reminiscent of a war room, the new Network Operations Center monitors all aspects of the phone company’s network, offering similar opportunities for the phone company to find trouble before it gets out of hand. These kinds of system upgrades will be essential for Hawaiian Telcom to remain competitive.

Perhaps the phone company’s largest asset is its decidedly old-fashioned network of thousands of miles of copper wire. According to LaClair, as Hawaiian Telcom rolls out service to new developments, its strategy is “putting fiber-optic to the home.” To be competitive in the near term, though, they’ll have to find ways to leverage that copper asset. “We’ve made a large investment over the last year in a new system called the MPLS network,” says LaClair. Part of the advantage of this new technology, which the company expects to be fully operational by the end of the year, is that it allows Hawaiian Telcom to deliver all its services over a single network, ultimately saving costs and providing better service. They believe MPLS will also allow them to offer average connection speeds substantially faster than those of Oceanic’s node-based cable system. “We call it the ‘better, faster, cheaper network,’” LaClair says.

Still, many observers believe that the independent, local telcom is a dinosaur. “I have to admit, I used to think the same thing,” says Yeaman. The more he thought about it, though, the more he began to see opportunities. “Yeah, the land line may not be as relevant as it used to be,” he says. “But today, everybody has Internet access, and there’s no reason why it should not be with Hawaiian Telcom. We’ve already got 93,000 Internet customers; but we have 550,000 customers overall. There’s no reason why we shouldn’t have 550,000 high speed Internet customers.” Similarly, he sees the opportunity on the wireless side. “Everybody needs a cell phone. And, while we all agree we don’t have the best wireless solution today, there’s no reason why we couldn’t.”

Nevertheless, as its landline customer base declines at about 8 percent a year, it’s clear that the future of the phone company lies in new products and services. Yeaman has made it a point to tell employees, “You know, we were a phone company. But we’re not a phone company anymore. If we want to be successful going forward, we really have to be a communications and technology company.” And, as a communications and technology company, Hawaiian Telcom is busy scrutinizing the kinds of services it can offer. Yeaman notes that the board has already approved four new services that the company will announce soon, “products and services that I would call ‘low-hanging fruit,’” he says. Beyond that, Yeaman and Dods are holding their cards close to their vests. Like the previous management, Yeaman acknowledges the importance of IPTV, a television service that would leverage the new MPLS system and allow the company to compete more directly with Oceanic. In a conference call with industry analysts, he said, “I think a video solution in this marketplace is an important part.” He is also quick to note his dissatisfaction with the company’s resale arrangement with Sprint, which may suggest that wireless is also a major component in the company’s strategy. Still, Yeaman emphasizes that he and the rest of the new management team are still in the assessment and planning stages, and that everything is on the table.

Of course, it remains to be seen if Hawaiian Telcom has the time or the money to wait for these plans to affect its bottom line. The company’s losses for the second quarter of 2008 were $30.5 million. In fact, setting aside one-time earnings from its settlement with BearingPoint and the $435 million sale of its directory business, the company has reported operating losses in every quarter since being acquired from Verizon. Perhaps more debilitating, though, is the company’s unusually punishing debt load. When Carlyle and a group of local investors purchased the company in 2005, the deal only included $428 million in equity. That meant Hawaiian Telcom was born with a debt of more than $1 billion. This year alone, it will cost the company more than $80 million just to service that debt. This burden, as much as the company’s back-office problems, is what moved Standard and Poors to recently downgrade Hawaiian Telcom’s corporate credit rating from B- to CCC+. Hal Holden, an analyst with Barclays Capital, says, “We believe any plan will have to include a restructuring of the company’s heavy debt load,” though he notes the company has only a limited number of options, including various levels of debt restructuring, the sale of assets or an infusion of new equity—either from Carlyle or new investors.

There are signs, though, that the company has finally begun to stabilize. “Work-around costs,” for example—the one-time costs of fixing what’s wrong with the company—appear to finally be declining. Ana Goshko, an analyst at Bank of America, projects year-end cash on the order of $70 million, noting, “We believe the company has adequate cash to operate and pay its cash interest payments for at least two years, and likely longer … ” That suggests the new management has at least a little time to get its house in order. Still, Yeaman and Dods remain cautious about the short-term prospects. Yeaman says, “I’ve told the employees, ‘It’s going to get tougher before it gets better. So, when it is tougher, remember I told you.’”

The future of Hawaiian Telcom probably lies in the hands of people like Garret Yoshimi, the director of technology infrastructure for the University of Hawaii system. With 30,000 telephones, multiple dedicated lines and even its own radio microwave network, the university is almost a small carrier. It’s also one of the phone company’s largest enterprise customers. “We actually do several things with Hawaiian Telcom,” Yoshimi says. “One is we purchase connection. Basically, we’re purchasing dial tone from them, just like you do at your home.” But, as an enterprise customer, the university’s relationship with the phone company is more complex, and Yoshimi notes that it also buys maintenance and support services, as well as cable installation, from the phone company.

But none of that business is guaranteed for Hawaiian Telcom. “All those services have alternative suppliers,” Yoshimi says. “They had to compete to get that business; and, at times, they will have to re-compete to keep that business. They are absolutely at risk of losing them one by one because it’s our responsibility to make sure we have a reasonable price for the stuff that we buy.”

Like many enterprise customers, the university felt the effect of the cutover problems at Hawaiian Telcom. “We had substantial billing problems,” Yoshimi says. “And they got magnified because we’ve got so many customers.” Bills were sent to the wrong location, or had the wrong customer reference numbers on them. Sometimes they didn’t come at all. “Of course, as an enterprise customer, we had an opportunity to yell at the right people,” Yoshimi says with a smile. But, as the phone company has struggled to keep up with its back-office problems, Yoshimi noticed others arise in maintenance and service. “We saw some slippage in terms of availability of personnel, particularly with the skills to work on the Nortel line that we have here. … It’s enough to keep me up at night,” he says.
Yoshimi believes other enterprise customers share his concerns. “This is a pretty small community,” he says. “We tend to seek out other people to talk to—misery loves company—and my sense is many of us are in the same boat. Right now, we’re willing to be patient, and we’re interested to see what comes out of the new team. But they don’t have very much time.”

Like many in the local business community, Yoshimi is sympathetic to Hawaiian Telcom’s problems. “For better or worse,” he says, “they’re the home team. It’s a large company, and it’s important to the economy; but we all have our responsibilities. I think everybody’s pretty antsy. I don’t think it’s a matter of Eric has to come out in the next 30 days and fix everything. But we need to see progress soon.”

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