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COVAD'S QUIET AUTHORITY

When Charlie Hoffman speaks at staff meetings, the room tends to fall silent. His executives like to make joking comparisons to the E.F. Hutton commercials of the 1980s — “When Charlie talks, people listen.” But the real reason the room quiets is because Hoffman is soft spoken. His voice barely carries beyond the conference table at which he sits, and anyone sitting off to the side strains to catch his words. He isn't barking commands. He isn't heavy-handedly passing down nuggets of industry wisdom. He isn't micromanaging the agenda. In fact, one gets the impression he's offering friendly advice on how his executives should run Covad Communications. And if, during the discussion, he gives an order or a direction, it's probably the most polite order you ever heard: “What I'd like to see is…” or “I'd love if we could…”

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Hoffman is the opposite of what you'd expect from a crisis CEO — one hired to bring his company back from the financial brink. He doesn't have the abruptness of a typical post-bankruptcy CEO single-mindedly focused on the bottom line. He certainly doesn't come off as a taskmaster whipping his company into shape. Hoffman's subdued demeanor may not fit any of the clichés for a crisis CEO, but most significantly, those same traits make him a polar opposite to Covad's former CEO Robert Knowling. And the opposite of Knowling and his vision of Covad was exactly what Covad needed to survive.

In his three years as CEO, Hoffman has presided over Covad's bankruptcy, he has reshaped the company's basic business model several times. As regulators change the rules by which Covad and other CLECs must abide, Hoffman has shifted the company's wholesale data access strategy to direct sales and laid the foundation for Covad to become a national voice-over-IP provider. But most significantly, Hoffman has changed the culture of Covad. He has transformed a company that was focused solely on technology and growth to one focused on customers and revenue. After spending two raucous years on Robert Knowling and his dreams of creating a world-dominating broadband provider, Hoffman has brought Covad back down to Earth.

Covad may be a tamer, humbler company under Hoffman, but it's also one that has managed to survive, a testament Covad's competitors Rhythms NetCommunications, NorthPoint Communications and hundreds of other failed CLECs can't make.

“We think we can be a substantial player without getting ahead of ourselves,” Hoffman said. “We may never be as big as a Bell, but we can be the face of competition in this industry.”

When Hoffman publicly accepted the CEO job of Covad on June 5, 2001, the first question that popped into the minds of his friends, colleagues and a generally shocked industry was why the CEO of one of the largest and most successful wireless operators would quit to take over the reins of an ailing California CLEC on the verge of bankruptcy.

There are a lot of reasons Hoffman, now 55, left Rogers AT&T Wireless, depending on who and how you ask. Covad Executive Vice President Pat Bennett, a long-time friend who has followed Hoffman from company to company since 1992, postulates that the reason is Rogers AT&T's namesake itself, Ted Rogers. The Canadian cable and communications magnate — who often draws parallels to an equally colorful and audacious Ted in the U.S., Ted Turner — didn't give Hoffman the freedom he needed to run the company, Bennett said. Rogers, known for his hands-on management — was willing to give Hoffman free reign while it was languishing in fourth place in the Canadian wireless market. But when Hoffman made it number one, he got involved again. “Once Ted got everything he wanted, he became the same old Ted again,” Bennett said.

Hoffman gives myriad reasons, from “I felt I was becoming too Canadian” to wanting to move to the more hospitable climes of northern California. The reason Hoffman settles on most, though, is the challenge of turning a company around. A lot of CEOs will talk about the virtues of bailing out a troubled company, but Hoffman has them beat. Bankruptcy is one thing, but Covad, like all CLECs, is dealing with a constantly changing regulatory environment that bans line sharing in one instance and redefines UNE-P in another. He hasn't just had to reinvent the company once, he's done it — and will probably be forced to do it again — several times.

“I like turnaround situations,” Hoffman said. “I was the perfect candidate for this job. If I couldn't pull it off, I wouldn't have been in trouble financially.”

Hoffman's reputation for turnarounds far preceded his time at Covad and Rogers AT&T. He spent 16 years at SBC Communications' wireless division, where he gained a reputation as a turnaround artist. Every two years, SBC would assign him to a new market, and he and his wife, Maureen, a registered nurse Hoffman met in his hometown of St. Louis, would pack up and move. First it was Philadelphia, then Boston, then Washington/Baltimore. As soon as he made the under-performing market profitable, they'd be off to Hoffman's next assignment.

His final assignment was in Mexico City as director general for TelCel, the wireless venture between TelMex and SBC. There, Hoffman was advised to take different routes to work each day to foil any kidnapping attempts, and his monthly late-evening meetings with TelMex chairman and Mexican business tycoon Carlos “Slim” Helu were regularly held in Slim's underground bunker, guarded by men with automatic weapons.

The task he faced at Covad was vastly different than the turnarounds he performed at SBC and even Rogers. He wasn't taking over the ailing division or market within a large cash-rich company. He was taking over a company that was about to go into Chapter 11, and the fates of Covad's two main competitors, Rhythms and NorthPoint — both companies folded, selling their network assets to MCI and AT&T, respectively, for mere pennies on the dollar spent building them — wasn't encouraging.

“When I got there it was much worse than I thought,” Hoffman said. “What surprised me was that almost every single department seemed to be broken. They couldn't even get a simple budget out. The mere idea of operational discipline seemed foreign to the leadership team. Even the employees were skeptical when I got there, especially the engineering types. Covad has always been focused on technology, and here I was talking about the customer.”

Covad was a wunderkind of the 1996 Telecommunications Act. During its heyday in the late 1990s, the company was enshrined as the perfect example of a small carrier that could grow into a nationwide giant, challenging the Baby Bells on their own turf in the new free-for-all that was competitive telecom.

Originally Covad's plans weren't so grandiose. When former Intel executives Chuck McMinn, Chuck Haas and Dhruv Khanna founded the company in 1996, they imagined Covad as a privately owned regional player, capitalizing on the boom and subsequent demand for high-speed access in Silicon Valley and the San Francisco Bay Area. But the tech boom had a way of transforming modest dreams into lofty ones. In 1998, Covad decided to go nationwide. Then-CEO McMinn stepped aside, and the company conducted a search for the industry paragon who would lead Covad into the future. Enter Robert Knowling, the charismatic, outspoken and volatile former executive vice president of U S West.

If Covad had an appetite for grandeur, Knowling was the man to feed it. He ran a technology and operations staff of 30,000 at U S West, serving a customer base of 25 million straddling 14 states. The fact that Covad had a few hundred employees and a handful of customers in the Bay Area didn't stop Knowling from thinking on the largest of scales. Within a month of taking over as president and CEO, Knowling launched data services in Covad's second market, Los Angeles. A few weeks later, he took Covad to Boston and New York. The following January, Knowling led Covad through its IPO, raising $140 million in cash. Additional offerings and note sales more than doubled that capital, which Knowling dumped into new acquisitions and new builds. He'd set the stage for a mammoth national expansion. In less than two years, Covad would be in 98 of the 100 largest U.S. metropolitan areas with access to nearly 50% of all business access lines in the country.

His strategy didn't end at either coast. In September 2000, barely a month before Knowling resigned, Covad took out a 70% stake in Loop Telecom, a business ISP in Spain. Knowling made no secret about his ambitions for the tiny Silicon Valley start-up. Those ambitions could be summed up in a short but telling statement he made to BusinessWeek shortly before Covad's collapse: “I plan to make Covad the largest, most pervasive broadband company in the world.”

The hostility between Covad's owners and its estranged CEO was the thinnest of veiled secrets when Knowling resigned. Knowling didn't even give the obligatory quote about “pursuing other opportunities” when the press release hit the wires on Nov. 1, 2000, announcing that McMinn would replace him as chairman and Frank Marshall as interim CEO. But despite the messy aftermath, McMinn still credits Knowling for his role in the company's phenomenal growth during Covad's boom years.

“Bob wasn't all bad,” McMinn said. “He was right for the company during its growth when we had access to capital, when it was all about growing quickly. He was the right person for the job, no question. But he had never had to operate in an environment where there was no cash. He wasn't prepared for what happened.”

What happened was that customers stopped paying their bills. The first signs of the problem started showing up shortly after Covad's IPO. Several of its wholesale ISP customers began falling behind in payments. The tech downfall was beginning its plummet in mid-2000 and its effects were becoming readily apparent among smaller ISPs. Covad continued to report the unpaid bills as revenue, but as the delinquency became more of a problem, the revenue shortfalls began eking into the company's financial statements in the last half of the year.

“We'd just had a great quarter,” said Dave McMorrow, Covad's executive vice president of sales and the only member of the company's management team left from the boom years. “We had just raised another half-billion dollars. We were surging forward. Then some of our customers couldn't make their payments. It didn't seem that big of a concern at first, but suddenly those customers just weren't there anymore.”

At its third-quarter financial call, Covad reported $11.4 million in uncollected revenue from nine delinquent customers. A few weeks later, those numbers were revised to $22.8 million and 14 unpaid accounts. By the end of the year Knowling was gone and Covad was owed $40 million it would never see.

To attribute all of Covad's woes to Knowling would be unfair and inaccurate. If Knowling is to be faulted for not predicting the telecom bust, then every telecom CEO is guilty of the same shortcoming. Some critics have made Knowling out to be the fall guy, scapegoated by Covad's VC investors and not given the chance to salvage the company's business plan. Regardless of how much he was to blame for Covad's misfortunes, the board had had enough of Knowling's vision. The company was in dire financial straits. Its line counts were multiplying — they'd surpassed 200,000 that year — but its revenues were quickly eroding. At the end of 2000 Covad was taking in only $159 million in revenues, yet suffocating under a $1.44 billion loss. It was carrying an additional $1.5 billion in debt, it's stock had been devalued 98% and it was about to file for bankruptcy. Covad was fighting for survival. It needed cash and plenty of it. It needed a new business strategy and new direction. What it needed most was a new CEO.

What followed next was a wholesale purging of the ranks. Hoffman claims the only person he actually fired was CFO Mark Perry, one of the executives Knowling brought over from U S West. The rest, Hoffman said, couldn't hack the new discipline he imposed on the company and left of their own accord. There is now not a single member of the senior leadership team left at Covad from Knowling's days as CEO. Hoffman replaced them with a new management team, plucking from the ranks of former executives at Rogers AT&T and SBC.

After getting his team in place, the first order of business was steering the company through bankruptcy. Covad was walking a precarious line. On one hand, Hoffman had to tell its bondholders that the carrier couldn't survive without massive debt relief. On the other, Hoffman had to present a positive face to Covad's customers to prevent them from bolting to other providers.

Internally, Hoffman was shaking the company from top to bottom, trying to smack some financial discipline and affect an overhaul of the company's core values in employees. Externally, Covad's sales force had to act like nothing was happening. The whole ordeal might sound like a disaster in the making, but Hoffman pulled it off.

Covad entered bankruptcy on Aug. 15, 2001, and exited on Dec. 20, 2001, after executing a pre-negotiated Chapter 11 plan of reorganization that has been emulated ever since as the model of prepackaged bankruptcy. Covad retired most of its debt, returning 19¢ on the dollar to its bondholders.

Most significantly, however, Covad accomplished this without wiping out its stockholders. Covad shares lost only 80% of their value. The day Covad entered bankruptcy its shares were worth 49 cents apiece. At the end of May, those shares were trading at $1.89 on Nasdaq's Over the Counter Bulletin Board.

Despite Hoffman's successes, Covad is still not what you'd consider a healthy and robust company. Hoffman has succeeded in changing the philosophy and direction of the company. He's shored up Covad's major weakness — its dependence on the fickle wholesale DSL market — by creating a direct sales channel for the company (27% of Covad's business today comes from direct sales). He has put most of the company's resources into small and medium business markets instead of relying so heavily on consumer wholesale. At the end of the third quarter, Covad had 295,000 consumer ADSL lines in service and 221,000 SDSL and T-1 business lines. Though consumer still accounts for 57% of its total lines, 66% of all revenue comes from its small business customers.

But despite those efforts, Covad still faces a volatile market and a precarious regulatory environment. Hoffman likes challenge. It's his stated reason for taking the job in the first place, but even he feels like he's being bombarded with a few too many curve balls.

First, the FCC's triennial review killed line sharing, the basis of Covad's wholesale from the beginning. Now, recent D.C. Court decisions threaten to eliminate the unbundled network element requirements from the Telecom Act entirely. Although Covad is a facilities-based carrier that doesn't depend on the UNE platform, its wholesale customers do. Any threat to UNE-P threatens the line-splitting business Covad grew to replace line sharing. Those regulatory problems spurred partner MCI to drop its consumer local service entirely, cutting Covad off from millions of potential data customers. Furthermore, ISP partner AOL has stopped selling broadband access altogether, drying up another major source of wholesale lines.

For the first time in its history, Covad reported a net line loss in the first quarter. Covad lost 1200 wholesale consumer lines, all of which Hoffman attributed to line losses from MCI and AOL. Ironically, Covad's revenues were up 19% year over year in the first quarter, and even improved 3.3% over the fourth quarter of last year.

Covad is on track to go cash flow positive this quarter — one quarter earlier than it initially projected — and achieve its first net profit a year from now, a feat that seemed almost unattainable two years ago when Covad reported a $1.4 billion annual loss. The news of line losses, however, didn't stop Covad's stock from dropping when they were announced, and Hoffman spent most of May assuring its institutional investors the company was still solvent. Ironically, the company is being punished for losing lines and gaining revenue, while in 2000 it was punished for racking up lines but losing revenue.

“We can handle almost anything the market throws at us,” Hoffman said. “I just wish they'd set the rules once and stick to them.”

The latest incarnation of Covad is that of a voice provider with its acquisition of GoBeam this month. The move comes as a shock to many as Covad has always been a militant data-only provider, but McMinn points out that Covad was originally an acronym for Converged Voice and Data. Voice was the plan all along. It has just taken a while to settle on a technology. Hoffman has big plans for the new service, projecting $80 million to $100 million in annual revenues and a footprint of 100 markets by the end of 2005.

Basically Covad is relying on VoIP to buttress its traditional wholesale base, just as it relied on direct sales. If Covad seems to be putting a lot of stock into VoIP — its projections have it accounting for almost a quarter of its overall revenues — it's because it has no other choice, said Brahm Eiley, a broadband analyst for Convergence Consulting Group. Its bread-and-butter wholesale business is under siege, and it has to make up the gap with new services and new direct customers.

“This is a company that is betting heavily on voice over IP,” Eiley said. “It's a highly competitive market, and Hoffman will have a tough go at it. If anyone knows how to survive, though, it's Covad. They could pull a rabbit out of their hat. They've done it before.”

Hoffman doesn't appear worried. He's pulled numerous rabbits out of his hat in the last three years — though he'd probably describe it as business acumen rather than optical illusion. He believes he's built a company that can tackle almost any change in business or competitive environment. And despite his calm and conservative demeanor, Hoffman exudes a definite pride for this company he's kept afloat and the obstacles he's overcome.

Hoffman has never been one for overstatement. He's never been one for hype. He's always positioned himself as the opposite of his predecessor — always the realist. But lying deep inside there lurks a little bit of Knowling within him, a part of him that has big ambitions for Covad. As Telephony concluded its last interview with Hoffman for this article, he momentarily dropped his guard. “I really envision Covad as sort of an arms dealer for the telecom industry, providing every service a carrier or business needs,” Hoffman said. “I think we can be a much, much larger company than we are now.

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© 2014 Penton Media Inc.

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