Seeing MCI WorldCom’s troubles as an opportunity to expand its operations to 25 cities nationally, Cypress Communications, an Internet Service Provider, has purchased WorldCom’s shared tenant telecom services business for $29 million. But it needed a unique financing arrangement set up in part with venture capital firms Noro-Moseley Partners and the Wakefield Group to complete the acquisition.

Cypress officials said the deal, announced this week, includes a $10 million senior secured revolving credit facility from Silicon Valley Bank, $10 million in seven-year fixed rate convertible notes placed by Noro-Moseley and Wakefield and $8 million in bridge financing provided by those groups.

Venture capital firms purchasing convertible notes from a company, which is similar to a bank loan, is a rare move, said Jeff Barber, who heads the Carolinas technology practice of PricewaterhouseCoopers. He added that he doesn’t remember ever seeing a similar deal and that it looks like Noro-Moseley and Wakefield are attempting to guarantee at least a partial return on their investment.

“Convertible notes work like preferred stock, which often offers a dividend rate,” Barber said. “Sometimes for tax reason you will do one or the other. For instance, the interest generated from convertible notes is tax deductible whereas gains from preferred stock dividends are not.”

Noro-Moseley Partners and the Wakefield Group did not return telephone inquiries regarding the specific terms of the deal or whether it includes the option to call the notes and force Cypress to pay back the loan before the end of the seven-year period.

Cypress stays mum

Cypress spokeswoman Manda Hunt declined to comment on any specific terms of the acquisition beyond what was contained in a press release. She did say that Cypress’ parent company, Ft. Lauderdale-based U.S. RealTel, Inc. (OTC: USRT), plans to file notice of the financing arrangement with the Securities and Exchange Commission within the next 15 days, resulting in a gag order for all employees.

“We are not allowed to say anything about the transaction until that time,” Hunt said.

Part of the agreement calls for Cypress to purchase $40 million of network and collocation services from WorldCom over the next three years, according to documents filed with the Securities and Exchange Commission.

The acquisition of the WorldCom division, known as Intermedia Advanced Building Networks, includes all related customer contracts, all hardware from in-building networks, the building access right associated with each facility and all current employees, according to a statement released by Cypress.

A wild ride

During the fourth quarter of 1999 Cypress managed to raise $79.1 million in a deal that, at the time, was hailed as one of the largest venture capital rounds ever pulled together by a Georgia firm; the next largest deal that year totaled $47 million, according to information compiled by PricewaterhouseCoopers.

Cypress used the cash to begin wiring office buildings and then selling high-speed Internet access services to companies located in those facilities. About mid-way through 2000, Cypress completed the build out of its in-building fiber optic networks in 562 buildings strung throughout 28 cities, including a push into Canada that lasted about four months. In Atlanta, some of the more well known office buildings it worked on include Buckhead Plaza and the Atlanta Financial Center.

By the end of first quarter 2001, Cypress had ripped through more than $200 million and laid off more than 300 people once the telecom-spending craze died off, according to published reports.

Cypress was then acquired by U.S. RealTel last February for the bargain basement price of $17.5 million when considering that by the time RealTel was in the picture Cypress had raised more than $196 million in venture capital. Some of Cypress’ past investors include Denver-based Centennial Funds, Boston-based Beacon Capital Partners, and Gramercy Communications partners, a private equity firm backed by Onex Corp. of Canada and Telefonica S.A. of Spain.

Now, according to documents filed with the SEC, Cypress has license agreements with several building operators and owners that require it to pay close to $2.2 million in annual access commissions through 2009.

Through first quarter 2002 Cypress was generating $1.56 million in revenue with operating expenses exceeding $8 million. Cypress has reported negative cash flow since its inception, according to SEC documents.

In U.S. RealTel’s first quarter 2002 report company officials indicate their uncertainty over existing market conditions and whether or not it will be able to continue forward as a going concern.

“The company believes that its cash position, even though it will continue to erode in the near term, should stabilize by the end of 2002 or the beginning of 2003,” the report said. “The company cannot, however, give any assurance that it will be able to achieve additional revenues from the newly acquired (Cypress).”

Cypress Communications