McLeodUSA: the gold star of Iowa
                  By Joan Indiana Rigdon
                  Red Herring
                  May 15, 2001

                  This article is from the May 1 & 15, 2001, issue of Red Herring magazine.

                  "Silicone Valley," as Clark McLeod calls it, has grown queasy over a telecommunications slowdown.
                  So has Wall Street. But here in flyover Cedar Rapids, Iowa, the chairman, director, and co-CEO of
                  one of the industry's greatest grabbers of market share, McLeodUSA (Nasdaq: MCLD), is having a
                  wonderful day. In a war room on the second floor of the company's tornado-resistant
                  headquarters, he flips through his presentation for investors: slides that boast about his company's
                  projection of more than $2 billion in annual revenue, its 19 consecutive quarters of meeting Wall
                  Street expectations (for mounting losses -- McLeodUSA is building a nationwide fiber network), and
                  its 13 consecutive quarters of positive earnings before interest, taxes, depreciation, and
                  amortization.

                  As Mr. McLeod (pronounced McCloud) goes through the slides, he carefully describes the
                  battlefield. AT&T (NYSE: T) is still a monopolist. WorldCom (Nasdaq: WCOM), Qwest
                  Communications (NYSE: Q), and the like are no better. They are all just "incumbents," or
                  "mega-Bells," as he calls them, companies that mostly inherited their customers instead of winning
                  them. McLeodUSA, he says, is a scrappy startup. No matter that it is ten years old and has 10,700
                  employees. It intends to use old-fashioned customer service to grab and keep what the incumbents
                  won't protect: customers and the millions in profits that come with them. Mr. McLeod explains all
                  this in rhetorical questions that he answers himself, stage-whispering certain words for emphasis:
                  "Why wouldn't they like that? Because all of their profits would go away!"

                  Our eyes wander to a bar chart, hand-drawn in purple, black, and yellow. The bars stair-step
                  higher, depicting how McLeodUSA's stock will rise over the next decade if it can continue to
                  achieve its compound annual growth rate of at least 35 percent. At the top step, a stick figure
                  leaps for joy, a huge smiley face in the middle of its big yellow head. "Did you draw that?" we ask.

                  Mr. McLeod momentarily loses his train of thought but recovers nicely: "Aren't I good?" he grins.

                  And suddenly it's obvious. The too-big smile, the lanky frame, and that certain kindhearted
                  condescension left over from his first career as a junior high school math teacher -- that's right, a
                  math teacher: Mr. McLeod bears an unsettling similarity to Mister Rogers. The founder of
                  McLeodUSA, the David to the Goliaths of AT&T and company, the former Hy-Vee grocery store
                  carry-out boy who married his grade-school sweetheart, reminds one irresistibly of the TV icon who
                  assured generations of American children that it was a wonderful day in the neighborhood.

                  Is this what it takes to run a technology company after the days of futile futuristic daydreaming
                  are over?

                  AFTER MATH
                  Mr. McLeod is an unlikely subject for a Red Herring 100 profile. At 54, he is old enough to have
                  fathered most of the entrepreneurs we write about. And he is boring. He tends to lunch in his
                  office, on tuna and crackers. He talks in bullet points; one of his favorites, about growing a
                  company: "Focus. Simplify. Stage." And although he once jazzed up his image by dressing as a
                  vampire ("Count Clarkula") to videotape his quarterly report to his employees ("We were able to
                  take a bite out of the competition!"), he is generally austere. We saw him in a black suit, white
                  shirt with monogrammed cuffs, a muted tie, and the name tag he always wears, even on road
                  shows. It is his way of being friendly to potential customers, a carryover from his Hy-Vee days.

                  In other words, Mr. McLeod is decidedly unhip to the habits of modern entrepreneurialism, and even
                  disdainful about the frenetic birth and death of companies on the coasts. He's also decidedly
                  uninterested in technology. Although several acquisitions have bought McLeodUSA hundreds of
                  Internet points of presence and 31,000 miles of fiber -- thus a major chunk of America's
                  telecommunications backbone, which in turn carries services like DSL, wireless, and cable -- he
                  showed no interest in our questions about possible partnerships with technology companies.
                  Whenever we pressed him for his thoughts on Silicon Valley and its ways of doing business, our
                  scrappy school teacher -- the same man who had just thrown his arms out and whispered "Boom!"
                  to show what happens to entrepreneurs who can't execute -- dropped his eyes, bit his tongue,
                  and politely claimed ignorance of what happens "out there."

                  Maybe he doesn't have to know. Mr. McLeod is one of very few entrepreneurs who can rightfully
                  claim to have started two separate billion-dollar companies. He sold his first startup, Telecom USA,
                  to MCI for $1.3 billion in 1990 before starting McLeodUSA in 1991, the moment the ink dried on his
                  noncompete clause. All this from a man who cares little about technology.

                  Mr. McLeod was born less than ten miles from his company's headquarters in Cedar Rapids, the
                  home of painter Grant Wood. His parents, who both started out teaching "commercial" (business) to
                  grade-school students, grew disenchanted with the profession after the students lost discipline and
                  the schools gave up imposing it, says Mr. McLeod's mother, Jane McLeod. (She adds, "And we are
                  firm believers in discipline.") So the McLeods weren't disappointed in 1972 when their youngest
                  child quit teaching after just three years to enter business.

                  He had already started working nights at the Hy-Vee, where he learned the art of customer
                  service. One of his fellow grocers, Don Drake, says Mr. McLeod worked his way up from carry-out
                  boy to helping run the store at night. "I think that shows today," Mr. Drake says proudly, of the
                  Hy-Vee training.

                  Along the way, Mr. McLeod built up a certain intensity, the kind of thing that used to drive him to
                  yell, bang his fist, and even jump on tables. He's mellowed considerably, says Art Christoffersen,
                  president and CEO of McLeodUSA Publishing. Now he channels that intensity in other ways: when
                  people like WilTel Network Services founder Roy Wilkens tell him they're happily retired, he
                  strongarms them to come work at McLeodUSA. (Mr. Wilkens is now president and CEO of data
                  network operations.) And every weekday morning at 7:29, he calls McLeodUSA's cofounder and
                  co-CEO, Stephen Gray, with an "overnight thought." (After years of hearing these, Mr. Gray allows
                  that if Mr. McLeod were a baseball player, "he'd bat only .200 but hit 80 home runs a year.")

                  The rest of us might call Mr. McLeod's intensity "pushiness." But he describes it as "passion" in This
                  Way Up: An Insider's Guide to the Climb of Your Life, a ghostwritten inspirational tome that he
                  self-published. It is required reading for new McLeodUSA employees. Featuring gold stars -- the
                  McLeodUSA logo -- throughout, it looks and reads like The Little Prince, only it is about a
                  metaphorical mountain climb.

                  The book outlines Mr. McLeod's recipe for success: G.R.I.P. (Growth, Relationships, Integrity, and
                  Passion). In the Growth section, Mr. McLeod tells of a fellow teacher who wanted to change
                  careers, but had no clear plans, except that he might try "some day." It was this man who scared
                  Mr. McLeod into becoming an entrepreneur. Later, he writes that G.R.I.P. is not an 8-to-5
                  phenomenon, but a value system for life. He quotes one employee who says G.R.I.P. has made him
                  a better worker and brought him closer to his family and God.

                  Mr. McLeod seemed shocked when we asked if his zeal for G.R.I.P. was in any way religious. He
                  swears it's not. Clarifies Bryce Nemitz, McLeodUSA's vice president for corporate communications:
                  "It's more of a passion to be the best."

                  Still, Mr. McLeod really believes in G.R.I.P. "People get very turned on when they understand and
                  deal with a value system that they like," he says. It's this belief that has given his company a
                  certain junior high ambience. Workers must wear their name tags at all times; if they forget or lose
                  them, corn-fed security guards send them to a special desk to sign in. Gold stars are everywhere;
                  all workers are rated on G.R.I.P. twice a year.

                  There is playtime, too. Workers can fish for bass (catch and release) or take paddle boats out on a
                  man-made lake in front of the building. McLeodUSA holds a party there once a year -- this could be
                  "Silicone Valley," minus the kegs. "That wouldn't be appropriate," a spokeswoman says.

                  REVENUE SCHEME
                  In some ways, Mr. McLeod's operation is not so different from those he disdains. After all, his
                  company expects to spend and lose hundreds of millions of dollars for years to come. He secured
                  funding of $1 billion from Forstmann Little and gained $750 million from sales of senior notes. But
                  here's the twist: while most high-tech founders build their companies on the technology itself --
                  hoping its innovations will create or disrupt markets -- Mr. McLeod takes more of a Procter &
                  Gamble approach; he just wants to buy, package, sell, and service the innovations of others.

                  Mr. McLeod knew little about any business back in 1980 when he started what later became
                  Telecom USA. Indeed, his plan to follow MCI's then-floundering attempt to break AT&T's monopoly
                  was so brazen that one man who heard it, a certain Cedar Rapids insurance executive, threw Mr.
                  McLeod out of his office and told his secretary to never let him return, because he was "nuts." So
                  says witness Albert Ruffalo, who now works for McLeodUSA as group vice president and "Chief
                  People Development Officer."

                  By the time MCI acquired it nine years later, Telecom USA had grown into America's fourth-largest
                  long-distance carrier. Mr. McLeod's ensuing retirement coincided exactly with the length of his
                  noncompete clause, and when the latter ended, he raided MCI for some of his favorite former
                  lieutenants, including Mr. Gray.

                  With this second company, Mr. McLeod has a new mission. He is out to build and buy a keeper
                  empire (for the buying, he not only has money, but Anne Bingaman, a former U.S. antitrust official,
                  on his board). He hopes McLeodUSA will eventually generate annual revenue of $30 billion to $50
                  billion.

                  His strategy for getting there is unique. While the incumbents obsess over eradicating static and
                  the wonders of using speech recognition to dial phone numbers, Mr. McLeod prefers to work the
                  nontechnical angles of his business, like customer service and ... phone directories. In 1996, when
                 his competitors were talking Internet, Mr. McLeod spooked investors by announcing plans to buy
                  back Telecom USA's directory publishing business from MCI.

                  "The market threw up," Mr. Nemitz says. So Mr. McLeod went on the road to explain that a phone
                  directory with McLeodUSA's gold star on the cover was like a piece of direct mail with a 12-month
                  shelf life. It's cheap advertising and a way to sell ads to boot. "It was certainly puzzling at first,"
                  says James Henry, an analyst at Bear, Stearns. "But it didn't take long for them to explain it."
                  Publishing now produces 15 percent of McLeodUSA's revenue.

                  In general, Mr. McLeod concentrates on second- and third-tier markets. "Sound familiar?" he asks
                  us, raising his eyebrows hopefully, as he would for a very slow student. Then he helps us with the
                  answer: "Wal-Mart? People like that?"

                  STORMY BELLWETHER
                  The strategy is working so far. While regional carriers like Qwest, Verizon (NYSE: VZ), and SBC
                  Communications (NYSE: SBC) together hold 90 percent of the overall market, McLeodUSA has
                  managed to grab as much as 30 to 40 percent share in some markets (Iowa and Illinois), while in
                  others, it has "north of 10 percent," Mr. Henry says. That writing is literally on the wall. Co-CEO
                  Gray works under a large map of the section of the United States from Kentucky to Kansas.

                  Some customers are clearly swayed by the customer service emphasis. Bonnie Pemble of K&L
                  Distributors, an Anheuser-Busch distributor based in Renton, Washington, became a McLeodUSA
                  believer almost three years ago when, as a new customer, McLeod representatives gave her their
                  pager and home phone numbers.

                  Perhaps Mr. McLeod's biggest strength comes from his ability to see past the promise of technology
                  and, like his public television doppelganger, know what makes people feel good. Mister Rogers likes
                  kids just the way they are. Mister McLeod knows customers like to feel loved -- or at least have
                  access to a live customer service agent. It's a trend that might even play well on the coasts.

                  Write to joan.rigdon@redherring.com.
 

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