Novice Investing - Hooking Up With Earthlink

Date: Thursday 20th 2008f November 2008 05:48:37 AM

Hooking Up With Earthlink - 03/09/2007

By: Hari Wibowo

We had discussed Earthlink Inc. (ELNK) on several occasions. Last month, we said that Earthlink is gaining momentum in providing Wi-Fi access nationally across the US. Now, we are seriously considering Earthlink as potential investment. What is their potential revenue and expected profit in the future? We believe that Earthlink's future is in this Wi-Fi initiative. Thus, our revenue estimation goes hand in hand with the success of Earthlink's Wi-Fi venture.

Based on existing cities that Earthlink had gotten approval, we can draw an idea where Earthlink might be heading. (Did you know that Earthlink just obtain yet another approval for the City of Corpus Christi?) Analysts estimate a $ 1.03 loss for Earthlink in 2007 and a $ 0.33 loss for 2008 but we think that Earthlink would do better than that. Here are the estimated revenue and profit for each deals. We assume that each subscriber will pay $ 20/ month for Wi-Fi access.

City	Households	Subscribers	Revenue	Investment
Philadelphia	661,958	132,391	$ 31.77 Mil.	$ 13.5 Mil.*
New Orleans	215,091	43,018	$ 10.32 Mil.	$ 18.1 Mil.*
Alexandria	61,889	12,377	$ 2.97 Mil.	$ 1.5 Mil.*
Anaheim	96,969	19,394	$ 4.65 Mil.	$ 4.9 Mil. *
Milpitas	17,732	3,426	$ 0.82 Mil.	$ 1.4 Mil. *
Houston	717,945	143,589	$ 34.50 Mil.	$ 50.0 Mil.
St. Petersburgh	109,663	21,900	$ 5.26 Mil	$ 8.3 Mil.
S. Francisco	329,700	65,940	$ 15.83 Mil.	$ 4.7 Mil. *
Total		442,035	$ 106.12 Mil.	$ 102.4 Mil.
* = assumption $ 100,000 per square miles of investment

Based on the above assumption, it is clear that average annual revenue/ investment is: $ 0.96. This is a good investment considering that Earthlink can use the network for years to come! Further, with more monies coming in, Earthlink can build more network around the country. While, the revenue ratio may be less, it is still a profitable investment. Let's make a pro-forma income statement for Earthlink.

Based on 2005 figure, we can use the following assumption:

Earthlink loses all of its narrowband subscriber in 5 years. (20% reduction in narrowband revenue)
Broadband revenue rises 10% per year
Hosting revenue stays constant at 2005 level.
Gross profit margin decrease to 70%
Operational cost goes up 7% per year
Earthlink uses most of its cash flow to build more Wi-Fi towers

The result is summarized as follows:

Year	2005	2006	2007	2008
Revenue
Narrowband	$ 742.7 M	$ 594.2 M	$ 445.6 M	$ 297.1 M
Broadband	$ 441.7 M	$ 485.9 M	$ 534.5 M	$ 587.9 M
Webhosting	$ 40.7 M	$ 40.7 M	$ 40.7 M	$ 40.7 M
Wi-Fi	$ 0 M	$ 0 M	$ 106.1 M	$ 318.3 M
Total Revenue	$ 1225.1 M	$ 1120.8 M	$ 1127.0 M	$ 1244.1 M
Gross Profit (70%)	$ 857.6 M	$ 784.6 M	$ 788.9 M	$ 870.8 M
Operational Cost	$ 750.6 M	$ 803.1 M	$ 883.5 M	$ 945.2 M
Operating Profit/ Cash Flow from Operations	$ 107.0 M	($ 18.5 M)	($ 94.6 M)	($ 74.4 M)

From the look of it, Earthlink will be in trouble for several years. For 2007, we assume that the above eight cities will start to give revenue contribution to Earthlink. The following year, we assume that Earthlink will use its $ 200 Million in the bank to build Wi-Fi network, which in turn will produce $ 200 Million incremental revenue in Wi-Fi. Thus, while additional revenue is possible for Earthlink, it seems like it cannot survive long without cutting operational cost or halt the defection of its narrowband customers. We are intrigued at Earthlink as potential investment but at this point, our projection above does not show promising trend. Let's hope it will change sometime in the future.

END

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Disclaimer: The sole purpose of this article is educational. This article is merely the opinion of the writer and is not in any way a buy/sell recommendation regarding Earthlink Inc. (ELNK) or any other securities.

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