ISP Earnings Preview: Earthlink Vs. United (ELNK, UNTD, TWX)

Thursday is going to be an interesting earnings day if you follow the few independent Internet Service Providers (ISP’s).  EarthLink, Inc. (NASDAQ: ELNK) and United Online Inc. (NASDAQ: UNTD) both report earnings on Thursday, and these results may end up being closely watched by Jeff Bewkes of Time Warner inc. (NYSE: TWX) for some rather obvious reasons.

In the early morning we’ll get to see earnings out of EarthLink Inc. (NASDAQ: ELNK).  The estimates from First Call for the Internet access and communication provider are $0.15 EPS on $280.96 million in revenues, but be advised that the estimates vary greatly. Next quarter estimates are $0.21 EPS and $290.17 million in revenues, and fiscal 2008 estimates are $1.01 EPS on $ 1.07 billion in revenues.  Analysts have an average price target of north of $9.00.  At its last earnings, EarthLink gave a fiscal free cash flow target of $200 to $240 million, although it has more restructuring than analysts can agree on.  It listed the following for subscribers as of last quarter: narrowband at 2.856M and broadband at 1.093M for as total of 3.949M consumer subscribers.  For business customers it listed the following: 30,000 narrowband businesses, 68,000 broadband businesses, and 104,000 web hosting accounts for a total of 202,000 business accounts.  These numbers have shrunk in EVERY SINGLE CATEGORY.  Shares closed down about 1.2% to $6.67 on Wednesday and the stock’s 52-week trading range is $5.90 to $8.36.  Its market cap is $802 million.

On Thursday afternoon we’ll get to see earnings out of United Online Inc. (NASDAQ: UNTD). The estimates from First Call for the internet provider are $0.30 EPS on $127.82 million in revenues, although this one is very thinly followed by analysts and there are discrepancies on estimates beyond this quarter.  Estimates for fiscal 2008 are $1.10 EPS on $508.10 million in revenues.  It appears that analysts still have an average price target of $17.00, although we would again urge caution in trusting our number or anyone else’s on these.  The biggest problem here is that after its failed Classmates.com IPO got pulled, United has lost its mojo.  Unlike most Internet stocks, this actually has a decent dividend $0.20 each quarter. Its communications unit, or the ISP of NetZero and Juno listed that last quarter paying accounts had declined some 134,000 to 2.2 million; and this one is now harder to value directly compared because its content/media revenues were roughly two-thirds of the size of the Communications/ISP unit.  United Online closed up 1.5% at $10.87 on Wednesday, and its 52-week trading range is $9.55 to $17.97.  Its market cap is $735 million.

We have covered both of these in our Special Situation subscriber letter, and both are routinely screened for our weekly "10 Stocks under $10" subscriber letter.  In fact, both of these fit in our "small cap internet watch list" for companies that we think will ultimately either be acquired or will merge up under the right circumstances.  While these businesses are declining, there is actually some value here for the right financial asset buyer.  In a slowing economy it is even possible that a portion of those who prefer the more expensive broadband triple play packages from cable or the telecoms might not have a choice BUT to go back.  That may be heresy to some, but it is possible.

But we’d like to take a walk on Hypothetical Lane here.  If you are Jeff Bewkes at Time Warner inc. (NYSE: TWX) and want divest the rest of the legacy AOL Internet access business, you’d probably be watching these two reports quite closely. The TWX earnings call transcript from Blogging Stocks is here. This will derive an implied market value per subscriber on a discounted basis.  Based upon what you see there you would begin to work these numbers backwards.  How many independent broadband and narrowband ISP’s with large customer bases does the U.S. need with all the Internet access choices out there?  Under the right circumstances and a little creativity you might even be able to imagine a business threesome.

Jon C. Ogg
February 6, 2008