EarthLink Announces Second Quarter 2013 Results

ATLANTA, Aug. 1, 2013 /PRNewswire/ — EarthLink, Inc. (ELNK) today announced financial results for its second quarter ended June 30, 2013. The company’s historical results related to its Systems business have been reclassified to Discontinued Operations.

Highlights for the second quarter include:

• Revenues of $313.4 million, which is net of $1.9 million of revenues reclassified to Discontinued Operations
• Increased recurring sales bookings, sales productivity up 10% sequentially
• Net loss of $(11.2) million
• Adjusted EBITDA (a non-GAAP measure) of $59.5 million
• Net cash provided by operating activities of $11.7 million
• Unlevered Free Cash Flow (a non-GAAP measure) of $25.1 million

“In the second quarter of 2013, we continued to see increased demand in the marketplace for our growth products. Our sales force delivered significantly higher productivity, higher sales in aggregate, a richer mix of growth products and materially higher average revenue per sale,” said EarthLink Chairman and Chief Executive Officer Rolla P. Huff.

Financial and Operating Results
EarthLink’s total company revenue in the second quarter of 2013 was $313.4 million, as compared to $316.8 million in the first quarter of 2013 and $334.5 million in the second quarter of 2012.  Business Services revenue, which accounted for 78% of EarthLink’s total revenue in the second quarter of 2013, declined just 0.5% versus the prior quarter, which is an improvement over the 0.8% normalized sequential decline reported in the first quarter of 2013.  EarthLink’s business services revenue was $243.3 million in the second quarter of 2013, compared to $244.6 million in the first quarter of 2013 and $253.8 million in the second quarter of 2012.

EarthLink’s Retail growth business, which includes MPLS, Hosted VoIP and IT Services, reached an approximate $157 million annualized revenue run rate in the second quarter of 2013, reflecting an accelerated 22% year-over-year growth rate. Total growth product revenues, including Wholesale, reached an approximate $313 million annualized revenue run rate. New recurring sales bookings increased 8% in the second quarter of 2013 over the second quarter of 2012, generated by 42% fewer sales reps than in the year-ago quarter. In the second quarter of 2013, 59% of new bookings were comprised of EarthLink’s growth products, versus 46% of sales bookings from growth products in the year-ago quarter.

EarthLink’s consumer segment continues to perform well, with broadband services representing 69% of consumer access revenue in the second quarter of 2013. Subscriber churn in the consumer segment reached a new historical low of 2.1% in the second quarter of 2013.

EarthLink’s selling, general and administrative expenses were $105.0 million, or 33% of revenue, for the second quarter of 2013, as compared to expenses of $106.6 million, or 34% of revenue, for the first quarter of 2013, and $104.4 million, or 31% of revenue, for the year-ago quarter.

Profitability and Other Financial Measures
For the second quarter of 2013, EarthLink reported a net loss of $(11.2) million, or $(0.11) per share, as compared to a net loss of $(236.4) million, or $(2.30) per share, in the first quarter of 2013 and $(1.1) million, or $(0.01) per share, in the second quarter of 2012.  The company generated Adjusted EBITDA (a non-GAAP measure, see definition in “Non-GAAP Measures” below) of $59.5 million in the second quarter of 2013, as compared to $61.3 million in the first quarter of 2013 and $67.4 million in the second quarter of 2012.

Balance Sheet and Cash Flow
EarthLink generated net cash from operating activities of $11.7 million in the second quarter of 2013 as compared to $31.8 million in the first quarter of 2013 and $22.3 million in the year-ago quarter.  The company generated Unlevered Free Cash Flow (a non-GAAP measure, see definition in “Non-GAAP Measures” below) of $25.1 million in the second quarter of 2013, as compared to $18.9 million during the first quarter of 2013 and $42.9 million in the second quarter of 2012. Capital expenditures were $34.4 million for the second quarter of 2013. As of June 30, 2013, EarthLink had cash and marketable securities of $141.9 million.

During the second quarter of 2013, EarthLink completed a private placement of $300.0 million aggregate principal amount of 7.375% Senior Secured Notes due 2020, resulting in net proceeds of $292.6 million after deducting transaction fees and expenses of $7.4 million. Proceeds from the private placement, together with available cash, were used to fund a tender offer and redemption of its ITC^DeltaCom 10.5% Senior Secured Notes due April 2016, which had been assumed in connection with the acquisition of ITC^DeltaCom. Approximately $314.8 million was used for repayment of the ITC^DeltaCom Notes, including premiums and accrued and unpaid interest. Also in May 2013, EarthLink amended and restated its existing revolving credit facility, which reduced the capacity from $150.0 million to $135.0 million and extended the term through May 2017.

Business Outlook
The following statements are forward-looking, and actual results may differ materially.  See comments under “Cautionary Information Regarding Forward-Looking Statements” below.  EarthLink undertakes no obligation to update these statements.

Today EarthLink announced revised revenue and Adjusted EBITDA guidance for the full year 2013. Management now expects revenue of $1.245 to $1.250 billion for the full year 2013. This revenue guidance reflects an approximate $10 million full year impact for the reclassification of Systems revenue into Discontinued Operations. Management now expects Adjusted EBITDA of $214 million to $225 million; capital expenditures of $140 million to $155 million; and net loss of $283 million to $288 million for the full year 2013.

Non-GAAP Measures
Adjusted EBITDA is defined as net income (loss) before interest expense and other, net, income taxes, depreciation and amortization, stock-based compensation expense, impairment of goodwill and intangible assets, restructuring, acquisition and integration-related costs and loss from discontinued operations, net of tax.  Unlevered Free Cash Flow is defined as net income (loss) before interest expense and other, net, income taxes, depreciation and amortization, stock-based compensation expense, impairment of goodwill and intangible assets, restructuring, acquisition and integration-related costs and loss from discontinued operations, net of tax, less cash used for purchases of property and equipment.

Adjusted EBITDA and Unlevered Free Cash Flow are non-GAAP financial measures.  They should not be considered in isolation or as an alternative to measures determined in accordance with U.S. generally accepted accounting principles.  Please refer to the Consolidated Financial Highlights for a reconciliation of these non-GAAP financial measures to the most comparable measures reported in accordance with U.S. generally accepted accounting principles and Footnote 4 of the Consolidated Financial Highlights for a discussion of the presentation, comparability and use of such financial measures.

Conference Call for Analysts and Investors
Conference Call Details
Thursday, August 1, 2013, at 8:30 a.m. ET hosted by EarthLink’s Chairman and Chief Executive Officer Rolla P. Huff, and Chief Financial Officer Bradley A. Ferguson.
Dial-in Number           800-706-0730
Participants should reference the conference ID number 5556956 or “EarthLink’s 2^nd Quarter 2013 Conference Call” and dial in 10 minutes prior to scheduled start time.
Webcast
A live Webcast of the conference call will be available at: http://ir.earthlink.net/
Presentation
An investor presentation to accompany the conference call and webcast will be available
at: http://ir.earthlink.net/
Replay
Replay available from 11:30 a.m. ET on August 1 through 12:00 midnight on August 8, 2013. Dial toll-free 855-859-2056. The replay confirmation code is 5556956.  The Webcast will be archived on the company’s website at: http://ir.earthlink.net/events.cfm

About EarthLink
EarthLink, Inc. (ELNK) is a leading IT services and communications provider to more than 150,000 businesses and one million consumers nationwide. EarthLink empowers customers with managed services including cloud computing, managed and private cloud, and virtualization services such as managed hosting and cloud workspace. EarthLink also offers a robust portfolio ofIT security, application hosting, colocation and IT support services. The company operates an extensive network spanning 29,421 route fiber miles with 90 metro fiber rings and 8 secure data centers providing ubiquitous nationwide data and voice IP service coverage across more than 90 percent of the country. Founded in 1994, EarthLink’s award-winning reputation for outstanding service and product innovation is supported by an experienced team of professionals focused on best-in-class customer care.  For more information, visit EarthLink’s website at www.earthlink.com.

Cautionary Information Regarding Forward-Looking Statements
This press release includes “forward-looking” statements (rather than historical facts) that are subject to risks and uncertainties that could cause actual results to differ materially from those described. Although we believe that the expectations expressed in these forward-looking statements are reasonable, we cannot promise that our expectations will turn out to be correct. Our actual results could be materially different from and worse than our expectations. With respect to such forward-looking statements, we seek the protections afforded by the Private Securities Litigation Reform Act of 1995. These risks include, without limitation (1) that we may not be able to execute our strategy to be an IT services company for small and medium-sized businesses with IT and network security needs, which could adversely affect our results of operations and cash flows; (2) that we may not be able to grow revenues from our evolving Business Services product portfolio to offset declining revenues from our legacy Business Services products and from our Consumer Services segment, which could adversely affect our results of operations and cash flows; (3) that we may not be able to develop the optimal sales model necessary to implement our business strategy; (4) that we may be unsuccessful integrating acquisitions into our business, which could result in operating difficulties, losses and other adverse consequences; (5) that if we are unable to adapt to changes in technology and customer demands, we may not remain competitive, and our revenues and operating results could suffer; (6) that our failure to achieve operating efficiencies will adversely affect our results of operations; (7) that as a result of our continuing review of our business, we may have to undertake further restructuring plans that would require additional charges, including incurring facility exit and restructuring charges; (8) that unfavorable general economic conditions could harm our business; (9) that we may be unable to successfully identify, manage and assimilate future acquisitions, which could adversely affect our results of operations; (10) that we face significant competition in the IT services and communications industry that could reduce our profitability; (11) that decisions by legislative or regulatory authorities, including the Federal Communications Commission relieving incumbent carriers of certain regulatory requirements, and possible further deregulation in the future, may restrict our ability to provide services and may increase the costs we incur to provide these services; (12) that if we are unable to interconnect with AT&T, Verizon and other incumbent carriers on acceptable terms, our ability to offer competitively priced local telephone services will be adversely affected; (13) that our operating performance will suffer if we are not offered competitive rates for the access services we need to provide our long distance services; (14) that we may experience reductions in switched access and reciprocal compensation revenue; (15) that failure to obtain and maintain necessary permits and rights-of-way could interfere with our network infrastructure and operations; (16) that we have substantial business relationships with several large telecommunications carriers, and some of our customer agreements may not continue due to financial difficulty, acquisitions, non-renewal or other factors, which could adversely affect our wholesale revenue and results of operations; (17) that we obtain a majority of our network equipment and software from a limited number of third-party suppliers; (18) that work stoppages experienced by other communications companies on whom we rely for service could adversely impact our ability to provision and service our customers; (19) that our commercial and alliance arrangements may not be renewed or may not generate expected benefits, which could adversely affect our results of operations; (20) that our consumer business is dependent on the availability of third-party network service providers; (21) that we face significant competition in the Internet access industry that could reduce our profitability; (22) that the continued decline of our consumer access subscribers, combined with the change in mix of our consumer access base from narrowband to broadband, will adversely affect our results of operations; (23) that potential regulation of Internet service providers could adversely affect our operations; (24) that if we, or other industry participants, are unable to successfully defend against disputes or legal actions, we could face substantial liabilities or suffer harm to our financial and operational prospects; (25) that we may be accused of infringing upon the intellectual property rights of third parties, which is costly to defend and could limit our ability to use certain technologies in the future; (26) that we may not be able to protect our intellectual property; (27) that we may be unable to hire and retain sufficient qualified personnel, and the loss of any of our key executive officers could adversely affect us; (28) that our business depends on effective business support systems and processes; (29) that privacy concerns relating to our business could damage our reputation and deter current and potential users from using our services; (30) that cyber security breaches could harm our business; (31) that interruption or failure of our network and information systems and other technologies could impair our ability to provide our services, which could damage our reputation and harm our operating results; (32) that government regulations could adversely affect our business or force us to change our business practices; (33) that regulatory audits have in the past, and could in the future, result in increased costs; (34) that our business may suffer if third parties are unable to provide services or terminate their relationships with us; (35) that we may be required to recognize impairment charges on our goodwill and intangible assets, which would adversely affect our results of operations and financial position;  (36) that we may have exposure to greater than anticipated tax liabilities and the use of our net operating losses and certain other tax attributes could be limited in the future; (37) that our indebtedness could adversely affect our financial health and limit our ability to react to changes in our industry; (38) that we may require substantial capital to support business growth or refinance existing indebtedness, and this capital may not be available to us on acceptable terms, or at all; (39) that our debt agreements include restrictive covenants, and failure to comply with these covenants could trigger acceleration of payment of outstanding indebtedness or inability to borrow funds under our existing credit facility; (40) that we may reduce, or cease payment of, quarterly cash dividends; (41) that our stock price may be volatile; and (42) that provisions of our third restated certificate of incorporation, amended and restated bylaws and other elements of our capital structure could limit our share price and delay a change of control of the company. These risks and uncertainties, as well as other risks and uncertainties that could cause our actual results to differ significantly from management’s expectations, are not intended to represent a complete list of all risks and uncertainties inherent in our business, and should be read in conjunction with the more detailed cautionary statements and risk factors included in our Annual Report on Form 10-K for the year ended December 31, 2012.

EARTHLINK, INC.
Footnotes to Consolidated Financial Highlights

1.     During the first quarter of 2013, the Company recognized a $256.7 million non-cash impairment charge to goodwill related to its Business Services reporting unit, of which $255.6 million is included in continuing operations and $1.1 million is reflected in discontinued operations. The impairment was based on an analysis of a number of factors after a decline in the Company’s market capitalization following the announcement of its fourth quarter 2012 earnings and 2013 financial guidance. The primary factor contributing to the impairment was a change in the discount rate and market multiples as a result of the change in these market conditions, both key assumptions used in the determination of fair value.

2.     Restructuring, acquisition and integration-related costs consisted of the following for the periods presented (in thousands):

Restructuring, acquisition and integration-related costs consist of costs related to EarthLink’s restructuring, acquisition and integration-related activities. Such costs include: 1) integration-related costs, such as system conversion, rebranding costs and integration-related consulting and employee costs; 2) severance and retention costs; 3) transaction-related costs, which are direct costs incurred to effect a business combination, such as advisory, legal, accounting, valuation and other professional fees; and 4) facility-related costs, such as lease termination and asset impairments.

3.     The operating results of the Company’s telecom systems business acquired as part of ITC^DeltaCom have been separately presented as discontinued operations for all periods presented. During the three months ended June 30, 2013, steps were taken to market and dispose of the ITC^DeltaCom telecom systems business and the Company intends to divest the business during the second half of 2013. The Company will have no significant continuing involvement in the operations or cash flows of the ITC^DeltaCom telecom systems business upon disposition. This business has been classified as held for sale and reported as discontinued operations. The telecom systems results of operations were previously included in the Company’s Business Services segment.

4.     Adjusted EBITDA is defined as net income (loss) before interest expense and other, net, income taxes, depreciation and amortization, stock-based compensation, impairment of goodwill and intangible assets, restructuring, acquisition and integration-related costs, and loss from discontinued operations, net of tax.  Unlevered Free Cash Flow is defined as net income (loss) before interest expense and other, net, income taxes, depreciation and amortization, stock-based compensation, impairment of goodwill and intangible assets, restructuring, acquisition and integration-related costs, and loss from discontinued operations, net of tax, less cash used for purchases of property and equipment.

Adjusted EBITDA and Unlevered Free Cash Flow are non-GAAP measures and are not determined in accordance with U.S. generally accepted accounting principles. These non-GAAP financial measures are commonly used in the industry and are presented because management believes they provide relevant and useful information to investors. Management uses these non-GAAP financial measures to evaluate the performance of its business and determine bonuses. Management believes that excluding the effects of certain non-cash and non-operating items enables investors to better understand and analyze the current period’s results and provides a better measure of comparability. There are limitations to using these non-GAAP financial measures. Adjusted EBITDA and Unlevered Free Cash Flow are not indicative of cash provided or used by operating activities and may differ from comparable information provided by other companies.  Adjusted EBITDA and Unlevered Free Cash Flow should not be considered in isolation, as an alternative to, or more meaningful than measures of financial performance determined in accordance with U.S. GAAP.

5.     The Company reports segment information along the same lines that its chief executive officer reviews its operating results in assessing performance and allocating resources. The Company operates two reportable segments, Business Services and Consumer Services. The Company’s Business Services segment provides a comprehensive suite of communications and technology services, including voice, data, managed network services, cloud hosting and equipment services, to business customers. The Company’s Consumer Services segment provides nationwide Internet access and related value-added services to residential customers.

The Company presents its Business Services revenue in the following three categories: (1) retail services, which includes data, voice and managed IT services; (2) wholesale services, which includes the sale of transmission capacity to other telecommunications carriers; and (3) other services, which primarily consists of web hosting. The Company presents its Consumer Services revenue in the following two categories: (1) access services, which includes include narrowband and broadband Internet access services and (2) value-added services, which includes revenues from ancillary services sold as add-on features to EarthLink’s Internet access services, such as security products, premium email only, home networking and email storage; search revenues; and advertising revenues.

EarthLink evaluates performance of its operating segments based on segment income from operations. Segment income from operations includes revenues from external customers, related cost of revenues and operating expenses directly attributable to the segment, which include expenses over which segment managers have direct discretionary control, such as advertising and marketing programs, customer support expenses, site operations expenses, product development expenses, certain technology and facilities expenses, billing operation and provisions for doubtful accounts. Segment income from operations excludes other income and expense items and certain expenses that segment managers do not have discretionary control over. Costs excluded from segment income from operations include various corporate expenses (consisting of certain costs such as corporate management, human resources, finance and legal), depreciation and amortization, stock-based compensation expense, impairment of goodwill and intangible assets and restructuring, acquisition and integration-related costs, as they are not evaluated in the measurement of segment performance.

6.     Debt represents the principal amount of EarthLink’s Senior Notes, EarthLink’s Senior Secured Notes and ITC^DeltaCom’s Senior Secured Notes. Below is a summary of the carrying amount of EarthLink’s debt (in thousands):

7.     Represents full-time equivalents.

8.     Average subscribers for the three month periods is calculated by averaging the ending monthly subscribers or accounts for the four months preceding and including the end of the quarterly period.  Average subscribers for the six month periods is calculated by averaging the ending monthly subscribers or accounts for the seven months preceding and including the end of the period.

9.     ARPU represents the average monthly revenue per user (subscriber). ARPU is computed by dividing average monthly revenue for the period by the average number of subscribers for the period. Average monthly revenue used to calculate ARPU includes recurring service revenue as well as nonrecurring revenues associated with equipment and other one-time charges associated with initiating or discontinuing services.

10.     Churn rate is used to measure the rate at which subscribers discontinue service on a voluntary or involuntary basis.  Churn rate is computed by dividing the average monthly number of subscribers that discontinued service during the period by the average subscribers for the period.

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