09:50am EDT 28-Sep-99 FAC\Equities GEEK
GEEK ReviewSeptember 28, 1999 Previous Research Flash: 09/14/99F A C/ Equities
A division of First Albany CorporationINSTITUTIONAL EQUITY RESEARCH FLASH
Estimate ChangeInternet America (GEEK)Primary Analyst
RatingBuyFY JunPrice $12 7/8
52-Wk Range $61-$11 1/2Shares Out. 6.9 mil.Avg.Dly. Vol. 93330
Market Cap. $88.8 mil.Debt/Capital 5.8%
Div. Yield 0.0% EPS may not add up due to rounding. EPS numbers may not add up
due to rounding.3-Yr EPS Gr. 118%A
Earnings per Share P/E Rev
Q1($) Q2($) Q3($) Q4($) Yr($) Prev($) Ratio ($mil)
1998 0.03 0.01 (0.08) (0.12) (0.16) N/M 14.08
1999 (0.04)A (0.13)A (0.10) (0.13) (0.40) N/M 18.12
2000E (0.26) (0.36) (0.42) (0.35) (1.42) (0.48) N/M 34.89
2001E (0.34) (0.32) (0.31) (0.29) (1.25) (0.13) N/M 63.77GEEK Review
--Internet America continues to follow through on its plan to aggressively
acquire neighboring competitors by using stock or cash.
--We are adjusting our model based on four new acquisitions and further company
guidance for the current quarter.
--We continue to expect the company to be EBITDA positive in the third quarter
of fiscal year 2000. We expect positive earnings per share in the fourth quarter
of 2002.
--We are modestly raising our target price range for the shares GEEK to $22-$28,
up from $19-$25--We reiterate our Buy rating on the sharesRevised Estimates
Revenues. We are lowering our revenue estimates for Internet America's current
fiscal Q1, due primarily to the "trickle factor." The subscribers acquired
through the KDi and INTX acquisitions (see below for details) were slower than
anticipated in signing up for the Internet America service, perhaps because of
the summer season when people tend to vacation. In addition, the churn
rate_customers defecting from the service after the 60-day trial_was higher than
expected for these customers. We are lowering our estimate for the current
quarter to $5.6 million versus our earlier estimate of $6.3 million.
We are, however, increasing our revenue estimates for the remainder of the
current fiscal year by a substantial amount. We are raising our revenue
estimates for the second quarter by 10.5% and for the third and fourth quarters
we are raising our revenue estimates by 35% and 49%, respectively. Thus, our
total revenues for this fiscal year are $34.9 million versus our earlier
estimate of $28.3 million. For the year 2001 we estimate an additional 83%
growth to $63.7 million. These increases are primarily the effect of the 42,000
subscribers gained through the PDQ acquisition (see description below).
Gross Margin. Margins for the current fiscal Q1 are also contracting from our
earlier projections. We are lowering our gross margin estimate for the quarter
to 45% versus our earlier estimate of 52.4%. We also expect the gross margin to
stay in the high 40% range for the remainder of this fiscal year as the company
works out some of the difficulties of transferrring acquisitions to their own
network. The connectivity cost benefits have not yet been realized.
Operations. We are decreasing our Sales and Marketing charges for the current
quarter to about $1.5 million, or 27% of revenues versus our earlier estimate of
$2 million or 33% of revenues. The head of Marketing resigned in May of this
year and a replacement was not found until just recently, causing most of the
advertising and marketing campaigns to run on auto-pilot over the summer months.
Internet America also pulled back on advertising in the Houston area in
anticipation of the PDQ acquisition. Through fiscal 2000, Sales and Marketing
should gradually decrease as a percent of revenues from 26.9% currently to 24.3%
by June of 2000.
The G&A line should be steady through fiscal 2000. We do not expect the company
to realize head count efficiencies through the acquisitions discussed below. In
the case of KDi, INTX and Phoenix.net only subscribers are acquired, rather than
operations. (See details below.) PDQ.net will operate as a independent
subsidiary.
Depreciation & Amortization. Finally, we have adjusted our estimates for
depreciation and amortization because of the company's acquisitions. We are
raising our Q1 estimate to $1.5 million from $950,000. About one-third of the
amount is depreciation and two-thirds is amortization of acquisitions of
NeoSoft, KDi and INTX. We are also raising our 2Q estimates up to $3.4 million
and our 3Q and 4Q estimates up to $4.8 million when the full effect of the PDQ
amortization kicks in.
Target Price. The changes we have made to our model significantly increase our
estimates to 2002 EBITDA, and hence our target price range, which we are
increasing to $22-$28, up from $19-$25. For valuation purposes, we use 2002
EBITDA for a base across all of the companies in our coverage; this is
consistent with our view that the industry will grow on a more "normalized"
basis relative to the existing size of the participants at that time. We do not
think companies should be "penalized" for aggressive growth tactics that impair
profitability at this early stage in the expansion of the industry. Our
valuation model projects a target price range based on 15x-20x 2002 EBITDA plus
cash net debt.The Acquisitions
We remind investors that when Internet America acquires companies it generally
only buys subscribers. The company pays for 50% of the subscriber base up front,
on a fee-per-subscriber basis. Then, once the customers are transferred over to
GEEK network, the company pays an additional fee per subscriber for each
subscriber over the 50% number that joins.
INTX-NET and KDi Internet Solutions Acquisitions. At the end of July, GEEK
announced its acquisition of INTX-NET, a San Antonio-based Internet service
provider. Terms of the transaction were not disclosed. Following its
"user-density" model, GEEK acquired the subscribers to increase its penetration
in the San Antonio market. In early August, GEEK also announced its acquisition
of Austin-based KDi Internet Solutions' subscribers in order to increase its
market penetration in central Texas. Again, terms of the transaction were not
disclosed. To date the company has signed on about 1,300 customers.
PDQ Acquisition. The PDQ.net acquisition was announced earlier in the month;
this acquisition involved more than just subscribers. The agreement specifies
that Internet America will acquire all of the outstanding shares of PDQ.net in a
stock-for-stock transaction. PDQ.net will operate as a independent subsidiary
of Internet America with two advisors on the Internet America board. Internet
America will also preserve the PDQ.net brand name. The deal should close in
December of this year.
Houston-based PDQ.net has over 42,000 subscribers, bringing GEEK's total to
over 145,000 and proving GEEK as the powerhouse ISP in Houston. The
higher-margin business services portion of PDQ.net has about 1,000 customers and
annual revenues of over $2 million. The two companies combined should have
annualized revenues of about $34 million.
Internet America will have $30 million in goodwill to be amortized over a
three-year period and is issuing 2.425 million shares to acquire all shares of
PDQ.net.
Phoenix.net--an ISP subsidiary of Pointe Communications--GEEK's Most Recent
Acquisition. The Phoenix.net aquisition_finalized last week_is small.
Subscribers of Phoenix.net are concentrated in the Houston and Galveston areas
and will be transferred to Internet America over the next few months. The
acquisition opens up Internet America service in the Galveston area and
increases its density in Houston. Again the terms of the transaction were not
disclosed, though we think Phoenix.net had 2,000-3,000 subscribers.
Reasons to Buy GEEK
1) GEEK operates a market-condensed strategy of consumer and commercial
services. The company's strategy is to offer services within a highly
concentrated market area to gain early economies of scale while still a
relatively small company. Dallas (where GEEK is headquartered) and surrounding
central Texas (The "Metropolitan Crescent") constitute the third largest
metropolitan area with population of 13.1 million. In addition, by offering a
combination of commercial and consumer services the company seeks to leverage
telecom and facilities costs throughout the day.
2) Strong Income Sheet Leverage. We predict GEEK will grow EBITDA at a CAGR of
76%_organically_from fiscal 2001 to 2003. The components of this growth are:
18-27% annual revenue gains; gradual increases in gross margin from 45% in Q1
2000 (September) to 52% in 2002; and continued declines in SG&A expenses as a
percent of revenue. Gross margin increases are expected to come through the
addition of subscribers to its existing facilities (economies of scale) and
through competitive positioning of its carrier agreements.
3) Accretive Acquisition Strategy. We forecast GEEK will continue to add
neighboring competitors to its fold using stock or cash. The company has added
groups of subscribers in recent months with clear implications of profitability
within a reasonable scope of time (six to 18 months). Accretion comes from a
combination of purchasing, redundancy and G&A leverage. In the last half of
fiscal 1999, the company acquired CyberRamp, a Dallas-based ISP with 16,000
subscribers, and CompuNet, a Dallas-based provider of business services.
4) Lower churn leverages profits. Internet America has one of the lowest monthly
churn rates in the industry. In our opinion, the company's churn is perhaps the
finest measurement of management credibility for operations and is a critical
factor in successful integration of acquisitions. The company's churn for the
trailing 12 months averages 2.8%-3.2%. We note it is common for churn to
increase following the acquisition of new customers by industry peers as well,
because customers are given the opportunity to change services as they are asked
to change start-up kits and as "real" subscribers are vetted from "shadow"
subscribers.
More information is available on request. First Albany makes a market in shares
of this stock. The material herein, while not guaranteed, is based on
information believed reliable and accurate. It is not to be deemed an offer or
solicitation on our part with respect to sale or purchase of any securities.
Our corporation or its officers, directors, or stockholders, or members of their
families, may at times have a position in the securities mentioned and may make
purchases or sales of these securities while this report is in circulation.
Due to differing disciplines and criteria utilized, our quantitative and
fundamental analysts may have differing opinions on these securities. Should
you have any specific investment questions, please contact your First Albany
Financial Consultant. Our main office is located in Albany, NY.
First Albany Corporation, Member New York Stock Exchange, Inc. and other
principal exchanges. Copyright c 1999.]EON |
