Laura
PSIX...Looks like someone likes it....
Wednesday January 10, 12:42 pm Eastern Time
MotleyFool.com - Fool on
the Hill
Fool on the Hill: On the PSINet
Bandwagon
By Bill Mann
I think PSINet's going to succeed.
Yep, you heard right. I'm hot on PSINet (Nasdaq: PSIX - news). In fact, I'm late to the
show. Already in the New Year, PSINet is up more than 80%!
To $1.44 per stub. Oh, never mind.
PSINet was beyond a shadow of a doubt one of the big horror shows of last year, a
company that quickly beat a retreat from market darling to complete goat. Last year at this
time, no one could say enough good about the company, its strategy, or its management
team (fronted by CEO Bill Schrader). By the end of the year, PSINet was the gang that
couldn't shoot straight, beset by class-action lawsuits, a stock that had declined 98%, and
the unimaginable horror of having Schrader's stock holdings liquidated by a creditor in a
margin call for a personal $25 million loan.
2000 was not a year to write home about for PSINet. It was, however, a year to
remember. Regardless, I still really like the fundamentals of this company.
(Stop right here. Near the end of the article I am going to list some huge risks related to
PSINet. If you cannot commit to reading all of the next 700 or so words, read none of
them. It is rare for The Motley Fool to cover a company that has penny stock status. I feel
strongly about this one from a qualitative perspective, but there is a really good likelihood
that PSINet will fail or languish in penny stock hell for eternity until it is taken out in a mercy
killing by the likes of famed raider T. Boone Pickens. OK, back to the show.)
Through all of the tough times that PSINet has endured, it is still signing up customers left
and right for its Web hosting and Internet Protocol services. General Electric (NYSE: GE
- news) signed on, as did Hewlett-Packard (NYSE: HWP - news). So has Sallie Mae
(NYSE: SLM - news).
And the company has continued to invest in additional facilities. It started service on
additional bandwidth, four OC-192's running from Atlanta to New York to Toronto came
online in December, and additional wideband links are scheduled to come online this month
connecting New York to Boston and Atlanta to Miami. These facilities represent enormous
investments in capacity and equipment, which the company is purchasing primarily from
Juniper (Nasdaq: JNPR - news), Nortel (NYSE: NT - news), and Cisco (Nasdaq:
CSCO - news).
It also has brought up three of its Web hosting centers, in Dallas, Toronto, and Amsterdam,
representing 300,000 sq. ft. of state-of-the-art space at a cost of $200 million. This is
something that has remained deep in my mind: If the company is, as it would seem by
looking at the stock price, in danger of failing, why on earth would PSINet be spending all
of this money?
The answer, I am convinced, is that PSINet's core business is much better off than the
market thinks it is. Since a fateful day in November when a bad earnings report caused the
company's stock to plunge by more than 50%, the company has been put forward as a
poster child of an organization with a crisis of leadership, as well as one that got caught up
with the excesses of the seemingly endless streams of money that were being thrown at
bandwidth companies in the past few years.
But I'll tell you what I hear from people in the business. Bill Schrader is about as smart and
as driven a person as there is. A local wag recently called him "the mind that
MicroStrategy's (Nasdaq: MSTR - news) Michael Saylor fancies himself to be."
Schrader made a horrendous mistake when he margined his shares in PSINet, but there
really wasn't anything stopping him from selling a few into the froth in 1999 -- yet he did
not.
Schrader has also been quite open about the misjudgment the company made when it
bought Metamor Worldwide -- along with its 80% stake in Xpedior (Nasdaq: XPDR -
news) -- last March. In November PSINet declared its entire investment in Xpedior to be
"impaired," meaning it was written off as an asset and any revenues it had could not be
included in PSINet's total. That was a cruel turnaround from a few months before.
But Xpedior's dive has been consistent with the other companies in the e-consulting space,
among them marchFIRST (Nasdaq: MRCH - news), iXL (Nasdaq: IIXL - news), and
Razorfish (Nasdaq: RAZF - news). In other words, PSINet made a determination that it
needed an asset represented by the holdings in Metamor, paid a price consistent with the
going rate, then watched in horror as the entire sector collapsed along with the change in the
economy.
Ah, the economy. You knew I'd bring it up eventually. In hindsight, PSINet's big mistake --
mirrored by most carriers -- was assuming that the economics of the Internet and
bandwidth would not change. The expectation for return on investment in 1999 was
dramatically different than it is now, and companies that have racked up enormous amounts
of debt and have continued capital requirements got caught in a pinch. PSINet swaggeringly
announced acquisition after acquisition to build out its network. This is the primary reason
why the Competitive Local Exchange Carriers (CLECs) have all but shriveled up and
blown away, and this is what happened to PSINet. It still needs a significant amount of cash
to operate until the investments it has made in Web hosting and infrastructure pay off.
But even with the changing environment, the annual revenues for data-hosting centers still
come out to $2,500 per square foot. That's a big opportunity for PSINet. In fact, it's a gold
mine. Through all of this, PSINet still receives the highest rating by customers of any of the
national or international Internet service providers (ISPs). In an industry where there really
is no such thing as a happy customer, if PSINet is able to maintain or even improve its
service ratings, it's got one of the cheaper sources of additional revenues: existing
customers.
The question is how they get there from here. PSINet needs additional money to operate,
and after a bad earnings report in November, in this market environment any cash it needs
will be expensive. PSINet has hired Goldman Sachs (NYSE: GS - news) to look for
strategic alternatives, including the sale of some of its non-core assets, such as Xpedior
(which would be for pennies on the dollar, if that), its Inter.net program, or even of its Web
hosting centers to a real estate firm that would lease them back to the company. None of
these paths will be easy, or cheap, for PSINet.
Nor is it certain that broadband economics will not somehow get worse. How will the
company get the cash to survive? Man, that's the $2.5 billion question. As for whether a
surviving PSINet can expect a stable environment for its services, consider this: At the end
of this shakeout there will be far fewer international ISPs standing. Those that remain and
provide top-tier end-to-end service should expect broadband demand to continue to
skyrocket.
Fool on!
Banchee |
