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That Was Then, This Is Now: PSINet, Not Your Father's ISP

Somewhere between 1996 and 1998, PSINet (NASDAQ:PSIX) managed to outlast its critics, hire a slew of MCI wizards, place $600 million in debt, acquire fiber optic lines that would make AT&T drool, and position itself as a backbone that owns its backbone, unlike the spineless ISPs whose stocks have run up to all-time highs this year.

But Wall Street may not have clearly caught up with the grappling moves PSI has made and what it all means. We ran some numbers and came up with a story that could see PSINet, already up more than 100% year to date in stock price, become one of the largest data carrier players in a world where data traffic is (or soon will be) king.

First our analysis:

PSINet's latest quarterly revenue annualized implies $178 million yearly revenue. On an enterprise to revenue basis we project PSIX at 7x revenue, an average for ISPs but perhaps an undervalued multiple for a carrier class ISP/IP communications backbone.

PSINet can do what reseller ISPs can't, and that's sell more bandwidth. It's theirs--they don't rent it like the others. All this with fiber and bandwidth that is fat enough to send the entire Internet traffic through and have room to toss a few 747s in there also.

Check the table, the numbers tell the story:

PSINet

Market cap

(millions)

$ 622.40

Current assets

(millions)

$ 73.50

Current liabilities

(millions)

$ 108.40

Working capital (negative)

(millions)

$ (34.90)

Long-term debt

(millions)

$ 600.00

Enterprise value

(millions)

$ 1,257.30

Latest quarter rev.

(millions)

$ 44.50

Annualized

(millions)

$ 178.00

Users/Customers

Corporate accounts

(millions)

0.033

ISP clients

61

End users

(millions)

0.252

POPs

400

Enterprise value ratios

Enterprise/revenue

7.06

Enterprise/corporate accounts

$ 37,756.76

Enterprise/ISP clients

(millions)

$ 20.61

Enterprise/end users

$ 4,989.29

Enterprise/POPs

(millions)

$ 3.14

Employees

900

Revenue/employee

$ 198,000

) 1998 Mecklermedia, The Internet Media Company

Beyond the stats we talked at length with PSI's chief financial officer Ed Postal who explained the strategies behind the moves.

Here's our summary:

  • One-third of the Fortune 500 are PSINet customers. These accounts each generate $2,000 to $40,000 per month.

  • PSI recently placed $600 million in debt, the first ISP to be rated by Moody's (by the way, it was B-, not bad for a 10% yield offer. Postal said this was 12x oversubscribed, meaning plenty of faith in this one). Translation: PSI is cashed up.

  • PSI sold 20% equity to fiber carrier IXC in exchange for IXC's fiber optic lines with 2.4 billion bits per second capacity or enough to carry the world's entire Internet traffic by itself. PSI guaranteed IXC's 20% stake at $240 million. Translation: for $240 million PSI owns effectively unlimited bandwidth (although we're sure Microsoft and Intel will think of something to take up that space, Windows 2001 could very well be a 200 meg Web-run application).

  • The fiber also cuts operating costs. 50x capacity at 10% of the cost of pre-fiber lines.

  • PSI targets the small- to medium-sized business market with its services (access, hosting, IP fax). There are about 10 million businesses in the U.S. by our estimates and PSI says about 6 million fit into its target range. PSI estimates each account in this space is worth about $300 to $3,000 per month in revenue flow.

  • PSI average revenue per customer is $450 according to Postal; that's 4x to 32x more than consumer ISP or reseller ISPs such as Netcom, Concentric or Verio.

  • PSI sold its primary 100,000 consumer accounts to Mindspring long ago. Is PSI happy? Yes. Selling bandwidth to ISPs and carriers is 55% gross margin vs. loss for it on those consumer accounts.

    When asked what was the best thing PSI did in the past two years Postal replied: "Become a global facilities-based IP communications provider without giving up the company" and "we've done a good job of funding growth."

    PSI's plan for the $600 million bond placement are: $20 million to the underwriter of the deal; $20 million to complete the iSTAR acquisition (acquiring iSTAR makes PSI the leading ISP in Canada); $140 million set aside for 2 1/2 years of interest payment, general corporate expenses.

    That leaves about half a billion dollars to buy, build and convince Wall Street that PSINet may not be your father's ISP after all. It's certainly not the PSI it was in 1996. That was then, this is now.