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Article by DailyStocks_admin    (04-25-08 02:20 AM)

The Daily Magic Formula Stock for 04/25/2008 is EarthLink Inc. According to the Magic Formula Investing Web Site, the ebit yield is 13% and the EBIT ROIC is >100 %.

Dailystocks.com only deals with facts, not biased journalism. What is a better way than to go to the SEC Filings? It's not exciting reading, but it makes you money. We cut and paste the important information from SEC filings for you to get started on your research on a specific company.


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BUSINESS OVERVIEW

Overview

EarthLink, Inc. is an Internet service provider, or ISP, providing nationwide Internet access and related value-added services to individual and business customers. Our primary service offerings include dial-up Internet access, high-speed Internet access, voice services and web hosting services. We also provide value-added services, such as search, advertising and ancillary services sold as add-on features to our Internet access services. In addition, through our wholly-owned subsidiary, New Edge Networks, we provide secure multi-site managed data networks and dedicated Internet access for businesses and communications carriers.

We operate two reportable segments, Consumer Services and Business Services. Our Consumer Services segment provides Internet access and related value-added services to individual customers. These services include dial-up and high-speed Internet access and voice services, among others. Our Business Services segment provides Internet access and related value-added services to businesses and communications carriers. These services include managed data networks, dedicated Internet access and web hosting, among others.

Our corporate offices are located at 1375 Peachtree St., Atlanta, Georgia 30309, and our telephone number at that location is (404) 815-0770.

General Developments of Our Business

We operate our business in the Internet access market, which is characterized by intense competition, changing technology, changes in customer needs and new service and product introductions. During the year ended December 31, 2007, in response to declining revenues, changes in our industry and changes in consumer behavior, we refocused our business strategy to reduce our back-office cost structure and our sales and marketing efforts related to the acquisition of new subscribers. Additionally, although the Internet access market has reached a mature stage of growth, analysts still predict a market for dial-up customers for many years to come. Our prospective marketing strategy is to focus on retaining existing subscribers, adding subscribers that generate an acceptable rate of return and increasing the number of subscribers we add through partnerships and acquisitions from other ISPs. The following are the more significant developments during the year ended December 31, 2007:

•
Facility Exit and Restructuring. In August 2007, we adopted a restructuring plan (the "2007 Plan") intended to reduce costs and improve the efficiency of our operations. The 2007 Plan was the result of a comprehensive review of operations within and across our functions and businesses. Under the 2007 Plan, we reduced our workforce by approximately 900 employees, consolidated our office

facilities in Atlanta, Georgia and Pasadena, California and closed office facilities in Orlando, Florida; Knoxville, Tennessee; Harrisburg, Pennsylvania and San Francisco, California. The 2007 Plan was primarily implemented during the latter half of 2007 and is expected to be completed during the first half of 2008.

•
Discontinued Operations. In November 2007, our Board of Directors authorized management to pursue strategic alternatives for our municipal wireless broadband operations, including the sale of the assets. Management concluded that our municipal wireless broadband operations were no longer consistent with our strategic direction. As a result of that decision, we classified the municipal wireless broadband assets as held for sale and presented the municipal wireless broadband results of operations as discontinued operations for all periods presented.

•
HELIO. During 2007, we decided to discontinue further investments in HELIO, our joint venture with SK Telecom Co., Ltd. ("SK Telecom"). We amended and restated the joint venture agreements whereby SK Telecom agreed to make up to $270.0 million in additional equity contributions to HELIO, while we retain the right to make additional investments in HELIO. This eliminates any future requirement to invest in HELIO, while allowing us to maintain a meaningful ownership position in HELIO with potential investment return in the future.

Business Strategy

Our current business focus is the following:

•
Operational Efficiency. We are focused on improving the cost structure of our business and aligning our cost structure with trends in our revenue, without impacting the quality of services we provide. In addition to implementing our corporate restructuring plan which reduced back-office support costs and subscriber acquisition costs, we are focused on delivering our services more cost effectively, reducing and more efficiently handling the number of calls to contact centers, managing cost effective outsourcing opportunities and streamlining our internal processes and operations.

•
Customer Retention. We are focused on retaining our existing tenured customers. We continue to focus on offering reasonably priced access with high-quality customer service and technical support. We believe focusing on the customer relationship will increase loyalty and reduce churn.

•
Opportunities for growth. In response to changes in our business, we have significantly reduced our spending for sales and marketing. However, we are focused on continuing to add customers that generate an acceptable rate of return and increasing the number of subscribers we add through partnerships and acquisitions from other ISPs. We will evaluate potential strategic transactions that could complement our business. We are also focused on adding customers organically by growing our services to business customers through New Edge, our wholly-owned subsidiary. We believe this is a growth market and we will continue to differentiate ourselves by providing customers with choices for our business services.

The primary challenges we face in executing our business strategy are responding to competition, reducing churn, maintaining profitability in our access services and purchasing cost-effective wholesale access. The factors we believe are instrumental to the achievement of our goals and targets, including the factors identified above, may be subject to competitive, regulatory and other events and circumstances that are beyond our control. Further, we can provide no assurance that we will be successful in achieving any or all of the factors identified above, that the achievement or existence of such factors will favorably impact profitability, or that other factors will not arise that would adversely affect future profitability.

Service Offerings

Our service offerings include dial-up Internet access, high-speed Internet access and voice services provided to individual customers, and managed data networks, dedicated Internet access and web hosting services, provided to businesses and communications carriers.

Consumer Services

Narrowband Access

Premium Dial-up Internet Access. Dial-up, or narrowband, access is a way to access the Internet, using a modem to dial the Internet service provider's node. A dial-up server type such as the Point-to-Point Protocol and TCP/IP protocols is used to establish a modem-to-modem link, which is then routed to the Internet. Our premium dial-up access is a subscription-based service that provides customers with access to the Internet and an interactive community offering a wide variety of content, features, services, applications, tools and 24/7 customer support. Such features include antivirus and firewall protection, acceleration tools and privacy and safety tools. Revenues primarily consist of monthly fees charged to customers for dial-up Internet access.

Value Dial-up Internet Access. We provide value-priced Internet access services through our PeoplePC™ Online offering. Our value dial-up access is a subscription-based service that provides customers access to the Internet with limited functionality and support services at comparatively lower prices. Revenues primarily consist of monthly fees charged to customers for dial-up Internet access.

Broadband Access

High-speed access offers a high speed, always on Internet connection that uses a modem to supply an Internet connection across an existing home phone line. The Internet service doesn't interfere with a customer's voice service, so there is no need for a second phone line. We provide high-speed access services via DSL, cable and/or satellite and offer three different speeds of service (up to 1.5Mbps, 3.0Mbps and 6.0Mbps). Availability for these services depends on the telephone, cable or satellite service provider and the distance from the provider's equipment. Our high-speed access service includes the same features and benefits included with our premium dial-up access service. Broadband access revenues consist of monthly fees charged for high-speed, high-capacity access services including DSL, cable, satellite and dedicated circuit services; installation fees; early termination fees; reactivation fees; shipping and handling fees; and equipment revenues associated with the sale of modems and other access devices to our subscribers.

IP-Based Voice

EarthLink DSL and Home Phone Service is a bundle offer that includes EarthLink high-speed Internet access at speeds up to 8.0Mbps and home phone service. It combines the last mile of traditional telephone copper wiring with the advanced features of VoIP by taking advantage of Digital Subscriber Line Access Multiplexer, or DSLAM, technology. We offer subscription-based service under various plans that include features such as voicemail, call waiting, caller ID, call forwarding and E911 service. We currently offer this service in 12 markets in the U.S. covering approximately 12.0 million households. Revenues primarily consist of monthly fees charged to customers for IP-based voice service plans.

Advertising and Other Value-Added Services

We generate advertising revenues by leveraging the value of our customer base and user traffic; through paid placements for searches, powered by the Google™ search engine; fees generated through revenue sharing arrangements with online partners whose products and services can be accessed through our properties; commissions received from partners for the sale of partners' services to our subscribers; and sales of advertising on our various online properties, such as the Personal Start Page.

We also offer services which are incremental to our Internet access services. Our value-added services portfolio includes products for protection, communication, performance and entertainment, such as security, web acceleration, Internet call waiting, mail storage, gaming, digital music and photo center, among others. We offer free and fee-based value-added services to both subscribers and non-subscribers, that are focused on making the Internet a more meaningful, secure experience.

Business Services

Narrowband Access

We provide dial-up Internet access for business customers. Revenues primarily consist of monthly fees charged to customers for dial-up Internet access.

Broadband Access

We provide high-speed access, hosted VPN networks and e-commerce solutions for business customers. In addition, through our wholly-owned subsidiary, New Edge Networks, we provide secure multi-site managed data networks and dedicated Internet access for businesses and communications carriers. Broadband access revenues consist of retail and wholesale fees charged for high-speed, high-capacity access services; fees charged for high-speed data networks for small and medium-sized businesses; installation fees; termination fees; fees for equipment; and regulatory surcharges billed to customers.

Web Hosting

We lease server space and provide web hosting services to companies and individuals wishing to have an Internet or electronic commerce presence. Features include domain names, storage, mailboxes, software tools to build websites, e-commerce applications and 24/7 customer support. Revenues primarily consist of monthly fees charged to customers for web hosting packages.

Customer Service and Retention

We believe that quality customer service and technical support increases customer satisfaction, which reduces churn. We provide high-quality customer service, invest in loyalty and retention efforts and continually monitor customer satisfaction for our services. We were recognized during the year by J.D. Power and Associates in its 2007 Internet Service Provider Residential Customer Satisfaction Study with the highest ranking for customer satisfaction for dial-up nationwide and for high-speed Internet in the East and South regions. Our customer support is available by chat, email and phone. We also offer printed reference material and help sites and Internet guide files on our web sites.

In addition to our customer support, our free tools offer protection against email viruses, spyware, spam, pop-ups and online scams, as well as dial-up Web acceleration. We were the first major ISP to provide many of these tools to our members free of charge. We believe that providing these tools also increases customer satisfaction, which reduces churn.

Sales and Marketing

In response to changes in our business and industry, we have significantly reduced the amount of sales and marketing spending. Our marketing efforts are currently focused on retaining tenured customers, adding customers that generate an acceptable rate of return and acquiring customers through partnerships and acquisitions from other ISPs. We offer our products and services primarily through direct customer contact through our call centers and through affinity marketing partners such as AARP and Dell.

Network Infrastructure

We provide subscribers with Internet access primarily through third-party telecommunications service providers. Our main provider for narrowband services is Level 3 Communications, Inc. We have agreements with Covad Communications Group, Inc. ("Covad"), AT&T Inc. ("AT&T"), Qwest Corporation ("Qwest") and Verizon that allow us to provide DSL services. We also have agreements with Time Warner Cable, Bright House Networks and Comcast Corporation ("Comcast") that allow us to provide broadband services over each company's cable network in substantially all Time Warner Cable and Bright House Networks markets and certain Comcast markets. We rely on Covad's line-powered voice access to provide our IP-based voice services.

We maintain a leased backbone connecting multiple cities and our technology centers. Our backbone is a networked loop of connections that we have acquired the right to use. Through a combination of backbone, peering and transit, our network is capable of supporting more than five gigabits per second of traffic at peak.

New Edge's network is comprised of ATM/frame relay/DSL switches in central office collocations. In addition, New Edge has access under wholesale agreements to additional central offices throughout the U.S. It has interconnection agreements with all major local exchange carriers to lease DSL and T-1 unbundled network elements, as well as commercial services agreements with regional bell operating companies ("RBOCs"), competitive local exchange carriers ("CLECs"), and cable and satellite service providers to provide last mile connectivity onto its network. The network provides coverage via frame relay, DSL, and/or T-1 access to service small and medium sized businesses and carriers.

Regulatory Environment

Overview

The regulatory environment relating to our business continues to evolve. A number of legislative and regulatory proposals under consideration by federal, state and local governmental entities may lead to the repeal, modification or introduction of laws or regulations which do, or could, affect our business. Significant areas of regulation for our business include Internet access regulation, telecommunications regulation and CLEC regulation.

Internet Access Regulation

Narrowband Internet Access

The regulatory environment for narrowband Internet access services, such as our dial-up ISP services, is well established. Beginning in the 1970s, the Federal Communication Commission's ("FCC's") policy has been to classify narrowband Internet access services as "information services", which are not subject to traditional telecommunications services regulation, such as licensing or pricing regulation. Under this framework, ISPs are assured access to the narrowband telecommunications transmission service of telephone carriers needed to provide narrowband Internet access information services.

One potential risk to our dial-up business would be a change to the rules governing how charges for traffic on telecommunications networks are levied. Currently, narrowband Internet access is not subject to the FCC's carrier access charge regime, which levies per-minute charges for traffic that uses the local telephone network. Any change to these rules that would apply per-minute carrier access charges to dial-up Internet access traffic would significantly impact our costs for this service.

Broadband Internet Access

In contrast to narrowband Internet access, the FCC classifies broadband Internet access as a single, commingled information service, whether provided over DSL by telephone companies or over cable modem by cable companies. As a result, cable companies and telephone companies that offer a broadband Internet access information service are not required by the FCC to offer unaffiliated ISPs stand-alone broadband transmission, which could adversely affect our ability to sustain and grow our broadband Internet access customer base and revenues. We have entered into several commercial arrangements with cable television and telephone companies to offer broadband access to our customers.

Broadband Internet Access Agreements

We have commercial agreements of varying terms with network providers that provide us with the transmission needed to offer broadband Internet access. Our largest providers of broadband connectivity are Covad and Time Warner Cable; we also have agreements with other national providers and with regional and local providers.

Our contract with Covad automatically renews on a month-to-month basis, and the contract will continue to renew unless either party elects to terminate the contract. In the event that Covad elects to terminate the contract, we would have six months to transition our customers to other providers' networks.

We also purchase wholesale DSL service from AT&T. While the parties are currently negotiating a commercial DSL agreement, AT&T continues to provide wholesale DSL services under pre-existing rates, terms and conditions. Pursuant to its FCC merger commitments (discussed below), AT&T will continue to offer wholesale DSL to unaffiliated ISPs, such as us, until at least through June 2010.

Industry Consolidation & Merger Conditions

In the past few years, a number of the telephone companies that we compete with or who provide us with broadband Internet access services have consolidated through merger activity. In each of these transactions, the Justice Department and the FCC have reviewed the mergers for compliance with the antitrust laws and the Communications Act. Continued consolidation in the telecommunications industry could impact our ability to provide broadband Internet access services. Given the significant changes in the regulatory environment, consolidation will result in a higher concentration of market power in our competitors and those telephone companies from whom we obtain wholesale DSL access for broadband Internet access services.

In connection with the FCC's approval of the merger of AT&T Corp. and BellSouth Corporation, the FCC required the merged entity to commit to a number of conditions which could affect our operations. Generally, AT&T must abide by these conditions until June 29, 2010, although several of them have longer or shorter compliance periods. The conditions obligate AT&T to offer: all existing Unbundled Network Elements ("UNEs") and collocations at current rates; high-capacity loops; special access services at current rates and on a non-discriminatory basis; wholesale ADSL transmission services at capped rates; rate rollbacks for DS1, DS3 and Ethernet services; service performance metrics for special access services; a commitment to abide by the FCC's Net Neutrality Policy Statement; settlement-free Internet peering; divestiture of the 2.5 GHz spectrum held by BellSouth; and build-out requirements for the 2.3 GHz band.

Many of these conditions could benefit our services by having a positive impact on our costs and provisioning for our and New Edge services. In addition, the net neutrality obligation could provide a positive long-term impact by facilitating consumer use of the Internet.

Forbearance

Decisions by the FCC relying on its ability to "forbear," or not enforce, rules and regulations governing competitive entry into the broadband market could impact our business. The Communications Act provides the FCC with the authority to forbear from enforcing statutory requirements and regulations if certain public interest factors are satisfied. The ability for the FCC to forbear from regulations that have been established to enable competing broadband Internet access and VoIP could pose a significant risk to our business.

On December 4, 2007, the FCC denied a petition by Verizon that requested the FCC forbear from certain telephone facilities leasing rules in six major east coast markets, including New York and Philadelphia. If the FCC had approved Verizon's petition, our ability to provide broadband Internet access and VoIP services in those markets would have been diminished. Qwest filed a similar forbearance petition seeking regulatory relief in four major west coast markets, including Seattle, Washington, and the FCC must act on this petition by July 26, 2008.

Internet Taxation

The Internet Tax Non-Discrimination Act places a moratorium on taxes on Internet access and multiple, discriminatory taxes on electronic commerce. This moratorium was originally enacted in 1998 and was extended to 2014 by Congress in October 2007. As with the preceding Internet Tax Freedom Act, "grandfathered" states which taxed Internet access prior to October 1998 may continue to do so. Certain states have enacted various taxes on Internet access and electronic commerce, and selected states' taxes are being contested on a variety of bases. If these state tax laws are not successfully contested, or if future state and federal laws imposing taxes or other regulations on Internet access and electronic commerce are adopted, our cost of providing Internet access services could be increased and our business could be adversely affected.

Consumer Protection

Consumer protection laws and enforcement actions regarding advertising and user privacy, are becoming more prevalent. The Federal Trade Commission ("FTC") and some state Attorney General offices have conducted investigations into the privacy practices of companies that collect information about individuals on the Internet. The FTC and various state agencies as well as individuals have investigated and asserted claims against, or instituted inquiries into, Internet service providers in connection with marketing, billing, customer retention, cancellation and disclosure practices.

Other Laws and Regulations

Our business also is subject to a variety of other U.S. laws and regulations that could subject us to liabilities, claims or other remedies, such as laws relating to bulk email or "spam," access to various types of content by minors, anti-spyware initiatives, encryption, data protection, data retention, security breaches and consumer protection. Compliance with these laws and regulations is complex and may require significant costs. In addition, the regulatory framework relating to Internet services is evolving and both the federal government and states from time to time pass legislation that impacts our business. It is likely that additional laws and regulations will be adopted that would affect our business.

Telecommunications Regulation

We offer voice services to our customers through VoIP products. VoIP regulation is generally preempted at the state level and federal law does not require a telecommunications license to provide these services. However, the FCC has placed several regulatory requirements on VoIP services that interconnect with the public switched telephone network (PSTN). Along with these existing and future FCC regulatory requirements, there is also the possibility that states will continue to attempt to assert authority over VoIP services, which presents a business risk for our VoIP services.

Regulatory Classification

In 2004, the FCC initiated a proceeding to determine whether VoIP should be considered an "information service" or a "telecommunications service." This determination remains pending. The classification of VoIP as a telecommunications service would have significant ramifications for all VoIP providers, including us. Classifying VoIP as a telecommunications service would require the service provider to obtain a telecommunications license, comply with numerous legacy telephone regulations, and possibly subject the VoIP traffic to inter-carrier access charges, which could result in increased costs.

Jurisdiction

One regulatory issue that has been partially addressed is whether state regulatory agencies have jurisdiction of VoIP services. In 2004, the FCC held that Vonage's VoIP service was not subject to state regulation of telephone services because the service can be moved and the end points of the telephone call cannot be accurately determined. In March 2007, a U.S. Court of Appeals upheld the FCC's decision in Minnesota Public Utility Commission v. Federal Communications Commission.

Unlike Vonage, we offer fixed line VoIP services. Several state public utility commissions, which disagreed with the FCC's preemption decision for Vonage's VoIP service, are seeking to distinguish fixed line VoIP services and exert regulatory control over these services. Fixed line VoIP services are distinct from Vonage's service in that the service is stationary at the user's address, cannot be moved, and the end points of the telephone most likely can be determined. If successful, these states could regulate fixed line VoIP as a telephone service and, among other requirements, subject these services to the carrier access charge regime, which could raise the costs of providing service.

Regulatory Obligations

Regardless of regulatory classification or jurisdiction, the FCC has imposed seven distinct regulatory obligations on VoIP services that interconnect with the PSTN: (i) access to emergency calling; (ii) compliance with Communications Assistance with Law Enforcement Act (or CALEA); (iii) payments to the universal service fund; (iv) compliance with rules for disability access; (v) payments for regulatory fees; (vi) compliance with customer proprietary network information ("CPNI") procedures; and (vii) compliance with number portability rules. These obligations are primarily focused on social and law enforcement policies, rather than economic regulation of the service. In each case, our service is, or we expect it will be, in compliance with these regulatory obligations, and none of these obligations materially affect our ability to provide VoIP services.

CLEC Regulation

New Edge, our wholly-owned subsidiary, is a competitive local exchange carrier (or CLEC) that is licensed in most states and subject to both state and federal telecommunications regulation. As such, New Edge relies on certain regulatory rights of CLECs to provide services to business and enterprise customers, including rights to last-mile unbundled network elements of incumbent local exchange carriers (or ILECs) and rights to collocate New Edge equipment at ILEC facilities. As a CLEC, New Edge is also subject to federal and state regulation of its services, and it must comply with many telecommunications laws and regulations, such as contributing to state and federal universal service funds. In addition, New Edge makes use of the special access services and DSL services of ILECs and other CLECs in order to provision New Edge services to its customers.

Competition

Internet services. We operate in the Internet services market, which is extremely competitive. Current and prospective competitors include many large companies that have substantially greater market presence and greater financial, technical, marketing and other resources than we have. Competition in the market for Internet access services is likely to continue increasing, and competition impacts the pricing of our services, sales and marketing costs to acquire new subscribers and the number of customers that discontinue using our services, or churn.

VoIP services. The market for VoIP services is emerging, intensely competitive, and characterized by rapid technological change. Many traditional telecommunications carriers and cable providers offer, or have indicated that they plan to offer, VoIP services that compete with the services we provide. Competitors for our VoIP services include established telecommunications and cable companies; Internet access companies; leading Internet companies; and companies that offer VoIP-based services as their primary business.

Other services. We compete for advertising revenues with major ISPs, content providers, large web publishers, web search engine and portal companies, Internet advertising providers, content aggregation companies, social-networking web sites, and various other companies that facilitate Internet advertising. Competition in the market for advertising services may impact the rates we charge.

While the personal web hosting business is fragmented, a number of significant companies, including Yahoo!, currently compete actively for these users. In addition, the personal web hosting industry is very application specific, with many of the competitors focusing on specific applications, such as photo sharing, to generate additional users.

Proprietary Rights

We rely on a combination of copyright, trademark, patent and trade secret laws and contractual restrictions to establish and protect technology and proprietary rights and information. We require employees and consultants and, when possible, suppliers and distributors to sign confidentiality agreements. From time to time, third parties have alleged that certain of our trademarks and technologies infringe on their intellectual property rights. To date, none of these claims has had an adverse effect on our ability to market and sell our services.

Employees

As of December 31, 2007, we employed 998 permanent and temporary employees, including 303 sales and marketing personnel, 503 operations and customer support personnel and 192 administrative personnel. None of our employees are represented by a labor union, and we have no collective bargaining agreement.

CEO BACKGROUND

Mr. Dayton founded EarthLink Network, Inc., or EarthLink Network, in May 1994, serving as Chief Executive Officer from the company's inception until May 1996; as executive Chairman until February 2000; and as our non-executive Chairman from August 2000 until March 2005. Mr. Dayton is the non-executive Chairman and a member of the Board of Directors of HELIO. He served as the Chief Executive Officer of HELIO from March 2005 until January 2008. Mr. Dayton is the founder or co-founder of several other Internet-related companies, including Boingo Wireless, Inc., where he serves as non-executive Chairman. Mr. Dayton serves on the advisory board of the Center for Public Leadership at the John F. Kennedy School of Government at Harvard University.

Mr. Harris has served on our Board of Directors since October 2003. Mr. Harris currently is a private investor. Mr. Harris is the founder and chairman of several early-stage companies, primarily in the fields of financial services and electronic security. From October 1999 through March 2000, Mr. Harris served as Chief Executive Officer of PayPal, Inc. From 1993 through 1999, Mr. Harris served as the Executive Vice President and then subsequently as Chief Executive Officer of Intuit Inc. Mr. Harris serves as a member of the Board of Directors of several privately-held corporations.

Mr. Huff is our President and Chief Executive Officer and a member of our Board of Directors and has served in those positions since June 25, 2007. He was elected Chairman of the Board on January 23, 2008. Mr. Huff was appointed as the Chief Executive Officer of Mpower Holding Corporation in November 1999 and as the Chairman of the Board of Mpower in July 2001 and served in both capacities until its merger with a subsidiary of U.S. TelePacific Holdings Corp. in August 2006. From March 1999 until its acquisition in September 1999, Mr. Huff served as President and Chief Operating Officer of Frontier Corporation and served as Executive Vice President and Chief Financial Officer of that corporation from May 1998 to March 1999. From July 1997 to May 1998, Mr. Huff was President of AT&T Wireless for the Central U.S. region and Mr. Huff served as Senior Vice President and Chief Financial Officer of that company from 1995 to 1997. From 1994 to 1995, Mr. Huff was Financial Vice President of Mergers and Acquisitions for AT&T. Mr. Huff serves on the Board of Directors of HELIO.

Ms. Fuller has served on our Board of Directors since October 2001. She was the President and Chief Executive Officer of Mirant Corporation, or Mirant, a U.S. marketer of power and natural gas, from July 1999 to September 30, 2005, and served as a member of Mirant's Board of Directors until January 2, 2006. From September 1997 to July 1999, Ms. Fuller served as President and Chief Executive Officer of the Mirant Americas Energy Marketing division of Mirant. From May 1996 to September 1997, Ms. Fuller was Senior Vice President of Mirant's North American operations and business development, and from February 1994 to May 1996, she was Mirant's Vice President for domestic business development. Mirant filed a Voluntary Petition under Chapter 11 of the United States Bankruptcy Code in July 2003. Mirant emerged from bankruptcy protection in January 2006 and continues to operate as an ongoing business. Ms. Fuller serves on the Board of Directors of Curtiss-Wright Corporation, Benevolink and the Leadership Board of the College of Engineering, University of Alabama.

Mr. Kavner has served on our Board of Directors since February 2001 and is our Lead Director. He served as our Chairman of the Board from January 2005 until January 23, 2008. He was a member of the Board of Directors of EarthLink Network, until its merger with MindSpring Enterprises, Inc., or MindSpring, in February 2000. Since 1995, Mr. Kavner has been a venture capital investor in technology companies and currently serves as a member of the Board of Directors of Idealab, Inc., Shop.com and Pandora Media. From January 1996 through December 1998, he served as President and Chief Executive Officer of On Command Corporation, a provider of on-demand video for the hospitality industry. From 1984 to 1994, Mr. Kavner held several senior management positions at AT&T including Senior Vice President and Chief Financial Officer, Chief Executive Officer of the Multimedia Products and Services Group, and Chairman of AT&T Venture Capital Group. Mr. Kavner also served as a member of AT&T's Executive Committee.

Mr. Wheeler has served on our Board of Directors since July 2003. Mr. Wheeler is a managing director of Core Capital Partners, a venture capital fund, and President and Chief Executive Officer of Shiloh Group, LLC, a strategy development and private investment company specializing in telecommunications services. From 1992 through October 2003, Mr. Wheeler served as the President and Chief Executive Officer of the Cellular Telecommunications & Internet Association. Mr. Wheeler is President of the Foundation for the National Archives and Chairman of VSA (Very Special Arts). Mr. Wheeler serves on the Board of Directors of HELIO.

Mr. Jones has served on our Board of Directors since October 2003. Mr. Jones currently is a self-employed consultant. Mr. Jones served as President and Chief Executive Officer of Travelocity.com Inc., a provider of online travel reservation capabilities, from January 1998 through May 2002. Mr. Jones served as a director of Travelocity.com Inc. from March 2000 through May 2002. Prior to that time, Mr. Jones served in a number of executive officer positions with Sabre Inc. and Sabre Holdings Corporation, including Chief Information Officer. Mr. Jones is managing partner of Essential Ideas, a consulting firm, and also serves as a special venture partner of General Catalyst Partners, a venture capital firm. Mr. Jones is Chairman of Kayak Software Corporation and a member of the Board of Directors of Rearden Commerce, Inc.

Mr. Lacy has served on our Board of Directors since February 2000 when EarthLink Network merged with MindSpring, and was a member of the Board of Directors of EarthLink Network from June 1996 until its merger with MindSpring. Mr. Lacy currently is a private investor. Mr. Lacy was the Chairman of 4Sure.com, Inc. from June 1998 to July 2001. From October 1996 to October 1997, he served as President and Chief Executive Officer of Micro Warehouse Incorporated. From 1985 to May 1996, he served as the Co-Chairman and Chief Executive Officer of Ingram Micro, Inc., a microcomputer products distributor and a then wholly-owned subsidiary of Ingram Industries Inc. From December 1993 to June 1995, Mr. Lacy was also President of Ingram Industries Inc. From June 1995 until April 1996, he was President and Chief Executive Officer of Ingram Industries Inc., and from April 1996 to May 1996, he served as its Vice Chairman. Mr. Lacy serves as a member of the Board of Directors of Ingram Industries Inc. and Netgear, Inc.

COMPENSATION

Base Salaries

As a guiding principle in 2007, we targeted base salaries at the 50 th percentile of base pay ranges offered by comparison companies.

The base salaries for our executive officers for 2007 were established by considering the individual job responsibility and the performance and contribution of each officer, and by comparing base salaries offered for similar positions by taking into account the comparison groups referenced above. In addition, in determining to increase the base salary for Mr. Lunsford, our former Interim Chief Executive Officer, the Committee considered the additional management duties that Mr. Lunsford had undertaken as Interim Chief Executive Officer. During its annual review, the Committee determined to increase Mr. Lunsford's salary payment by $50,000 per quarter until a permanent Chief Executive Officer was named. In July 2007, the Committee considered the additional duties required of Mr. Lunsford following the new Chief Executive Officer's appointment in June 2007 and determined to extend the payment of the additional $50,000 through September 30, 2007, in recognition of Mr. Lunsford's service during this transitional period. The 2007 total base salaries for our named executive officer group (excluding Rolla P. Huff whose compensation was determined under a separate employment agreement) were approximately 94% of the market median described above, with individuals ranging between 83% and 114% of market median.

The compensation, including the base salary, of our Chief Executive Officer, Rolla P. Huff, is governed by his employment agreement. Mr. Huff's annualized base salary for 2007 was determined to be 97% of the median for the comparison group. In its deliberations on setting Mr. Huff's base salary, the Committee took into account compensation information for chief executive officers within our industry comparison group in order to be able to make a competitive offer to Mr. Huff, as well as the salary of our former Chief Executive Officer, Charles G. Betty.

Short-Term Annual Bonuses

Annual bonus opportunities established for our executive officers in 2007 were intended to provide an incentive for advancing our performance in the short term. The philosophy of the annual bonus program was to directly link executive pay to company performance by providing rewards for achieving established goals with additional payout potential if goals are exceeded. Key components of the bonus calculation included the company's overall bonus multiplier, which reflected performance against stated goals, and the executive's individual target bonus opportunity percentage.

The "overall bonus multiplier" was the aggregate bonus payout reflective of company performance across all performance targets included in the plan at their relative weights. The aggregate bonus payout level was based on the company's achievement of the performance factors set forth below. For example, if the company met the threshold level for a specific performance factor, the bonus payout level for that factor would be 50%. The aggregate bonus payout level was computed by combining all of the bonus multipliers for each performance factor, based on their applicable percentage weight as set forth below. Each executive officer's bonus was then determined by calculating the product of the overall bonus multiplier multiplied by the individual's target bonus opportunity multiplied by the individual's eligible earnings for the applicable plan year.

The bonus plan design provided for a sliding scale of bonus payouts which ranged between a minimum threshold level (payout of 50% of target), a target level, which is tied to our annual operating plan (payout of 100% of target), and a maximum level (payout of 150% of target). The levels of each company performance factor necessary to satisfy the threshold, target and maximum bonus payouts were set taking into account the annual operating plan. The specific metrics used to determine the bonus payouts also depended on the position of the named executive officer.

In light of the fact that Mr. Huff was beginning his employment at the end of the first half of 2007, the Committee determined at the time Mr. Huff was hired to establish his 2007 annual bonus payment in his employment agreement. Mr. Huff's employment agreement provided that he would receive a bonus of 100% of his earned salary for 2007.

Executive Officer Annual Bonuses. In February 2007 the Committee adopted a 2007 executive bonus plan with metrics tied to our major strategic initiatives at that time (which we refer to as our initial 2007 bonus plan). In August 2007, following the employment of our new Chief Executive Officer earlier in the summer, we announced a corporate restructuring which de-emphasized some of our major strategic initiatives. At this time the Committee determined that the initial 2007 bonus plan would remain in effect through August 31, 2007 and the Committee established a 2007 bonus plan for the period September 1—December 31, 2007 (which we refer to as our subsequent 2007 bonus plan) with metrics that were more appropriate for our restructured operations.

In establishing our initial 2007 bonus plan in February 2007, the Committee determined to set different performance targets to be applicable to officers responsible for a specific division of the company existing at that time (access, voice, municipal networks, New Edge Networks and value added services).

Company-wide performance targets were set for executive officers with more general company responsibilities. The initial 2007 bonus plan for Messrs. Lunsford, Dotts, Forman, Putala and Heys included performance targets (and relative weightings per target) for access subscriber levels (10%); voice subscriber levels (10%); voice subscriber acquisition costs (10%), municipal networks subscriber costs (10%); municipal networks capital expenditures per households passed (5%); municipal networks retail customer acquisition costs (5%); total company revenue (25%) and total company free cash flow (25%). ("Free cash flow" refers to income from operations before facility exit restructuring costs and depreciation and amortization, less cash used for purchases of property and equipment and purchases of subscriber bases and net of our outstanding capital lease amounts.)

MANAGEMENT DISCUSSION FROM LATEST 10K

Safe Harbor Statement

The Management's Discussion and Analysis and other portions of this Annual Report include "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 changes to our business strategy may reduce our revenues and profitability; (2) that the continued decline of our consumer access services revenues could adversely affect our profitability; (3) that prices for certain of our consumer access services have been decreasing, which could adversely affect our revenues and profitability; (4) that we might not realize the benefits we are seeking from the corporate restructuring plan announced in August 2007 and our corporate restructuring plan might have a negative effect on our efforts to maintain our subscribers and our relationships with our business partners; (5) 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; (6) that we face significant competition which could reduce our market share and reduce our profitability; (7) that we may be unsuccessful in making and integrating acquisitions and investments into our business, which could result in operating difficulties, losses and other adverse consequences; (8) that we may not be able to successfully manage the costs associated with delivering our broadband services, which could adversely affect our results of operations; (9) that companies may not provide access to us on a wholesale basis or on reasonable terms or prices, which could cause our operating results to suffer; (10) that if we do not continue to innovate and provide products and services that are useful to subscribers, we may not remain competitive, and our revenues and operating results could suffer; (11) that our commercial and alliance arrangements may be terminated or may not be as beneficial as anticipated, which could adversely affect our ability to increase our subscriber base; (12) that our business may suffer if third parties used for technical and customer support and certain billing services are unable to provide these services, cannot expand to meet our needs or terminate their relationships with us; (13) that service interruptions or impediments could harm our business; (14) that government regulations could adversely affect our business or force us to change our business practices; (15) that we may not be able to protect our proprietary technologies; (16) 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; (17) that we could face substantial liabilities if we are unable to successfully defend against legal actions; (18) that our business depends on the continued development of effective business support systems, processes and personnel; (19) 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; (20) that our VoIP business exposes us to certain risks that could cause us to lose customers, expose us to significant liability or otherwise harm our business; (21) that we may not be able to sell our municipal wireless wireless broadband assets and that we may incur additional losses related to these operations; (22) that we may not realize the benefits we sought from our investments in the HELIO joint venture; (23) that the use of our net operating losses and certain other tax attributes could be limited in the future; (24) that our stock price has been volatile historically and may continue to be volatile; (25) that our indebtedness could adversely affect our financial health and limit our ability to react to changes in our industry; (26) that the convertible notes hedge and warrant transactions may affect the value of our common stock; and (27) that provisions of our second 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 management.

Overview

EarthLink, Inc. is an Internet service provider, or ISP, providing nationwide Internet access and related value-added services to individual and business customers. Our primary service offerings include dial-up Internet access, high-speed Internet access, voice services and web hosting services. We also provide value-added services, such as search, advertising and ancillary services sold as add-on features to our Internet access services. In addition, through our wholly-owned subsidiary, New Edge Networks, we provide secure multi-site managed data networks and dedicated Internet access for businesses and communications carriers.

We operate two reportable segments, Consumer Services and Business Services. Our Consumer Services segment provides Internet access and related value-added services to individual customers. These services include dial-up and high-speed Internet access and voice services, among others. Our Business Services segment provides Internet access and related value-added services to businesses and communications carriers. These services include managed data networks, dedicated Internet access and web hosting, among others.

Our results of operations include the following items related to changes in our business strategy implemented during the year ended December 31, 2007:

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Facility Exit and Restructuring Costs. In August 2007, we adopted a restructuring plan (the "2007 Plan") intended to reduce costs and improve the efficiency of our operations. The 2007 Plan was the result of a comprehensive review of operations within and across our functions and businesses. Under the 2007 Plan, we reduced our workforce by approximately 900 employees, consolidated our office facilities in Atlanta, Georgia and Pasadena, California and closed office facilities in Orlando, Florida; Knoxville, Tennessee; Harrisburg, Pennsylvania and San Francisco, California. The Plan was primarily implemented during the latter half of 2007 and is expected to be completed during the first half of 2008.

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Discontinued Operations. In November 2007, our Board of Directors authorized management to pursue strategic alternatives for our municipal wireless broadband operations, including the sale of the assets. Management concluded that our municipal wireless broadband operations were no longer consistent with our strategic direction. As a result of that decision, we classified the municipal wireless broadband assets as held for sale and presented the municipal wireless broadband results of operations as discontinued operations for all periods presented.

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HELIO. During 2007, we decided to discontinue further investments in HELIO, our joint venture with SK Telecom Co., Ltd. ("SK Telecom"). We amended and restated the joint venture agreements whereby SK Telecom agreed to make up to $270.0 million in additional equity contributions to HELIO, while we retain the right to make additional investments in HELIO. This eliminates any future requirement to invest in HELIO, while allowing us to maintain a meaningful ownership position in HELIO with potential investment return in the future.

Industry Background

We operate in the Internet access market, which is characterized by intense competition, changing technology, evolving industry standards, changes in customer needs and new service and product introductions. The Internet access market has reached a mature stage of growth; however, growth is expected to continue at a slow rate as more services become available online, Internet access prices remain low, computer prices continue to decline and consumers increasingly gain access at places outside the home.

In the last few years, the composition of the Internet access market has changed and the number of households with broadband access surpassed the number of households with dial-up access. Consumers continue to migrate to broadband due to the faster connection and download speeds provided by broadband access, the ability to free up their phone lines and the more reliable and "always on" connection. The pricing for broadband services, particularly for introductory promotional periods, services bundled with video and telephone services, and services with slower speeds, has been declining and is approaching prices for traditional dial-up services, making it a more viable option for consumers that continue to rely on dial-up connections for Internet access. In addition, advanced applications such as online gaming, music downloads and photo sharing require greater bandwidth for optimal performance, which adds to the demand for broadband access. However, analysts predict a continuing market for dial-up customers.

Currently, most residential broadband consumers access the Internet via DSL or cable. One of the outgrowths from the rapid deployment of broadband connectivity has been the adoption of Voice over Internet Protocol ("VoIP"). VoIP is a technology that enables voice communications over the Internet through the conversion of voice signals into data packets. VoIP technology presents several advantages over the technology used in traditional wireline telephone networks and enables VoIP providers to operate with lower capital expenditures and operating costs while offering both traditional and innovative service features.

Revenue Sources

We provide access services (including traditional, fully-featured narrowband access and value-priced narrowband access; high-speed access via DSL, cable and satellite; IP-based voice; and high-speed data networks for small and medium-sized businesses and communications carriers) and value-added services (including ancillary services sold as add-on feature to our services, search and advertising). We earn revenues primarily from monthly fees charged to customers for services. We also earn revenues from usage fees; installation fees; termination fees; and fees for equipment used to access our services. Total revenues were $1.29 billion, $1.30 billion and $1.22 billion during the years ended December 31, 2005, 2006 and 2007, respectively. Our traditional, premium-priced narrowband revenues have been declining due to the maturity of this service. In addition, the mix of our narrowband customers has shifted towards value-priced narrowband access. However, the decrease in revenues were offset by an increase in revenues due to our acquisition of New Edge Networks in April 2006, an increase in revenues due to the launch of IP-based voice services during 2006 and an increase in value-added services revenues.

Business Strategy and Risks

During 2006 and the beginning half of 2007, we were investing in various growth initiatives with the objective of generating a return on our investments. These growth initiatives included VoIP services, municipal wireless broadband services and business services. We were also making investments in HELIO, our joint venture with SK Telecom. In response to declining revenues, changes in our industry and changes in consumer behavior, we completed a comprehensive review of our core access services. We also reviewed each of our growth initiatives to evaluate whether these initiatives were complementary to our long-term strategy and allowed us to maximize shareholder value. As a result of these reviews, we implemented the 2007 Plan to reduce operating costs and improve the efficiency of our organization. Under the 2007 Plan, we significantly reduced employees, closed or consolidated certain facilities, discontinued certain projects and reduced sales and marketing efforts. For our core access services, we reduced the back-office cost structure and reduced sales and marketing efforts aimed at customers that have high acquisition costs and early life churn. For our IP-based voice and business services, we significantly reduced the cost structure. For our municipal wireless broadband operations, we concluded that the operations were no longer consistent with our strategic direction and we have committed to a plan to sell our municipal wireless broadband assets. Finally, we decided to discontinue further investments in HELIO and entered into amended and restated joint venture agreements with SK Telecom.

Our current business focus is the following:

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Operational Efficiency. We are focused on improving the cost structure of our business and aligning our cost structure with trends in our revenue, without impacting the quality of services we provide. In addition to implementing our corporate restructuring plan which reduced back-office support costs and subscriber acquisition costs, we are focused on delivering our services more cost effectively, reducing and more efficiently handling the number of calls to contact centers, managing cost effective outsourcing opportunities and streamlining our internal processes and operations.

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Customer Retention. We are focused on retaining our existing tenured customers. We continue to focus on offering reasonably priced access with high-quality customer service and technical support. We believe focusing on the customer relationship will increase loyalty and reduce churn.

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Opportunities for growth. In response to changes in our business, we have significantly reduced our sales and marketing spending. However, we are focused on continuing to add customers that generate an acceptable rate of return and increasing the number of subscribers we add through partnerships and acquisitions from other ISPs. We will evaluate potential strategic transactions that could complement our business. We are also focused on adding customers organically by growing our services to business customers through New Edge, our wholly-owned subsidiary. We believe this is a growth market and we will continue to differentiate ourselves by providing customers with choices for our business services.

The primary challenges we face in executing our business strategy are responding to competition, reducing churn, maintaining profitability in our access services and purchasing cost-effective wholesale access. The factors we believe are instrumental to the achievement of our goals and targets, including the factors identified above, may be subject to competitive, regulatory and other events and circumstances that are beyond our control. Further, we can provide no assurance that we will be successful in achieving any or all of the factors identified above, that the achievement or existence of such factors will favorably impact profitability, or that other factors will not arise that would adversely affect future profitability.

2007 Highlights

Total revenues decreased during the year ended December 31, 2007 compared to the prior year. In addition, our subscriber base decreased from approximately 5.3 million paying subscribers as of December 31, 2006 to approximately 3.9 million paying subscribers as of December 31, 2007. The decrease in paying subscribers was primarily due to the removal of approximately 753,000 wholesale broadband subscribers under our marketing relationship with Embarq Corporation ("Embarq") and a decrease in premium narrowband subscribers. We also saw a decrease in retail broadband revenues due to price compression in the industry. Overall operating expenses decreased during the year ended December 31, 2007 compared to the prior year primarily due to cost savings realized as a result our 2007 corporate restructuring plan. We recognized net income of $5.0 million during the year ended December 31, 2006 compared to a net loss of $135.1 million during the year ended December 31, 2007. This was due to the decrease in total revenues, increase in net losses of HELIO and increase in loss from discontinued operations, offset by the decrease in total operating costs and expenses, including $69.6 million in facility exit, restructuring and other costs.

Looking Ahead

We expect total revenues to continue to decrease as we reduce sales and marketing efforts aimed at customers that have a high acquisition cost and early life churn. However, we expect overall profits to increase in 2008 as the benefits realized from our corporate restructuring plan, the decreased sales and marketing activities and the decrease in loss from equity affiliate offset our decline in revenues.

Joint Venture

We have a joint venture with SK Telecom, HELIO. HELIO is a non-facilities-based mobile virtual network operator (MVNO) offering mobile communications services and handsets to consumers in the U.S. HELIO was formed in March 2005 and began offering its products and services in April 2006. As partners, we and SK Telecom invested an aggregate of $440.0 million of cash and non-cash assets in HELIO pursuant to the Contribution and Formation Agreement. As of December 31, 2006, we and SK Telecom each had an approximate 48% economic ownership interest and 50% voting interest in HELIO.

In July 2007, we and SK Telecom entered into a lending agreement with HELIO pursuant to which we and SK Telecom could lend up to $200.0 million to HELIO and each made an initial loan to HELIO of $30.0 million.

In November 2007, we and SK Telecom amended and restated the joint venture agreements. SK Telecom agreed to make up to $270.0 million in additional equity contributions to HELIO, while we retain the right to make additional investments in HELIO under the amended joint venture agreements. In November 2007 and December 2007, SK Telecom made a $70.5 million and $30.0 million equity contribution, respectively, to HELIO. As a result, as of December 31, 2007, we had an approximate 31% economic ownership interest and 33% voting interest in HELIO, while SK Telecom had an approximate 65% economic ownership interest and 67% voting interest in HELIO. We currently have no plans to make further investments in HELIO.

Also in November 2007, we and SK Telecom canceled the July 2007 loan and related lending agreement and HELIO issued to each of us a new $30.0 million secured exchangeable promissory note (the "New Notes"). Pursuant to the terms of the note purchase agreement, the New Notes bear interest at 10% per annum, payable at maturity, and may be prepaid by HELIO at any time without penalty. The New Notes mature on July 23, 2010, unless amounts thereunder become due and payable earlier by acceleration or otherwise. The New Notes are exchangeable for membership units of HELIO at any time up to the maturity date.

In February 2008, the HELIO joint venture agreements were further amended to make certain modifications to the terms of the outstanding membership interests owned by us, SK Telecom and the other HELIO investors.

Acquisition

In April 2006, we acquired New Edge. The acquisition of New Edge expands our service offerings for businesses and communications carriers. Under the terms of the merger agreement, we acquired 100% of New Edge in a merger transaction for 1.7 million shares of EarthLink common stock and $108.7 million in net cash, including cash to be used to satisfy certain New Edge liabilities and direct transaction costs. In July 2007, approximately 0.8 million shares of EarthLink, Inc. common stock that had been held in escrow were returned to us.

Results of Operations

Consolidated Results of Operations

Segment Results of Operations

Our business segments are strategic business units that are managed based upon differences in customers, services and marketing channels. Our Consumer Services segment provides dial-up Internet access, high-speed Internet access and voice services, among others, to individual customers. Our Business Services segment provides managed data networks, dedicated Internet access and web hosting, among others, to businesses and communications carriers.

We evaluate the performance of our 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 operations and provisions for doubtful accounts. Segment income from operations excludes other income and expense items and certain expenses over which segment managers do not have discretionary control. Costs excluded from segment income from operations include various corporate expenses (consisting of certain costs such as corporate management, human resources, finance and legal), amortization of intangible assets, facility exit and restructuring costs and stock-based compensation expense under Statement of Financial Accounting Standards ("SFAS") No. 123(R), as they are not considered in the measurement of segment performance.

Revenues

Consolidated revenues

The primary component of our revenues is access and service revenues, which consist of narrowband access services (including traditional, fully-featured narrowband access and value-priced narrowband access); broadband access services (including high-speed access via DSL, cable and satellite; IP-based voice; and fees charged for high-speed data networks to small and medium-sized businesses and communications carriers); and web hosting services. We also earn revenues from value-added services, which include search, advertising and ancillary services sold as add-on features to our access services. Total revenues increased from $1.29 billion during the year ended December 31, 2005 to $1.30 billion during the year ended December 31, 2006. This was comprised of a $91.5 million increase in business services revenue offset by an $80.5 million decrease in consumer services revenue. Total revenues decreased from $1.30 billion during the year ended December 31, 2006 to $1.22 billion during the year ended December 31, 2007. This was comprised of a $113.8 decrease in consumer services revenue and a $28.8 million increase in business services revenue.

The decreases in consumer services revenue were primarily attributable to decreases in average consumer subscribers, which were approximately 5.2 million, 5.1 million and 4.3 million during the years ended December 31, 2005, 2006 and 2007, respectively. These decreases were driven primarily by decreases in average premium narrowband subscribers. Also contributing to the decrease during the year ended December 31, 2007 was the removal of 753,000 Embarq subscribers. The increases in business services revenue were attributable to increases in average business subscribers and in business services ARPU, primarily driven by our acquisition of New Edge in April 2006.

Consumer services revenue

Access and service. Consumer access and service revenues consist of narrowband access, broadband access and voice services. These revenues are derived from monthly fees charged to customers for dial-up Internet access; monthly retail and wholesale fees charged for high-speed, high-capacity access services including DSL, cable and satellite; fees charged for IP-based voice services; usage fees; installation fees; termination fees; and fees for equipment. Consumer access and service revenues was $1.1 billion, $1.0 billion and $0.9 billion during the years ended December 31, 2005, 2006 and 2007, respectively. The decreases in consumer access and service revenues over the past three years were primarily due to decreases in average consumer access and service subscribers.

Average consumer access and service subscribers decreased over the past three years primarily due to a decrease in premium narrowband subscribers resulting from the continued maturing and ongoing competitiveness of the market for narrowband Internet access. Contributing to the decrease during the year ended December 31, 2007 was the removal of 753,000 Embarq subscribers from our subscriber count effective April 2007. These decreases were offset by an increase in average PeoplePC subscribers; an increase in average retail broadband subscribers due to the continued growth in the market for broadband access and our efforts and our partners' efforts to promote broadband services; and an increase in average voice subscribers due to the launch of EarthLink DSL and Home Phone Service during 2006. We expect our consumer access and service subscriber base to continue to decrease due to the continued maturation of the market for premium narrowband access. In addition, during the year ended December 31, 2007, in response to changing industry trends we refocused our business strategy to reduce sales and marketing efforts aimed at adding customers that did not provide and acceptable rate of return or that had a pattern of early life churn. We are focusing efforts primarily on the retention of tenured customers and adding customers that have similar characteristics of our tenured customer base and are more likely to produce an acceptable rate of return. This may continue to negatively impact the number of subscribers we are able to add and our revenues.

Contributing to the decrease in consumer access and service revenues from the year ended December 31, 2005 to the year ended December 31, 2006 was a decrease in ARPU. However, the decrease in consumer access and service revenues from the year ended December 31, 2006 to the year ended December 31, 2007 was offset by an increase in consumer access and service ARPU. ARPU depends on a variety of factors, including changes in the mix of customers and their related pricing plans; the use of promotions and discounted pricing plans to obtain or retain subscribers; increases or decreases in the prices of our existing services; and the addition of new services. We currently offer several consumer access services at different price plans, and we provide services through retail and wholesale relationships. All of these have an effect on our overall ARPU.

The decrease in consumer access and service ARPU from the year ended December 31, 2005 to the year ended December 31, 2006 ARPU was due to the shift in the mix of our narrowband subscriber base from premium narrowband access services, which are typically priced at $21.95 per month, to our PeoplePC value-priced narrowband access services, which are generally priced at $10.95 per month. During the year ended December 31, 2005, average PeoplePC access subscribers represented approximately 35% of our average consumer narrowband customer base, and during the year ended December 31, 2006, average PeoplePC access subscribers represented approximately 42% of our average consumer narrowband customer base.

The increase in consumer access and service ARPU from the year ended December 31, 2006 to the year ended December 31, 2007 was due to an increase in broadband access and service ARPU, offset by a decrease in narrowband access and service ARPU. The increase in broadband access and service ARPU during the year ended December 31, 2007 compared to the prior year was primarily due to a shift in the mix of our broadband customer base from wholesale DSL subscribers to retail DSL subscribers and to retail cable subscribers due to the removal of Embarq wholesale subscribers; an increase in our voice subscribers; and certain revenues received pursuant to the Embarq transition agreement. Offsetting these increases were general declines in retail DSL prices introduced as a result of declines in costs from our DSL service providers and the increased use of promotional pricing for our service offerings. Narrowband access and service ARPU decreased from the year ended December 31, 2006 to the year ended December 31, 2007 due to the shift in the mix of our narrowband subscriber base from premium narrowband access services, as average PeoplePC access subscribers represented approximately 42% and 50% of our average consumer narrowband customer base during the years ended December 31, 2006 and 2007, respectively.

Value-added services revenues. Value-added services revenues consist of search revenues; advertising revenues; revenues from ancillary services sold as add-on features to our Internet access services, such as security products, email by phone, Internet call waiting and email storage; and revenues from home networking products and services. We derive these revenues by paid placements for searches; delivering traffic to our partners in the form of subscribers, page views or e-commerce transactions; advertising our partners' products and services in our various online properties and electronic publications, including the Personal Start Page™; referring our customers to our partners' products and services; and monthly fees charged for ancillary services.

Value-added services revenues was $79.5 million, $117.6 million and $128.0 million during the years ended December 31, 2005, 2006 and 2007, respectively. The increases over the past three years were due primarily to increases in sales of security products, anti-spam products and premium mail products. Also contributing to the increase for the year ended December 31, 2006 compared to the year ended December 31, 2005 was increased search advertising revenues and partnership advertising revenues.

Business services revenue

Business access and service revenues consist of retail and wholesale fees charged for high-speed, high-capacity access services including DSL, cable, satellite and dedicated circuit services; fees charged for high-speed data networks for small and medium-sized businesses; installation fees; termination fees; fees for equipment; regulatory surcharges billed to customers; and web hosting. We earn web hosting revenues by leasing server space and providing web services to individuals and businesses wishing to have a web or e-commerce presence on the Internet.

Business access and service revenues increased from $66.7 million during the year ended December 31, 2005 to $158.4 million during the year ended December 31, 2006 and to $187.7 million during the year ended December 31, 2007. These increases were primarily due to increases in both average business access and service subscribers and business access and service ARPU, which were attributable to the acquisition of New Edge in April 2006. Offsetting these increases were a decreases in web hosting revenues primarily due to a decrease in average web hosting accounts and decreases in business narrowband revenues.

Our business broadband subscriber base consists of customers which are added through retail and wholesale relationships. Retail business services generally have an ARPU between $100 and $130 for non-networked solutions and an ARPU between $175 and $225 for networked solutions. Wholesale business services generally have an ARPU between $75 and $95. The pricing of broadband services for small and medium-sized businesses depends upon customer requirements for different service delivery methods, amounts of bandwidth, quality of service and distance from the points of presence, and may vary widely from these ranges. The number of customers being added or served at any point in time through our wholesale efforts is subject to the business and marketing circumstances of our telecommunications partners.

Cost of revenues

Service and equipment costs are the primary component of our cost of revenues and consist of telecommunications fees, set-up fees, network equipment costs incurred to provide our Internet access services, depreciation of our network equipment and surcharges due to regulatory agencies. Service and equipment costs also include the cost of Internet appliances. Our principal provider for narrowband telecommunications services is Level 3 Communications, Inc., and our largest providers of broadband connectivity are Covad Communications Group, Inc. ("Covad") and Time Warner Cable. We also do lesser amounts of business with a wide variety of local, regional and other national providers. We purchase broadband access from Incumbent Local Exchange Carriers, Competitive Local Exchange Carriers and cable providers. Cost of revenues also includes sales incentives. We offer sales incentives such as free modems and Internet access on a trial basis.

Total cost of revenues increased 16% from $375.6 million during the year ended December 31, 2005 to $433.9 million during the year ended December 31, 2006, and increased 2% to $442.7 million during the year ended December 31, 2007. The increases during the years ended December 31, 2006 and 2007 were comprised of increases of $69.4 million and $30.4 million, respectively, in business services cost of revenue and decreases of $11.1 million and $21.7 million, respectively, in consumer services cost of revenues. Business services cost of revenues increased due to increases in average monthly costs per subscriber, primarily as a result of New Edge subscribers and their associated cost. New Edge subscribers have a higher average cost per subscriber as New Edge provides high-speed data networks to small and medium-sized businesses. Consumer services cost of revenues decreased due to the decreases in average subscribers, offset by increases in sales incentives due to an increase in modems and other equipment provided to customers for IP-based voice services.

Sales and marketing

Sales and marketing expenses include advertising and promotion expenses, fees paid to distribution partners to acquire new paying subscribers, personnel-related expenses and telemarketing costs incurred to acquire subscribers. Sales and marketing expenses remained relatively constant at $389.5 million and $390.6 million during the years ended December 31, 2005 and 2006, respectively. Sales and marketing expenses decreased 25% to $291.1 million during the year ended December 31, 2007. This decrease consisted primarily of a decrease in consumer services sales and marketing expenses as we decreased spending aimed at customers that have high acquisition costs and early life churn and realized benefits from the 2007 Plan. This decrease was offset by an increase in business services sales and marketing expenses which was primarily due to the inclusion of New Edge sales and marketing expenses for the full year. We expect sales and marketing expenses to decrease in 2008 as we continue to scale back sales and marketing efforts in connection with our refocused strategy and as a result of the 2007 Plan.

Operations and customer support

Operations and customer support expenses consist of costs associated with technical support and customer service, providing our subscribers with toll-free access to our technical support and customer service centers, maintenance of customer information systems, software development and network operations. Operations and customer support increased 4% from $233.9 million during the year ended December 31, 2005 to $243.6 million during the year ended December 31, 2006. The increase consisted of an increase in business services expenses offset by a decrease in consumer services expenses. The increase in business services operations and customer support expenses was primarily the result of the inclusion of New Edge operations and customer support expenses. The decrease in consumer services operations and customer support expenses was a decrease resulting from the decline in our premium narrowband services, including a decrease in communications costs for providing subscribers with toll-free access to our technical support and customer service centers, offset by an increase in operations expense for our value-added services and an increase due to stock-based compensation expense from the adoption of Statement of Financial Accounting Standards ("SFAS") No. 123(R) on January 1, 2006.

Operations and customer support expenses decreased 9% from $243.6 million during the year ended December 31, 2006 to $221.4 million during the year ended December 31, 2007. The decrease primarily consisted of a decline in consumer services operations and customer support expenses attributable to a reduced back-office cost structure and benefits realized as a result of our corporate restructuring plan. The decrease related to personnel-related costs, outsourced labor and professional fees. Offsetting the decrease was an increase in business services operations and customer support expenses due to the inclusion of New Edge. We expect operations and customer support expenses to decrease in 2008 as a result of the 2007 Plan.

General and administrative

General and administrative expenses consist of fully burdened costs associated with the executive, finance, legal and human resources departments; outside professional services; payment processing; credit card fees; collections and bad debt. General and administrative expenses were $112.2 million, $125.6 million and $128.4 million during the years ended December 31, 2005, 2006 and 2007, respectively. The increase during the year ended December 31, 2006 was primarily due to the inclusion of New Edge general and administrative expenses; increases in personnel, professional fees and travel costs resulting from the implementation of our previous growth initiatives; and an increase due to stock-based compensation expense from the adoption of SFAS No. 123(R) on January 1, 2006. The increase during the year ended December 31, 2007 was primarily due to $6.4 million of cash and non-cash compensation expense related to the death of our former Chief Executive Officer, Charles G. Betty, as more fully described below. Offsetting this increase was a decrease in general and administrative expenses, primarily personnel-related costs, as we began to implement plans to reduce our cost structure during the latter half of 2007. We expect general and administrative expenses to decrease in 2008 as a result of the 2007 Plan.

Mr. Betty passed away on January 2, 2007. Pursuant to Mr. Betty's employment agreement, all unvested stock options and restricted stock units immediately vested and became fully exercisable upon death. In addition, the Leadership and Compensation Committee of the Board of Directors extended the exercise period of Mr. Betty's stock options until December 31, 2008. This date represents the exercise period if Mr. Betty had terminated employment after serving the full term of his employment agreement, which was set to expire in July 2008. During the year ended December 31, 2007, we recorded stock-based compensation expense of $3.5 million related to the accelerated vesting of 1.1 million stock options and 0.1 million restricted stock units and recorded stock-based compensation expense of $1.4 million related to the extension of the exercise period for Mr. Betty's stock options. We also recorded $1.5 million of compensation expense for a payment to Mr. Betty's estate in accordance with his employment agreement.

Stock-based compensation expense

Amortization of intangible assets

Amortization of intangible assets represents the amortization of definite lived intangible assets acquired in purchases of businesses and purchases of customer bases from other companies. Definite lived intangible assets, which primarily consist of subscriber bases and customer relationships, acquired software and technology and other assets, are amortized on a straight-line basis over their estimated useful lives, which range from one to six years. Amortization of intangible assets was $12.3 million, $11.9 million and $14.7 million during the years ended December 31, 2005, 2006 and 2007, respectively. The decrease in amortization of intangible assets during the year ended December 31, 2006 was primarily due to certain subscriber base acquisitions becoming fully amortized during the year. The increase in amortization of intangible assets during the year ended December 31, 2007 was primarily due to amortization of identifiable definite lived intangible assets resulting from the acquisition of New Edge in April 2006, and from acquisitions of subscriber bases from ISPs over the past year.

Facility exit, restructuring and other costs

2007 Restructuring Plan. In August 2007, we adopted a restructuring plan intended to reduce costs and improve the efficiency of our operations. The 2007 Plan was the result of a comprehensive review of operations within and across our functions and businesses. Under the 2007 Plan, we reduced our workforce by approximately 900 employees, consolidated our office facilities in Atlanta, Georgia and Pasadena, California and closed office facilities in Orlando, Florida; Knoxville, Tennessee; Harrisburg, Pennsylvania and San Francisco, California. The Plan was primarily implemented during the latter half of 2007 and is expected to be completed during the first half of 2008. As a result of the 2007 Plan, we recorded facility exit and restructuring costs of $64.3 million during the year ended December 31, 2007, including $30.3 million for severance and personnel-related costs; $12.2 million for lease termination and facilities-related costs; $20.6 million for non-cash asset impairments; and $1.1 million for other associated costs. The asset impairment charges primarily relate to fixed asset write-offs due to facility closings and consolidations and the termination of certain projects for which costs had been capitalized. These assets were impaired as the carrying values of the assets exceeded the expected future undiscounted cash flows to us.

Management continues to evaluate our businesses and, therefore, there may be supplemental provisions for new plan initiatives as well as changes in estimates to amounts previously recorded, as payments are made or actions are completed.

Legacy Restructuring Plans. During the years ended December 31, 2003, 2004 and 2005, we executed a series of plans to restructure and streamline our contact center operations and outsource certain internal functions (collectively referred to as "Legacy Plans"). The Legacy Plans included facility exit costs, personnel-related costs and asset disposals. We periodically evaluate and adjust our estimates for facility exit and restructuring costs based on currently-available information and record such adjustments as facility exit, restructuring and other costs. During the years ended December 31, 2005 and 2007, we recorded $2.0 million and $1.1 million of facility exit, restructuring and other costs as a result of new accruals and changes to estimates for Legacy Plans. During the year ended December 31, 2006, we recorded a $0.1 million reduction to facility exit, restructuring and other costs as a result of changes in estimates for Legacy Plans.

Other Costs. Under SFAS No. 142, goodwill and indefinite lived intangible assets must be tested for impairment annually or when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We tested goodwill and indefinite lived intangible assets during the fourth quarter of 2007 and recorded an impairment loss of $4.3 million on certain indefinite lived intangible assets, consisting of trade names. We did not recognize any impairment losses during the years ended December 31, 2005 or 2006.

Net losses of equity affiliate

We account for our investment in HELIO under the equity method of accounting because we can exert significant influence over HELIO's operating and financial policies. Accordingly, we record our proportionate share of HELIO's net losses. These equity method losses have been offset by increases in the carrying value of our investment associated with amortizing the difference between the book value of non-cash assets contributed to HELIO and their fair value.

Net losses of equity affiliate for the years ended December 31, 2005, 2006 and 2007 of $15.6 million, $84.8 million and $111.3 million, respectively, included our proportionate share of HELIO's net losses offset by amortization associated with recognizing the difference between the carrying value and fair value of non-cash assets contributed. HELIO's net loss increased due to the start-up nature of HELIO's operations and HELIO's recent product launches. During the year ended December 31, 2007, we stopped recording additional net losses of equity affiliate because the carrying value of our investments in HELIO, including the $30.0 million loaned to HELIO in July 2007, were reduced to zero, and we are not committed to provide further financial support. As a result, we do not expect to record net losses of equity affiliate for the foreseeable future.

Gain (loss) on investments in other companies, net

During the years ended December 31, 2005 and 2007, we recognized $0.9 million and $7.1 million, respectively, of impairment losses due to declines of the value of certain of our investments in other companies that were deemed other than temporary. During the year ended December 31, 2006, we did not recognize any losses due to other-than-temporary declines of the value of investments.

During the year ended December 31, 2005, we received $4.4 million in cash distributions from eCompanies Venture Group, L.P. ("EVG"). In applying the cost method, we recorded $0.6 million as a return of our investment based on the carrying value of our investment in EVG, and gains of $3.8 million were included in gain (loss) on investments in other companies, net. During the years ended December 31, 2006 and 2007, we received $0.4 million and $1.6 million in cash distributions, respectively, from EVG which were recorded as gains on investments in other companies.

Except for HELIO, we do not exercise significant influence or control over the operating and financial policies of the companies in which we have invested. We are not the primary beneficiary for any of the companies in which we have invested. Accordingly, we use the cost method to account for our investments in other companies.

Interest income and other, net

Interest income and other, net, is primarily comprised of interest earned on our cash, cash equivalents and marketable securities; interest earned on our Covad investment; interest expense incurred on our Convertible Senior Notes due November 15, 2026 ("Notes"); and other miscellaneous income and expense items. Interest income and other, net, increased from $13.5 million during the year ended December 31, 2005 to $14.6 million during the year ended December 31, 2006. This was primarily due to an increase in interest earned on our cash, cash equivalents and marketable securities due to higher investment yields on our cash and marketable securities and an increase due to interest income from our investment in Covad, as we began earning interest on our investment in March 2006, offset by a decrease in our average cash and marketable securities balances.

Interest income and other, net, decreased to $12.8 million during the year ended December 31, 2007. This was primarily due to interest expense incurred on the Notes, which were issued in November 2006 in a registered offering and bear interest at 3.25% per year on the principal amount of the Notes until November 15, 2011, and 3.50% interest per year on the principal amount of the Notes thereafter. Also contributing to the decrease were losses on disposals of fixed assets. These decreases were offset by an increase in interest earned on our cash, cash equivalents and marketable securitie

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