A decision last year to lease additional satellite bandwidth as a hedge against the late arrival of the Southern Cross cable has cost Ihug short-term profits, Force Corporation has warned its shareholders.
Force shareholders will be asked to approve a proposed purchase of The Internet Group (Ihug) - creating the new entity, Ihug Networks Ltd - on April 17
An information memorandum sent to shareholders last week says that the impact on Ihug of carrying more international bandwidth than it needs - a total of 220Mbit/s, including 90Mbit/s for wholesale customers - has contributed to a projected loss of $2.5 million for the six months to June 30, 2000.
Ihug currently has lease commitments worth $US33.4 million, falling due over the next four years. In a section on risks associated with the proposed transaction, Force shareholders are warned that the commissioning of Southern Cross may lead to a reduction in the cost of international bandwidth, but "the current price of seabed cable capacity would have to fall dramatically before The Internet Group's existing cost structure would begin to restrict its ability to offer competitively-priced retail Internet access products."
Ihug's financial performance also took a substantial hit after June last year, when both Xtra and Clear introduced new flat-rate access products at prices cheaper than Ihug's flagship Diamond account.
Its Earnings Before Interest, Tax and Amortisation for the nine months to December 1999 were only $100,000 on revenue of $42.6 million, compared to $3.6 million for the year to March 1999. The statement of historical financial performance bears out the Wood brothers' claims that their business has been profitable since its inception.
The statement of Ihug's financial position as of December 31 1999 includes unspecified liabilities of $1.2 million, which include "an amount received from a telecommunications company operating in New Zealand in relation to the company's Internet activities."
Managing director Nick Wood declined to comment this week on the identity of the telecommunications company or the nature of the liability.
In what is probably a pointer to Wood's hostility to the appearance of free ISPs, the accounting assumptions in the statement include the assumption that "there will be no significant changes in the retail Internet access prices in Australia or New Zealand. The Internet Group will continue to sign up new subscribers at the same rate as the historical average for the last nine months. The churn rate will remain the same. There will be no significant change in the mix of subscribers."
A section on risks also covers free Internet access. It says it is "doubtful given the current cost structures for most, if not all ISPs operating in Australia and New Zealand, that free access will be an economically viable business model" and notes that in the US the effect of free ISPs has been to drive paid ISPs to the provision of broadband services, such as Ihug's SatNet.
Specific plans laid out in the company's growth strategy include the purchase of Internet-related businesses and smaller ISPs in Australia and New Zealand over the next 12 months. Ihug recently bought two Australian ISPs, and director Tim Wood told IDGNet the company would buy an e-commerce business.
Ihug Networks Limited, the entity to be created by the Force-Ihug merger, is frequently styled throughout the document as increasingly an entertainment and media company, which will quit is property assets "in an orderly fashion over time".
The company also intends to migrate existing subscribers towards high-speed SatNet products and bundled Internet access, digital telephony and pay television products, but notes that the company's slow-starting IDTV business will not be fully promoted until later in the year.
Although synergies identified between the two merging parties are apparently relatively modest - cross-promotion of their cinema and Internet offerings and online ticket sales are cited - the document notes that "other projects" too commercially sensitive for public release are under consideration by the Ihug board.