RCN Exits San Francisco Market, Struggles to Compete

In evidence of the cost of competing with bigger incumbents with deep pockets, RCN Corp. has decided to sell its San Francisco assets for $45 million in cash, while enduring challenging financials for last year.

RCN, which entered markets without networks to compete with giants such as Comcast Corp., seems to be contracting more than expanding of late, reducing the number of markets in which it competes.

On Wednesday afternoon, RCN announced the sales of its San Francisco assets to cable incumbent Astound Broadband for $45 million, which the duo claimed amounted to roughly $2,500 per customer.

Astound describes itself as a cable, Internet and phone services company currently serving approximately 55,000 video, data and phone customers in Concord and Walnut Creek, Calif. Astound Broadband’s San Francisco operations serve approximately 18,000 customers.

RCN still provides service in the Boston, Chicago, Los Angeles, New York, Eastern Pennsylvania and Washington, D.C., metropolitan markets. However, the upstart confirmed in its earnings materials yesterday that it is planning to close down its operations in Los Angeles, one of the most densely populated markets in which it still does business.

The little guys are going to get stomped as this market matures, predicted Tom Nolle, president of CIMI Corp. The problem RCN faces is being non-consolidated in a market that’s kind of consolidating. The consumer content business in any flavor is a mass market, and that means power goes to the guys who have mass. It’s going to be hard for RCN to get capital and operations economies at their size, and with the networks and channels now asking for payment for content, they face higher costs and have too few customers to have much leverage.

The same problem impacts RCNs ad revenue opportunity, according to Nolle.

In its latest financials, RCN claimed total revenue increased 13 percent to $158 million compared to $140 million in the fourth quarter of 2005, and was flat compared to $158 million in the third quarter of 2006.

The increase versus the fourth quarter of 2005 was driven by a 210 percent increase in commercial revenue, resulting primarily from the acquisition of CEC, and a 4 percent increase in core residential revenue resulting from an increase in average revenue per user to $107.

Though it doesnt spend at the level of Tier 1 providers such as AT&T Inc., or its larger incumbent cable counterparts, RCN said capital expenditures were $28 million in the fourth quarter of 2006 compared to $34 million in the fourth quarter of 2005 and $26 million in the third quarter of 2006.

In one year, 2006, RCN claimed it added a total of 6,000 customers, upping its base from 419,000 to 425,000 customers. It ended the fourth quarter of 2006 with $203 million in outstanding debt and $125 million in cash.

On the financial upside, RCNs net loss shrank from $136.1 million in 2005, to $11.8 million last year. The operators RCN Business Solutions team was credited by CEO Peter Aquino as driving profitable revenue growth.

In 2007, we will continue to focus on cost efficiencies in the most important areas of our business: field operations, customer care, and sales and marketing, and also increase investments in new homes passed inside and adjacent to our current licensed footprint to capture some of the high-return growth opportunities uniquely available to RCN, said Aquino, in prepared comments.

RCN, despite lacking the deep capex pockets of an AT&T, sees its capital situation as a glass-half-full scenario.

While our competitors are spending large portions of their capital upgrading outdated plants, RCN is able to extend robust triple-play services to new homes quickly at a relatively low cost, claimed Aquino. We are excited about the ability to pursue these high-growth opportunities while continuing to build on our track record of consistent execution.”

RCN announced in its earnings call that its board of directors has approved an initiative to pursue a potential return of capital to shareholders in the range of $350 million to $400 million, which would be funded with a combination of cash on hand and additional borrowings. To effect a return of capital in the range described above, RCN’s total indebtedness would increase to approximately $500 million, or approximately four times RCN’s fourth quarter 2006 annualized EBITDA.

Astound Broadband
AT&T Inc.
CIMI Corp.
Comcast Corp.
RCN Corp.

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