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By TMFMileHigh
August 8, 2005

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NOTE: this includes answers to questions posed by Rule Breaker subscribers.

Hey, Fools --

I'm really sorry it took so long to get back to everyone. Don't ever let anyone tell you having three kids is easy. Our smallest -- three months old -- is just starting to act like a normal baby. Hopefully, that'll mean a more normal schedule for us in the ensuing months.

Now, let me see if I can address everything, starting with the most-frequently-asked question:

You mentioned this in your non RB article: "A reversal of a prior net loss carryover will create a $300 million hit to earnings sometime during Q3 or Q4." Does this have to do with taxes? The 10-K has a discussion of loss carryovers, which essentially says that $1.2 billion in operating losses can be carried over until 2024. Is there any relation? Could you please explain this?

Yes, it has everything to do with taxes. Akamai has a large net loss carryover as you point out, Steve, but it hadn't met the government requirements to begin using it -- till now, that is. But doing so will involve some funny accounting. Stay with me.

According to Akamai IR, the $300 million is, effectively, a deferred tax asset. It should appear on the balance sheet. It doesn't because Akamai zeroed out the credit with a corresponding liability -- put in place because the company wasn't in a position to use the asset. Now that conditions have changed, Akamai must "reverse" the liability to make the asset appear. (I know, it made my brain hurt at first, too.)

My understanding is that in order to reverse the liability Akamai must post a credit to its income statement. So, in Q3 or Q4, Akamai will include a one-time income tax gain of $300 million in net earnings. At the same time, a $300 million deferred tax asset should appear on the balance sheet. (Bear in mind, however, that the numbers won't be exact -- some of the credit will be immediately lost to tax due. See below.)

So, let's review:

* Akamai has a massive net loss carryover.

* The usable portion of this is roughly $300 million according to Akamai's accountants.

* It may now be used to help cover future tax due to the Feds.

* But making it so will require reversing a liability on the balance sheet that will increase net income sometime during Q3 or Q4 by $300 million.

Still with me? Good. It's important to remember two more things. First, the benefit is non-cash. Akamai neither receives nor loses money as a result of all this accounting.

Second, once the benefit is in place Akamai starts immediately paying the Feds taxes. The rate could be as high as 40%. So, when the credit appears, it's possible you'll see a line item called "net tax benefit" that's materially less than $300 million. And the deferred tax asset on the balance sheet might also be much less than $300 million. It could appear this way because Akamai literally uses the $300 million benefit like a bank account filled with promissory notes to pay tax owed. The first tax "payment" is due when the asset goes live -- at least, that's my understanding.

So, bottom line: This is a good thing. Though Akamai must begin paying the Feds taxes, its "payments" will be in redeemed IOUs -- not cash -- till all $300 million is used up. (The deferred tax asset will shrink each quarter by an amount equivalent to the Federal tax owed.)

Whew. I sure hope all that made sense. If any accountants out there spot mistakes in this write-up, please feel free to post a correction.

OK, next?

Question: Is Speedera a less expensive service?

Former Akamai employees who wrote me around the time of the merger say yes, but we really have no way of knowing for sure. CFO Bob Cobuzzi told me that ARPU (average revenue per customer) was roughly $12,000 for Speedera customers, but this could mean they simply don't use as much bandwidth. Anyway, on the whole, I think it's fair to assume that Speedera was the low-price leader in content networking.

Question: I had been counting on the increase of customers coupled with the increased use of the net to support the stock. Naive?

Over the short term? Maybe. Over the long term? Not at all. That's precisely my thesis for the stock, except I also expect that margins will remain steady or increase slightly and that the volume of new customers will geometrically boost cash flow over the next three-to-five years.

Question: Sounds to me as though we ought to take profits and wait for the fall to invest again (relating to the $300 mil tax asset). Any opinions?

I can't predict the market's reaction short-term. But I can tell you that when the stock was pummeled to $12 a few months ago on essentially nothing, I bought more. My reduced cost basis is now $12.57, if I remember correctly.

Conversion Price: If the conversion price is 15.45, why would the stock price get stalled at this price. I have seen this happen few times over last few years. I would think it is good for the convertible owners if the price goes up much higher that 15.45 ( better that 1% they receive ). Further, the stock to be issued if it gets converted is already included in earning estimates(diluted share), so the dilution should not be an issue. Would some traders play this to see that price is around the conversion price.

Since I'm not a trader I'll defer to this post. But I'll also say that I'm just not thinking short-term enough to calculate why the stock sometimes stalls around the current per-share price.

Maybe Akamai's commitment to redeem all 5 �% debt will send a message that the $200 million in notes will be converted sooner rather than later? And maybe that will free up the stock to move? Wish I knew.

Analyst estimates: From Yahoo!, I notice there is an analyst who estimates akam to earn 0.43 this year and 0.49 next year. Does anyone know who the analyst is?? So far this year, akam has earned 0.10+0.12+0.135==0.355, that means this analyst sees akam earning 0.085 in 4Q. This is baffling. Why the downward eps estimate, am i missing something or this analyst is...

Smay, you're still one of my fav Fools but you've erred here. You're including totals for the third quarter when Akamai only just closed the second quarter ;-)

My records show Akamai reported $0.21 per stub in diluted GAAP net income through the first six months of the year. Excluding amortization and stock-based compensation, the total rises to $0.22. That's good news; Akamai's non-GAAP guidance for 2005 is $0.50. Therefore, earnings will accelerate through Q3 and Q4.

Stock option expense: If and when company starts to expense the stock options we will see big hit to earnings. Do you think market is discounting this or we will see some hit due to that. If so, we will see very little appreciation to stock price from here unless the business grows substantially over next year.

It's possible, but I suspect analysts will be revising their targets to exclude stock-based compensation, at least over the short-term. But should it matter? Let's say they don't. OK, fine. If cash flow -- even after excluding stock-based compensation -- continues to expand, shouldn't a decline in the stock price of a business you like excite you?

Frankly, I'm hoping there's a stark overreaction to options expensing. So long as management continues to replace options with restricted stock grants, I'm happy. If the market isn't, fine, I'll just buy more shares. Bottom line: I view Akamai as a company to hold for 10 years or more.

For those who want to get a closer look at Akamai's options exposure check the recent 10-Q. It can be found here. Pages five and six have the details.

And, finally, Steve asked:

Is there a discount for signing up for more than one MF service?

I wish there was, dude. But I know of no such offer at present. I suggest posting this idea to the "Improve the Fool" discussion board. Find that here.

Again, my apologies for the delay in responding. I hope this proves useful.

Foolish best,

Tim
TMFMileHigh


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