Exodus files for Chapter 11

SANTA CLARA - Exodus Communications Wednesday announced it has filed for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code as it seeks to reorganize and stabilize its struggling Web hosting business.

The company also announced it has received a commitment for up to $200 million in debtor-in-possession financing from GE Capital, which will help fund operations and allow current management to continue running the company during the restructuring. Debtor-in-possession financing is subject to certain conditions, including obtaining bankruptcy court approval.

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Exodus Chairman and CEO William Krause said in a statement that Wednesday's actions allow Exodus to continue to provide service to its customers. He said the firm's customers and employees remain its highest concerns.

"We are committed to meeting the needs of both - now and well into the future," he says. "This restructuring action ensures we have the wherewithal to do that and our daily operations continue uninterrupted as before. In addition, we will now be able to devote efforts to solidifying and executing on a go-forward operating plan that is based on tough-minded fiscal discipline and focuses on managing Exodus to profitability."

Wednesday's filing, which includes the company's domestic operations, culminates a year of trouble for the once-highflying firm. Exodus has had to impose layoffs, downgrade revenue forecasts, reduce capital expenditures and implement cost-cutting measures. In addition, the firm has experienced executive shakeups and the departure of three members of its board of directors. Former CEO Ellen Hancock resigned less than a month ago.

Through it all, the firm has taken a pounding on Wall Street.

Exodus was once the darling of the Internet boom, building out data centers en masse to capitalize on what was considered the gold mine of the new economy. But the firm built out more data centers than it could fill when the dot-com bubble burst and its dot-com customer base began to erode.

Exodus says 27 of its 44 data centers have positive earnings. But analysts note that many of the firm's centers are running at capacity levels as low as 10%.

"You can't afford to support the cost of a data center when you're only making revenue on 10% of the space," says Andrew Schroepfer, president of Tier 1 Research.

Exodus has been moving away from its collocation roots and into higher-revenue-generating managed services. It recorded more than $200 million in gross new annualized recurring bookings in the second quarter, including companies such as American Airlines and Six Flags. But its massive data center build-out has saddled it with $3.5 billion in debt. Because of its debt obligations the firm was burning through its cash, despite average quarterly revenue of about $300 million. It reported a loss of $138 million last quarter on $318 million in revenue.

"They're just eating through their cash, but they're breakeven on an operating basis," says Alex Arnold, an analyst with Adams, Harkness & Hill.

The only other way to improve their position, Arnold said, would have been to increase their data center utilization. "But no one is taking on new capacity to speak of right now, and new capacity that people are taking on is getting offset by churn," Arnold says.

Krause conceded Exodus overbuilt itself, but said the firm's value lies in the data centers and the "state-of-the-art" operations it has constructed.

"We sacrificed profitability in exchange for growth and market share, overexpanding in some areas in advance of demand, not anticipating the decline as the dot-com bubble burst and the economy weakened," Krause said. "While we address our balance sheet issues, it is these assets that form the strong base from which we will restore Exodus to financial stability."

Analysts agree Exodus could emerge from the restructuring as a strong player in the multibillion-dollar managed hosting market.

"What you can say is it's a good business. There's going to be demand for it. So if they can figure out a way to make this work, there's a lot of value there," Arnold says. "The capital structure is what gets in the way."

And it's the capital structure that Krause is targeting: "We intend to emerge from the restructuring process with a more appropriate capital structure, sufficient cash to fund ongoing operations and the ability to access additional capital if needed to fund new growth initiatives. We determined, after careful consideration of our various options, that reorganization through the Chapter 11 process presents the best mechanism to complete our restructuring in a timely manner and retain our current leadership position."

Exodus files for Chapter 11

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