Executives
Louis Alterman
Rolla P. Huff - Chairman of the Board and Chief Executive Officer
Joseph M. Wetzel - President and Chief Operating Officer
Bradley A. Ferguson - Chief Financial Officer, Principal Accounting Officer and Executive Vice President
Analysts
Barry McCarver - Stephens Inc., Research Division
Michael Crawford - B. Riley & Co., LLC, Research Division
Nick Yu - D.A. Davidson & Co., Research Division
Mark Kelleher - Dougherty & Company LLC, Research Division
Scott H. Kessler - S&P Equity Research
EarthLink (ELNK) Q2 2012 Earnings Call August 2, 2012 8:30 AM ET
Operator
Good morning. My name is Tracy, and I will be your conference operator today. At this time, I would like to welcome everyone to the EarthLink Second Quarter 2012 Earnings Conference Call. [Operator Instructions] I will now turn the conference over to Louis Alterman, Vice President of Finance for EarthLink. Please go ahead, sir.
Louis Alterman
Thanks, and welcome to our call. During today's call, we will refer to earnings slides that are available for you to view in the Investor Relations section of our website, earthlink.net. Following our comments, there will be an opportunity for questions.
Before we continue, I would like to point out that certain statements contained in our earnings release and on this conference call are 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. With respect to such forward-looking statements, the company seeks the protections afforded by the Private Securities Litigation Reform Act of 1995.
These risks include a variety of factors including competitive developments, the risk factors listed in the company's SEC reports and public releases. Those lists are intended to identify certain principal factors that could cause actual results to differ materially from those described in the forward-looking statements. They are not intended to represent a complete list of all risks and uncertainties inherent to the company's business.
In an effort to provide useful information to investors, our comments today also include non-GAAP financial measures. For details on these measures, including why we use them, and a reconciliation to the most comparable GAAP measures, please refer to our earnings release and the Form 8-K that has been furnished with SEC, both of which are available on our website at earthlink.net.
After Rolla's opening comments, Joe Wetzel, our President and Chief Operating Officer, will provide an integration update; and Brad Ferguson, our Chief Financial Officer, will discuss the quarter's financial results.
Now I'd like to hand things over to Rolla Huff, our Chairman and CEO.
Rolla P. Huff
Thanks, Louis, and thanks to everyone who is joining us this morning. Second quarter was another quarter of progress in our transformation to a growing Business Services company, despite the substantial weight integration activities are having on every part of the business. We're approaching the home stretch of a big portion of our integration work and we can feel it.
I'll talk more about that in a few minutes. As you saw in this morning's announcement, in the second quarter, we accrued just over $8 million to increase our reserves for certain regulatory audits, primarily being a routine audit currently being conducted by the Universal Service Administration Company or USAC on Deltacom Universal Service Fund contributions dating back to 2010. Those familiar with the industry understand that USAC rules can be somewhat subjective and open to different interpretations. While USAC has not yet finished its final audit report, we believe there's a meaningful probability they will determine that Deltacom should have collected and remitted more USF fees from customers on certain legacy products and bundles. We'll continue to work with USAC to help them understand the judgments that Deltacom made when determining how much USF needed to be collected on certain products. But from an accounting standpoint, we believe taking this charge and disclosing it is the proper course. Accordingly, we're also lowering our guidance to reflect the impact of this change. Overall, we were pleased to see that market interest in our IT services and nationwide connectivity products continues to be very strong. There's no doubt in our minds that our underlying strategy is the right one.
Our Business Services revenue decline continued to attenuate in the second quarter. We were also extremely pleased to see our consumer churn beat our own model forecast. We'll talk more about churn in a few minutes.
As I mentioned at the start of the call, almost every aspect of our business is being impacted by our OSS integration activities. While Joe will walk you through more detail, we are seeing important integration milestones occurring. We're now operating on an integrated sales funnel management platform and integrated cost management platform an integrated financial reporting platform. And all of that working in conjunction with our integrated network. By the end of this year, we'll have a meaningful part of the new OSS platform in production. While we still have an enormous amount of work left to do, we do believe there is light at the end of this integration tunnel we're in and we have begun to plan for that time. And on that note, today, we announced that Joe Wetzel will be leaving at the end of the year commensurate with the expected delivery of major components of Earthlink's new integrated OSS platform. For the balance of the year, he'll provide focused oversight on the integration to make sure it stays on track. We believe that as our new platform is close to production, now is the time to streamline our management structure and create a stronger sales and marketing-focused organization. Accordingly, we're now consolidating product and marketing functions under Mike Toplisek, sales functions under Mae Squier-Dow, all provisioning and care functions under Kevin Brand and all infrastructure and network management under Jim O'Brien.
I don't need to tell you, Joe has been an integral part of our transformation and an integral part of developing the streamlined organization model we're announcing today.
I can't thank Joe enough for everything that he's done to reposition the legacy EarthLink business and for agreeing to see us through this very long and complex integration over the past few years. I should also thank his wife, Sharon, for putting up with all the travel, the meetings and the late-night calls that have been occurring.
Moving to Slide 3. I'd like to now get into a bit more detail about the quarter and my thoughts about where we're performing well and where we need to be better. As we shared with you during our Investor Day, we're squarely in the middle of transforming our sales force. We pushed a massive amount of sales education out after our product launches in Q4 and Q1, which allowed us to more quickly assess which salespeople have the aptitude to sell the new product platform and those that didn't. We expected that a more complex product set and a solution sale to a higher-end targeted customer would make it difficult for many of the legacy salespeople to make it, and that was in fact the reality. We made a decision early on, however, not to retain unproductive salespeople.
Working in 5 OSS platforms is expensive and time consuming for really everyone in the company, and are sales reps and our sales engineers are particularly impacted. Our reps and SEs that are tenured and productive have been invaluable to us because they know how to work in our legacy multiple OSS platform environment. We've had a harder time, however, with onboarding new reps and SEs in getting them to be productive while working with multiple OSS platforms. They and their management spend far too much time being focused inwardly rather than focused on selling, and that is precisely why we've had to be so focused on getting through this integration. This reality of exiting unproductive reps and the difficulty of onboarding new reps, who can navigate legacy OSS platforms and be productive, has resulted in our retail quota bearing rep count dropping from 476 at the end of last year to an average of 416 in the second quarter.
Because we're now beginning to release more sales management tools and we'll soon have our new product catalogs, quoting tools and order orchestration software in production, we're confident that we'll be able to improve our ability to get new salespeople up the productivity curve. There's no doubt in our mind that customers want the products that we have, that our organization have to be able to navigate the systems to quote them and deliver them. We're expecting to see our quota bearing headcount start to increase in the back half of the year. Beyond direct rep headcount, we're going through the learning curve of transitioning our consumer-focused SEM and SCO capabilities to an IT services focused SEM, SCO capability. And honestly, that process has been slower than I would have liked. We're beginning to see some progress. It's critical to our ability to expand our distribution model to include proportionally more inside salespeople along with other alternative distribution mechanisms. Because we're taking out unproductive reps and providing our successful reps with better products, we would expect that our sales productivity would increase. And that is exactly what's happening. During the second quarter, retail monthly productivity grew from $2,200 to $2,300 per rep. For the past 3 quarters, we have been able to keep our bookings flat even though our average retail quota-bearing reps have declined 60 heads since the end of last year and without the coverage of expanded SEM, SCO motions.
As we continue to bring our tenured reps up the productivity curve, again, to add salespeople onto a world-class and support platform and begin to drive leads in production through SEM activities, we expect to see our new bookings accelerate from the essentially flat levels we've been seeing.
Turning to Slide 4. Beyond new bookings, the other factor that materially influences revenue is, of course, churn. As indicated earlier, I'm very pleased with how well the team continues to manage customer churn with all the process changes currently underway. In the second quarter, Business segment retail churn fell from 1.5% to 1.4% and is down meaningfully from the 2-plus percent preacquisition levels. This is happening because we've improved the absolute quality of our services, we're providing dedicated account management and we're offering a more relevant suite of products and services to our customers.
To note on the consumer side, 39% of our narrowband customers have now been with us for longer than 10 years. These customers churn at 1.1% per month and the 15-year customers are now churning at less than 80 basis points.
Of course, 2/3 of the consumer base is on broadband, and as the entire base continues to age, as we continue to take great care of these customers, we expect to continue to see good results.
Total Consumer churn fell to 2.3% in the second quarter, an all-time low and our third consecutive record.
Moving to Slide 5, which I believe is the most important slide in this deck. As a result of the better churn and sales productivity, our revenue profile continued to improve. Our pro forma year-over-year Business segment revenue declines improved from 5.8% last quarter to 5%. Our total company declines, including Consumer, improved from 8.7% last quarter and mid-double digit several quarters ago to 7.9%. Clearly, we're improving.
Moving to Slide 6. I'd like to share how all of this impacts the revenue trajectory for the second half of the year.
First, I should let you know that while our average selling headcount has been declining through the second quarter, I'm encouraged that we saw stabilization and increase in quota-bearing reps in July as we gain traction in our recruiting efforts.
Going forward, we expect new sales reps that we hire will take 6 months or so to become fully productive. This means that any ramp-up in headcount over the next several quarters would lower the total blended productivity per rep, although we expect this effect should be largely offset by continually improving productivity amongst the tenured reps that we have. We've talked about our aspiration to get our Business segment to flat on a quarterly sequential basis this year.
Because of seasonality, which tends to lower Q4 revenues, our best chance to make it happen this year is in Q3, this quarter. This is going to be close. If we don't get all the way there in Q3, it will likely happen a quarter or 2 into next year. Once we reach the inflection point, as we've said before, we should expect that we could show nominal increases or declines for a few quarters before we pull away into ongoing growth as our revenue base shifts to a richer mix of growing products. When I step back from the quarterly minutia, I remain incredibly encouraged as we started with the Business segment that was declining in the double-digit percentages. I think we're clearly making progress in improving that trajectory.
There's still a lot to do and there could be more bumps, but we fundamentally and strongly believe we're headed in the right direction.
In the meantime, as noted on Slide 7, we continue to generate significant adjusted EBITDA and unlevered free cash flow. We generated $66 million and $42 million, respectively, in the second quarter.
Both these numbers are inclusive of the $8 million in items I mentioned earlier, which are recorded in cost of revenue. Normalizing for the impact of the USAC accrual, our guidance remains roughly unchanged for the full year. We remain focused on cash flow at EarthLink and believe that driving to a growing top line will allow our cash flow to be sustainable.
I'd like to ask Joe to provide his regular quarterly update on our integration process. But before I do that, actually, I think it's interesting to note that a few of the analysts that cover us and our few key investors, who are really smart people and whose opinion we value, have suggested we stop talking about integration because we're already getting credit for it going smoothly.
While I appreciate that perspective, I believe our integration activities are at the very center of our ability to be successful with our new products and our new sales motion. I don't know how much credit we get for the integration, but I do believe it's really important to continue to share progress updates with this audience. I think the owners of this company should have a sense of the massive amount of work and complexity required to pull together 7 or 8 companies. And because we're committed to doing this the right way, a new platform will create a differentiated customer experience for us. So we're going to keep talking about it until we believe we're on the other side of this, so Joe?
Joseph M. Wetzel
Thanks, Rolla. As we do each quarter, I'd like to provide you with a sense of how we're performing against our integration objectives, on Slide 8. We continue to make progress on our objectives and has some significant deliverables coming up over the next several quarters as we consolidate multiple large systems into a single-platform environment.
I think you'll continue to see, as you have this quarter, a shorter list of larger and more complex milestones as opposed to a longer list of smaller integration items. From a milestone perspective, we completed the following key deliverables in the second quarter or in July. We launched the first phase of our new order management platform, which provides a unified order management capability nationally.
This is the first key step in the overall launch of our order management platform. We now have a uniform sales flow tool across all retail sales groups nationally and have it integrated into the existing quoting and order platforms, which will migrate late this year.
Since launch, we have been having incremental functionality to that tool. We launched several upgrades and enhancements to our myLink service, self-service customer control point, including the integration of IT services to enable users to seamlessly access all of their EarthLink Business Services to be at one interface. You saw our myLink demo during our recent Investor Day. We're making a substantial investment to enhance and simplify the experience for our customers. We think myLink has a distinct advantage in the space, and you'll continue to hear more about this in the coming quarters. We launched the integrated Oracles Financials platform, which will be utilized as a general ledger as well as for procurement and expense reporting across the combined company. We launched the new integrated cost management platform to better manage our cost of goods sold. We moved all of our wholesale switch traffic to an integrated profit protect platform, which contributed to revenue growth in the carrier business. We completed the integration of the final NOC into our 2 integrated NOC facilities. And lastly, we integrated all of our commission plans for sales reps. Rolla mentioned earlier that churn continues to fall, a lot of reasons for this, but one is that our integration activities continue to yield operational performance improvements. In addition to the churn reduction, this quarter, we experienced improvements in customer service in billing credits, which were 13% lower than Q1. Additionally, we are becoming more efficient at repair processes as our cost per repair ticket improved 6% over last quarter.
Integration is a lot more than IT back office. It involves process improvements, changes in management practice, corresponding investment in the network and overall better control over lifecycle experience that are customers count on. Looking forward, we'll have integration deliverables through 2012 and into 2013.
Over the next 2 quarters, we plan to do a number of things, including completing the major provisioning and inventory consolidation, reducing the number of environments we work with by over 50%. Basically, reducing the OSS platforms by 2. Complete the unified quoting capability, reducing the quoting environment that our sales folks use by 70%. We're going to implement unified order management for EarthLink Complete and legacy products. We'll be implementing unified trouble and repair management tools, and we continue to enhance myLink with the integration of statistics and performance monitoring tools, self-service tools for ordering and repair facilitation in support of EarthLink's new IT services offerings. As I discussed during our Investor Day presentation, we view this integration as an opportunity to build a sustainable platform that is scalable and extensible for new products and services not currently in place. We are literally transforming our assets from the ground up. It is a long and complex process when you take care to do it the right way, but our competitors are not driven to make these investments. When complete, the integration will be a strategic differentiator in the industry.
Brad will now spend a few minutes diving deeper into our financial results and guidance. Brad?
Bradley A. Ferguson
Thanks, Joe. As you can see on Slide 9, during the second quarter, we generated adjusted EBITDA of $66 million, which was down from $78 million in the first quarter of 2012 and $89 million in the second quarter of 2011. EarthLink's net loss during the second quarter of 2012 was $1 million or $0.01 per share. As Rolla mentioned, the adjusted EBITDA and net income were both negatively impacted by the just over $8 million of nonrecurring items during the quarter, the largest of which relates to the Federal Universal Service Fee Audit.
Moving to Slide 10, you can see that our balance sheet continued to remain strong. We ended the quarter with $258 million of cash and marketable securities and we have $625 million of gross debt outstanding and an undrawn $150 million revolving line of credit. And our net leverage ratio is just over 1x adjusted EBITDA.
We have just over $90 million of share repurchase authorization, which we'll continue to use opportunistically. In the second quarter, we repurchased approximately 700,000 shares at an average price of $7.37 per share.
The key sources and uses of cash are outlined on Slide 11. During the quarter, we made $30 million in semiannual interest payments, spent $25 million on capital expenditures and also returned $5 million to shareholders through dividends, in addition to the $5 million we spent on share repurchases.
Now I'll discuss some of the operating results and metrics in a little more detail. Moving on to Slide 12. Total revenue for the second quarter of 2012 was $338 million, which consisted of $257 million of Business Services revenue, or 76% of total revenues, and $81 million of Consumer revenue. Business Services revenue decreased just 1% compared to the first quarter of 2012. Business segment declines are moderating due to improvements in customer churn compared to historical tends, a stabilization of new bookings and a continually improving product mix.
Consumer revenue decreased $3.4 million from the first quarter of 2012, an improvement of $4.7 million sequential decline a year earlier. The Consumer business has been flattening for several years now and we expect this trend to continue.
Turning to Slide 13. We continue to see an increasing portion of new bookings go to products that are in secular growth in the marketplace. I'll focus on the top half of the page, which includes monthly recurring revenues and excludes usage base revenues. New bookings on our growth products, which as a reminder were just launched in the last couple of quarters, have now risen the 37% of our total Business segment bookings. At the same time, the portion for POTS and legacy declining CLEC products continues to shrink.
Our salespeople are having an easier time selling the new product portfolio, and despite some of the macroeconomic headwinds, which at times can delay decision cycles, they are continuing to find receptive prospects and customers.
In the second quarter of 2012, Business revenue churn was 1.4%, down 10 basis points from the most recent 2 quarters and 20 basis points from the year-ago quarter.
These early signs of both the sales product mix and churn improvements tell us that we are moving in the right direction.
In the Consumer segment, the churn rate was down to a record low of 2.3% and net subscriber losses were 51,000 in the second quarter of 2012, which was down from 55,000 in the first quarter of 2012 and 79,000 in the second quarter of 2011. Our total cost of revenue was $168 million in the second quarter of 2012. This was higher than the prior periods, driven by the $8 million increase in the reserve referenced earlier. Excluding this item, our gross margin rate would have been approximately 53%, down slightly from the 53.7% rate we saw in the first quarter of 2012.
As we've discussed in prior quarters and at our Investor Day, total company gross margins rates will continue to contract slightly due to the overall shift in mix of Business Services. However, we believe this can be favorably impacted over time as we begin to layer on higher-margin IT services.
Selling, general and administrative expenses were $106 million for the second quarter, down from $110 million in the first quarter of 2012. These expenses were favorably impacted by our lower-than-planned selling headcount.
Now for the financial outlook for 2012, which begins on Slide 14. For the full year 2012, we are projecting adjusted EBITDA of $275 million to $285 million. We've reduced our adjusted EBITDA guidance by the amount of the reserve we made in Q2. As this audience appreciates, the nature of our business is that there's always some volume of disputes taking place with vendors, customers, tax jurisdictions or for other unique circumstances, such as a negotiation around dollars that we have placed in escrow related to a prior acquisition.
With the exception of the second quarter, most of the onetime items we've had historically have typically skewed in our favor. We'd expect to have some amount of noise in the numbers going forward due to similar type items and do expect that they would not be to the degree or magnitude that we've had in Q2. Additionally, I'd like to provide some insight into our expected quarterly trends.
First, Business usage volumes are seasonally low in the fourth quarter, therefore we expect, all else equal, this would cause Q4 revenue to be narrowly lower than Q3. Additionally, we expect to ramp our sales in IT services investments throughout the remainder of the year. In other words, we'd expect our operating expenses to be higher in Q3 than in Q2 and then, again, higher in Q4 than Q3.
Normalizing for the impact of our out-of-period reserves, these 2 factors will combine to cause adjusted EBITDA to decline several million dollars each quarter. We should simultaneously see continued progress in our top line approaching the inflection point.
For the full year 2012, we're projecting capital expenditures of $115 million to $125 million, just $10 million lower at the top end of the range than our previous guidance. Approximately 2/3 of the capital spend is variable and driven by sales volume. For the full year 2012, we are projecting a net loss that ranges from $4 million to $1 million. A reconciliation of our adjusted EBITDA guidance to our net income guidance is provided on Slide 21.
I'd now like to turn things back over to Rolla for some concluding remarks.
Rolla P. Huff
Thanks, Brad. I'll finish up on Slide 15. Not everything went our way in the second quarter but many, if not most things, did. We know that it's still very early in our transformation and that while the road will have a few bumps in it, we believe we're building something that will create value, particularly when overlaid against our starting point. Integration of multiple companies is difficult work and transforming a product focus and distribution motion to making a shrinking company grow is equally difficult. Doing both at the same time comes with some risk and it may not always go as fast as I want to, but everything we see tells us we're right on track to making it happen. We recognize that the scale of sales motion requires an upfront cost in advance of the new recurring revenues. This will have an impact on our margins over the next several quarters, but as the market begins to view our company differently, we're excited about the value creation opportunity.
With that, operator, let's open up the lines for questions.
Question-and-Answer Session
Operator
[Operator Instructions] And your first question comes from Barry McCarver with Stephens Incorporate.
Barry McCarver - Stephens Inc., Research Division
So I guess first question on the guidance kind of going forward for the rest of the year, you lowered that EBITDA range by $10 million even though the accrual was just a little over $8 million. Can you give us an idea, is that additional reduction have to do more with the sales rep and the number of headcounts you'll have in the second half of the year? Or has there been any change in the demand you're seeing for your services?
Bradley A. Ferguson
Yes. I mean, really that the guidance is for rounding basically on the accrual. I mean, that really is the difference of the change we made. And I think we've given the insight of what we're seeing in the business. Certainly, the reps aren't where we thought they were, but we're ramping that up in the back half of the year in addition to our investments in the IT services. So really the change in the guidance was really driven by the USAC accrual.
Barry McCarver - Stephens Inc., Research Division
Okay. And then on Slide 13, where you talk about the sales metrics, where they are today, which is where they've been in the past, I'm assuming that, that includes renewal contracts not just actual new customers, and I'm wondering what the sales mix looks like for a completely new customer of EarthLink, are growth products, an even higher percentage of the sales mix for new entry?
Rolla P. Huff
I think that the improvement that we're seeing in productivity is really being driven by the new products that are out there. It's not account management. It's really new products and new accounts where...
Bradley A. Ferguson
It's not renewals.
Louis Alterman
Barry, it's Louis. If we expand the customers, so if they're a $10,000-a-month customer, we turn them into a $15,000-a-month customer, we might count $5,000 of that as a sale in this metric. But otherwise, this is new sales.
Joseph M. Wetzel
And there is no spike, right. We're always renewing customers, so if you think about the relative change, it's a new activity.
Rolla P. Huff
There is no question we're seeing our product suite be more relevant in the marketplace. And so if a sales rep can get through because remember we launched all of these new products on a legacy OSS -- or 5 legacy OSS platforms, which is really the complexity that we talked about. It's going to get better very quickly as we exit this year, and we've launched integrated quoting tools. But today, to get quotes out and doing it across 5 platforms, you either have institutional knowledge or you don't get very much done. And that's really where we've been suffering.
Barry McCarver - Stephens Inc., Research Division
And within that growth products category, can you give us a little color on where the most demand is coming from? Are you seeing it more on the data center side or more in the network side?
Rolla P. Huff
We're seeing it, I would say, on our Hosted Voice platform is the first area. We're seeing it on the MPLS, our nationwide MPLS. And we're seeing a lot of virtualization services that are being sold. We're just expanding our virtual desktop. We're putting, I think, a lot of very relevant products out in the marketplace. But the one thing that we're seeing is that it's not like an integrated T1 motion where you're knocking on the door and turning it up 15 days later. You're sitting and helping IT organizations figure out how to virtualize their applications, and that just takes a little more time.
Operator
And your next question comes from Mike Crawford with B. Riley.
Michael Crawford - B. Riley & Co., LLC, Research Division
Thanks for disclosing that the growth products were 37% of new bookings. Did you give the total booking number?
Bradley A. Ferguson
Didn't, but you can do the math on that with the average sales reps. It's around $3 million.
Michael Crawford - B. Riley & Co., LLC, Research Division
Okay. And relating to new monthly recurring revenue, is that what you would say, so it's about $1 million a month?
Bradley A. Ferguson
That's right.
Michael Crawford - B. Riley & Co., LLC, Research Division
Which has been pretty consistent, I think, for the past 6 or 7 months, yes?
Bradley A. Ferguson
Yes, higher productivity and lower number of reps.
Rolla P. Huff
Yes, I mean, the thing that I feel good about is we that haven't seen bookings drop because we're dropping sales headcount, which speaks directly to the relevancy of our products. What we have to do better is be able to onboard new people and get them up the productivity curve, but frankly, my real view is that that's not going to happen in any meaningful way until we get this new platform in place. And frankly, Mike, I think we have to really be measured about how much we want to invest in teaching a new rep how to survive on 5 legacy platforms. And we're turning a bunch of them off at the end of the year. So that's the dynamic that's happening right now.
Michael Crawford - B. Riley & Co., LLC, Research Division
And just to remind me with the cost synergies you've attained so far and expect to attain, what's going to be the difference in the operating expense and productivity once you're down in just one operating platform?
Rolla P. Huff
Well, first of all, we think that we'll be able to have more sales motions going to drive productivity. We've seen the cost synergies that we expected, but we've been investing those cost synergies and creating a new business around IT services. So we're in the process right now -- in the second half of the year, we're going to deploy 25 IT services consultants across our footprint to help our salespeople with developing solutions with customers. So we're investing in this motion. We just think that it's an incredible opportunity for us.
Michael Crawford - B. Riley & Co., LLC, Research Division
Right. And then on kind of a bigger picture, M&A, capital allocation fund, you've made no secret of the desire ever since you've joined to acquire more fiber to bring the network into these businesses that you're pursuing. If you're to overlay network in the areas, say in the southeast and northeast where you already have a good footprint, what kind of synergies would you expect to be able to take out that type of operation compared with what you were able to do with Deltacom and ONE Comm which were really in different geographic locations?
Rolla P. Huff
Well, I'll take you back to our Investor Day. I don't know that I would describe it as we's are laser focused on acquiring more fiber. What we're focused on is acquiring customer relationships less expensively than buying the customers one at a time. If we can do that, that becomes interesting to us. We're interested in adding anything to our IT services platform that helps to continue to drive that business to be more competitive in the marketplace. And then thirdly, and probably on a smaller scale, we continue to look at technologies out there around things like myLink that will propel us, but I think the likelihood is we won't buy those technologies. We'll more likely license them. But I never say never, but those are sort of the 3 things. So I don't know that it would be a fair assessment to say that we're -- you've seen us buy 2 old CLEC models and 5 IT services businesses that were on the smaller side. I think, I just can't put it in strong enough terms, we think the IT services opportunity is off the charts big and we're going to really focus on that motion. And if we can get fiber with it that drives our cost structure down, all the better but it's customer relationships and making our IT services better, that is what we're totally focused on.
Michael Crawford - B. Riley & Co., LLC, Research Division
Okay. And then last question regarding Joe's departure. Given that there was a new employment agreement entered just less than a year ago and now there's an 18-month severance, it seems like this was not planned. So is there something that's changed in the last couple of months or is there anything else you can comment on that?
Rolla P. Huff
No. I think the story of EarthLink over the last 5 years has been that we really try to focus on getting the business better and the needs of the business change over time, and we've -- Joe has been so important to us in driving constant cost optimization before we had any chance of growing. And then this integration has been hugely complex. I think the employment contracts mine is the same. They're renewed unless we choose not to renew them, but it wasn't the right time to think about that 6 or 9 months ago. So this is a forward-thinking move, which is what we've been doing for 5 years in this company. It's just part of, I think, what has made this company perform the way it has, so nothing new that happened. I think Joe and I have been looking 12 months ahead for the last 5 years.
Operator
And your next question comes from Donna Jaegers with D.A. Davidson.
Nick Yu - D.A. Davidson & Co., Research Division
This is Nick here for Donna. Just a quick question on Joe's departure. Does that -- so with Joe leaving, does that prevent you from doing any other sort of like larger acquisitions in the future or kind of what would you plan on that?
Rolla P. Huff
No. Clearly, not. We've got a great executive team in this company. We've got Jim O'Brien managing infrastructure. He was a Chief Operating Officer when we bought Deltacom. Mike Toplisek has an enormous amount of experience. Kevin Brand is going to run all of our customer operations. He's done that for years and years and years on our Consumer business, and we've seen how that has turned out. And I've got Joe's mobile number, his home number, I know where he lives and I fully intend to have him involved in the business in 2013. But this is really about understanding how we need to streamline our business and the need for the role that Joe had before. And I tell you, there's been a lot of people like Joe that have done incredible things for our company, but the needs of the company evolve to a different place. And it's just a recognition of that, and he's been proactively involved in this planning.
Joseph M. Wetzel
And another important point. Just the systems infrastructure should allow us actually to be M&A easier. I mean, we'll have a scalable platform...
Rolla P. Huff
Absolutely. There's going to be an ongoing legacy around that's associated with this new platform. We are -- the integration work, if we buy similar companies, will be worlds easier for us.
Joseph M. Wetzel
Yes. I'll just add that we're designing our integrated platform for basically a lot of flexibility to enable us to bolt on a lot of different kinds of revenue streams. The value of many of these acquisitions, as Rolla said, is in the customer relationships, and the customers expect, for example, their experience to be seamless with us. So the operating platforms have to enable us to be seamless. And that's the design, and the expectation is that they'll have a long life, enable us to differentiate ourselves in the market.
Rolla P. Huff
I've been telling our folks here at EarthLink who are just -- their tongues are hanging out right now because of the complexity that we've put on them for this period of time before we launch our new platform that effectively we made the call 2 years ago that we needed to skate where the puck was going to be. And so in other words, we're going to a platform that supports where our company needs to go. We're not looking at it as just trying to glue 2 CLECs together because our intention has never been to continue to be a CLEC. It just so happens we'll support those network businesses, but this is going to be a core platform for our future product that I don't think anybody in the marketplace is going to touch, at least for a long time.
Nick Yu - D.A. Davidson & Co., Research Division
Okay. And just another quick question on the timing of the audit. So is that pretty much finishing up or is there still some more room left to go on that? And also, so $8 million that you're taking, is that basically what you're expecting that Deltacom will have to pay in those fees to USF?
Bradley A. Ferguson
Yes, on the timing, we expect to know more just on the back half of the year, really towards the end of the year should have some clarity, but again these things can take some time. And then as far as the amount, I mean, this is really our best estimate based on the facts that we have. Certainly, if we thought it was going to be more, we would have booked more. But this is really our best estimate of what it is and what we think it is.
Rolla P. Huff
I might add there's a lot of work and investigation that goes into this, but we're hearing what they're telling us and our choice really was to keep working with them and showing them the assumptions that were made that supported what we collected and not saying anything about it or telling you what we knew, and it's not terrific for our negotiating power, but I think we've always tried to be transparent with everybody. And this is the amount that we thought best represented the potential liability. So -- we told you about it...
Bradley A. Ferguson
But we're squarely right in the middle of it. Started at the end of last year, and again these things can take a year or more.
Nick Yu - D.A. Davidson & Co., Research Division
And just one final question on the size of your sales force. So you were saying that you're planning on doing some more ramps than you saw new hires in July. Is there a target goal of kind of reaching to where you were in the first quarter? Or is it just kind of free flowing right now?
Rolla P. Huff
That's a great question. Our target is to ramp as many reps as we believe we can make productive. And there's an ongoing dialogue and choice that's being made about the most productivity we can get out of $1 sales expense. And so, as I mentioned during our Investor Conference, we are investing in SEM and SCO. We're investing in developing a more robust bar channel. We're investing in inside sales. So we're going to allocate sales dollars to that channel that gives us the best and most cost-effective productivity. I'm not compelled to choose it before we see where we get the best results. So that's how we look at it. The one thing that I do know is I'm not going to keep unproductive salespeople. It's just a burden that we just don't need.
Operator
Your next question comes from Mark Kelleher with Dougherty & Company.
Mark Kelleher - Dougherty & Company LLC, Research Division
My questions have been asked and answered.
Operator
Your next question comes from Kobe Finnicel [ph] with Cowen & Company.
Unknown Analyst
So 2 quick questions. First, I don't know how much you'll be able to comment, but we've heard that one of the larger neutral colocation providers that has assets in the United States are looking to sell part of their portfolio and we've actually heard that EarthLink could be one of the companies taking a look at that. I was wondering maybe you could comment more broadly on where mutual colocation-type datacenters would fit in your overall strategy, if at all. And then also considering you would most likely have to pay a sizable premium relative to where you're trading, how important to that strategy it is considering it would be most likely dilutive? And then the second question I have for you, and it's just kind of a repeat that was already asked, but the charges related to ITC^Deltacom, did that come up during the due diligence process when you're acquiring that company? And if so, is the price that you kind -- or the charge at that you kind of noted today in line with what that would have been when you did the deal? And what is the confidence level that it may not -- that it can't get bigger than the $8 million that you're putting out today? Or do you feel pretty confident that at the end of the day that is most likely going to be the number?
Rolla P. Huff
Sure. So as it relates to data centers, I think that we look at data centers not as so much as a space and power type of business that we are anxious to get into. But clearly, our cloud instances and our IT platform overall that having data center infrastructure is relevant to us. And I said a long time ago, we look at everything out there. If you've heard the rumor that we're looking at something, it's probably true. There's been a lot of these kinds of deals that have gone off and we haven't bought them, but really, it's a -- everything from where we trade today looks dilutive without exception. There's nothing that we look at that just given the valuation multiples that we trade at look dilutive. The issue is whether we can get a return on the investments that we make and we try to be very focused on that, so that's how we think about it. We've got 4 data centers right now. They're all in the east. They're fairly small data centers because, as I said, we're much more focused on the virtual platform and managed types of hosting activities, but we've got nothing in the west. So obviously, we're going to be looking at those kinds of things, but that's probably the most that I can say about it. We look at everything. Around the charge and the due diligence, just hesitate to talk a lot about this because it just doesn't make our negotiating position a whole lot better. This was really about their judgment of what we should be collecting in packages of services that Deltacom was selling versus the judgments that were being made by Deltacom. When we have gone out and done diligence, we focus on making sure that everybody was caught up on their payments that there wasn't some big liability that where they hadn't been -- they had collected and hadn't been remitting. We look at what they were doing around products and packages and thought that they were reasonable. I think USAC looks at -- we look at a wide variety of companies and especially on these bundled packages come to a view of what they typically see in terms of components of the packages that are eligible to -- or that they should be able to get a USF fee from.
And we're just in different places right now. But given the fact that they've taken that position, we felt like we wanted to get out there and we think that the number that we put out there is the right number. If we really thought it was going to be $12 million, we would have accrued $12 million. I mean, we're going to you with $8 million, so there's not a reason to cut it at the edges. It's based on what they've told us, this is what we think the liability will be. And nobody has asked the question, but just so that you know, we've gone back into the ONE Comm bundles. New Edge never really had bundles and we actually had been through an audit with USF around on New Edge recently. So I think this is the -- this is our best estimate of the exposure.
Unknown Analyst
Okay. So I guess what you're saying is it's across the entire EarthLink platform that you guys have actually gone and looked at the other assets and those seemed to be okay.
Rolla P. Huff
Yes. USAC is auditing Deltacom. But as soon as this issue came up, we went back across the whole platform and said, "okay, is their assumption going to cause us an issue someplace else?" And to the best that we can see, we think this is really more confined around Deltacom, and we're looking at the total impact even though -- these decisions were made by Deltacom years ago. And it was -- they were really decisions around what they believed we needed to collect USF for. So...
Operator
And your next question comes from Scott Kessler with S&P Capital IQ.
Scott H. Kessler - S&P Equity Research
Well, just to continue the conversation about the $8 million audit item. When are you going to get some certainty as to whether or not that is the correct number? I mean, is that a 2012 confirmation or could this go on beyond then?
Bradley A. Ferguson
Yes. So our expectation is they're on the back of the year, really towards the end of the year we should know something. I think the expectation is coming into the audit. These things take about a year to complete, but we've hired outside advisors that have helped companies through these audits, and it's a slow, grueling process. And we came to this number with their consultation too. So we just really felt like we needed that -- you needed to know as much as we knew.
Scott H. Kessler - S&P Equity Research
Great. And I appreciate the additional information related to the sales reps and the productivity. And I'm wondering, and obviously it's a little early perhaps to be providing some specifics around 2013. But I'm wondering how you think about the company in the context of growth? Obviously, you guys have been seeing, let's say, decelerating declines in revenue as you've been, let's say, rationalizing and reinvesting in businesses and repositioning your operations. I'm wondering, if you look at 2013 as a growth year for the company in that respect?
Bradley A. Ferguson
Yes. So going back to just what we talked about in the Investor Day and what Rolla said today, certainly, the sequential quarterly growth, it's going to be close. We've got a shot out here in Q3. But otherwise, it will be -- we expect it earlier in 2013. And really, year-over-year, we'll be reaching that inflection point, 2013 compared to 2012. What I said in Investor Day is that, that could be approaching flat but could be slightly negative when you just look year-over-year or slightly positive, but that's how we're thinking about things. Again, continuing to make progress, what you saw this quarter. And the sequentially quarterly growth, do expect to hit that again either this quarter or in the early 2013.
Louis Alterman
And we said that's the Business segment. So for the total, total revenue is going to be down. We said that they're going to be in the mid-single digits next year.
Rolla P. Huff
We're very focused on the top line growth. And somebody had asked earlier on the call about M&A and how we're thinking about that. I'm going to hesitate in a very big way to do something that will slow our ability to grow. So buying things that accelerate the ability to grow will be much more attractive to me than buying something that's been going backwards and trying to slow down the rate of decline. We're close enough now that it's just, from my perspective, I don't want to take 3 steps back anymore.
Bradley A. Ferguson
Scott, I'd just refer you back to the Investor Day charts where we did kind of lay out how we're looking at the top line and what that happens both for Business Services, Consumer and the total company over the next couple of years.
Scott H. Kessler - S&P Equity Research
Right. And I just wanted, I guess, to make sure that your views are essentially consistent or if there was maybe any refresh related to the way you think about growth for next year. So thanks for that clarification. And I guess the last question I had, and I think this was alluded to, to some extent, but I just wanted to make sure I understand. So the detail related to sales productivity I think is really helpful. Do you see a ramp potentially in sales productivity just given the fact that now, obviously, you've trained and retrained a lot of the sales force, you have a number of new products that have been released over the last 6 to 9 months. Can you give us a sense of where you see that perhaps going over the next year or so?
Rolla P. Huff
We think that the reps that are tenured, we will see productivity continue to increase just like we have been seeing. Our reported productivity, if we're successful at bringing in new reps and starting them up the productivity ramp, the fact that they ramp over 6 months will dilute the absolute productivity. Now if we're not successful on onboarding reps, then productivity will continue to increase. But I think that given how close we are around the integrated platform, our ability to get in and start recruiting people that will really be trained on the new platform and not burden them with trying to get productive on the old platform, I think we're going to be able to see at least a stabilization and likely a steady increase in people that are selling for us.
Louis Alterman
Yes. I think we're out of time.
Rolla P. Huff
Well, I'll just close. Thank you, everybody, for listening today and for your continued support of EarthLink. There should be no doubt, we continue to be very excited about the progress that we're making to building a new company. I felt like we really had a strong operational performance in the second quarter. Our products are in demand in the marketplace. And we feel good that we've got the resources and the things in place to continue to be extraordinarily relevant in what we believe is a market that's in the process of exploding. So thanks so much, and have a great day. Take care, everybody.
Operator
This concludes today's conference call. You may now disconnect.
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