2HRS2GO: Juno poised to benefit from free ISP losses

Did anyone think this business model would last?

A news release this week confirmed what everyone affected already knew: WorldSpy is dead, and its subscriber base has been turned over to Juno Online Services (Nasdaq: JWEB). If you were a WorldSpy subscriber, you knew about it at least as early as a week ago, when WorldSpy sent you an e-mail telling you that your ISP, Web E-Mail, Lives, Fortunes and Sacred Honor had been pledged to Juno.

And if you were a regular or semi-regular user of WorldSpy, you got the inkling there might be some serious problems in early June. That's when the company's dial-up numbers outside of major cities started going down and the tech support number turned into a never-ending busy signal.

(Or at least that's what happened to me when I traveled to the East Coast a few weeks ago. I couldn't connect from various places in New Jersey and Pennsylvania, but I did get through from ZDNet's Manhattan office.)

Judging by WorldSpy's relatively paltry base of 260,000, most free Internet access customers probably never heard of the company, unless they happened to catch CNBC's short piece on it last night. That's too bad, because from a user's point of view, WorldSpy was the best one out there for one significant reason: no ads.

Yes, you could connect to the Internet for free, without putting up with any of those annoying pop-up windows. After learning about WorldSpy a few months ago, I used it whenever I left the service territory of my regular ISP, PacBell. I would have used WorldSpy as my permanent ISP if not for the fact that I like having DSL speed at 700+ kbs.

But the same thing that attracted me to WorldSpy doomed it. Instead of flashing users with screen-space-eating advertisements, the company pinned its ambitions on a special home page designed as a shopping portal. WorldSpy would get a cut of all purchases made through that website.

WorldSpy's private investors either wanted to cash out quickly -- which wouldn't be a surprise, given the sluggish market of late -- or the company didn't get enough shoppers, which wouldn't be a surprise either. Why would someone unwilling and/or unable to pay for the most basic of Internet expenditures -- that is, an ISP -- pay for anything else online?

Take it from this WorldSpy customer, you learned to ignore the company's homepage very quickly. Only shopping addicts would let offers for obsolete $299 desktops get in the way of their Internet business.

Update: After this column was posted, a spokesman for Sharon Rothstein, who was WorldSpy's last CEO, returned my call from this morning. The spokesman says the company was actually very pleased with its rate of user sign-ups and ability to convert them into shoppers.

According to the spokesman, about 10 to 15 percent of its 260,000 active users shopped on the site. Of those shoppers, roughly 25 percent were repeat buyers, the spokesman estimated.

Unfortunately, WorldSpy ran out of funding and couldn't secure more because of the soft market, the spokesman says. But WorldSpy remained pleased with its business progress to date, he says.

I have no reason to doubt the spokesman. Nonetheless, a business that runs out of funding seven months after launching service probably isn't generating enough cash to be a worthwhile investment.

WorldSpy's ad-less model is an extreme case, but it's not the only recent instance of a free ISP having problems. Freewwweb and its parent companies, Smart World Technologies and Smart World Communications, filed for Chapter 11 bankruptcy the day before WorldSpy shut down.

Freewwweb's collapse wasn't entirely unexpected either, since its executives publicly indicated concerns as early as April, in an Inter@ctive Week article.

So far, Juno seems to be the biggest beneficiary. Not only has Juno snapped up WorldSpy's list, but it also signed a deal to acquire Freewwweb's customers, although that could change if the bankruptcy judge orders Freewwweb to open up its list to competitive bidding.

I questioned Juno's free ISP strategy back in December, and I'm still not completely convinced it will be a long-term success. But back then, the stock was trading at 66 per share; at its current price of 11 and change, Juno gets more leeway from me.

Juno currently claims to be the largest provider of free ISP services in the world, and the second largest dial-up ISP provider period, behind America Online (NYSE: AOL). That scale, combined with market downturns that have soured the prospects of many Internet-related companies, make it easier for Juno to devour its free ISP competitors.

"We have not announced any formal (free ISP) roll-up strategy," says Lev Janashvili, director of investor relations for Juno. "But over the last couple of months, what we have seen is ... the cost of acquiring subscribers from other companies, especially privately-held companies, has become much more compelling."

For instance, the WorldSpy deal didn't hurt Juno's cash position at all, because it was an all-stock affair. It probably wasn't a lot of stock, otherwise Juno would have had to disclose the amount.

And you can safely assume that the cost of getting 260,000+ users through direct marketing would have been considerably more expensive.

Perhaps the biggest advantage Juno has over free ISPs is that much of its service isn't free. I wondered if Juno wouldn't end up cannibalizing its own paid subscriber base by offering free access, but instead the opposite has happened: at the end of the first quarter, Juno had 660,000 paid users, compared to 550,000 at the end of the fourth. About half of that growth came from subscribers converted from Juno's free access service, Janashvili says.

The company believes its multiple offerings provide a growth edge over its rivals.

"If a NetZero (Nasdaq: NZRO) user decides he wants a richer Internet experience, NetZero has nothing to offer them," Janashvili notes.

He hesitates to compare Juno to AOL, but he claims Juno's tiered offerings -- which run from free dial-up to $49.95 per month for DSL -- give the company a lower acquisition cost per customer than Earthlink (Nasdaq: ELNK) for paid users, or NetZero for free users.

Juno plans to decrease direct marketing expenses in the second half of this year. In the first quarter, customer acquisition -- which at the time was mainly direct marketing -- made up more than 93 percent of Juno's losses of $1.28 per share. Now that Juno is shifting toward basically buying up competitors on the cheap, those expenses should fall dramatically.

At least that's the idea. Should the market recover, the plan might not look as cost effective as it does now.

In any case, I remain unconvinced that any ISP business, free or paid, can be a fat profit generator its own. After all, no pure ISP currently traded on the public markets has been reliably profitable.

But -- how ironic is this? -- as long as the stock market stays depressed, Juno might be in a better position than most. 22GO>