Sprint and EarthLink change alliance terms

EarthLink and Sprint reworked the terms of their 1998 alliance Friday so that both parties are open to third-party agreements. An analyst upgraded EarthLink on the news, and suggested a deal with Microsoft could be imminent.

Shares of Internet service provider EarthLink (Nasdaq: ELNK) were up $0.59 to $9.5, or 7 percent on the Island ECN in pre-market trading. Long distance company Sprint (NYSE:FON) saw shares close down $0.62 to $24.65 Thursday.

The companies said they have ended the exclusive terms of the alliance and Sprint's right to acquire EarthLink, which was set to start in September 2001. Sprint will keep the right to respond to third-party acquisition offers with an acquisition offer of its own, the companies said.

The deal was struck back in the days when dial-up was the only thing to consider; EarthLink may now be looking for agreements with other companies to boost its DSL and broadband business.

On a conference call, analysts pestered the company regarding what kind of deals it would now make, and how soon they will come about. EarthLink CEO Garry Betty said it's hard to say, since the Sprint agreement has scared off other companies from discussions for the past three years.

When the companies first partnered three years ago, EarthLink's alliance with Sprint was seen as a boon. By partnering with Sprint, EarthLink could gain credibility and subscribers by hanging out with a well-established long distance giant. Excite@Home made a similar move with AT&T and other cable giants. Dot-coms and their established partners are rethinking terms since Internet valuations have plunged and companies have been forced to seek other options and partners.

EarthLink has also said it will take a noncash charge of $11.3 million for the changes in the first quarter to write off intangible assets from the alliance.

Sprint will continue to own shares of EarthLink, but it has given up seats on the company's board. Other changes include the removal of the requirement that the companies co-brand their Internet offerings, and changes to the customer acquisition commitments.

In the short term, Sprint will continue to market the EarthLink Sprint co-branded service to its dial-up customers, but in the future, it may market EarthLink's Internet application as Sprint services.

Sprint generally cannot increase its ownership percentage of EarthLink, but it does have the option to maintain its current position whenever EarthLink issues new shares.

Jefferies & Company analyst Frederick W. Moran upgraded EarthLink Friday on the news. He lifted his rating to "buy" from "hold," and raised his price target to $15 from $12.

The analyst also said that based on several recent developments, he believes a strategic transaction between EarthLink and Microsoft (Nasdaq: MSFT) may be imminent. Given the AOL Time Warner (NYSE: AOL) merger, Microsoft's MSN will need to enhance its ISP operations in order to compete. MSN's heavy efforts to grow ISP subscribers over the last year, combined with its recently announced plans to revoke its $400 rebate program and today's announcement of the amended terms of the EarthLink-Sprint alliance, are all evidence the two could partner, Moran said.