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**UNITED STATES SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**x****     ****QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934**

 

**For the quarterly period ended September 30, 2008**

 

**OR**

 

**o****        ****TRANSITION REPORT PURSUANT TO SECTION 13 OR15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transition period from           to          .**

 

**Commission File Number: 001-15605**

 

**EARTHLINK, INC.**

(Exact name of registrant asspecified in its charter)

 

| **Delaware**                                                   | ** ** | **58-2511877**                       |
|----------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of incorporation or organization) |       | (I.R.S. Employer Identification No.) |

 

| **1375 Peachtree St., Atlanta, Georgia** |   | **30309**  |
|------------------------------------------|--------|------------|
| (Address of principal executive offices) |   | (Zip Code) |

 

**(404) 815-0770**

(Registrant’s telephone number,including area code)

 

 

(Former name, former address andformer fiscal year, if changed since last report date)

 

----

 

Indicate by check mark whether the registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days.  Yes x No o

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer or a smaller reporting company (asdefined in Rule 12b-2 of the Exchange Act):

 

See thedefinitions of “large accelerated filer,” “accelerated filer” and “smallerreporting company” in Rule 12b-2 of the Exchange Act.

 
| Large  accelerated filer x |   | Accelerated  filer o |   | Non-accelerated  filer o |   | Smaller  reporting company o |
|----------------------------|--------|----------------------|--------|--------------------------|--------|------------------------------|

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule 12b-2of the Exchange Act).Yes o No x

 

As of October 29, 2008, 108,362,551 shares of common stock, $.01 parvalue per share, were outstanding.

 

 

 

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**EARTHLINK, INC.**

**Quarterly Report on Form 10-Q**

**For the Quarterly Period Ended September 30,2008**

 

**TABLE OF CONTENTS**

 
| **Part I**                                                                                      |
|------------------------------------------------------------------------------------------------------|
|                                                                                                 |   |   |
| Item 1. Financial Statements                                                                         |   | 1 |
|                                                                                                 |   |   |
| Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of  Operations |   | 24 |
|                                                                                                 |   |   |
| Item 3.  Quantitative and Qualitative Disclosures About Market Risk                                  |   | 45 |
|                                                                                                 |   |   |
| Item 4. Controls  and Procedures                                                                     |   | 45 |
|                                                                                                 |   |   |
| **Part II**                                                                                     |
| ** **                                                                                           | ** ** | ** ** |
| Item 1. Legal  Proceedings                                                                           |   | 46 |
|                                                                                                 |   |   |
| Item 1A. Risk  Factors                                                                               |   | 46 |
|                                                                                                 |   |   |
| Item  2. Unregistered Sales of Equity Securities and Use of Proceeds                                 |   | 46 |
|                                                                                                 |   |   |
| Item 5. Other Information                                                                            |   | 47 |
|                                                                                                 |   |   |
| Item  6. Exhibits                                                                                    |   | 47 |
|                                                                                                 |   |   |
| Signatures                                                                                           |   | 48 |

 

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**PART I**

 

**Item 1. Financial Statements.**

 

**EARTHLINK, INC.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(in thousands, except per share data)**

 
| ** **                                                                                                                                                                                                                                                                                | ** ** | **December 31,** | ** ** | **September 30,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|------------------------|------------|
| ** **                                                                                                                                                                                                                                                                                | ** ** | **2007**              | ** ** | **2008**               | ** ** |
| ** **                                                                                                                                                                                                                                                                                | ** ** | ** **            | ** ** | **(unaudited)**        | ** ** |
| **ASSETS**                                                                                                                                                                                                                                                                                |
| Current assets:                                                                                                                                                                                                                                                                           |       |                  |       |                   |       |
| Cash and cash  equivalents                                                                                                                                                                                                                                                                |       | $                     | 173,827    |                   | $          | 432,539 |   |
| Investments in  marketable securities                                                                                                                                                                                                                                                     |       | 93,204                |       | —                 |       |
| Accounts  receivable, net of allowance of $6,422 and $4,486 as of December 31,  2007 and September 30, 2008, respectively                                                                                                                                                       |       | 41,483                |       | 28,198                 |       |
| Prepaid expenses                                                                                                                                                                                                                                                                          |       | 7,747                 |       | 7,603                  |       |
| Current assets  of discontinued operations                                                                                                                                                                                                                                                |       | 6,744                 |       | 1,076                  |       |
| Other current  assets                                                                                                                                                                                                                                                                     |       | 12,999                |       | 14,800                 |       |
| Total current  assets                                                                                                                                                                                                                                                                     |       | 336,004               |       | 484,216                |       |
| Long-term  investments in marketable securities                                                                                                                                                                                                                                           |       | 21,564                |       | 52,428                 |       |
| Property and  equipment, net                                                                                                                                                                                                                                                              |       | 57,300                |       | 42,911                 |       |
| Investments in  other companies                                                                                                                                                                                                                                                           |       | 62,923                |       | 14,129                 |       |
| Purchased  intangible assets, net                                                                                                                                                                                                                                                         |       | 46,276                |       | 36,581                 |       |
| Goodwill                                                                                                                                                                                                                                                                                  |       | 202,277               |       | 186,066                |       |
| Other long-term  assets                                                                                                                                                                                                                                                                   |       | 8,149                 |       | 6,391                  |       |
| Total assets                                                                                                                                                                                                                                                                              |       | $                     | 734,493    |                   | $          | 822,722 |   |
|                                                                                                                                                                                                                                                                                      |       |                  |       |                   |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                                                                                                                                            |
| Current  liabilities:                                                                                                                                                                                                                                                                     |       |                  |       |                   |       |
| Trade accounts  payable                                                                                                                                                                                                                                                                   |       | $                     | 28,808     |                   | $          | 14,875 |   |
| Accrued payroll  and related expenses                                                                                                                                                                                                                                                     |       | 32,055                |       | 29,810                 |       |
| Other accounts  payable and accrued liabilities                                                                                                                                                                                                                                           |       | 66,930                |       | 51,141                 |       |
| Current  liabilities of discontinued operations                                                                                                                                                                                                                                           |       | 15,930                |       | 372                    |       |
| Deferred revenue                                                                                                                                                                                                                                                                          |       | 44,626                |       | 36,097                 |       |
| Total current  liabilities                                                                                                                                                                                                                                                                |       | 188,349               |       | 132,295                |       |
|                                                                                                                                                                                                                                                                                      |       |                  |       |                   |       |
| Long-term debt                                                                                                                                                                                                                                                                            |       | 258,750               |       | 258,750                |       |
| Other long-term  liabilities                                                                                                                                                                                                                                                              |       | 25,921                |       | 19,896                 |       |
| Total  liabilities                                                                                                                                                                                                                                                                        |       | 473,020               |       | 410,941                |       |
|                                                                                                                                                                                                                                                                                      |       |                  |       |                   |       |
| Stockholders’  equity:                                                                                                                                                                                                                                                               |       |                  |       |                   |       |
| Convertible  preferred stock, $0.01 par value, 100,000 shares authorized, 0 shares issued  and outstanding as of December 31, 2007 and September 30, 2008                                                                                                                       |       | —                |       | —                 |       |
| Common stock,  $0.01 par value, 300,000 shares authorized, 186,490 and 188,104 shares issued  as of December 31, 2007 and September 30, 2008, respectively, and  110,547 and 108,356 shares outstanding as of December 31, 2007 and September 30,  2008, respectively |       | 1,865                 |       | 1,881                  |       |
| Additional  paid-in capital                                                                                                                                                                                                                                                               |       | 2,047,268             |       | 2,071,033              |       |
| Accumulated  deficit                                                                                                                                                                                                                                                                      |       | (1,184,119            | )          | (1,021,743             | )          |
| Treasury stock,  at cost, 75,943 and 79,748 shares as of December 31, 2007 and  September 30, 2008, respectively                                                                                                                                                                |       | (602,564              | )          | (634,420               | )          |
| Unrealized  losses on investments                                                                                                                                                                                                                                                         |       | (977                  | )          | (4,970                 | )          |
| Total  stockholders’ equity                                                                                                                                                                                                                                                          |       | 261,473               |       | 411,781                |       |
| Total  liabilities and stockholders’ equity                                                                                                                                                                                                                                          |       | $                     | 734,493    |                   | $          | 822,722 |   |

 

The accompanying notes are an integral part of thesefinancial statements.

 

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**EARTHLINK, INC.**

**CONDENSED CONSOLIDATED STATEMENTS OFOPERATIONS**

 
| ** **                                                    | ** ** | **Three Months Ended**                                   | ** ** | **Nine Months Ended** | ** ** |
|---------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                    | ** ** | **September 30,**                                             | ** ** | **September 30,**          | ** ** |
| ** **                                                    | ** ** | **2007**                                                           | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                                                    | ** ** | **(in thousands, except per share data)** | ** ** |
| ** **                                                    | ** ** | **(unaudited)**                                                    | ** ** |
|                                                          |       |                                                               |       |                            |       |   |   |   |   |
| Revenues                                                      |       | $                                                                  | 297,992    |                            | $          | 230,831 |   | $ | 934,005 |   | $ | 739,508 |   |
|                                                          |       |                                                               |       |                            |       |   |   |   |   |
| Operating costs  and expenses:                                |       |                                                               |       |                            |       |   |   |   |   |
| Service and  equipment costs                                  |       | 105,954                                                            |       | 86,917                          |       | 324,344 |   | 275,626 |   |
| Sales incentives                                              |       | 3,801                                                              |       | 699                             |       | 13,515 |   | 2,029 |   |
| Total cost of  revenues                                       |       | 109,755                                                            |       | 87,616                          |       | 337,859 |   | 277,655 |   |
|                                                          |       |                                                               |       |                            |       |   |   |   |   |
| Sales and  marketing                                          |       | 71,584                                                             |       | 22,191                          |       | 246,653 |   | 78,913 |   |
| Operations and  customer support                              |       | 54,561                                                             |       | 34,048                          |       | 174,525 |   | 106,914 |   |
| General and  administrative                                   |       | 28,652                                                             |       | 23,316                          |       | 101,344 |   | 72,010 |   |
| Amortization of  intangible assets                            |       | 3,836                                                              |       | 3,153                           |       | 10,874 |   | 11,153 |   |
| Facility exit,  restructuring and other costs                 |       | 34,162                                                             |       | 1,078                           |       | 34,162 |   | 4,169 |   |
| Total operating  costs and expenses                           |       | 302,550                                                            |       | 171,402                         |       | 905,417 |   | 550,814 |   |
|                                                          |       |                                                               |       |                            |       |   |   |   |   |
| Income (loss) from  operations                                |       | (4,558                                                             | )          | 59,429                          |       | 28,588 |   | 188,694 |   |
| Net losses of  equity affiliate                               |       | (41,895                                                            | )          | —                          |       | (111,295 | ) | — |   |
| Gain (loss) on  investments in other companies, net           |       | (5,810                                                             | )          | 4,352                           |       | (5,600 | ) | 5,677 |   |
| Interest income  (expense) and other, net                     |       | 4,182                                                              |       | (490                            | )          | 11,282 |   | 366 |   |
| Income (loss)  from continuing operations before income taxes |       | (48,081                                                            | )          | 63,291                          |       | (77,025 | ) | 194,737 |   |
| Income tax  benefit (provision)                               |       | 30                                                                 |       | (7,924                          | )          | (365 | ) | (23,923 | ) |
| Income (loss)  from continuing operations                     |       | (48,051                                                            | )          | 55,367                          |       | (77,390 | ) | 170,814 |   |
| Loss from  discontinued operations, net of tax                |       | (31,330                                                            | )          | (681                            | )          | (48,243 | ) | (8,438 | ) |
| Net income  (loss)                                            |       | $                                                                  | (79,381    | )                               | $          | 54,686 |   | $ | (125,633 | ) | $ | 162,376 |   |
|                                                          |       |                                                               |       |                            |       |   |   |   |   |
| Basic net income  (loss) per share                            |       |                                                               |       |                            |       |   |   |   |   |
| Continuing  operations                                        |       | $                                                                  | (0.39      | )                               | $          | 0.50 |   | $ | (0.63 | ) | $ | 1.55 |   |
| Discontinued  operations                                      |       | (0.26                                                              | )          | (0.01                           | )          | (0.39 | ) | (0.08 | ) |
| Basic net income  (loss) per share                            |       | $                                                                  | (0.65      | )                               | $          | 0.50 |   | $ | (1.02 | ) | $ | 1.48 |   |
| Basic weighted  average common shares outstanding             |       | 121,864                                                            |       | 110,153                         |       | 122,772 |   | 109,895 |   |
|                                                          |       |                                                               |       |                            |       |   |   |   |   |
| Diluted net  income (loss) per share                          |       |                                                               |       |                            |       |   |   |   |   |
| Continuing  operations                                        |       | $                                                                  | (0.39      | )                               | $          | 0.49 |   | $ | (0.63 | ) | $ | 1.53 |   |
| Discontinued  operations                                      |       | (0.26                                                              | )          | (0.01                           | )          | (0.39 | ) | (0.08 | ) |
| Diluted net  income (loss) per share                          |       | $                                                                  | (0.65      | )                               | $          | 0.49 |   | $ | (1.02 | ) | $ | 1.46 |   |
| Diluted weighted  average common shares outstanding           |       | 121,864                                                            |       | 112,039                         |       | 122,772 |   | 111,534 |   |

 

The accompanying notes are an integral part of these financial statements.

 

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**EARTHLINK, INC.**

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

 
| ** **                                                      | ** ** | **Nine Months Ended** | ** ** |
|-----------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                      | ** ** | **September 30,**          | ** ** |
| ** **                                                      | ** ** | **2007**                        | ** ** | **2008** | ** ** |
| ** **                                                      | ** ** | **(in thousands)**         | ** ** |
| ** **                                                      | ** ** | **(unaudited)**                 | ** ** |
| Cash flows from  operating activities:                          |       |                            |       |   |   |
| Net income  (loss)                                              |       | $                               | (125,633   | ) | $ | 162,376 |   |
| Adjustments to  reconcile net income (loss) to net cash         |       |                            |       |   |   |
| provided by  operating activities:                              |       |                            |       |   |   |
| Depreciation and  amortization                                  |       | 40,803                          |       | 29,388 |   |
| Loss on  disposals and impairments of fixed assets              |       | 15,054                          |       | 6,255 |   |
| Net losses of  equity affiliate                                 |       | 111,295                         |       | — |   |
| Loss (gain) on  investments in other companies, net             |       | 5,600                           |       | (5,677 | ) |
| Stock-based  compensation                                       |       | 15,138                          |       | 14,319 |   |
| Income taxes                                                    |       | 206                             |       | 15,968 |   |
| Other  adjustments                                              |       | (51                             | )          | — |   |
| (Increase)  decrease in accounts receivable, net                |       | (1,588                          | )          | 13,269 |   |
| Decrease  (increase) in prepaid expenses and other assets       |       | 442                             |       | (6,466 | ) |
| Decrease in  accounts payable and accrued and other liabilities |       | (976                            | )          | (45,491 | ) |
| Decrease in  deferred revenue                                   |       | (5,797                          | )          | (9,364 | ) |
| Net cash  provided by operating activities                      |       | 54,493                          |       | 174,577 |   |
|                                                            |       |                            |       |   |   |
| Cash flows from  investing activities:                          |       |                            |       |   |   |
| Purchases of  property and equipment                            |       | (42,317                         | )          | (3,877 | ) |
| Purchases of  subscriber bases                                  |       | (6,501                          | )          | (880 | ) |
| Proceeds from  sales of fixed assets                            |       | 36                              |       | — |   |
| Investments in  marketable securities:                          |       |                            |       |   |   |
| Purchases                                                       |       | (337,835                        | )          | (53,027 | ) |
| Sales and  maturities                                           |       | 335,701                         |       | 109,929 |   |
| Investments in  and net advances to/from equity affiliate       |       | (48,913                         | )          | 65 |   |
| Proceeds  received from investments in other companies          |       | 1,417                           |       | 57,070 |   |
| Net cash (used  in) provided by investing activities            |       | (98,412                         | )          | 109,280 |   |
|                                                            |       |                            |       |   |   |
| Cash flows from  financing activities:                          |       |                            |       |   |   |
| Principal  payments under capital lease obligations             |       | (149                            | )          | (2,698 | ) |
| Proceeds from  exercises of stock options and other             |       | 5,676                           |       | 7,985 |   |
| Repurchases of  common stock                                    |       | (24,972                         | )          | (31,857 | ) |
| Other financing  activities                                     |       | —                          |       | 1,425 |   |
| Net cash used in  financing activities                          |       | (19,445                         | )          | (25,145 | ) |
|                                                            |       |                            |       |   |   |
| Net (decrease)  increase in cash and cash equivalents           |       | (63,364                         | )          | 258,712 |   |
| Cash and cash  equivalents, beginning of period                 |       | 158,369                         |       | 173,827 |   |
| Cash and cash equivalents,  end of period                       |       | $                               | 95,005     |   | $ | 432,539 |   |

 

The accompanying notes are an integral part of these financial statements.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED**

 

**1.  Organization**

 

EarthLink, Inc.(“EarthLink” or the “Company”) is an Internet service provider (“ISP”),providing nationwide Internet access and related value-added services toindividual and business customers. The Company’s primary service offeringsinclude dial-up Internet access, high-speed Internet access and web hostingservices. The Company also provides value-added services, such as search,advertising and ancillary services sold as add-on features to the Company’sInternet access services. In addition, through the Company’s wholly-ownedsubsidiary, New Edge Networks, the Company provides secure multi-site manageddata networks and dedicated Internet access for businesses and communicationscarriers.

 

TheCompany operates two reportable segments, Consumer Services and BusinessServices. The Company’s Consumer Services segment provides Internet access andrelated value-added services to individual customers. These services includedial-up and high-speed Internet access and voice services, among others. TheCompany’s Business Services segment provides Internet access and relatedvalue-added services to businesses and communications carriers. These servicesinclude managed data networks, dedicated Internet access and web hosting, amongothers. For further information concerning the Company’s business segments, seeNote 14, “Segment Information.”

 

**2.  Basis of Presentation**

 

*Basis ofPresentation*

 

Thecondensed consolidated financial statements of EarthLink, which include theaccounts of its wholly-owned subsidiaries, for the three and nine months ended September 30,2007 and 2008 and the related footnote information are unaudited and have beenprepared on a basis consistent with the Company’s audited consolidatedfinancial statements as of December 31, 2007 contained in the Company’sAnnual Report on Form 10-K as filed with the Securities and ExchangeCommission (the “Annual Report”).  Allsignificant intercompany transactions have been eliminated.

 

Thesefinancial statements should be read in conjunction with the auditedconsolidated financial statements and the related notes thereto contained inthe Company’s Annual Report.  In theopinion of management, the accompanying unaudited financial statements containall adjustments (consisting of normal recurring adjustments), which managementconsiders necessary to present fairly the Company’s financial position, resultsof operations and cash flows for the interim periods presented.  The results of operations for the three andnine months ended September 30, 2008 are not necessarily indicative of theresults anticipated for the entire year ending December 31, 2008.

 

Thepreparation of financial statements in conformity with U.S. generally acceptedaccounting principles requires management to make estimates and assumptionsthat affect the amounts reported in the financial statements.  Actual results may differ from thoseestimates.

 

*Discontinued Operations*

 

Inaccordance with Statement of Financial Accounting Standards (“SFAS”) No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets,” the Companyhas reflected its municipal wireless broadband results of operations asdiscontinued operations for all periods presented.  See Note 5, “Discontinued Operations,” forfurther discussion.

 

*Reclassifications*

 

Certain amounts in the prior periodfinancial statements have been reclassified to conform to the current periodpresentation.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

** **

*Recently Issued AccountingPronouncements*

 

In May 2008,Financial Accounting Standards Board (“FASB”) issued Staff Position No. APB14-1, “Accounting for Convertible Debt Instruments that May be Settled inCash Upon Conversion” (“FSP APB 14-1”). FSP APB 14-1 requires that theliability and equity components of convertible debt instruments that may besettled in cash upon conversion (including partial cash settlement) beseparately accounted for in a manner that reflects an issuer’s non-convertibledebt borrowing rate. The resulting debt discount is amortized over the periodthe convertible debt is expected to be outstanding as additional non-cashinterest expense. FSP APB 14-1 is effective for financial statements issued forfiscal years beginning after December 15, 2008, and interim periods withinthose fiscal years. Retrospective application to all periods presented isrequired except for instruments that were not outstanding during any of theperiods that will be presented in the annual financial statements for theperiod of adoption but were outstanding during an earlier period. The adoptionof FSP APB 14-1 will affect the accounting for the Company’s Convertible SeniorNotes due November 15, 2026, which were issued in November 2006, andwill result in increased non-cash interest expense. The Company is currentlyassessing the impact of the adoption of this standard on its financialstatements.

 

Also in May 2008, the FASBissued SFAS No. 162, “The Hierarchy of Generally Accepted AccountingPrinciples.” SFAS No. 162 identifies the sources of accounting principlesand the framework for selecting the principles to be used in the preparation offinancial statements of nongovernmental entities that are presented inconformity with generally accepted accounting principles (GAAP) in the UnitedStates (the GAAP hierarchy). SFAS No. 162 is effective 60 days followingthe Securities and Exchange Commission’s approval of the Public CompanyAccounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly inConformity With Generally Accepted Accounting Principles.” The Company does notexpect the adoption of SFAS No. 162 to have a material impact on itsfinancial statements.

 

**3.  Earnings per Share**

 

Netincome (loss) per share has been computed according to SFAS No. 128, “Earningsper Share,” which requires a dual presentation of basic and diluted earningsper share (“EPS”). Basic EPS represents net income (loss) divided by theweighted average number of common shares outstanding during a reported period.Diluted EPS reflects the potential dilution that could occur if securities orother contracts to issue common stock, including stock options, warrants,restricted stock units, phantom share units and convertible debt (collectively “CommonStock Equivalents”), were exercised or converted into common stock. The dilutiveeffect of outstanding stock options, warrants, restricted stock units andconvertible debt is reflected in diluted earnings per share by application ofthe treasury stock method. Phantom share units are reflected on an if-convertedbasis. In applying the treasury stock method for stock-based compensationarrangements, the assumed proceeds are computed as the sum of the amount theemployee must pay upon exercise and the amounts of average unrecognizedcompensation cost attributed to future services.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

Thefollowing table sets forth the computation for basic and diluted net income pershare for the three and nine months ended September 30, 2008:

 
| ** **                                          | ** ** | **Three Months Ended**                                   | ** ** | **Nine Months Ended**  | ** ** |
|-----------------------------------------------------|------------|--------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                          | ** ** | **September 30, 2008**                                   | ** ** | **September 30, 2008** | ** ** |
| ** **                                          | ** ** | **(in thousands, except per share data)** | ** ** |
|                                                |       |                                                               |       |                             |       |
| **Numerator**                                       | ** ** | ** **                                                         | ** ** | ** **                       | ** ** |
| Income from  continuing operations                  |       | $                                                                  | 55,367     |                             | $          | 170,814 |   |
| Loss from  discontinued operations                  |       | (681                                                               | )          | (8,438                           | )          |
| Net income                                          |       | $                                                                  | 54,686     |                             | $          | 162,376 |   |
|                                                |       |                                                               |       |                             |       |
| **Denominator**                                     |       |                                                               |       |                             |       |
| Basic weighted  average common shares outstanding   |       | 110,153                                                            |       | 109,895                          |       |
| Dilutive effect  of Common Stock Equivalents        |       | 1,886                                                              |       | 1,639                            |       |
| Diluted weighted  average common shares outstanding |       | 112,039                                                            |       | 111,534                          |       |
|                                                |       |                                                               |       |                             |       |
| **Basic  net income per share**                     |       |                                                               |       |                             |       |
| Continuing  operations                              |       | $                                                                  | 0.50       |                             | $          | 1.55 |   |
| Discontinued  operations                            |       | (0.01                                                              | )          | (0.08                            | )          |
| Basic net income  per share                         |       | $                                                                  | 0.50       |                             | $          | 1.48 |   |
|                                                |       |                                                               |       |                             |       |
| **Diluted  net income per share**                   |       |                                                               |       |                             |       |
| Continuing  operations                              |       | $                                                                  | 0.49       |                             | $          | 1.53 |   |
| Discontinued  operations                            |       | (0.01                                                              | )          | (0.08                            | )          |
| Diluted net  income per share                       |       | $                                                                  | 0.49       |                             | $          | 1.46 |   |

 

Duringthe three and nine months ended September 30, 2008, approximately 8.0million and 8.7 million, respectively, options and restricted stock units wereexcluded from the calculation of diluted EPS because the exercise pricesplus the amount of unrecognized compensation cost attributed to futureservices exceeded the Company’s average stock price during the period.Approximately 28.4 million shares that underlie the Company’s convertible debtinstruments were also excluded from the calculation of diluted EPS because theexercise price exceeded the Company’s average stock price during the period.These securities could be dilutive in future periods.

 

TheCompany has not included the effect of Common Stock Equivalents in thecalculation of diluted EPS for the three and nine months ended September 30,2007 because such inclusion would have an anti-dilutive effect due to theCompany’s net loss. As of September 30, 2007, the Company had 19.9 millionoptions outstanding, 2.4 million restricted stock units outstanding and 28.5million warrants outstanding.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

**4.  Facility Exit, Restructuring****and OtherCosts**

 

Facility exit, restructuring andother costs consisted of the following during the three and nine months ended September 30,2007 and 2008:

 
| ** **                  | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|-----------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                  | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                  | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                  | ** ** | **(in thousands)**          | ** ** |
| ** **                  | ** ** | ** **                       | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** |
| 2007  Restructuring Plan    |       | $                                | 34,162     |                            | $          | 1,159 |   | $ | 34,162 |   | $ | 4,421 |   |
| Legacy  Restructuring Plans |       | —                           |       | (81                             | )          | — |   | (252 | ) |
|                        |       | $                                | 34,162     |                            | $          | 1,078 |   | $ | 34,162 |   | $ | 4,169 |   |

 

*2007 Restructuring Plan*

 

In August 2007,EarthLink adopted a restructuring plan (the “2007 Plan”) to reduce costs andimprove the efficiency of the Company’s operations. The 2007 Plan was theresult of a comprehensive review of operations within and across the Company’sfunctions and businesses. Under the 2007 Plan, the Company reduced itsworkforce by approximately 900 employees, closed office facilities in Orlando,Florida; Knoxville, Tennessee; Harrisburg, Pennsylvania and San Francisco,California and is consolidating its office facilities in Atlanta, Georgia andPasadena, California. The 2007 Plan was primarily implemented during the latterhalf of 2007 and is expected to be completed during 2008. In connection withthe 2007 Plan, the Company expects to record total costs of approximately $76.0to $83.0 million, including $31.0 million for severance and personnel-relatedcosts, $17.0 to $22.0 million for lease termination and facilities-relatedcosts, $26.0 to $28.0 million for non-cash asset impairments and $2.0 millionfor other associated costs.

 

Thefollowing table summarizes facility exit and restructuring costs during thethree and nine months ended September 30, 2008 and the cumulative costsincurred to date as a result of the 2007 Plan. Such costs have been classifiedas facility exit, restructuring and other costs in the Condensed ConsolidatedStatement of Operations.

 
| ** **                                      | ** ** | ** **                       | ** ** | ** **                       | ** ** | **Cumulative**   | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|----------------------------------|------------|------------------|------------|
| ** **                                      | ** ** | **Three Months**            | ** ** | **Nine Months**             | ** ** | **Costs**        | ** ** |
| ** **                                      | ** ** | **Ended**                        | ** ** | **Ended**                        | ** ** | **Incurred**     | ** ** |
| ** **                                      | ** ** | **September 30, 2008** | ** ** | **September 30, 2008** | ** ** | **To Date** | ** ** |
| ** **                                      | ** ** | **(in thousands)**          | ** ** |
|                                            |       |                             |       |                             |       |             |       |
| Severance and  personnel-related costs          |       | $                                | —     |                             | $          | 474              |       | $ | 30,777 |   |
| Lease  termination and facilities-related costs |       | 1,347                            |       | 3,352                            |       | 15,568           |       |
| Non-cash asset  impairments                     |       | 201                              |       | 514                              |       | 21,135           |       |
| Other associated  costs                         |       | (389                             | )          | 81                               |       | 1,212            |       |
|                                            |       | $                                | 1,159      |                             | $          | 4,421            |       | $ | 68,692 |   |

 

Management continues to evaluateEarthLink’s business and, therefore, may have supplemental provisions for newplan initiatives as well as changes in estimates to amounts previouslyrecorded, as payments are made or actions are completed.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

Thefollowing table summarizes activity for the liability balances associated withthe 2007 Plan for the nine months ended September 30, 2008, includingchanges during the period attributable to costs incurred and charged to expenseand costs paid or otherwise settled:

 
| ** **                             | ** ** | **Severance**           | ** ** | ** **     | ** ** | **Asset**       | ** ** | **Other** | ** ** | ** ** | ** ** |
|----------------------------------------|------------|-------------------------|------------|----------------|------------|-----------------|------------|-----------|------------|------------|------------|
| ** **                             | ** ** | **and Benefits**   | ** ** | **Facilities** | ** ** | **Impairments** | ** ** | **Costs** | ** ** | **Total**  | ** ** |
| ** **                             | ** ** | **(in thousands)** | ** ** |
| Balance as of  December 31, 2007  |       | $                       | 12,041     |           | $          | 16,124          |       | $         | —     |       | $          | — |   | $ | 28,165 |   |
| Accruals                               |       | 474                     |       | 3,352          |       | 514             |       | 81        |       | 4,421      |       |
| Payments                               |       | (12,502                 | )          | (4,638         | )          | —          |       | (81       | )          | (17,221    | )          |
| Non-cash charges                       |       | —                  |       | 1,062          |       | (514            | )          | —    |       | 548        |       |
| Balance as of  September 30, 2008 |       | $                       | 13         |           | $          | 15,900          |       | $         | —     |       | $          | — |   | $ | 15,913 |   |

 

Facilityexit and restructuring liabilities due within one year of the balance sheetdate are classified as other accounts payable and accrued liabilities andfacility exit and restructuring liabilities due after one year are classifiedas other long-term liabilities in the Condensed Consolidated Balance Sheets. Ofthe unpaid balance as of September 30, 2008, approximately $5.2 millionassociated with the 2007 Plan was classified as other accounts payable andaccrued liabilities and $10.7 million was classified as other long-termliabilities.

 

*Legacy Restructuring Plans*

 

EarthLinkperiodically evaluates and adjusts its estimates for facility exit andrestructuring costs for legacy restructuring plans based on currently-availableinformation. Such adjustments are included as facility exit, restructuring andother costs in the Condensed Consolidated Statements of Operations. During thethree and nine months ended September 30, 2008, EarthLink recorded $0.1million and $0.3 million, respectively, in reductions to facility exit,restructuring and other costs as a result of changes in estimates for legacyrestructuring plans.

 

**5.  Discontinued Operations**

 

In November 2007,management concluded that its municipal wireless broadband operations were nolonger consistent with the Company’s strategic direction and the Company’sBoard of Directors authorized management to pursue the divestiture of theCompany’s municipal wireless broadband assets. During the nine months ended September 30,2008, the Company transferred its municipal wireless broadband networks to thecities of Corpus Christi, TX and Milpitas, CA in exchange for releasing theCompany from its existing network agreements. The Company also transferred itsmunicipal wireless broadband networks in the city of Philadelphia, PA to alocal Philadelphia company. Additionally, the Company terminated its municipalwireless broadband service in New Orleans, LA and Anaheim, CA and removed itsnetwork equipment from those cities. As of September 30, 2008, thedivestiture of the Company’s municipal wireless broadband assets wassubstantially complete.

 

TheCompany classified its municipal wireless broadband assets as held for sale inthe Condensed Consolidated Balance Sheets and presented the municipal wirelessbroadband results of operations as discontinued operations for all periodspresented. The municipal wireless broadband results of operations werepreviously included in the Consumer Services segment.

 

TheCompany recorded impairment and other costs of $6.1 million during thenine months ended September 30, 2008 related to the municipal wirelessbroadband operations, including $2.6 million for non-cash assetimpairments and other non-cash charges; $0.3 million for severance andpersonnel-related costs; and $3.2 million for other associated costs.These charges are reflected within discontinued operations in the CondensedConsolidated Statements of Operations.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

Thefollowing table presents summarized results of operations related to theCompany’s discontinued operations for the three and nine months ended September 30,2007 and 2008:

 
| ** **                                     | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                     | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                     | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                                     | ** ** | **(in thousands)**          | ** ** |
| Revenues                                       |       | $                                | 771        |                            | $          | 18 |   | $ | 1,368 |   | $ | 1,306 |   |
| Operating costs  and expenses                  |       | (11,443                          | )          | (842                            | )          | (28,953 | ) | (4,534 | ) |
| Impairment and  other costs                    |       | (20,658                          | )          | (128                            | )          | (20,658 | ) | (6,081 | ) |
| Income tax  benefit                            |       | —                           |       | 271                             |       | — |   | 871 |   |
| Loss from  discontinued operations, net of tax |       | $                                | (31,330    | )                               | $          | (681 | ) | $ | (48,243 | ) | $ | (8,438 | ) |

 

Theassets of discontinued operations as of December 31, 2007 consistedprimarily of property and equipment and the liabilities of discontinuedoperations as of December 31, 2007 consisted primarily of accruals forpurchases of property and equipment. As of September 30, 2008, thedivestiture of the Company’s municipal wireless broadband assets wassubstantially complete and only a minimal amount of assets and liabilities ofdiscontinued operations remained. Pursuant to SFAS No. 144, the assets asof December 31, 2007 and September 30, 2008 were reported at theirestimated fair value less costs to sell and were no longer being depreciated.

 

**6.  Investments**

 

*Investments inmarketable securities*

 

Investmentsin marketable securities are accounted for in accordance with SFAS No. 115,“Accounting for Certain Investments in Debt and Equity Securities.” The Companyhas invested in government agency notes, asset-backed debt securities(including auction rate securities), corporate notes and commercial paper, allof which bear a minimum short-term rating of A1/P1 or a minimum long-termrating of A/A2. All investments with original maturities greater than 90 daysare classified as investments in marketable securities. Investments inmarketable securities with maturities less than one year from the balance sheetdate are considered short-term investments in marketable securities.Investments in marketable securities with maturities greater than one year fromthe balance sheet date are considered long-term investments in marketablesecurities. Long-term investments in marketable securities as of September 30,2008 also include investments in asset-backed, auction rate securities withinterest rate reset periods of 90 days or less but whose underlying agreementshave original maturities of more than 90 days. These investments were includedin short-term investments in marketable securities as of December 31,2007.

 

TheCompany has classified all short- and long-term investments in marketablesecurities as available-for-sale. The Company may or may not hold itsinvestments in marketable securities until maturity. In response to changes inthe availability of and the yield on alternative investments as well asliquidity requirements, the Company occasionally sells its investments inmarketable securities prior to their stated maturities. Available for salesecurities are carried at fair value, with any unrealized gains and losses, netof tax, included in unrealized gains (losses) on investments as a separatecomponent of stockholders’ equity and in total comprehensive income (loss). Asof December 31, 2007, gross unrealized gains were $0.1 million and grossunrealized losses were nominal. As of September 30, 2008, gross unrealizedlosses were $5.3 million and there were no gross unrealized gains. The Companybelieves its gross unrealized losses are temporary impairments as management hasthe intent and ability to hold these investments until maturity or until themarket price fully recovers, at which time the Company would expect to receivethe amortized cost basis of the investments based on the underlying contractualarrangement.

 

As of September 30,2008, the Company’s long-term investments in marketable securities includedauction rate securities with a par value of $57.8 million and a fair value of$52.4 million. Beginning in February 2008, auctions for these securitiesfailed to attract sufficient buyers, resulting in the Company continuing tohold

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

suchsecurities. Accordingly, the Company began classifying these securities aslong-term investments in marketable securities in the Condensed ConsolidatedBalance Sheet due to uncertainty surrounding the timing of a market recovery.These securities are variable-rate debt instruments whose underlying agreementshave contractual maturities of up to 40 years, but have interest rate resetperiods at pre-determined intervals, usually every 28 days. These securitiesare predominantly secured by student loans guaranteed by state related highereducation agencies and reinsured by the United States Department of Education.As a result of temporary declines in the fair value of the Company’s auctionrate securities, which the Company attributes to liquidity issues rather thancredit issues, it has recorded an unrealized loss of $5.3 million as of September 30,2008. The Company will continue to evaluate the fair value of its investmentsin auction rate securities each reporting period for a potentialother-than-temporary impairment.

 

In October 2008,EarthLink entered into an agreement with the broker that sold the Company itsauction rate securities that gives the Company the right to sell its existingauction rate securities back to the broker at par plus accrued interest,beginning on June 30, 2010 until July 2, 2012. The agreement alsogrants the broker the right to buy the Company’s auction rate securities at parplus accrued interest, until July 2, 2012.

 

*Investments inother companies*

 

Investmentsin other companies consisted of the following as of December 31, 2007 and September 30,2008:

 
| ** **                            | ** ** | **As of**          | ** ** | **As of**         | ** ** |
|---------------------------------------|------------|-------------------------|------------|------------------------|------------|
| ** **                            | ** ** | **December 31,**   | ** ** | **September 30,** | ** ** |
| ** **                            | ** ** | **2007**                | ** ** | **2008**               | ** ** |
| ** **                            | ** ** | **(in thousands)** | ** ** |
| Investments  stated at fair value     |       | $                       | 52,923     |                   | $          | 4,829 |   |
| Investments  stated at cost           |       | 10,000                  |       | 9,300                  |       |
| Total  investments in other companies |       | $                       | 62,923     |                   | $          | 14,129 |   |

 

TheCompany accounts for minority investments in other companies under the costmethod of accounting and classifies investments in other companies which arepublicly traded as available-for-sale securities. Accordingly, the Companyadjusts the carrying values of those investments to market value throughunrealized gains (losses) included in stockholders’ equity and accumulatedother comprehensive income (loss). As of December 31, 2007, grossunrealized losses were $1.1 million and there were no gross unrealized gains.As of September 30, 2008, gross unrealized gains were $0.4 million andthere were no gross unrealized losses.

 

The Company’s investments in othercompanies as of December 31, 2007 included $5.3 million for 6.1 millionshares of Covad Communications Group, LLC (“Covad”) common stock and $47.5million aggregate principal amount of 12% Senior Secured Convertible Notes due2011 (the “Covad Notes”), including accrued and unpaid interest. In April 2008,Platinum Equity, LLC acquired all outstanding shares of Covad. Upon closing ofthe transaction, a change of control of Covad occurred, resulting in Covad’srepurchase of all Covad Notes held by EarthLink at a purchase price equal to100% of the principal amount thereof plus accrued and unpaid interest. As aresult, the Company received cash of $50.8 million for the aggregate principalamount of the Covad Notes plus accrued interest and received cash of $6.3million for the 6.1 million shares of common stock. The Company recognized again of $2.0 million based on its cost basis of the Covad common stock, whichwas classified as gain (loss) on investments in other companies, net, in theCondensed Consolidated Statements of Operations.

 

Duringthe three and nine months ended September 30, 2007, the Company received$1.2 million and $1.4 million in cash distributions, respectively, fromeCompanies Venture Group, L.P. (“EVG”), a limited partnership that has investedin domestic emerging Internet-related companies, which was classified as gain(loss) on investments in other companies, net, in the Condensed ConsolidatedStatements of Operations.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

Managementregularly evaluates the recoverability of its investments in other companiesbased on the performance and the financial position of those companies as wellas other evidence of market value. Such evaluation includes, but is not limitedto, reviewing the investee’s cash position, recent financings, projected andhistorical financial performance, cash flow forecasts and financing needs.During the three and nine months ended September 30, 2007, the Companyrecognized an impairment loss of $7.0 million and during the nine months ended September 30,2008 the Company recognized an impairment loss of $0.7 million due toother-than-temporary declines of the value of its investments in othercompanies. These losses were classified within gain (loss) on investments inother companies, net, in the Condensed Consolidated Statements of Operations.

 

*Investment inequity affiliate*

 

TheCompany had a joint venture with SK Telecom Co., Ltd. (“SK Telecom”), HELIO.HELIO was a non-facilities-based mobile virtual network operator (“MVNO”)offering mobile communications services and handsets to U.S. consumers.  HELIO was formed in March 2005 and beganoffering its products and services in April 2006. As of December 31,2007, EarthLink had an approximate 31% economic ownership interest and 33%voting interest in HELIO, while SK Telecom had an approximate 65% economicownership interest and 67% voting interest in HELIO.

 

In August 2008,Virgin Mobile USA, Inc. (“Virgin Mobile”) acquired HELIO in exchange forlimited partnership units equivalent to 13 million shares of Virgin Mobile commonstock. EarthLink’s equity and debt investments in HELIO were exchanged forlimited partnership units equivalent to approximately 1.8 million shares ofVirgin Mobile common stock. As a result of the transaction, EarthLink recordeda gain of $4.4 million, which is included in gain (loss) on investments inother companies, net, in the Condensed Consolidated Statements ofOperations.  EarthLink has an approximate2% ownership interest in Virgin Mobile. The Company cannot exert significantinfluence over Virgin Mobile’s operating and financial policies and, as such,accounts for its investment in Virgin Mobile under the cost method ofaccounting and classifies the investment as available-for-sale.

 

Priorto the transaction with Virgin Mobile, the Company accounted for its investmentin HELIO under the equity method of accounting because the Company was able toexert significant influence over HELIO’s operating and financial policies.  The Company had been recording itsproportionate share of HELIO’s net loss in its Condensed ConsolidatedStatements of Operations and amortizing the difference between the book valueand fair value of non-cash assets contributed to HELIO over their estimateduseful lives. The amortization increased the carrying value of the Company’sinvestment and decreased the net losses of equity affiliate included in theCondensed Consolidated Statements of Operations. During the three and ninemonths ended September 30, 2007, the Company recorded $41.9 million and$111.3 million, respectively, of net losses of equity affiliate related to itsHELIO investment, which is net of amortization of basis differences and certainother equity method accounting adjustments. During 2007, EarthLink discontinuedrecording additional net losses of equity affiliate because the carrying valueof its investment in HELIO was reduced to zero.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED -(Continued)**

 

**7.  Purchased Intangible Assets and Goodwill**

 

*Goodwill*

 

Duringthe nine months ended September 30, 2008, the carrying amount of goodwilldecreased $16.2 million due to the utilization of net operating losscarryforwards acquired from OneMain.com, Inc., Cidco Incorporated,PeoplePC Inc. and New Edge Networks.

 

*Purchased Intangible Assets*

 

Thefollowing table presents the components of the Company’s acquired identifiableintangible assets included in the accompanying Condensed Consolidated BalanceSheets as of December 31, 2007 and September 30, 2008:

 
| ** **                                      | ** ** | **As of December 31, 2007** | ** ** | **As of September 30, 2008** | ** ** |
|-------------------------------------------------|------------|-------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                      | ** ** | **Gross**                                       | ** ** | ** **                                       | ** ** | **Net** | ** ** | **Gross** | ** ** | ** ** | ** ** | **Net** | ** ** |
| ** **                                      | ** ** | **Carrying**                                    | ** ** | **Accumulated**                                  | ** ** | **Carrying** | ** ** | **Carrying** | ** ** | **Accumulated** | ** ** | **Carrying** | ** ** |
| ** **                                      | ** ** | **Value**                                       | ** ** | **Amortization**                                 | ** ** | **Value** | ** ** | **Value** | ** ** | **Amortization** | ** ** | **Value** | ** ** |
| ** **                                      | ** ** | **(in thousands)**                         | ** ** |
| Intangible  assets subject to amortization:     |       |                                            |       |                                             |       |   |   |   |   |   |   |   |   |
| Subscriber bases  and customer relationships    |       | $                                               | 118,702    |                                             | $          | (79,763 | ) | $ | 38,939 |   | $ | 120,160 |   | $ | (90,107 | ) | $ | 30,053 |   |
| Software,  technology and other                 |       | 3,892                                           |       | (3,161                                           | )          | 731 |   | 739 |   | (589 | ) | 150 |   |
| Trade names                                     |       | —                                          |       | —                                           |       | — |   | 1,521 |   | (228 | ) | 1,293 |   |
|                                            |       | 122,594                                         |       | (82,924                                          | )          | 39,670 |   | 122,420 |   | (90,924 | ) | 31,496 |   |
| Intangible  assets not subject to amortization: |       |                                            |       |                                             |       |   |   |   |   |   |   |   |   |
| Trade names                                     |       | 6,606                                           |       | —                                           |       | 6,606 |   | 5,085 |   | — |   | 5,085 |   |
|                                            |       | $                                               | 129,200    |                                             | $          | (82,924 | ) | $ | 46,276 |   | $ | 127,505 |   | $ | (90,924 | ) | $ | 36,581 |   |

 

Amortizationof intangible assets in the Condensed Consolidated Statements of Operations forthe three and nine months ended September 30, 2007 and 2008 represents theamortization of definite lived intangible assets.  The Company’s definite lived intangibleassets primarily consist of subscriber bases and customer relationships,acquired software and technology, certain trade names and other assets acquiredin conjunction with the purchases of businesses and subscriber bases from othercompanies that are not deemed to have indefinite lives. The Company’sidentifiable indefinite lived intangible assets consist of certain trade names.Definite lived intangible assets are amortized on a straight-line basis overtheir estimated useful lives, which are generally three to six years forsubscriber bases and customer relationships and three years for acquiredsoftware and technology.  As of September 30,2008, the weighted average amortization periods were 3.9 years for subscriberbase assets and customer relationships, 3.3 years for software and technologyand 5.0 years for trade names. Based on the current amount of definite livedintangible assets, the Company expects to record amortization expense ofapproximately $3.2 million during the remaining three months in the year endingDecember 31, 2008 and $11.5 million, $8.0 million, $6.7 million and $2.1million during the years ending December 31, 2009, 2010, 2011 and 2012,respectively. Actual amortization expense to be reported in future periodscould differ materially from these estimates as a result of asset acquisitions,changes in useful lives and other relevant factors.

 

Duringthe nine months ended September 30, 2008, the Company wrote-off fullyamortized definite lived intangible assets, consisting of software andtechnology, with a gross carrying value and accumulated amortization of $3.2million.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

**8.  Long-Term Debt**

 

In November 2006, the Companyissued $258.8 million aggregate principal amount of Convertible Senior Notesdue November 15, 2026 (the “Notes”) in a registered offering. The Companyreceived net proceeds of $251.6 million after transaction fees of $7.2 million.The Notes bear interest at 3.25% per year on the principal amount of the Notesuntil November 15, 2011, and 3.50% interest per year on the principalamount of the Notes thereafter, payable semi-annually in May and November ofeach year. The Notes rank as senior unsecured obligations of the Company.

 

TheNotes are payable with cash and, if applicable, convertible into shares of theCompany’s common stock based on an initial conversion rate, subject toadjustment, of 109.6491 shares per $1,000 principal amount of Notes (which representsan initial conversion price of approximately $9.12 per share). Upon conversion,a holder will receive cash up to the principal amount of the Notes and, at theCompany’s option, cash, or shares of the Company’s common stock or acombination of cash and shares of common stock for the remainder, if any, ofthe conversion obligation. The conversion obligation is based on the sum of the“daily settlement amounts” for the 20 consecutive trading days that beginon, and include, the second trading day after the day the Notes are surrenderedfor conversion. The Notes will be convertible only in the followingcircumstances: (1) during any calendar quarter after the calendar quarterending December 31, 2006 (and only during such calendar quarter), if theclosing sale price of the Company’s common stock for each of 20 or more tradingdays in a period of 30 consecutive trading days ending on the last trading dayof the immediately preceding calendar quarter exceeds 130% of the conversionprice in effect on the last trading day of the immediately preceding calendarquarter; (2) during the five consecutive business days immediately afterany five consecutive trading day period in which the average trading price per$1,000 principal amount of Notes was equal to or less than 98% of the averageconversion value of the Notes during the note measurement period; (3) uponthe occurrence of specified corporate transactions; (4) if the Company hascalled the Notes for redemption; and (5) at any time from, and including, October 15,2011 to, and including, November 15, 2011 and at any time on or after November 15,2024.  The Company has the option toredeem the Notes, in whole or in part, for cash, on or after November 15,2011, provided that the Company had made at least ten semi-annual interestpayments. In addition, the holders may require the Company to purchase all or aportion of their notes on each of November 15, 2011, November 15,2016 and November 15, 2021.

 

As of December 31, 2007 and September 30,2008, the fair value of the Notes was approximately $262.0 million and $274.1million, respectively, based on the quoted market prices.

 

Inconnection with the issuance of the Notes, the Company entered into separateconvertible note hedge transactions and separate warrant transactions withrespect to the Company’s common stock to reduce the potential dilution uponconversion of the Notes (collectively referred to as the “Call SpreadTransactions”). In September 2008, the Company terminated the convertiblenote hedge and warrant agreements. See Note 9, “Stockholders’ Equity,” for moreinformation on the Call Spread Transactions.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

** **

**9.  Stockholders’ Equity**

 

*Comprehensive Income (Loss)*

 

Comprehensiveincome (loss) includes unrealized gains and losses on certain investmentsclassified as available-for-sale, net of tax, which are excluded from theCondensed Consolidated Statements of Operations in accordance with SFAS No. 130,“Reporting Comprehensive Income.” Comprehensive income (loss) for the three andnine months ended September 30, 2007 and 2008 was as follows:

 
| ** **                                                             | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|------------------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                             | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                                             | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                                                             | ** ** | **(in thousands)**          | ** ** |
| Net income  (loss)                                                     |       | $                                | (79,381    | )                               | $          | 54,686 |   | $ | (125,633 | ) | $ | 162,376 |   |
| Net unrealized  holding gains (losses) on investments                  |       | 452                              |       | (1,190                          | )          | (3,235 | ) | (2,214 | ) |
| Reclassification  adjustment for realized gains on certain investments |       | —                           |       | —                          |       | — |   | (1,779 | ) |
| Total  comprehensive income (loss)                                     |       | $                                | (78,929    | )                               | $          | 53,496 |   | $ | (128,868 | ) | $ | 158,383 |   |

 

*ShareRepurchases*

 

Sincethe inception of the Company’s share repurchase program, the Board of Directorshas authorized a total of $750.0 million for the repurchase of EarthLink’scommon stock. As of September 30, 2008, the Company had $169.1 millionavailable under the current authorizations. The Company may repurchase itscommon stock from time to time in compliance with Securities and ExchangeCommission regulations and other legal requirements, including through the useof derivative transactions, and subject to market conditions and other factors.The share repurchase program does not require the Company to acquire anyspecific number of shares and may be terminated by the Board of Directors atany time.

 

TheCompany repurchased 3.9 million of its common stock for $25.0 million duringthe nine months ended September 30, 2007 pursuant to its share repurchaseprogram. The Company repurchased 3.8 million shares of its common stock for$31.9 million during the nine months ended September 30, 2008 pursuant toits share repurchase program, of which 2.5 million shares were repurchased upontermination of the convertible note hedge and warrant agreements, as more fullydescribed below under “Call Spread Transactions.”

 

*Call Spread Transactions*

 

Inconnection with the issuance of the Notes (see Note 8, “Long-Term Debt”), theCompany entered into separate convertible note hedge transactions and separatewarrant transactions with respect to the Company’s common stock to minimize theimpact of the potential dilution upon conversion of the Notes.  The Company purchased call options in privatetransactions to cover approximately 28.4 million shares of the Company’s commonstock at a strike price of $9.12 per share, subject to adjustment in certaincircumstances, for $47.2 million. The Company also sold warrants permitting thepurchasers to acquire up to approximately 28.4 million shares of the Company’scommon stock at an exercise price of $11.20 per share, subject to adjustmentsin certain circumstances, in private transactions for total proceeds ofapproximately $32.1 million. The Company recorded the purchase of the calloptions as a reduction in additional paid-in capital and the proceeds of thewarrants as an addition to paid-in capital. As of December 31, 2007, theestimated fair value of the call options was $43.8 million and the estimatedfair value of the warrants was $28.0 million.

 

In September 2008,the Company terminated its convertible note hedge and warrant agreements.  The Company received an aggregate paymentfrom the counterparties to the agreements, which was recorded as additionalpaid-in capital. Upon termination of the agreements, the Company purchasedapproximately 2.5

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

millionshares of common stock the counterparties held in hedge positions forapproximately $22.7 million, based on the closing price of the EarthLink commonstock on the purchase date.

 

**10.  Stock-Based Compensation**

 

TheCompany accounts for stock-based compensation pursuant to SFAS No. 123(R),“Share-Based Payment,” which requires measurement of compensation cost for allstock awards at fair value on the date of grant and recognition of compensationexpense over the requisite service period for awards expected to vest. TheCompany estimates the fair value of stock options using the Black-Scholesvaluation model, and determines the fair value of restricted stock units basedon the number of shares granted and the quoted price of EarthLink’s commonstock on the date of grant*.* Suchvalue is recognized as expense over the requisite service period, net ofestimated forfeitures, using the straight-line attribution method. The estimateof awards that will ultimately vest requires significant judgment, and to theextent actual results or updated estimates differ from the Company’s currentestimates, such amounts will be recorded as a cumulative adjustment in theperiod estimates are revised. The Company considers many factors whenestimating expected forfeitures, including types of awards, employee class andhistorical employee attrition rates. Actual results, and future changes inestimates, may differ substantially from the Company’s current estimates.

 

Stock-basedcompensation expense under SFAS No. 123(R) was $4.3 million and $4.6million during the three months ended September 30, 2007 and 2008,respectively, and $15.1 million and $14.3 million during the nine months ended September 30,2007 and 2008, respectively.  Inaccordance with Staff Accounting Bulletin No. 107, the Company hasclassified stock-based compensation expense during the three and nine monthsended September 30, 2007 and 2008 within the same operating expense lineitems as cash compensation paid to employees.

 

*StockIncentive Plans*

 

TheCompany has granted stock options and restricted stock units to employees andnon-employee directors to purchase the Company’s common stock under variousstock incentive plans. Under the plans, employees and non-employee directorsare eligible to receive awards of various forms of equity-based incentivecompensation, including stock options, restricted stock, restricted stockunits, phantom share units and performance awards, among others. The plans areadministered by the Board of Directors or the Leadership and CompensationCommittee of the Board of Directors, which determine the terms of the awardsgranted. Stock options are generally granted with an exercise price equal tothe market value of EarthLink, Inc. common stock on the date of grant,have a term of ten years or less and vest over terms of four to six years fromthe date of grant. Restricted stock units are granted with various vestingterms that range from one to six years from the date of grant.

 

*Deferred Compensation Plan*

 

TheCompany’s Second Deferred Compensation Plan for Directors and Certain KeyEmployees permits members of the Board of Directors and eligible employees toelect to defer receipt of shares of common stock pursuant to vested restrictedstock units and various cash consideration, such as directors’ fees andbonuses. The cash consideration is converted into phantom share units at theclosing price on the date the consideration would otherwise be paid, and vestedrestricted stock units are converted into phantom share units on a one-for-onebasis. Phantom share units are fully vested at the date of grant and areconverted to common stock upon the occurrence of various events. As of December 31,2007 and September 30, 2008, approximately 43,000 and 24,000 phantom shareunits were outstanding, respectively.

 

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*OptionsOutstanding*

 

Thefollowing table summarizes information concerning stock option activity as ofand for the nine months ended September 30, 2008:

 

**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 
| ** **                                                 | ** ** | ** **                                                | ** ** | ** **   | ** ** | **Weighted**          | ** ** | ** **    | ** ** |
|------------------------------------------------------------|------------|-----------------------------------------------------------|------------|--------------|------------|-----------------------|------------|---------------|------------|
| ** **                                                 | ** ** | ** **                                                | ** ** | **Weighted** | ** ** | **Average**           | ** ** | ** **    | ** ** |
| ** **                                                 | ** ** | ** **                                                | ** ** | **Average**  | ** ** | **Remaining**         | ** ** | **Aggregate** | ** ** |
| ** **                                                 | ** ** | ** **                                                | ** ** | **Exercise** | ** ** | **Contractual**       | ** ** | **Intrinsic** | ** ** |
| ** **                                                 | ** ** | **Stock Options**                                    | ** ** | **Price**    | ** ** | **Term (Years)** | ** ** | **Value**     | ** ** |
| ** **                                                 | ** ** | **(shares and dollars in thousands)** | ** ** |
|                                                       |       |                                                      |       |         |       |                  |       |          |       |
| Outstanding as  of December 31, 2007                  |       | 13,427                                                    |       | $            | 10.69      |                  |       |          |       |   |
| Granted                                                    |       | 164                                                       |       | 7.73         |       |                  |       |          |       |
| Exercised                                                  |       | (1,162                                                    | )          | 6.88         |       |                  |       |          |       |
| Forfeited and  expired                                     |       | (3,159                                                    | )          | 13.05        |       |                  |       |          |       |
| Outstanding as  of September 30, 2008                 |       | 9,270                                                     |       | $            | 10.31      |                  | 5.9        |          | $          | 5,687 |   |
| Vested and  expected to vest as of September 30, 2008 |       | 8,606                                                     |       | $            | 9.77       |                  | 5.3        |          | $          | 4,945 |   |
| Exercisable as  of September 30, 2008                 |       | 6,625                                                     |       | $            | 11.32      |                  | 5.0        |          | $          | 2,897 |   |

 

The aggregate intrinsic valueamounts in the table above represent the closing price of the Company’s commonstock on September 30, 2008 in excess of the exercise price, multiplied bythe number of stock options outstanding or exercisable, when the closing priceis greater than the exercise price. This represents the amount that would havebeen received by the stock option holders if they had all exercised their stockoptions on September 30, 2008. The total intrinsic value of optionsexercised during the three and nine months ended September 30, 2007 was$0.5 million and $1.7 million, respectively. The total intrinsic value ofoptions exercised during the three and nine months ended September 30,2008 was $0.7 million and $2.2 million, respectively. The intrinsic value ofstock options exercised represents the difference between the price of theCompany’s common stock at the time of exercise and the exercise price,multiplied by the number of stock options exercised. To the extent theforfeiture rate is different than what the Company has anticipated, stock-basedcompensation related to these awards will be different from the Company’s expectations.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

Thefollowing table summarizes the status of the Company’s stock options as of September 30,2008:

 

| ** **                              | ** ** | ** **      | ** ** | ** **              | ** ** | ** **    | ** ** | ** **      | ** ** | **Stock Options**  | ** ** |
|-----------------------------------------|------------|-----------------|------------|-------------------------|------------|---------------|------------|-----------------|------------|-------------------------|------------|
| **Stock Options Outstanding** | ** ** | **Exercisable** | ** ** |
| ** **                              | ** ** | ** **      | ** ** | ** **              | ** ** | **Weighted**  | ** ** | ** **      | ** ** | ** **              | ** ** | ** ** | ** ** |
| ** **                              | ** ** | ** **      | ** ** | ** **              | ** ** | **Average**   | ** ** | **Weighted**    | ** ** | ** **              | ** ** | **Weighted** | ** ** |
| ** **                              | ** ** | ** **      | ** ** | ** **              | ** ** | **Remaining** | ** ** | **Average**     | ** ** | ** **              | ** ** | **Average** | ** ** |
| **Range of**                       | ** ** | **Number**      | ** ** | **Contractual**         | ** ** | **Exercise**  | ** ** | **Number**      | ** ** | **Exercise**            | ** ** |
| **Exercise Prices**                | ** ** | **Outstanding** | ** ** | **Life (Years)**   | ** ** | **Price**     | ** ** | **Exercisable** | ** ** | **Price**               | ** ** |
| ** **                              | ** ** | ** **      | ** ** | **(in thousands)** | ** ** | ** **    | ** ** | ** **      | ** ** | **(in thousands)** | ** ** | ** ** | ** ** |
| $                                       | 5.10       |            | $          | 6.86                    |       | 853           |       | 5.4             |       | $                       | 5.97       |   | 562 |   | $ | 5.84 |   |
| 6.90                                    |       | 7.25            |       | 917                     |       | 8.3           |       | 6.97            |       | 282                     |       | 6.96 |   |
| 7.31                                    |       | 7.31            |       | 1,500                   |       | 8.7           |       | 7.31            |       | 700                     |       | 7.31 |   |
| 7.32                                    |       | 9.01            |       | 1,281                   |       | 6.4           |       | 8.54            |       | 974                     |       | 8.74 |   |
| 9.23                                    |       | 9.64            |       | 961                     |       | 5.5           |       | 9.51            |       | 588                     |       | 9.54 |   |
| 10.06                                   |       | 10.06           |       | 853                     |       | 2.0           |       | 10.06           |       | 853                     |       | 10.06 |   |
| 10.36                                   |       | 11.38           |       | 1,590                   |       | 6.5           |       | 10.57           |       | 1,366                   |       | 10.57 |   |
| 11.45                                   |       | 48.61           |       | 1,315                   |       | 2.7           |       | 21.03           |       | 1,300                   |       | 21.14 |   |
| $                                       | 5.10       | to              | $          | 48.61                   |       | 9,270         |       | 5.9             |       | $                       | 10.31      |   | 6,625 |   | $ | 11.32 |   |

 

*Valuation Assumptions for Stock Options*

 

Thefair value of stock options granted during the nine months ended September 30,2007 and 2008 was estimated using the Black-Scholes option-pricing model withthe following assumptions:

 

| ** **               | ** ** | **Nine Months Ended September 30,** | ** ** |
|--------------------------|------------|---------------------------------------------------------|------------|
| ** **               | ** ** | **2007**                                                | ** ** | **2008** | ** ** |
|                     |       |                                                    |       |   |   |
| Dividend yield           |       | 0                                                       | %          | 0 | % |
| Expected  volatility     |       | 39                                                      | %          | 39 | % |
| Risk-free  interest rate |       | 4.81                                                    | %          | 3.00 | % |
| Expected life            |       | 4.3 years                                               |       | 4.2 years |   |

 

Theweighted average grant date fair value of options granted during the ninemonths ended September 30, 2007 and 2008 was $2.79 and $2.71,respectively.

 

Thedividend yield assumption is based on the Company’s history and expectation offuture dividend payouts. The expected volatility is based on a combination ofthe Company’s historical stock price and implied volatility. The selection ofimplied volatility data to estimate expected volatility is based upon theavailability of prices for actively traded options on the Company’s stock. Therisk-free interest rate assumption is based upon the U.S. Treasury yield curvein effect at the time of grant for periods corresponding with the expected lifeof the option. The expected life of employee stock options represents the weighted-averageperiod the stock options are expected to remain outstanding.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

*RestrictedStock Units*

 

The following table summarizes theCompany’s restricted stock units as of and for the nine months ended September 30,2008:

 

| ** **                               | ** ** | ** **           | ** ** | **Weighted**        | ** ** |
|------------------------------------------|------------|----------------------|------------|---------------------|------------|
| ** **                               | ** ** | ** **           | ** ** | **Average**         | ** ** |
| ** **                               | ** ** | **Restricted**       | ** ** | **Grant Date** | ** ** |
| ** **                               | ** ** | **Stock Units** | ** ** | **Fair Value** | ** ** |
|                                     |       |                 |       |                |       |
| Nonvested as of  December 31, 2007  |       | 2,061,000            |       | $                   | 7.17       |   |
| Granted                                  |       | 3,564,000            |       | 7.20                |       |
| Vested                                   |       | (631,000             | )          | 7.27                |       |
| Forfeited                                |       | (623,000             | )          | 7.16                |       |
| Nonvested as of  September 30, 2008 |       | 4,371,000            |       | 7.19                |       |
|                                          |            |                      |            |                     |            |  |

 

The fair value of restricted stockunits is determined based on the closing trading price of EarthLink’s commonstock on the grant date. The weighted-average grant date fair value ofrestricted stock units granted during the nine months ended September 30,2007 and 2008 was $6.92 and $7.20, respectively. As September 30, 2008,there was $21.0 million of total unrecognized compensation cost related tononvested restricted stock units. That cost is expected to be recognized over aweighted-average period of 2.3 years. The total fair value of shares vestedduring the nine months ended September 30, 2007 and 2008 was $2.5 millionand $5.7 million, respectively, which represents the closing price of theCompany’s common stock on the vesting date multiplied by the number ofrestricted stock units that vested.

 

**11. Income Taxes**

 

EarthLinkrecorded an income tax provision from continuing operations of $7.9 million and$23.9 million during the three and nine months ended September 30, 2008,respectively. The income tax provision is based on management’s currentexpectations for the results of operations for the year ending December 31,2008 in accordance with the interim reporting requirements of SFAS No. 109,“Accounting for Income Taxes,” Accounting Principles Board (“APB”) Opinion No. 28,“Interim Financial Reporting,” and FASB Interpretation No. 18 “Accountingfor Income Taxes in Interim Periods — an interpretation of APB Opinion No. 28.”

 

Themajor components of the income tax provision for the three and nine monthsended September 30, 2007 and 2008 are as follows:

 

| ** **                       | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|----------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                       | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                       | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                       | ** ** | **(in millions)**           | ** ** |
|                             |       |                             |       |                            |       |   |   |   |   |
| Federal  alternative minumum tax |       | $                                | —     |                            | $          | 1.0 |   | $ | — |   | $ | 3.4 |   |
| State income tax                 |       | —                           |       | 2.9                             |       | 0.3 |   | 4.2 |   |
| Other                            |       | —                           |       | —                          |       | — |   | (0.5 | ) |
| Current  provision               |       | —                           |       | 3.9                             |       | 0.3 |   | 7.1 |   |
|                             |       |                             |       |                            |       |   |   |   |   |
| Deferred  provision              |       | —                           |       | 4.0                             |       | 0.1 |   | 16.8 |   |
|                             |       |                             |       |                            |       |   |   |   |   |
| Total                            |       | $                                | —     |                            | $          | 7.9 |   | $ | 0.4 |   | $ | 23.9 |   |

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

Adiscrete item has been recorded during the nine months ended September 30,2008 for a change in valuation allowance resulting from a change inclassification of an indefinite lived intangible asset to a definite livedintangible asset, corresponding to a decrease in the valuation allowance whichresulted in a tax benefit of $0.5 million. The non-cash deferred tax provisionhas been recorded for estimated utilization of federal and state net operatingloss carryforwards acquired from OneMain.com, Inc., Cidco Incorporated,PeoplePC Inc., and New Edge Networks.  The associated reduction in thevaluation allowance due to the expected utilization of these acquired federaland state net operating losses has been recorded as a reduction to goodwill andnot as a benefit to income taxes.  The current alternative minimum tax (“AMT”)liability is payable as a result of net operating loss carryforward limitationsassociated with the AMT calculation.

 

EarthLinkcontinues to maintain a full valuation allowance against its unrealizeddeferred tax assets, which include net operating loss carryforwards. EarthLink may recognize deferred tax assets in future periods when they aredetermined to be more likely than not realizable.  To the extent EarthLinkreports income in future periods, EarthLink intends to use its net operatingloss carryforwards to the extent available to offset taxable income and reducecash outflows for income taxes.  The Company’s ability to use its federaland state net operating loss carryforwards and federal and state tax creditcarryforwards may be subject to restrictions attributable to equitytransactions in the future resulting from changes in ownership as defined underthe Internal Revenue Code.

 

On January 1,2007, EarthLink adopted Financial Interpretation (“FIN”) No. 48.  TheCompany has identified its federal tax return and its state tax returns inCalifornia, Florida, Georgia and Illinois as “major” tax jurisdictions, asdefined in FIN No. 48.  Periods extending back to 1994 are stillsubject to examination for all “major” jurisdictions. The adoption of FIN No. 48on January 1, 2007 did not result in a material cumulative-effectadjustment. The Company believes that its income tax filing positions anddeductions will be sustained on audit and does not anticipate any adjustmentsthat will result in material adverse effect on the Company’s financialcondition, results of operations or cash flows.  The Company’s policy forrecording interest and penalties associated with audits is to record such itemsas a component of income taxes.  Noadjustments were made to the FIN No. 48 liability during the quarter.

 

**12.  Related Party Transactions**

 

As aresult of EarthLink’s ownership interest in HELIO, HELIO was considered arelated party. In August 2008, Virgin Mobile acquired HELIO and EarthLink’sequity and debt investments in HELIO were exchanged for limited partnershipunits of Virgin Mobile. EarthLink and HELIO have a services agreement pursuantto which EarthLink provides HELIO billing and other support services inexchange for management fees. The service agreement will remain in effectthrough the remainder of 2008. The management fees were determined based onEarthLink’s costs to provide the services, and management believes such feesare reasonable.  The total amount of feesthat HELIO pays to EarthLink depends on the extent to which HELIO utilizesEarthLink’s services.  Fees for servicesprovided to HELIO are reflected as reductions to the associated expensesincurred by EarthLink to provide such services. During the three months ended September 30,2007 and 2008, fees received for services provided to HELIO were $0.4 millionand $0.3 million, respectively. During the nine months ended September 30,2007 and 2008, fees received for services provided to HELIO were $1.3 millionand $1.0 million, respectively.

 

As of December 31,2007, the Company had accounts receivable from HELIO of approximately $0.2million.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

**13.  Fair Value Measurements**

 

On January 1,2008, the Company adopted SFAS No. 157, “Fair Value Measurements,” whichestablishes a framework for reporting fair value and expands disclosuresrequired for fair value measurements. Although the adoption of SFAS No. 157did not materially impact its financial condition, results of operations orcash flow, the Company is now required to provide additional disclosures aspart of its financial statements.

 

SFAS No. 157defines fair value as the price that would be received to sell an asset or paidto transfer a liability in an orderly transaction between market participantsat the measurement date (an exit price). SFAS No. 157 establishes athree-tier fair value hierarchy, which prioritizes the inputs used in measuringfair value.  These tiers include: Level 1, defined as observableinputs such as quoted prices in active markets; Level 2, defined as inputsother than quoted prices in active markets that are either directly orindirectly observable; and Level 3, defined as unobservable inputs in whichlittle or no market data exists, therefore requiring an entity to develop itsown assumptions.

 

As of September 30,2008, the Company held certain assets that are required to be measured at fairvalue on a recurring basis.  These included the Company’s cashequivalents, investments in marketable securities, including auction ratesecurities, and investments in other companies.

 

Thefollowing table presents the Company’s assets measured at fair value on arecurring basis subject to the disclosure requirements of SFAS No. 157 asof September 30, 2008:

** **
| ** **                      | ** ** | ** **                       | ** ** | **Fair Value Measurements as of September 30, 2008 Using** | ** ** |
|---------------------------------|------------|----------------------------------|------------|----------------------------------------------------------------------------------------------------|------------|
| ** **                      | ** ** | ** **                       | ** ** | **Quoted Prices in**                                                                     | ** ** | **Significant Other** | ** ** | **Significant** | ** ** |
| ** **                      | ** ** | ** **                       | ** ** | **Active Markets for**                                                                   | ** ** | **Observable** | ** ** | **Unobservable** | ** ** |
| ** **                      | ** ** | **Balance as of**      | ** ** | **Identical Assets**                                                                          | ** ** | **Inputs** | ** ** | **Inputs** | ** ** |
| **Description**                 | ** ** | **September 30, 2008** | ** ** | **(Level 1)**                                                                                 | ** ** | **(Level 2)** | ** ** | **(Level 3)** | ** ** |
| ** **                      | ** ** | **(in thousands)**          | ** ** |
| Cash equivalents                |       | $                                | 427,594    |                                                                                               | $          | 427,594 |   | $ | — |   | $ | — |   |
| Auction rate  securities        |       | 52,428                           |       | —                                                                                             |       | — |   | 52,428 |   |
| Investments in  other companies |       | 4,829                            |       | 125                                                                                                |       | — |   | 4,704 |   |
| Total                           |       | $                                | 484,851    |                                                                                               | $          | 427,719 |   | $ | — |   | $ | 57,132 |   |

 

Cashequivalents, auction rate securities and equity investments in other companies aremeasured at fair value.  Cash equivalentsand equity investments in other companies that are valued using quoted marketprices are classified within Level 1. Equity investments in other companiesthat are valued using unobservable inputs are classified as Level 3. Theseinputs reflect the Company’s assumptions about the assumptions marketparticipants would use in pricing the assets and were developed based on thebest information available. Investments in auction rate securities areclassified within Level 3 because they are valued using a discounted cash flowmodel. Some of the inputs to this model are unobservable in the market and aresignificant. The Company has consistently applied these valuation techniques inall periods presented.

 

TheCompany has invested in auction rate securities, which are more fully describedin Note 6, “Investments.”  Beginning in February 2008, theseinstruments held by the Company failed to attract sufficientbuyers.  As a result, these securities do not have a readily determinablemarket value and are not liquid. The fair values of the Company’s auction ratesecurities as of September 30, 2008 were estimated utilizing a discountedcash flow analysis.  These analyses consider, among other items, thecollateralization underlying the security investments, the creditworthiness ofthe counterparty, and the timing and value of expected future cashflows.  These securities were also compared, when possible, to otherobservable market data with similar characteristics to the securities held bythe Company.

 

Basedon market conditions, the Company changed its valuation methodology for auctionrate securities to a discounted cash flow analysis during the nine months endedSeptember 30, 2008.  Accordingly, these 

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

securities changed from Level 1 to Level 3 withinSFAS No. 157’s hierarchy since the Company’s initial adoption of SFAS No. 157on January 1, 2008.

 

Thefollowing table presents the Company’s assets measured at fair value on arecurring basis using significant unobservable inputs (Level 3) as defined inSFAS No. 157 as of September 30, 2008:

** **

| ** **                                 | ** ** | **Auction**             | ** ** |
|--------------------------------------------|------------|-------------------------|------------|
| ** **                                 | ** ** | **Rate**                | ** ** |
| ** **                                 | ** ** | **Securities**          | ** ** |
| ** **                                 | ** ** | **(in thousands)** | ** ** |
| **Balance  as of December 31, 2007**  |       | $                       | —     |   |
| Transfers to  Level 3                      |       | 38,900                  |       |
| Total unrealized  losses                   |       | (5,322                  | )          |
| Purchases and  settlements (net)           |       | 18,850                  |       |
| **Balance  as of September 30, 2008** |       | $                       | 52,428     |   |

 

The $5.3 million of unrealizedlosses are included in unrealized losses on investments as a separate componentof stockholders’ equity and in total comprehensive income (loss) and relate toassets held as of September 30, 2008.

 

**14.  Segment Information**

 

Inaccordance with SFAS No. 131, “Disclosures about Segments of an Enterpriseand Related Information,” the Company reports segment information along thesame lines that its chief executive officer reviews its operating results inassessing performance and allocating resources. The Company operates tworeportable segments, Consumer Services and Business Services, which aredescribed below in more detail.

 

TheCompany’s segments are strategic business units that are managed based upondifferences in customers, services and marketing channels. The Company’sConsumer Services segment provides Internet access services and relatedvalue-added services to individual customers. These services include dial-upand high-speed Internet access and voice services, among others. The Company’sBusiness Services segment provides Internet access services and relatedvalue-added services to businesses and communications carriers. These servicesinclude managed data networks, dedicated Internet access and web hosting, amongothers.

 

TheCompany evaluates performance of its segments based on segment income fromoperations. Segment income from operations includes revenues from externalcustomers, related cost of revenues and operating expenses directlyattributable to the segment, which include costs over which segment managershave direct discretionary control, such as advertising and marketing programs,customer support expenses, site operations expenses, product development expenses,certain technology and facilities expenses, billing operations and provisionsfor doubtful accounts. Segment income from operations excludes other income andexpense items and certain expenses over which segment managers do not havediscretionary control. Costs excluded from segment income from operationsinclude various corporate expenses (consisting of certain costs such ascorporate management, human resources, finance and legal), amortization ofintangible assets, facility exit and restructuring costs, and stock-basedcompensation expense under SFAS No. 123(R), as they are not considered inthe measurement of segment performance.

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

Information on reportable segments and a reconciliation to consolidatedincome from operations for the three and nine months ended September 30,2007 and 2008 is as follows:

 
| ** **                                    | ** ** | **Three Months Ended September 30,** | ** ** | **Nine Months Ended September 30,** | ** ** |
|-----------------------------------------------|------------|----------------------------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                                    | ** ** | **2007**                                                 | ** ** | **2008**                                                | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                                    | ** ** | **(in thousands)**                                  | ** ** |
| **Consumer  Services**                        |       |                                                     |       |                                                    |       |   |   |   |   |
| Revenues                                      |       | $                                                        | 250,521    |                                                    | $          | 187,799 |   | $ | 790,692 |   | $ | 605,340 |   |
| Cost of revenues                              |       | 80,395                                                   |       | 62,550                                                  |       | 249,024 |   | 201,053 |   |
| Gross margin                                  |       | 170,126                                                  |       | 125,249                                                 |       | 541,668 |   | 404,287 |   |
| Direct segment  operating expenses            |       | 126,631                                                  |       | 49,803                                                  |       | 417,914 |   | 164,496 |   |
| Segment  operating income                     |       | $                                                        | 43,495     |                                                    | $          | 75,446 |   | $ | 123,754 |   | $ | 239,791 |   |
|                                          |       |                                                     |       |                                                    |       |   |   |   |   |
| **Business  Services**                        |       |                                                     |       |                                                    |       |   |   |   |   |
| Revenues                                      |       | $                                                        | 47,471     |                                                    | $          | 43,032 |   | $ | 143,313 |   | $ | 134,168 |   |
| Cost of revenues                              |       | 29,360                                                   |       | 25,066                                                  |       | 88,835 |   | 76,602 |   |
| Gross margin                                  |       | 18,111                                                   |       | 17,966                                                  |       | 54,478 |   | 57,566 |   |
| Direct segment  operating expenses            |       | 12,253                                                   |       | 12,481                                                  |       | 45,040 |   | 39,308 |   |
| Segment  operating income                     |       | $                                                        | 5,858      |                                                    | $          | 5,485 |   | $ | 9,438 |   | $ | 18,258 |   |
|                                          |       |                                                     |       |                                                    |       |   |   |   |   |
| **Consolidated**                              |       |                                                     |       |                                                    |       |   |   |   |   |
| Revenues                                      |       | $                                                        | 297,992    |                                                    | $          | 230,831 |   | $ | 934,005 |   | $ | 739,508 |   |
| Cost of revenues                              |       | 109,755                                                  |       | 87,616                                                  |       | 337,859 |   | 277,655 |   |
| Gross margin                                  |       | 188,237                                                  |       | 143,215                                                 |       | 596,146 |   | 461,853 |   |
| Direct segment  operating expenses            |       | 138,884                                                  |       | 62,284                                                  |       | 462,954 |   | 203,804 |   |
| Segment  operating income                     |       | 49,353                                                   |       | 80,931                                                  |       | 133,192 |   | 258,049 |   |
| Stock-based  compensation expense             |       | 4,303                                                    |       | 4,597                                                   |       | 15,081 |   | 14,319 |   |
| Amortization of  intangible assets            |       | 3,836                                                    |       | 3,153                                                   |       | 10,874 |   | 11,153 |   |
| Facility exit,  restructuring and other costs |       | 34,162                                                   |       | 1,078                                                   |       | 34,162 |   | 4,169 |   |
| Other operating  expenses                     |       | 11,610                                                   |       | 12,674                                                  |       | 44,487 |   | 39,714 |   |
| Income from  operations                       |       | $                                                        | (4,558     | )                                                       | $          | 59,429 |   | $ | 28,588 |   | $ | 188,694 |   |

 

Theprimary component of the Company’s revenues is access and service revenues,which consist of narrowband access services (including traditional,fully-featured narrowband access and value-priced narrowband access); broadbandaccess services (including high-speed access via DSL, cable and satellitetechnologies, IP-based voice and fees charged for high-speed data networks tosmall and medium-sized businesses); and web hosting services. The Company alsoearns revenues from value-added services, which include ancillary services soldas add-on features to the Company’s access services, search and advertisingrevenues.

 

Consumeraccess and service revenues consist of narrowband access, broadband access andvoice services. These revenues are derived from monthly fees charged tocustomers for dial-up Internet access; monthly retail and wholesale feescharged for high-speed, high-capacity access services including DSL, cable andsatellite; fees charged for IP-based voice services; usage fees; installationfees; termination fees; and fees for equipment. Consumer value-added servicesrevenues consist of search revenues; advertising revenues; revenues fromancillary services sold as add-on features to the Company’s Internet services,such as security products, email by phone, Internet call waiting and emailstorage; and revenues from home networking products and services.

 

Businessaccess and service revenues consist of retail and wholesale fees charged forhigh-speed, high-capacity access services including DSL, cable, satellite anddedicated circuit services; fees charged for high-speed 

 

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**EARTHLINK, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**UNAUDITED - (Continued)**

 

data networks for small and medium-sized businesses;installation fees; termination fees; fees for equipment; regulatory surchargesbilled to customers; and web hosting.

 

Informationon revenues by groups of similar services and by segment for the three and ninemonths ended September 30, 2007 and 2008 is as follows:

 

| ** **             | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **             | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **             | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **             | ** ** | **(in thousands)**          | ** ** |
| **Consumer  Services** |       |                             |       |                            |       |   |   |   |   |
| Access and  service    |       | $                                | 218,609    |                            | $          | 164,306 |   | $ | 692,801 |   | $ | 529,557 |   |
| Value-added  services  |       | 31,912                           |       | 23,493                          |       | 97,891 |   | 75,783 |   |
| Total revenues         |       | $                                | 250,521    |                            | $          | 187,799 |   | $ | 790,692 |   | $ | 605,340 |   |
|                   |       |                             |       |                            |       |   |   |   |   |
| **Business  Services** |       |                             |       |                            |       |   |   |   |   |
| Access and  service    |       | $                                | 46,833     |                            | $          | 42,387 |   | $ | 141,115 |   | $ | 132,026 |   |
| Value-added  services  |       | 638                              |       | 645                             |       | 2,198 |   | 2,142 |   |
| Total revenues         |       | $                                | 47,471     |                            | $          | 43,032 |   | $ | 143,313 |   | $ | 134,168 |   |
|                   |       |                             |       |                            |       |   |   |   |   |
| **Consolidated**       |       |                             |       |                            |       |   |   |   |   |
| Access and  service    |       | $                                | 265,442    |                            | $          | 206,693 |   | $ | 833,916 |   | $ | 661,583 |   |
| Value-added  services  |       | 32,550                           |       | 24,138                          |       | 100,089 |   | 77,925 |   |
| Total revenues         |       | $                                | 297,992    |                            | $          | 230,831 |   | $ | 934,005 |   | $ | 739,508 |   |

 

TheCompany manages its working capital on a consolidated basis and does notallocate long-lived assets to segments. In addition, segment assets are notreported to, or used by, the chief operating decision maker and therefore,pursuant to SFAS No. 131, total segment assets have not been disclosed.

 

TheCompany has not provided information about geographic segments becausesubstantially all of the Company’s revenues, results of operations andidentifiable assets are in the United States.

 

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**Item 2.   Management’s Discussion and Analysis ofFinancial Condition and Results of Operations.**

 

Certain statements in thisQuarterly Report on Form 10-Q are forward-looking statements within the meaningof the Private Securities Litigation Reform Act of 1995, Section 27A ofthe Securities Act of 1933, and Section 21E of the Securities Exchange Actof 1934. The words “estimate,” “plan,” “intend,” “expect,” “anticipate,” “believe”and similar expressions are intended to identify forward-looking statements.These forward-looking statements are found at various places throughout thisreport. EarthLink disclaims any intention or obligation to update or revise anyforward-looking statements, whether as a result of new information, futureevents or otherwise. Although EarthLink believes that its expectations arebased on reasonable assumptions, it can give no assurance that its goals willbe achieved. Important factors that could cause actual results to differ fromestimates or projections contained in the forward-looking statements aredescribed under “Safe Harbor Statement” in this Item 2.

 

*The following discussionshould be read in conjunction with the accompanying unaudited CondensedConsolidated Financial Statements and related Notes thereto and with “Management’sDiscussion and Analysis of Financial Condition and Results of Operations” andthe audited Consolidated Financial Statements and the Notes thereto containedin the Annual Report on Form 10-K for the year ended December 31,2007.*

 

**Overview**

 

EarthLink, Inc.is an Internet service provider, or ISP, providing nationwide Internet accessand related value-added services to individual and business customers. Ourprimary service offerings include dial-up Internet access, high-speed Internetaccess and web hosting services. We also provide value-added services, such assearch, advertising and ancillary services sold as add-on features to ourInternet access services. In addition, through our wholly-owned subsidiary, NewEdge Networks, we provide secure multi-site managed data networks and dedicatedInternet access for businesses and communications carriers.

 

Weoperate two reportable segments, Consumer Services and Business Services. OurConsumer Services segment provides Internet access and related value-addedservices to individual customers. These services include dial-up and high-speedInternet access and voice services, among others. Our Business Services segmentprovides Internet access and related value-added services to businesses andcommunications carriers. These services include managed data networks,dedicated Internet access and web hosting, among others.

 

*IndustryBackground*

 

Weoperate in the Internet access market, which is characterized by intensecompetition, changing technology, evolving industry standards, changes incustomer needs and new service and product introductions. The Internet accessmarket has reached a mature stage of growth; however, growth is expected tocontinue at a slow rate as more services become available online, Internetaccess prices remain low, computer prices continue to decline and consumersincreasingly gain access at places outside the home.

 

In thelast few years, the composition of the Internet access market has changed andthe number of households with broadband access surpassed the number ofhouseholds with dial-up access. Consumers continue to migrate to broadband dueto the faster connection and download speeds provided by broadband access, theability to free up their phone lines and the more reliable and “always on”connection. The pricing for broadband services, particularly for introductorypromotional periods, services bundled with video and telephone services, andservices with slower speeds, has been declining, making it a more viable optionfor consumers that continue to rely on dial-up connections for Internet access.In addition, advanced applications such as online gaming, music downloads andphoto sharing require greater bandwidth for optimal performance, which adds tothe demand for broadband access. Within the premium-priced narrowband Internetaccess market, access providers are competing for a decreasing customer base,as customers switch to broadband services and value-priced narrowband services.However, analysts predict a continuing market for dial-up customers due to theunavailability of broadband service in rural areas, the lower cost of dial-upInternet access and the sufficiency of narrowband speed, particularly fornon-technical Internet users.

 

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*RevenueSources*

 

Weprovide access services (including traditional, fully-featured narrowbandaccess and value-priced narrowband access; high-speed access via DSL, cable andsatellite; IP-based voice; and high-speed data networks for small andmedium-sized businesses and communications carriers) and value-added services(including ancillary services sold as an add-on feature to our services, searchand advertising). We earn access services revenues primarily from monthly feescharged to customers for services. We also earn revenues from usage fees;installation fees; termination fees; and fees for equipment used to access ourservices. We earn value-added services revenues primarily from monthly feescharged for ancillary services; paid placements for searches; advertising ourpartners’ products and services in our various online properties and electronicpublications; and referring our customers to our partners’ products andservices. Total revenues were $298.0 million and $230.8 million during thethree months ended September 30, 2007 and 2008, respectively. Our revenuesdeclined over the past year primarily as a result of a change in our businessstrategy to reduce sales and marketing activities which were resulting inadding customers that did not provide an acceptable rate of return or that hada pattern of early life churn. Additionally, our traditional, premium-pricednarrowband revenues have been declining due to the maturity of this service.

 

*BusinessStrategy and Risks*

 

Ourbusiness strategy is to sustain and build upon our strong position in the U.S.Internet access market by focusing on operational efficiency, retaining ourexisting tenured customers and seeking opportunities for growth.

 

·                  *OperationalEfficiency*. We are focused on improving the cost structure of ourbusiness and aligning our cost structure with trends in our revenue, withoutimpacting the quality of services we provide. We are focused on delivering ourservices more cost effectively by reducing and more efficiently handling thenumber of calls to contact centers, managing cost effective outsourcingopportunities and streamlining our internal processes and operations.  We are also focused on reducingcommunications costs by increasing the efficiency of our networks and enteringinto more favorable agreements with telecommunications providers.

 

·                  *CustomerRetention*. We are focused on retaining our existing tenuredcustomers. We continue to focus on offering reasonably priced access withhigh-quality customer service and technical support. We believe focusing on thecustomer relationship will increase loyalty and reduce churn.  We also believe that these tenured customersprovide cost benefits, including reduced call center support costs and reducedbad debt expense.

 

·                  *Opportunitiesfor Growth*.  In response tochanges in our business, we have significantly reduced our sales and marketingspending. However, we are focused on continuing to add customers that generatean acceptable rate of return and increasing the number of subscribers we addthrough partnerships and acquisitions from other ISPs.  We will evaluate potential strategictransactions that could complement our business. We are also focused on addingcustomers organically by growing our services to business customers through NewEdge Networks, our wholly-owned subsidiary. We believe this is a potentialgrowth market and we will continue to differentiate ourselves by providingcustomers with choices for our business services.

 

Theprimary challenges we face in executing our business strategy are managing therate of decline in our revenues, responding to competition, reducing churn,maintaining profitability in our access services, purchasing cost-effectivewholesale broadband access and adding customers that generate an acceptablerate of return. The factors we believe are instrumental to the achievement ofour goals and targets, including the factors identified above, may be subjectto competitive, regulatory and other events and circumstances that are beyondour control. Further, we can provide no assurance that we will be successful inachieving any or all of the factors identified above, that the achievement orexistence of such factors will favorably impact profitability, or that otherfactors will not arise that would adversely affect future profitability.

 

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*Third Quarter2008 Highlights*

 

Totalrevenues decreased during the three months ended September 30, 2008compared to the prior year period, as our subscriber base decreased fromapproximately 4.1 million paying subscribers as of September 30, 2007 toapproximately 3.0 million paying subscribers as of September 30, 2008. Thedecrease in subscribers consisted primarily of decreases in PeoplePC value-pricednarrowband, premium narrowband and broadband subscribers, which wereattributable to a change in our business strategy to reduce sales and marketingactivities. Also contributing to the decrease was the continuing maturation ofthe narrowband Internet access market and competition from other serviceproviders. Overall operating expenses decreased during the three months ended September 30,2008 compared to the prior year period primarily due to a reduction in costs toacquire new subscribers and a decrease in support costs due to fewer customersand a more tenured subscriber base. We recognized net income of $54.7 millionduring the three months ended September 30, 2008 compared to a net loss of$79.4 million during the three months ended September 30, 2007. This wasdue to the decrease in total operating costs and expenses, a decrease in netlosses of HELIO, as we discontinued recording equity method losses during 2007,and a decrease in facility exit, restructuring and other costs. These improvementswere partially offset by the decrease in revenues, a favorable change in gain(loss) on investments in other companies, net, and an increase in our incometax provision.

 

*Looking Ahead*

 

Weexpect total revenues to continue to decrease during the remainder of 2008 andduring 2009 as we reduce sales and marketing efforts aimed at customers thathave a high acquisition cost and early life churn. We also expect cost savingsassociated with our decreased sales and marketing activities, decreased supportcosts from a more tenured customer base and benefits realized from ourcorporate restructuring plan to offset some of the decline in our revenues.However, although we expect operating costs and expenses to decrease, we do notanticipate the large-scale cost reduction opportunities that we haveexperienced during the three and nine months ended September 30, 2008.

 

**Joint Venture**

 

We hada joint venture with SK Telecom, HELIO. HELIO was a non-facilities-based mobilevirtual network operator (MVNO) offering mobile communications services andhandsets to consumers in the U.S. HELIO was formed in March 2005 and beganoffering its products and services in April 2006. In August 2008,Virgin Mobile USA, Inc. (“Virgin Mobile”) acquired HELIO in exchange forlimited partnership units equivalent to 13 million shares of Virgin Mobilecommon stock. Our equity and debt investments in HELIO were exchanged forlimited partnership units equivalent to approximately 1.8 million shares ofVirgin Mobile common stock. As a result, we have an approximate 2% ownershipinterest in Virgin Mobile.

 

**MarketingAlliance**

 

We have an agreement with TimeWarner Cable and Bright House Networks, companies whose networks pass more than30 million homes, to offer our broadband Internet access services overtheir systems.  In connection with theagreement, Time Warner Cable and Bright House Networks receive considerationfrom EarthLink for carrying the EarthLink service and related Internet traffic.As of September 30, 2008, more than 40% of our consumer broadbandsubscribers were serviced via either the Time Warner Cable or Bright House Networksnetwork.

 

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**Key OperatingMetrics**

 

Weutilize certain non-financial and operating measures to assess our financialperformance. Terms such as churn and average revenue per user (“ARPU”) areterms commonly used in our industry. The following table sets forthsubscriber and operating data for the periods indicated:

 
| ** **                                   | ** ** | **September 30,** | ** ** | **December 31,** | ** ** | **June 30,** | ** ** | **September 30,** | ** ** |
|----------------------------------------------|------------|------------------------|------------|-----------------------|------------|-------------------|------------|------------------------|------------|
| ** **                                   | ** ** | **2007**               | ** ** | **2007**              | ** ** | **2008**          | ** ** | **2008**               | ** ** |
| **Subscriber  Data (a)**                     |       |                   |       |                  |       |              |       |                   |       |
| **Consumer  Services**                       |       |                   |       |                  |       |              |       |                   |       |
| Narrowband  access subscribers               |       | 2,856,000              |       | 2,624,000             |       | 2,130,000         |       | 1,920,000              |       |
| Broadband access  subscribers (b)            |       | 1,081,000              |       | 1,059,000             |       | 988,000           |       | 933,000                |       |
| Total consumer  services                     |       | 3,937,000              |       | 3,683,000             |       | 3,118,000         |       | 2,853,000              |       |
| **Business  Services**                       |       |                   |       |                  |       |              |       |                   |       |
| Narrowband  access subscribers               |       | 30,000                 |       | 27,000                |       | 24,000            |       | 19,000                 |       |
| Broadband access  subscribers                |       | 69,000                 |       | 66,000                |       | 63,000            |       | 61,000                 |       |
| Web hosting  accounts                        |       | 103,000                |       | 100,000               |       | 94,000            |       | 91,000                 |       |
| Total business services                      |       | 202,000                |       | 193,000               |       | 181,000           |       | 171,000                |       |
| **Total  subscriber count at end of period** |       | 4,139,000              |       | 3,876,000             |       | 3,299,000         |       | 3,024,000              |       |

 
| ** **                          | ** ** | **Three  Months Ended** |       | **Nine  Months Ended** |       |
|-------------------------------------|------------|-------------------------|------------|------------------------|------------|
| ** **                          | ** ** | **September 30,**  |       | **September 30,** |       |
| ** **                          | ** ** | **2007**                | ** ** | **2008**               | ** ** | **2007** | ** ** | **2008** |   |
| **Subscriber  Activity**            |       |                    |       |                   |       |   |   |   |   |
| Subscribers at  beginning of period |       | 4,337,000               |       | 3,299,000              |       | 5,313,000 |   | 3,876,000 |   |
| Gross organic  subscriber additions |       | 491,000                 |       | 137,000                |       | 1,628,000 |   | 552,000 |   |
| Acquired  subscribers               |       | 31,000                  |       | 2,000                  |       | 65,000 |   | 2,000 |   |
| Adjustment (c)                      |       | —                  |       | (15,000                | )          | (753,000 | ) | (15,000 | ) |
| Churn                               |       | (720,000                | )          | (399,000               | )          | (2,114,000 | ) | (1,391,000 | ) |
| Subscribers at  end of period       |       | 4,139,000               |       | 3,024,000              |       | 4,139,000 |   | 3,024,000 |   |
|                                |       |                    |       |                   |       |   |   |   |   |
| **Churn  rate (d)**                 |       | 5.7                     | %          | 4.2                    | %          | 5.0 | % | 4.5 | % |
|                                |       |                    |       |                   |       |   |   |   |   |
| **Consumer  Services Data**         |       |                    |       |                   |       |   |   |   |   |
| Average  subscribers (e)            |       | 4,022,000               |       | 2,980,000              |       | 4,485,000 |   | 3,256,000 |   |
| ARPU (f)                            |       | $                       | 20.76      |                   | $          | 21.00 |   | $ | 19.59 |   | $ | 20.66 |   |
| Churn rate (d)                      |       | 5.9                     | %          | 4.3                    | %          | 5.1 | % | 4.6 | % |
|                                |       |                    |       |                   |       |   |   |   |   |
| **Business  Services Data**         |       |                    |       |                   |       |   |   |   |   |
| Average subscribers  (e)            |       | 204,000                 |       | 176,000                |       | 211,000 |   | 183,000 |   |
| ARPU (f)                            |       | $                       | 77.56      |                   | $          | 81.50 |   | $ | 75.58 |   | $ | 81.33 |   |
| Churn rate (d)                      |       | 2.4                     | %          | 3.2                    | %          | 2.6 | % | 2.8 | % |

 

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(a) Subscribercounts do not include nonpaying customers. Customers receiving service underpromotional programs that include periods of free service at inception are notincluded in subscriber counts until they become paying customers.

 

(b) Customerswho subscribe to our EarthLink DSL and Home Phone service are counted as both abroadband subscriber and a voice subscriber.

 

(c) Wehad a marketing relationship with Embarq, a spin-off of Sprint NextelCorporation’s local communications business, under which EarthLink was thewholesale high-speed ISP for Embarq’s local 

 

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residentialand small business customers. The contracts associated with these arrangementsexpired in April 2007. As a result, we removed 753,000 wholesale broadbandEarthLink-supported Embarq subscribers from our broadband subscriber count andtotal subscriber count. During the three months ended September 30, 2008,we removed 15,000 EarthLink supported Sprint customers from our broadbandsubscriber counts due to the termination of the wholesale arrangement bySprint.

 

(d) Churn rate is used to measure the rate at which subscribers discontinue serviceon a voluntary or involuntary basis. Churn rate is computed by dividing the average monthly number ofsubscribers that discontinued service during the period by the averagesubscribers for the period.

 

(e)  Average subscribers oraccounts for the three month periods is calculated by averaging the endingmonthly subscribers or accounts for the four months preceding and including theend of the quarterly period. Average subscribers or accounts for the nine monthperiods is calculated by averaging the ending monthly subscribers or accountsfor the ten months preceding and including the end of the period.

 

(f) ARPUrepresents the average monthly revenue per user (subscriber). ARPU is computedby dividing average monthly revenue for the period by the average number ofsubscribers for the period. Average monthly revenue used to calculate ARPUincludes recurring service revenue as well as nonrecurring revenues associatedwith equipment and other one-time charges associated with initiating ordiscontinuing services.

 

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**Results ofOperations**

 

***Consolidated Results of Operations***

 

Thefollowing table sets forth statement of operations data for the periodsindicated:

 
| ** **                                                    | ** ** | **Three Months Ended**     | ** ** | ** ** | ** ** | ** **  | ** ** | **Nine Months Ended** | ** ** | ** ** | ** ** | ** **  | ** ** |
|---------------------------------------------------------------|------------|--------------------------------------|------------|------------|------------|-------------|------------|---------------------------------|------------|------------|------------|-------------|------------|
| ** **                                                    | ** ** | **September 30,**               | ** ** | **Dollar** | ** ** | **Percent** | ** ** | **September 30,**          | ** ** | **Dollar** | ** ** | **Percent** | ** ** |
| ** **                                                    | ** ** | **2007**                             | ** ** | **2008**   | ** ** | **Change**  | ** ** | **Change**                      | ** ** | **2007**   | ** ** | **2008**    | ** ** | **Change** | ** ** | **Change** | ** ** |
| ** **                                                    | ** ** | **(dollars in thousands)** | ** ** |
|                                                          |       |                                 |       |       |       |        |       |                            |       |       |       |        |       |   |   |   |   |
| Revenues                                                      |       | $                                    | 297,992    |       | $          | 230,831     |       | $                               | (67,161    | )          | -23%       |        | $          | 934,005 |   | $ | 739,508 |   | $ | (194,497 | ) | -21% |   |
|                                                          |       |                                 |       |       |       |        |       |                            |       |       |       |        |       |   |   |   |   |
| Operating costs  and expenses:                                |       |                                 |       |       |       |        |       |                            |       |       |       |        |       |   |   |   |   |
| Service and  equipment costs                                  |       | 105,954                              |       | 86,917     |       | (19,037     | )          | -18%                            |       | 324,344    |       | 275,626     |       | (48,718 | ) | -15% |   |
| Sales incentives                                              |       | 3,801                                |       | 699        |       | (3,102      | )          | -82%                            |       | 13,515     |       | 2,029       |       | (11,486 | ) | -85% |   |
| Total cost of  revenues                                       |       | 109,755                              |       | 87,616     |       | (22,139     | )          | -20%                            |       | 337,859    |       | 277,655     |       | (60,204 | ) | -18% |   |
|                                                          |       |                                 |       |       |       |        |       |                            |       |       |       |        |       |   |   |   |   |
| Sales and  marketing                                          |       | 71,584                               |       | 22,191     |       | (49,393     | )          | -69%                            |       | 246,653    |       | 78,913      |       | (167,740 | ) | -68% |   |
| Operations and  customer support                              |       | 54,561                               |       | 34,048     |       | (20,513     | )          | -38%                            |       | 174,525    |       | 106,914     |       | (67,611 | ) | -39% |   |
| General and  administrative                                   |       | 28,652                               |       | 23,316     |       | (5,336      | )          | -19%                            |       | 101,344    |       | 72,010      |       | (29,334 | ) | -29% |   |
| Amortization of  intangible assets                            |       | 3,836                                |       | 3,153      |       | (683        | )          | -18%                            |       | 10,874     |       | 11,153      |       | 279 |   | 3% |   |
| Facility exit,  restructuring and other costs                 |       | 34,162                               |       | 1,078      |       | (33,084     | )          | -97%                            |       | 34,162     |       | 4,169       |       | (29,993 | ) | -88% |   |
| Total operating  costs and expenses                           |       | 302,550                              |       | 171,402    |       | (131,148    | )          | -43%                            |       | 905,417    |       | 550,814     |       | (354,603 | ) | -39% |   |
|                                                          |       |                                 |       |       |       |        |       |                            |       |       |       |        |       |   |   |   |   |
| Income (loss)  from operations                                |       | (4,558                               | )          | 59,429     |       | 63,987      |       | *                               |       | 28,588     |       | 188,694     |       | 160,106 |   | 560% |   |
| Net losses of  equity affiliate                               |       | (41,895                              | )          | —     |       | 41,895      |       | -100%                           |       | (111,295   | )          | —      |       | 111,295 |   | -100% |   |
| Gain (loss) on  investments in other companies, net           |       | (5,810                               | )          | 4,352      |       | 10,162      |       | 175%                            |       | (5,600     | )          | 5,677       |       | 11,277 |   | 201% |   |
| Interest income  (expense) and other, net                     |       | 4,182                                |       | (490       | )          | (4,672      | )          | -112%                           |       | 11,282     |       | 366         |       | (10,916 | ) | -97% |   |
| Income (loss)  from continuing operations before income taxes |       | (48,081                              | )          | 63,291     |       | 111,372     |       | 232%                            |       | (77,025    | )          | 194,737     |       | 271,762 |   | 353% |   |
| Income tax  benefit (provision)                               |       | 30                                   |       | (7,924     | )          | (7,954      | )          | *                               |       | (365       | )          | (23,923     | )          | (23,558 | ) | * |   |
| Income (loss)  from continuing operations                     |       | (48,051                              | )          | 55,367     |       | 103,418     |       | 215%                            |       | (77,390    | )          | 170,814     |       | 248,204 |   | 321% |   |
| Loss from  discontinued operations, net of tax                |       | (31,330                              | )          | (681       | )          | 30,649      |       | -98%                            |       | (48,243    | )          | (8,438      | )          | 39,805 |   | -83% |   |
| Net income (loss)                                             |       | $                                    | (79,381    | )          | $          | 54,686      |       | $                               | 134,067    |       | 169%       |        | $          | (125,633 | ) | $ | 162,376 |   | $ | 288,009 |   | 229% |   |

 

----

*denotes percentage is not meaningful

 

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***Segment Results of Operations***

 

Ourbusiness segments are strategic business units that are managed based upondifferences in customers, services and marketing channels. Our ConsumerServices segment provides dial-up Internet access, high-speed Internet accessand voice services, among others, to individual customers. Our Business Servicessegment provides managed data networks, dedicated Internet access and webhosting, among others, to businesses and communications carriers.

 

Weevaluate the performance of our operating segments based on segment income fromoperations. Segment income from operations includes revenues from externalcustomers, related cost of revenues and operating expenses directlyattributable to the segment, which include expenses over which segment managershave direct discretionary control, such as advertising and marketing programs,customer support expenses, site operations expenses, product developmentexpenses, certain technology and facilities expenses, billing operations andprovisions for doubtful accounts. Segment income from operations excludes otherincome and expense items and certain expenses over which segment managers donot have discretionary control. Costs excluded from segment income fromoperations include various corporate expenses (consisting of certain costs suchas corporate management, human resources, finance and legal), amortization ofintangible assets, facility exit and restructuring costs and stock-basedcompensation expense under Statement of Financial Accounting Standards (“SFAS”)No. 123(R), as they are not considered in the measurement of segmentperformance.

 

Thefollowing tables set forth segment data for the three months ended September 30,2007 and 2008:

 
| ** **                                    | ** ** | **Three Months Ended September 30,** | ** ** | ** ** | ** ** | ** **        | ** ** |
|-----------------------------------------------|------------|----------------------------------------------------------|------------|------------|------------|-------------------|------------|
| ** **                                    | ** ** | **2007**                                                 | ** ** | **2008**   | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **                                    | ** ** | **(dollars in thousands)**                     | ** ** |
| **Consumer  Services**                        |       |                                                     |       |       |       |              |       |   |   |
| Revenues                                      |       | $                                                        | 250,521    |       | $          | 187,799           |       | $ | (62,722 | ) | -25 | % |
| Cost of revenues                              |       | 80,395                                                   |       | 62,550     |       | (17,845           | )          | -22 | % |
| Gross margin                                  |       | 170,126                                                  |       | 125,249    |       | (44,877           | )          | -26 | % |
| Direct segment  operating expenses            |       | 126,631                                                  |       | 49,803     |       | (76,828           | )          | -61 | % |
| Segment  operating income                     |       | $                                                        | 43,495     |       | $          | 75,446            |       | $ | 31,951 |   | 73 | % |
|                                          |       |                                                     |       |       |       |              |       |   |   |
| **Business  Services**                        |       |                                                     |       |       |       |              |       |   |   |
| Revenues                                      |       | $                                                        | 47,471     |       | $          | 43,032            |       | $ | (4,439 | ) | -9 | % |
| Cost of revenues                              |       | 29,360                                                   |       | 25,066     |       | (4,294            | )          | -15 | % |
| Gross margin                                  |       | 18,111                                                   |       | 17,966     |       | (145              | )          | -1 | % |
| Direct segment  operating expenses            |       | 12,253                                                   |       | 12,481     |       | 228               |       | 2 | % |
| Segment  operating income                     |       | $                                                        | 5,858      |       | $          | 5,485             |       | $ | (373 | ) | -6 | % |
|                                          |       |                                                     |       |       |       |              |       |   |   |
| **Consolidated**                              |       |                                                     |       |       |       |              |       |   |   |
| Revenues                                      |       | $                                                        | 297,992    |       | $          | 230,831           |       | $ | (67,161 | ) | -23 | % |
| Cost of revenues                              |       | 109,755                                                  |       | 87,616     |       | (22,139           | )          | -20 | % |
| Gross margin                                  |       | 188,237                                                  |       | 143,215    |       | (45,022           | )          | -24 | % |
| Direct segment  operating expenses            |       | 138,884                                                  |       | 62,284     |       | (76,600           | )          | -55 | % |
| Segment  operating income                     |       | 49,353                                                   |       | 80,931     |       | 31,578            |       | 64 | % |
| Stock-based  compensation expense             |       | 4,303                                                    |       | 4,597      |       | 294               |       | 7 | % |
| Amortization of  intangible assets            |       | 3,836                                                    |       | 3,153      |       | (683              | )          | -18 | % |
| Facility exit,  restructuring and other costs |       | 34,162                                                   |       | 1,078      |       | (33,084           | )          | -97 | % |
| Other operating  expenses                     |       | 11,610                                                   |       | 12,674     |       | 1,064             |       | 9 | % |
| Income from  operations                       |       | $                                                        | (4,558     | )          | $          | 59,429            |       | $ | 63,987 |   |   | * |

 

----

*denotes percentage is not meaningful

 

Thefollowing tables set forth segment data for the nine months ended September 30,2007 and 2008:

 

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| ** **                                    | ** ** | **Nine Months Ended September 30,** | ** ** | ** ** | ** ** | ** **        | ** ** |
|-----------------------------------------------|------------|---------------------------------------------------------|------------|------------|------------|-------------------|------------|
| ** **                                    | ** ** | **2007**                                                | ** ** | **2008**   | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **                                    | ** ** | **(dollars in thousands)**                    | ** ** |
| **Consumer  Services**                        |       |                                                    |       |       |       |              |       |   |   |
| Revenues                                      |       | $                                                       | 790,692    |       | $          | 605,340           |       | $ | (185,352 | ) | -23 | % |
| Cost of revenues                              |       | 249,024                                                 |       | 201,053    |       | (47,971           | )          | -19 | % |
| Gross margin                                  |       | 541,668                                                 |       | 404,287    |       | (137,381          | )          | -25 | % |
| Direct segment  operating expenses            |       | 417,914                                                 |       | 164,496    |       | (253,418          | )          | -61 | % |
| Segment  operating income                     |       | $                                                       | 123,754    |       | $          | 239,791           |       | $ | 116,037 |   | 94 | % |
|                                          |       |                                                    |       |       |       |              |       |   |   |
| **Business  Services**                        |       |                                                    |       |       |       |              |       |   |   |
| Revenues                                      |       | $                                                       | 143,313    |       | $          | 134,168           |       | $ | (9,145 | ) | -6 | % |
| Cost of revenues                              |       | 88,835                                                  |       | 76,602     |       | (12,233           | )          | -14 | % |
| Gross margin                                  |       | 54,478                                                  |       | 57,566     |       | 3,088             |       | 6 | % |
| Direct segment  operating expenses            |       | 45,040                                                  |       | 39,308     |       | (5,732            | )          | -13 | % |
| Segment  operating income                     |       | $                                                       | 9,438      |       | $          | 18,258            |       | $ | 8,820 |   | 93 | % |
|                                          |       |                                                    |       |       |       |              |       |   |   |
| **Consolidated**                              |       |                                                    |       |       |       |              |       |   |   |
| Revenues                                      |       | $                                                       | 934,005    |       | $          | 739,508           |       | $ | (194,497 | ) | -21 | % |
| Cost of revenues                              |       | 337,859                                                 |       | 277,655    |       | (60,204           | )          | -18 | % |
| Gross margin                                  |       | 596,146                                                 |       | 461,853    |       | (134,293          | )          | -23 | % |
| Direct segment  operating expenses            |       | 462,954                                                 |       | 203,804    |       | (259,150          | )          | -56 | % |
| Segment  operating income                     |       | 133,192                                                 |       | 258,049    |       | 124,857           |       | 94 | % |
| Stock-based  compensation expense             |       | 15,081                                                  |       | 14,319     |       | (762              | )          | -5 | % |
| Amortization of  intangible assets            |       | 10,874                                                  |       | 11,153     |       | 279               |       | 3 | % |
| Facility exit,  restructuring and other costs |       | 34,162                                                  |       | 4,169      |       | (29,993           | )          | -88 | % |
| Other operating  expenses                     |       | 44,487                                                  |       | 39,714     |       | (4,773            | )          | -11 | % |
| Income from  operations                       |       | $                                                       | 28,588     |       | $          | 188,694           |       | $ | 160,106 |   | 560 | % |

 

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***Revenues***

 

Thefollowing table presents revenues by groups of similar services and by segmentfor the three and nine months ended September 30, 2007 and 2008:

 
| ** **             | ** ** | **Three Months Ended**     | ** ** | ** ** | ** ** | ** **        | ** ** | **Nine Months Ended** | ** ** | ** ** | ** ** | ** ** | ** ** |
|------------------------|------------|--------------------------------------|------------|------------|------------|-------------------|------------|---------------------------------|------------|------------|------------|------------|------------|
| ** **             | ** ** | **September 30,**               | ** ** | ** ** | ** ** | ** **        | ** ** | **September 30,**          | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **             | ** ** | **2007**                             | ** ** | **2008**   | ** ** | **$ Change** | ** ** | **% Change**               | ** ** | **2007**   | ** ** | **2008**   | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **             | ** ** | **(dollars in thousands)** | ** ** |
| **Consumer  Services** |       |                                 |       |       |       |              |       |                            |       |       |       |       |       |   |   |   |   |
| Access and  service    |       | $                                    | 218,609    |       | $          | 164,306           |       | $                               | (54,303    | )          | -25%       |       | $          | 692,801 |   | $ | 529,557 |   | $ | (163,244 | ) | -24% |   |
| Value-added  services  |       | 31,912                               |       | 23,493     |       | (8,419            | )          | -26%                            |       | 97,891     |       | 75,783     |       | (22,108 | ) | -23% |   |
| Total revenues         |       | $                                    | 250,521    |       | $          | 187,799           |       | $                               | (62,722    | )          | -25%       |       | $          | 790,692 |   | $ | 605,340 |   | $ | (185,352 | ) | -23% |   |
|                   |       |                                 |       |       |       |              |       |                            |       |       |       |       |       |   |   |   |   |
| **Business  Services** |       |                                 |       |       |       |              |       |                            |       |       |       |       |       |   |   |   |   |
| Access and  service    |       | $                                    | 46,833     |       | $          | 42,387            |       | $                               | (4,446     | )          | -9%        |       | $          | 141,115 |   | $ | 132,026 |   | $ | (9,089 | ) | -6% |   |
| Value-added  services  |       | 638                                  |       | 645        |       | 7                 |       | 1%                              |       | 2,198      |       | 2,142      |       | (56 | ) | -3% |   |
| Total revenues         |       | $                                    | 47,471     |       | $          | 43,032            |       | $                               | (4,439     | )          | -9%        |       | $          | 143,313 |   | $ | 134,168 |   | $ | (9,145 | ) | -6% |   |
|                   |       |                                 |       |       |       |              |       |                            |       |       |       |       |       |   |   |   |   |
| **Consolidated**       |       |                                 |       |       |       |              |       |                            |       |       |       |       |       |   |   |   |   |
| Access and  service    |       | $                                    | 265,442    |       | $          | 206,693           |       | $                               | (58,749    | )          | -22%       |       | $          | 833,916 |   | $ | 661,583 |   | $ | (172,333 | ) | -21% |   |
| Value-added  services  |       | 32,550                               |       | 24,138     |       | (8,412            | )          | -26%                            |       | 100,089    |       | 77,925     |       | (22,164 | ) | -22% |   |
| Total revenues         |       | $                                    | 297,992    |       | $          | 230,831           |       | $                               | (67,161    | )          | -23%       |       | $          | 934,005 |   | $ | 739,508 |   | $ | (194,497 | ) | -21% |   |

 

*Consolidatedrevenues*

 

 The primary component of our revenues isaccess and service revenues, which consist of narrowband access services(including traditional, fully-featured narrowband access and value-pricednarrowband access); broadband access services (including high-speed access viaDSL, cable and satellite; IP-based voice; and fees charged for high-speed datanetworks to small and medium-sized businesses and communications carriers); andweb hosting services. We also earn revenues from value-added services, whichinclude search, advertising and ancillary services sold as add-on features toour access services. Total revenues decreased from $298.0 million during thethree months ended September 30, 2007 to $230.8 million during the threemonths ended September 30, 2008, and decreased from $934.0 million duringthe nine months ended September 30, 2007 to $739.5 million during the ninemonths ended September 30, 2008. These were comprised of decreases of $62.7 million and $185.4 million inconsumer services revenue during the three and nine months ended September 30,2008, respectively, and decreases of $4.4 million and $9.1 million in businessservices revenues during the three and nine months ended September 30,2008, respectively.

 

Thedecreases in consumer services revenue were primarily attributable to decreasesin average consumer subscribers, which were approximately 4.0 million and 4.5million during the three and nine months ended September 30, 2007,respectively, and approximately 3.0 million and 3.3 million during the threeand nine months ended September 30, 2008, respectively. The decreases weredriven by the change in our business strategy to reduce sales and marketingefforts aimed at customers that have a high acquisition cost and early lifechurn, and the continued maturing and ongoing competitiveness of the market forInternet access. The decreases consisted primarily of declines in averagevalue-priced narrowband subscribers, premium-priced narrowband subscribers andbroadband subscribers. Consumer service ARPU increased slightly during thethree and nine months ended September 30, 2008 compared to the prior yearperiods. The increase during the three month period was primarily due to ashift in the mix of our consumer access base from value-priced narrowbandsubscribers to broadband access subscribers. The increase during the nine monthperiod was primarily due to consumer broadband access ARPU, which increased dueto a shift in the mix of our consumer broadband base from wholesale DSLsubscribers to retail DSL subscribers and to retail cable subscribers due tothe removal of Embarq wholesale subscribers in April 2007.

 

The decreases in business servicesrevenue were attributable to decreases in average business subscribers, whichconsisted of decreases in average web hosting accounts, average businessbroadband and average business narrowband customers. These decreases wereoffset by increases in business services ARPU.

 

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The increases in business services ARPU were attributable to increases inbusiness broadband ARPU and increases in the mix of subscribers from lower ARPUbusiness narrowband subscribers to higher ARPU business broadband subscribers.

 

*Consumerservices revenue*

 

*Access and service*. Consumer access and service revenues consist ofnarrowband access, broadband access and voice services. These revenues arederived from monthly fees charged to customers for dial-up Internet access;monthly retail and wholesale fees charged for high-speed, high-capacity accessservices including DSL, cable and satellite; fees charged for IP-based voiceservices; usage fees; installation fees; termination fees; and fees forequipment. Consumer access and service revenues decreased from $218.6 millionduring the three months ended September 30, 2007 to $164.3 million duringthe three months ended September 30, 2008, and decreased from $692.8million during the nine months ended September 30, 2007 to $529.6 millionduring the nine months ended September 30, 2008.  The decreases in consumer access and servicerevenues were primarily due to decreases in narrowband access and broadbandaccess revenues.

 

Narrowband access revenuesdecreased due to a decrease in average premium narrowband and value-priced narrowbandsubscribers. The declines resulted from the change in our business strategy andthe continued maturing and ongoing competitiveness of the market for narrowbandInternet access. During 2008, we reduced sales and marketing efforts thatresulted in adding customers that did not provide an acceptable rate of returnor that had a pattern of early life churn. We are focusing efforts primarily onthe retention of tenured customers and adding customers that have similarcharacteristics of our tenured customer base and are more likely to produce anacceptable rate of return. We expect our consumer access and service subscriberbase to continue to decrease due to the change in our business strategy and dueto the continued maturation of the market for premium narrowband access.However, as our customers become more tenured, we expect our churn rates todecline.

 

Broadband revenues decreased due toa decrease in average broadband access subscribers. The decline in averagebroadband access subscribers, which primarily consisted of average retail DSLand retail cable subscribers, resulted from the change in our business strategyand the ongoing competitiveness of the market for broadband Internet access.Also contributing to the decrease during the nine month period was the removalof 753,000 Embarq subscribers effective April 2007. We had a marketingrelationship with Embarq, a spin-off of Sprint Nextel Corporation’s localcommunications business, which provided that EarthLink was the wholesalehigh-speed ISP for Embarq’s local residential and small business customers. Thecontracts associated with these arrangements expired in April 2007, and weand Embarq did not renew the wholesale broadband contract. Effective April 2007,we removed approximately 753,000 wholesale broadband subscribers under themarketing relationship from our broadband subscriber count and total subscribercount.

 

Contributing to the decrease inbroadband revenues during the three month period was a decrease in broadbandaccess ARPU resulting from general declines in retail DSL prices. Offsettingthe decrease in broadband revenues during the nine month period was an increasein broadband access ARPU primarily due a shift in the mix of our broadbandcustomer base from wholesale DSL subscribers to retail DSL subscribers and toretail cable subscribers due to the removal of Embarq wholesale subscribers.

 

ARPU depends on a variety offactors, including changes in the mix of customers and their related pricingplans; the use of promotions and discounted pricing plans to obtain or retainsubscribers; increases or decreases in the prices of our existing services; andthe addition of new services. We currently offer several consumer accessservices at different price plans, and we provide services through retail andwholesale relationships. All of these have an effect on our overall ARPU.

 

Our consumer broadband access revenues asa percentage of our total consumer access and service revenues have beenincreasing over the past few years, and during the three and nine months ended September 30,2008, our consumer broadband access revenues were more than 50% of our totalconsumer access and service revenues. Our consumer broadband access customershave lower churn rates than our consumer narrowband access customers. However,they also have lower gross margins due to the costs associated with 

 

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delivering broadband services. This changein mix results in customers staying with us longer, but reduced profit margins.

 

*Value-added services revenues.*Value-added services revenues consist of searchrevenues; advertising revenues; revenues from ancillary services sold as add-onfeatures to our Internet access services, such as security products, email byphone, Internet call waiting and email storage; and revenues from homenetworking products and services.* *We derive these revenues by paidplacements for searches; delivering traffic to our partners in the form ofsubscribers, page views or e-commerce transactions; advertising ourpartners’ products and services in our various online properties and electronicpublications, including the Personal Start PageTM; referring our customersto our partners’ products and services; and monthly fees charged for ancillaryservices.

 

Value-addedservices revenues decreased 26% from $31.9 million during the three monthsended September 30, 2007 to $23.5 million during the three months ended September 30,2008, and decreased 23% from $97.9 million during the nine months ended September 30,2007 to $75.8 million during the nine months ended September 30, 2008. Thedecreases over the prior year periods were due primarily to decreases in searchadvertising revenues and in partnership advertising revenues.  Also contributing to the decrease during thethree month period was a decrease in sales of security products to ourvalue-priced narrowband customers, resulting from the decrease in average value-pricednarrowband customers.

 

*Businessservices revenue*

 

The primary component of businessservices revenues is access and service revenues. Business access and servicerevenues consist of retail and wholesale fees charged for high-speed,high-capacity access services including DSL, cable, satellite and dedicatedcircuit services; fees charged for high-speed data networks for small andmedium-sized businesses; installation fees; termination fees; fees forequipment; regulatory surcharges billed to customers; and web hosting. We earnweb hosting revenues by leasing server space and providing web services toindividuals and businesses wishing to have a web or e-commerce presence on theInternet.

 

Business access and servicerevenues decreased from $46.8 million during the three months ended September 30,2007 to $42.4 million during the three months ended September 30, 2008,and decreased from $141.1 million during the nine months ended September 30,2007 to $132.0 million during the nine months ended September 30, 2008.The decreases were primarily due to decreases in average business access andservice subscribers, which were due to decreases in average web hostingaccounts, average New Edge customers and average business narrowband customers.These decreases were offset by increases in business access and service ARPU,which were driven by increases in New Edge ARPU and increases in the mix ofsubscribers from lower ARPU business narrowband subscribers to higher ARPU NewEdge subscribers.

 

Our business broadband subscriberbase consists of customers which are added through retail and wholesalerelationships. Retail business services generally have an ARPU between $100 and$130 for non-networked solutions and an ARPU between $175 and $225 fornetworked solutions. Wholesale business services generally have an ARPU between$75 and $95. The pricing of broadband services for small and medium-sizedbusinesses depends upon customer requirements for different service deliverymethods, amounts of bandwidth, quality of service and distance from the pointsof presence, and may vary widely from these ranges. The number of customersbeing added or served at any point in time through our wholesale efforts issubject to the business and marketing circumstances of our telecommunicationspartners.

 

***Cost of revenues***

 

Serviceand equipment costs are the primary component of our cost of revenues andconsist of telecommunications fees, set-up fees, network equipment costsincurred to provide our Internet access services, depreciation of our networkequipment and surcharges due to regulatory agencies. Service and equipmentcosts also include the cost of Internet appliances. Our principal provider fornarrowband telecommunications services is Level 3 Communications, Inc.,and our largest providers of broadband connectivity are Covad CommunicationsGroup, Inc. (“Covad”) and Time Warner Cable. We also do lesser amounts ofbusiness with a wide variety of local, regional and other national providers.We purchase broadband access from Incumbent 

 

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Local Exchange Carriers, Competitive Local ExchangeCarriers and cable providers. Cost of revenues also includes sales incentives.We offer sales incentives such as free modems and Internet access on a trialbasis.

 

Totalcost of revenues decreased 20% from $109.8 million during the three monthsended September 30, 2007 to $87.6 million during the three months ended September 30,2008, and decreased 18% from $337.9 million during the nine months ended September 30,2007 to $277.7 million during the nine months ended September 30, 2008.The decrease during the three months ended September 30, 2008 compared tothe prior year period was comprised of a $17.8 million decrease in consumerservices cost of revenues and a $4.3 million decrease in business services costof revenues. The decrease during the nine months ended September 30, 2008compared to the prior year period was comprised of a $48.0 million decrease inconsumer services cost of revenues and a $12.2 million decrease in businessservices cost of revenues. Consumer services cost of revenues decreased due tothe decline in average consumer services subscribers. Consumer services cost ofrevenues also declined as a result of a decrease in sales incentives resultingfrom fewer gross subscriber additions during the three and nine months ended September 30,2008 as we reduced our sales and marketing activities. Business services costof revenues decreased due to the decreases in average business servicessubscribers and decreases in average monthly costs per subscriber, primarily asa result of a decrease in New Edge cost of revenues due to more favorable agreementswith telecommunications service providers.

 

***Sales and marketing***

 

Salesand marketing expenses include advertising and promotion expenses, fees paid todistribution partners to acquire new paying subscribers, personnel-relatedexpenses and telemarketing costs incurred to acquire subscribers. Sales andmarketing expenses decreased 69% from $71.6 million during the three monthsended September 30, 2007 to $22.2 million during the three months ended September 30,2008, and decreased 68% from $246.7 million during the nine months ended September 30,2007 to $78.9 million during the nine months ended September 30, 2008.These decreases consisted primarily of decreases in consumer services sales andmarketing expenses as we decreased spending aimed at customers that had highacquisition costs and early life churn and as we realized benefits from thecorporate restructuring plan adopted in August 2007 to reduce costs andimprove the efficiency of our operations (“the 2007 Plan”). Although we expectto continue to realize benefits during the remainder of 2008 compared to 2007as we scale back sales and marketing efforts in connection with our refocusedstrategy, we do not anticipate the type of large-scale cost reductionopportunities that we have experienced during the three and nine months ended September 30,2008.

 

***Operations and customer support***

 

Operationsand customer support expenses consist of costs associated with technicalsupport and customer service, providing our subscribers with toll-free accessto our technical support and customer service centers, maintenance of customerinformation systems, software development and network operations. Operationsand customer support expenses decreased 38% from $54.6 million during the threemonths ended September 30, 2007 to $34.0 million during the three monthsended September 30, 2008, and decreased 39% from $174.5 million during thenine months ended September 30, 2007 to $106.9 million during the ninemonths ended September 30, 2008. The decreases in operations and customersupport expenses consisted of decreases in personnel-related costs, outsourcedlabor, professional fees and occupancy costs. These decreases were primarilyattributable to our efforts to reduce our back-office cost structure, includingto benefits realized as a result of the 2007 Plan. In addition, we experienceda decrease in call volumes for customer service and technical support as ouroverall subscriber base has decreased and as our tenured customers require lesscustomer and technical support. Although we expect operations and customersupport expenses to continue to decrease in 2008 compared to 2007 as a resultof the 2007 Plan and our refocused strategy, we do not anticipate the type oflarge-scale cost reduction opportunities that we have experienced during thethree and nine months ended September 30, 2008.

 

***General and administrative***

 

Generaland administrative expenses consist of costs associated with the executive,finance, legal and human resources departments; outside professional services;payment processing; credit card fees; collections; 

 

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and bad debt. General and administrative expenses decreased19% from $28.7 million during the three months ended September 30, 2007 to$23.3 million during the three months ended September 30, 2008, anddecreased 29% from $101.3 million during the nine months ended September 30,2007 to $72.0 million during the nine months ended September 30,2008.  The decrease in general andadministrative expenses during the three month period consisted primarily ofdecreases in bad debt and payment processing fees, personnel-related costs andprofessional fees. The decrease in general and administrative expenses duringthe nine month period consisted primarily of decreases in bad debt and paymentprocessing fees, personnel-related costs, professional and legal fees, andstock-based compensation expense. Bad debt and payment processing feesdecreased due to the decrease in our overall subscriber base and due to oursubscriber base consisting of more tenured customers, who have a lowerfrequency of non-payment. The decreases in other costs were attributable to ourefforts to reduce our back-office cost structure, including benefits realizedas a result of the 2007 Plan. Although we expect general and administrativeexpenses to continue to decrease in 2008 compared to 2007 as a result of the2007 Plan and our refocused strategy, we do not anticipate the type oflarge-scale cost reduction opportunities that we have experienced during thethree and nine months ended September 30, 2008.

 

The decrease in stock-basedcompensation expense during the nine month period was due to the inclusion of$6.4 million of cash and non-cash compensation expense during the nine monthsended September 30, 2007 related to the death of our former ChiefExecutive Officer, Charles G. Betty, on January 2, 2007. This compensationexpense included $3.5 million of stock-based compensation expense related tothe accelerated vesting of 1.1 million stock options and 0.1 million restrictedstock units, $1.4 million of stock-based compensation expense related to theextension of the exercise period for Mr. Betty’s stock options and $1.5million of compensation expense for a payment to Mr. Betty’s estate inaccordance with his employment agreement.

 

***Stock-based compensation expense***

 

Stock-basedcompensation expense in accordance with SFAS No. 123(R) was allocatedas follows for the three and nine months ended September 30, 2007 and2008:

 

| ** **                       | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|----------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                       | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                       | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                       | ** ** | **(in thousands)**          | ** ** |
| Sales and  marketing             |       | $                                | 1,186      |                            | $          | 1,259 |   | $ | 2,590 |   | $ | 4,083 |   |
| Operations and  customer support |       | 2,080                            |       | 2,197                           |       | 4,839 |   | 6,985 |   |
| General and  administrative      |       | 1,037                            |       | 1,141                           |       | 7,652 |   | 3,251 |   |
|                             |       | $                                | 4,303      |                            | $          | 4,597 |   | $ | 15,081 |   | $ | 14,319 |   |

 

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***Amortization of intangible assets***

 

Amortizationof intangible assets represents the amortization of definite lived intangibleassets acquired in purchases of businesses and purchases of customer bases fromother companies. Definite lived intangible assets, which primarily consist ofsubscriber bases and customer relationships, acquired software and technology,trade names and other assets, are amortized on a straight-line basis over theirestimated useful lives, which range from three to nine years. Amortization ofintangible assets was $3.8 million and $3.2 million during the three monthsended September 30, 2007 and 2008, respectively, and $10.9 million and$11.2 million during the nine months ended September 30, 2007 and 2008,respectively. The decrease in amortization of intangible assets during thethree month period was primarily due to certain identifiable definite livedintangible assets becoming fully amortized over the past year. The increase inamortization of intangible assets during the nine month period was primarilydue to amortization of identifiable definite lived intangible assets resultingfrom acquisitions of subscriber bases from ISPs over the past year and changesin the estimated useful lives of certain of our identifiable definite livedintangible assets, offset by certain identifiable definite lived intangibleassets becoming fully amortized over the past year.

 

***Facility exit, restructuring and other costs***

 

Facilityexit, restructuring and other costs consisted of the following for the periodspresented:

* *
| ** **                                      | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                      | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                      | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                                      | ** ** | **(in thousands)**          | ** ** |
|                                            |       |                             |       |                            |       |   |   |   |   |
| 2007  Restructuring Plan                        |       |                             |       |                            |       |   |   |   |   |
| Severance  and personnel-related costs          |       | $                                | 29,197     |                            | $          | — |   | $ | 29,197 |   | $ | 474 |   |
| Lease  termination and facilities-related costs |       | 729                              |       | 1,347                           |       | 729 |   | 3,352 |   |
| Non-cash  asset impairments                     |       | 3,487                            |       | 201                             |       | 3,487 |   | 514 |   |
| Other  associated costs                         |       | 749                              |       | (389                            | )          | 749 |   | 81 |   |
|                                            |       | 34,162                           |       | 1,159                           |       | 34,162 |   | 4,421 |   |
| Legacy  Restructuring Plans                     |       | —                           |       | (81                             | )          | — |   | (252 | ) |
| Total  facility exit, restucturing and other    |       | $                                | 34,162     |                            | $          | 1,078 |   | $ | 34,162 |   | $ | 4,169 |   |

 

In August 2007, we adopted arestructuring plan to reduce costs and improve the efficiency of ouroperations. The 2007 Plan was the result of a comprehensive review ofoperations within and across our functions and businesses. Under the 2007 Plan,we reduced our workforce by approximately 900 employees, closed officefacilities in Orlando, Florida; Knoxville, Tennessee; Harrisburg, Pennsylvaniaand San Francisco, California and are consolidating our office facilities inAtlanta, Georgia and Pasadena, California. The 2007 Plan was primarilyimplemented during the latter half of 2007 and is expected to be completedduring 2008. Management continues to evaluate our business and, therefore, mayhave supplemental provisions for new plan initiatives as well as changes inestimates to amounts previously recorded, as payments are made or actions arecompleted.

 

We periodically evaluate and adjustour estimates for facility exit and restructuring costs for legacyrestructuring plans implemented during the years ended December 31, 2003and 2004 (“Legacy Plans”) based on currently-available information and recordsuch adjustments as facility exit, restructuring and other costs. Facilityexit, restructuring and other costs during the three and nine months ended September 30,2008 also included $0.1 million and $0.3 million, respectively, in reductionsto facility exit, restructuring and other costs as a result of changes inestimates for Legacy Plans.

 

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***Net losses of equity affiliate***

 

We accounted for our investment inHELIO under the equity method of accounting because we were able to exertsignificant influence over HELIO’s operating and financial policies.Accordingly, we recorded our proportionate share of HELIO’s net losses. Theseequity method losses were offset by increases in the carrying value of ourinvestment associated with amortizing the difference between the book value ofnon-cash assets contributed to HELIO and their fair value.

 

Netlosses of equity affiliate for the three and nine months ended September 30,2007 of $41.9 million and $111.3 million, respectively, included ourproportionate share of HELIO’s net losses offset by amortization associatedwith recognizing the difference between the carrying value and fair value ofnon-cash assets contributed. During the year ended December 31, 2007, westopped recording additional net losses of equity affiliate because thecarrying value of our investment in HELIO was reduced to zero. As a result, wedid not record any net losses of equity affiliate during the three and ninemonths ended September 30, 2008. In August 2008, Virgin Mobileacquired HELIO and our equity and debt investments in HELIO were exchanged forlimited partnership units equivalent to approximately 1.8 million shares ofVirgin Mobile common stock. As a result, we no longer have an investment inHELIO.

 

***Gain (loss) on investments in other companies, net***

 

Duringthe three and nine months ended September 30, 2007, we recognized a netloss on investments in other companies of $5.8 million and $5.6 million,respectively. This consisted primarily of $7.0 million of impairment lossesrecognized during the three and nine months ended September 30, 2007 due todeclines of the value of certain of our investments in other companies thatwere deemed other than temporary. We also received $1.2 million and $1.4million in cash distributions during the three and nine months ended September 30,2007, respectively, from eCompanies Venture Group, L.P. (“EVG”), a limitedpartnership that has invested in domestic emerging Internet-related companies,which were recorded as a gain (loss) on investments in other companies, net inthe Condensed Consolidated Statements of Operations.

 

Duringthe three and nine months ended September 30, 2008, we recognized a netgain on investments in other companies of $4.4 million and $5.7 million,respectively. This consisted primarily of a gain of $4.4 million recognizedduring the three and nine months ended September 30, 2008 as a result ofthe Virgin Mobile transaction.  The ninemonths ended September 30, 2008 also included a gain of $2.0 million fromthe sale of our Covad common stock to Platinum Equity, LLC and an impairmentloss of $0.7 million due to other-than-temporary declines of the value of ourinvestments in other companies. All of these transactions were recorded as gain(loss) on investments in other companies, net, in the Condensed ConsolidatedStatements of Operations.

 

***Interest income (expense) and other, net***

 

Interest income (expense) andother, net, is primarily comprised of interest earned on our cash, cashequivalents and marketable securities; interest earned on the Covad debtinvestment; interest expense incurred on our Convertible Senior Notes due November 15,2026; and other miscellaneous income and expense items. Interest income(expense) and other, net, decreased $4.7 million during the three months ended September 30,2008 compared to the prior year period and decreased $10.9 million during thenine months ended September 30, 2008 compared to the prior year period.The decreases were primarily due to a decrease in interest earned on our cash,cash equivalents and marketable securities due to lower investment yields andthe liquidation of our Covad debt investment, which was repurchased by PlatinumEquity, LLC in April 2008.

 

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***Provision for income taxes***

 

Wehave recorded income taxes during the three and nine months ended September 30,2008 based on management’s current annual operating expectations in accordancewith the interim reporting requirements of SFAS No. 109, “Accounting forIncome Taxes,” and Accounting Principles Board Opinion No. 28, “InterimFinancial Reporting.”

 

Wecontinue to maintain a full valuation allowance against our unrealized deferredtax assets, which include net operating loss carryforwards.  We may recognize deferred tax assets infuture periods when they are determined to be more likely than not realizable.To the extent we report income in future periods, we intend to use our netoperating loss carryforwards to the extent available to offset taxable incomeand reduce cash outflows for income taxes. Our ability to use our federal and state net operating losscarryforwards and federal and state tax credit carryforwards may be subject torestrictions attributable to equity transactions in the future resulting fromchanges in ownership as defined under the Internal Revenue Code.

 

***Loss from discontinued operations, net of tax***

 

Lossfrom discontinued operations, net of tax, for the three and nine months ended September 30,2007 and 2008 reflects our municipal wireless broadband operations. In November 2007,management concluded that our municipal wireless broadband operations were nolonger consistent with our strategic direction and our Board of Directorsauthorized management to pursue the sale of our municipal wireless broadbandassets. The municipal wireless results of operations were previously includedin our Consumer Services segment.

 

Duringthe nine months ended September 30, 2008, we transferred our municipalwireless broadband networks to the cities of Corpus Christi, TX and Milpitas,CA in exchange for releasing us from our existing network agreements. We alsotransferred our municipal wireless broadband networks in the city ofPhiladelphia, PA to a local Philadelphia company. Additionally, we terminatedour municipal wireless broadband service in New Orleans, LA and Anaheim, CA andremoved our network equipment from those cities. As of September 30, 2008,the divestiture of our municipal wireless broadband assets was substantiallycomplete.

 

We recordedimpairment and other costs of $0.1 million during the three months ended September 30,2008 related to our municipal wireless broadband operations. We recordedimpairment and other costs of $6.1 million during the nine months ended September 30,2008, including $2.6 million for non-cash asset impairments;$0.3 million for severance and personnel-related costs; and$3.2 million for other associated costs. These charges are reflectedwithin discontinued operations in the Condensed Consolidated Statements ofOperations.

 

Thefollowing table presents summarized results of operations related to ourdiscontinued operations for the three and nine months ended September 30,2007 and 2008:

 
| ** **                                     | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                     | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                     | ** ** | **2007**                         | ** ** | **2008**                        | ** ** | **2007** | ** ** | **2008** | ** ** |
| ** **                                     | ** ** | **(in thousands)**          | ** ** |
| Revenues                                       |       | $                                | 771        |                            | $          | 18 |   | $ | 1,368 |   | $ | 1,306 |   |
| Operating  costs and expenses                  |       | (11,443                          | )          | (842                            | )          | (28,953 | ) | (4,534 | ) |
| Impairment  and other costs                    |       | (20,658                          | )          | (128                            | )          | (20,658 | ) | (6,081 | ) |
| Income  tax benefit                            |       | —                           |       | 271                             |       | — |   | 871 |   |
| Loss  from discontinued operations, net of tax |       | $                                | (31,330    | )                               | $          | (681 | ) | $ | (48,243 | ) | $ | (8,438 | ) |

 

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**Facility Exitand Restructuring Costs**

 

*2007 Plan*. * *We expect to incurfuture cash outflows for real estate obligations through 2014 related to the2007 Plan. The following table summarizes activity for the liability balancesassociated with the 2007 Plan for the nine months ended September 30,2008, including changes during the year attributable to costs incurred andcharged to expense and costs paid or otherwise settled:

 
| ** **                             | ** ** | **Severance**           | ** ** | ** **     | ** ** | **Asset**       | ** ** | **Other** | ** ** | ** ** | ** ** |
|----------------------------------------|------------|-------------------------|------------|----------------|------------|-----------------|------------|-----------|------------|------------|------------|
| ** **                             | ** ** | **and Benefits**   | ** ** | **Facilities** | ** ** | **Impairments** | ** ** | **Costs** | ** ** | **Total**  | ** ** |
| ** **                             | ** ** | **(in thousands)** | ** ** |
| Balance  as of December 31, 2007  |       | $                       | 12,041     |           | $          | 16,124          |       | $         | —     |       | $          | — |   | $ | 28,165 |   |
| Accruals                               |       | 474                     |       | 3,352          |       | 514             |       | 81        |       | 4,421      |       |
| Payments                               |       | (12,502                 | )          | (4,638         | )          | —          |       | (81       | )          | (17,221    | )          |
| Non-cash  charges                      |       | —                  |       | 1,062          |       | (514            | )          | —    |       | 548        |       |
| Balance  as of September 30, 2008 |       | $                       | 13         |           | $          | 15,900          |       | $         | —     |       | $          | — |   | $ | 15,913 |   |

 

*Legacy Plans*. As of September 30,2008, we had $1.6 million remaining for real estate commitments associated withthe Legacy Plans. All other costs have been paid or otherwise settled. Weexpect to incur future cash outflows for real estate obligations through 2010related to the Legacy Plans.

 

**Liquidity andCapital Resources**

 

The following table sets forthsummarized cash flow data for the nine months ended September 30, 2007 and2008:

 
| ** **                                           | ** ** | **Nine Months Ended September 30,** | ** ** |
|------------------------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                                           | ** ** | **2007**                                                | ** ** | **2008** | ** ** |
| ** **                                           | ** ** | **(in thousands)**                                 | ** ** |
|                                                 |       |                                                    |       |   |   |
| Net  income (loss)                                   |       | $                                                       | (125,633   | ) | $ | 162,376 |   |
| Non-cash  items                                      |       | 187,839                                                 |       | 60,254 |   |
| Changes  in working capital                          |       | (7,713                                                  | )          | (48,053 | ) |
| Net  cash provided by operating activities           |       | $                                                       | 54,493     |   | $ | 174,577 |   |
|                                                 |       |                                                    |       |   |   |
| Net  cash (used in) provided by investing activities |       | $                                                       | (98,412    | ) | $ | 109,280 |   |
|                                                 |       |                                                    |       |   |   |
| Net  cash used in financing activities               |       | $                                                       | (19,445    | ) | $ | (25,145 | ) |

 

*Operatingactivities*

 

Netcash provided by operating activities increased during the nine months ended September 30,2008 compared to the prior year period primarily due to a decrease in costs toacquire and support new customers, decrease in operating costs resulting fromour efforts to reduce our back-office costs structure, benefits realized fromthe 2007 Plan and a reduction in customer support costs and bad debt expense asour overall subscriber base has decreased and become more tenured. In addition,cash provided by operating activities was negatively impacted during the ninemonths ended September 30, 2007 due to spending for our prior growthinitiatives.

 

Non-cashitems include items that are not expected to generate or require the use ofcash, such as depreciation and amortization relating to our network, facilitiesand intangible assets, net losses of equity affiliate, deferred income taxes,stock-based compensation, non-cash disposals and impairments of fixed assetsand gain on investments in other companies, net. Non-cash items decreasedduring the nine months ended September 30, 2008 compared to the prior yearperiod due to decreases in net losses of equity affiliate and depreciationexpense. These decreases were offset by an increase in deferred income taxes.

 

Changesin working capital requirements include changes in accounts receivable, prepaidand other assets, accounts payable, accrued and other liabilities and deferredrevenue. Cash used for working capital requirements increased during the ninemonths ended September 30, 2008 compared to the prior year period 

 

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primarilydue to a decrease in accounts payable and accrued liabilities resulting fromthe decrease in operating costs and expenses and the discontinuation of ourmunicipal wireless broadband operations. Cash used for working capital requirements also increased due to cashpayments resulting from our 2007 corporate restructuring plan.

 

*Investingactivities*

 

Our investing activities used cashof $98.4 million during the nine months ended September 30, 2007. Thisconsisted primarily of $42.3 million of capital expenditures, primarilyassociated with network and technology center related projects; $30.0 millionloaned to HELIO; $19.5 million of contributions to HELIO; $6.5 million topurchase subscriber bases from other ISPs; and $2.1 million of purchases ofinvestments in marketable securities, net of sales and maturities. Ourinvesting activities provided cash of $109.3 million during the nine monthsended September 30, 2008. This consisted of $56.9 million of sales andmaturities of investments in marketable securities, net of sales, and $57.1million received for our Covad investment, offset by $3.9 million of capitalexpenditures and $0.9 million used for purchases of subscriber bases from otherISPs.

 

*Financingactivities*

 

Our financing activities used cashof $19.4 million during the nine months ended September 30, 2007, whichprimarily consisted of $25.0 million used to purchase 3.9 million shares of ourcommon stock, offset by proceeds of $5.7 million from the exercise of stockoptions. Our financing activities used cash of $25.1 million during the ninemonths ended September 30, 2008. This consisted of $31.9 million used to repurchase3.8 million shares of our common stock and $2.7 million for principal paymentsunder capital lease obligations, which was primarily due to $2.5 million usedto repay our General Electric Capital Corporation lease obligation. This wasoffset by $8.0 million of proceeds from the exercise of stock options.

 

**Off-BalanceSheet Arrangements**

 

As of September 30, 2008, wedid not have any off-balance sheet arrangements that have or are reasonablylikely to have a current or future effect on our financial condition, changesin financial condition, revenues or expenses, results of operations, liquidity,capital expenditures or capital resources that are material to investors.

 

**Share RepurchaseProgram**

 

TheBoard of Directors has authorized a total of $750.0 million to repurchase ourcommon stock under our share repurchase program. During the nine months ended September 30,2008, we repurchased 3.8 million shares of our common stock for $31.9 million.As of September 30, 2008, we had utilized approximately $580.9 millionpursuant to the authorizations and had $169.1 million available under thecurrent authorization. We may repurchase our common stock from time to time incompliance with the Securities and Exchange Commission’s regulations and otherlegal requirements, and subject to market conditions and other factors. Theshare repurchase program does not require us to acquire any specific number ofshares and may be terminated by the Board of Directors at any time.

 

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**Income Taxes**

 

We continue to maintain a fullvaluation allowance against our deferred tax assets, consisting primarily ofnet operating loss carryforwards. We may recognize deferred tax assets infuture periods when they are determined to be realizable. To the extent we mayowe income taxes in future periods, we intend to use our net operating losscarryforwards to the extent available to reduce cash outflows for income taxes.

 

**Future Uses ofCash and Funding Sources**

 

Weexpect to continue to use cash to acquire and retain new and existingsubscribers for our services, including purchases of subscriber bases fromother ISPs. We will also use cash to pay real estate obligations associatedwith facilities exited in our restructuring plan and to pay obligationsassociated with post-employment benefits. We also expect to incur capitalexpenditures to maintain and upgrade our network and technology infrastructure.The actual amount of capital expenditures may fluctuate due to a number offactors which are difficult to predict and could change significantly overtime. Additionally, technological advances may require us to make capitalexpenditures to develop or acquire new equipment or technology in order toreplace aging or technologically obsolete equipment. Finally, we may also usecash to repurchase common stock under our existing share repurchase program.

 

Ourcash requirements depend on numerous factors, including the pricing of ouraccess services, our ability to maintain our customer base, the costs requiredto maintain our network infrastructure, the size and types of acquisitions inwhich we may engage and the level of resources used for our sales and marketingactivities, among others.

 

Ourprincipal sources of liquidity are our cash, cash equivalents and investmentsin marketable securities, as well as the cash flow we generate from ouroperations. As of September 30, 2008, we had $432.5 million in cash andcash equivalents. In addition, we held long-term investments in marketablesecurities valued at $52.4 million. Long-term investments in marketablesecurities consist of investments that have maturity dates of more than oneyear from the balance sheet date.

 

As of September 30,2008, $52.4 million of our long-term investments in marketable securities wereauction rate securities. These securities are variable-rate debt instrumentswhose underlying agreements have contractual maturities of up to 40 years. Thesecurities are issued by various state related higher education agencies. Thehigher education securities are primarily secured by student loans guaranteedby the agencies and reinsured by the United States Department of Education.Liquidity for these auction rate securities is typically provided by an auctionprocess that resets the applicable interest rate at pre-determined intervals,usually every 28 days. Beginning in February 2008, all of our auction ratesecurities failed to attract sufficient buyers, resulting in our continuing tohold such securities. In October 2008, we entered into an agreement withthe broker that sold us our auction rate securities that gives us the right tosell our existing auction rate securities back to the broker at par plusaccrued interest, beginning on June 30, 2010 until July 2, 2012. Theagreement also grants the broker the right to buy our auction rate securitiesat par plus accrued interest, until July 2, 2012. In addition, while allof our auction rate securities are currently rated AAA, if the auctionscontinue to fail or if the credit ratings on the securities deteriorate, we mayin the future be required to record an other-than-temporary impairment chargeon these investments. Based on our remaining cash and marketable securities andoperating cash flows, we do not anticipate the current lack of liquidity onthese investments will affect our ability to operate our business as usual.

 

In April 2008, PlatinumEquity, LLC acquired all outstanding shares of Covad. As a result, we receivedcash of $50.8 million for the aggregate principal amount of the 12% SeniorSecured Convertible Notes due 2011 held by us plus accrued interest in April 2008and we received cash of $6.3 million for our 6.1 million shares of Covad commonstock in May 2008.

 

In September 2008,we terminated our convertible note hedge and warrant agreements. Upontermination of the agreements, we purchased approximately 2.5 million shares ofcommon stock the counterparties held in hedge positions for approximately $22.7million, based on the closing price of the EarthLink common stock on September 4,2008.

 

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Ouravailable cash and marketable securities, together with our results ofoperations, are expected to be sufficient to meet our operating expenses,capital requirements and investment and other obligations for the next 12months. However, as a result of other investment activities and possibleacquisition opportunities, we may seek additional financing in the future. Wehave no commitments for any additional financing and have no lines of credit orsimilar sources of financing. We cannot be sure that we can obtain additionalfinancing on favorable terms, if at all, through the issuance of equitysecurities or the incurrence of additional debt. Additional equity financingmay dilute our stockholders, and debt financing, if available, may restrict ourability to repurchase common stock, declare and pay dividends and raise futurecapital. If we are unable to obtain additional needed financing, it mayprohibit us from making acquisitions, capital expenditures and/or investments,which could materially and adversely affect our prospects for long-term growth.

 

**Related Party Transactions**

 

*HELIO*

 

As aresult of our ownership interest in HELIO, HELIO was considered a relatedparty. In August 2008, Virgin Mobile acquired HELIO and our equity anddebt investments in HELIO were exchanged for limited partnership units ofVirgin Mobile. EarthLink and HELIO have entered into a services agreementpursuant to which we provide HELIO billing and other support services inexchange for management fees. The service agreement will remain in effectthrough the remainder of 2008. The management fees were determined based on ourcosts to provide the services, and management believes such fees arereasonable.  The total amount of feesthat HELIO pays to us depends on the extent to which HELIO utilizes ourservices.  Fees for services provided toHELIO are reflected as reductions to the associated expenses incurred by us toprovide such services. During the three months ended September 30, 2007 and2008, fees received for services provided to HELIO were $0.4 million and $0.3million, respectively. During the nine months ended September 30, 2007 and2008, fees received for services provided to HELIO were $1.3 million and $1.0million, respectively.

 

As of December 31,2007, we had accounts receivable from HELIO of approximately $0.2 million.

 

**Safe Harbor Statement**

 

TheManagement’s Discussion and Analysis and other portions of this QuarterlyReport on Form 10-Q include “forward-looking” statements (rather thanhistorical facts) that are subject to risks and uncertainties that could causeactual results to differ materially from those described. Although we believethat the expectations expressed in these forward-looking statements arereasonable, we cannot promise that our expectations will turn out to becorrect. Our actual results could be materially different from and worse thanour expectations. With respect to such forward-looking statements, we seek theprotections afforded by the Private Securities Litigation Reform Act of 1995.These risks include, without limitation, (1) that changes to our businessstrategy will reduce our revenues; (2) that the continued decline of ourconsumer access services revenues could adversely affect our profitability; (3) thatprices for certain of our consumer access services have been decreasing, whichcould adversely affect our revenues and profitability; (4) that adverseeconomic conditions may harm our business, particularly our business servicessegment; (5) that as a result of our continuing review of our business,we may have to undertake further restructuring plans that would requireadditional charges including incurring facility exit and restructuring charges;(6) that we face significant competition which could reduce our marketshare and reduce our profitability; (7) that we may be unsuccessful inmaking and integrating acquisitions and investments into our business, whichcould result in operating difficulties, losses and other adverse consequences; (8) thatwe may not be able to successfully manage the costs associated with deliveringour broadband services, which could adversely affect our results of operations;(9) that companies may not provide access to us on a wholesale basis or onreasonable terms or prices, which could cause our operating results to suffer; (10) thatif we do not continue to innovate and provide products and services that areuseful to subscribers, we may not remain competitive, and our revenues andoperating results could suffer; (11) that our commercial and alliancearrangements may be terminated or may not be as beneficial as anticipated,which could adversely affect our ability to retain or increase our subscriberbase; (12) that our business may suffer if third parties used for technical andcustomer support and certain billing services are unable to provide 

 

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theseservices, cannot expand to meet our needs or terminate their relationships withus; (13) that service interruptions or impediments could harm our business;(14) that government regulations could adversely affect our business or forceus to change our business practices; (15) that we may not be able to protectour proprietary technologies; (16) that we may be accused of infringing uponthe intellectual property rights of third parties, which is costly to defendand could limit our ability to use certain technologies in the future; (17)that we could face substantial liabilities if we are unable to successfullydefend against legal actions; (18) that our business depends on the continueddevelopment of effective business support systems, processes and personnel;(19) that we may be unable to hire and retain sufficient qualified personnel,and the loss of any of our key executive officers could adversely affect us;(20) that our VoIP business exposes us to certain risks that could cause us tolose customers, expose us to significant liability or otherwise harm ourbusiness; (21) that the use of our net operating losses and certain other taxattributes could be limited in the future; (22) that our stock price has beenvolatile historically and may continue to be volatile; (23) that ourindebtedness could adversely affect our financial health and limit our abilityto react to changes in our industry; and (24) that provisions of our secondrestated certificate of incorporation, amended and restated bylaws and otherelements of our capital structure could limit our share price and delay achange of management. These risks and uncertainties, as well as other risks anduncertainties that could cause our actual results to differ significantly frommanagement’s expectations, are not intended to represent a complete list of allrisks and uncertainties inherent in our business, and should be read inconjunction with the more detailed cautionary statements and risk factorsincluded in our Annual Report on Form 10-K for the year ended December 31,2007.

 

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**Item 3.   Quantitative andQualitative Disclosures About Market Risk.**

 

There have been no material changesin market risk from the information provided in Part II, Item 7A “Quantitativeand Qualitative Disclosures About Market Risk” in our Annual Report on Form 10-Kfor the year ended December 31, 2007, other than those discussed below.

 

*Auction Rate Securities*

 

TheCompany is exposed to risk with respect to its auction rate securities. Thesesecurities are variable-rate debt instruments whose underlying agreements havecontractual maturities of up to 40 years. These securities are issued byvarious state regulated higher education agencies. The securities arepredominantly secured by student loans guaranteed by the agencies and reinsuredby the United States Department of Education. Liquidity for these auction ratesecurities is typically provided by an auction process that resets theapplicable interest rate at pre-determined intervals, usually every 28 days.Beginning in February 2008, the Company’s auction rate securities failedto attract sufficient buyers, resulting in our continuing to hold suchsecurities.

 

Due tothe lack of availability of observable market quotes, the fair values of theCompany’s auction rate securities were estimated utilizing a discounted cashflow analysis as of September 30, 2008.  These analysesconsider, among other items, the collateralization underlying the securityinvestments, the creditworthiness of the counterparty and the timing and valueof expected future cash flows.  As a result of temporary declines in thefair value of the Company’s auction rate securities, which the Companyattributes to liquidity issues rather than credit issues, it has recorded anunrealized loss of $5.3 million as of September 30, 2008 to reduce thecost basis of $57.8 million to the estimated fair value of $52.4 million. TheCompany will continue to evaluate the fair value of its investments in auctionrate securities each reporting period for a potential other-than-temporaryimpairment. While all of the Company’s auction rate securities are currentlyrated AAA, if the market does not recover or if the credit ratings on thesecurities deteriorate, it may in the future be required to record another-than-temporary impairment charge on these investments.

 

**Item 4. Controls and Procedures.**

 

**Evaluation ofDisclosure Controls and Procedures**

 

Pursuantto Rule 13a-15(b) under the Securities Exchange Act of 1934, asamended (the “Exchange Act”), we carried out an evaluation, with theparticipation of our management, including our Chief Executive Officer andChief Financial Officer, of the effectiveness of our disclosure controls andprocedures (as defined under Rule 13a-15(e) under the Exchange Act)as of the end of the period covered by this report.  Based upon that evaluation, our ChiefExecutive Officer and Chief Financial Officer concluded that our disclosurecontrols and procedures are effective to ensure that information required to bedisclosed in the reports that are filed or submitted under the Exchange Act, isrecorded, processed, summarized and reported, within the time periods specifiedin the Securities and Exchange Commission’s rules and forms, and that suchinformation is accumulated and communicated to management, including our ChiefExecutive Officer and Chief Financial Officer, as appropriate, to allow timelydecisions regarding required disclosure.

 

**Changes inInternal Control over Financial Reporting**

 

Therewere no changes in our internal control over financial reporting during thethree months ended September 30, 2008 that have materially affected, orare reasonably likely to materially affect, our internal control over financialreporting.

 

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**Part II**

 

**Item 1.    Legal Proceedings.**

 

EarthLink is a party to various legal proceedings that are ordinary and incidentalto its business. Management does not expect that any currently pending legalproceedings will have a material adverse effect on EarthLink’s results ofoperations or financial position.

 

**Item 1A.  Risk Factors.**

 

Set forth below is a materialupdate to the risk factors discussed in our Annual Report on Form 10-K forthe year ended December 31, 2007.

 

***Adverse economic conditions may harm ourbusiness, particularly our business services segment.***

 

Unfavorableeconomic conditions, including the possibility of a recession and recentdisruptions to the credit and financial markets, could cause customers to slowspending. Specifically, we believe our small and medium sized businesscustomers are more exposed to an economic downturn in the economy than our consumercustomers.  If demand for our services decreases, corporate spending forour services decreases or the downsizing by business customers of theirbusinesses increases, our revenues would be adversely affected and churn mayincrease. In addition, during challenging economic times our business customersmay face issues gaining timely access to sufficient credit, which may impairthe ability of our customers to pay for services they have purchased. Any ofthe above could cause us to increase our allowance for doubtful accounts andwrite-offs of accounts receivable, to impair amounts capitalized as intangibleassets, including goodwill, or otherwise have a material effect on ourbusiness, results of operations, financial condition and cash flows.

 

**Item 2.  ****Unregistered Sales of EquitySecurities and Use of Proceeds****.**

 

The number of shares repurchasedand the average price paid per share for each month in the three months ended September 30,2008 are as follows:

 
| **2008**                                    | ** ** | **Total Number  of Shares  Repurchased**                                         | ** ** | **Average  Price Paid  per Share** | ** ** | **Total Number of  Shares Repurchased  as Part of Publicly  Announced Program (2)** | ** ** | **Maximum Dollar  Value that May  Yet be Purchased  Under the Program** | ** ** |
|---------------------------------------------|------------|--------------------------------------------------------------------------------------------|------------|----------------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------|------------|
| ** **                                  | ** ** | **(in thousands, except average price paid per share)** | ** ** |
| July 1  through July 31           |       | —                                                                                     |       | $                                            | —     |                                                                                                                        | —     |                                                                                                       | $          | 191,839 |   |
| August 1  through August 31       |       | —                                                                                     |       | —                                       |       | —                                                                                                                      |       | 191,839                                                                                                    |       |
| September 1  through September 30 |       | 2,520                                                                                      |       | 9.02                                         |       | 2,520                                                                                                                       |       | 169,108                                                                                                    |       |
| Total                                       |       | 2,520                                                                                      |       |                                         |       | 2,520                                                                                                                       |       |                                                                                                       |       |
|                                             |            |                                                                                            |            |                                              |            |                                                                                                                             |            |                                                                                                            |            |  |  |

 

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(1)          Since the inception of the share repurchase program(“Repurchase Program”), the Board of Directors has authorized a total of $750.0million for the repurchase of our common stock. The Board of Directors has alsoapproved repurchasing common stock pursuant to plans under Rule 10b5-1 ofthe Securities Exchange Act of 1934, as amended. We may repurchase our commonstock from time to time in compliance with the Securities and ExchangeCommission’s regulations and other legal requirements, including through theuse of derivative transactions, and subject to market conditions and other factors.The Repurchase Program does not require EarthLink to acquire any specificnumber of shares and may be terminated at any time.

 

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**Item 5.  Other Information.**

 

TheCompany announces that it has designated Bradley A. Ferguson as the Company’sprincipal accounting officer for Securities and Exchange Commission periodicreporting purposes.  Mr. Ferguson(whose Company officer title and function is not changing) has been the Company’sVice President, Controller since September 2005 and previously had beenthe Company’s Vice President – Commercial Finance since September 2002.  Mr. Ferguson has been an officer of theCompany since its merger with MindSpring Enterprises, Inc. in February 2000and was an officer of MindSpring prior to that time.

 

**Item 6.   Exhibits.**

 

(a)          Exhibits.   The following exhibitsare filed as part of this report**:**

 

31.1             Certification of Chief Executive Officer pursuant toSecurities Exchange Act Rules 13a-14 and 15d-14, as adopted pursuant to Section 302of the Sarbanes-Oxley Act of 2002.

 

31.2             Certification of Chief Financial Officer pursuant toSecurities Exchange Act Rules 13a-14 and 15d-14, as adopted pursuant to Section 302of the Sarbanes-Oxley Act of 2002.

 

32.1             Certification of Chief Executive Officer pursuant to18 U.S.C. Section 1350, as adopted pursuant to Section 906 of theSarbanes-Oxley Act of 2002.

 

32.2             Certification of Chief Financial Officer pursuant to18 U.S.C. Section 1350, as adopted pursuant to Section 906 of theSarbanes-Oxley Act of 2002.

 

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#### **SIGNATURES**

#### ** **

Pursuant to the requirements of the Securities Exchange Act of 1934, theregistrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 
|   |                  |   | EARTHLINK,  INC.                                                                                 |
|--------|-----------------------|--------|--------------------------------------------------------------------------------------------------|
|   |                  |   |                                                                                             |
|   |                  |   |                                                                                             |
| Date:  | October 31, 2008 |   | /s/  ROLLA P. HUFF                                                                               |
|   |                  |   | Rolla P. Huff,  Chairman of the Board and Chief  Executive Officer (principal executive officer) |
|   |                  |   |                                                                                             |
|   |                  |   |                                                                                             |
| Date:  | October 31, 2008 |   | /s/  KEVIN M. DOTTS                                                                              |
|   |                  |   | Kevin M. Dotts, Chief  Financial Officer                                                         |
|   |                  |   | (principal financial  officer)                                                                   |
|   |                  |   |                                                                                             |
|   |                  |   |                                                                                             |
| Date:  | October 31, 2008 |   | /s/  BRADLEY A. FERGUSON                                                                         |
|   |                  |   | Bradley A. Ferguson,  Vice President and  Corporate Controller                                   |
|   |                  |   | (principal accounting  officer)                                                                  |

 

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