Updated at 11:15 a.m., Monday, May 14, 2001

British Internet company buying Digital Island

By Frank Cho
Advertiser Staff Writer

The owner of one of the biggest networks for Internet service providers has agreed to buy Digital Island Inc. for $340 million in cash and debt, ending the state's four-year investment in one of Hawai'i's most successful, yet volatile, startup tech companies.

London-based Cable & Wireless Plc this morning said it agreed to pay $3.40 a share, 8.6 percent more than Digital Island's Friday's closing price, and assume $49 million in debt.

The state can expect to receive about $775,200 for the 228,000 shares it still holds. All total, the state will see about a $2 million return on its $450,000 investment in the company in 1997, far below the $30 million to $40 million it expected to reap after the company went public in June 1999.

"It's a modest premium, but we will be able to cash out and provide some distribution to the state," said John Chock, of the Hawaii Strategic Development Corp., which paid an average of $1.43 for more than 300,000 shares in the company in 1997.

The stock, which traded as high as $150 a share in December 1999, has since fallen on hard times as with many internet-related companies.

The deal, which is subject to regulatory approval, is expected to close in 45 to 70 days, said Ruann Ernst, the company's chairwoman and chief executive.

She said there are no plans for further job cuts and she will stay on as president and chief executive officer of the company, which will become a wholly-owned subsidiary of Cable & Wireless.

Ernst said Digital Island needed $150 million in cash to continue funding its business plan and started to seek investors. While in talks with Cable & Wireless about making an investment, the London company became interested in acquiring Digital Island outright, Ernst said.

Experts say some dissenting shareholders may hold out to try and negotiate a higher sales price, but the state was unlikely to join them.

"I think (Digital Island) is undervalued in the market," said HMS Hawaii Management Partners' William Richardson, who manages the state's Digital Island investment. "But dissenting is not a viable solution for us because we are such a small shareholder. Maybe other large holders may dissent, but the state is waiting for more details."

Ron Higgins, the company's founder and still its single-largest shareholder, was on vacation in Europe and could not be reached for comment this morning.

Analysts say the $3.40 offer is about 2.2 times next year's expected revenue. They say that is on the low side of competitors such as Exodus Communications, which is trading at 2.5 times expected revenues, and Akamai, which is trading at 4.5 times expected revenues.

"The small premium is the market telling us that it is not willing to pay a lot on these types of companies," said Scott Storkamp, vice president for investment with UBS PaineWebber in Honolulu.

Digital Island, which provides computer network services to companies that do business on the Internet, went public in June 1999 to much fanfare by state and local technology officials. It later moved its headquarters from Honolulu to San Francisco to be closer to its customers and more investment capital.

The state's Strategic Development Corp., which supports technology development in Hawai'i, paid $450,000 for 315,000 shares of Digital Island in 1997.

Since then, the state had received $2 million from its first sale of 24,400 shares in January 2000 for about $100 a share. In September, it sold 5,000 more shares for $30 a piece for $150,000.

So far this year Digital Island has shed about a quarter of its staff as a result of reduced business as corporate clients reassess their attitude to new-media investment.

Storkamp said many internet companies have seen their stock prices plummet in the last year as investors shied away from companies with little or no earnings like Digital Island.

The company has never reported a profit. On May 1, it reported a second quarter loss of $1.19 billion or $15.11 a share. The loss included a $1.04 billion charge for acquisitions.

Digital Island offers Internet services such as managed hosting and content delivery for business customers. Revenues from large corporate customers account for about 70 percent of the its revenues with the balance coming from small and medium-sized enterprises.

Frank Cho can be reached by phone at 525-8088, or by e-mail at fcho@honoluluadvertiser.com