<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
FORM 10-Q
(MARK ONE)
[X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2000
OR
[ ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________ TO ________
COMMISSION FILE NUMBER: 0-22967
NETWORK SOLUTIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 52-1146119
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR IDENTIFICATION NO.)
ORGANIZATION)
505 HUNTMAR PARK DRIVE
HERNDON, VIRGINIA 20170
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(703)742-0400
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
As of May 10, 2000, the Registrant had 72,495,132 shares of common stock,
$0.001 par value per share, issued and outstanding.
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1
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<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
PART I FINANCIAL INFORMATION
Item 1. Financial Statements 3
Unaudited Condensed Statements of Financial Position as of 3
December 31, 1999 and March 31, 2000
Unaudited Condensed Statements of Operations for the three 4
months ended March 31, 1999 and 2000
Unaudited Condensed Statements of Changes in Stockholders' 5
Equity for the three months ended March 31, 2000
Unaudited Condensed Statements of Cash Flows for the three 6
months ended March 31, 1999 and 2000
Notes to Condensed Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition and 9
Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk 20
PART II OTHER INFORMATION
Item 1. Legal Proceedings 20
Item 2. Changes in Securities and Use of Proceeds 21
Item 4. Submission of Matters to a Vote of Security Holders 21
Item 6. Exhibits and Reports on Form 8-K 21
Signature.......................................................................... 23
Index to Exhibits.................................................................. 24
</TABLE>
2
<PAGE> 3
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
NETWORK SOLUTIONS, INC.
CONDENSED STATEMENTS OF FINANCIAL POSITION
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 2000
------------ --------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ................................................ $196,589,000 $ 876,033,000
Short-term investments ................................................... 116,342,000 22,425,000
Accounts receivable, net ................................................. 31,916,000 33,816,000
Income taxes receivable .................................................. 16,193,000 --
Prepaids and other assets ................................................ 8,809,000 13,256,000
Deferred tax asset ....................................................... 100,997,000 125,397,000
------------ --------------
Total current assets ........................................... 470,846,000 1,070,927,000
Furniture and equipment, net ............................................. 57,406,000 62,063,000
Long-term investments .................................................... 62,475,000 75,549,000
Deferred tax asset ....................................................... 28,197,000 41,018,000
Other long-term assets ................................................... - 1,270,000
Goodwill and other, net .................................................. 6,379,000 5,667,000
------------ --------------
Total Assets ................................................... $625,303,000 $1,256,494,000
============ ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities ................................. $ 53,204,000 $ 50,275,000
Due to SAIC .............................................................. 30,177,000 11,154,000
Income taxes payable ..................................................... 1,045,000 13,206,000
Deferred revenue, net .................................................... 255,307,000 334,096,000
------------ --------------
Total current liabilities ...................................... 339,733,000 408,731,000
Long-term deferred revenue, net .......................................... 106,332,000 130,587,000
Other long-term liabilities .............................................. 639,000 555,000
------------ --------------
Total liabilities .............................................. 446,704,000 539,873,000
Commitments and contingencies -- --
Stockholders' equity:
Preferred stock, $.001 par value, authorized
10,000,000 shares; none issued
and outstanding in 1999 and 2000 ....................................... -- --
Common stock, $.001 par value; authorized
210,000,000 shares; 67,791,734 and 72,388,054 issued
and outstanding in 1999 and 2000 ....................................... 68,000 72,000
Additional paid-in capital ............................................... 117,289,000 645,219,000
Retained earnings ........................................................ 29,259,000 43,955,000
Accumulated other comprehensive income ................................... 31,983,000 27,375,000
------------ --------------
Total stockholders' equity ..................................... 178,599,000 716,621,000
------------ --------------
Total Liabilities and Stockholders' Equity ..................... $625,303,000 $1,256,494,000
============ ==============
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
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NETWORK SOLUTIONS, INC.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
---------
1999 2000
---- ----
<S> <C> <C>
Net revenue .......................................... $ 38,132,000 $ 98,171,000
Cost of revenue ...................................... 14,541,000 35,479,000
------------ ------------
Gross profit ......................................... 23,591,000 62,692,000
Research and development expenses .................... 2,035,000 4,545,000
Selling, general and administrative expenses ......... 15,265,000 42,699,000
Interest income ...................................... (1,930,000) (9,351,000)
Other expenses ....................................... 19,000 4,000
------------ ------------
Income before income taxes ........................... 8,202,000 24,795,000
Provision for income taxes ........................... 3,404,000 10,099,000
------------ ------------
Net income ........................................... $ 4,798,000 $ 14,696,000
============ ============
Earnings per common share:
Basic .............................................. $ 0.07 $ 0.21
============ ============
Diluted ............................................ $ 0.07 $ 0.20
============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
4
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NETWORK SOLUTIONS, INC.
CONDENSED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(UNAUDITED)
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
COMMON STOCK ADDITIONAL COMPRE- COMPRE- TOTAL
---------------------- PAID-IN RETAINED HENSIVE HENSIVE STOCKHOLDERS'
SHARES AMOUNT CAPITAL EARNINGS INCOME INCOME EQUITY
---------- -------- ------------ ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1999.... 67,792,000 $ 68,000 $117,289,000 $ 29,259,000 $ 31,983,000 $178,599,000
Issuance of common
stock pursuant to
stock plans.................. 277,000 5,483,000 5,483,000
Tax benefit associated
with stock plans............. 11,459,000 11,459,000
Issuance of common stock
pursuant to secondary
offering..................... 4,319,000 4,000 510,988,000 510,992,000
Net income for the
period ended March 31,
2000......................... 14,696,000 $14,696,000 14,696,000
Other comprehensive
income, net of tax:
Unrealized loss on
securities................... (4,608,000) (4,608,000) (4,608,000)
-------------
Comprehensive income.......... $10,088,000
---------- -------- ------------ ------------ ------------ ============= ------------
Balance, March 31, 2000 72,388,000 $ 72,000 $645,219,000 $ 43,955,000 $ 27,375,000 $716,621,000
========== ======== ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
5
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NETWORK SOLUTIONS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
---------------------------------
1999 2000
------------ -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ......................................................... $ 4,798,000 $ 14,696,000
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization ................................... 1,474,000 4,324,000
Deferred income taxes ........................................... (25,271,000) (33,245,000)
Tax benefit associated with stock plans ......................... 2,906,000 11,459,000
Change in operating assets and liabilities:
Increase in accounts receivable ............................... (13,117,000) (1,900,000)
Decrease in income taxes receivable ........................... -- 16,193,000
Increase in prepaids and other assets ......................... (1,888,000) (5,717,000)
Increase (decrease) in accounts payable and accrued liabilities 843,000 (3,013,000)
Increase in income taxes payable .............................. 23,936,000 12,161,000
Increase in deferred revenue .................................. 39,168,000 103,044,000
------------ -------------
Net cash provided by operating activities ..................... 32,849,000 118,002,000
------------ -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of furniture and equipment ................................ (16,557,000) (8,269,000)
Redemption (purchase) of short-term investments, net ............... (1,821,000) 92,259,000
Purchase of long-term investments .................................. (2,000,000) (20,000,000)
------------ -------------
Net cash provided by (used in) investing activities ........... (20,378,000) 63,990,000
------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net transactions with SAIC ......................................... (188,000) (19,023,000)
Issuance of common stock pursuant to secondary offering ............ -- 510,992,000
Issuance of common stock pursuant to stock plans ................... 1,809,000 5,483,000
------------ -------------
Net cash provided by financing activities ..................... 1,621,000 497,452,000
------------ -------------
Net increase in cash and cash equivalents ............................ 14,092,000 679,444,000
Cash and cash equivalents, beginning of period ....................... 12,862,000 196,589,000
------------ -------------
Cash and cash equivalents, end of period ............................. $ 26,954,000 $ 876,033,000
============ =============
</TABLE>
The accompanying notes are an integral part of these financial statements.
6
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NETWORK SOLUTIONS, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 -- ORGANIZATION AND BUSINESS
Network Solutions, Inc. ("Network Solutions") currently acts as the
exclusive registry and as a registrar of Internet domain names within the .com,
.org, .net and .edu top level domains pursuant to agreements with ICANN and the
Department of Commerce (for further information, please see "Overview" on page
9 herein). Domain names are used to identify a unique site or presence on the
Internet. As registry and a registrar for these top level domains, Network
Solutions registers new domain names and is responsible for the maintenance of
the master file of domain names through daily updates to the Internet. Network
Solutions also provides Internet Technology Services, focusing on architecture,
implementation and support services to help large enterprises and Internet
service providers improve their operational effectiveness.
NOTE 2 -- SIGNIFICANT ACCOUNTING POLICIES
INTERIM FINANCIAL STATEMENTS
The interim financial statements have been prepared by Network Solutions
without audit, pursuant to the rules and regulations of the Securities and
Exchange Commission ("SEC"). In the opinion of management, financial statements
included in this report reflect all normal recurring adjustments which Network
Solutions considers necessary for fair presentation of the results of operations
for the interim periods covered and of the financial position of Network
Solutions at the date of the interim balance sheet. Certain information and
footnote disclosures normally included in the annual financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted pursuant to such rules and regulations. However, Network
Solutions believes that the disclosures are adequate for understanding the
information presented. The operating results for interim periods are not
necessarily indicative of the operating results for the entire year. These
interim financial statements should be read in conjunction with Network
Solutions' December 31, 1999 audited financial statements and notes thereto
included in Network Solutions' Form 10-K annual report for the year ended
December 31, 1999. Prior periods have been reclassified for comparative
purposes.
NOTE 3 -- COMMON STOCK
STOCK SPLIT
On December 21, 1999, Network Solutions' Board of Directors approved a
two-for-one stock split of its common stock, to be effected in the form of a
100% stock dividend on shares of common stock outstanding on February 25, 2000.
The stock dividend was distributed on March 10, 2000. Share and per share
information for all periods presented in the accompanying financial statements
have been adjusted to reflect the two-for-one stock split.
SECONDARY STOCK OFFERING
On February 8, 2000, Network Solutions completed a secondary offering in
which a total of 17,779,000 shares of common stock were sold. Of the shares
sold, Network Solutions sold 4,319,000 shares, SAIC Venture Capital Corporation
sold 13,400,000 shares and other selling stockholders sold 60,000 shares. Total
net proceeds to Network Solutions was approximately $511 million. Subsequent to
the offering, SAIC Venture Capital Corporation owns approximately 23% of
Network Solutions' outstanding common stock.
NOTE 4 -- COMPUTATION OF EARNINGS PER SHARE
The following is a reconciliation of the numerator and denominator used in
the basic and diluted earnings per share computations:
<TABLE>
<CAPTION>
INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- ---------
<S> <C> <C> <C>
THREE MONTHS ENDED MARCH 31, 1999
Basic ........................... $ 4,798,000 66,242,000 $ 0.07
========
Dilutive securities:
Outstanding options ........... -- 3,228,000
----------- ----------
Diluted ......................... $ 4,798,000 69,470,000 $ 0.07
=========== ========== ========
</TABLE>
7
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<TABLE>
<S> <C> <C> <C>
THREE MONTHS ENDED MARCH 31, 2000
Basic ........................... $14,696,000 70,440,000 $ 0.21
========
Dilutive securities:
Outstanding options ........... -- 4,486,000
----------- ----------
Diluted ......................... $14,696,000 74,926,000 $ 0.20
=========== ========== ========
</TABLE>
Common shares issued are weighted for the period the shares were
outstanding and incremental shares assumed issued under the treasury stock
method for diluted earnings per share are weighted for the period the underlying
options were outstanding.
NOTE 5 -- ACCUMULATED OTHER COMPREHENSIVE INCOME BALANCES
The changes in the components of accumulated other comprehensive income, net of
income taxes, for the three months ended March 31, 2000 and March 31, 1999 are
as follows:
<TABLE>
<CAPTION>
1999 2000
--------------------------------------- ------------------------------------------
UNREALIZED GAINS ACCUMULATED OTHER UNREALIZED LOSSES ACCUMULATED OTHER
ON SECURITIES COMPREHENSIVE INCOME ON SECURITIES COMPREHENSIVE INCOME
---------------- -------------------- ----------------- --------------------
<S> <C> <C> <C> <C>
Pre-tax amount ............ $38,547,000 $38,547,000 $(8,583,000) $45,623,000
Income tax ................ 16,189,000 16,189,000 (3,975,000) 18,248,000
----------- ----------- ----------- -----------
Net of tax amount ......... $22,358,000 $22,358,000 $(4,608,000) $27,375,000
=========== =========== =========== ===========
</TABLE>
NOTE 6 -- PROPOSED ACQUISITION OF NETWORK SOLUTIONS BY VERISIGN, INC.
On March 7, 2000, VeriSign, Inc., the leading provider of Internet trust
services, and Network Solutions announced the signing of a definitive agreement
for VeriSign to acquire Network Solutions in an all-stock purchase transaction.
Under the agreement, VeriSign will issue 1.075 shares of VeriSign common stock
for each share of Network Solutions Common Stock. The transaction has been
approved by both companies' Boards of Directors and is subject to approval by
VeriSign and Network Solutions shareholders. After the merger, VeriSign
stockholders will own approximately 60% of the combined company while Network
Solutions shareholders will own approximately 40% of the combined company.
On May 9, 2000, VeriSign and Network Solutions announced that the
companies' Joint Proxy Statement relating to the proposed merger of the two
companies had been declared effective by the Securities and Exchange Commission
and filed electronically. In addition, VeriSign and Network Solutions also
announced that on May 5, 2000, the Department of Justice granted early
termination of the waiting periods for the antitrust review of the proposed
merger under the Hart-Scott-Rodino Act.
Proxy materials were mailed to shareholders on May 8, 2000. Both VeriSign
and Network Solutions will hold shareholders meetings on June 8, 2000 for
shareholders of record on May 3, 2000 to vote on the merger. If shareholder
approval is obtained, the merger is expected to close shortly thereafter.
NOTE 7-- COMMITMENTS AND CONTINGENCIES
On March 15, 2000, a group of eight plaintiffs filed suit against the U.S.
Department of Commerce, the National Science Foundation and Network Solutions in
the United States District Court for the Northern District of California. The
case, entitled William Hoefer et al. v. U.S. Department of Commerce, et al.,
Civil Action No. 000918-VRW, challenges the lawfulness of the registration fees
that we were authorized to charge for domain name registrations from September
1995 to November 1999. The suit purports to be brought on behalf of all domain
name registrants who paid registration fees during that period and seeks
approximately $1.7 billion in damages. All of the defendants have been served
with the complaint, and have filed motions to transfer the suit to the Federal
District Court in the District of Columbia. The same attorney who unsuccessfully
challenged us in a similar action known as Thomas, et al. v. Network Solutions,
et al., filed this new action on behalf of eight former and current domain name
registrants. The suit contains eight causes of action against the defendants
based on alleged violations of Art. I, Section 8 and the Fifth Amendment of the
U.S. Constitution, the Independent Offices Appropriations Act (31 U.S.C. Section
9701), the Administrative Procedure Act, the Sherman Act, and the California
Unfair Competition Act, Section 17200. Network Solutions believes that the
complaint lacks merit and intends to vigorously defend itself as it did in
response to the Thomas case.
8
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
This quarterly report on Form 10-Q contains forward-looking statements. For
this purpose, any statements contained herein that are not statements of
historical fact may be deemed to be forward-looking statements. Statements
regarding the intent, belief or current expectations of Network Solutions are
intended to be forward-looking statements which may involve risk and
uncertainty. There are a number of factors that could cause Network Solutions'
actual results to differ materially from those indicated by such forward-
looking statements, including, but not limited to, those discussed in "Part I --
Item 1 -- Business -- Risk Factors" and "Part II -- Item 7 -- Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Factors Affecting Operating Results" contained in Network Solutions' 1999 Form
10-K, as filed with the Securities and Exchange Commission on March 30, 2000. In
addition, set forth below under the heading "Factors Affecting Operating
Results" is a further discussion of certain of those risks as they relate to the
period covered by this report, Network Solutions' near-term outlook with respect
thereto, and the forward-looking statements set forth herein; however, the
absence in this quarterly report of a complete recitation of or update to all
risk factors identified in the 1999 Form 10-K should not be interpreted as
modifying or superseding any such risk factors, except to the extent set forth
below. Investors should review this quarterly report in combination with Network
Solutions' 1999 Form 10-K in order to have a more complete understanding of the
principal risks associated with an investment in Network Solutions' common
stock.
OVERVIEW
Network Solutions is the exclusive registry and the leading registrar for
second level domain names within the .com, .net and .org top level domains
pursuant to agreements with ICANN and the Department of Commerce. Internet
domain names are unique identities which enable businesses, other organizations
and individuals to communicate and conduct commerce on the Internet. As a
registry, Network Solutions maintains the master directory of all second level
domain names in the .com, .net and .org top level domains. Network Solutions
owns and maintains the shared registration system that allows all registrars,
including Network Solutions, to enter new second level domain names into the
master directory and to submit modifications, transfers, re-registrations and
deletions for existing second level domain names. As a registrar, Network
Solutions markets second level domain name registration services that enable
Network Solutions' customers to establish their identities on the web. In
addition, Network Solutions markets a portfolio of value-added products and
services to help customers maximize the value of those identities throughout
their life cycles. Network Solutions also provides Internet technology services
that focus on network engineering, network and systems security and network
management solutions.
Registration Services. In December 1992, Network Solutions entered into the
Cooperative Agreement with the National Science Foundation under which Network
Solutions was to provide Internet domain name registration services for five top
level domains: .com, .net, .org, .edu and .gov. These registration services
include the initial two year domain name registration and annual
re-registration, and throughout the registration term, maintenance of and
unlimited modifications to individual domain name records and updates to the
master file of domain names. The Cooperative Agreement became effective January
1, 1993. It included a three-month phase-in period, a five-year operational
period, commencing April 1, 1993 and ending March 31, 1998, and a six-month
flexibility period through September 30, 1998. Effective September 9, 1998, the
Department of Commerce took over the administration of the Cooperative Agreement
from the National Science Foundation. In October 1998, the Cooperative Agreement
was amended to extend the flexibility period until September 30, 2000 and to
transition to a shared registration system.
On November 10, 1999, Network Solutions, the Department of Commerce and
ICANN entered into a series of wide-ranging agreements relating to the domain
name system. Under these agreements Network Solutions recognized ICANN as the
not-for-profit corporation described in Amendment 11 to the Cooperative
Agreement; has become an ICANN-accredited registrar and has agreed to operate
the registry in accordance with the provisions of the registry agreement and the
consensus policies established by ICANN in accordance with the terms of that
agreement. Network Solutions will be an accredited registrar through November 9,
2004 with a right to renew indefinitely in accordance with the agreement. As the
registry, Network Solutions charged registrars $9 per registration per year
until January 15, 2000. Since then, the fee is $6 per registration per year
unless increased to cover increases in registry costs under the circumstances
described in the registry agreement.
Network Solutions has recently implemented a system under which it will
not accept the registration of a domain name as a registrar unless it has
received a reasonable assurance of payment of the registration fee. Network
Solutions is entitled to establish its own prices for registrar services.
9
<PAGE> 10
Network Solutions has implemented modifications to the shared registration
system that enable a registrar to (a) accept registrations and re-registrations
in one-year increments and (b) add one year to a registrant's registration
period upon transfer of a registration from one registrar to another. The
unexpired term of any registration may not exceed ten years. Network Solutions
is contractually obligated to provide equivalent access to the shared
registration system to all ICANN-accredited registrars and to ensure that the
revenues and assets of the registry are not utilized to advantage our registrar
to the detriment of other registrars. Network Solutions has agreed to and has
implemented an organizational conflict of interest compliance plan that includes
organizational, physical and procedural safeguards in connection with these
obligations.
The term of the registry agreement extends until November 9, 2003, except
in the event that Network Solutions effects the legal separation of the
ownership of its registry business from its registrar business by May 9, 2001 as
described in the agreement, then the term will be extended until November 9,
2007.
Network Solutions has agreed to pay annual fees to ICANN as set by ICANN at
levels currently not to exceed $2 million for our registrar and $250,000 for our
registry.
Internet Technology Services. Substantially all of Network Solutions'
Internet technology services revenue is derived from professional services which
are generally provided to clients on a time and expense basis and is recognized
as services are performed.
RESULTS OF OPERATIONS
Net Revenue. Net revenue increased 157% from $38.1 million for the three
months ended March 31, 1999 to $98.2 million for the three months ended March
31, 2000. This increase in net revenue was primarily attributable to the
increase in the number of domain name registrations, principally in the .com top
level domain. Net revenue from registration services increased 175% from $34.8
million for the three months ended March 31, 1999 to $95.8 million for the three
months ended March 31, 2000. Net new registrations for Network Solutions'
Registrar services, or NSI registrar, increased 113% from 922,000 for the three
months ended March 31, 1999 to 1,962,000 for the three months ended March 31,
2000. This also represents a 21% increase over the 1,617,000 net new
registrations for the three months ended December 31, 1999. There were 785,000
international net new registrations during the three months ended March 31,
2000, an increase of 241% over the 230,000 international net new registrations
for the three months ended March 31, 1999. As a percentage of total
registrations, international registrations rose from 25% for the three months
ended March 31, 1999 to 40% for the three months ended March 31, 2000.
Non-NSI registrars registered an additional 3,075,000 names through our
registry services, bringing the total net new registrations for the three months
ended March 31, 2000 in the .com, .net and .org top level domains to 5,037,000.
Growth in net registrations continues to be driven by the widespread use
and adoption by businesses of the Internet and Intranets on a global basis.
Cumulative net registrations for the NSI registrar as of March 31, 1999 were
4,225,000 as compared to 9,884,000 as of March 31, 2000, for a 134% increase. In
addition, this growth in cumulative net registrations represents a 23% increase
in Network Solutions' entire customer base since December 31, 1999.
Net revenue from Internet Technology Services decreased 27% from $3.3
million for the three months ended March 31, 1999 to $2.4 million for the three
months ended March 31, 2000.
Cost of Revenue. Cost of revenue consists primarily of salaries and
employee benefits, fees paid to subcontractors for work performed in connection
with revenue producing projects, depreciation and equipment costs, lease costs
of the operations infrastructure and the associated operating overhead. Cost of
revenue increased 144% from $14.5 million for the three months ended March 31,
1999 to $35.5 million for the three months ended March 31, 2000. The increase
was primarily due to increased staffing charges of $10.5 million, $7.9 million
of additional outsourcing costs, and additional depreciation of $2.2 million.
As a percentage of net revenue, cost of revenue decreased from 38.1% for
the three months ended March 31, 1999 to 36% for the three months ended March
31, 2000. This decrease primarily reflects certain economies of scale that
Network Solutions has realized due to the growth of its domain name registration
business. We expect that cost of revenue will increase in terms of absolute
dollars as we continue to enhance and improve the infrastructure supporting our
product and service offerings, customer service capabilities
10
<PAGE> 11
and growing registration base.
Research and Development Expenses. Research and development expenses
consist primarily of compensation expenses to support the creation, development
and enhancement of Network Solutions' services and technologies. Research and
development expenses increased 123% from $2.0 million for the three months ended
March 31, 1999 to $4.5 million for the three months ended March 31, 2000. As a
percentage of net revenue, research and development expenses were 5.3% and 4.6%
for the three months ended March 31, 1999 and 2000, respectively. Network
Solutions expects that the level of research and development expenses will
continue to increase in the near future in absolute dollars as Network Solutions
invests in developing new product and service offerings.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses consist primarily of salaries of business development,
general management, administrative and financial personnel, marketing and sales
expenses, legal and other professional costs and amortization of goodwill
associated with Network Solutions' acquisition of ImageCafe. Selling, general
and administrative expenses increased 180% from $15.3 million for the three
months ended March 31, 1999 to $42.7 million for the three months ended March
31, 2000. The increase was primarily attributable to a $19.9 million increase in
marketing and business development expenses including a $16.5 million increase
in television and Internet banner advertising. In addition, staffing expenses
increased by $2.6 million.
As a percentage of net revenue, selling, general and administrative
expenses increased from 40.0% for the three months ended March 31, 1999 to 43.5%
for the three months ended March 31, 2000.
Network Solutions expects that the level of selling, general and
administrative expenses will continue to increase significantly in the near
future in terms of absolute dollars and as a percent of revenues as operations
continue to expand. In particular, sales, marketing and business development
expenses will increase as Network Solutions continues to promote the value of
.com and .net web addresses and new value-added services including web site
design and enhanced value added service offerings. Network Solutions also plans
to continue to develop and enhance its extensive partner and distribution
channels, both domestically and internationally, in light of the new competitive
environment.
Interest Income. Network Solutions had net interest income of $1.9 million
for the three months ended March 31, 1999 as compared to $9.4 million for the
three months ended March 31, 2000. The increase in interest income is due
primarily to the investment of the proceeds of the secondary offering as well as
the investment of cash generated from operations.
Income Taxes. The provision for income taxes was 41.5% of pretax earnings,
or $3.4 million for the three months ended March 31, 1999, and 40.7%, or $10.1
million for the three months ended March 31, 2000. The difference between the
effective rate for both periods presented and the statutory rate is principally
attributable to the impact that non-deductible goodwill had on pretax operating
income.
LIQUIDITY AND CAPITAL RESOURCES
In February 2000, we received net proceeds of $511 million following the
public offer and sale by us of 4,319,000 shares of our Common Stock. We intend
to use the net proceeds for general corporate purposes. We may also use a
portion of the proceeds to acquire or invest in businesses, technologies,
product lines or service offerings that are complementary to our business.
At March 31, 2000, Network Solutions' principal source of liquidity was its
cash and cash equivalents of $876 million and its short-term investments of
$22.4 million, which when combined represent an increase of $585.5 million from
its December 31, 1999 balances in those accounts. Network Solutions also has
$51.7 million of marketable securities held as long-term investments as of March
31, 2000.
At March 31, 2000, Network Solutions' cumulative net obligation to Science
Applications International Corporation, currently known as SAIC, for
intercompany activity was $11.2 million. Intercompany activity is primarily
comprised of salaries and benefits paid by SAIC on behalf of Network Solutions.
Network Solutions currently reimburses SAIC for intercompany activity on a
monthly basis.
Cash provided by operations was $118.0 million for the three months ended
March 31, 2000. This amount is principally attributed to net income plus the
increase in deferred revenue reflecting cash collected in advance of
registration services revenue recognition, which occurs ratably over the
registration terms. Partially offsetting this amount is an increase in deferred
tax assets resulting from accelerated revenue recognition for tax purposes and
the associated tax liabilities, generally paid on a quarterly basis.
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Equity investments during the period include $10 million in Interliant,
$6 million in MyComputer.com and $4 million in Interland. All three companies
are leading applications service providers and have strategic business
relationships with Network Solutions.
Capital expenditures for the three months ended March 31, 2000 were $8.3
million, primarily for computer equipment and software to support Network
Solutions' registry and registrar. Network Solutions will continue to invest in
the back office infrastructure in advance of continued growth in domain name
registrations and as Network Solutions designs, builds, and operates the shared
registration system in accordance with the Cooperative Agreement.
Network Solutions believes that its existing cash balance, investments and
cash flows expected from future operations will be sufficient to meet Network
Solutions' capital requirements for at least the next 12 months.
FACTORS AFFECTING OPERATING RESULTS
RISKS RELATED TO THE PROPOSED VERISIGN MERGER
We face risks relating to the proposed VeriSign merger
On March 7, 2000, we executed a merger agreement to be acquired by
VeriSign. Under the terms of the agreement, each outstanding share of Network
Solutions Common Stock will be exchanged for 1.075 shares of VeriSign common
stock. The announcement of the proposed merger may have a negative impact on our
ability to sell our services and products, attract and retain employees and
clients, and maintain strategic relationships with third parties. For example,
our employees may experience uncertainty about their future role with VeriSign
until VeriSign's strategies with regard to us are announced or executed. The
announcement may also have an adverse effect on our relationships with
significant clients and strategic partners.
If the merger is successfully completed, holders of Network Solutions'
Common Stock will become holders of VeriSign's common stock. VeriSign's
business differs from our business, and VeriSign's results of operations, as
well as the price of VeriSign's common stock, may be affected by factors
different than those affecting our results of operations and the price of our
Common Stock before the merger. For further information on VeriSign's business
and certain factors to consider in connection with the proposed merger and
VeriSign's business, please see VeriSign's Annual Report on Form 10-K for the
fiscal year ended December 31, 1999, VeriSign's Rule 425 filings on March 7 and
8, 2000 and VeriSign's Form S-4 and S-4/A filed on April 12, 2000 and May 3,
2000, respectively -- all of which may be accessed through the SEC's EDGAR
filings on their website at www.sec.gov.
If the VeriSign merger is completed, our stockholders will receive a fixed
number of shares of VeriSign common stock despite changes in the market value of
our Common Stock or VeriSign's common stock. The 1:1.075 ratio of our Common
Stock to VeriSign common stock is a fixed number and will not be adjusted in the
event of any increase or decrease in the price of VeriSign common stock or our
Common Stock, except with respect to stock dividends, splits, etc., as
specifically set forth in the merger agreement. The prices of VeriSign common
stock and our Common Stock at the closing of the proposed merger may vary from
their respective prices on the date the merger agreement was signed. These
prices may vary because of the changes in the business, operations or prospects
of VeriSign or Network Solutions, market assessments of the likelihood that the
merger will be completed, the timing of the completion of the merger, the
prospects of post-merger operations, regulatory considerations, general market
and economic conditions as well as other factors.
Our failure to complete the proposed merger with VeriSign could adversely affect
our stock price and future business and operations.
The merger is subject to the approval by Network Solutions' and VeriSign's
stockholders and we cannot assure you that the merger will be successfully
completed. In the event that the merger is not successfully completed, Network
Solutions may be subject to a number of material risks, including the following:
- - Network Solutions may be required to pay VeriSign a termination fee of $425
million;
- - the price of Network Solutions' common stock may decline to the extent that
the current market price for its common stock reflects a market assumption
that the proposed merger will be completed; and
- - costs related to the proposed merger, such as legal, accounting, and
financial advisory fees must be paid by Network Solutions, even if the
merger is not completed.
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In addition, in the event that the merger is not completed and our board of
directors determines to seek another merger or business combination, it may not
be able to find a partner willing to pay an equivalent or more attractive price
than that which would have been paid in the merger with VeriSign.
We are dependent upon the successful integration of our proposed merger with
VeriSign
Achieving the anticipated benefits of the proposed acquisition of our
company by VeriSign is dependent in part upon whether the integration of the two
companies' products, services and technologies, research and development
activities, sales and marketing, and administrative organizations is
accomplished in an efficient and effective manner. There can be no assurance
that this will occur. Moreover, the integration process may temporarily divert
management attention from our day-to-day business. Failure to successfully
accomplish integration could have a material adverse effect on the business,
financial condition or results of operations of the combined company.
INDUSTRY RISKS
Increased competition could harm our domain name registration business
The introduction of additional competition into the domain name
registration business could harm our business. This includes, in particular,
competition among registrars within a single top level domain, such as .com,
.net or .org, and competition among registrars and registries of existing and
potential new top level domains. We currently face competition in the domain
name registration business from other registrars in the top level domains for
which we act as registry, third level domain name providers such as Internet
access providers and registrars and registries of top level domains other than
those top level domains for which we act as registry. As of May 8, 2000, 40
accredited registrars (in addition to us) in the .com, .net and .org top level
domains used our shared registration system to register domain names. ICANN has
accredited 76 additional registrars as of that date. We expect these and
additional accredited registrars to offer competing registration services in
these top level domains in the near future.
The accredited registrars include, among others, AT&T, Alabanza, America
Online, CORE or Internet Council of Registrars, Deutsche Telekom, France Telecom
Oleane, iDirections, interQ, Internet Domain Registrars, Melbourne IT,
NameSecure.com, NetBenefit, PSINet, Register.com, Talk.com and Verio. For the
quarter ended March 31, 2000, we registered 1,962,000 net new second level
domain names and competing accredited registrars registered 3,075,000 second
level domain names.
The introduction of potential new top-level domains is currently an issue
of global significance. At its most recent meeting in Cairo, the ICANN Board
requested the Names Council, a branch of the Domain Name Supporting
Organization, or DNSO, which is primarily responsible for the consensus-building
process of the DNSO, and its staff to prepare recommendations regarding the
introduction of new generic top-level domains, indicating that the ICANN Board
intends to act on these topics at its Yokohama meeting on July 15-16, 2000. The
Names Council has adopted a resolution declaring that there is a consensus in
support of creating new top level domains.
Future competition in the domain name registration business as a registry
or registrar could come from many different companies, including:
- domain name registration resellers,
- country code registries,
- Internet access providers and
- major telecommunications firms.
Many of these entities have core capabilities to deliver registry and/or
registrar services, such as help desks, billing services and network management,
along with strong name recognition and Internet industry experience. The recent
agreements among ICANN, the Department of Commerce, us and other registrars
permit flexibility in pricing for and term of registrations. Our revenue,
therefore, could be reduced due to pricing pressures, bundled service offerings
and variable terms resulting from increased competition. Some registrars and
resellers in the .com, .net and .org top level domains are already charging
lower prices for domain name registration services in those domains. In
addition, other entities are bundling, and may in the future bundle, domain name
registrations with other
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products or services at reduced rates or for free.
Issues arising from implementation of our agreements with ICANN and the
Department of Commerce could harm our registration business
The Department of Commerce has adopted a plan for a phased transition of
the Department of Commerce's responsibilities for the domain name system to
ICANN by September 30, 2000. We face risks from this transition, including:
- ICANN could adopt or promote policies, procedures or programs that are
unfavorable to our role in the registration of domain names or that
are inconsistent with our current or future plans,
- The Department of Commerce or ICANN could terminate our agreements to
be the registry and/or a registrar in the .com, .net and .org top
level domains if they find that we are in violation of our agreements
with them,
- If we do not separate ownership of our registry and registrar by May
2001 in accordance with the registry agreement, the term of the
registry agreement will expire in November 2003 and we may not be
chosen as the successor registry,
- The terms of the registrar accreditation contract could change, as a
result of an ICANN-adopted policy, in a manner which is unfavorable to
us,
- The Department of Commerce's or ICANN's interpretation of provisions
of our agreements with either of them could differ from ours,
- The Department of Commerce could revoke its recognition of ICANN, as a
result of which the Department of Commerce would take the place of
ICANN for purposes of the various agreements mentioned above, and
could take actions which are harmful to us,
- ICANN may approve new top level domains and we may not be selected to
act as a registrar or registry with respect to those top level
domains,
- The U.S. Government could refuse to transfer certain responsibilities
for domain name system administration to ICANN due to security,
stability or other reasons, resulting in fragmentation or other
instability in domain name system administration, and
- Our registry business could face legal or other challenges resulting
from the activities of other registrars.
Challenges to ongoing privatization of Internet administration could harm our
registration business
Risks we face from challenges by third parties, including other domestic
and foreign governments and international governmental authorities, to our role
in the ongoing privatization of the Internet include:
- Legal, regulatory or other challenges, including challenges to the
agreements governing our relationship with, or to the legal authority
underlying the roles and actions of, the Department of Commerce, ICANN
and/or us, could be brought,
- Congress has held two hearings in which various issues about the
domain name system have been raised and Congress could take action
which is unfavorable to us,
- Congress has issued a Conference Report directing the General
Accounting Office to review the relationship between the Department of
Commerce and ICANN and the adequacy of security arrangements under
existing Department of Commerce cooperative agreements. An adverse
report could cause Congress to take action which is unfavorable to us
or to the stability of the domain name system,
- ICANN could fail to maintain legitimacy resulting in instability in
domain name system administration, and
- Some foreign governments and international governmental authorities
have in the past disagreed with, and may in the future disagree with,
the actions, policies or programs of ICANN, the U.S. Government or us
relating to the domain name system. These foreign governments or
governmental authorities may take actions or adopt policies or
programs which are harmful to our business.
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We depend on future growth of the Internet and Internet infrastructure
Our future success substantially depends on the continued growth in the use
of the Internet. If the use of and interest in the Internet does not continue to
grow, our business would be harmed. Continued growth of the Internet could be
slowed by:
- inadequate infrastructure,
- lack of availability of cost-effective, high speed systems and
service,
- delays in developing or adopting new standards and protocols to handle
increased levels of Internet activity or
- government regulation.
We rely on third parties who maintain and control root zone and top level domain
zone servers
We currently administer and operate only two of the 13 root zone servers
and seven top level domain zone servers. The others are administered and
operated by independent operators on a volunteer basis. Because of the
importance to the functioning of the Internet of these root zone servers and top
level domain zone servers, our registration business could be harmed if these
volunteer operators fail to properly maintain such servers or abandon such
servers.
Further, our registration business could be harmed if any of these
volunteer operators fail to include or provide accessibility to the data that we
maintain in the root zone servers and the top level domain zone servers that we
control.
In the event and to the extent that ICANN is authorized to set policy with
regard to an authoritative root server system, as provided in the registry
agreement, it is required to ensure that the authoritative root will point to
the top level domain zone servers designated by us. If ICANN does not do this,
our business could be harmed.
We rely on Internet service providers
Our registration business could be harmed if a significant number of
Internet service providers decided not to route Internet communications to or
from domain names registered by us or if a significant number of Internet
service providers decided to provide routing to a set of domain name servers
which did not point to our top level domain zone servers.
COMPANY RISKS
Our near term success depends on the growth of our domain name registration
business
We may not be able to sustain the revenue growth we have experienced in
recent periods. In addition, past revenue growth may not be indicative of future
operating results. If we do not successfully maintain our current position as a
leading provider of domain name registration services or develop or market
additional value-added products and services, our business could be harmed.
Our domain name registration services business generates over 90% of our
revenue and is expected to continue to account for a very significant portion of
our revenue in at least the near term. Our future success will depend largely
on:
- the continued increase in domain name registrations,
- re-registration rates of our customers,
- our ability to maintain our current position as a leading registrar of
domain names,
- the successful development, introduction and market acceptance of new
services that address the demands of Internet users,
- our ability to provide robust domain name registration systems and
- our ability to provide a superior customer service infrastructure as a
registry and registrar.
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The contractual requirement that we provide bulk access to customer data
could hurt our ability to market and sell other value-added services in addition
to domain name registration services.
System failure or interruption, security breaches or our failure to meet
increasing demands on our systems could harm our business
Any significant problem, including any security breach, with our systems or
operations could result in lost revenue, customer dissatisfaction or lawsuits
against us. A failure in the operation of our registration systems or other
events could result in deletion of one or more domain names from the Internet
for a period of time. A failure in the operation of our shared registration
system could result in the inability of one or more other registrars to register
and maintain domain names for a period of time. A failure in the operation or
update of the master database that we maintain could result in deletion of one
or more top level domains from the Internet and the discontinuation of second
level domain names in those top level domains for a period of time. The
inability of our registrar systems, including our back office billing and
collections infrastructure, and telecommunications systems to meet the demands
of the increasing number of domain name registration requests and corresponding
customer e-mails and telephone calls, including speculative, otherwise abusive
and repetitive e-mail domain name registration and modification requests, could
result in substantial degradation in our customer support service and our
ability to process, bill and collect registration requests in a timely manner.
We recently completed a physical separation of our registrar and registry
computer systems and have run the operations of our new systems separately for
only a limited time. Any data integrity, non-compatibility or other issues that
may arise from this separation could materially harm our business.
Our operations depend on our ability to maintain our computer and
telecommunications equipment in effective working order and to reasonably
protect our systems against interruption and potentially on such maintenance and
protection by other registrars in the shared registration system. The root zone
servers and top level domain zone servers that we operate are critical hardware
to our operations. Interruptions could result from:
- fire, natural disaster, sabotage, power loss, telecommunications
failure, human error or similar events,
- computer viruses, hackers or similar disruptive problems caused by
employees, customers or other Internet users or
- systems strain caused by the growth of our customer base and our
inability to sufficiently maintain or upgrade our systems.
We must attract, integrate, train and retain key personnel knowledgeable about
our business
We face intense competition for the limited supply of people qualified to
work for us. Our future success depends on the continued service of key
engineering, sales, marketing, executive and administrative personnel, and our
ability to identify, attract, hire, integrate, train and retain such personnel.
Competition for engineering, sales, marketing and executive personnel is
intense, particularly in the technology and Internet sectors and in the regions
where our facilities are located. We may be unable to retain existing personnel
or attract, hire or retain additional qualified personnel. The loss of the
services of any of our senior management team or other key employees or our
failure to attract, integrate, train and retain additional key employees could
harm our business.
We must effectively manage our marketing organization and establish and maintain
distribution channels
We will need to effectively manage our growing sales and marketing
organization if we want to achieve future revenue growth. We may not be able to
identify, attract and retain experienced sales and marketing personnel with
relevant experience. Further, our sales and marketing organization may not be
able to successfully compete against the significantly more extensive and
well-funded sales and marketing operations of our current or potential
competitors for registration or Internet technology services.
Our ability to achieve future revenue growth will also depend on our
ability to continue to establish direct sales channels and to develop multiple
distribution channels. To do this we must maintain relationships with Internet
access providers and other third parties.
We are party to legal proceedings which could have a negative financial impact
on us
On March 15, 2000, a group of eight plaintiffs filed suit against the
U.S. Department of Commerce, the National Science Foundation and us in the
United States District Court for the Northern District of California. The case,
entitled William Hoefer et al.
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v. U.S. Department of Commerce, et al., Civil Action No. 000918-VRW, challenges
the lawfulness of the registration fees that we were authorized to charge for
domain name registrations from September 1995 to November 1999. The suit
purports to be brought on behalf of all domain name registrants who paid
registration fees during that period and seeks approximately $1.7 billion in
damages. All of the defendants have now been served with the complaint. The same
attorney who challenged us in a similar action, known as Thomas, et al. v.
Network Solutions, et al., has filed this new action on behalf of eight former
and current domain name registrants. The suit contains eight causes of action
against the defendants based on alleged violations of Art. I, Section 8 and the
Fifth Amendment of the U.S. Constitution, the Independent Offices Appropriations
Act (31 U.S.C. Section 9701), the Administrative Procedure Act, the Sherman Act,
and the California Unfair Competition Act, Section 17200. All defendants have
now filed a motion to transfer the case to the Federal District Court in the
District of Columbia. We believe that the complaint lacks merit and we intend to
vigorously defend ourselves as we did in response to the Thomas case.
We are also involved in a number of other legal proceedings. We cannot
reasonably estimate the potential impact of any of these proceedings. An adverse
determination in any of these proceedings, however, could harm our business.
Legal proceedings in which we are involved are expensive and divert the
attention of our personnel. Please see "Legal Proceedings" on page 20 herein.
We may not be able to protect our intellectual property rights and proprietary
information or we may be subject to claims of infringement of third party
intellectual property rights
We rely on a combination of nondisclosure and other contractual
arrangements with the U.S. Government, our employees, and third parties, as well
as copyright, privacy and trade secret laws, to protect and limit the
distribution of our proprietary data, computer software, documentation, and
processes used in conducting our domain name registration and other businesses.
If we fail to adequately protect our intellectual property rights and
proprietary information, or if we are subject to adverse results in litigation
relating to our intellectual property rights and proprietary information, our
business could be harmed. Any actions we take may not be adequate to protect our
intellectual property rights and proprietary information. Other companies may
develop competing technology that is similar or superior to our technology.
Although we have no reason to believe that our domain name registration business
activities infringe on the intellectual property rights of others, and we
believe that we have all rights needed to conduct our business, it is possible
that we could become subject to claims alleging infringement of third party
intellectual property rights. Any of these claims could subject us to costly
litigation, and any adverse final rulings on any of these claims could require
us to pay damages, seek to develop alternative technology, and/or seek to
acquire licenses to the intellectual property that is the subject of any alleged
infringement, and any rulings not in our favor could harm our business.
In addition, legal standards relating to the validity, enforceability, and
scope of protection of intellectual property rights in Internet-related
businesses are uncertain and still evolving. Because of the growth of the
Internet and Internet related businesses, patent applications are continuously
and simultaneously being filed in connection with Internet-related technology.
There are a significant number of U. S. and foreign patents and patent
applications in our areas of interest, and we believe that there has been, and
is likely to continue to be, significant litigation in the industry regarding
patent and other intellectual property rights.
Future acquisitions and investments could decrease operating income, cause
operational problems or otherwise disrupt our business
We evaluate potential acquisitions and investments on an ongoing basis for
various reasons including, among others, diversification of our domain name
registration services and Internet Technology Services businesses. Our
acquisition and investment strategy poses many risks, including:
- we may not be able to compete successfully for available acquisition
or investment candidates, complete future acquisitions and investments
or accurately estimate the financial effect on our company of any
businesses we acquire or investments we make,
- future acquisitions and investments may require us to spend
significant cash amounts or may decrease our operating income,
- we may have trouble integrating the acquired business and retaining
personnel,
- acquisitions or investments may disrupt our business and distract our
management from other responsibilities,
- to the extent that any of the companies which we acquire or in which
we invest fail, our business could be harmed and
- we may not identify appropriate acquisition or investment targets.
We face increasing risks associated with our international business
While substantially all of our operations, facilities, and personnel are
located within the United States, our revenues from sources
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outside the United States have increased significantly and may continue to
increase in the future. As a result, we are subject to the risks of conducting
business internationally, including unexpected changes in regulatory
requirements, competition from foreign companies, fluctuations in the U.S.
dollar, tariffs and other barriers and restrictions and the burdens of complying
with a variety of foreign laws. We do not know what the impact of such
regulatory, geopolitical and other factors will be on our business in the future
or if we will have to modify our business practices. In addition, the laws of
certain foreign countries may not protect our proprietary rights to the same
extent as do the laws of the United States.
Our quarterly operating results may fluctuate; our future revenue and
profitability are uncertain
Our quarterly operating results may fluctuate significantly in the future
due to a variety of factors, some of which are beyond our control. Factors that
may affect our revenue include:
- variations in the number of requests for domain name registrations or
demand for our services,
- successful competition by others,
- termination or completion of contracts in our Internet technology
services business or failure to obtain additional contracts in that
business and
- market acceptance of new service offerings.
In addition, we expect a significant increase in our operating expenses as we:
- increase our sales and marketing operations and activities and
- continue to update our systems and infrastructure.
If the increase in our expenses is not followed by a corresponding increase
in our revenue, our operating results will suffer. The fact that in the past our
revenue has increased and we have been profitable on a quarterly and annual
basis is not indicative of whether our revenue will increase or whether we will
be profitable on a quarterly or annual basis in the future.
INVESTMENT RISKS
Our stock price, like that of many Internet companies, is highly volatile
The market price of our Common Stock has been and is likely to continue to
be highly volatile and significantly affected by factors such as:
- general market and economic conditions and market conditions affecting
technology and Internet stocks generally,
- actual or anticipated fluctuations in our quarterly or annual
registrations or operating results,
- announcements of technological innovations, acquisitions or
investments, developments in Internet governance or corporate actions
such as stock splits, and
- industry conditions and trends.
The stock market has experienced significant price and volume fluctuations
that have particularly affected the market prices of the stocks of technology
companies, especially Internet-related companies. These broad market or
technology or Internet sector fluctuations may adversely affect the market price
of our Common Stock. Recently, the market price of our Common Stock, like that
of many Internet-related companies, has experienced significant fluctuations.
For instance, between January 1, 1999, and May 8, 2000, the reported last sale
price for our Common Stock ranged from $25.875 per share to $247.25 per share.
On May 8, 2000, the reported last sale price of our Common Stock was $142.25 per
share.
The market price of our Common Stock also has been and is likely to
continue to be significantly affected by expectations of analysts and investors.
Reports and statements of analysts do not necessarily reflect our views. The
fact that we have in the past met or
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exceeded analyst or investor expectations does not necessarily mean that we will
do so in the future.
In the past, securities class action lawsuits have often followed periods
of volatility in the market price of a particular company's securities. This
type of litigation could result in substantial costs and a diversion of our
management's attention and resources.
Future issuances or sales of Common Stock could cause our stock price to
decrease
We may in the future issue shares of Common Stock in connection with
acquisitions or other strategic investments. Also, SAIC Venture Capital
Corporation, a wholly-owned subsidiary of SAIC, owns 16,300,000 shares of our
Common Stock. A decision by us to issue shares of Common Stock or by SAIC
Venture Capital Corporation or other stockholders to sell our Common Stock could
depress the market price of the Common Stock.
SAIC may maintain significant influence over us
SAIC Venture Capital Corporation, a wholly-owned subsidiary of SAIC, owns
approximately 23% of our Common Stock and is our largest stockholder. Matters
requiring approval by our stockholders, including the election of members of our
Board of Directors, changes in the size and composition of the Board of
Directors and a change in control, may need the approval of SAIC Venture Capital
Corporation to be effected. SAIC Venture Capital Corporation has agreed to vote
its shares in favor of the approval and adoption of the merger with VeriSign and
against approval of any proposal made in opposition to or in competition with
the consummation of the merger. We do not have an agreement with either SAIC or
SAIC Venture Capital Corporation which restricts SAIC Venture Capital
Corporation's rights to distribute or sell its shares of our Common Stock.
Some of our directors may have conflicts of interest.
Some of our directors currently serve as directors, officers and employees
of SAIC and other companies, including Stratton D. Sclavos, who serves as Chief
Executive Officer and President of VeriSign. Therefore, there may be various
conflicts of interest or conflicting duties for these individuals. Since our
directors and officers may also own stock of those companies, there may be
conflicts of interest when directors and officers are faced with decisions that
could have different implications for Network Solutions and those companies.
SAIC Venture Capital has agreed to vote its shares in favor of the approval and
adoption of the merger with VeriSign and against approval of any proposal made
in opposition to or in competition with the consummation of the merger.
We rely on SAIC for corporate services and employee benefits
We currently receive corporate services under an agreement with SAIC. If
SAIC were to terminate these services, we might not be able to secure
alternative sources for such services or such services might only be available
to us at prices higher than those charged by SAIC.
Our employees are currently eligible to participate in some of SAIC's
employee benefit plans through the end of calendar year 2000. However, since
SAIC now indirectly owns less than 50% of our Common Stock, we will have to
establish certain employee benefit plans of our own which could result in
incremental costs to us.
Our certificate of incorporation contains provisions relating to SAIC that may
adversely affect us or our stockholders
Our certificate of incorporation includes provisions relating to
competition by SAIC with us, allocations of corporate opportunities,
transactions with interested parties and intercompany agreements and provisions
limiting the liability of certain people. It is unclear whether such provisions
are enforceable under Delaware corporate law. Our certificate of incorporation
provides that any person purchasing or acquiring an interest in shares of our
capital stock shall be deemed to have consented to the provisions in the
certificate of incorporation relating to competition with SAIC, conflicts of
interest, corporate opportunities and intercompany agreements, and such consent
may restrict such person's ability to challenge transactions carried out in
compliance with such provisions. The corporate charter of SAIC does not include
similar provisions. Therefore, persons who are directors and/or officers of ours
and who are also directors and/or officers of SAIC may choose to take action in
reliance on such provisions rather than act in a manner that might be favorable
to us but adverse to SAIC.
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YEAR 2000 COMPLIANCE
Prior to entering the year 2000, or Y2K, we developed detailed plans for
implementing, testing and completing any necessary modifications to our key
computer systems and equipment to ensure that they were Y2K compliant. We also
developed a testbed of our internal systems to implement and complete testing of
the requisite minor changes and completed an inventory of our internal systems.
Now that we have entered the year 2000, we have tested our key computer system
and, to date, we have not encountered any material Y2K related disruptions or
failures of our systems or services, nor have we been notified of any
disruptions or failures in the systems of any of our third parties with whom we
deal. There is an ongoing risk that Y2K related problems could still occur and
we will continue to evaluate these risks. However, we believe that the Y2K issue
will not pose any significant operational problems for us.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Network Solutions is exposed to the impact of interest rate changes and
change in the market values of its investments.
Interest Rate Risk. Network Solutions' exposure to market rate risk for
changes in interest rates relates primarily to our investment portfolio. Network
Solutions has not used derivative financial instruments in its investment
portfolio. Network Solutions invests its excess cash in debt instruments of the
U.S. Government and its agencies, and in high-quality corporate issuers and, by
policy, limits the amount of credit exposure to any one issuer. We protect and
preserve our invested funds by limiting default, market and reinvestment risk.
Investments in both fixed rate and floating rate interest earning
instruments carry a degree of interest rate risk. Fixed rate securities may have
their fair market value adversely impacted due to a rise in interest rates,
while floating rate securities may produce less income than expected if interest
rates fall. Due in part to these factors, Network Solutions' future investment
income may fall short of expectations due to changes in interest rates or
Network Solutions may suffer losses in principal if forced to sell securities
which have declined in market value due to changes in interest rates.
Investment Risk. Network Solutions has invested in the equity instruments
of several privately-held, information technology companies for business and
strategic purposes. These investments are included in other long-term assets and
are accounted for under the cost method which approximates fair value. Network
Solutions is also exposed to equity price risks on the marketable portion of its
equity securities. Network Solutions' available-for-sale securities include
investments in publicly-held companies in the Internet industry sector, many of
which have experienced significant historical volatility in their stock prices.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
As of May 8, 2000, we were a defendant in fourteen active lawsuits
involving domain name disputes between trademark owners and domain name holders.
We are drawn into such disputes, in part, as a result of claims by trademark
owners that we are legally required, upon request by a trademark owner, to
terminate the right we granted to a domain name holder to register a domain name
which is alleged to be similar to the trademark in question. On October 25,
1999, however, the Ninth Circuit Court of Appeals ruled in our favor and against
Lockheed Corporation, holding that our services do not make us liable for
contributory infringement to trademark owners. Thus, we believe, this type of
suit should decline. The holders of the domain name registrations in dispute
have, in turn, questioned our right, absent a court order, to take any action
which suspends their use of the domain names in question. Beginning January 1,
2000, however, we no longer included a contractual provision in our service
contracts with domain name holders under which we would suspend their use of
their domain name under dispute by a trademark owner. Thus, we believe, this
type of suit also should decline. Although 76 out of approximately 10,000 of
these situations have resulted in suits actually naming us as a defendant, as of
May 8, 2000, no adverse judgment has been rendered and no award of damages has
ever been made against us. We believe that we have meritorious defenses and
vigorously defend ourselves against these claims.
On March 15, 2000, a group of eight plaintiffs filed suit against the
U.S. Department of Commerce, the National Science Foundation and us in the
United States District Court for the Northern District of California. The case,
entitled William Hoefer et al. v. U.S. Department of Commerce, et al., Civil
Action No. 000918-VRW, challenges the lawfulness of the registration fees that
we were authorized to charge for domain name registrations from September 1995
to November 1999. The suit purports to be brought on behalf of all domain name
registrants who paid registration fees during that period and seeks
approximately $1.7 billion in damages.
20
<PAGE> 21
All of the defendants have now been served with the complaint. The same attorney
who challenged us in a similar action, known as Thomas, et al. v. Network
Solutions, et al., has filed this new action on behalf of eight former and
current domain name registrants. The suit contains eight causes of action
against the defendants based on alleged violations of Art. I, Section 8 and the
Fifth Amendment of the U.S. Constitution, the Independent Offices Appropriations
Act (31 U.S.C. Section 9701), the Administrative Procedure Act, the Sherman Act,
and the California Unfair Competition Act, Section 17200. All defendants have
now filed a motion to transfer the case to the Federal District Court in the
District of Columbia. We believe that the complaint lacks merit and we intend to
vigorously defend ourselves as we did in response to the Thomas case.
On October 17, 1997, a group of six plaintiffs filed the Thomas suit
against us and the National Science Foundation in the United States District
Court, District of Columbia, challenging the legality of fees defendants charge
for the registration of domain names on the Internet and seeking restitution of
fees collected from domain name registrants in an amount in excess of $100
million, damages, and injunctive and other relief. Plaintiffs alleged violations
of the Sherman Act, the U.S. Constitution, the Administrative Procedures Act and
the Independent Offices Appropriations Act. On February 10, 1998, the plaintiffs
filed a motion for preliminary injunction against us seeking several items of
relief. On April 6, 1998, the Court issued its opinion granting summary judgment
in favor of the plaintiffs on the Intellectual Infrastructure Fund, ruling it an
"unlawful tax." The court also granted our motion to dismiss all other counts
(II through X) and simultaneously denied the plaintiffs' preliminary injunction
motion against us. On April 30, 1998, Congress passed H.R. 3579 which was signed
into law by the President on May 1, 1998. Section 8003 of H.R. 3579 legalized,
ratified and confirmed the entire Intellectual Infrastructure Fund and
authorized and directed the National Science Foundation to deposit the entire
fund into the U.S. Treasury. On August 28, 1998, the District Court dismissed
the entire case, issuing a final judgment in the matter. In October 1998, the
plaintiffs appealed the court's dismissal of their claims, and oral argument
occurred on February 25, 1999. On May 14, 1999, the Court of Appeals ruled in
our favor by unanimously affirming the District Court's decision. The Court of
Appeals denied the plaintiffs' motion for reconsideration and entered final
judgment on July 20, 1999. On October 12, 1999, the plaintiffs filed a Petition
for a Writ of Certiorari with the U.S. Supreme Court. Our opposition to that
Petition was filed on December 8, 1999. On January 18, 2000, the U.S. Supreme
Court denied the plaintiffs' petition.
We are involved in various other investigations, claims and lawsuits
arising in the normal conduct of our business, none of which, in our opinion
will harm our business.
Legal proceedings in which we are involved have resulted and likely will
result in, and any future legal proceedings can be expected to result in,
substantial legal and other expenses and a diversion of the efforts of our
personnel.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits -- See Exhibit Index
(b) Reports on Form 8-K
The following reports on Form 8-K were filed during the quarter ended
March 31, 2000:
On March 8, 2000, we filed a report on Form 8-K, pursuant to Item 5 of
such form, to report that on March 6, 2000, VeriSign, Inc., Network Solutions,
Inc. and Nickel Acquisition Corporation, a wholly-owned subsidiary of VeriSign,
entered into an Agreement and Plan of Merger. Subject to the terms and
conditions of the Merger Agreement, Nickel Acquisition Corporation will merge
with and into Network Solutions, with Network Solutions to survive the Merger
and to become a wholly-owned subsidiary of VeriSign.
21
<PAGE> 22
On February 10, 2000, we filed a report on Form 8-K, pursuant to Item
5 of such form, to report that, we announced our 1999 fourth quarter and annual
financial results. A copy of Network Solutions' press release, announcing such
financial results was attached thereto as Exhibit 99.1 and incorporated by
reference therein.
On January 31, 2000, we filed a report on Form 8-K, pursuant to Item
5 of such form, to report that, we announced that our Registrar business added
more than 5 million net new domain names in 1999, up 164 percent over the 1998
total of 1.9 million net new domain names. Network Solutions' cumulative total
of domain name registrations at the end of 1999 was 8.1 million. In 1999,
Network Solutions' Registry gained an additional 890,000 domain names from
non-Network Solutions registrars. As of January 28, 2000, 27 registrars
including the Network Solutions Registrar, were operational and registering
domain names in .com, .net and .org.
22
<PAGE> 23
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NETWORK SOLUTIONS, INC.
By: /s/ ROBERT J. KORZENIEWSKI
----------------------------------
Robert J. Korzeniewski
Chief Financial Officer and
Authorized Signatory
Date: May 15, 2000
23
<PAGE> 24
INDEX TO EXHIBITS
NETWORK SOLUTIONS, INC.
THREE MONTHS ENDED MARCH 30, 2000
<TABLE>
<CAPTION>
EXHIBIT SEQUENTIAL
NO. DESCRIPTION OF EXHIBITS PAGE NO.
- --------- ------------------------------------------------------------- ----------
<S> <C> <C>
2.1* Agreement and Plan of Merger among VeriSign, Inc., Nickel
Acquisition Corporation and Network Solutions, Inc., dated
March 6, 2000.
10.1* Registration Rights Agreement dated as of March 6, 2000
Between VeriSign and SAIC Venture Capital Corporation.
27.1 Financial Data Schedule
27.2 Restated Financial Data Schedule
</TABLE>
*Incorporated by reference from Network Solution, Inc.'s Report on form 8-K
dated March 8, 2000.
24
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-2000
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 876,033
<SECURITIES> 22,425
<RECEIVABLES> 83,565
<ALLOWANCES> 49,749
<INVENTORY> 0
<CURRENT-ASSETS> 1,070,927
<PP&E> 83,300
<DEPRECIATION> 21,237
<TOTAL-ASSETS> 1,256,494
<CURRENT-LIABILITIES> 408,731
<BONDS> 0
0
0
<COMMON> 72
<OTHER-SE> 716,549
<TOTAL-LIABILITY-AND-EQUITY> 1,256,494
<SALES> 0
<TOTAL-REVENUES> 98,171
<CGS> 0
<TOTAL-COSTS> 35,479
<OTHER-EXPENSES> 37,893
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4
<INCOME-PRETAX> 24,795
<INCOME-TAX> 10,099
<INCOME-CONTINUING> 14,696
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 14,696
<EPS-BASIC> .21
<EPS-DILUTED> .20
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
RESTATED PRIOR PERIOD FINANCIAL DATA SCHEDULE TO REFLECT THE TWO-FOR-ONE STOCK
SPLIT EFFECTED MARCH 10, 2000.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 26,954
<SECURITIES> 121,544
<RECEIVABLES> 88,862
<ALLOWANCES> 53,117
<INVENTORY> 0
<CURRENT-ASSETS> 247,086
<PP&E> 38,808
<DEPRECIATION> 7,584
<TOTAL-ASSETS> 339,497
<CURRENT-LIABILITIES> 183,946
<BONDS> 0
0
0
<COMMON> 33
<OTHER-SE> 106,968
<TOTAL-LIABILITY-AND-EQUITY> 339,497
<SALES> 0
<TOTAL-REVENUES> 38,132
<CGS> 0
<TOTAL-COSTS> 14,541
<OTHER-EXPENSES> 15,370
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 19
<INCOME-PRETAX> 8,202
<INCOME-TAX> 3,404
<INCOME-CONTINUING> 4,798
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,798
<EPS-BASIC> .07
<EPS-DILUTED> .07
</TABLE>
