<PAGE>
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 001-15605
EARTHLINK, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 58-2511877
(STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NUMBER)
1430 WEST PEACHTREE ST. N.W., SUITE 400, ATLANTA, GEORGIA 30309
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)
(404) 815-0770
(REGISTRANT'S TELEPHONE, INCLUDING AREA CODE)
--------------------
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01
par value
--------------------
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 ___
There were 124,933,663 shares of Common Stock outstanding as of June 30, 2000.
================================================================================
<PAGE>
EARTHLINK, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2000
TABLE OF CONTENTS
PART I
<TABLE>
<CAPTION>
<S> <C>
Item 1. Financial Statements and Supplementary Data................................................... 1
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations..................................................................... 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk ................................... 16
PART II
Item 4. Submission of Matters to a Vote of Security Holders............................................17
Item 6. Exhibits and Reports on Form 8-K...............................................................17
</TABLE>
<PAGE>
PART I
ITEM 1. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
EARTHLINK, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
ASSETS
<TABLE>
<CAPTION>
DECEMBER 31, 1999 JUNE 30, 2000
-------------------- --------------------
(UNAUDITED)
(in thousands)
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 685,753 $ 1,069,114
Accounts receivable, net 16,367 29,034
Prepaid expenses 19,596 19,214
Other assets 13,672 16,280
-------------------- --------------------
-------------------- --------------------
Total current assets 735,388 1,133,642
Investments in other companies 4,400 11,500
Other long-term assets 12,536 1,089
Property and equipment, net 151,435 193,032
Intangibles, net 205,388 177,543
-------------------- --------------------
$ 1,109,147 $ 1,516,806
==================== ====================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Trade accounts payable $ 47,074 $ 28,997
Accrued payroll and related expenses 15,850 13,347
Other accounts payable and accrued liabilities 58,947 129,030
Current portion of capital lease obligations 11,724 9,503
Convertible notes 179,975 --
Deferred revenue 28,732 33,082
-------------------- --------------------
Total current liabilities 342,302 213,959
Long-term debt
Long-term portion of capital lease obligations 8,392 5,672
-------------------- --------------------
Total liabilities 350,694 219,631
Stockholders' equity:
Preferred stock 76 368
Common stock 1,169 1,250
Additional paid-in capital 1,085,109 1,807,116
Warrants to purchase common stock 477 448
Accumulated deficit (328,378) (503,893)
Common stock in treasury, at cost -- (8,114)
-------------------- --------------------
Total stockholders' equity 758,453 1,297,175
-------------------- --------------------
$ 1,109,147 $ 1,516,806
==================== ====================
</TABLE>
The accompanying notes are an integral part of these financial statements
1
<PAGE>
EARTHLINK, INC.
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------- --------------------------------
1999 2000 1999 2000
------------ ------------ ------------ ------------
(UNAUDITED)
(in thousands, except per share data)
<S> <C> <C> <C> <C>
Narrowband access $ 142,898 $ 196,300 $ 257,702 $ 381,755
Web hosting 11,431 15,962 20,648 32,262
Broadband access 6,241 10,361 9,734 19,335
Content, commerce and advertising 3,094 8,238 5,451 17,214
------------ ------------ ------------ ------------
Total revenues 163,664 230,861 293,535 450,566
Cost of revenues 63,852 85,255 114,844 162,803
Sales and marketing 39,490 95,906 70,612 214,873
Operations and member support 44,179 75,923 78,881 138,751
General and administrative 15,945 22,642 29,626 43,621
Merger and restructuring charges (Note 6) -- -- -- 33,967
Acquisition-related costs (Note 7) 41,393 24,203 72,389 47,866
------------ ------------ ------------ ------------
Total operating costs and expenses 204,859 303,929 366,352 641,881
------------ ------------ ------------ ------------
Loss from operations (41,195) (73,068) (72,817) (191,315)
Interest income 8,338 14,077 13,416 26,554
Interest expense (3,201) (399) (4,414) (3,143)
------------ ------------ ------------
Net loss (36,058) (59,390) (63,815) (167,904)
Deductions for accretion dividends (Note 8) (3,627) (4,280) (7,273) (7,611)
============ ============ ============ ============
Net loss attributable to common stockholders $ (39,685) $ (63,670) $ (71,088) $ (175,515)
============ ============ ============ ============
Basic and diluted net loss per share (Note 4) $ (0.35) $ (0.52) $ (0.64) $ (1.46)
============ ============ ============ ============
Weighted average common shares outstanding 114,258 122,851 111,077 120,128
============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements
2
<PAGE>
EARTHLINK, INC.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------------- ---------------------------
1999 2000 1999 2000
------------ ------------ ------------ ------------
(UNAUDITED)
(in thousands)
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss $ (36,058) $ (59,390) $ (63,815) $ (167,904)
Adjustments to reconcile net loss to net cash provided by
(used in) operating activities, net of effect from acquisition:
Depreciation and amortization 51,117 40,402 90,265 77,154
Loss on sale of equipment 66 -- 66 --
Increase in accounts receivable, net (5,635) (9,949) (6,524) (12,667)
(Increase) decrease in prepaid expenses and other assets (8,023) (6,716) (12,749) 9,221
Increase in accounts payable and accrued liabilities 3,624 19,308 24,930 39,579
Increase in deferred revenue 928 1,911 6,670 4,350
------------ ------------ ------------ ------------
Net cash provided by (used in) operating activities 6,019 (14,434) 38,843 (50,267)
------------ ------------ ------------ ------------
Cash flows from investing activities:
Purchases of property and equipment (22,574) (43,145) (48,378) (70,874)
Proceeds from sale of equipment 221 -- 221 --
Purchases of member bases (920) (9,970) (226,329) (10,108)
Investments in other companies -- (1,100) -- (7,100)
------------ ------------ ------------ ------------
Net cash used in investing activities (23,273) (54,215) (274,486) (88,082)
------------ ------------ ------------ ------------
Cash flows from financing activities:
Proceeds from capital lease obligations 7,292 342 7,762 493
Principal payments under capital lease obligations (3,589) (2,193) (6,780) (5,434)
Proceeds from issuance of notes payable 174,005 -- 174,005 --
Repayment of notes payable -- (179,975) -- (179,975)
Proceeds from line of credit -- -- 78,064 --
Repayment of line of credit (80,000) -- (80,000) --
Proceeds from sale of common stock 263,913 107,974 447,011 127,226
Proceeds from issuance of redeemable preferred stock -- 323,707 42,622 580,805
Proceeds from liquidation of stock subscription receivable -- -- 1,041 --
Repurchase of common shares -- (8,114) -- (8,114)
Proceeds from stock options and warrants exercised 1,262 4,680 3,710 6,709
------------ ------------ ------------ ------------
Net cash provided by financing activities 362,883 246,421 667,435 521,710
------------ ------------ ------------ ------------
Net increase in cash and cash equivalents 345,629 177,772 431,792 383,361
Cash and cash equivalents, beginning of period 394,770 891,342 308,607 685,753
------------ ------------ ------------ ------------
Cash and cash equivalents, end of period $ 740,399 $ 1,069,114 $ 740,399 $ 1,069,114
============ ============ ============ ============
Supplemental Non-cash Disclosures:
Stock issued in conjunction with acquisition $ -- $ -- $ 30,000 $ --
============ ============ ============ ============
Non-cash adjustments related to accretion dividends $ 3,627 $ 4,280 $ 7,276 $ 7,611
============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements
3
<PAGE>
EARTHLINK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION
EarthLink, Inc., (collectively, "EarthLink" or the "Company"), is a
leading Internet service provider, or ISP, providing reliable nationwide
Internet access and related value-added services to our individual and business
members. EarthLink was formed in February 2000 as a result of the merger of
EarthLink Network, Inc. ("EarthLink Network") and MindSpring Enterprises, Inc.,
("MindSpring") in a transaction accounted for as a "pooling of interests". By
combining the two companies we formed the second largest Internet service
provider in the United States.
2. BASIS OF PRESENTATION
The condensed consolidated financial statements of EarthLink, Inc.,
which include the accounts of its wholly owned subsidiary, EarthLink Operations
Inc., for the three and six month periods ended June 30, 2000 and 1999 and the
related footnote information are unaudited and have been prepared on a basis
substantially consistent with the Company's audited supplemental financial
statements as of December 31, 1999 contained in the Company's annual report on
Form 10-K, as filed with the Securities and Exchange Commission (the "Annual
Report"). All significant intercompany transactions have been eliminated. As
discussed previously, the condensed consolidated financial statements have been
prepared to give retroactive effect to the merger, in February 2000, of
EarthLink Network and MindSpring in a transaction accounted for as a pooling of
interests. Separate results of the combined entities for the three and six month
periods ended June 30, 1999 were as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 1999 JUNE 30, 1999
---------------- ----------------
(In thousands, unaudited)
<S> <C> <C>
Revenue:
EarthLink Network $ 78,000 $ 146,243
MindSpring 85,664 147,292
---------------- ----------------
$ 163,664 $ 293,535
================ ================
Net income (loss) attributable to common shareholders:
EarthLink Network $ (28,174) $ (54,063)
MindSpring (7,081) (10,385)
Adjustment to reflect establishment of tax
valuation allowance (4,430) (6,640)
---------------- ----------------
$ (39,685) $ (71,088)
================ ================
</TABLE>
These financial statements should be read in conjunction with the
audited supplemental financial statements and the related notes thereto
contained in the Company's Annual Report. In the opinion of management, the
accompanying unaudited financial statements contain all adjustments (consisting
of normal recurring adjustments) which management considers necessary to present
fairly the financial position of the Company at June 30, 2000 and the results of
operations and of cash flows for the three and six month periods ended June 30,
2000. The results of operations for the three and six month periods ended June
30, 2000 are not necessarily indicative of the results anticipated for the
entire year ending December 31, 2000.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements. Actual
results may differ from those estimates.
4
<PAGE>
EARTHLINK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
3. RECLASSIFICATIONS AND CONVERSIONS
Certain amounts in prior period financial statements have been
reclassified to conform to the current period presentation.
Each outstanding share of EarthLink Network securities was exchanged
for 1.615 shares of the equivalent security of the new Company and each
outstanding share of MindSpring securities was exchanged for one share of the
securities of the new Company. Other outstanding securities of the companies
were converted on the same basis. The accompanying financial statements have
also been retroactively adjusted to give effect to the two-for-one stock split
effected by MindSpring in June 1999. The effect of these conversions is
reflected in the earnings per share of EarthLink, Inc.
4. NET LOSS PER SHARE
The Company has adopted Statement of Financial Accounting Standards
(SFAS) No. 128, "Earnings per Share" ("EPS"). SFAS No. 128 requires a dual
presentation of basic and diluted EPS. Basic EPS represents the weighted average
number of shares outstanding divided into net income attributable to common
stockholders during a reported period. Diluted EPS reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock. However, the Company has not
included common stock equivalents in the calculation of EPS as such inclusion
would have an anti-dilutive effect.
5. ACQUISITIONS.
In June 2000, EarthLink announced its intention to purchase OneMain.com
Inc., for cash and stock valued at approximately $308 million, or approximately
$12.26 per share for each of OneMain.com's 25.1 million common shares
outstanding, in a transaction to be accounted for as a purchase. The purchase
price consists of approximately $150 million in cash and approximately 8.8
million shares of EarthLink common stock valued at $158 million at the closing
price of $17.94 on June 7, 2000, subject to adjustment as set forth in the
Merger agreement. The OneMain.com purchase includes a subscriber base of
approximately 760,000 narrowband accounts, 27,000 Web hosting customers, and
7,000 broadband customers. The transaction is expected to close in the third
quarter of 2000.
In June 2000, EarthLink acquired approximately 92,000 subscribers of
InfiNet.com Inc., (InfiNet) for $19.9 million to be paid in two installments.
The first installment of $9.9 million was paid in June 2000 and the remainder is
to be paid during the third quarter.
5
<PAGE>
EARTHLINK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
6. MERGER AND RESTRUCTURING CHARGES
During the three months ended March 31, 2000, the Company recorded a
charge of $34.0 million related to the merger of EarthLink Network and
MindSpring. The following table summarizes the activity in the accruals during
the six months ended June 30, 2000. The balance of the merger and restructuring
accrual at June 30, 2000 is included in accrued expenses on the condensed
consolidated balance sheet and is expected to be paid within 12 months.
<TABLE>
<CAPTION>
MERGER AND BALANCE AT
RESTRUCTURING NON CASH JUNE 30,
CHARGES ITEMS PAYMENTS 2000
------------ ------------ ------------ ------------
(in thousands)
<S> <C> <C> <C> <C>
Investment banking fees $ 16,411 $ -- $ (6,096) $ 10,315
Printing, filing, mailing, proxy solicitation, legal,
accounting and advisory fees 6,118 -- (6,118) --
Acceleration of unamortized costs associated with
line of credit and convertible debt 6,792 (6,792) -- --
Severance costs and accelerated compensation
expense 2,716 (1,076) (527) 1,113
Other 1,930 -- (1,930) --
------------ ------------ ------------ ------------
$ 33,967 $ (7,868) $ (14,671) $ 11,428
============ ============ ============ ============
</TABLE>
7. ACQUISITION-RELATED COSTS
Acquisition related charges primarily represent amortization related to
(i) the acquisition of the Sprint Internet Passport business in June 1998, (ii)
the acquisition of various assets used in connection with the consumer dial-up
Internet access business of Spry, Inc., ("Spry"), in October 1998, and (iii) the
acquisition of the United States Internet services business of NETCOM On-Line
Communication Services, Inc., ("NETCOM"), in February 1999. Intangible assets
acquired in connection with the Sprint transaction are being amortized on a
straight-line basis over the estimated useful lives. The member base and
goodwill acquired from Sprint in that transaction, which represents the excess
of consideration over the fair value of net assets acquired, were fully
amortized as of December 31, 1999. Our Marketing and Distribution Agreement with
Sprint is being amortized over 5 and 10 years, which represents the life of the
portion of the contract related to Sprint's provision of additional members and
the overall contract life relative to the co-branding feature, respectively. The
member bases acquired from Spry and NETCOM are being amortized over three years.
8. DEDUCTIONS FOR DIVIDENDS ON CONVERTIBLE PREFERRED STOCK
Dividends on convertible preferred stock are reflected as an increase
to net loss attributable to common stockholders. The adjustments of $4.3 million
and $7.6 million recorded during the three and six month periods ended June 30,
2000, respectively, represent liquidation dividends of $2.9 million and $5.2
million, respectively, based on a 3% dividend and the accretion of a $1.4
million and $2.4 million, respectively, related to a dividend associated to the
beneficial conversion feature of the convertible preferred stock.
6
<PAGE>
EARTHLINK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
9. COMMON AND CONVERTIBLE PREFERRED STOCK ISSUED
In January 2000, the Company entered into a multi-year partnership to
deliver services to customers of Apple Computer, Inc ("Apple") in the U.S. Under
the terms of the partnership, EarthLink became the exclusive default ISP in
Apple's Internet Setup Software included with all Apple Macintosh-Registered
Trademark- computers sold in the U.S. Under this arrangement EarthLink pays
Apple one time fees for new subscribers on the Apple platform. In addition,
Apple purchased 7,083,333 shares of Series C convertible preferred stock for
$200 million and appointed Mr. Phil Schiller to our board of directors in
accordance with Apple's rights.
In February 2000, Sprint exercised its preemptive rights to maintain
its level of ownership in the Company after the aforementioned purchase of
shares by Apple. Accordingly, Sprint purchased 2.7 million shares of which
682,000 were common stock and 2.0 million were series B convertible preferred
stock. Proceeds from the sale of common and preferred stock to Sprint were
approximately $77 million.
As discussed in the Company's Annual Report, the merger of EarthLink
Network and MindSpring constituted a change in control as defined in the
Indenture Agreement of MindSpring's 5 percent Convertible Subordinated Notes.
Holders of the notes had the right to demand payment equal to 100% of the
principal amount of the notes, plus accrued interest. Accordingly, in February
2000, the Company offered to purchase for cash all of its 5 percent Convertible
Subordinated Notes. On March 31, 2000 approximately $179.1 million of the $180.0
million aggregate principal amount of the notes outstanding were tendered to the
Company for repurchase. The total payment of $183.4 million including interest
was paid in April 2000. The untendered notes will continue to be subject to the
Indenture Agreement.
In May 2000, Sprint exercised its preemptive rights to maintain its
level of ownership in the Company after the aforementioned merger of EarthLink
Network and MindSpring. Accordingly, Sprint agreed to purchase approximately
26.0 million shares consisting of approximately 6.0 million shares of common
stock and approximately 20.0 million shares of Series B convertible preferred
stock. Proceeds from this sale of common and preferred stock to Sprint were
approximately $431.5 million.
In June, the Company began acquiring shares of its common stock in
connection with a stock repurchase program announced at the beginning of the
month. That program authorizes the Company to purchase up to five million common
shares from time to time on the open market or pursuant to a plan approved by
the Company's Board of directors. As of June 30, 2000, the Company had
repurchased 531,300 shares of common stock for approximately $8.1 million.
10. SUBSEQUENT EVENTS
On July 27, 2000, EarthLink and OneMain entered into a Reimbursement
Agreement and a Limited Guaranty, pursuant to which EarthLink agreed to
guarantee up to $7.2 million in payments to a marketing/advertising company for
services rendered to OneMain. If EarthLink's pending acquisition of OneMain
fails to close, all amounts advanced by EarthLink under such arrangement will
convert into a loan from EarthLink to OneMain, to bear interest at the Prime
Rate plus 1% and to be repaid in four equal quarterly installments beginning
December 15, 2000.
7
<PAGE>
EARTHLINK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
On August 2, 2000, EarthLink and OneMain entered into an Advance/Repayment
Agreement pursuant to which EarthLink advanced OneMain $12.5 million and
provided to OneMain a line of credit facility for up to $7.5 million. The
amounts advanced under this facility will be used by OneMain to pay certain
existing trade payables and to fund future operating costs. If EarthLink's
pending acquisition of OneMain fails to close, all amounts advanced to OneMain
will convert into a loan from EarthLink, to bear interest at the Prime Rate plus
2% and to be repaid within six months after such termination.
As of August 7, 2000 the Company has acquired a total of 5 million shares
of its common stock on the open market. This represents the total amount
authorized for repurchased by the Company's board of directors.
On August 9, 2000, EarthLink and OneMain entered into a "First
Amendment to Agreement and Plan of Merger" that made certain changes to the
financial structure of the merger. The amendment changed the mix of stock and
cash to be received by OneMain stockholders at certain EarthLink closing stock
prices, and also provided that the merger will convert to a reverse triangular
merger if EarthLink's closing stock price is below $8.00 per share on the date
the merger is consummated.
8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
This Report contains certain forward-looking statements with respect to
the Company's operations, industry, financial condition and liquidity. These
statements, which are typically introduced by phrases such as "the Company
believes", "anticipates", "estimates" or "expects" certain events to occur,
reflect management's best current assessment of a number of risks and
uncertainties. The Company's actual results could differ materially from the
results anticipated in these forward-looking financial statements as a result of
certain factors described in this report. See "Forward Looking Statements."
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH THE
ACCOMPANYING UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND RELATED
NOTES THERETO AND THE AUDITED COMBINED FINANCIAL STATEMENTS AND THE NOTES
THERETO CONTAINED IN THE ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER
31, 1999.
OVERVIEW
EarthLink, Inc. is a leading Internet service provider, or ISP,
providing reliable nationwide Internet access and related value-added services
to our individual and business members. The Company was formed in February 2000
as a result of the merger of EarthLink Network Inc ("EarthLink Network") and
MindSpring Enterprises Inc., ("MindSpring"). By combining the two companies we
formed the second largest Internet service provider in the United States. We
expect to achieve significant revenue, expense and capital synergies through
economies of scale, the elimination of duplicative expenditures and the combined
skills of the two companies' management teams. We will also be able to take
advantage of the complimentary blend of assets and capabilities contributed by
the two companies to improve and expand service offerings and accelerate its
member growth rate.
Our member base grew from approximately 3.1 million paying members as
of December 31, 1999 to approximately 3.7 million paying members as of June 30,
2000. Our organic growth is a product of our efforts to enhance our members'
Internet experience through (1) simple, rapid and reliable access to the
Internet, (2) superior member service and technical support, and (3) member
education and support. As a result, we believe we have a high member retention
rate for our industry.
The Company continues to pursue revenue growth in four key business
areas:
- NARROWBAND ACCESS REVENUES which consist of monthly fees charged to
members for dial up Internet access;
- WEB HOSTING REVENUES which we earn principally in the form of monthly
fees for providing web hosting services to companies and individuals
wishing to have a web or e-Commerce presence;
- BROADBAND ACCESS REVENUES which consist of fees charged for high-speed,
high capacity access services including cable, dedicated circuits and
digital subscriber lines, ("DSL"); and
- CONTENT, COMMERCE AND ADVERTISING REVENUES which primarily represent
revenues from Premier Partnerships. Premier Partnerships are
promotional arrangements with advertisers, retailers, service
providers, and content providers. Revenues are received in a variety
of forms, including: (i) fixed payments for placing links from our
properties to third party sites; (ii) variable payments based on the
volume of traffic delivered to our partners in the form of customers,
page views, or e-commerce revenues; and (iii) in the form of payments
for ads in our various on-line properties and our bi-monthly magazine
bLink.
9
<PAGE>
In January 2000, we entered into a strategic alliance with Apple
Computer Inc., which has helped accelerate, and we expect to continue helping to
accelerate, our member growth. In connection with this alliance, we expanded our
existing commercial relationship with Apple so that we will serve as the default
ISP for Apple's Macintosh line of computers for a minimum of two years and our
overall commercial relationship has been extended through January 4, 2005.
RESULTS OF OPERATIONS
The following table sets forth the% of total revenues represented by
certain items in our statement of operations for the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
------------------------------------------- -------------------------------------------
PERCENT PERCENT PERCENT PERCENT
OF TOTAL OF TOTAL OF TOTAL OF TOTAL
1999 REVENUES 2000 REVENUES 1999 REVENUES 2000 REVENUES
--------- --------- --------- --------- --------- --------- --------- ---------
Statement of Operations Data: (in thousands, except per share data)
Revenues:
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Narrowband access $ 142,898 87% $ 196,300 85% $ 257,702 88% $ 381,755 85%
Web hosting 11,431 7% 15,962 7% 20,648 7% 32,262 7%
Broadband access 6,241 4% 10,361 4% 9,734 3% 19,335 4%
Content, commerce and advertising 3,094 2% 8,238 4% 5,451 2% 17,214 4%
--------- --------- --------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- --------- --------- ---------
Total revenues 163,664 100% 230,861 100% 293,535 100% 450,566 100%
Operating costs and expenses:
Cost of revenues 63,852 39% 85,255 37% 114,844 39% 162,803 36%
Sales and marketing 39,490 24% 95,906 42% 70,612 24% 214,873 48%
Operations and member support 44,179 27% 75,923 33% 78,881 27% 138,751 31%
General and administrative 15,945 10% 22,642 10% 29,626 10% 43,621 10%
Merger and restructuring charges (1) -- 0% -- 0% -- 0% 33,967 7%
Acquisition-related costs (2) 41,393 25% 24,203 10% 72,389 25% 47,866 10%
--------- --------- --------- --------- --------- --------- ---------
Total operating costs and expenses 204,859 125% 303,929 132% 366,352 125% 641,881 142%
--------- --------- --------- --------- --------- --------- ---------
Loss from operations (41,195) -25% (73,068) -32% (72,817) -25% (191,315) -42%
Interest income (expense), net 5,137 3% 13,678 6% 9,002 3% 23,411 5%
--------- --------- --------- --------- --------- --------- --------- ---------
Net loss (36,058) -22% (59,390) -26% (63,815) -22% (167,904) -37%
Deductions for accretion dividends (3) (3,627) -2% (4,280) -2% (7,273) -2% (7,611) -2%
Net loss attributable to
--------- --------- --------- --------- --------- --------- --------- ---------
common stockholders $ (39,685) -24% $ (63,670) -28% $ (71,088) -24% $(175,515) -39%
========= ========= ========= ========= ========= ========= ========= =========
Basic and diluted net loss per share $ (0.35) $ (0.52) $ (0.64) $ (1.46)
========= ========= ========= =========
Weighted average common
shares outstanding 114,258 122,851 111,077 120,128
</TABLE>
-----------
1. Represents merger and restructuring costs related to the EarthLink
Network - MindSpring merger that were incurred during the three months
ended March 31, 2000. These costs were primarily attributable to fees
associated with investment banking, legal and accounting services, the
acceleration of unamortized costs associated with a line of credit and
convertible debt, severance costs and non-cash accelerated compensation
expense resulting from the merger. There were no such costs during the
three months ended June 30, 2000.
2. Represents acquisition and amortization related expenses for the three
and six month periods ended June 30, 1999 and 2000 resulting from the
following:
a. the acquisition of various assets used in connection with the
consumer dial-up Internet access business of Spry, Inc., in October
1998.
b. the acquisition of the United States Internet services business of
NETCOM On-Line Communication
c. the acquisition of the Sprint Internet Passport business in June
1998.
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NARROWBAND ACCESS REVENUES
Narrowband access revenues consist of monthly fees charged to members
for dial up Internet access. EarthLink's narrowband revenues increased 37% from
$142.9 million during the three months ended June 30, 1999 to $196.3 million
during the three months ended June 30, 2000. Narrowband revenues increased 48%
from $257.7 million during the six months ended June 30, 1999 to $381.8 million
during the six months ended June 30, 2000. The substantial growth in narrowband
revenues was primarily due to an increase in the Company's narrowband member
base from 2.4 million at June 30, 1999 to 3.5 million at June 30, 2000. The
growth in our member base was primarily due to our efforts in sales and
marketing. Approximately 408,000 members were acquired from NETCOM in February
1999 and approximately 70,000 members were acquired from InfiNet in June 2000.
WEB HOSTING REVENUES
Web hosting revenues are earned by leasing server space and providing
web services to companies and individuals wishing to present a web or e-commerce
presence. EarthLink's Web hosting revenues increased 40% from $11.4 million
during the three months ended June 30, 1999 to $16.0 million during the three
months ended June 30, 2000. Web hosting revenues increased 57% from $20.6
million during the six months ended June 30, 1999 to $32.3 million during the
six months ended June 30, 2000. As of June 30, 2000, the Company hosted 135,000
Web sites compared to 82,000 as of June 30, 1999, a 64% increase.
BROADBAND ACCESS REVENUES
Broadband access revenues represent fees charged for high-speed,
high-capacity access services including cable, dedicated circuits and DSL
services. EarthLink's broadband revenues increased 68% from $6.2 million during
the three months ended June 30, 1999 to $10.4 million during the three months
ended June 30, 2000. Broadband revenues increased 99% from $9.7 million during
the six months ended June 30, 1999 to $19.3 million during the six months ended
June 30, 2000. The substantial growth in broadband revenues was primarily due to
an increase in the Company's broadband member base from 12,000 at June 30, 1999
to 80,000 at June 30, 2000. We serviced 55 broadband markets nationwide as of
June 30, 2000.
CONTENT, COMMERCE AND ADVERTISING REVENUES
Content, commerce and advertising revenues primarily represent revenues
from Premier Partnerships, which are promotional arrangements with advertisers,
retailers, service providers, and content providers. Revenues are earned
through: (i) fixed payments for placing links from our properties to third party
sites; (ii) variable payments based on the volume of traffic delivered to our
partners in the form of customers, page views, or e-commerce revenues; and (iii)
in the form of payments for ads in our various on-line properties and our
bi-monthly magazine bLink. Content, commerce and advertising revenues increased
164% from $3.1 million during the three months ended June 30, 1999 to $8.2
million during the three months ended June 30, 2000. Content, commerce and
advertising revenues increased 212% from $5.5 million during the six months
ended June 30, 1999 to $17.2 million during the six months ended June 30, 2000.
The principal component of our strategy is our Premier Partnership Program,
through which we offer and sell promotional packages that provide advertisers,
retailers, and content providers with access to the multiple points of contact
we have with our members. We also sell advertising and content space on our
various online properties, such as the Personal Start Page and the Mall, and
through our news magazine, bLink.
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<PAGE>
COST OF REVENUES
Cost of revenues increased 33% from $63.9 million during the three
months ended June 30, 1999 to $85.3 million during the three months ended
June 30, 2000. Cost of revenues increased 42% from $114.8 million during the
six months ended June 30, 1999 to $162.8 million during the six months ended
June 30, 2000. The increases were primarily due to the increase in our member
base. However, cost of revenues as a% of revenues decreased from 39% to 37%
and from 39% to 36% during the three and six month periods ended June 30,
1999 as compared to the three and six month periods ended June 30, 2000,
respectively. This percentage decrease is attributable to: (a) more effective
management of our network, and (b) our increasing ability to negotiate more
favorable commercial arrangements with our telecommunications service
providers as we leverage our growing member base. Cost of revenues increased
from 36% of total revenues in the first quarter of 2000 to 37% in the second
quarter due to the addition of capacity in advance of demand and the
increasing percentage of our business in DSL broadband services, which has a
higher percentage cost of revenues compared to narrowband access.
SALES AND MARKETING
Sales and marketing expenses consist primarily of advertising,
direct response mailings, sales compensation, bounties, communications costs
related to trial members, salaries and the cost of promotional material.
Sales and marketing increased 143% from $39.5 million during the three months
ended June 30, 1999 to $95.9 million during the three months ended June 30,
2000. Sales and marketing increased 204% from $70.6 million during the six
months ended June 30, 1999 to $214.9 million during the six months ended June
30, 2000. The increases in both periods were primarily due to the costs of
growing our member base from 2.5 million at June 30, 1999 to 3.7 million at
June 30, 2000 and is in accordance with management's increased emphasis on
organic growth and increasing market share through marketing strategies. This
increased emphasis includes the implementation of an ambitious advertising
program to create brand awareness, expansion of direct mail marketing
programs, the development of new marketing channels, increased third party
bounties and increased marketing personnel headcount. Sales, marketing and
other direct costs associated with the acquisition of members are generally
expensed as incurred.
OPERATIONS AND MEMBER SUPPORT
Operations and member support expenses consist primarily of costs
associated with technical support and member service, as well as customer
information systems and network operations. Operations and member support
increased 72% from $44.2 million during the three months ended June 30, 1999
to $75.9 million during the three months ended June 30, 2000. Operations and
member support increased 76% from $78.9 million during the six months ended
June 30, 1999 to $138.8 million during the six months ended June 30, 2000.
These increases principally reflect (1) the increase in members from 2.5
million at June 30, 1999 to 3.7 million at June 30, 2000, (2) the opening of
additional call centers in 1999 and (3) management's focus on retaining
existing members by providing superior service and devoting significant
resources to expanding technical support capabilities.
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<PAGE>
GENERAL AND ADMINISTRATIVE
General and administrative expenses consist primarily of costs
associated with the finance, legal and human resources departments, outside
professional services, and payment processing, collections and bad debt
expenses. General and administrative expense increased 42% from $15.9 million
during the three months ended June 30 1999 to $22.6 million during the three
months ended June 30, 2000. General and administrative expense increased 47%
from $29.6 million during the six months ended June 30, 1999 to $43.6 million
during the six months ended June 30, 2000. The increase was primarily due to
increases in salaries and wages, depreciation, credit card processing fees, and
bad debt. The rise in salaries and wages was primarily due to growth in
headcount. The increase in depreciation expense was due to the acquisition of
office equipment and the build-out of leasehold improvements. The increases in
credit card processing fees and bad debt were primarily due to the increase in
our member base. The Company incurred additional integration costs that have not
been identified as merger and restructuring charges because they have a future
benefit to the Company. Integration costs include travel and lodging, employee
events, and fees paid to consultants and attorneys.
MERGER AND RESTRUCTURING CHARGES
The Company recorded a charges of $34.0 million representing all costs
related to the merger of EarthLink Network and MindSpring during the three
months ended March 31, 2000. There were no further merger related charges during
the three months ended June 30, 2000. The following table summarizes the
activity in the accruals during the six months ended June 30, 2000. The balance
of the merger and restructuring accrual at June 30, 2000 is included in accrued
expenses on the condensed consolidated balance sheet and is expected to be paid
within 12 months.
<TABLE>
<CAPTION>
MERGER AND BALANCE AT
RESTRUCTURING NON CASH JUNE 30,
CHARGES ITEMS PAYMENTS 2000
------------ ------------ ------------ ------------
(in thousands)
<S> <C> <C> <C> <C>
Investment banking fees $ 16,411 $ -- $ (6,096) $ 10,315
Printing, filing, mailing, proxy solicitation, legal,
accounting and advisory fees 6,118 -- (6,118) --
Acceleration of unamortized costs associated with
line of credit and convertible debt 6,792 (6,792) -- --
Severance costs and accelerated compensation
expense 2,716 (1,076) (527) 1,113
Other 1,930 -- (1,930) --
------------ ------------ ------------ ------------
$ 33,967 $ (7,868) $ (14,671) $ 11,428
============ ============ ============ ============
</TABLE>
ACQUISITION RELATED COSTS
Intangible assets acquired in connection with our transaction with
Sprint that was closed in June of 1998 are being amortized on a straight-line
basis over their estimated useful lives. The member base and goodwill associated
with the Sprint Internet Passport business that we acquired in that transaction,
which represents the excess of consideration over the fair value of net assets
acquired, were fully amortized as of December 31, 1999. The Marketing and
Distribution Agreement which we also entered into with Sprint is being amortized
over 5 and 10 years which represents the life of the portion of the contract
related to Sprint's provision of additional members and the overall contract
life relative to the co-branding feature, respectively. The member bases
acquired from Spry, NETCOM and InfiNet are being amortized over three years.
The decrease in acquisition related costs from $41.4 million during the
three months ended June 30, 1999 to $24.2 million during the three months ended
June 30, 2000 and from $72.4 million during the six months ended June 30, 1999
to $47.9 million during the six months ended June 30, 2000 is primarily due to
the fact that the customer base and the goodwill acquired in connection with the
Sprint transaction were fully amortized by December 31, 1999.
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<PAGE>
INTEREST INCOME AND EXPENSE
Interest income increased 70% from $8.3 million during the three
months ended June 30, 1999 to $14.1 million during the three months ended
June 30, 2000. Interest income increased 99% from $13.4 million during the
six months ended June 30, 1999 to $26.6 million during the six months ended
June 30, 2000. The increase was primarily due to an increase in average cash
balances available for investment as a result of our public stock offerings
completed in 1999 as well as investments in the company made by Apple and
Sprint during the six months ended June 30, 2000. Interest expense decreased
88% from $3.2 million during the three months ended June 30, 1999 to $399,000
during the three months ended June 30, 2000 and decreased 30% from $4.4
million during the six months ended June 30, 1999 to $3.1 million during the
six months ended June 30, 2000. The decreases are primarily due to the
repayment of $179.9 million in convertible debt in early April 2000.
LIQUIDITY AND CAPITAL RESOURCES
Our operating activities used approximately $14.4 million and $50.3
million in cash during the three months and six month periods ended June 30,
2000, respectively. The Company's net losses of $59.4 million and $167.9
million were the primary components of cash used in operating activities
during the three months ended June 30, 1999 and June 30, 2000, respectively.
During the three months ended June 30, 2000, the Company's net losses were
offset by (i) non-cash depreciation and amortization expenses, relating to
the Company's network and intangible assets, of $40.4 million and (ii) an
increase in accounts payable and accrued expenses of $19.3 million,
particularly related to $9.9 million payable in connection with the
acquisition of the customer base of InfiNet Inc. and $1.5 million payable in
conjunction with the repurchase of shares of the Company's common stock. Cash
used during the three months ended June 30, 2000 increased due to increases
in accounts receivable and other assets of $9.9 million and $6.7 million,
respectively. During the six months ended June 30, 2000, the Company's net
losses were offset by (i) non-cash depreciation and amortization expenses,
relating to the Company's network and intangible assets, of $77.2 million,
(ii) an increase in accounts payable and accrued expenses of $39.6 million,
particularly related to expenses incurred in connection with the merger of
EarthLink Network and MindSpring, $9.9 million payable in connection with the
acquisition of the customer base of InfiNet. and $1.5 million payable in
conjunction with the repurchase of shares of the Company's common stock, and
(iii) a decrease in other assets of $9.2 million. Cash used during the six
months ended June 30, 2000 increased due to an increase in accounts
receivable of $12.7 million.
Our investing activities used cash of approximately $54.2 million and
$88.1 million during the three and six month periods ended June 30, 2000,
respectively. Capital equipment purchases were $43.1 million and $70.9 million
during the three and six month periods ended June 30, 2000, respectively. In
March 2000 the Company invested $6.0 million in eCompanies Venture Group, LP and
invested $1.1 million in eMemories Inc. During the three months ended June 30,
2000 the Company acquired customer bases of other ISPs valued at $19.9 million.
Approximately $9.9 million of the purchase price was paid in June 2000 and the
remainder was paid in July 2000.
Our financing activities provided approximately $246.4 million and
$521.7million in cash during the three and six month periods ended June 30,
2000, respectively. In January 2000, the Company entered into a multi-year
partnership to deliver services to customers of Apple in the U.S. Under the
terms of the partnership, Apple purchased 7.1 million shares of EarthLink's
series C convertible preferred stock for $200 million. In February 2000,
Sprint exercised its preemptive rights to maintain its ownership level in the
Company after the aforementioned purchase of shares by Apple. Accordingly,
Sprint purchased 2.7 million shares of which 682,000 were common stock and
2.0 million were series B convertible preferred stock. Proceeds from the sale
of common and preferred stock to Sprint were approximately $77 million.
Proceeds from the exercise of stock options and warrants were $4.7 million
and $6.7 million during the three and six month periods ended June 30, 2000.
In April 2000 the Company repurchased approximately $180.0 million in
aggregate principal amount of its 5% Convertible Subordinated Notes. In May
2000, Sprint exercised its preemptive rights to maintain its ownership level
in the
14
<PAGE>
Company after the aforementioned merger of EarthLink Network and MindSpring.
Accordingly, Sprint purchased approximately 26.0 million shares consisting of
approximately 6.0 million shares of common stock and approximately 20.0 million
shares of series B convertible preferred stock. Proceeds from this sale of
common and preferred stock to Sprint were approximately $431.5 million. In June
2000, the Company repurchased 531,300 shares for approximately $8.1 million.
On June 30, 2000, we had approximately $1.1 billion in cash and cash
equivalents. We believe our available cash is sufficient to meet our operating
expenses and capital requirements for more than the next 12 months. We also have
a $75 million credit facility from Sprint in the form of convertible senior
debt, increasing to $100 million by June 5, 2001, at an interest rate of 6% per
annum. We have not borrowed any funds under this credit arrangement with Sprint
and do not anticipate any such borrowings. Our capital requirements depend on
numerous factors, including the rate of market acceptance of our services, our
ability to maintain and expand our member base, the rate of expansion of our
network infrastructure, the size and types of acquisitions in which we may
engage and the level of resources required to expand our marketing and sales
programs. We cannot accurately predict the timing and amount of capital
requirements. We may require additional financing sooner than anticipated if
capital requirements vary materially from those currently planned. We have no
commitments for any additional financing other than the line of credit from
Sprint, and we cannot be sure that we can obtain additional commitments on
favorable terms, if at all. Additional equity financing may dilute our
stockholders, and debt financing, if available, may restrict our ability to
declare and pay dividends and raise future capital. If we are unable to obtain
additional needed financing, we may be required to reduce the scope of
operations or anticipated expansion, which could materially and adversely affect
us.
FORWARD LOOKING STATEMENTS
As the second largest Internet service provider in the United States,
the Company intends to grow its business aggressively in order to widen its lead
over other Internet service providers and to narrow the gap between itself and
the number one ISP. Consistent with this intent, the Company expects to end the
year 2000 with approximately 4.5 million paying subscribers and approximately $1
billion in revenues although there can be no assurances that we will achieve
either or both of such levels this year. Consistent with these aggressive growth
objectives, the Company will invest significantly in sales and marketing.
Accordingly, the Company expects to continue operating at a loss during 2000,
with a net loss before transaction costs (acquisition-related costs and merger
and restructuring charges) in the range of a negative $170 million to $215
million.
The preceding paragraph, Management's Discussion and Analysis and other
portions of this report include "forward looking" statements within the meaning
of the federal securities laws that are subject to future events, risks and
uncertainties that could cause actual results to differ materially from those
expressed or implied. Important factors that either individually or in the
aggregate could cause actual results to differ materially from those expressed
include, without limitation, (1) that the Company may fail to be competitive
with existing and new competitors, (2) that the Company may not retain or grow
its member base, (3) that the Sprint and/or the Apple alliance may not be as
beneficial to the Company as management anticipates, (4) churn may not improve
to expected levels, (5) the expected rate of growth in advertising, content and
commerce may not be achieved, (6) the Company may not adequately respond to
technological developments impacting the Internet, (7) that needed financing may
not be available to the Company if and as needed, (8) that a significant change
in the growth rate of the overall U.S. economy may occur, such that consumer and
corporate spending are materially impacted, (9) that a drastic negative change
in the market conditions may occur, and (10) that some other unforeseen
difficulties may occur. These factors are not intended to represent a complete
list of all risks and uncertainties inherent in the Company's business, and
should be read in conjunction with the more detailed cautionary statements
included elsewhere in recent SEC filings.
15
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company does not engage in trading of market-risk sensitive
instruments. The Company also does not purchase for investment, hedging or for
purposes "other than trading", instruments that are likely to expose it to
market risk, whether interest rate, foreign currency exchange, commodity price
or equity price risk. The Company has entered into no forward or futures
contracts, purchased no options and entered into no swaps.
The Company's interest income is most sensitive to changes in the general level
of U.S. interest rates. In this regard, changes in the U.S. interest rates
affect the interest earned on the Company's cash equivalents and short-term
investments. To mitigate the impact of fluctuations in U.S. interest rates, the
Company generally maintains the majority of its investments in fixed rate debt
instruments. Because the Company has no significant outstanding debt balances,
it is not exposed to interest rate risk in connection with its operating
expenses.
16
<PAGE>
PART II
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
EarthLink held its annual meeting of stockholders on June 1,2000. The
following summarized the two proposals submitted for a vote of the stockholders
at that meeting:
Proposal 1. To approve and adopt a new Stock Incentive Plan and reserve
20 million shares of common stock for issuance thereunder:
Votes "For" - 54,360,831 shares
Votes "Against" - 7,062,739 shares
Votes "Abstained" - 402,638 shares
Proposal 2. To approve and adopt a new Stock Option Plan for
Non-Employee Directors and reserve 350,000 shares of common stock for
issuance there under:
Votes "For" - 54,360,831 shares
Votes "Against" - 4,408,294 shares
Votes "Abstained" - 442,570 shares
Both proposals passed.
ITEM 6. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) Exhibits. The following exhibits are filed as part of this report:
Exhibit No. Description
----------- ------------------------------
27.1 Financial Data Schedule
(b) Reports on Form 8-K.
On February 16, 2000 the Company filed a Current Report on form 8-K to
report the consummation of the Merger of EarthLink Network, Inc.
("EarthLink Network") and MindSpring Enterprises ("MindSpring") into a
newly created company, (the "Merger"). On September 22, 1999, EarthLink
Network and MindSpring. entered into an Agreement and Plan of
Reorganization (the "Merger Agreement"), as previously reported in the
Current Report on Form 8-K filed by EarthLink on September 30, 1999. The
Merger Agreement and the transactions contemplated thereby were approved by
EarthLink Network and MindSpring stockholders at their respective
stockholder meetings on February 4, 2000, and the merger of EarthLink
Network and MindSpring into the newly created company was consummated on
such date pursuant to the Merger Agreement. Upon the closing of the Merger,
the new company was renamed "EarthLink, Inc." As a result of the Merger,
EarthLink, Inc. is the successor registrant to EarthLink Network, Inc. and
MindSpring Enterprises, Inc., and shall for all purposes be considered the
successor registrant to such companies under the Securities Act of 1933, as
amended, and the Securities Exchange Act of 1934, as amended, including
without limitation for use of Form S-3 Registration Statements.
On June 29, 2000, EarthLink dismissed PricewaterhouseCoopers LLP as the
Company's independent accountants and engaged Ernst & Young LLP as its new
independent accountants. The decision to change the Company's accounting
firm was recommended and approved by the Company's Audit Committee of the
Board of Directors.
17
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SIGNATURES
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.
EARTHLINK, INC.
Date: AUG 14, 2000 /s/ Charles G. Betty
--------------------------------------------------
Charles G. Betty, Chief Executive Officer
Date: AUG 14, 2000 /s/ Lee Adrean
--------------------------------------------------
Lee Adrean, Executive Vice President - Finance and
Administration and Chief Financial Officer
(Principal Financial Officer)
Date: AUG 14, 2000 /s/ D. Cary Smith
--------------------------------------------------
D. Cary Smith, Corporate Controller (Chief
Accounting Officer)
18
