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 July 31, 1996
[ ] 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 2-53193
COMPUSERVE CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 31-1459598
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5000 Arlington Centre Boulevard
Columbus, Ohio 43220
(Address of principal executive offices, including zip code)
(614) 457-8600
(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 September 12, 1996, the Registrant had outstanding 92,600,000 shares
of common stock.
TABLE OF CONTENTS
Page
----
PART 1 - FINANCIAL INFORMATION
Item 1. Financial Statements.
Consolidated Balance Sheets
July 31, 1996 (Unaudited) and
April 30, 1996 (Audited).................................. 3
Consolidated Statements of Operations
Three Months Ended July 31, 1996
and 1995 (Unaudited)..................................... 4
Consolidated Statements of Cash Flows
Three Months Ended July 31, 1996 and
and 1995 (Unaudited).................................... 5
Notes to Consolidated Financial Statements (Unaudited).. 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 8
PART II - OTHER INFORMATION....................................... 12
SIGNATURES........................................................ 13
COMPUSERVE CORPORATION
CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN THOUSANDS)
July 31, April 30,
1996 1996
(Unaudited) (Audited)
--------- ---------
CURRENT ASSETS
Cash and cash equivalents $51,365 $280,646
Investments 150,069 29,345
Receivables, net 122,687 119,186
Due from parent 44,998 17,377
Other current assets 33,183 39,336
--------- ---------
TOTAL CURRENT ASSETS 402,302 485,890
INTANGIBLE ASSETS, net 18,541 22,809
PROPERTY AND EQUIPMENT, net 385,930 348,059
OTHER ASSETS
Deferred subscriber acquisition costs, net 104,438 96,636
Other assets 12,758 12,434
--------- ---------
TOTAL OTHER ASSETS 117,196 109,070
--------- ---------
TOTAL ASSETS $923,969 $965,828
========= =========
CURRENT LIABILITIES
Accounts payable $61,072 $89,236
Other current liabilities 50,604 41,016
Accrued taxes 2,770 4,070
Deferred revenue 5,808 4,077
--------- ---------
TOTAL CURRENT LIABILITIES 120,254 138,399
DEFERRED INCOME TAXES 62,087 56,763
STOCKHOLDERS' EQUITY 741,628 770,666
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $923,969 $965,828
========= =========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
COMPUSERVE CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED, AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
3 Months Ended July 31,
1996 1995
---------- ----------
REVENUES
Online Services revenues $141,414 $134,192
Network Services revenues 59,278 45,064
Other revenues 7,950 7,293
---------- ----------
TOTAL REVENUES 208,642 186,549
COSTS AND EXPENSES
Costs of revenues 139,696 82,230
Marketing 59,031 27,577
General and administrative 9,494 9,633
Depreciation and amortization 26,853 14,522
Product development 7,056 6,982
Nonrecurring items 17,713 --
---------- ----------
TOTAL COSTS AND EXPENSES 259,843 140,944
OPERATING EARNINGS/(LOSS) (51,201) 45,605
INTEREST INCOME 3,131 --
---------- ----------
EARNINGS/(LOSS) BEFORE TAXES (48,070) 45,605
TAXES ON EARNINGS/(LOSS) (18,455) 18,770
---------- ----------
NET EARNINGS/(LOSS) ($29,615) $26,835
========== ==========
EARNINGS/(LOSS) PER COMMON SHARE ($0.32) $0.36
========== ==========
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING 92,600,000 74,200,000
========== ==========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
COMPUSERVE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED, AMOUNTS IN THOUSANDS)
3 Months Ended July 31,
1996 1995
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES
Net Earnings/(Loss) ($29,615) $26,835
Depreciation and amortization 26,853 14,522
Deferred subscriber acquisition costs (26,815) (11,017)
Amortization of deferred subscriber acquisition costs 19,013 512
Provision for deferred taxes 5,256 3,090
Changes in net working capital (43,114) (21,605)
--------- ---------
Net cash provided/(used) by operating (48,422) 12,337
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment (62,888) (43,816)
Purchases of short-term investments (123,848) --
Maturities and sales of short-term investments 3,124 --
Other, net 2,753 (4,388)
--------- ---------
Net cash used by investing activities (180,859) (48,204)
CASH FLOWS FROM FINANCING ACTIVITIES
Advances from parent -- 37,298
--------- ---------
Net cash provided by financing activities -- 37,298
--------- ---------
NET INCREASE/(DECREASE) IN CASH AND
CASH EQUIVALENTS (229,281) 1,431
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 280,646 4,913
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $51,365 $6,344
========= =========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CompuServe Corporation
Notes to Consolidated Financial Statements
(Unaudited, amounts in thousands, except share data)
1. The Consolidated Balance Sheet as of July 31, 1996, the Consolidated
Statements of Operations for the three months ended July 31, 1996 and 1995
and the Consolidated Statements of Cash Flows for the three months ended
July 31, 1996 and 1995 have been prepared by the Company, without audit.
In the opinion of management, all adjustments (which include only normal
recurring adjustments) necessary to present fairly the financial position,
results of operations and cash flows at July 31, 1996 and for all periods
presented have been made.
Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted. These consolidated
financial statements should be read in conjunction with the financial
statements and notes thereto in the Company's April 30, 1996 Form 10-K,
and are not necessarily indicative of the operating results for the full
fiscal year.
2. CompuServe Corporation ("Company") is a majority-owned (80.1%) subsidiary
of H&R Block Group, Inc. ("Parent"). Parent is a wholly-owned subsidiary
of H&R Block, Inc. ("Block").
On July 16, 1996, Block announced that its Board of Directors had approved
plans to spin-off (the "Spin-off") Block's 80.1% interest in the Company.
The Spin-off was subject to, among other things, shareholder approval at
Block's September 1996 annual meeting and a favorable ruling from the
Internal Revenue Service as to the tax-free nature of the transaction.
On August 28, 1996, Block announced that its Board of Directors decided
not to present the proposed Spin-off to shareholders at the Block
September 11, 1996 annual meeting. The decision not to present the
CompuServe Spin-off for a Shareholder vote on September 11 was based, in
part, on the Company's reported first quarter and projected second quarter
losses, market uncertainties regarding the online industry and the planned
September introduction of new interfaces for the CompuServe Information
Service and WOW!.
3. In the first quarter of fiscal 1997, the Company incurred a nonrecurring
pretax charge of $17,713 ($12,474 after tax) relating to the potential
sale or other disposition of certain assets and business operations of the
corporate computer software group of SPRY, Inc. ("SPRY", a wholly-owned
subsidiary of the Company); the consolidation of U.S.-based staff
functions and office facilities; the renegotiation of certain third-party
customer service agreements; and the write-off of certain obsolete
software costs for billing and customer service systems. Of the total
charge, $9,774 requires the outlay of cash; the remaining $7,939 involves
no commitment of funds. The revenues of the corporate computer software
group of SPRY are not material to the consolidated revenues of the
Company.
4. The Company files consolidated federal and state income tax returns with
Block on a calendar year basis. The Consolidated Statements of Operations
reflect the effective tax rates expected to be applicable for the
respective full fiscal years, including the effect of non-deductible items
related to the items in Note 3.
5. In June 1996, a purported shareholder class action complaint was filed
against the Company and Block in the Court of Common Pleas, Franklin
County, Ohio, entitled Greenfield v. CompuServe Corporation, et al. A
second purported shareholder class action suit was filed in July 1996
against the Company and Block, in federal district court for the Southern
District of Ohio, entitled Romine v. CompuServe Corporation, et al. A
third purported shareholder class action suit was filed in August 1996
against the Company, Block, and the lead underwriters in the Company's
April 1996 initial public offering ("IPO") in federal district court for
the District of Minnesota, entitled Acker v. CompuServe Corporation, et
al. These three complaints also name certain officers and directors of the
Company at the time of the Company's IPO as additional defendants. Each
suit alleges similar violations of the Securities Act of 1933 based on
assertions of omissions and misstatements of fact in connection with the
Company's public filings related to the IPO. The Greenfield suit also
alleges similar violations of the Ohio Securities Code and common law of
negligent misrepresentation. Relief sought is unspecified but includes
pleas for rescission and damages. In August 1996, an action for discovery
was also filed solely against the Company on behalf of a shareholder in
the Court of Common Pleas, Franklin County, Ohio, entitled Schnipper v.
CompuServe Corporation, seeking factual support for a possible fourth
claim relating to disclosures in connection with the IPO. The Company
intends to vigorously defend these suits.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FINANCIAL CONDITION
These comments should be read in conjunction with the Consolidated Balance
Sheets and Consolidated Statements of Cash Flows.
CompuServe obtains cash to fund its working capital and capital requirements
from, among other things, available cash, cash equivalents and investments, and
operating activities.
At July 31, 1996, the Company had cash, cash equivalents and investments
totaling $201.4 million, a decrease of $108.6 million from April 30, 1996. Net
cash used by operating activities totaled $48.4 million and net cash used by
investing activities totaled $180.9 million (including $120.7 million of net
purchases of short-term investments). The decrease in cash and cash
equivalents also reflects $62.9 million of purchases of property and equipment
and a $29.6 million net loss from operations for the three months ended July
31, 1996.
Investments consist principally of commercial paper, corporate bonds and U.S.
government agency obligations that have maturities of three to twelve months at
date of purchase. At July 31, 1996, the investment portfolio had an average
123 days term to maturity.
Working capital decreased to $282.0 million at July 31, 1996 from $347.5
million at April 30, 1996, due primarily to the purchase of $62.9 million of
property and equipment. The working capital ratio at July 31, 1996 was 3.35 to
1, compared to 3.51 to 1 at April 30, 1996.
The Company has no long-term debt. The Company agreed to an unsecured $25
million revolving credit facility with Bank One, Columbus, NA, in June 1996.
Borrowings under the credit facility will bear interest at a floating rate
equal to either the bank's prime rate or 0.25% over LIBOR. The Company is
required to pay an unused commitment fee of 0.08% per annum for this facility.
Borrowings under the credit facility may be used for general corporate
purposes. The facility expires in June 1997, subject to renewal.
The Company believes that its cash, cash equivalents and investments, including
remaining net proceeds from the initial public offering of common stock in
April 1996 ("IPO"), cash from operating activities and currently available
financing will be sufficient to meet the Company's presently anticipated
funding requirements for another fifteen to twenty-one months. However, there
can be no assurance that the Company's funding requirements will not increase
significantly as a result of unforeseen circumstances or that the Company's
cash flows from operating activities will not decrease. If the Company is
required to seek third-party sources of financing to meet its short-term or
long-term funding needs, there can be no assurance, in light of the Company's
recent and projected losses, that the Company would be able to obtain public or
private third-party sources of financing or, if obtained, that favorable terms
for such financing would be obtained. In addition, given the trading history
of the Company's common stock since the IPO and recent uncertainty in the
markets regarding the online industry, there can be no assurance that the
Company would be able to raise additional cash through public or private
offerings of its common stock.
At July 31, 1996, the Company is owed $45.0 million by Parent, due primarily
for income tax benefits resulting from the Company's pretax losses for the
quarters ended April 30 and July 31, 1996.
On August 1, 1995, the Company announced a series of investment initiatives
designed to enhance long-term competitiveness, take advantage of accelerating
growth opportunities and enhance market share for its online services. They
include: the launch of WOW!; a simplified and less expensive pricing structure;
a new CIS interface; increased expenditures for marketing and infrastructure
expansion; and the expansion of Internet access through CIS, WOW! and SPRYNET.
These initiatives, which have been underway since early fall of 1995, were
expected to reduce profitability over a twelve-to-eighteen-month period. The
expenses associated with these initiatives have been partially offset by a one-
time benefit in 1996 from a change in accounting for direct response
advertising costs.
In the quarter ended July 31, 1996, the Company incurred a nonrecurring pretax
charge of $17.7 million ($12.5 million after tax), relating to the potential
sale or other disposition of certain assets and business operations of the
corporate computer software group of SPRY; the consolidation of U.S.-based
staff functions and office facilities; the renegotiation of certain third-party
customer service agreements; and the write-off of certain obsolete software
costs for billing and customer service systems. Of the total charge, $9.8
million requires the outlay of cash; the remaining $7.9 million involves no
commitment of funds. The revenues of the corporate computer software group of
SPRY are not material to the consolidated revenues of the Company.
Projected Results for Fiscal Quarter Ending October 31, 1996
On August 20, 1996, the Company announced that incremental costs associated
with the introduction of CompuServe 3.0, and the release of WOW! teens view are
anticipated to result in a second-quarter loss of approximately 10 to 15 cents
per share. The Company also announced it has taken actions to eliminate 150
jobs, which are expected to reduce costs over $20 million for the balance of
the fiscal year ending April 30, 1997 and over $30 million on an annualized
basis, in conjunction with the nonrecurring charge described in the preceding
paragraph.
Except for the historical information contained herein, the matters discussed
in this Form 10-Q, including the Company's anticipated second-quarter loss, are
forward-looking statements subject to risks and uncertainties that could alter
the results materially. These risks include the successful release of new
interfaces for CompuServe Information Service and WOW!, the impact of
subscriber acquisition and retention programs, and competition from other
online services and the Internet.
RESULTS OF OPERATIONS
The analysis that follows should be read in conjunction with the Consolidated
Statements of Operations.
At July 31, 1996, the Company had retained approximately six out of ten
customers that had subscribed in the previous 90 days, five out of ten
customers that had subscribed in the previous year and two years, and four out
of ten customers that had subscribed in the previous three and four years.
There can be no assurance that the Company's subscriber retention rates will
not decline below these levels.
The Company expects that average revenue per customer in fiscal 1997 will be
below the levels of fiscal 1996. This is in part due to the full year effect
of a new pricing structure introduced by the Company in September 1995. The
new pricing structure is intended to attract more customers and encourage more
online usage. Although the new pricing structure has reduced average revenue
per subscriber, it has contributed to increased subscriber acquisitions and
usage which management believes will support long-term customer loyalty. The
decline in revenue per customer also impacts the comparability of expenses as a
percentage of revenue in the following quarterly analyses.
Three Months Ended July 31, 1996 Compared to Three Months Ended July 31, 1995.
Online Services Revenues. Online Services revenues increased 5.4% to $141.4
million from $134.2 reported in the first quarter of fiscal 1996. The increase
in revenues was primarily the result of an increase in the Company's subscriber
base. At July 31, 1996 the Company had 3.3 million direct subscribers
worldwide, and a total of 5.2 million subscribers when including subscribers to
NiftyServe, a distinct online service owned and managed by the Company's
Japanese licensee.
The number of CIS subscribers at July 31, 1996, exclusive of NiftyServe
subscribers, increased 26.1% to 3.1 million from 2.4 million last year. The
average monthly CIS total revenue per subscriber (including fees, usage,
product sales, online advertising, mall, magazine and CD-ROM revenues)
decreased to $14.48 for the quarter from $19.11 for the first quarter of 1996
due primarily to a new pricing structure implemented in September 1995. The
average monthly CIS revenue from fees and usage only decreased to $14.20 for
the quarter from $18.59 for the first quarter of 1996.
Revenue also includes recently-launched Online Services, reflecting growth in
the number of subscribers to 163,000 for SPRYNET and 92,000 for WOW! at July
31, 1996.
Network Services Revenues, Network Services revenues increased 31.5% to $59.3
million from $45.1 million in 1996, while the number of customers increased
24.9% to 1,009. The increase in revenue was due to the increase in the number
of network customers and higher usage by existing customers.
Other Revenues. Other revenues increased 9.0% to $8.0 million from $7.3
million for 1996. The increase is due primarily to an $.8 million gain on the
sale of a minority-interest investment.
Costs of Revenues. Costs of revenues consist primarily of data communication
costs, royalties paid to information and service providers, salaries and other
costs associated with providing customer support and operating the data centers
and property and other direct costs. Costs of revenues increased as a percent
of total revenues to 67.0% from 44.1% in 1996. The 22.9 percentage point
increase is due primarily to costs associated with increased network hours (8.1
percentage points), higher WATS costs for network overflow (1.8 percentage
points), increased outsourced customer service costs (6.8 percentage points),
and additional customer service and network operations staff to meet
significant world-wide customer growth during the past year (3.2 percentage
points).
Marketing. Marketing expenses include costs incurred to acquire and retain
subscribers, other marketing expenses and the Network Services sales
organization. Effective May 1, 1995, acquisition costs for online subscribers
are deferred and charged to operations over 24 months beginning the month after
such costs are incurred, with 60% amortized in the first twelve months.
Effective February 1, 1996, the Company further changed the method for
accounting for these costs, which did not have a material impact on these
expenses.
Marketing expenses as a percent of total revenues increased in 1997 to 28.3%
(32.0% before deferral of subscriber acquisition costs) compared to last year's
14.8% (20.4% before deferral of subscriber acquisition costs). The increase in
marketing expenses is primarily attributable to $9.2 million for the new WOW!
service launched in March 1996, increased general consumer advertising on
television and in periodicals (which was subject to capitalization until
February 1, 1996), and distribution of trial software disks through direct
mail.
General and Administrative. As a percent of total revenues, general and
administrative expenses decreased to 4.6% in 1997 from 5.2% in 1996 reflecting
the Company's cost containment measures and favorable outcome of certain sales
tax audits.
Depreciation and Amortization. Depreciation and amortization as a percent of
total revenues increased to 12.9% in 1997 from 7.8% in 1996. The increase was
due to the increased capital expenditures to double network capacity to support
the Company's rapid growth during the past year.
Product Development. Product development costs increased slightly over last
year but as a percent of total revenues for 1997 decreased to 3.4% from 3.7% in
1996. The decrease is due to higher revenues in 1997 than in 1996 as these
expenditures increased by $.1 million for the quarter.
Nonrecurring Items. In the first quarter of fiscal 1997, the Company incurred
a pretax charge of $17.7 million ($12.5 million after tax) relating to the
potential sale or other disposition of certain assets and business operations
of the corporate computer software group of SPRY; the consolidation of U.S.-
based staff functions and office facilities; the renegotiation of certain third-
party customer service agreements; and the write-off of certain obsolete
software costs for billing and customer service systems. Of the total charge,
$9.8 million requires the outlay of cash; the remaining $7.9 million involves
no commitment of funds.
Income Taxes. The effective tax rate decreased to 38.4% for the first quarter
of 1997 from 41.2% in 1996 as a result of nonrecurring items that are not fully
deductible for tax purposes. The effective tax rate exclusive of nonrecurring
items for 1997 increased to 43.5% from 41.2% in 1996 due to goodwill and other
non-deductible expenses.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.
In June 1996, a purported shareholder class action complaint was filed
against the Company and Block in the Court of Common Pleas, Franklin
County, Ohio, entitled Greenfield v. CompuServe Corporation, et al. A
second purported shareholder class action suit was filed in July 1996
against the Company and Block, in federal district court for the Southern
District of Ohio, entitled Romine v. CompuServe Corporation, et al. A
third purported shareholder class action suit was filed in August 1996
against the Company, Block, and the lead underwriters in the Company's
April 1996 initial public offering ("IPO") in federal district court for
the District of Minnesota, entitled Acker v. CompuServe Corporation, et
al. These three complaints also name certain officers and directors of the
Company at the time of the Company's IPO as additional defendants. Each
suit alleges similar violations of the Securities Act of 1933 based on
assertions of omissions and misstatements of fact in connection with the
Company's public filings related to the IPO. The Greenfield suit also
alleges similar violations of the Ohio Securities Code and common law of
negligent misrepresentation. Relief sought is unspecified but includes
pleas for rescission and damages. In August 1996, an action for discovery
was also filed solely against the Company on behalf of a shareholder in
the Court of Common Pleas, Franklin County, Ohio, entitled Schnipper v.
CompuServe Corporation, seeking factual support for a possible fourth
claim relating to disclosures in connection with the IPO. The Company
intends to vigorously defend these suits.
Item 6. Exhibits and Reports on Form 8-K
(a) (27) Financial Data Schedule.
(b) None
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.
COMPUSERVE CORPORATION
Date September 12, 1996 By: /s/ Lawrence A. Gyenes
----------------- ------------------------
Lawrence A. Gyenes
Executive Vice President
and Chief Financial Officer
Date September 12, 1996 By: /s/ Kenneth M. Marinik
----------------- -----------------------
Kenneth M. Marinik
Treasurer & Corporate Controller
(Principal Accounting Officer)
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