12
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, 1997
[ ] 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 3, 1997, 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, 1997 (Unaudited) and
April 30, 1997 (Audited) ............................... 3
Consolidated Statements of Operations
Three Months Ended July 31, 1997 and 1996
(Unaudited) ............................................ 4
Consolidated Statements of Cash Flows
Three Months Ended July 31, 1997 and 1996 (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........................................ 11
SIGNATURES......................................................... 12
COMPUSERVE CORPORATION
CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN THOUSANDS)
July 31, April 30,
1997 1997
----------- ----------
(Unaudited) (Audited)
CURRENT ASSETS
Cash and cash equivalents $133,765 $138,777
Investments 34,250 22,642
Receivables, net 110,516 118,336
Due from parent 70,649 70,228
Other current assets 39,412 32,833
---------- ----------
TOTAL CURRENT ASSETS 388,592 382,816
INTANGIBLE ASSETS, net 7,080 8,153
PROPERTY AND EQUIPMENT, net 340,031 355,212
OTHER ASSETS
Deferred subscriber acquisition costs, net 37,629 43,959
Other assets 13,846 12,396
---------- ---------
TOTAL OTHER ASSETS 51,475 56,355
---------- ---------
TOTAL ASSETS $787,178 $802,536
========== =========
CURRENT LIABILITIES
Accounts payable $44,401 $54,529
Other current liabilities 46,175 46,620
Accrued taxes 12,174 8,016
Deferred revenues 6,286 5,824
---------- ---------
TOTAL CURRENT LIABILITIES 109,036 114,989
DEFERRED INCOME TAXES 31,708 36,111
STOCKHOLDERS' EQUITY 646,434 651,436
---------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $787,178 $802,536
========== =========
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,
-------------------------
1997 1996
----------- ----------
REVENUES
Interactive Services revenues $124,234 $141,414
Network Services revenues 75,375 59,278
Other revenues 6,130 7,950
----------- ----------
TOTAL REVENUES 205,739 208,642
COSTS AND EXPENSES
Costs of revenues 117,119 139,696
Marketing 44,958 59,031
General and administrative 12,522 9,494
Depreciation and amortization 29,692 26,853
Equipment leasing 3,895 ----
Product development 5,873 7,056
Nonrecurring items ---- 17,713
----------- ----------
TOTAL COSTS AND EXPENSES 214,059 259,843
OPERATING LOSS (8,320) (51,201)
INTEREST INCOME 2,377 3,131
----------- ----------
LOSS BEFORE TAXES (5,943) (48,070)
INCOME TAX BENEFIT (1,857) (18,455)
----------- ----------
NET LOSS ($4,086) ($29,615)
=========== ==========
LOSS PER COMMON SHARE ($0.04) ($0.32)
=========== ==========
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 92,600,000 92,600,000
=========== ==========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
COMPUSERVE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED, AMOUNTS IN THOUSANDS)
3 Months Ended July 31,
-------------------------
1997 1996
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net Loss ($4,086) ($29,615)
Noncash, nonrecurring items ----- 7,939
Depreciation and amortization 29,692 26,853
Deferred subscriber acquisition costs (11,056) (26,815)
Amortization of deferred subscriber costs 17,386 19,013
Provision for deferred taxes (4,302) 5,556
Changes in net working capital (5,233) (45,407)
---------- ----------
Net cash provided/(used) by operating activities 22,401 (42,476)
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment (11,649) (63,544)
Purchases of short-term investments (19,141) (123,848)
Maturities of short-term investments 7,533 3,124
Other, net (4,156) (2,537)
---------- ----------
Net cash used by investing activities (27,413) (186,805)
---------- ----------
NET DECREASE IN CASH AND CASH EQUIVALENTS (5,012) (229,281)
CASH AND CASH EQUIVALENTS AT BEGINNING OF
PERIOD 138,777 280,646
---------- ----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $133,765 $51,365
========== ==========
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, 1997, the Consolidated
Statements of Operations for the three month periods ended July 31, 1997
and 1996, and the Consolidated Statements of Cash Flows for the three
month periods ended July 31, 1997 and 1996 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, 1997 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, 1997 Form 10-K/A,
and are not necessarily indicative of the operating results for the full
fiscal year.
Certain reclassifications have been made to the fiscal year 1997 financial
statements to conform to the presentation used in fiscal year 1998.
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 fiscal 1997 first quarter and projected
second quarter losses, market uncertainties regarding the online industry
and the planned September 1996 introduction of new interfaces for the
CompuServe Interactive Service ("CSi").
On April 3, 1997, it was announced that the Company and Parent are engaged
in external discussions regarding possible business combinations involving
CompuServe. There are no assurances that such discussions will result in
any agreement or transaction.
3. 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.
4. During fiscal 1997, the Company, certain current and former officers and
directors of the Company, and Parent were named as defendants in six
lawsuits pending before the State and Federal courts in Columbus, Ohio. All
but two of the original six cases were brought as putative class actions.
All the suits allege 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 its initial public offering.
Relief sought in each suit is unspecified, but includes pleas for
rescission and damages. One purported class action lawsuit was
voluntarily dismissed by the plaintiffs and such plaintiffs have joined in
one of the remaining class action lawsuits in Federal court. The other
Federal lawsuit names the lead underwriters of the Company's initial public
offering as additional defendants and as representatives of a defendant
class consisting of all underwriters who participated in such offering.
The Federal suits are both subject to pending motions to dismiss filed on
behalf of the defendants, and they are expected to be consolidated
pursuant to a scheduling order that has been entered in the first Federal
lawsuit. The first State court lawsuit also alleges violations of the
Ohio Securities Code and common law of negligent misrepresentation,
while another State lawsuit alleges violations of Colorado, Florida, and
Ohio statutes and common law of negligent misrepresentation in addition
to the 1933 Act claims. Three of the State lawsuits have been
consolidated for discovery. A fourth State lawsuit was filed within the
last 30 days, and is expected to be consolidated with the other State
lawsuits in due course. The defendants are vigorously defending these
lawsuits.
During fiscal 1997, TeleTech Teleservices, Inc. and TeleTech
Telecommunications, Inc. (collectively, "TeleTech") commenced an action
in the United States District Court, Southern District of Ohio against
CompuServe Incorporated for alleged violations of certain outsourcing
contracts between TeleTech and CompuServe Incorporated primarily related
to the WOW! online service. Teletech seeks recovery under a liquidated
damages provision and other compensatory damages, but has not asserted a
specific amount to which it believes it would be entitled. CompuServe
Incorporated has filed counterclaims alleging multiple breaches by
TeleTech of the outsourcing contracts, including breach of fiduciary
duty, breach of confidentiality, and breach of the non-compete and
employee non-solicitation provisions of the outsourcing contracts by
TeleTech. The Company believes it has meritorious defenses and
counterclaims, and is vigorously pursuing this litigation.
In July 1997, the Company received an assessment from the German taxing
authority related to value-added taxes on the Company's services provided
in Germany. Management is not able to estimate the amount of potential
loss related to this assessment. The Company believes that after
reviewing such matters and consulting with the Company's counsel that the
ultimate resolution of this matter will not have a material adverse
effect on the Company's consolidated financial statements.
The Company in the ordinary course of business is threatened with or
named as a defendant in various lawsuits. It is not possible to
determine the ultimate disposition of these matters; however, management
is of the opinion that, except for the matters described herein, the
final resolution of any threatened or pending litigation is not likely to
have a material adverse effect on the financial statements of the
Company.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FINANCIAL CONDITION
The following discussion should be read in conjunction with the Consolidated
Balance Sheets and Consolidated Statements of Cash Flows appearing elsewhere
herein.
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, 1997, the Company had cash, cash equivalents and investments
totaling $168.0 million, an increase of $6.6 million from April 30, 1997. Net
cash provided by operating activities totaled $22.4 million and net cash used
by investing activities totaled $27.4 million (including $11.6 million of net
purchases of short-term investments and $11.6 million of purchases of property
and equipment).
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, 1997, the investment portfolio had an average
131.4 days term to maturity.
Working capital increased to $279.6 million at July 31, 1997 from $267.8
million at April 30, 1997. The working capital ratio at July 31, 1997 was 3.56
to 1, compared to 3.33 to 1 at April 30, 1997.
A portion of the Company's operations are conducted in leased facilities.
During the second quarter of fiscal 1997, the Company initiated an equipment
leasing program. During the first quarter of fiscal year 1998, equipment with
a cash purchase value of $8.2 million was leased.
In June 1996, the Company agreed to an unsecured $25 million revolving credit
facility with Bank One, Columbus, NA. Management of the Company determined
that, based on recent financial information, this credit facility was no longer
necessary, and accordingly, the facility was allowed to expire in June 1997.
At July 31, 1997, the Company is owed $70.6 million by Parent, due primarily
for income tax benefits resulting from the Company's pretax losses for the
nineteen months ended July 31, 1997. The Company is part of the calendar year
consolidated U.S. tax filings of the Parent.
The Company believes that the proceeds from the public offering of common stock
coupled with the receipt of tax benefits from Parent will be sufficient to meet
the Company's presently anticipated funding requirements. Thereafter, if
internally generated cash is insufficient to meet the Company's capital needs,
the Company may be required to seek additional sources of funds.
RESULTS OF OPERATIONS
The analysis that follows should be read in conjunction with the Consolidated
Statements of Operations.
In September 1995, the Company began to collect and track subscriber retention
data based upon the month a subscriber signed up. With over 12 months of data,
this now provides the most accurate means for measuring subscriber retention.
Retention statistics were previously aggregated and calculated in quarterly
pools.
For the quarter ended July 31, 1997, the Company had retained, on average, 57%
of new CSi subscribers after 3 months, 41% after 6 months, 34% after 9 months
and 30% after 12 months on the service. In the immediately preceding quarter,
the Company had retained, on average, 54% of new CSi subscribers after 3
months, 42% after 6 months, 35% after 9 months and 31% after 12 months of
service. In the first quarter of last fiscal year, the service retained 57% of
new subscribers through its first three months of membership, 47% after 6
months, and 45% after 9 months. Retention rate information after 12 months was
not available in the first quarter of 1996. Since April 30, 1996, the Company
has generally seen a small but steady decline in its CSi quarterly subscriber
retention rates. However, in the first quarter of 1997, the Company
experienced an improvement in its 3-month retention rate which is reflective,
in part, of the Company's refocused marketing efforts to the business,
professional, and technical user communities. There can be no assurance that
the Company's subscriber retention rates or member net revenues will not
decline further.
In August 1997, in an effort to increase the CSi subscriber base and improve
subscriber retention, the Company announced the introduction of a $24.95 per
month flat-rate pricing option in the United States and Canada. The new
pricing plan will first be offered to existing CSi subscribers as of October 1,
1997. The plan provides unlimited access to the Internet plus the basic
CompuServe Interactive service for a single, flat rate with some value-added
surcharged services continuing to carry additional fees.
Except for historical information contained herein, the statements contained
herein are forward looking statements that are subject to risks and
uncertainties which could result in the Company's inability to meet its funding
requirements for the time period indicated or to reach or exceed the break-even
point during the 1998 fiscal year. Such risk and uncertainties include the
risk that the Company's new pricing program and related marketing strategies
will not produce the anticipated results.
Three Months Ended July 31, 1997 Compared to Three Months Ended July 31, 1996
Interactive Services Revenues. Interactive Services revenues decreased 12.1%
to $124.2 million from $141.4 million reported in the first quarter of fiscal
1997. The decrease in Interactive Services revenues was primarily the result
of a decrease in the Company's U.S. subscriber base. Since July 31, 1996, the
Company has seen a decline of 486,000 in its U.S. subscriber base. This
decrease in subscribers is attributable, in part, to a decline in the Company's
acquisition marketing efforts which occurred during the second half of fiscal
1997 while the Company refocused its CSi flagship service in the U.S. toward
the business, professional, and technical user communities. At July 31, 1997,
the Company had 2.9 million direct subscribers worldwide, and a total of 5.3
million subscribers including NIFTY SERVE subscribers, a distinct online
service owned and managed by the Company's Japanese licensee.
The number of CSi subscribers at July 31, 1997, exclusive of NIFTY SERVE
subscribers, decreased 13.8% to 2.6 million from 3.1 million last year. The
average monthly CSi total revenue per subscriber (including fees, usage,
product sales, online advertising, mall, magazine and CD-ROM revenues)
increased to $14.58 for the quarter from $14.48 for the first quarter of
fiscal 1997. The average monthly CSi revenue, from fees and usage only,
increased to $14.40 for the quarter from $14.20 for the first quarter of
fiscal 1997.
Interactive Services revenues also includes fees earned from SPRYNET, the
Company's Internet-access only subsidiary. Subscribers to SPRYNET increased to
287,000 as of July 31, 1997 compared with 163,000 as of July 31, 1996.
Network Services Revenues. Network Services revenues increased 27.2% to $75.4
million from $59.3 million in 1996, while the number of customers increased
24.6% to 1,257. 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 decreased 22.9% to $6.1 million from $8.0
million. The decrease in Other revenues is due primarily to decreased
utilization by the Company's commercial timeshare customers combined with a one-
time $0.8 million gain on the sale of a minority-interest investment recognized
in the prior year. These decreases in other revenues are offset by an increase
in corporate remote computing services and fees from H&R Block Tax Services for
electronic tax filing support.
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 related property and other direct costs. Costs of revenues decreased as a
percent of total revenues to 56.9% from 67.0% in 1996. The 10.1 percentage
point decrease is largely attributable to lower customer service costs (4.2
percentage points) due primarily to the discontinuation of WOW!, lower royalty
expense (3.3 percentage points) due to a decline in the subscriber base and
decreased usage, a decrease in salaries and other related costs (1.3 percentage
points) due to operations staff reductions, and lower subscriber collection
costs (1.1 percentage points) due to changes in the acceptable forms of
subscriber payments.
Marketing. Marketing expenses include costs incurred to acquire and retain
subscribers, the Network Services sales organization and other marketing
expenses. Effective May 1, 1995, acquisition costs for online subscribers were
deferred and charged to operations over 24 months beginning the month after
such costs were 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. Effective in the second quarter of fiscal 1997, deferred acquisition
costs for online subscribers were charged to operations over 24 months, with
50% amortized in the first three months, 30% in the next 9 months and 20% in
the subsequent year.
Marketing expenses as a percent of total revenues decreased in fiscal 1998 to
21.9% (18.7% before deferral of subscriber acquisition costs) compared to last
year's 28.3% (32.0% before deferral of subscriber acquisition costs). The
decrease in marketing expenses is primarily attributable to the cancellation of
the WOW! online service in January 1997. The decrease is also attributable to
the refocusing of the Company's CSi flagship service in the U.S. to the
business, professional, and technical user communities.
General and Administrative. As a percent of total revenues, general and
administrative expenses increased to 6.1% in 1997 from 4.6% in 1996 primarily
reflecting higher accruals for full-year incentives based upon the Company's
better-than-planned financial performance to date.
Depreciation and Amortization. Depreciation and amortization as a percent of
total revenues increased to 14.4% in 1997 from 12.9% in 1996. The increase in
depreciation and amortization expense reflects the continued investments in
upgrading the network infrastructure and the migration to the 32-bit platform
for the CompuServe Interactive service.
Product Development. Product development costs decreased slightly over last
year to 2.9% of revenues for 1997 from 3.4% in 1996. This reflects the effort
behind the migration to a web-based information service, major portions of
which are at or nearing completion combined with lower costs due to the
cancellation of the WOW! service.
Nonrecurring items. In the first quarter of fiscal 1997, the Company incurred
a nonrecurring pretax charge of $17.7 million relating to the sale 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, $9.8 million required the outlay of cash; the
remaining $7.9 million involved no commitment of funds. No such charge
occurred in the first quarter of fiscal year 1998.
Income Taxes. The effective tax rate decreased to 31.2% for the first quarter
of fiscal 1998 from 38.4% for fiscal 1997 primarily reflecting reduced state
income tax benefits.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.
During fiscal 1997, the Company, certain current and former officers and
directors of the Company, and Parent were named as defendants in six
lawsuits pending before the State and Federal courts in Columbus, Ohio.
All but two of the original six cases were brought as putative class
actions. All the suits allege 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 its initial
public offering. Relief sought in each suit is unspecified, but includes
pleas for rescission and damages. One purported class action lawsuit was
voluntarily dismissed by the plaintiffs and such plaintiffs have joined in
one of the remaining class action lawsuits in Federal court. The other
Federal lawsuit names the lead underwriters of the Company's initial
public offering as additional defendants and as representatives of a
defendant class consisting of all underwriters who participated in such
offering. The Federal suits are both subject to pending motions to
dismiss filed on behalf of the defendants, and they are expected to
be consolidated pursuant to a scheduling order that has been entered in
the first Federal lawsuit. The first State court lawsuit also alleges
violations of the Ohio Securities Code and common law of negligent
misrepresentation, while another State lawsuit alleges violations of
Colorado, Florida, and Ohio statutes and common law of negligent
misrepresentation in addition to the 1933 Act claims. Three of the
State lawsuits have been consolidated for discovery. A fourth State
lawsuit was filed within the last 30 days, and is expected to be
consolidated with the other State lawsuits in due course. The
defendants are vigorously defending these lawsuits.
During fiscal 1997, TeleTech Teleservices, Inc. and TeleTech
Telecommunications, Inc. (collectively, "TeleTech") commenced an action
in the United States District Court, Southern District of Ohio against
CompuServe Incorporated for alleged violations of certain outsourcing
contracts between TeleTech and CompuServe Incorporated primarily related
to the WOW! online service. Teletech seeks recovery under a liquidated
damages provision and other compensatory damages, but has not asserted a
specific amount to which it believes it would be entitled. CompuServe
Incorporated has filed counterclaims alleging multiple breaches by
TeleTech of the outsourcing contracts, including breach of fiduciary
duty, breach of confidentiality, and breach of the non-compete and
employee non-solicitation provisions of the outsourcing contracts by
TeleTech. The Company believes it has meritorious defenses and
counterclaims, and is vigorously pursuing this litigation.
The Company in the ordinary course of business is threatened with or
named as a defendant in various lawsuits. It is not possible to
determine the ultimate disposition of these matters; however, management
is of the opinion that, except for the matters described herein, the
final resolution of any threatened or pending litigation is not likely to
have a material adverse effect on the financial statements of the
Company.
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 3, 1997 By: /s/ Lawrence A. GyeneS
-------------------- Lawrence A. Gyenes
Executive Vice President
and Chief Financial Officer
(Principle Accounting Officer)
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