FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] Quarterly Report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended: September 30, 2000
OR
[ ] Transition report pursuant to section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
Commission File Number:
001-12143
America Online, Inc.
(Exact name of registrant as specified in its charter)
Delaware 54-1322110
-------------------------------- -----------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
22000 AOL Way, Dulles, Virginia 20166-9323
(Address of principal executive offices and zip code)
Registrant's telephone number, including area code: (703) 265-1000
Former name, former address, and former year, if changed since last report: Not
applicable
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
Indicate the number of shares outstanding of each of the Issuer's classes of
Common Stock, as of the latest practicable date.
Title of each class
Common stock $.01 par value
Shares outstanding on October 31, 2000.............................2,333,596,294
<PAGE>
AMERICA ONLINE, INC.
INDEX
Page
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets - September 30, 2000
and June 30, 2000 3
Condensed Consolidated Statements of Operations - Three
months ended September 30, 2000 and 1999 4
Condensed Consolidated Statements of Cash Flows - Three
months ended September 30, 2000 and 1999 5
Condensed Consolidated Statement of Changes in
Stockholders' Equity - Three months ended
September 30, 2000 6
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 16
PART II. OTHER INFORMATION 18
Item 2. Changes in Securities and Use of Proceeds 18
Item 6. Exhibits and Reports on Form 8-K 18
Signatures 19
<PAGE>
<TABLE>
<CAPTION>
AMERICA ONLINE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Amounts in millions, except share data)
September 30, June 30,
2000 2000
------------- -------
(Unaudited)
ASSETS
Current assets:
<S> <C> <C>
Cash and cash equivalents........................................................... $ 2,039 $2,490
Short-term investments.............................................................. 1,192 925
Trade accounts receivable, less allowances of $91 and $83, respectively............. 451 422
Other receivables, net.............................................................. 137 110
Prepaid expenses and other current assets........................................... 527 481
------------ --------
Total current assets................................................................ 4,346 4,428
Property and equipment at cost, net................................................. 1,026 991
Other assets:
Investments including available-for-sale securities................................. 4,627 4,358
Product development costs, net...................................................... 202 159
Goodwill and other intangible assets, net........................................... 513 501
Other assets........................................................................ 239 236
------------ --------
$10,953 $10,673
============ =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Trade accounts payable.............................................................. $ 256 $ 153
Other accrued expenses and liabilities.............................................. 773 919
Deferred revenue.................................................................... 1,083 1,109
Accrued personnel costs............................................................. 119 138
Deferred network services credit.................................................... 76 76
------------ --------
Total current liabilities........................................................... 2,307 2,395
Long-term liabilities:
Notes payable....................................................................... 1,646 1,630
Deferred revenue.................................................................... 326 358
Other liabilities................................................................... 7 8
Deferred network services credit.................................................... 102 121
------------ --------
Total liabilities................................................................... 4,388 4,512
Stockholders' equity:
Preferred stock, $.01 par value; 5,000,000 shares authorized, no shares issued
or outstanding at September 30 and June 30, 2000.................................. - -
Common stock, $.01 par value; 6,000,000,000 shares authorized,
2,332,608,519 and 2,316,494,480 shares issued and outstanding at
September 30 and June 30, 2000, respectively..................................... 23 23
Additional paid-in capital.......................................................... 4,538 4,314
Accumulated other comprehensive income - unrealized gain on
available-for-sale securities, net................................................ 325 478
Retained earnings................................................................... 1,679 1,346
------------ --------
Total stockholders' equity.......................................................... 6,565 6,161
------------ --------
$10,953 $10,673
============ =========
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
AMERICA ONLINE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in millions, except per share data)
(Unaudited)
Three months ended
September 30,
2000 1999
-------- --------
Revenues:
<S> <C> <C>
Subscription services..................................................... $1,206 $ 995
Advertising, commerce and other........................................... 649 360
Enterprise solutions...................................................... 120 122
-------- --------
Total revenues............................................................ 1,975 1,477
Costs and expenses:
Cost of revenues.......................................................... 928 792
Sales and marketing....................................................... 298 213
Product development....................................................... 60 71
General and administrative................................................ 183 123
Amortization of goodwill and other intangible assets...................... 22 18
Merger charges............................................................ 6 -
-------- --------
Total costs and expenses.................................................. 1,497 1,217
Income from operations... ................................................ 478 260
Other income, net......................................................... 89 39
-------- --------
Income before provision for income taxes.................................. 567 299
Provision for income taxes................................................ (222) (118)
-------- --------
Net income................................................................ $ 345 $ 181
======== ========
Earnings per share:
Earnings per share-diluted................................................ $ 0.13 $ 0.07
Earnings per share-basic.................................................. $ 0.15 $ 0.08
Weighted average shares outstanding-diluted............................... 2,603 2,587
Weighted average shares outstanding-basic................................. 2,328 2,231
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
AMERICA ONLINE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in millions)
(Unaudited)
Three months ended
September 30,
2000 1999
------- -------
Cash flows from operating activities:
<S> <C> <C>
Net income ............................................................................ $ 345 $ 181
Adjustments to reconcile net income to net cash provided by operating activities:
Non-cash restructuring charges......................................................... - 2
Amortization of deferred network services credit....................................... (19) (19)
Depreciation and amortization.......................................................... 106 79
Compensatory stock options............................................................. 3 3
Gain on available-for-sale securities.................................................. (35) -
Equity in loss of investees............................................................ 27 -
Deferred income taxes.................................................................. 222 117
Changes in assets and liabilities, net of the effects of acquisitions and dispositions:
Trade accounts receivable............................................................ (28) (28)
Other receivables.................................................................... (27) (43)
Prepaid expenses and other current assets............................................ (47) (28)
Other assets......................................................................... (3) (52)
Investments including available-for-sale securities.................................. (36) (99)
Accrued expenses and other current liabilities....................................... (56) 206
Deferred revenue and other liabilities............................................... (57) 147
------- -------
Total adjustments...................................................................... 50 285
------- -------
Net cash provided by operating activities.............................................. 395 466
Cash flows from investing activities:
Purchase of property and equipment..................................................... (95) (136)
Product development costs.............................................................. (52) (18)
Proceeds from sale of investments, including available-for-sale securities............. 230 -
Purchase of investments, including available-for-sale securities....................... (697) (94)
(Purchase)/Proceeds of short-term investments, net..................................... (267) 97
Other investing activities............................................................. (46) 14
------- -------
Net cash used in investing activities.................................................. (927) (137)
Cash flows from financing activities:
Proceeds from issuance of common stock, net............................................ 83 97
Principal and accrued interest payments on debt........................................ (2) (3)
------- -------
Net cash provided by financing activities.............................................. 81 94
------- -------
Net (decrease) increase in cash and cash equivalents................................... (451) 423
Cash and cash equivalents at beginning of period....................................... 2,490 936
------- -------
Cash and cash equivalents at end of period............................................. $2,039 $1,359
======= =======
Supplemental cash flow information:
Cash paid during the period for: Interest (net of amount capitalized).................. $ 2 $ 4
======= ======
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
AMERICA ONLINE, INC.
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(Amounts in millions, except share data)
(Unaudited)
Accumulated
Common Stock Additional Other
----------------------- Paid-In Comprehensive Retained
Shares Amount Capital Income, Net Earnings
-------------- ------- --------- --------------- ------------
<S> <C> <C> <C> <C> <C>
Balances at June 30, 2000................. 2,316,494,480 $ 23 $ 4,314 $ 478 $1,346
Common stock issued:
Exercise of options.................... 11,543,499 - 83 - -
Amortization of compensatory
stock options.......................... - - 3 - -
Unrealized loss on
available-for-sale securities, net..... - - (90) (153) -
Tax benefit related to stock options...... - - 213 - -
Effect of immaterial poolings............ 4,570,540 - 15 - (12)
Net income................................ - - - - 345
-------------- ------- --------- --------------- ------------
Balances at September 30, 2000............ 2,332,608,519 $ 23 $ 4,538 $ 325 $1,679
============== ======= ========= =============== ============
Comprehensive
Income For The
Three Months Ended
Total September 30, 2000
--------- ---------------------
<S> <C> <C>
Balances at June 30, 2000................. $6,161
Common stock issued:
Exercise of options.................... 83
Amortization of compensatory
stock options.......................... 3
Unrealized loss on
available-for-sale securities, net..... (243) (153)
Tax benefit related to stock options...... 213
Effect of immaterial poolings............ 3
Net income................................ 345 345
--------- -----------------
Balances at September 30, 2000............ $6,565 $192
======== =================
See accompanying notes.
</TABLE>
<PAGE>
AMERICA ONLINE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements,
which include the accounts of America Online, Inc. (the "Company") and its
wholly owned subsidiaries, have been prepared in accordance with generally
accepted accounting principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do
not include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. In the opinion of
management, all adjustments, consisting only of normal recurring accruals
considered necessary for a fair presentation, have been included in the
accompanying unaudited condensed consolidated financial statements. All
significant intercompany transactions and balances have been eliminated in
consolidation. Operating results for the three months ended September 30, 2000
are not necessarily indicative of the results that may be expected for the full
year ending June 30, 2001. For further information, refer to the consolidated
financial statements and notes thereto, included in the Company's Annual Report
on Form 10-K for the fiscal year ended June 30, 2000.
Note 2. Recent Pronouncements
In March 2000, the FASB issued FASB Interpretation No. 44, "Accounting
for Certain Transactions involving Stock Compensation" ("FIN 44"), which
contains rules designed to clarify the application of APB 25. As of July 1,
2000, the Company has adopted FIN 44 with no material effect on earnings and
financial position.
The FASB recently issued Statement No. 137, "Accounting for Derivative
Instruments and Hedging Activities-Deferral of Effective Date of FASB Statement
No. 133". The Statement deferred for one year the effective date of FASB
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities". The rule now applies to all fiscal quarters of all fiscal years
beginning after June 15, 2000. The Company adopted the standard as of July 1,
2000. The Statement requires the Company to recognize all derivatives on the
balance sheet at fair value. Derivatives that are not designated as hedges must
be adjusted to fair value through income. If the derivative is designated as a
hedge, depending on the nature of the hedge, changes in the fair value of the
derivatives will either be offset against the change in fair value of the hedged
assets, liabilities, or firm commitments through earnings or recognized in other
comprehensive income until the hedged item is recognized in earnings. The
ineffective portion of the change in fair value of a derivative that is
designated as a hedge will be immediately recognized in earnings. Certain of the
Company's holdings of equity instruments have been deemed derivatives pursuant
to the criteria established in SFAS 133. The Company has designated certain of
those derivatives as hedges. The adoption of SFAS 133 by the Company as of July
1, 2000 had no material effect on earnings and financial position.
In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements"
("SAB 101"), which clarifies certain existing accounting principles for the
timing of revenue recognition and its classification in the financial
statements. The SEC delayed the required implementation date of SAB 101 by
issuing Staff Accounting Bulletins No. 101A, "Amendment: Revenue Recognition in
Financial Statements" and 101B, "Second Amendment: Revenue Recognition in
Financial Statements" in March and June 2000, respectively. In anticipation of
the merger between the Company and Time Warner Inc. being completed prior to
December 31, 2000, the Company will adopt SAB 101 in the quarter ending December
31, 2000. The Company believes the adoption of SAB 101 will not be material to
the earnings and financial position of the Company and it will mainly impact
Enterprise revenues and cost of revenues.
Note 3. Earnings Per Share
The following table sets forth the computation of basic and diluted
earnings per share for the three months ended September 30, 2000 and 1999:
<TABLE>
Three months ended
September 30,
(in millions, except per share data) 2000 1999
-------- --------
Basic earnings per share:
<S> <C> <C>
Net income available to common shareholders................................... $ 345 $ 181
-------- --------
Weighted average shares outstanding........................................... 2,328 2,231
Basic earnings per share...................................................... $ 0.15 $ 0.08
======== ========
Diluted earnings per share:
Net income available to common shareholders................................... $ 345 $ 181
Interest on convertible debt, net of tax...................................... 2 2
-------- --------
Adjusted net income available to common shareholders
assuming conversion........................................................ $ 347 $ 183
-------- --------
Weighted average shares outstanding........................................... 2,328 2,231
Effect of dilutive securities:
Employee stock options..................................................... 237 316
Convertible debt........................................................... 38 40
-------- --------
Adjusted weighted average shares and assumed conversions...................... 2,603 2,587
======== ========
Diluted earnings per share.................................................... $ 0.13 $ 0.07
======== ========
</TABLE>
Excluded from the diluted share base calculation above for the three
months ended September 30, 2000 are incremental weighted shares of approximately
13.6 million and approximately 35 million related to convertible subordinated
notes and stock options, respectively. Excluded from the diluted share base
calculation above for the three months ended September 30, 1999 are incremental
weighted shares of approximately 23.1 million related to stock options. The
shares related to the convertible subordinated notes are excluded due to their
antidilutive effect as a result of adjusting net income by $6 million for
interest expense (net of tax) that would be forfeited if the notes were
converted to equity. The shares related to the stock options are excluded due to
their antidilutive effect as a result of the option's exercise prices being
greater than the average market price of the common shares during the three
months ended September 30, 2000 and September 30, 1999.
Note 4. Comprehensive Income
For the three months ended September 30, 2000 and 1999, comprehensive
income was $192 million and $437 million, respectively. The difference between
net income and comprehensive income for each period presented is due to net
unrealized gains or losses on available-for-sale securities.
Note 5. Business Developments
During the quarter ended September 30, 2000, the Company completed its
mergers with Quack.com, Inc., iAmaze, Inc., LocalEyes Corporation and Prophead
Development, Inc. (the "Merged Companies") in separate transactions. In total,
the Company exchanged approximately 4.6 million shares of common stock for all
the outstanding common and/or preferred shares of the merged companies in
transactions that were accounted for as poolings-of-interests. As the Merged
Companies historical results of operations were not material in relation to
those of the Company, the financial information prior to the quarter ended June
30, 2000 has not been restated to reflect these mergers.
The Company recognized charges of $6 million related to the Merged
Companies, consisting mainly of investment banking and legal services. As of
September 30, 2000, approximately $5 million of the merger related costs had
been paid. The Company expects the remaining costs associated with the mergers
to be paid by December 31, 2000.
Note 6. Segment Information
America Online has four major lines of businesses:
o the Interactive Services Group,
o the Interactive Properties Group,
o the AOL International Group, and
o the Netscape Enterprise Group.
The Interactive Services Group and the Netscape Enterprise Group are
the only two reportable segments. The results of the Interactive Properties
Group and the AOL International Group have been combined in the "Other Segments"
line shown below. Prior period information has been restated to conform to the
current presentation. There are no intersegment revenues between the four
operating segments. Shared support service functions such as human resources,
facilities management and other infrastructure support groups are allocated
based on usage or headcount, where practical, to the four operating segments.
Charges that cannot be allocated are reported as general and administrative
costs and are not allocated to the segments. Special charges determined to be
significant are reported separately in the Condensed Consolidated Statements of
Operations and are not assigned or allocated to the segments. All other
accounting policies are applied consistently to the segments, where applicable.
A summary of the segment financial information is as follows:
<TABLE>
Three months ended
September 30,
2000 1999
------------ -----------
(Amounts in millions)
Revenues:
<S> <C> <C>
Interactive Services Group (1).............. $1,726 $1,290
Netscape Enterprise Group (2)............... 120 122
Other Segments (3).......................... 129 65
------------ -----------
Total revenues.......................... $1,975 $1,477
Income (loss) from operations:
Interactive Services Group (1).............. $ 494 $ 325
Netscape Enterprise Group(2)................ 50 18
Other Segments (3).......................... 57 15
General and Administrative (4).............. (117) (98)
Other charges............................... (6) -
------------ -----------
Total income from operations............ $ 478 $ 260
</TABLE>
(1) For the three months ended September 30, 2000 and 1999, the Interactive
Services Group includes online service revenues of $1,206 million and $995
million, respectively; advertising, commerce and other revenues of $520
million and $295 million, respectively; and goodwill and other intangible
assets amortization of $12 million and $11 million, respectively.
(2) For the three months ended September 30, 2000 and 1999, the Netscape
Enterprise Group is comprised solely of enterprise revenues.
(3) For the three months ended September 30, 2000 and 1999, Other Segments are
comprised solely of advertising, commerce and other revenues and include
goodwill and other intangible assets amortization of $10 million and $7
million, respectively.
(4) Bad debt has been allocated to the applicable segment.
The Company does not have any material revenues and/or assets outside the
United States and no single customer accounts for more than 10% of total
revenues.
Note 7. Subsequent Events
Time Warner Merger
On January 10, 2000, the Company and Time Warner Inc. announced that
they had entered into an Agreement and Plan of Merger, dated as of January 10,
2000 (the "Merger Agreement"), which sets forth the terms and conditions of the
proposed merger of equals of America Online and Time Warner. Pursuant to the
Merger Agreement, America Online and Time Warner have formed AOL Time Warner and
each holds one share of AOL Time Warner. AOL Acquisition Sub, a newly formed and
wholly owned subsidiary of AOL Time Warner, will be merged with and into America
Online, with stockholders of America Online receiving one share of AOL Time
Warner common stock for each share of America Online Common Stock, and TW
Acquisition Sub, a newly formed and wholly owned subsidiary of AOL Time Warner,
will be merged with and into Time Warner, with common stockholders of Time
Warner receiving 1.5 shares of AOL Time Warner common stock for each share of
Time Warner common stock. As a result of the merger, the separate corporate
existence of each of AOL Acquisition Sub and TW Acquisition Sub will cease and
each of America Online and Time Warner will survive the merger as a wholly owned
subsidiary of AOL Time Warner. The merger was approved by the stockholders of
each of America Online and Time Warner on June 23, 2000. In addition, the
European Union Commission approved the merger on October 11, 2000. The merger is
expected to close in the fall of 2000 and is subject to customary closing
conditions, including required U.S. government regulatory approvals, which the
companies are in the process of seeking. There can be no assurance that such
approvals can be obtained.
Redemption of Notes
The Company has issued a notice of its election to exercise its option
to redeem in whole, the 4% Convertible Subordinated Notes due November 15, 2002
(the "Notes") on November 15, 2000. Under the redemption prices set forth in the
Notes, the Company will be obligated to redeem the outstanding Notes at a price
of 101.6% (expressed as a percentage of principal amount) together with accrued
interest at the date of redemption. Noteholders may convert their Notes to
shares of the Company's common stock on or prior to the redemption date. The
principal amount, net of unamortized discount, was $244 million as of September
30, 2000.
Note 8. Legal Proceedings
The Company is a party to various litigation matters, investigations
and proceedings, including several complaints that have been filed and remain
pending in the Delaware Court of Chancery naming as defendants one or more of
America Online, the directors of America Online, Time Warner Inc. and the
directors of Time Warner. The complaints purport to be filed on behalf of
holders of America Online or Time Warner stock, as applicable, and allege
breaches of fiduciary duty by the applicable company and its directors or aiding
and abetting breaches of fiduciary duty by the other company and its directors
in connection with the proposed merger of America Online and Time Warner. The
plaintiffs in each case seek to enjoin completion of the merger and/or damages.
These cases are at a preliminary stage, but the Company does not believe these
lawsuits have any merit and intends to defend against them vigorously. The
Company is unable, however, to predict the outcome of these cases, or reasonably
estimate a range of possible loss given the current status of the litigation.
Since March 2000, America Online has been named as a defendant in
several class action lawsuits that have been filed in state and federal courts.
The complaints in these lawsuits contend that consumers and competing Internet
service providers have been injured because of the default selection features in
AOL 5.0. Plaintiffs are seeking damages, an injunction enjoining the
distribution of AOL Version 5.0 software, and disgorgement of all monies that
the Company has earned through the distribution of its Version 5.0 software.
These cases are at a preliminary stage, but America Online does not believe they
have merit and intends to contest them vigorously. The Company is unable,
however, to predict the outcome of these cases, or reasonably estimate a range
of possible loss given the current status of the litigation.
In the spring of 1999, the Department of Labor ("DOL") began an
investigation of the applicability of the Fair Labor Standards Act ("FLSA") to
the Company's Community Leader program. The Company believes the Community
Leaders are volunteers, not employees, that the Community Leader program
reflects industry practices, and that its actions comply with the law. The
Company is cooperating with the DOL's inquiry, but is unable to predict the
outcome of the DOL's investigation and cannot reasonably estimate a range of
possible loss given the current status of the DOL's investigation. Former
volunteers have sued the Company on behalf of an alleged class consisting of
current and former volunteers, alleging violations of the FLSA and comparable
state statutes. The Company believes the claims have no merit and intends to
defend them vigorously. The Company cannot predict the outcome of the claims or
whether other former or current volunteers will file additional actions, nor can
the Company reasonably estimate a range of possible loss given the current
status of the litigation.
The costs and other effects of pending or future litigation,
governmental investigations, legal and administrative cases and proceedings
(whether civil or criminal), settlements, judgments and investigations, claims
and changes in those matters (including those matters described above), and
developments or assertions by or against the Company relating to intellectual
property rights and intellectual property licenses, could have a material
adverse effect on the Company's business, financial condition and operating
results.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
Founded in 1985, America Online, Inc., based in Dulles, Virginia, is the
world's leader in interactive services, Web brands, Internet technologies, and
electronic commerce services. The Company operates two worldwide Internet
services, the AOL service, with more than 25 million members, and the CompuServe
service, with more than 2.8 million members; several leading Web brands
including ICQ, AOL Instant Messenger and Digital City, Inc.; the Netscape
Netcenter and AOL.COM Internet portals; the Netscape Communicator client
software, including the Netscape Navigator browser; AOL Moviefone, the nation's
number one movie listing guide and ticketing service; MapQuest.com, a leader in
destination information solutions; and Spinner Networks Incorporated and
Nullsoft, Inc., leaders in Internet music. Through its strategic alliance with
Sun Microsystems, Inc., the Company also develops and offers easy-to-deploy,
end-to-end electronic commerce and enterprise solutions under the iPlanet brand
for companies operating in and doing business on the Internet.
Consolidated Results of Operations
Revenues
The following table and discussion highlights the revenues of the
Company for the three months ended September 30, 2000 and 1999:
<TABLE>
Three Months Ended
September 30,
2000 1999
--------------- ---------------
(Dollars in millions)
Revenues:
<S> <C> <C> <C> <C>
Subscription services................................... $1,206 61.1% $ 995 67.4%
Advertising, commerce and other......................... 649 32.9 360 24.4
Enterprise solutions.................................... 120 6.0 122 8.2
------- ------- ------- -------
Total revenues.......................................... $1,975 100.0% $1,477 100.0%
</TABLE>
The Company generates three main types of revenues: subscription
services; advertising, commerce and other; and enterprise solutions.
Subscription services revenues are generated from customers subscribing to the
Company's AOL and CompuServe services. Advertising, commerce and other revenues
are non-subscription based and are generated mainly from businesses marketing to
the Company's base of subscribers and users across its multiple brands.
Advertising, commerce and other revenues principally consist of advertising and
related revenues, fees associated with electronic commerce and the sale of
merchandise. Enterprise solutions revenues consist principally of product
licensing fees and fees from technical support, consulting and training services
offered through the Company's strategic alliance with Sun Microsystems, Inc.,
("Sun Microsystems").
Subscription Services Revenues
For the three months ended September 30, 2000, subscription services
revenues increased from $995 million to $1,206 million, or 21%, over the three
months ended September 30, 1999. This increase was primarily attributable to a
32% increase in the average number of U.S. subscribers for the three months
ended September 30, 2000, compared to the three months ended September 30, 1999,
offset in part by an 8.4% decrease in the average monthly subscription services
revenue per U.S. subscriber. The decrease in the average monthly subscription
services revenue per U.S. subscriber is due to the mix of multiple price points
offered by the Company's various brands and services, as well as certain
promotional bundling programs. Under these bundling programs, customers of the
Company's commerce partners typically receive a subscription to the Company's
online services as a result of purchasing a product from the commerce partner.
The Company records subscription revenues under these bundling programs based
upon the net amount received from the commerce partner.
At September 30, 2000, the Company had approximately 24.6 million AOL
service subscribers, including 20.3 million in the United States. Also at that
date, the Company had approximately 2.8 million CompuServe service subscribers,
with 2.0 million in the United States. The Company also has approximately
883,000 worldwide custom solution subscribers on alternate branded services that
are provided in conjunction with the Company's partners.
Advertising, Commerce and Other Revenues
The following table summarizes the material components of advertising,
commerce and other revenues for the three months ended September 30, 2000 and
1999:
<TABLE>
Three Months Ended
September 30,
2000 1999
--------------- ---------------
(Dollars in millions)
<S> <C> <C> <C> <C>
Advertising and electronic commerce fees................ $ 534 82.3% $ 274 76.1%
Merchandise............................................. 61 9.4 47 13.1
Other................................................... 54 8.3 39 10.8
------- ------- ------- -------
Total advertising, commerce and other revenues.......... $ 649 100.0% $ 360 100.0%
</TABLE>
Advertising, commerce and other revenues, which consist principally of
advertising and related revenues, fees associated with electronic commerce and
the sale of merchandise across the Company's multiple brands, increased by 80%,
from $360 million in the three months ended September 30, 1999 to $649 million
in the three months ended September 30, 2000.
Advertising and electronic commerce fees increased by 95%, from $274
million in the three months ended September 30, 1999 to $534 million in the
three months ended September 30, 2000. The increase is primarily attributable to
additional advertising and electronic commerce fees on the Company's AOL
service, as well as the Company's other branded services and portals. At
September 30, 2000, the Company's advertising and commerce backlog, representing
the contract value of advertising and commerce agreements signed, less revenues
already recognized from these agreements, was approximately $3 billion, up
approximately $1 billion from September 30, 1999. Merchandise sales increased by
30%, from $47 million in the three months ended September 30, 1999 to $61
million in the three months ended September 30, 2000. The increase was mainly
attributable to improved response rates to advertising, as well as a larger base
of subscribers.
Enterprise Solutions Revenues
Enterprise solutions revenues, which consist principally of product
licensing fees and fees from technical support, consulting and training services
decreased by 2%, from $122 million in the three months ended September 30, 1999
to $120 million in the three months ended September 30, 2000. The decrease was
primarily due to a decrease in contractual obligations from Sun Microsystems,
offset in part by an increase in license and service revenues generated through
the alliance with Sun Microsystems. In addition, as a result of additional
products being considered collaborative (jointly developed by Netscape and Sun
Microsystems), when these collaborative products are sold by Sun Microsystems
personnel, the Company records as revenue the net payments received from Sun
Microsystems. While this results in a slower growth of reported revenues, the
gross margin and income from operations has continued to grow. Refer to Note 6
of the Notes to the Condensed Consolidated Financial Statements, as well as the
segment results of operations discussion later in this section.
Costs and Expenses
The following table and discussion highlights the costs and expenses of
the Company for the three months ended September 30, 2000 and 1999:
<TABLE>
Three Months Ended
September 30,
2000 1999
--------------- ---------------
(Dollars in millions)
<S> <C> <C> <C> <C>
Total revenues.......................................... $1,975 100.0% $1,477 100.0%
Costs and expenses:
Cost of revenues........................................ $ 928 47.0% $ 792 53.6%
Sales and marketing..................................... 298 15.1 213 14.4
Product development..................................... 60 3.0 71 4.8
General and administrative.............................. 183 9.3 123 8.4
Amortization of goodwill and other intangible assets.... 22 1.1 18 1.2
Merger charges.......................................... 6 0.3 - -
------- ------- ------- -------
Total costs and expenses................................ $1,497 75.8% $1,217 82.4%
</TABLE>
Cost of Revenues
Cost of revenues includes network-related costs, consisting primarily
of data network costs; personnel and related costs associated with operating the
data centers, data network and providing customer support; billing, consulting
and technical support/training; host computer and network equipment costs; and
the costs of merchandise sold.
Cost of revenues increased by 17%, from $792 million in the three
months ended September 30, 1999 to $928 million in the three months ended
September 30, 2000, and decreased as a percentage of total revenues from 53.6%
to 47.0%. The increase in cost of revenues in the three months ended September
30, 2000 compared to the same period a year ago was primarily attributable to
increases in data network costs; personnel and related costs associated with
operating the data centers, data network and providing customer support; costs
related to the Company's new custom services and costs related to the AOL
premium services introduced recently under the AOL Anywhere strategy. Data
network costs increased primarily as a result of the larger member base and
increased usage per customer. Costs related to the Company's new custom services
are a result of the Company's agreement with Gateway, Inc., which was entered
into in October, 1999. Personnel and related costs associated with operating the
data centers, data network and providing customer support increased primarily as
a result of the requirements of supporting a larger data network and a larger
customer base. The decrease in cost of revenues as a percentage of total
revenues was primarily attributable to growth of the higher margin advertising,
commerce and other revenues, as well as a decrease in network-related costs as a
percentage of subscription services revenue. The decrease in network-related
costs as a percentage of subscription services revenue was primarily driven by
an 18% decrease in the hourly network cost for the three months ended September
30, 2000 compared to the three months ended September 30, 1999. The decrease in
the hourly network costs is mainly due to efficiencies the Company continues to
realize as a result of its size and scale, as well as lower negotiated rates
with its network providers. This decrease was partially offset by an increase in
daily member usage, from an average of nearly 55 minutes per day in the three
months ended September 30, 1999 to an average of approximately 58 minutes per
day in the three months ended September 30, 2000.
Sales and Marketing
Sales and marketing expenses include the costs to acquire and retain
subscribers, the operating expenses associated with the sales and marketing
organizations and other general marketing costs to support the Company's
multiple brands.
For the three months ended September 30, 2000, sales and marketing
expenses increased from $213 million to $298 million, or 40%, over the three
months ended September 30, 1999, and remained relatively unchanged as a
percentage of total revenues. The increase in sales and marketing expenses for
the three months ended September 30, 2000 was primarily attributable to an
increase in brand advertising costs related to the AOL service, partially offset
by a decrease in sales and sales support functions in the enterprise group.
Product Development
Product development costs include research and development expenses and
other product development costs including support and maintenance of the
Company's multiple interactive products. For the three months ended September
30, 2000, product development costs decreased from $71 million to $60 million,
or 15%, over the three months ended September 30, 1999, and decreased as a
percentage of total revenues from 4.8 % to 3.0%. The decrease in product
development costs was primarily due to the timing of projects eligible for
capitalization, including the AOL 6.0 development and an increase in AOL
Anywhere initiatives. The decrease in product development costs as a percentage
of total revenues was primarily a result of the substantial growth in total
revenues, as well as the increase in capitalized projects.
General and Administrative
For the three months ended September 30, 2000, general and
administrative expenses increased from $123 million to $183 million, or 49%,
over the three months ended September 30, 1999, and increased as a percentage of
total revenues from 8.4% to 9.3%. The increase in general and administrative
costs for the three months ended September 30, 2000, was primarily attributable
to an increase in bad debt expense, increased personnel costs, and increased
other professional services and fees, primarily legal fees. The increase in bad
debt expense was due to the growth of the CompuServe rebate program, the
extension of the collection period for subscription fees on the AOL service
instituted during the last fiscal year, and the overall growth of subscription
services and advertising, commerce and other revenues.
Amortization of Goodwill and Other Intangible Assets
Amortization of goodwill and other intangible assets increased to $22
million in the three months ended September 30, 2000 from $18 million in the
three months ended September 30, 1999. The increase in amortization expense
during the three months ended September 30, 2000 compared to the same period a
year ago is primarily attributable to an intangible asset associated with the
acquisition cost of Gateway.net subscribers in December 1999 and goodwill
associated with the remaining 20% interest of Digital City acquired from The
Tribune Company in May 2000.
Merger Charges
During the three months ended September 30, 2000, the Company
recognized charges of $6 million primarily related to the mergers of Quack.com,
Inc., iAmaze, Inc., LocalEyes Corporation and Prophead Development, Inc.
consisting mainly of investment banking and legal services. As of September 30,
2000, approximately $5 million of the merger related costs had been paid. The
Company expects the remaining costs associated with the merger to be paid by
December 2000. Refer to Note 5 of the Notes to the Condensed Consolidated
Financial Statements for further information related to the merger costs.
Other Income, net
Other income, net consists primarily of investment income and
non-operating gains net of interest expense and non-operating charges. The
Company had other income of $89 million and $39 million for the three months
ended September 30, 2000 and 1999, respectively. The increase in other income
for the three months ended September 30, 2000 was primarily attributable to an
increase in interest income and net realized gains on investments, partially
offset by losses from equity investees and an increase in interest expense.
The Company's investment portfolio of available-for-sale securities is
primarily invested in Internet and technology companies. These
available-for-sale equity investments are subject to significant fluctuations in
fair market value due to the volatility of the stock market and the industries
the Company is invested in. The Company has realized gains and losses from both
the sale of investments, as well as mergers and acquisitions of companies the
Company is invested in. The Company's objective with its investments is to
minimize the impact of stock market declines to the Company's earnings and cash
flows. Beyond the control of the Company, however, continued market volatility,
as well as mergers and acquisitions, have the potential to have a material
non-cash impact on the operating results of the Company in future periods.
Provision for Income Taxes
The provision for income taxes was $222 million and $118 million during
the three months ended September 30, 2000 and 1999, respectively. The increase
in the provision for income taxes during the three months ended September 30,
2000 compared to the same period last year is a direct result of the Company's
increase in pre-tax income. Income tax expense for the three months ended
September 30, 2000 includes $220 million for U.S. federal and state income taxes
and $2 million for foreign taxes. As of September 30, 2000, the Company had net
operating loss carryforwards of approximately $10.4 billion, primarily resulting
from stock option exercises, available to offset future U.S. federal taxable
income.
Segment Results of Operations
The Company currently has four operating segments, of which two are
reportable segments, that share the same infrastructure. For further information
regarding segments, refer to Note 6 of the Notes to the Condensed Consolidated
Financial Statements.
A summary of the segment financial information is as follows:
Three months ended
September 30,
2000 1999
------------ -----------
(Amounts in millions)
Revenues:
Interactive Services Group (1).............. $1,726 $1,290
Netscape Enterprise Group (2)............... 120 122
Other Segments (3).......................... 129 65
------------ -----------
Total revenues.......................... $1,975 $1,477
Income (loss) from operations:
Interactive Services Group (1).............. $ 494 $ 325
Netscape Enterprise Group(2)................ 50 18
Other Segments (3).......................... 57 15
General and Administrative (4).............. (117) (98)
Other charges............................... (6) -
------------ -----------
Total income from operations............ $ 478 $ 260
(1) For the three months ended September 30, 2000 and 1999, the Interactive
Services Group includes online service revenues of $1,206 million and $995
million, respectively; advertising, commerce and other revenues of $520
million and $295 million, respectively; and goodwill and other intangible
assets amortization of $12 million and $11 million, respectively.
(2) For the three months ended September 30, 2000 and 1999, the Netscape
Enterprise Group is comprised solely of enterprise revenues.
(3) For the three months ended September 30, 2000 and 1999, Other Segments are
comprised solely of advertising, commerce and other revenues and include
goodwill and other intangible assets amortization of $10 million and $7
million, respectively.
(4) Bad debt has been allocated to the applicable segment.
For an overview of the segment revenues, refer to the consolidated
results of operations discussion earlier in this section.
Interactive Services Group income from operations increased from $325
million during the three months ended September 30, 1999 to $494 million during
the three months ended September 30, 2000. This increase is mainly the result of
increases in subscription services and advertising, commerce and other revenues
coupled with increased network efficiencies.
Netscape Enterprise Group income from operations increased from $18
million during the three months ended September 30, 1999 to $50 million during
the three months ended September 30, 2000. This increase is mainly attributable
to a decline in operating expenses, as the Netscape Enterprise Group began to
realize efficiencies from using the Company's infrastructure.
Other Segments income from operations increased from $15 million during
the three months ended September 30, 1999 to $57 million during the three months
ended September 30, 2000. This increase is mainly attributable to an increase in
Interactive Properties advertising revenues partially offset by an increase in
general and administrative costs and marketing costs.
Liquidity and Capital Resources
The Company is currently financing its operations primarily through
cash generated from operations. In addition, the Company has generated cash from
the sale of its convertible notes, the sale of its investments in marketable
securities and the sale of its capital stock. In addition to purchasing
telecommunications equipment, the Company also enters into operating leases for
the use of this equipment. Net cash provided by operating activities was $395
million and $466 million for the three months ended September 30, 2000 and 1999,
respectively, and decreased primarily due to the timing of cash receipts related
to advertising deals that closed during the quarter ended September 30, 1999, as
well as the timing of payments related to operating expenses, offset slightly by
the Company's increase in net income. Net cash used in investing activities was
$927 million and $137 million during the three months ended September 30, 2000
and 1999, respectively. Cash used in investing activities included the purchase
of $697 million and $94 million of investments classified as available-for-sale
securities during the three months ended September 30, 2000 and 1999,
respectively. Net cash provided by financing activities was $81 million and $94
million for the three months ended September 30, 2000 and 1999, respectively.
The Company uses its working capital to finance ongoing operations and
to fund marketing and the development of its products and services. The Company
plans to continue to invest in network, computing and support infrastructure, as
well as subscriber acquisition, retention and brand marketing to expand its
subscriber base. Additionally, the Company expects to use a portion of its cash
for the acquisition and subsequent funding of technologies, content, products or
businesses complementary to the Company's current business. The Company
anticipates that cash on hand and cash provided by operating activities will be
sufficient to fund the operations of the Company's current business for the next
twelve months. The Company currently has approximately $3.7 billion available
for issuance under a shelf registration filed in May 1999.
The Company has issued a notice of its election to exercise its option
to redeem in whole, the 4% Convertible Subordinated Notes due November 15, 2002
(the "Notes") on November 15, 2000. As a result of this notice, the Company
expects the majority of the Noteholders to convert their Notes into the
Company's common stock on or before the date of redemption.
Earnings Before Interest, Taxes, Depreciation and Amortization ("EBITDA")
The following table and discussion summarizes EBITDA for the three
months ended September 30, 2000 and 1999:
Three Months Ended
September 30,
2000 1999
------------ ------------
(Amounts in millions)
EBITDA(as adjusted)......................... $599 $337
The Company defines EBITDA as net income adjusted to exclude: (1)
provision/(benefit) for income taxes, (2) interest income and expense, (3)
depreciation and amortization and (4) special charges and gains on investments.
EBITDA is presented and discussed because the Company considers EBITDA an
important indicator of the operational strength and performance of its business
including the ability to provide cash flows to service debt and fund capital
expenditures. EBITDA, however, should not be considered an alternative to
operating or net income as an indicator of the performance of the Company, or as
an alternative to cash flows from operating activities as a measure of
liquidity, in each case determined in accordance with generally accepted
accounting principles ("GAAP").
For the three months ended September 30, 2000, EBITDA increased from
$337 million to $599 million or 78% over the same period a year ago. This
increase is mainly due to the significant increase in income before taxes
(excluding special charges) from $299 million during the three months ended
September 30, 1999 to $573 million during the three months ended September 30,
2000.
Seasonality
The growth in subscriber acquisitions and usage in the Company's online
services appears to be highest in the second and third fiscal quarters, when
sales of new computers and computer software are highest due to the holiday
season and following the holiday season, when new computer and software owners
are discovering Internet online services while spending more time indoors due to
winter weather.
Since making advertising revenue a key component of the Company's
strategy, the Company has experienced difficulty in distinguishing seasonality
in advertising sales from the overall market growth. Seasonal factors seem to be
mitigated by advertisers' growing interest in the overall online medium, as well
as gaining access to the Company's large and growing subscriber/user base across
multiple branded distribution channels.
Inflation
The Company believes that inflation has not had, and will not have in
the near future, a material effect on its results of operations.
Forward-Looking Statements
This report and other oral and written statements made by the Company
to the public contain and incorporate by reference forward-looking statements
within the meaning of the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995. In particular, statements regarding the following
subjects are forward-looking: the proposed AOL/Time Warner merger; future
financial and operating results; anticipated subscriber, usage, advertising and
commerce growth; new and developing markets, products, services, features and
content; anticipated timing and benefits of acquisitions and other alliances and
relationships; new platforms and access and distribution technologies; and
regulatory developments, including the Company's ability to shape public policy
in, for example, telecommunications, privacy and tax areas.
The forward-looking statements are based on management's current
expectations or beliefs and are subject to a number of factors and uncertainties
that could cause actual results to differ materially from those described in the
forward-looking statements. Some of these factors and uncertainties include:
inability to obtain, or meet conditions imposed for, governmental approvals for
the AOL/Time Warner merger; costs related to the merger; fluctuating market
prices that could cause AOL Time Warner's stock value to be less than the
current AOL or Time Warner stock value; the difficulty the market may have in
valuing the AOL Time Warner business model; the risk that the Company and Time
Warner businesses will not be integrated successfully; the failure of AOL Time
Warner to realize anticipated benefits of the AOL/Time Warner merger; and other
economic, business, competitive and/or regulatory factors affecting the
Company's business generally. For a discussion of other factors that could cause
actual results to differ materially from those described in the forward-looking
statements, please refer to the section entitled "Forward-Looking Statements" in
the Company's Annual Report on Form 10-K for the year ended June 30, 2000.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Market risk is the potential loss arising from adverse changes in
market rates and prices, such as foreign currency exchange, interest rates and a
decline in the stock market. The Company, generally, does not enter into
derivatives or other financial instruments for trading or speculative purposes.
The Company is exposed to immaterial levels of market risk related to changes in
foreign currency exchange rates and interest rates.
The Company is exposed to market risk as it relates to changes in the
market value of its investments. The Company invests in equity instruments of
public companies for business and strategic purposes, most of which are Internet
and technology companies. These securities are subject to significant
fluctuations in fair market value due to the volatility of the stock market and
the industries in which the Company has invested. These securities, which are
classified in "Investments including available-for-sale securities," include
available-for-sale securities, restricted securities and derivatives and hedged
securities. The Company has realized gains and losses from both the sale of
investments, as well as mergers and acquisitions of companies in which the
Company is invested. As of September 30, 2000, the Company had securities
classified as available-for-sale investments with a fair market value of $1,902
million and a cost basis of $1,405 million. Also included in "Investments
including available-for-sale securities" are certain restricted securities with
a cost basis of $1,770 million. In addition, pursuant to the criteria
established in SFAS 133, which the Company adopted as of July 1, 2000,
"Investments including available-for-sale securities" include equity instruments
that are classified as derivatives and equity securities with associated put
options, which are classified as hedges. At September 30, 2000, these securities
had a fair value of $384 million. Changes in the value of these securities are
recorded in other income, or for certain of the derivatives classified as
hedges, in other comprehensive income. Gross unrealized gains of $770 million
and gross unrealized losses of $237 million have been recorded net of deferred
taxes of $208 million as a separate component of stockholders' equity. The
adoption of SFAS 133 by the Company has had no material effect on the Company's
earnings and financial position for the period ending September 30, 2000. The
Company's objective with its investments is to minimize the impact of stock
market declines on the Company's earnings and cash flows. Continued market
volatility, as well as mergers and acquisitions, have the potential to cause a
material non-cash impact on the operating results of the Company in future
periods.
<PAGE>
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds
On July 6, 2000, the Company acquired Prophead Development, Inc. in exchange for
the issuance of 291,667 shares of Company Common Stock. The private placement is
exempt from registration pursuant to Section 4(2) of the Securities Act of 1933,
as amended.
On August 30, 2000, the Company acquired LocalEyes Corporation in exchange for
the issuance of 249,591 shares of Company Common Stock. The private placement is
exempt from registration pursuant to Section 4(2) of the Securities Act of 1933,
as amended.
On August 31, 2000, the Company acquired Quack.com, Inc. in exchange for the
issuance of 3,207,443 shares of Company Common Stock. The private placement is
exempt from registration pursuant to Section 4(2) of the Securities Act of 1933,
as amended.
On August 31, 2000, the Company acquired iAmaze, Inc. in exchange for the
issuance of 821,839 shares of Company Common Stock. The private placement is
exempt from registration pursuant to Section 4(2) of the Securities Act of 1933,
as amended.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
None
(b) Reports on Form 8-K
Form Item # Description Filing Date
---- ------ ----------- -----------
Form 8-K 5, 7 Announced the consummation of the July 17, 2000
acquisition of MapQuest.com, Inc.
<PAGE>
AMERICA ONLINE, INC.
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.
AMERICA ONLINE, INC.
DATE: November 9, 2000 SIGNATURE: /s/Stephen M. Case
------------------------------
Stephen M. Case
Chairman of the Board and
Chief Executive Officer
DATE: November 9, 2000 SIGNATURE: /s/J. Michael Kelly
------------------------------
J. Michael Kelly
Senior Vice President and
Chief Financial Officer
