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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K/A
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
(x) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For Fiscal Year Ended July 31, 1998
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Transition Period From to
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Commission File 0-22846
CMGI, Inc.
(Exact name of registrant as specified in its charter)
Delaware 04-2921333
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
100 Brickstone Square 01810
Andover, Massachusetts
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (978) 684-3600
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
(Title of Class) (Name of each exchange on which registered)
Common Stock, $0.01 par value NASDAQ
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
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of voting Common Stock held by non-affiliates of the
Registrant was $774,291,912 as of October 20, 1998. The Registrant does not have
any outstanding non-voting equity.
On October 20, 1998, the Registrant had outstanding 46,114,892 shares of voting
Common Stock, $.01 par value.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement (the "Definitive Proxy Statement") to
be filed with the Securities and Exchange Commission relative to the Company's
1998 Annual Meeting of Stockholders are incorporated by reference into Part III
of this Report.
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TABLE OF CONTENTS
FORM 10-K/A ANNUAL REPORT
FISCAL YEAR ENDED JULY 31, 1998
CMGI, INC.
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PART I
Item Page
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1. Business..................................................................................... 2
2. Properties................................................................................... 14
3. Legal Proceedings............................................................................ 15
4. Submission of Matters to Vote of Security Holders............................................ 15
PART II
5. Market for Registrant's Common Equity and Related Stockholders Matters....................... 15
6. Selected Consolidated Financial Data......................................................... 16
7. Management's Discussion and Analysis of Financial Condition and Results of Operations........ 17
7A. Quantitative and Qualitative Disclosures About Market Risk................................... 31
8. Financial Statements and Supplementary Data.................................................. 31
9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure......... 58
PART III
10. Directors and Executive Officers of the Registrant........................................... 58
11. Executive Compensation....................................................................... 58
12. Security Ownership of Certain Beneficial Owners and Management............................... 58
13. Certain Relationships and Related Transactions............................................... 58
PART IV
14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.............................. 58
</TABLE>
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This Annual Report on Form 10-K/A ("Report") amends and supersedes, to the
extent set forth herein, the Registrant's Annual Report on Form 10-K for the
fiscal year ended July 31, 1998 previously filed on October 29, 1998. As more
particularly set forth below, the following financial and related information
has been updated in connection with the filing of the restated financial
statements included herein. Additionally, all share amounts of the Registrant's
common stock contained in this Report have been retroactively adjusted to
reflect a 2-for-1 stock split effected by the Registrant in the form of a stock
dividend on January 11, 1999.
This Report contains "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. Such statements are subject
to certain risks and uncertainties, including without limitation, those
discussed in "Factors that May Affect Future Results" section of Item 7 of this
Report. Such forward-looking statements speak only as of the date on which they
are made, and the Company cautions readers not to place undue reliance on such
statements.
PART I
ITEM 1. - BUSINESS
General
CMGI, Inc. ("CMGI" or "the Company", formerly CMG Information Services,
Inc.), a Delaware corporation, develops and operates Internet and direct
marketing companies as well as venture funds focused on the Internet.
CMGI's Internet strategy includes the internal development and operation of
majority-owned subsidiaries within the "CMGI Internet Group" as well as the
investment in other Internet companies, either directly by CMGI, or through
venture capital fund arrangements. The Company's strategy also envisions and
promotes opportunities for synergistic business relationships among the Internet
companies within its portfolio. At July 31, 1998, the CMGI Internet Group
included majority-owned subsidiaries ADSmart Corporation (ADSmart), Engage
Technologies, Inc. (Engage), Accipiter, Inc. (Accipiter), InfoMation Publishing
Corporation (InfoMation), NaviSite Internet Services Corporation (NaviSite),
Planet Direct Corporation (Planet Direct) and Password Internet Publishing
Corporation (The Password). At July 31, 1998, CMGI also directly held minority
investments in Magnitude Network, LLC (Magnitude Network) and Open Market, Inc.
ADSmart develops and markets online ad sales and ad serving solutions; Engage
develops and markets precision online marketing solutions; Accipiter specializes
in Internet advertising management solutions; InfoMation develops and markets a
Web-based solution for corporate knowledge management; The Password provides
tools for the creation of a personalized "mini-Web;" and Planet Direct is a
personalized Web service with over 400 Internet Service Provider (ISP) partners
which tailors members' online experience to their interests and local community.
Subsequent to July 31, 1998, the Company announced that InfoMation would become
a division of Planet Direct and that NaviSite would be split into two separate
companies - NaviSite will continue to provide high-end server management and
applications solutions, providing high-availability Internet outsourcing, and
NaviNet will provide low cost, high-availability dial-up network connection
through competitive local exchange carriers (CLECs).
The Company's first Internet venture fund, its limited liability company
subsidiary, CMG@Ventures I, LLC (CMG@Ventures I, formerly CMG@Ventures L.P.),
was formed in February, 1996. CMGI completed its $35 million commitment to this
fund during fiscal year 1997. The Company owns 100% of the capital and is
entitled to 77.5% of the net capital gains of CMG@Ventures I. At July 31,
1998, CMG@Ventures I held equity investments in five companies, including
Blaxxun Interactive, Inc. (Blaxxun, 81% legal ownership), GeoCities (32%),
Lycos, Inc. (Lycos, 25%), Parable LLC (Parable, 31%), and Vicinity Corporation
(Vicinity, 50%). Lycos and GeoCities shares are publicly traded on the NASDAQ
system under the symbols LCOS and GCTY, respectively. The Company's second
Internet venture fund, its limited liability company subsidiary, CMG@Ventures
II, LLC (CMG@Ventures II), was formed during fiscal year 1997. The Company owns
100% of the capital and is entitled to 80% of the net capital gains of
CMG@Ventures II. At July 31, 1998, CMG@Ventures II held equity investments in
fourteen companies, including Chemdex Corporation (Chemdex 16%), Critical Path
(7%), GeoCities (2%), KOZ, Inc. (KOZ, 14%), Mother Nature's General Store, Inc.
(Mother Nature, 24%), Parable (11%), Reel.com, Inc. (Reel.com, 36%), Sage
Enterprises, Inc. (Sage Enterprises, 29%), Silknet Software, Inc. (Silknet,
24%), Softway Systems, Inc. (Softway Systems, 9%), Speech Machines plc (Speech
Machines, 29%), TicketsLive Corporation (TicketsLive, 14%), Universal Learning
Technology (12%), and Visto Corporation (Visto, 6%). CMG@Ventures II's holdings
in Sage Enterprises and Reel.com were converted into shares of Amazon.com, Inc.
and Hollywood Entertainment Corporation, respectively, pursuant to mergers of
the respective companies subsequent to July 31, 1998.
CMGI recently formed its third venture capital fund, CMG@Ventures III, LLC
(CMG@Ventures III), and has begun raising capital from outside investors for a
corresponding outside investment fund, @Ventures III, L.P. The Company owns
100% of the capital and is entitled to 80% of the net capital gains of
CMG@Ventures III, and will be entitled to 2% of the net capital gains of
@Ventures III, L.P. These two funds will co-invest in all investment candidates
based on a predetermined ratio. CMGI has committed to funding CMG@Ventures III
up to the greater of $30 million or 19.9% of amounts committed to @Ventures III,
L.P.
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The Company provides fulfillment services through three wholly-owned
subsidiaries, SalesLink Corporation (SalesLink, acquired in 1989), InSolutions
Incorporated, (InSolutions, acquired June, 1998), and On-Demand Solutions, Inc.
(acquired July, 1998). SalesLink's services are also provided through its
subsidiary, Pacific Direct Marketing Corporation (Pacific Link), which was
acquired in October, 1996. The Company's fulfillment services offerings include
product and literature fulfillment, turnkey outsourcing, telemarketing, and
sales/lead inquiry management. Traditional mailing list services are provided
by the Company's subsidiary, CMG Direct Corporation (CMG Direct). Recently, CMG
Direct has embarked on a strategy to also provide solutions for integrating
traditional direct marketing with Internet marketing. On March 11, 1999, the
Company announced the signing of a binding agreement to sell CMG Direct to
Marketing Services Group, Inc. (MSGI).
The Company has adopted a strategy of seeking opportunities to realize
significant gains through the selective sale of investments or having separate
subsidiaries or affiliates sell minority interests to outside investors. The
Company believes that this strategy provides the ability to significantly
increase shareholder value as well as provide capital to support the growth in
the Company's subsidiaries and investments. Additionally, in fiscal year 1999,
the Company will continue to develop and refine the products and services of its
businesses, with the goal of significantly increasing revenue as new products
are commercially introduced, and will continue to pursue a strong pace of
investing in new Internet opportunities.
Restatement Related to In-Process Research and Development Expense
The accompanying consolidated financial statements have been restated to
reflect the impact of adjustments made by Lycos, Inc. (Lycos) to its previously
reported in-process research and development charges associated with Lycos'
acquisitions of Tripod, Inc., WiseWire Corporation and GuestWorld, Inc. during
CMGI's third and fourth quarters of fiscal 1998. The accompanying consolidated
financial statements have also been restated to reflect a change in the original
accounting for the purchase price allocation related to CMGI's acquisition of
Accipiter, Inc. (Accipiter) in the third fiscal quarter of 1998.
Lycos reduced the amount of its charges for in-process research and
development in connection with the above noted acquisitions and,
correspondingly, increased the amounts allocated to intangible assets by $74.0
million. During the periods effected, CMGI's ownership in Lycos ranged from
approximately 46% to approximately 22%, and CMGI accounted for its investment in
Lycos under the equity method of accounting, whereby CMGI's portion of the net
operating performance of Lycos was reflected in equity in losses of affiliates.
Additionally, during such periods CMGI recorded gains on sales of portions of
its Lycos stock holdings, and recorded gains on issuances of stock by Lycos. As
a result of the Lycos restatements, CMGI has accordingly restated previously
reported equity in losses of Lycos, gains on sales of Lycos stock and gains on
issuance of stock by Lycos for CMGI's fiscal quarters ended April 30, 1998 and
July 31, 1998. Lycos' reduction of previously recorded in-process research and
development charges resulted in higher gains on Lycos stock issuances recorded
by the Company, thereby increasing CMGI's book basis in its Lycos investment and
resulting in lower gains on sales of Lycos stock and reduced gains on Lycos
stock issuances in subsequent quarters. Related higher amortization charges
recorded by Lycos in subsequent quarters resulted in higher equity in loss of
affiliates amounts recorded by CMGI.
Upon consummation of the Accipiter acquisition in the third fiscal quarter
of 1998, CMGI, in its consolidated financial statements, reported an expense of
approximately $18.0 million representing acquired in-process research and
development that had not yet reached technological feasibility and had no
alternative future use. On May 7, 1999, CMGI announced a voluntary restatement
of the in-process research and development charge related to the Accipiter
acquisition to address valuation methodologies suggested by the SEC in a letter
dated September 9, 1998 to the American Institute of Certified Public
Accountants SEC Regulations Committee and as clarified through subsequent
practice. Upon consideration of this guidance and additional practice that has
developed since the SEC letter was first made public, the $18.0 million charge
as previously reported has been reduced to $9.2 million and amounts allocated to
goodwill and other intangible assets have been increased from $11.5 million to
$20.3 million.
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The effect of this restatement on previously reported consolidated
financial statements as of and for the year ended July 31, 1998 is as follows
(in thousands, except per share amounts):
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Statements of Operations:
Year Ended
July 31, 1998
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As Reported Restated
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Cost of revenues $ 72,843 $ 72,950
In-process research and development 19,135 10,325
General and administrative expenses 20,287 20,795
Operating loss (78,454) (70,259)
Gain on sale of Lycos, Inc. common stock 97,158 92,388
Gain on stock issuance by Lycos, Inc. 28,301 46,285
Equity in losses of affiliates (11,821) (12,871)
Income from continuing operations before income taxes 38,460 58,819
Income tax expense 26,547 31,555
Income from continuing operations 11,913 27,264
Net income 16,553 31,904
Basic income from continuing operations per share 0.29 0.65
Basic net income per share 0.40 0.76
Diluted income from continuing operations per share 0.27 0.61
Diluted net income per share 0.37 0.71
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Balance Sheets:
July 31, 1998
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As Reported Restated
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Investments in affiliates $ 66,187 $ 82,616
Cost in excess of net assets of subsidiaries acquired,
net of accumulated amortization 49,301 55,770
Other assets 2,238 3,964
Total assets 235,194 259,818
Non-current deferred income tax liabilities 10,528 15,536
Minority interest 11,045 15,310
Retained earnings 28,173 43,524
Total stockholders' equity 117,785 133,136
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NOTE: All "As Reported" and "As Restated" amounts in the above table
have been retroactively adjusted to reflect the presentation of the
Company's lists and database services segment as discontinued operations
and to reflect a two-for-one stock split effected in the form of a stock
dividend by the Company on January 11, 1999.
Interactive Marketing Industry
Direct marketing is undergoing rapid, fundamental change, as customers'
needs evolve and technology advances. Marketing channels and media outlets are
expanding in number and diversifying in scope, and powerful database
technologies are able to target both broad markets and individual customers with
ever-greater precision. The emergence of the Internet into homes and offices has
provided direct marketers with a powerful new distribution mechanism -
interactive media. Interactive marketing is a subset of direct marketing. It
differentiates itself from traditional direct marketing channels in that the
consumer has flexibility and control over what is being presented, when they
view the products or services and which types of products or services they are
viewing.
In contrast to conventional media, the Internet offers capabilities to
target advertising to specific audiences, to measure the popularity of content,
to reach worldwide audiences cost-effectively and to create innovative and
interactive advertisements. By collecting customer feedback and demographic
information, advertisers can direct highly customized marketing campaigns at
defined targets. In addition, the Internet enables advertisers to transact with
prospective customers much more rapidly than with conventional media. The
Company believes that advertisers will continue to seek to advertise on Web
sites that offer a high volume of traffic and feature flexible advertisement
programs capable of reaching targeted audiences. Likewise, the Company believes
that as advertisers increasingly embrace the Internet as an advertising vehicle,
their participation will subsidize in part the creation and expansion of the
information and resources available on the Web which in turn is expected to
stimulate further traffic flow.
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Interactive marketing provides direct marketers with the ability to create
electronic databases of customer information. Using this information will
enable direct marketers to develop more effective advertising, make better
decisions about distribution methods and media selection and target customers
more effectively. The dialogue created between the marketer and the consumer
through interactive marketing creates advertising accountability, enabling
marketers to track advertisement interaction, anticipate consumer needs and make
changes immediately. It is expected that across scores of industries, the
relationship between marketers and consumers will soon be direct, and one-to-
one. When that day arrives, marketers will benefit from this newfound ability
to establish deep, intimate relationships with their customers.
Products and Services
Products and services of the Company's majority-owned subsidiaries as of
July 31, 1998 include the following:
Investment and Development
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NaviSite Internet Services Corporation
NaviSite provides the high-performance, Internet outsourcing solutions of
Web hosting and server management, ensuring that a customer's Web presence,
database and applications are continuously operational.
In order to save money and receive better performance, security, and
availability, companies are outsourcing their Internet server management.
NaviSite's carrier-class data centers, private transit Internet connectivity
strategy, advanced monitoring tools, backup power and complete data and network
redundancy ensures that customers or end-users are receiving quality performance
and security. NaviSite monitors and supports the network and its customers'
servers around the clock, and provides detailed reports to its customers
regarding performance, availability, and activity related to their Web sites.
NaviSite's SiteHarbor Web hosting and application solutions provide
customers with the benefits of NaviSite's infrastructure as well as service,
expertise, and customization to fit a customer's unique needs. The SiteHarbor
product line consists of SiteHarbor CL, SiteHarbor MC, SiteHarbor EM and
SiteHarbor Application Solutions. SiteHarbor CL, NaviSite's co-location Web
hosting solution, is a customer-managed option for companies who wish to
maintain full responsibility for the monitoring and maintenance of their servers
while utilizing the benefits of NaviSite's infrastructure. SiteHarbor MC is a
managed co-location Web hosting solution. This option allows customers to
maintain a role in their server maintenance, but also receive management support
from NaviSite. SiteHarbor EM provides enhanced server management capabilities
and offers customers the NaviSite support and Web server management tailored to
the customer's unique needs. SiteHarbor Application Solutions provide hosting
and management solutions for e-commerce, content management and ad-serving
applications.
In addition to the SiteHarbor product line, NaviSite's NaviNet division
focuses on building high quality, cost-effective wholesale dial-up networking
services based on the NaviNet technology platform. NaviNet's product, GeoDial
SP, enables ISPs to rapidly expand into new markets and offer the latest dial-up
technologies to their customers, at a low per-user monthly cost for unlimited
Internet access.
GeoDial SP aggregates multiple calling areas, deploys advanced switch
bypass technology to eliminate busy signals due to port congestion, and relies
on private transit Internet connectivity to bypass congested public peering
points. In addition to building a unique technology solution, NaviNet is
partnering with CLECs, a strategy that enables the offering of data services
with minimal investment. By offering quality, low cost wholesale dial-up
networking services for ISPs, GeoDial SP allows ISPs to focus on end user
acquisition, technical support, and value-added services. ISPs can more easily
grow and retain their subscriber base in an increasingly competitive Internet
service marketplace.
In September, 1998 the Company announced that NaviSite's NaviNet division
would be spun-off as a separate wholly-owned subsidiary of CMGI.
NaviSite has data centers in Andover, MA and Scotts Valley, CA and
currently plans to expand its Andover data center in the near future. NaviSite
currently generates revenues primarily from monthly per-server management fees,
installation fees and bandwidth usage charges. In addition to other customers,
NaviSite manages the Internet servers for many of CMGI's Internet and
interactive media affiliates, including Planet Direct, Engage, Mother Nature and
Parable.
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Engage Technologies, Inc. and Accipiter, Inc.
In fiscal 1998, CMGI purchased Accipiter, Inc., a developer of online
management solutions. In August, 1998, Engage Technologies, Inc. and Accipiter,
Inc. (together, Engage/Accipiter) were combined, providing customers with
integrated advertising management and profiling solutions. Also, in fiscal
1998, Engage transferred its ListLab division to CMG Direct and additionally,
sold certain rights to its Engage.Fusion(TM) and Engage.Discover(TM) data
warehouse products to Red Brick Systems, Inc. (Red Brick). These products had
been developed to accelerate the design and creation of very large data
warehouses and perform high-end data query and analysis. Certain rights were
retained by the company to sell these products to interactive media markets as
components of its Engage/Accipiter product line. With the sale of the certain
data warehouse product rights and transfer of the ListLab division,
Engage/Accipiter narrowed its focus to the Internet software solutions market.
Engage/Accipiter develops and markets Web advertising and marketing
solutions, enabling customers to anonymously profile and reach online audiences.
The company's Web visitor Precision Profiling technology helps customers
increase the relevance of their Web site's advertising, editorial and commercial
content for both first-time and repeat visitors. Engage/Accipiter delivers both
Web-wide and enterprise-specific profiling of visitor interests and preferences
without tracking their identity. Engage/Accipiter sets a benchmark for privacy
on the Web, allowing Web sites to deliver messages to the targeted audiences,
while protecting individual identity. Engage/Accipiter products include the
recently developed Accipiter AdManager, Accipiter AdBureau,
DecisionSupportServer, ProfileServer and Engage Knowledge Profiles.
Accipiter AdManager is a software solution which operates the delivery of
online advertising campaigns. Accipiter AdBureau offers the database marketing
and advertising features of AdManager software as a comprehensive turnkey
service, providing an alternative to organizations who wish to outsource ad
management, yet maintain control over advertising sales. Accipiter AdManager and
Accipiter AdBureau manage the advertising processes for over 90 leading Web
sites and online ad networks.
The DecisionSupportServer software helps online marketers better understand
their Web audiences through detailed analysis and reports, enabling sites to
conduct profile-based research on individual visitors and convert the multi-
layered data into relevant marketing information. The ProfileServer software is
a one-to-one Internet marketing solution, allowing online marketers to offer
personalized advertising, custom promotions and relevant content to their
customers and prospects. Engage/Accipiter's Precision Profiling technology
allows the profiling of each Web visitor to best match the customer's marketing
needs. The Engage Knowledge Profiles provide corporations with the ability to
subscribe to in-depth anonymous profiles of over 30 million Web users to target
advertising, custom promotions or personalized content.
Planet Direct Corporation
Planet Direct is a personal Web service that tailors users' online experience
to their interests and local community. Planet Direct integrates brand name
content, over 27,000 enhanced links to popular content, and other service sites
across 15 major interest areas. Planet Direct provides mainstream consumers
with information such as news, sports, weather, stock quotes and other financial
information, as well as phone directories, driving directions and chat rooms, in
a logical and intuitive manner for quick access to personal interests in a
community atmosphere.
Planet Direct's personal Web service is provided to, and co-branded by, more
than 420 ISPs and affinity partners nationwide. These organizations use Planet
Direct's service to enhance their own Internet offerings, giving the local ISPs,
in particular, the resources to compete with the commercial online services.
Planet Direct's service is available free to the ISPs' and affinity partners'
members, and is also directly accessible to all Web users without disks or
downloads. Planet Direct generates revenues from advertising and commerce on
its service, which it shares with its ISP and affinity partners.
Planet Direct offers advertisers a large demographic database of Internet
customers and usage patterns. Combining technology with member supplied
demographics, Planet Direct is a medium advertisers can use to target consumers
with the information on their topics of interest, at the moment they are
exploring that interest.
In September, 1998, Planet Direct announced the integration of InfoMation's
Echo technology into its operations to serve Planet Direct's customers and
business-to-business partners.
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InfoMation Publishing Corporation
InfoMation seeks to solve the problem of information overload for
companies, their employees and their partners by providing knowledge management
applications. Further developing the core technology acquired under license
from BBN Corporation, InfoMation's Echo software is a Web-based knowledge
management application for filtering, organizing, and presenting information
from a variety of sources to client individuals. Echo uses standard Web
browsers to retrieve and integrate highly focused information to create
customized intranet, Internet and extranet solutions.
In addition to product solutions, its services also include customer support
and training as well as business partnerships. InfoMation has announced
business partnerships with Financial Times Information, Hewlett-Packard, Lotus
Development Corporation, News Alert, Quote.com, and Telecommunications Reports
International, Inc. (TRI).
ADSmart Corporation
ADSmart designs, develops, markets and supports complete sales and serving
solutions to manage the Internet advertising buying and selling processes.
ADSmart participates in the growth of Internet advertising by providing
comprehensive and automated expert sales representation, sales forecasting,
campaign management and revenue reporting to advertisers and Web publishers.
For advertisers, the ADSmart Network, a leading Internet advertising
network, provides direct access to key affinity audiences on quality sites. The
ADSmart Network allows advertisers to associate their brands with quality
content and build unique sponsorship and co-branding relationships. As of the
end of fiscal 1998, the ADSmart Network represented 32 premium sites organized
around key affinity areas (College, Generation X, Sports, Travel,
Business/Finance and Technology). Selected premium properties represented by
the ADSmart Network included Golf.com, The Mountain Zone, GORP and IUMA.
For Web publishers, ADSmart provides outsourced solutions for advertising
sales representation and ad management services. ADSmart Management Services
provides a turnkey solution for Web publishers to manage the infrastructure and
logistics of running an online advertising business.
Password Internet Publishing Corporation
The Password is a Web service that packages content, commerce, community
chat and bulletin boards around specific areas of interest. Organized into a
library of over 630 subjects, The Password allows users to read, personalize and
to publish back into the library. For readers, the Password library organizes
the Web around personal interests. For personalizers, the technology allows
consumers to organize their favorite Web content into a single space. For
publishers, The Password is a place where consumers can share their view on the
Web.
The Password's service includes the features of The Password Library, My Own
Password and Password Publishing. The Password Library features magazines
organizing the Web content on a given subject. Editors select Web sites and
then define instructions for the filtering engine to ensure that pertinent, up-
to-date information is retrieved. In addition, a special interest bulletin
board allows users to access information on their special interest community.
My Own Password allows consumers to collect information in a personalized
magazine. Users can specifically build and define a single, personal gateway on
the most up-to-date information on their interests, reducing the need for
extensive Web surfing. Password Publishing allows users the tools to post their
magazine on a personal Web site, distribute the URL via e-mail or include the
magazine in The Password Library.
The Password uses the core Echo technology developed by CMGI subsidiary,
InfoMation, and is complimentary to a traditional advertising strategy - namely
the desire of advertisers to speak directly to special interest groups which
they already know to be appropriate to their products. The Password offers a
wide range of advertising, sponsorship and co-marketing opportunities for
advertisers to enrich their relationship with consumers and affinity groups.
The company launched its Web site in February 1998. The Password service is
free to its users, with over 150,000 visitors and over 500,000 page views a
month as of October, 1998. The company seeks to generate revenues from
advertising, sponsorships and commerce. The company also syndicates its content
to other highly-visited Web sites.
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Vicinity Corporation
Vicinity is a provider of integrated, e-retail solutions that help
corporations tap into the power of the Internet, to bring Web shoppers to real-
world store locations. Vicinity offers a practical, private-labeled solution
that allows customers to find store locations and products quickly and
conveniently using the Web. Vicinity is located in Palo Alto and San Francisco,
California as well as Lebanon, New Hampshire.
For businesses, Vicinity develops and markets its corporate locator
technology, content and services in four major product lines: Business Finder
4.0, Business Directory, Maps, and Driving Directions. Vicinity's content and
services are delivered to Web users from Vicinity's servers, but appear to
originate on the customers' Web sites under their own brand, look and feel. For
consumer Web audiences, Vicinity offers a free consumer Web site called
MapBlast!
Business Finder 4.0 provides businesses, particularly those with retail
stores, dealerships or franchises with an effective Web-based locator solution
to integrate into their sites to provide proximity and multi-attribute proximity
search capabilities. With the exact address of each of the customer's
locations, Business Finder 4.0 enhances the corporate Web site by allowing
consumers to search for the retail outlet, branch or service provider according
to their specifications (i.e., proximity, keyword, attribute or other). Upon
finding the exact location they are looking for, the consumer can then generate
maps and/or driving directions to get them there.
Business Directory provides up to 16 million U.S. business listings.
Business Directory can be implemented by companies in whole or in part as a
national Yellow Pages application or as a subject or geographically-specific
directory of businesses, events or points of interest.
Vicinity Maps are interactive, high-quality, road-level detailed electronic
maps that customers can incorporate into their Web sites to provide users with
vivid, interactive maps of specific business facilities, landmarks and other
locations of interest. Customer locations can also be plotted on maps with a
logo or other symbol. The U.S. street level maps cover more than 130 major
metropolitan areas. Street-level maps are also available for Canada. Driving
Directions provide point-to-point, turn-by-turn directions to destinations in
metropolitan areas throughout the U.S. and Canada.
MapBlast! enables users to generate interactive maps of residence or
business locations, embed them in home pages and fax or e-mail them to friends
and associates.
Blaxxun Interactive, Inc.
Blaxxun provides software infrastructure for 3-D online communities.
Employing client/server architectures and distributed database technology,
Blaxxun creates a 3-D environment infrastructure that allows individuals to
meet, work, and play on the Web. Blaxxun is located in San Francisco,
California and Munich, Germany.
Blaxxun uses open standards as a key element necessary for the rapid
adoption of cyberspace technology. Virtual Reality Modeling Language, or VRML,
a counterpart to HTML, enables the construction of virtual worlds. Like HTML,
VRML is an open standard architecture that specifies formats and protocols for
all aspects of virtual worlds including 3-D geometry, sound, video, interactive
behavior, and avatars. Blaxxun's products, which include the Blaxxun Community
Server, Community Client software and Developer packages, are VRML-compliant.
The Blaxxun Community Server, a high-performance, multi-user server allows
companies to incorporate interaction into their Web sites, creating user
communities for business, education and entertainment. Key features include
member and place management, avatar and bot support, shared objects and various
types of chat.
In addition, the Blaxxun Community Clients and several Community Developer
software packages, allow integration of community technology with existing
servers and databases. As a Community Client, users are able to access servers
and interact with other users in the virtual 3-D environment. Community
Developer software allows users to create their own customized 3-D virtual
worlds.
Resellers build customer applications using Blaxxun's technology platform
which range from online trade shows to shopping malls, customer support to
entertainment, product promotion to corporate meetings.
8
<PAGE>
Fulfillment Services
- --------------------
SalesLink Corporation
SalesLink, along with its subsidiary, Pacific Link, provides product and
literature fulfillment, inventory and data warehouse management, turnkey
outsourcing, sales lead/inquiry management, closed-loop telemarketing,
customized software solutions and value added services for the client's
marketing or manufacturing programs, primarily to high technology,
biotechnology, financial services, and health-care markets. SalesLink's
largest customer is Cisco Systems, Inc. (Cisco), which accounted for 64% and 47%
of SalesLink's fiscal year 1998 and 1997 revenues, respectively.
Product and Literature Fulfillment. On behalf of its fulfillment clients,
SalesLink receives orders for promotional literature and products and "fulfills"
them by assembling and shipping the items requested. Product and literature
fulfillment services begin with the receipt of orders by SalesLink's inbound
telemarketing staff via phone or electronic transmission directly into
SalesLink's computers. Orders are then generated and presented to the
production floor where fulfillment packages are assembled and shipped to either
the end-user or to a broker or distributor.
Inventory and Data Warehouse Management. As adjunct services to
fulfillment, SalesLink provides product and literature inventory control and
warehousing, offering its customer support and management reports detailing
orders, shipments, billings, back orders and returns.
Turnkey Outsourcing. SalesLink's major products include supply-based
management programs. Also known as "turnkey," these programs are a form of
outsourced manufacturing, in which clients retain SalesLink to purchase
components and manufacture customer bills of materials into products that are
either shipped to customers, channels of distribution, or to the customer's
factory for final manufacturing. These outsourced manufacturing services
primarily assist companies in the areas of accessory kits, software, literature
and promotional products.
Sales Lead/Inquiry Management. SalesLink provides prospects with
information about a product or service that one of SalesLink's clients is
marketing. In response, SalesLink receives sales inquiries and maintains
central customer databases of the names and addresses of each person inquiring
about the product. SalesLink's clients use the databases for market research,
sales follow-up and management reports. Depending on the criteria supplied by
the client, SalesLink eliminates non-productive leads, distributes sales
inquiries to the client's sales force and ships fulfillment packages containing
the client's literature or products. After the disposition of the inquiry,
SalesLink is able to produce reports allowing the client to evaluate the
effectiveness of the marketing program which generated the inquiry and evaluate
the performance of the client's sales force in handling the inquiry.
Telemarketing. SalesLink's telemarketing group offers comprehensive inbound
business-to-business telemarketing services to support its sales inquiry
management and order processing activities. Telemarketing services include lead
qualification, order processing fulfillment and marketing analysis. SalesLink
also offers outbound business telemarketing services that are tailored to an
individual client's needs. Outbound telemarketing programs can be used to
update a client's existing database, survey possible markets or pre-qualify
sales leads.
Customized Software Solutions. SalesLink's proprietary information
management system, SL FlagShip, allows customers to better understand their
sales and product ordering information. Stored at SalesLink and/or available
on customers' file servers and PCs, the information is used by customers to
evaluate inventory, market campaigns, and distribution channel success. SL
FlagShip can solve geomarketing, budget, sales, and media problems through
campaign analysis, market demographics, sales lead and territory management,
source code analysis, market research and surveys.
9
<PAGE>
InSolutions, Inc.
InSolutions was acquired by CMGI in fiscal 1998 as an addition to its
fulfillment services product line. InSolutions is an integrated software
manufacturer providing comprehensive turnkey solutions for clients in the high
technology industry. InSolutions' services include:
. CD-ROM, DVD and diskette replication
. Product packaging and assembly
. Fulfillment
. Print management
. Electronic order processing and software distribution
. Inventory management
. Online operations including remote access to inventory, work-in-progress,
order status and package tracking.
On-Demand Solutions, Inc.
On-Demand Solutions was also acquired by CMGI in fiscal 1998 as an addition
to its fulfillment services product line. On-Demand Solutions provides online
operations logistics solutions, offering outsourced program management that
support all aspects of the "Web to Warehouse to Customer" process, and markets
support programs for the high-tech, scholastic and sports industries. On-
Demand Solutions online operations provide service and support in the following
e-business value chain areas:
. Remote access to bills of material, "see through" inventory, work-in-
progress, order status and online package tracking.
. Online inventory supply and e-mail order confirmation
. Complete turnkey product and software manufacturing and/or assembly services
. Real-time order processing and product fulfillment
. Secure online shopping and payment functionality
. Web site design, hosting and maintenance
. Marketing capabilities including campaign support, online survey/registration
data capture for customer profiling, marketing collateral manufacturing &
fulfillment to prospective clients and customer contact strategies
List and Database Services
- --------------------------
NOTE: On March 11, 1999, the Company announced the signing of a binding
agreement to sell its wholly-owned subsidiary, CMG Direct Corporation (CMG
Direct) to Marketing Services Group, Inc. (MSGI). At the time, CMG Direct
comprised the Company's entire lists and database services segment. As a
result, the operations of the Company's lists and database services segment
have been reflected as income (loss) from discontinued operations in the
accompanying consolidated financial statements.
CMG Direct
CMG Direct offers solutions for integrating traditional direct marketing
and Internet marketing. With extensive experience in direct marketing,
sophisticated database management, analysis and targeted mailing lists, CMG
Direct now provides clients with a range of direct and Internet marketing
services.
CMG Direct's principle products are mailing lists derived from its
databases and sold primarily to publishers. CMG Direct has three primary
mailing list databases, the College List database, the InfoBuyers List database
and the K-12 List database. The databases are highly segmented, permitting CMG
Direct to use its application software to extract specifically defined lists of
potential customers who are most likely to purchase products advertised by CMG
Direct's clients. CMG Direct is continually working to expand the size and
comprehensiveness of its database offerings based on the needs of its clients
and the availability of new lists.
The College List Database. The College List database includes
approximately 812,000 names and addresses of professors and college
administrators, university deans, faculty and librarians at every college,
university and junior college in North America. CMG Direct classifies each
course taught, and the faculty teaching it, into over 4,000 subject codes, which
permits CMG Direct to identify all faculty teaching any particular course or
subject and create lists identifying the faculty so they can be targeted. The
College List is compiled by CMG Direct from course schedules and other source
documents published by colleges and universities and is updated continually for
new semester information.
10
<PAGE>
The InfoBuyers List Database. The InfoBuyers List includes over 14 million
names and addresses of direct mail purchasers of books, journals and magazines,
as well as other pertinent information. The InfoBuyers List is assembled from
over 120 proprietary lists of over 100 publishers and other organizations.
Combining these separate customer lists into a single database permits CMG
Direct to offer its clients a larger group of potential customers across a
broader range of target categories than could be obtained from any single list.
The database is also valuable because it is limited primarily to those consumers
who have actually purchased through mail order and are therefore thought to be
more likely to do so in the future. The InfoBuyers List is segmented under the
same 4,000 subject codes as the College List, plus additional consumer oriented
segmentation.
The Kindergarten through Grade Twelve List Database (K-12 List). The K-12
List database consists of 5.8 million names including teachers, administrators
and book buying families with K-12 children in the U.S. This list also includes
the names of approximately 112,780 public and private schools and approximately
15,300 public school district offices. The K-12 List is segmented into over 30
public school district demographic categories and is used by publishers of
textbooks, supplemental educational materials and magazines and school supply
distributors, among others. The K-12 List is compiled from federal, state and
local government files and the names of school administrators and staff are
developed through state directories, mailings, telephone surveys and the
Internet.
List Management and Brokerage. CMG Direct provides list management and
list brokerage services to businesses that use direct marketing to promote their
products. As a list manager, CMG Direct acts as the exclusive marketing agent
for the postal mailing lists or e-mail lists of its list management clients. In
conjunction with performing list management services, CMG Direct also provides
list brokerage. This service allows CMG Direct to be a single source for
virtually any brokered list requested by a customer and provides opportunity to
generate additional sales of CMG Direct's other products.
Database Management and List Processing Services. CMG Direct's database
management and list processing services provide database analysis, design,
software development, testing, debugging, and maintenance for clients that want
to build a customer database. These services include processing customer data,
segmenting the processed information to provide the level of detail and
selectivity desired, storing the information, and updating it to make it readily
accessible for the client's promotional, analytical and list rental activities.
Lists may be combined and enhanced with additional demographic information and
other lists to form databases which can be used as the basis of additional
client promotions or marketed to other list users. In combining lists, CMG
Direct will offer merge/purge services to eliminate duplicate names. CMG Direct
also offers private database management as a service for large volume mailers
who mail to the same target lists regularly. A private database is a targeted
collection of mailing lists that is used repeatedly by a restricted group of
mailers.
CMGExpress.net(TM). CMGExpress.net(TM) is the Internet expansion
initiative of CMG Direct Corporation. CMGExpress.net leverages CMG Direct's
core competencies through its ExpressList(TM) and PermissionPlus(TM) services.
ExpressList is an opt-in e-mail list service which allows marketers to purchase
e-mail lists online by segments. CMG Direct's list sources are leading Web
sites including InfoBeat, Yoyodyne and Roxy.com. CMG Direct's newest service,
PermissionPlus(TM), is a Web site solution that enables companies to survey
their customers online. It then gives the company the permission and also
ability to e-mail market to their customers. This service is intended to allow
clients to convert passive Web site visitors into buying customers.
Business Strategy
Each CMGI business unit's mission is to become the predominant services
provider within its respective market niche. The critical success factors are:
understanding, developing and applying information technology to the Internet,
interactive media markets, and data access and software tools; narrowing market
focus while consummating strategic alliances to complement product and service
offerings; investing in strategic Internet or interactive media investments or
acquisitions and, most importantly, a continued understanding of customers'
needs.
With respect to the businesses of CMGI, the Company will seek to expand its
participation in the direct marketing products and services, Internet,
interactive media industries, and increase market share. Key elements of this
strategy include:
Continue to enhance and expand the Company's products and services. The
Company has invested significant resources in new subsidiaries or investments
which seek to capitalize on opportunities surrounding the growth of the Internet
and the interactive marketing industry. The Company intends to continue to
pursue the growth and development of its technologies and services and continue
to introduce its products commercially. Additionally, the Company intends to
continue to evaluate new opportunities to further its investment in its direct
marketing strategy and also to seek out opportunities to realize significant
shareholder value through the sale of selected investments or technologies or
having separate subsidiaries sell a minority interest to outsiders.
11
<PAGE>
Pursue innovative advertising solutions. The Company is actively seeking to
develop innovative ways for advertisers to reach their target audiences through
the Internet effectively. The Company designs and offers customized packages
which include the ability to change advertisements quickly and frequently, to
conduct advertising test campaigns with rapid result delivery and to track daily
usage statistics. The Company has developed and will continue developing
software that provides the ability to target ads based on demographics and usage
patterns.
Actively seek growth in the Company's fulfillment services segment. CMGI
intends to continue to pursue the strategy of growing its fulfillment services
segment through gaining market share in its existing markets, through
acquisition, and through developing new IT based products and services for its
client base. During fiscal 1998, CMGI built on its national fulfillment and
turnkey businesses with the acquisitions of InSolutions, a turnkey provider with
diskette and CD ROM manufacturing capabilities; and On-Demand Solutions, a
provider of fulfillment, turnkey and Web-based catalogue and sports e-commerce
services. These two new companies are being integrated with SalesLink's
national turnkey and fulfillment operations, while creating an e-commerce
fulfillment component that will seek to broaden the Company's market potential
in the fast-growing Internet fulfillment industry.
Augment database offerings. The Company has expended significant resources to
develop the most comprehensive and accurate databases of their kind available to
publishers. The Company believes that its College List database is the dominant
list of its kind and that the InfoBuyers List database is the only list of its
kind, complemented by the K-12 List database, which is positioned to be cross
sold to gain market share. The Company intends to maintain or improve its
market position by expanding the number, size, nature, comprehensiveness and
segmentation of its database offerings. The Company also intends to leverage
its traditional direct marketing competencies through its CMGExpress.net(TM)
Internet expansion initiative.
NOTE: On March 11, 1999, the Company announced the signing of a binding
agreement to sell its wholly-owned subsidiary, CMG Direct to Marketing
Services Group, Inc. (MSGI).
Cross-sell products and services. The Company is involved in many aspects of
the direct marketing sales cycle. The Company has experienced success in
fostering the cross-selling of products and services among the businesses and
its portfolio, and will increasingly continue to pursue such cross-selling.
Sales and Marketing
The Company markets its products and services through a marketing staff using
both telemarketing and direct sales. The Company maintains separate marketing
staffs for each product and service area, enabling the marketing personnel to
develop strong customer relationships and expertise in their respective areas.
The Company has established direct sales forces experienced in the advertising
business to address the new and evolving requirements of the Internet
advertising market. The Company believes that an experienced sales staff is
critical to initiating and maintaining relationships with advertisers and
advertising agencies and therefore has hired a significant portion of its
Internet advertising sales force from the advertising industry. The Company
advertises its products and services through direct mail, space advertising,
Internet banners, directory listings, trade shows and Company sponsored user
groups. In addition, in certain instances, the Company, has complemented the
activities of its direct sales force by retaining advertising sales agencies, to
serve as a sales representatives on a commission basis.
The Company attends numerous trade shows in the Internet, high technology,
direct marketing, mutual fund, book, and library markets, while further
supplementing its sales efforts with space advertising and product and services
listings in appropriate directories. In addition, the Company sponsors user
group meetings for its mutual fund clients and major list participants in the
InfoBuyers List database, where new products and services are highlighted.
The Company also conducts numerous mailings of list catalogs, flyers,
newsletters and other product information throughout the year to primarily book,
magazine, journal, newsletter and software publishers and resellers, seminar
companies, professional associations, business supply catalogers, consumer
electronic, high technology and financial service organizations.
NOTE: On March 11, 1999, the Company announced the signing of a binding
agreement to sell its wholly-owned subsidiary, CMG Direct to Marketing
Services Group, Inc. (MSGI).
12
<PAGE>
Competition
CMGI's Internet investments compete in the electronic technology and Internet
service arenas which are comprised of numerous small and large companies
providing different new technologies, all with varying applications. The market
for Internet products and services is highly competitive. In addition, the
Company expects the market for Internet advertising, to the extent it further
develops, to be intensely competitive. Although the Company believes that the
diverse segments of the Internet market will provide opportunities for more than
one supplier of products and services similar to those of the Company, it is
possible that a single supplier may dominate one or more market segments. The
Company believes the principal competitive factors in this market are name
recognition, performance, ease of use, variety of value-added services,
functionality and features and quality of support. CMG's products and services
are being developed predominantly for direct marketing applications, on the
Internet or through interactive media. Competitors would include a wide variety
of companies and organizations, including Internet software, content, service
and technology companies, telecommunication companies, cable companies and
equipment/technology suppliers. In the future, the Company may encounter
competition from providers of Web browser software and other Internet products
and services that incorporate competing features into their offerings. Many of
the Company's existing competitors, as well as a number of potential new
competitors, have significantly greater financial, technical and marketing
resources than the Company.
The Company may also be affected by competition from licensees of its products
and technology. There can be no assurance that the Company's competitors will
not develop Internet products and services that are superior to those of the
Company or that achieve greater market acceptance than the Company's offerings.
Moreover, a number of the Company's current advertising customers, licensees and
partners have also established relationships with certain of the Company's
competitors and future advertising customers, licensees and partners may
establish similar relationships. The Company may also compete with online
services and other Web site operators as well as traditional off-line media such
as print and television for a share of advertisers' total advertising budgets.
There can be no assurance that the Company will be able to compete successfully
against its current or future competitors or that competition will not have a
material adverse effect on the Company's business, results of operations and
financial condition.
CMGI's fulfillment services segment companies have several prominent
competitors for the mutual fund literature fulfillment and turnkey manufacturing
components of its businesses, and also compete with the internal fulfillment and
manufacturing operations of manufacturing and mutual fund companies themselves.
The companies in this segment also compete on the basis of pricing, geographic
proximity to their clients and the speed and accuracy with which orders are
processed. There are also many businesses that compete with SalesLink's,
InSolutions' and On-Demand Solutions' other services.
CMG Direct competes on the basis of the accuracy, size, and comprehensiveness
of its principal databases: the College List and the InfoBuyers List. The
Company believes that the College List is the dominant database of its kind and
has only one competitor, while the K-12 List is a relatively new product
offering that will compete with the same competitor as the College List. The
Company believes that the InfoBuyers List is also the dominant list of its kind.
CMG Direct's database management and list processing services compete with
numerous other service bureaus and compete on the basis of their effectiveness
in processing customer and prospect list databases for publishers.
NOTE: On March 11, 1999, the Company announced the signing of a binding
agreement to sell its wholly-owned subsidiary, CMG Direct to Marketing
Services Group, Inc. (MSGI).
Research and Development
The Company develops and markets a variety of Internet related products and
services, as well as a number of database software technologies. These
industries are characterized by rapid technological development. The Company
believes that its future success will depend in large part on its ability to
continue to enhance its existing products and services and to develop other
products and services which complement existing ones. In order to respond to
rapidly changing competitive and technological conditions, the Company expects
to continue to incur significant research and development expenses during the
initial development phase of new products and services as well as on an on-going
basis.
During fiscal years 1998, 1997 and 1996, the Company expended $19,223,000,
$17,767,000 and $5,412,000, respectively, or 23.5%, 29.6% and 30.5%,
respectively, of net revenues, on research and development. In addition, during
fiscal years 1998, 1997 and 1996, the Company recognized $10,325,000, $1,312,000
and $2,691,000, respectively, of in-process research and development expenses in
connection with acquisitions of subsidiaries and investments in affiliates. See
further discussion of in-process research and development expenses in Item 7
below.
13
<PAGE>
Intellectual Property and Proprietary Rights
The Company regards its software technologies, databases and database
management software as proprietary. CMGI's lists are sold under terms and
conditions which permit the Company's clients to use the list for a single
mailing only and prohibit the further use or resale of the lists or the names
included therein. The Company depends on trade secrets for protection of its
software. It has entered into confidentiality agreements with its management and
key employees with respect to this software, and limits access to, and
distribution of this, and other proprietary information.
NOTE: On March 11, 1999, the Company announced the signing of a binding
agreement to sell its wholly-owned subsidiary, CMG Direct to Marketing
Services Group, Inc. (MSGI).
Employees
As of July 31, 1998, the Company employed a total of 1,024 persons on a full-
time basis. In addition, depending on client demand, the Company utilizes
manpower agencies to contract between 75 and 200 persons on a temporary, part-
time basis. None of the Company's employees are represented by a labor union.
The Company believes that its relations with its employees are good.
Segment Information
Segment information is set forth in Note 3 of the Notes to Consolidated
Financial Statements referred to in Item 8(a) below and incorporated herein by
reference.
Significant Customers
Significant customers information is set forth in Note 2(r) of the Notes to
Consolidated Financial Statements referred to in Item 8(a) below and
incorporated herein by reference.
ITEM 2. - PROPERTIES
Facilities
The location and general character of the Company's principal properties by
industry segment as of July 31, 1998 are as follows:
Lists and Database Services and Corporate Headquarters
- ------------------------------------------------------
The Company leases approximately 34,000 square feet of administrative,
engineering, sales and operations space in Wilmington, Massachusetts, under a
lease which expires in 2000. The Company subleases 14,000 square feet of this
facility to an outside party.
The Company also leases approximately 84,000 square feet of space in
Andover, Massachusetts, under a lease which expires in 2002. This facility
consists of executive office space for the Company's corporate headquarters, as
well as administrative, engineering, sales and operations space for certain
investment and development segment subsidiaries.
Fulfillment Services
- --------------------
The Company's east coast operations are conducted from an approximately
245,000 square foot leased facility in Boston, Massachusetts. The lease for
this facility expires in 1998. The Company has recently leased a 155,000
square foot facility in Charlestown, Massachusetts, under an arrangement
expiring in 2013. The Company plans to occupy the Charlestown space upon
expiration of the Boston lease. Additionally, the Company leases 49,000 square
feet in Wilmington, Massachusetts, under lease arrangements that expire through
2003.
The Company's west coast operations are conducted from leased facilities
totaling approximately 325,000 and 100,000 square feet in Newark and Santa
Clara, California, respectively. The leases for these facilities expire through
2012. Of the Newark, California facility, 39,000 square feet is subleased to an
outside party.
14
<PAGE>
Additionally, the Company leases an approximately 51,000 square foot
operating facility in Bedford Park, Illinois under a lease which expires in
1999.
Investment and Development
- --------------------------
The Company leases the following significant facilities in the investment
and development segment:
- - 22,000 square feet in Andover, Massachusetts, under a lease that expires in
2007.
- - 14,000 square feet in Scotts Valley, California, under a lease that expires
in 2002.
- - 12,000 square feet in Raleigh, North Carolina, under agreements that expire
through 2001.
- - 9,500 square feet in Burlington, Massachusetts, under a lease that expires in
2000.
- - 7,600 square feet in Palo Alto, California, under a lease that expires in
2000.
The facilities in this segment primarily consist of engineering, sales,
operations and administrative offices.
This industry segment also shares a portion of the Company's Andover,
Massachusetts facility described in the Corporate Headquarters section above.
ITEM 3. - LEGAL PROCEEDINGS
The Company is not a party to any material litigation.
ITEM 4. - SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year covered by this Report.
PART II
ITEM 5. - MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
(a) Market information is set forth in Note 18 of the Notes to
Consolidated Financial Statements referred to in Item 8(a) below and
incorporated herein by reference.
(b) On October 20, 1998, there were 374 holders of record of common
stock.
(c) The Company has never paid cash dividends on its common stock, and
the Company has no intention to pay cash dividends in the forseeable future.
(d) On June 16, 1998, the Company issued 370,662 shares of its common
stock to shareholders of InSolutions in consideration for the acquisition of all
of the issued and outstanding shares of capital stock of InSolutions. The shares
issued by the Company are not registered under the Securities Act of 1933, as
amended, and carry restrictions on transfer or sale for a period of one year.
On June 16, 1998, the Company issued 250,142 shares of its common
stock to shareholders of On-Demand Solutions in consideration for the
acquisition of all of the issued and outstanding shares of capital stock of On-
Demand Solutions. The shares issued by the Company are not registered under the
Securities Act of 1933, as amended, and carry restrictions on transfer or sale
for a period of two years.
The shares issued in the above mentioned transactions were issued in
private placements in reliance upon the exemption provided by section 4 (2) of
the Securities Act of 1933.
15
<PAGE>
ITEM 6. - SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth selected consolidated financial
information of the company for the five years in the period ended July 31, 1998.
This selected financial information should be read in conjunction with the
Company's Consolidated Financial Statements and related Notes.
(in thousands, except per share data)
<TABLE>
<CAPTION>
Years ended July 31,
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(Restated)
<S> <C> <C> <C> <C> <C>
Consolidated Statement of Operations Data:
Net revenues $ 81,916 $ 60,056 $ 17,735 $11,091 $ 8,900
Cost of revenues 72,950 34,866 11,215 7,259 5,740
Research and development expenses 19,223 17,767 5,412 -- --
In-process research and development expenses 10,325 1,312 2,691 -- --
Selling, general and administrative expenses 49,677 47,031 16,812 2,722 1,735
-------- -------- -------- ------- -------
Operating income (loss) (70,259) (40,920) (18,395) 1,110 1,425
Interest income (expense), net (870) 1,749 2,691 225 (52)
Gain on sale of Lycos, Inc. common stock 92,388 -- -- -- --
Gain on stock issuance by Lycos, Inc. 46,285 -- 19,575 -- --
Gain on sale of available-for-sale securities 4,174 -- 30,049 4,781 --
Gain on sale of investment in TeleT Communications -- 3,616 -- -- --
Gain on sale of NetCarta Corporation -- 15,111 -- -- --
Gain on dividend distribution of Lycos, Inc. common stock -- 8,413 -- -- --
Other income (expense), net (12,899) (769) (746) (292) --
Income tax benefit (expense) (31,555) (2,034) (17,566) (2,113) (474)
-------- -------- -------- ------- -------
Income (loss) from continuing operations 27,264 (14,834) 15,608 3,711 899
Discontinued operations, net of income taxes 4,640 (7,193) (1,286) 24,504 902
-------- -------- -------- ------- -------
Net income (loss) $ 31,904 $(22,027) $ 14,322 $28,215 $ 1,801
======== ======== ======== ======= =======
Diluted earnings (loss) per share:
Income (loss) from continuing operations $0.61 $(0.39) $0.40 $ 0.10 $ 0.03
Discontinued operations 0.10 (0.19) (0.03) 0.65 0.03
-------- -------- -------- ------- -------
Net income (loss) $0.71 $(0.58) $0.37 $ 0.75 $ 0.06
======== ======== ======== ======= =======
Shares used in computing diluted earnings (loss) per share 45,030 37,716 38,728 37,564 31,168
======== ======== ======== ======= =======
Consolidated Balance Sheet Data:
Working capital $ 12,784 $ 38,554 $ 72,009 $47,729 $ 5,925
Total assets 259,818 146,248 106,105 77,803 10,344
Long-term obligations 5,801 16,754 514 415 23
Stockholders' equity 133,136 29,448 53,992 55,490 8,867
</TABLE>
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ITEM 7. - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The discussion in this report contains forward-looking statements that involve
risks and uncertainties. The Company's actual results could differ materially
from those discussed herein. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed below in "Factors
that May Affect Future Results", as well as those discussed in this section and
elsewhere in this report.
Overview
CMGI, Inc. ("CMGI" or "the Company", formerly CMG Information Services,
Inc.) develops and operates Internet and direct marketing companies and venture
funds focused on the Internet.
CMGI's Internet strategy includes the internal development and operation of
majority-owned subsidiaries within the "CMGI Internet Group" as well as the
investment in Internet companies through venture capital fund arrangements.
The Company's strategy also envisions and promotes opportunities for synergistic
business relationships among the Internet companies within its portfolio. At
July 31, 1998, the CMGI Internet Group included majority-owned subsidiaries
ADSmart Corporation (ADSmart), Engage Technologies, Inc. (Engage), Accipiter,
Inc. (Accipiter), InfoMation Publishing Corporation (InfoMation), NaviSite
Internet Services Corporation (NaviSite), Planet Direct Corporation (Planet
Direct) and Password Internet Publishing Corporation (The Password), along with
a minority investment in Magnitude Network, LLC (Magnitude Network). ADSmart
develops and markets online ad sales and ad serving solutions; Engage develops
and markets precision online marketing solutions; Accipiter specializes in
Internet advertising management solutions; InfoMation develops and markets a
Web-based solution for corporate knowledge management; Password provides tools
for the creation of a personalized "mini-Web;" and Planet Direct is a
personalized Web service with over 400 Internet Service Provider (ISP) partners
which tailors members' online experience to their interests and local community.
Subsequent to July 31, 1998, the Company announced that InfoMation would become
a division of Planet Direct and that NaviSite would be split into two separate
companies - NaviSite will continue to provide high-end server management and
applications solutions, providing high-availability Internet outsourcing, and
NaviNet will provide low cost, high-availability dial-up network connection
through competitive local exchange carriers (CLECs).
The Company's first Internet venture fund, its limited liability company
subsidiary, CMG@Ventures I, LLC (CMG@Ventures I, formerly CMG@Ventures L.P.),
was formed in February, 1996. CMGI completed its $35 million commitment to this
fund during fiscal year 1997. The Company owns 100% of the capital and is
entitled to 77.5% of the net capital gains of CMG@Ventures I. At July 31,
1998, CMG@Ventures I held equity investments in five companies, including
Blaxxun Interactive, Inc. (Blaxxun, 81% legal ownership), GeoCities (32%),
Lycos, Inc. (Lycos, 25%), Parable LLC (Parable, 31%), and Vicinity Corporation
(Vicinity, 50%). Lycos and GeoCities shares are publicly traded on the NASDAQ
system under the symbols LCOS and GCTY, respectively. The Company's second
Internet venture fund, its limited liability company subsidiary, CMG@Ventures
II, LLC (CMG@Ventures II), was formed during fiscal year 1997. The Company owns
100% of the capital and is entitled to 80% of the net capital gains of
CMG@Ventures II. At July 31, 1998, CMG@Ventures II held equity investments in
fourteen companies, including Chemdex Corporation (Chemdex 16%), Critical Path
(7%), GeoCities (2%), KOZ, inc. (KOZ, 14%), Mother Nature's General Store, Inc.
(Mother Nature, 24%), Parable (11%), Reel.com Inc. (Reel.com, 36%), Sage
Enterprises, Inc. (Sage Enterprises, 29%), Silknet Software, Inc. (Silknet,
24%), Softway Systems, Inc. (Softway Systems, 9%), Speech Machines plc (Speech
Machines, 29%), TicketsLive Corporation (TicketsLive, 14%), Universal Learning
Technology (12%), and Visto Corporation (Visto, 6%). CMG@Ventures II's
investments in Sage Enterprises and Reel.com were converted into shares of
Amazon.com, Inc. and Hollywood Entertainment Corporation, respectively, pursuant
to mergers of the respective companies subsequent to July 31, 1998. (See note
19 of Notes to Consolidated Financial Statements.)
CMGI recently formed its third venture capital fund, CMG@Ventures III, LLC
(CMG@Ventures III), and has begun raising capital from outside investors for a
corresponding outside investment fund, @Ventures III, L.P. The Company owns
100% of the capital and is entitled to 80% of the net capital gains of
CMG@Ventures III, and will be entitled to 2% of the net capital gains of
@Ventures III, L.P. These two funds will co-invest in all investment candidates
based on a predetermined ratio. CMGI has committed to funding CMG@Ventures III
up to the greater of $30 million or 19.9% of amounts committed to @Ventures III,
L.P.
The Company provides fulfillment services through three wholly-owned
subsidiaries, SalesLink Corporation (SalesLink, acquired in 1989), InSolutions
Incorporated, (InSolutions, acquired June, 1998), and On-Demand Solutions, Inc.
(acquired July, 1998). SalesLink's services are also provided through its
subsidiary, Pacific Direct Marketing Corporation (Pacific Link), which was
acquired in October, 1996. The Company's fulfillment services offerings include
product and literature fulfillment, turnkey
17
<PAGE>
outsourcing, telemarketing, and sales/lead inquiry management. Traditional
mailing list services are provided by the Company's subsidiary, CMG Direct
Corporation (CMG Direct). Recently, CMG Direct has embarked on a strategy to
also provide solutions for integrating traditional direct marketing with
Internet marketing. On March 11, 1999, the Company announced the signing of a
binding agreement to sell CMG Direct to Marketing Services Group, Inc. (MSGI).
The Company has adopted a strategy of seeking opportunities to realize
significant gains through the selective sale of investments or having separate
subsidiaries or affiliates sell minority interests to outside investors. The
Company believes that this strategy provides the ability to significantly
increase shareholder value as well as provide capital to support the growth in
the Company's subsidiaries and investments. Additionally, in fiscal year 1999,
the Company will continue to develop and refine the products and services of its
businesses, with the goal of significantly increasing revenue as new products
are commercially introduced, and will continue to pursue a strong pace of
investing in new Internet opportunities.
Restatement Related to In-Process Research and Development Expense
The accompanying consolidated financial statements have been restated to
reflect the impact of adjustments made by Lycos, Inc. (Lycos) to its previously
reported in-process research and development charges associated with Lycos'
acquisitions of Tripod, Inc., WiseWire Corporation and GuestWorld, Inc. during
CMGI's third and fourth quarters of fiscal 1998. The accompanying consolidated
financial statements have also been restated to reflect a change in the original
accounting for the purchase price allocation related to CMGI's acquisition of
Accipiter, Inc. (Accipiter) in the third fiscal quarter of 1998.
Lycos reduced the amount of its charges for in-process research and
development in connection with the above noted acquisitions and,
correspondingly, increased the amounts allocated to intangible assets by $74.0
million. During the periods effected, CMGI's ownership in Lycos ranged from
approximately 46% to approximately 22%, and CMGI accounted for its investment in
Lycos under the equity method of accounting, whereby CMGI's portion of the net
operating performance of Lycos was reflected in equity in losses of affiliates.
Additionally, during such periods CMGI recorded gains on sales of portions of
its Lycos stock holdings, and recorded gains on issuances of stock by Lycos. As
a result of the Lycos restatements, CMGI has accordingly restated previously
reported equity in losses of Lycos, gains on sales of Lycos stock and gains on
issuance of stock by Lycos for CMGI's fiscal quarters ended April 30, 1998 and
July 31, 1998. Lycos' reduction of previously recorded in-process research and
development charges resulted in higher gains on Lycos stock issuances recorded
by the Company, thereby increasing CMGI's book basis in its Lycos investment and
resulting in lower gains on sales of Lycos stock and reduced gains on Lycos
stock issuances in subsequent quarters. Related higher amortization charges
recorded by Lycos in subsequent quarters resulted in higher equity in loss of
affiliates amounts recorded by CMGI.
Upon consummation of the Accipiter acquisition in the third fiscal quarter
of 1998, CMGI, in its consolidated financial statements, reported an expense of
approximately $18.0 million representing acquired in-process research and
development that had not yet reached technological feasibility and had no
alternative future use. On May 7, 1999, CMGI announced a voluntary restatement
of the in-process research and development charge related to the Accipiter
acquisition to address valuation methodologies suggested by the SEC in a letter
dated September 9, 1998 to the American Institute of Certified Public
Accountants SEC Regulations Committee and as clarified through subsequent
practice. Upon consideration of this guidance and additional practice that has
developed since the SEC letter was first made public, the $18.0 million charge
as previously reported has been reduced to $9.2 million and amounts allocated to
goodwill and other intangible assets have been increased from $11.5 million to
$20.3 million.
18
<PAGE>
The effect of this restatement on previously reported consolidated
financial statements as of and for the year ended July 31, 1998 is as follows
(in thousands, except per share amounts):
<TABLE>
<CAPTION>
Statements of Operations:
Year Ended
July 31, 1998
-------------
As Reported Restated
----------- --------
<S> <C> <C>
Cost of revenues $ 72,843 $ 72,950
In-process research and development 19,135 10,325
General and administrative expenses 20,287 20,795
Operating loss (78,454) (70,259)
Gain on sale of Lycos, Inc. common stock 97,158 92,388
Gain on stock issuance by Lycos, Inc. 28,301 46,285
Equity in losses of affiliates (11,821) (12,871)
Income from continuing operations before income taxes 38,460 58,819
Income tax expense 26,547 31,555
Income from continuing operations 11,913 27,264
Net income 16,553 31,904
Basic income from continuing operations per share 0.29 0.65
Basic net income per share 0.40 0.76
Diluted income from continuing operations per share 0.27 0.61
Diluted net income per share 0.37 0.71
<CAPTION>
Balance Sheets:
July 31, 1998
-------------
As Reported Restated
----------- --------
<S> <C> <C>
Investments in affiliates $ 66,187 $ 82,616
Cost in excess of net assets of subsidiaries acquired,
net of accumulated amortization 49,301 55,770
Other assets 2,238 3,964
Total assets 235,194 259,818
Non-current deferred income tax liabilities 10,528 15,536
Minority interest 11,045 15,310
Retained earnings 28,173 43,524
Total stockholders' equity 117,785 133,136
</TABLE>
NOTE: All "As Reported" and "As Restated" amounts in the above table
have been retroactively adjusted to reflect the presentation of the
Company's lists and database services segment as discontinued operations
and to reflect a two-for-one stock split effected in the form of a stock
dividend by the Company on January 11, 1999.
Results of Operations
The following table sets forth, for the years indicated, certain items from
the Company's Consolidated Statements of Operations expressed as a percentage of
net revenues.
<TABLE>
<CAPTION>
Fiscal Year Ended July 31,
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Net revenues 100% 100% 100%
Cost of revenues 89 58 63
Research and development expenses 23 30 31
In-process research and development expenses 13 2 15
Selling, general and administrative expenses 61 78 95
---- ---- ----
Operating loss (86) (68) (104)
Other income, net 158 46 291
Income tax expense (39) (3) (99)
---- ---- ----
Income (loss) from continuing operations 33% (25)% 88%
==== ==== ====
</TABLE>
19
<PAGE>
The Company's continuing operations have been classified into two business
segments (i) investment and development and (ii) fulfillment services. (See note
3 of Notes to Consolidated Financial Statements.)
Operating income in the fulfillment services segment was adjusted during
the fourth quarter of fiscal year 1998 to correct prior quarters'
understatements of cost of sales by SalesLink's subsidiary company, Pacific
Link. The cost of sales understatement was caused by estimates used in
determining the material content in cost of sales. As a result, previous
quarterly results had understated cost of sales and overstated inventory. Had
such adjustments been recorded in the period in which they occurred, quarterly
fulfillment services segment operating income (loss) would have been as follows:
<TABLE>
<CAPTION>
Three Months Ended
October 31, January 31, April 30, July 31,
----------- ----------- --------- --------
1997 1998 1998 1998 Total
---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C>
As Reported $1,061,000 $1,149,000 $1,547,000 $(2,313,000) $1,444,000
========== ========== ========== =========== ==========
As Restated $ 279,000 $ 335,000 $ 656,000 $ 174,000 $1,444,000
========== ========== ========== =========== ==========
</TABLE>
Deconsolidation of Lycos, Inc, Beginning November, 1997
During the second fiscal quarter ended January 31, 1998, the Company sold
340,000 shares of Lycos stock on the open market and distributed 216,034 Lycos
shares to the profit members of CMG@Ventures I. Through the sale and
distribution of Lycos shares, the Company's ownership percentage in Lycos was
reduced from just in excess of 50% at October 31, 1997, to below 50% beginning
in November, 1997. As such, starting in November, 1997, the Company began
accounting for its remaining investment in Lycos under the equity method of
accounting, rather than the consolidation method. Prior to these events, the
operating results of Lycos were consolidated within the operating results of the
Company's investment and development segment, and the assets and liabilities of
Lycos were consolidated with those of CMGI's other majority-owned subsidiaries
in the Company's Consolidated Balance Sheets. The Company's historical
consolidated operating results for the fiscal years ended July 31, 1997 and 1996
included Lycos net revenues of $22,253,000 and $5,257,000, respectively, and
Lycos operating losses of ($8,759,000) and ($5,802,000), respectively. The
Company's consolidated operating results for the fiscal quarter ended October
31, 1997 included Lycos net revenues and operating loss of $9,303,000 and
($433,000), respectively. The Company's historical Consolidated Balance Sheets
as of July 31, 1997 and October 31, 1997 included Lycos current assets and
liabilities and total assets and liabilities as follows:
Jul. 31, 1997 Oct. 31, 1997
------------- -------------
Current assets $ 60,745,000 $ 63,935,000
============== ==============
Total assets $ 65,419,000 $ 67,694,000
============== ==============
Current liabilities $ 22,615,000 $ 25,822,000
============== ==============
Total liabilities $ 27,772,000 $ 29,259,000
============== ==============
Sale of Engage Data Warehouse Products, Restructuring of Engage Technologies and
Discontinued Operations
From its inception in August, 1995, through July 31, 1997, the Company's
wholly-owned subsidiary, Engage focused on providing traditional mailing list
maintenance and database services (through its ListLab division), and on
developing data mining, querying, analysis and targeting software products for
use in large database applications. As such, the results of Engage's operations
were classified in the Company's list and database services segment. During the
first quarter of fiscal 1998, Engage sold certain rights to its
Engage.Fusion(TM) and Engage.Discover(TM) data warehouse products to Red Brick
Systems, Inc. (Red Brick) for $9.5 million and 238,160 shares of Red Brick
common stock. These products had been developed to accelerate the design and
creation of very large data warehouses and perform high-end data query and
analysis. Engage retained certain rights to sell Engage.Fusion and
Engage.Discover to interactive media markets as part of its Engage Product
Suite. Additionally, during the first quarter of fiscal year 1998, Engage
transferred its ListLab division to the Company's recently formed subsidiary,
CMG Direct. With the sale of these rights and transfer of its ListLab division,
Engage narrowed its focus to the Internet software solutions market, where it
seeks to help companies individually distinguish, understand and interact with
anonymous prospects and customers in personalized marketing, sales, and service
relationships via the Internet. As a result of this repositioning, beginning in
fiscal year 1998, the operating results of Engage are now classified in the
Company's investment and development segment.
On March 11, 1999, the Company announced the signing of a binding agreement
to sell its wholly-owned subsidiary, CMG Direct to MSGI. At the time, CMG
Direct comprised the Company's entire lists and database services segment. As a
result, the operations of the Company's lists and database services segment have
been reflected as income (loss) from discontinued operations in
20
<PAGE>
the accompanying consolidated financial statements. The gain on sale of certain
data warehouse product rights by Engage in the first quarter of fiscal 1998 has
also been reflected as discontinued operations. These data warehouse products
were developed by Engage during fiscal 1996 and 1997, when Engage was included
in the Company's lists and database services segment. CMG Direct's net assets,
which included accounts receivable, prepaid expenses, net property and
equipment, net goodwill, other assets, accounts payable, accrued expenses and
other liabilities are reported as net current and non-current assets of
discontinued operations at July 31, 1998. Certain prior period amounts in the
consolidated financial statements have been reclassified in accordance with
generally accepted accounting principles to reflect the Company's lists and
database services segment as discontinued operations.
Fiscal 1998 Compared to Fiscal 1997
Net revenues increased $21,860,000, or 36%, to $81,916,000 in 1998 from
$60,056,000 in 1997. The net increase reflects an increase of $27,068,000 in the
Company's fulfillment services segment, partially offset by a decrease of
$5,208,000 for the Company's investment and development segment. The increase
in fulfillment services segment revenues reflects the acquisition of Pacific
Link in October, 1996, the acquisition of InSolutions in June, 1998, and the
subsequent addition of new customers and new turnkey business from existing
customers. The investment and development segment results include $12,950,000
less consolidated revenues from the three months Lycos was consolidated in
fiscal 1998 compared with the twelve months for which Lycos revenues were
included in the prior year. Largely offsetting such decreases was the impact of
consolidating Vicinity's results beginning in the fourth quarter of fiscal year
1997, the impact of the acquisition of Accipiter, Inc. (Accipiter) in April,
1998, and commencement of operations at the Company's NaviSite, Engage, Planet
Direct and ADSmart subsidiaries. The Company believes that its portfolio of
companies will continue to develop and introduce their products commercially,
actively pursue increased revenues from new and existing customers, and look to
expand into new market opportunities. Therefore, absent the impact of the
change in accounting for Lycos, the Company expects to report future revenue
growth.
Cost of revenues increased $38,084,000, or 109%, to $72,950,000 in 1998
from $34,866,000 in 1997, reflecting increases of $26,488,000 and $11,596,000 in
the fulfillment services and investment and development segments, respectively.
In the fulfillment services segment, cost of revenues increased as a result of
revenue increases, and increased as a percentage of net revenues to 84% in
fiscal 1998 from 74% in fiscal 1997. This percentage increase was due to a
shift in mix of services from literature fulfillment towards lower margin
turnkey business, as well as an increase in the material content percentage of
turnkey sales, and operating inefficiencies experienced during a period of high
volume growth. The increase in the investment and development segment primarily
resulted from the commencement of operations at the Company's NaviSite, Engage,
Planet Direct and ADSmart subsidiaries, and the impact of consolidating Vicinity
beginning in fourth quarter fiscal 1997, partially offset by $2,843,000 lower
cost of sales resulting from deconsolidating Lycos beginning in the second
quarter of fiscal year 1998. The start-up of Internet operations at NaviSite,
Engage, Planet Direct and ADSmart, with minimal revenues during early stages,
and the deconsolidation of Lycos are the primary reasons cost of revenues as a
percentage of revenues in the investment and development segment increased from
35% in fiscal 1997 to 106% in fiscal 1998.
Research and development expenses increased $1,456,000, or 8%, to
$19,223,000 in fiscal 1998 from $17,767,000 in fiscal 1997, primarily reflecting
an increase of $1,488,000 in the investment and development segment. Investment
and development segment results include increases associated with the inclusion
of Engage, expenditures for the development of NaviSite's NaviNet technology
platform, the impact of consolidating Vicinity's results beginning in the fourth
quarter of fiscal year 1997, the impact of the acquisition of Accipiter in
April, 1998, and increased development costs for The Password. Partially
offsetting such increases, investment and development segment results include a
$2,868,000 reduction from deconsolidating Lycos, reduced development costs
associated with the progression of Planet Direct, ADSmart and Blaxxun from
initial development stages towards commercial operations, and reductions
associated with NetCarta Corporation (NetCarta), whose results were included
during the first half of fiscal year 1997, but have been excluded since the sale
of NetCarta to Microsoft in January, 1997. In addition, the Company recorded
$10,325,000 of in-process research and development expense during fiscal 1998
related to the Company's acquisition of Accipiter and investments in Speech
Machines, Chemdex and Silknet compared to $1,312,000 in fiscal 1997 related to
investments in Parable and Silknet (See further discussion in "In-Process
Research and Development Charge Related to Acquisition of Accipiter, Inc."
below). The Company anticipates it will continue to devote substantial
resources to product development and that, absent the impact of the Company's
change in accounting for Lycos, these costs may substantially increase in future
periods.
Selling expenses decreased $4,346,000, or 13% to $28,882,000 in 1998 from
$33,228,000 in 1997. The net decrease reflects a decrease of $5,470,000 in the
Company's investment and development segment, partially offset by an increase of
$1,124,000 for the Company's fulfillment services segment. Investment and
development segment results include a $13,651,000 reduction from deconsolidating
Lycos, reduced marketing expenses at Blaxxun, and reductions associated with
NetCarta, FreeMark Communications, Inc. (FreeMark), and GeoCities, whose results
were included during part of fiscal year 1997, but have not been included in
fiscal 1998. These decreases were partially offset by increased sales and
marketing expenses related to several product launches, continued growth of
sales and marketing infrastructures, the addition of Engage to this segment, the
acquisition of Accipiter, and the impact of
21
<PAGE>
consolidating Vicinity's results beginning in the fourth quarter of fiscal year
1997. The fulfillment services segment increase primarily reflects the
acquisitions of Pacific Link in October, 1996 and InSolutions in June, 1998.
Selling expenses decreased as a percentage of net revenues to 35% in fiscal 1998
from 55% in fiscal 1997, primarily reflecting the impacts of the deconsolidation
of Lycos and of increased revenues in the Company's fulfillment services
segment. As the Company's subsidiaries continue to introduce new products and
expand sales, the Company expects to incur significant promotional expenses, as
well as expenses related to the hiring of additional sales and marketing
personnel and increased advertising expenses, and anticipates that, absent the
impact of the Company's change in accounting for Lycos, these costs will
substantially increase in future periods.
General and administrative expenses increased $6,992,000, or 51%, to
$20,795,000 in 1998 from $13,803,000 in 1997. The net increase reflects
increases of $4,618,000 and $2,374,000 in the Company's investment and
development, and fulfillment services segments, respectively. Investment and
development segment results include increases due to the building of management
infrastructures in several of the Company's Internet investments and at the CMGI
corporate level, the addition of Engage and Accipiter to this segment, and the
impact of consolidating Vicinity's results beginning in the fourth quarter of
fiscal year 1997. Such increases were partially offset by a $1,913,000
reduction from deconsolidating Lycos, cost reductions at Blaxxun, and reductions
associated with NetCarta, FreeMark, and GeoCities, whose results were included
during part of fiscal year 1997, but have not been included in fiscal 1998. The
fulfillment services segment increase reflects the acquisitions of Pacific Link
in October, 1996 and InSolutions in June, 1998 and the addition of management
and infrastructure in support of growth in the segment. General and
administrative expenses increased as a percentage of net revenues to 25% in
fiscal 1998 from 23% in fiscal 1997, primarily reflecting the impact of
increased general and administrative expenses in the Company's investment and
development segment, partially offset by increased revenues in the Company's
fulfillment services segment. Absent the impact of the Company's change in
accounting for Lycos, the Company anticipates that its general and
administrative expenses will continue to increase significantly as the Company's
subsidiaries, particularly in the investment and development segment, continue
to grow and expand their administrative staffs and infrastructures.
Interest income decreased $942,000 to $2,426,000 in 1998 from $3,368,000 in
1997, reflecting a $1,590,000 decrease from the deconsolidation of Lycos,
partially offset by increased income associated with higher average corporate
cash equivalent balances compared with prior year. Interest expense increased
$1,677,000 compared with fiscal 1997, primarily due to borrowings incurred to
finance the Company's acquisitions of Pacific Link in October, 1996, and
InSolutions in June, 1998, and the impact of higher average corporate borrowings
related to the Company's $10 million collateralized corporate note payable which
was issued in January, 1997 and increased to $20 million in January, 1998.
Gain on sale of Lycos, Inc. common stock reflects the Company's net gain
realized on the sale of 1,955,015 shares of Lycos stock during fiscal 1998.
Gain on stock issuance by Lycos, Inc. resulted primarily from the issuance of
stock by Lycos in a secondary offering in June, 1998, and from the issuance of
stock by Lycos for the fiscal 1998 acquisitions of Tripod and Wise Wire. Gain
on sale of available-for-sale securities in fiscal 1998 reflects the Company's
net gain realized on the sale of 224,795 shares of Premiere Technologies, Inc.
(Premiere) stock. Gain on sale of investment in TeleT Communications in fiscal
1997 resulted when the Company sold its equity interest in TeleT to Premiere in
exchange for $550,000 and 320,833 shares of Premiere stock in September 1996.
Gain on sale of NetCarta Corporation in fiscal year 1997 reflects the Company's
pre-tax gain on sale of CMG@Ventures' NetCarta subsidiary to Microsoft
Corporation on January 31, 1997. Gain on distribution of Lycos stock in fiscal
1997 resulted from the dividend distribution of 603,000 shares of Lycos common
stock to CMGI shareholders on July 31, 1997.
Equity in losses of affiliates resulted from the Company's ownership in
certain investments that are accounted for under the equity method. Under the
equity method of accounting, the Company's proportionate share of each
affiliate's operating losses and amortization of the Company's net excess
investment over its equity in each affiliate's net assets is included in equity
in losses of affiliates. Equity in losses of affiliates for fiscal 1998 include
the results from the Company's minority ownership in Ikonic Interactive, Inc.
(Ikonic), Parable, Silknet, GeoCities, Reel.com, Speech Machines, Chemdex, Sage
Enterprises, and Mother Nature, and the results from Lycos beginning in
November, 1997. Equity in losses of affiliates for fiscal 1997 included the
results from the Company's minority ownership in TeleT, Vicinity, Ikonic,
Parable, Silknet, GeoCities, and Reel.com. The Company expects its portfolio
companies to continue to invest in development of their products and services,
and to recognize operating losses, which will result in future charges recorded
by the Company to reflect its proportionate share of such losses.
Minority interest decreased to ($28,000) in 1998 from $4,787,000 in 1997,
primarily reflecting the deconsolidation of Lycos results beginning in the
second quarter of fiscal year 1998, and the impact associated with FreeMark and
GeoCities, whose results were included within the Company's consolidated
statements of operations during a portion of fiscal year 1997, but excluded in
fiscal year 1998.
The Company's effective tax rates for fiscal 1998 and 1997 were 54% and
(16%), respectively. The Company's effective tax rate differs materially from
the federal statutory rate primarily due to valuation allowances provided on
certain deferred tax assets, the provision for state income taxes, and non-
deductible goodwill amortization and in-process research and development
charges.
22
<PAGE>
Loss from discontinued operations of lists and database services segment,
net of income taxes, decreased $6,855,000 to ($338,000) in 1998 from
($7,193,000) in 1997 as a result of the transfer of Engage to the Company's
investment and development segment. Gain on sale of data warehouse product
rights occurred in fiscal 1998 when Engage sold certain rights to its
Engage.Fusion(TM) and Engage.Discover(TM) data warehouse products to Red Brick
for $9.5 million and 238,160 shares of Red Brick common stock. These data
warehouse products had been developed by Engage during fiscal 1996 and 1997,
when Engage was included in the Company's lists and database services segment.
In-Process Research and Development Expense Related to Acquisition of Accipiter,
Inc.
CMGI acquired Accipiter on April 8, 1998 for total purchase consideration
of $30.2 million. The portion of the purchase price allocated to in-process
research and development was $9.2 million, or approximately 31% of the total
purchase price. In August, 1998, Accipiter was merged with Engage, a subsidiary
of the Company. At the acquisition date, Accipiter's major in-process project
was the development of AdManager version 4.0, which was intended to provide the
ad serving functionality that customers were requiring as the use of the
Internet rapidly increased and customer Web sites became more complex. In
general, previous AdManager releases did not provide for the fault tolerance,
redundancy and scalability that customers began to seek after AdManager versions
1.0 and 2.0 were released. Accordingly, customers' long-term product needs
required Accipiter to substantially redesign the AdManager architecture (later
released as version 4.0) to develop new technologies in the areas of: (1) fault
tolerance and scalability, (2) an object-oriented user interface, (3)
application programming interfaces and (4) a new report engine.
At the date of the acquisition, management estimated that completion of the
AdManager version 4.0 technology would be accomplished by June 1998. The
initial development effort had commenced in late 1997. At the acquisition date,
the new AdManager technology had not reached a completed prototype stage and
beta testing had not yet commenced. At the time of the Accipiter purchase, the
AdManager version 4.0 project was approximately 71% complete.
The value of in-process research and development was determined using an
income approach. This approach takes into consideration earnings remaining
after deducting from cash flows related to the in-process technology, the market
rates of return on contributory assets, including developed technology,
assembled workforce, working capital and fixed assets. The cash flows are then
discounted to present value at an appropriate rate. Discount rates are
determined by an analysis of the risks associated with each of the identified
intangible assets. The discount rate used for in-process research and
development was 24.5%, a slight premium over the estimated weighted-average cost
of capital of 24%, and the discount rate used for developed technology was 21%.
The resulting net cash flows to which the discount rate was applied are
based on management's estimates of revenues, cost of revenues, research and
development costs, selling and marketing costs, general and administrative
costs, and income taxes from such acquired technology. These estimates are
based on the assumptions set forth below.
Accipiter recorded revenue in 1997 of less than $1 million. Because of the
absence of meaningful historical revenue of Accipiter, management projected
revenue for the initial year of the forecast period based on its assessment of
future market potential and the ability of Accipiter to successfully launch its
new product offering. After the initial year of the forecast period, revenue
was predicted to grow at rates comparable to the growth of Internet users and
online activity and the impact such growth would have on Internet advertising.
These projections are based on management's estimates of the significant growth
in the number of companies engaged in e-commerce (which is supported by
independent market data), the need for e-commerce companies to serve ads over
the Internet, expected trends in technology (such as increased speed of the
Internet, reduced hardware costs and the resulting increase in new Internet
users to whom ads will be served) and the nature and expected timing of new
product introductions by Engage and its competitors. These estimates also
include growth related to the use of certain Accipiter technologies in
conjunction with Engage's products, the marketing and distribution of the
resulting products through Engage's sales force and the benefits of Engage's
incremental financial support and stability.
Engage's estimated cost of sales as a percentage of revenue is expected to
be slightly lower than Accipiter's (classified as support and royalties by
Accipiter) on a stand-alone basis (16% in 1997), as certain fixed costs included
in cost of sales are spread over a larger revenue base and provide for the
realization of efficiencies due to economies of scale through combined
operations. Due to these savings, the estimated cost of sales as a percentage
of revenue is expected to decrease by 1% each year from Accipiter's historical
percentage, to a low of 11% in the fifth forecast year.
Engage's selling, general and administrative costs are expected to be
higher than Accipiter's on an absolute basis, but lower as a percentage of
revenue. Due to the small revenue base in 1997 and the impact of significant
costs associated with building a corporate infrastructure and building a
workforce for future operations, Accipiter's selling, general and administrative
costs in 1997, as a percent of revenue, are not representative of the expected
costs for the combined operations of Engage and Accipiter.
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Efficiencies due to economies of scale through combined operations, such as
consolidated marketing and advertising programs, are expected to be realized
immediately.
Fiscal 1997 Compared to Fiscal 1996
Net revenues increased $42,321,000, or 239%, to $60,056,000 in 1997 from
$17,735,000 in 1996. The increase was attributable to increases of $24,069,000
and $18,252,000 in net revenues for the Company's fulfillment services and
investment and development segments, respectively. The fulfillment services
segment increase was primarily due to the acquisition of Pacific Link on October
24, 1996 as well as the addition of several new SalesLink accounts closed in the
second half of fiscal year 1996. The increase in net revenues for the
investment and development segment primarily reflects increased revenues by
Lycos, (which was a consolidated subsidiary in both fiscal 1997 and 1996), whose
net revenues for the 1997 fiscal year increased by $16,996,000 in comparison
with 1996.
Cost of revenues increased $23,651,000, or 211%, to $34,866,000 in 1997
from $11,215,000 in 1996, due to increases of $18,740,000 and $4,911,000 in the
fulfillment services and investment and development segments, respectively,
resulting from higher revenues. In the fulfillment services segment, cost of
revenues as a percentage of net revenues increased to 74% in 1997 from 65% in
1996 due to the mix of services associated with the acquisition of Pacific Link
at the end of the first quarter of fiscal 1997. In the investment and
development segment, cost of revenues as a percentage of net revenues decreased
to 35% in 1997 from 60% in 1996 due to the ability to spread fixed costs, such
as facilities and equipment costs, over a larger revenue base.
Research and development expenses increased $12,355,000, or 228%, to
$17,767,000 in fiscal 1997 from $5,412,000 in fiscal 1996. The increase
consists primarily of an increase of $12,516,000 in research and development
expenses for the investment and development segment as product development
activities continued at all of the Company's consolidated Internet investments.
The Company recorded $1,312,000 of in-process research and development expenses
related to investments in Parable and Silknet during 1997, compared with
$2,691,000 of in-process research and development expenses recorded in 1996
related to the acquisition of several Internet investments during 1996.
Selling expenses increased $23,935,000, or 258% to $33,228,000 in 1997 from
$9,293,000 in 1996. This increase was primarily attributable to a $22,609,000
selling expense increase in the Company's investment and development segment,
reflecting the sales and marketing efforts related to several product launches
and continued growth of sales and marketing infrastructures by the subsidiaries
of this segment. Also, during 1997, Lycos launched a national television
advertising campaign which contributed to the increased selling expenses in the
investment and development segment. Selling expenses in the fulfillment
services segment increased by $1,326,000 in comparison with 1996 due to the
acquisition of Pacific Link. Selling expenses increased as a percentage of net
revenues to 55% in 1997 from 52% in 1996.
General and administrative expenses increased $6,284,000, or 84%, to
$13,803,000 in 1997 from $7,519,000 in 1996. The investment and development
segment experienced an increase of $4,884,000 due to the addition of management
personnel and administrative infrastructure in several of the Company's Internet
investments. General and administrative expenses in the fulfillment services
segment increased by $1,400,000 in comparison with fiscal 1996 due to the
acquisition of Pacific Link, including approximately $804,000 of goodwill
amortization charges. General and administrative expenses decreased as a
percentage of net revenues to 23% in 1997 from 42% in 1996 due to the
significant increase in net revenues in fiscal year 1997.
Gain on sale of NetCarta Corporation in fiscal 1997 reflects the Company's
pre-tax gain on the sale of this subsidiary to Microsoft Corporation on January
31, 1997. Gain on distribution of Lycos stock in fiscal 1997 resulted from the
dividend distribution of 603,000 shares of Lycos common stock to CMGI
shareholders on July 31, 1997. Gain on sale of investment in TeleT
Communications in fiscal 1997 resulted when the Company sold its equity interest
in TeleT to Premiere in exchange for $550,000 and 320,833 shares of Premiere
stock in September, 1996. Gain on sale of available-for-sale securities in
fiscal 1996 occurred when the Company sold its remaining 1,020,000 shares of
America Online, Inc. common stock in October, 1995. Gain on stock issuance by
Lycos, Inc. in fiscal 1996 arose as a result of the sale of stock by Lycos in an
initial public offering in April, 1996.
Interest income increased $618,000 to $3,368,000 in 1997 from $2,750,000 in
1996. The increase in interest income primarily reflects income earned by Lycos
from the investment of the proceeds of their initial public offering, which
occurred in April 1996, partially offset by the impact of lower corporate cash
balances in fiscal 1997 as compared with fiscal 1996. Interest expense
increased $1,560,000 to $1,619,000 in 1997 from $59,000 in 1996. The increase
in interest expense was primarily due to borrowings incurred to finance the
Company's acquisition of Pacific Link and interest expense related to the
Company's $10,000,000 collateralized corporate note payable to a bank which was
issued in January, 1997.
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Equity in losses of affiliates resulted from the Company's minority
ownership in certain investments that are accounted for under the equity method.
The results for fiscal 1996 reflect five minority investments: FreeMark, Ikonic,
GeoCities, Vicinity and TeleT. During the fourth quarter of fiscal 1996, the
Company increased its ownership in FreeMark and GeoCities above 50% and,
accordingly, began including their operating results in the Company's
consolidated operating results. FreeMark was consolidated through December 1996
when it suspended operations. Equity in losses of affiliates for fiscal 1997
include the results from the Company's minority ownership in Ikonic, Vicinity,
Parable, Silknet, Reel.com and TeleT (through the date of the sale of TeleT in
September 1996). Also, in January 1997, when GeoCities successfully completed
an equity financing round, CMG@Ventures I's ownership in GeoCities decreased
from approximately 61% to approximately 41%, and the Company began accounting
for its investment in GeoCities under the equity method of accounting, rather
than the consolidation method. In the fourth quarter of fiscal 1997, the
Company began consolidating the operating results of Vicinity when the Company's
ownership in Vicinity was increased to above 50%.
Minority interest increased to $4,787,000 in 1997 from $2,169,000 in 1996
reflecting minority interest in net losses of consolidated subsidiaries within
the Company's investment and development segment.
The Company's effective tax rates for fiscal 1997 and 1996 were (16%) and
53%, respectively. The Company's effective tax rate differed from the federal
statutory rates in fiscal years 1997 and 1996 primarily due to valuation
allowances provided on certain deferred tax assets, the provision for state
income taxes, and non-deductible goodwill amortization charges.
Loss from discontinued operations of lists and database services segment,
net of income taxes, increased $5,907,000 to ($7,193,000) in 1997 from
($1,286,000) in 1996 primarily as a result of increased development expenses
associated with Engage's data mining, querying, analysis and targeting products
and services, as well as growth in sales, marketing and administrative
infrastructures at Engage.
Liquidity and Capital Resources
Working capital at July 31, 1998 decreased to $12.8 million compared to
$38.6 million at July 31, 1997, predominately as a result of the expenditure of
cash for operations and the impact of deconsolidating Lycos, offset in large
part by proceeds from sales of Lycos stock. The Company's July 31, 1997
consolidated working capital included Lycos working capital of $38.1 million.
The Company's principal uses of capital during fiscal 1998 were $69.3 million
for funding of continuing operations, primarily those of start-up activities in
the Company's investment and development segment, $34.5 million for investments
in affiliates and acquisitions, largely by CMG@Ventures II in several Internet
companies, and $8.0 million for purchases of property and equipment. The
Company's principal sources of capital during fiscal 1998 were $108.9 million
received from the sale of 1,955,015 shares of Lycos stock, $10.9 million
received from the sale of 2,012,008 CMGI common shares to Intel Corporation
(Intel), $10 million received from the sale of 1,250,000 CMGI common shares to
Sumitomo Corporation (Sumitomo), $9.5 million from the sale of Engage's data
warehouse product rights, and $7.6 million received from the sale of 224,795
shares of Premiere stock. The Company intends to continue to fund existing
and future Internet and interactive media investment and development efforts.
Additionally, at July 31, 1998, the Company had approximately $68 million of
remaining future noncancelable minimum payments under operating leases for its
facilities and certain other equipment.
During fiscal year 1998, the Company completed the acquisition of four
companies for purchase prices valued at a combined total of $53.8 million,
including Accipiter ($30.2 million purchase price in April, 1998), InSolutions
($15.2 million in June, 1998), Servercast ($1million in July, 1998), and On-
Demand Solutions ($7.4 million on July 31, 1998). The combined consideration
for these acquisitions consisted of 3,148,188 shares of the Company's common
stock valued at a total of $44.6 million, $6.7 million in cash, and $2.5 million
financed through sellers' notes. The shares issued by the Company were not
registered under the Securities Act of 1933 and were subject to restrictions on
transferability for periods ranging from six to twenty-four months. The values
of the Company's shares included in the purchase prices of these acquisitions
were recorded net of market value discounts ranging from 12% to 22%, based on
independent appraisal, to reflect the restrictions on transferability.
Additional consideration of up to $2.8 million could be paid related to the
acquisition of InSolutions if certain future performance goals are met. Of the
combined purchase prices of Accipiter and Servercast, $19.4 million was
allocated to goodwill, which will be amortized on a straight-line basis over
five years and $1.9 million was allocated to other intangible assets which will
be amortized on a straight-line basis over periods ranging from 2 to 5 years.
Of the combined purchase prices of InSolutions and On-Demand Solutions, $22.3
million was allocated to goodwill, which will be amortized on a straight-line
basis over fifteen years. Additionally, $9.2 million of the purchase price of
Accipiter was allocated to in-process research and development which was charged
to operations during fiscal 1998.
CMG@Ventures II invested a total of $27.6 million in fifteen companies
during fiscal year 1998, including $100,000 in Blaxxun, $1.8 million in
GeoCities, $200,000 in Vicinity, $3 million in Silknet, $2.1 million in Parable,
$150,000 in KOZ, $3.5 million in Sage Enterprises, $4.6 million in Reel.com,
$1.8 million in Speech Machines, $2.6 million in Chemdex, $2 million in
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Tickets Live, $1 million in Critical Path, $2 million in Mother Nature, $1.5
million in Visto, and $1.25 million in Universal Learning Technology. At July
31, 1998, CMG@Ventures I held equity investments in five companies, including
Blaxxun (81% legal ownership), GeoCities (32%), Lycos (25%), Parable (31%), and
Vicinity (50%). At July 31, 1998, CMG@Ventures II held equity investments in
fourteen companies, including Chemdex (16%), Critical Path (7%), GeoCities (2%),
KOZ (14%), Mother Nature (24%), Parable (11%), Reel.com (36%), Sage Enterprises
(29%), Silknet (24%), Softway Systems (9%), Speech Machines (29%), TicketsLive
(14%), Universal Learning Technology (12%), and Visto (6%). The Company owns
100% of the capital interest and has all voting rights with respect to
CMG@Ventures I and CMG@Ventures II investments. The Company is entitled to 77.5%
and 80% of the net capital gains, as defined, on investments made by
CMG@Ventures I and CMG@Ventures II, respectively. The remaining interest in the
net capital gains on these investments are attributed to profit partners,
including the President and Chief Executive Officer and the Chief Financial
Officer of the Company. The Company is responsible for all operating expenses of
CMG@Ventures I and CMG@Ventures II. CMG@Ventures I's interest in Lycos is
subject to further reduction because CMG@Ventures I is obligated to sell to
Lycos a portion of its shares of common stock of Lycos, as necessary, to provide
for shares issuable upon exercise of options granted by Lycos under its 1995
stock option plan. As of July 31, 1998, (retroactively adjusted to reflect
Lycos' two-for-one stock split affected in August, 1998), CMG@Ventures I was
obligated to sell up to 391,296 shares to Lycos at a price of $0.01 per share
and up to 458,048 shares at prices ranging from $0.14 to $4.80 per share. After
accounting for Lycos shares subject to option funding and shares attributable to
profit partners, approximately 6.5 million Lycos shares, (also on a post-split
basis), were attributable to CMGI as of July 31, 1998. CMG@Ventures II's
investments in Sage Enterprises and Reel.com were converted into shares of
Amazon.com, Inc. and Hollywood Entertainment Corporation, respectively, pursuant
to mergers of the respective companies subsequent to July 31, 1998. (See note 19
of Notes to Consolidated Financial Statements.)
On January 20, 1998, the Company renewed its collateralized corporate
borrowing for an additional term of one year and increased the outstanding
principal amount under this facility from $10 million to $20 million. This
borrowing is secured by 2,511,578 of the Company's shares of Lycos common stock
and is payable in full on January 20, 1999. Under this agreement, the Company
could become subject to additional collateral requirements under certain
circumstances. The Company is considering either seeking the renewal of this
note, or repaying it using future proceeds from the sale of stock of certain
investee companies. SalesLink had an outstanding balance of $6.2 million at
July 31, 1998 and an additional $800,000 reserved in support of outstanding
letters of credit for operating leases. SalesLink also has a $15.5 million bank
term note outstanding as of July 31, 1998, which provides for repayment in
quarterly installments beginning January, 1999 through November, 2002. The
Company's bank borrowing arrangements are subject to normal banking terms and
conditions, including financial covenants requiring the Company or SalesLink to
maintain certain levels of net worth and income, certain financial position
ratios, as well as limitations on indebtedness and capital expenditures. As of
July 31, 1998, SalesLink did not comply with certain covenants of their
borrowing arrangements. SalesLink is working with the bank to cure the non-
compliance, as of July 31, 1998 and prospectively, through waivers or amendments
to the covenant terms. SalesLink has not yet received such waivers or
amendments and, accordingly, all of SalesLink's bank borrowings have been
classified as current liabilities in the July 31, 1998 Consolidated Balance
Sheet.
The Company's consolidated capital expenditures were $8.0 million in fiscal
1998. Concurrent with its growth and the commencement of start-up operations,
the Company has experienced a substantial increase in its capital expenditures
and operating lease arrangements in fiscal year 1998 and anticipates that this
will continue in the future. The Company's accounts receivable, current
deferred revenues, long-term deferred revenues, and minority interest decreased
$4.6 million, $8.7 million, $5.1 million, and $10.2 million, respectively,
primarily as a result of the change in the Company's method of accounting for
Lycos. Investments in affiliates increased $73.5 million, primarily as a result
of the change in the Company's method of accounting for Lycos, the impact of
gains recorded on stock issuances by Lycos, and the investment in new affiliates
during fiscal 1998, partially offset by the impact of the sales of Lycos stock
and the recording of equity in losses of affiliates during the year. Costs in
excess of net assets of subsidiaries acquired, net of accumulated amortization,
in the Company's July 31, 1998 Consolidated Balance Sheet increased $39.1
million in comparison with July 31, 1997, primarily due to $41.7 million of
goodwill recorded relating to the acquisitions of Accipiter, InSolutions,
Servercast and On-Demand Solutions during fiscal 1998, offset by amounts
amortized during fiscal 1998. Accrued income tax liabilities of $10.1 million
at July 31, 1998 reflect current tax payments due, largely as a result of income
earned in fiscal year 1998. Additional paid-in capital increased $74.5 million,
primarily as a result of the issuance of stock for acquisitions and the sales of
stock to Intel and Sumitomo.
Subsequent to fiscal 1998 year-end, in August, 1998, CMG@Ventures II's
holdings in Sage Enterprises were converted into 225,558 shares of restricted
Amazon.com, Inc. common stock as part of a merger wherein Amazon.com, Inc.
acquired Sage Enterprises. CMG@Ventures II had invested $4.5 million in Sage
Enterprises beginning in June, 1997. In October, 1998, CMG@Ventures II's
holdings in Reel.com were converted into 1,943,783 restricted common and 485,946
restricted, convertible preferred shares of Hollywood Entertainment Corporation
(Hollywood Entertainment) as part of a merger wherein Hollywood Entertainment
acquired Reel.com. The Hollywood Entertainment preferred shares are convertible
into common shares on a 1-for-1 basis, subject to approval by Hollywood
Entertainment shareholders. CMG@Ventures II had invested $6.9 million in
Reel.com beginning in July, 1997. Also in October, 1998, in a separate
transaction, the Company purchased 1,524,644 restricted common and
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803,290 restricted, convertible preferred shares of Hollywood Entertainment for
a total purchase price of $31.1 million. The preferred shares are convertible
into common shares on a 1-for-1 basis, subject to approval by Hollywood
Entertainment shareholders.
In August, 1998, the Company's affiliate, GeoCities, completed its initial
public offering of common stock, issuing approximately 5 million shares at a
price of $17.00 per share. The Company, through its subsidiaries, CMG@Ventures
I and II, has invested a total of $5.9 million in GeoCities beginning in
January, 1996. CMG@Ventures I and II own a combined 8.8 million shares of
GeoCities common stock and options to purchase an additional 1 million shares at
a price of $0.89 per share. The Company expects to record a gain on the
issuance of stock by GeoCities during its fiscal quarter ended October 31, 1998,
representing the increase in the book value of the Company's net equity in
GeoCities as a result of the initial public offering. The gain will be recorded
net of the interests attributable to CMG@Ventures I's and II's profit members.
The Company recently formed its third venture capital fund, CMG@Ventures III,
LLC (CMG@Ventures III), and has begun raising capital from outside investors for
a corresponding outside investment fund, @Ventures III, L.P. The Company owns
100% of the capital and is entitled to 80% of the net capital gains of
CMG@Ventures III, and will be entitled to 2% of the net capital gains of
@Ventures III, L.P. These two funds will invest side by side in all investment
candidates. CMGI has committed to fund CMG@Ventures III the greater of $30
million or 19.9% of amounts committed to @Ventures III, L.P.
The Company intends to continue to fund existing and future Internet and
interactive media investment and development efforts, and to actively seek new
CMG@Ventures investment opportunities. The Company believes that existing
working capital and the availability of additional Lycos, GeoCities, Amazon.com
and Hollywood Entertainment shares which could be sold or posted as collateral
for additional loans, will be sufficient to fund its operations, investments and
capital expenditures for the foreseeable future. Additionally, the Company is
currently attempting to raise additional equity capital through private
placement. Should further capital be needed to fund future investment and
acquisition activity, the Company may seek to raise capital through additional
public or private offerings of the Company's or its subsidiaries' stock, or
through debt financings.
Year 2000 Compliance
Many currently installed computer systems and software products are coded
to accept only two digit entries in the date code field. These date code fields
will need to accept four digit entries to distinguish 21st century dates from
20th century dates. As a result, many companies' software and computer systems
may need to be upgraded or replaced in order to comply with such "Year 2000"
requirements. CMGI is in the process of evaluating and correcting the Year 2000
compliance of its proprietary products and services and third party equipment
and software that it uses, as well as its non-information technology systems,
such as building security, voice mail and other systems. The Company's Year
2000 compliance efforts will consist of the following phases: (i) identification
of all software products, information technology systems and non-information
technology systems; (ii) assessment of repair or replacement requirements; (iii)
repair or replacement; (iv) testing; (v) implementation; and (vi) creation of
contingency plans in the event of Year 2000 failures. The Company has
substantially completed phase (i) and has begun phases (ii) and (iii) of its
Year 2000 efforts. The Company expects to complete its Year 2000 compliance
efforts by the end of June, 1999.
To date, the Company has not incurred any material expenditures in
connection with identifying or evaluating Year 2000 compliance issues.
Preliminary estimates regarding expected costs to CMGI for evaluating and
correcting Year 2000 issues are in the range of $3 million to $5 million, but
there can be no assurance that the costs will not exceed such amounts. The
Company's expectations regarding Year 2000 remediation efforts will evolve as it
continues to analyze and correct its systems. The Company has not yet developed
a formal Year 2000-specific contingency plan. The Company expects that a formal
Year 2000 contingency plan will evolve as it completes its Year 2000 compliance
efforts. Failure by the Company to resolve Year 2000 issues with respect to its
proprietary products and services could have a material adverse effect on the
Company's business, results of operations and financial condition. Furthermore,
failure of third-party equipment or software to operate properly with regard to
the year 2000 and thereafter could require CMGI to incur significant
unanticipated expenses to remedy any problems.
Factors That May Affect Future Results
The Company operates in a rapidly changing environment that involves a number
of risks, some of which are beyond the Company's control. Forward-looking
statements in this document and those made from time to time by the Company
through its senior management are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995. Forward-looking
statements concerning the expected future revenues or earnings or concerning
projected plans, performance, product development, product release or product
shipment, as well as other estimates related to future operations are
necessarily only estimates of future results and there can be no assurance that
actual results will not materially differ from expectations. The Company
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undertakes no obligation to publicly release the results of any revisions to
forward-looking statements which may be made to reflect events or circumstances
occurring after the date such statements were made or to reflect the occurrence
of unanticipated events.
Factors that could cause actual results to differ materially from results
anticipated in forward-looking statements include, but are not limited to the
following:
Future Capital Needs - In recent years CMGI has generated significant
operating losses which have been partially funded by gains on sales of its
interests in other companies. In the future, CMGI may need to access outside
sources of financing. There can be no assurance that any such financing will be
available. If such financing is available, furthermore, it may involve issuing
securities senior to the Common Stock or equity financings which are dilutive to
holders of the Common Stock.
Dependence on a Single Customer - During fiscal year 1998 a significant
portion of the Company's revenues were derived from a limited number of
customers, including Cisco Systems, Inc. (Cisco), which accounted for 47% of
total revenues and 61% of fulfillment services segment fiscal year 1998
revenues. While the Company is actively pursuing increasing the number of
fulfillment services customers, the Company believes that its dependence on
Cisco will continue. This concentration of customers may cause net sales and
operating results to fluctuate from quarter to quarter based on Cisco's
requirements and the timing of their orders and shipments. The Company does not
have agreements in place with Cisco to ensure minimum purchase commitments or
exclusivity for purchase of a particular product or service. The Company's
operating results could be materially affected if Cisco were to choose to reduce
its level of orders, were to change to another vendor, were to experience
financial, operational, or other difficulties, or were to delay paying or fail
to pay amounts due to the Company.
Dependence on Continued Growth of the Internet and Internet Infrastructure
- - CMGI's future success is highly dependent upon continued growth in the use of
the Internet generally and, in particular, as a medium for advertising,
marketing, services and commerce. Commercial use of the Internet is at an early
stage of development, and market acceptance of the Internet as a medium for
advertising, information services and commerce is subject to a high level of
uncertainty. The relative effectiveness of the Internet as an advertising
medium as compared to traditional advertising media, for example, has not been
determined. Further, there can be no assurance that the required infrastructure
to support future Internet user and traffic growth or complementary products or
services necessary to make the Internet a viable commercial marketplace will be
developed, or, if they are developed, that the Internet will become a viable
commercial marketplace for products and services such as those offered by CMGI.
If commercial use of the Internet fails to continue to expand, CMGI's business,
results of operations and financial condition would be adversely affected.
Dependence on Key Personnel - CMGI's performance is substantially
dependent on the performance of its executive officers and other key employees
and its ability to attract, train, retain and motivate high quality personnel,
especially highly qualified technical and managerial personnel. The loss of the
services of any of its executive officers or key employees could have a material
adverse effect on its business, results of operations or financial condition.
Competition for talented personnel is intense, and there can be no assurance
that CMGI will be able to continue to attract, train, retain or motivate other
highly qualified technical and managerial personnel in the future.
Privacy Issues with Cookies - CMGI's Internet services use "cookies" to
deliver targeted advertising and marketing initiatives, help compile demographic
information about users and limit the frequency with which an ad is shown to a
user. Cookies are bits of information keyed to a specific computer hard drive
and passed to an Internet site server automatically without the user's knowledge
or consent, but can be removed by the user at any time through the modification
of the user's browser settings. Due to privacy concerns, Germany has imposed
laws restricting the use of cookies, and several Internet commentators,
advocates and governmental bodies have suggested that the use of cookies be
restricted or eliminated. In addition, certain currently available Internet
browsers readily allow a user to delete cookies or prevent cookies from being
stored on the user's drive. Any reduction or limitation in the use of cookies
could limit the effectiveness of CMGI's ad targeting and marketing initiatives
which could result not only in reduced marketplace demand for products and
services offered by CMGI to operators of Web sites, but also in CMGI
experiencing lower rates for its advertisements which could have a material
adverse effect on CMGI's business, results of operations and financial
condition.
Government Regulation and Legal Uncertainties - CMGI is not currently
subject to direct regulation by any government agency, other than regulations
applicable to businesses generally. However, governmental regulators may apply
such regulations to Internet activities. There are currently few laws or
regulations directly applicable to access to or commerce on the Internet. Due
to increasing popularity and use of the Internet, however, it is possible that a
number of laws and regulations may be adopted with respect to the Internet,
covering issues such as user privacy, pricing, characteristics and quality of
products and services. The adoption of any additional laws or regulations may
also decrease the growth of the Internet, which could in turn decrease the
demand for CMGI's products and services or could increase CMGI's cost of doing
business. Moreover, the applicability to the Internet of a range of existing
laws in domestic and international jurisdictions governing issues such as
commerce, taxation, property ownership, defamation and personal privacy is
uncertain and will likely evolve over the course of many years. Any such new
legislation or
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regulation or application or interpretation of existing laws, including tax
laws, could have an adverse effect on CMGI's business, results of operations and
financial condition.
Rapid Change in Technology and Distribution Channels - Because the use of
the Internet as a commercial medium is relatively recent and continues to
evolve, the market for CMGI's products and services is characterized by rapidly
changing technology, evolving industry standards, frequent new product and
service introductions, shifting distribution channels, and changing customer
demands. Accordingly, CMGI's future success will depend on its ability to adapt
to this rapidly evolving marketplace. There can be no assurance that CMGI will
be able to adequately adapt its products and services or to acquire new products
and services that can compete successfully or that CMGI will be able to
establish and maintain effective distribution channels. Failure to maintain
competitive product and service offerings and distribution channels would have
an adverse affect on CMGI's business, results of operations and financial
condition. In addition, responding to these rapid technological changes could
require substantial expenditures by CMGI, and there can be no assurance that
such expenditures will yield a positive investment return.
Intense Competition - The market for Internet products and services is
highly competitive and lacks significant barriers to entry. CMGI expects
competition to intensify in the future. Numerous well-established companies and
smaller entrepreneurial companies are focusing significant resources on
developing and marketing products and services that will compete with CMGI's
products and services. There can be no assurance that CMGI will be able to
compete successfully or that competitive pressures, including possible downward
pressure on the prices it charges for its products and services, will not
adversely affect its business, results of operations and financial condition.
Risks Inherent to CMGI's Acquisition Strategy - CMGI has in the past, and
intends in the future, to expand through the acquisition of businesses,
technologies, products and services, such as the recent acquisitions of
Accipiter, InSolutions and On-Demand Solutions. Acquisitions may result in the
potentially dilutive issuance of equity securities, the incurrence of additional
debt, the write-off of in-process research and development of software
acquisition and development costs, and the amortization of goodwill and other
intangible assets. For example, for the year ended July 31, 1998, the Company
recorded in-process research and development expense of approximately $10.3
million, primarily in connection with the acquisition of Accipiter. In
September, 1998, a representative of the Securities and Exchange Commission (the
SEC) advised the American Institute of Certified Public Accountants with respect
to factors to be considered in the valuation of in-process research and
development. Although the release of this new guidance presents the potential
risk of adjustments to reported amounts, if the Company's valuation methodology
were to be challenged by the SEC, the Company believes that its recorded in-
process research and development expenses were determined in compliance with
such guidance. Any such adjustment could result in an increase in the amount of
goodwill recorded, which would result in higher amortization expenses and,
therefore, adversely affect the Company's operating results. Further,
acquisitions involve a number of special problems, including difficulty
integrating technologies, operations and personnel and diversion of management
attention in connection with both negotiating the acquisitions and integrating
the assets. There can be no assurance that CMGI will be successful in
addressing such problems. In addition, growth associated with numerous
acquisitions places significant strain on CMGI's managerial and operational
resources. CMGI's future operating results will depend to a significant degree
on its ability to successfully manage growth and integrate acquisitions.
Furthermore, many of CMGI's investments are in early-stage companies, with
limited operating histories and limited or no revenues; there can be no
assurance that CMGI will be successful in developing such companies.
Uncertainties Associated with Selling Assets - A significant element of
CMGI's business plan involves selling, in public or private offerings, portions
of the companies it has acquired and developed. CMGI's ability to engage in any
such transactions, the timing of such transactions and the amount of proceeds
from such transactions are dependant on market and other conditions largely
beyond CMGI's control. Accordingly, there can be no assurance that CMGI will be
able to engage in such transactions in the future or that when CMGI is able to
engage in such transactions they will be at favorable prices. If CMGI were
unable to liquidate portions of its portfolio companies at favorable prices,
CMGI's business, financial condition and results of operations would be
adversely affected.
Fluctuating Value of Certain Stock Assets - A portion of the Company's
assets includes the equity securities of both publicly traded and non-publicly
traded companies. Such assets include a large number of shares of common stock
of Lycos and GeoCities, both publicly traded companies. Fluctuations in the
market price and valuations of the Company's holdings in such other companies,
which are partially dependent on market and other conditions that are beyond the
Company's control, may result in fluctuations of the market price of the
Company's Common Stock.
Management of Growth - CMGI's growth has placed, and is expected to
continue to place, a significant strain on CMGI's managerial, operational and
financial resources. Further, as the number of CMGI's users, advertisers and
other business partners grows, CMGI is required to manage multiple relationships
with various customers, strategic partners and other third parties. These
requirements will be exacerbated in the event of further growth of CMGI or in
the number of its strategic relationships or sponsorship arrangements. There
can be no assurance that CMGI's systems, procedures or controls will be adequate
to support CMGI's
29
<PAGE>
operations or that CMGI management will be able to achieve the rapid execution
necessary to successfully offer its services and implement its business plan.
CMGI's future operating results will also depend on its ability to expand its
sales and marketing organization and expand its support organization
commensurate with the growth of its business and the Internet. If CMGI is unable
to manage growth effectively, CMGI's business, results of operations and
financial condition will be adversely affected.
Risks Associated with Brand Development - The Company believes that
establishing and maintaining its brand names is a crucial aspect of its effort
to continue to expand and attract Internet business and that the importance of
brand recognition will increase in the future due to the growing number of
Internet companies. Promotion and enhancement of the Company's brand names will
depend largely on the Company's ability to provide consistently high-quality
products and services, which cannot be assured. If consumers do not perceive
the Company's existing products and services to be of high quality, or if the
Company introduces new products and services or enters into new business
ventures that are not favorably received by consumers, the value of the
Company's brand names could be diminished.
Dependence on Third-Party Relationships - CMGI is currently, and expects to
be in the future, dependent on a number of third-party relationships. These
relationships include arrangements relating to the creation of traffic on CMGI-
affiliated Web sites and resulting generation of advertising and commerce-
related revenue. The termination of, or the failure of such CMGI-affiliated Web
sites to renew on reasonable terms, such relationships could have an adverse
effect on CMGI's business, results of operations and financial condition. CMGI
also is generally dependent on other third-party relationships with advertisers,
sponsors and partners. Most of these arrangements do not require future minimum
commitments to use CMGI's services, are often not exclusive and are often short-
term or may be terminated at the convenience of the other party. There can be
no assurance that these third parties will not reassess their commitment to CMGI
at any time in the future, or that they will not develop their own competitive
services or products. Further, there can be no assurance that the services of
these companies will achieve market acceptance or commercial success and
therefore there can be no assurance that CMGI's existing relationships will
result in sustained or successful business partnerships or significant revenues
for CMGI.
Fluctuations in Quarterly Results - CMGI's operating results have
fluctuated widely on a quarterly basis during the last several years, and the
Company expects to experience significant fluctuations in future quarterly
operating results. Such fluctuations have been, and may in the future be,
caused by numerous factors, many of which are outside CMGI's control, including
demand for CMGI's products and services, incurrence of costs associated with
acquisitions, divestitures and investments, the timing of divestitures, market
acceptance of new products and services, specific economic conditions in the
Internet and direct marketing industries, and general economic conditions. The
emerging nature of commercial use of the Internet makes predictions concerning
future revenues difficult. CMGI believes that period-to-period comparisons of
its results of operations will not necessarily be meaningful and should not be
relied upon as indicative of future performance.
Computer Operations - The Company's operations are dependent in part upon
its ability to protect its computer operating systems against physical damage
from fire, floods, earthquakes, power loss, telecommunications failures, break-
ins and similar events. The Company's data centers are equipped with generator
back up equipment, multiple fiber lines and other liquid and fire protection
systems for protection in case of disaster. Despite the implementation of
physical and network security measures by the Company, its servers are also
vulnerable to computer viruses, break-ins and similar disruptive problems. The
occurrence of any of these events could result in interruptions, delays or
cessations in service to users of the Company's products and services which
could have a material adverse effect on the Company's business, results of
operations and financial condition.
Dependence on Proprietary Rights; Risk of Infringement - CMGI's success
depends in part on its proprietary technology and its ability to protect such
technology under applicable patent, trademark, copyright and trade secret laws.
Accordingly, CMGI seeks to protect the intellectual property rights underlying
its products and services by filing applications and registrations, as
appropriate, and through its agreements with employees, suppliers, customers and
partners. However, there can be no assurance that measures adopted by CMGI to
protect its proprietary technology will prevent infringement or misappropriation
of such technology. Further, legal standards relating to the validity,
enforceability and scope of protection of certain proprietary rights in the
context of the Internet industry currently are not resolved. CMGI licenses
certain components of its products and services from third parties. The failure
by CMGI to maintain such licenses, or to find replacement components in a timely
and cost effective manner, could have a material adverse effect on CMGI's
business, results of operation and financial condition. From time to time CMGI
has been, and expects to continue to be, subject to claims in the ordinary
course of its business, including claims of alleged infringement of intellectual
property rights of third parties by CMGI. Any such claim could subject CMGI to
significant liability for damages and could result in invalidation of CMGI's
proprietary rights and, even if not meritorious, could be time-consuming and
expensive to defend, and could result in the diversion of management time and
attention, any of which could have an adverse effect on CMGI's business, results
of operations or financial condition.
30
<PAGE>
ITEM 7A. - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The carrying values of financial instruments including cash and cash
equivalents, accounts receivable, accounts payable and notes payable,
approximate fair value because of the short maturity of these instruments. The
carrying value of long-term debt approximates its fair value, as estimated by
using discounted future cash flows based on the Company's current incremental
borrowing rates for similar types of borrowing arrangements.
The Company uses derivative financial instruments primarily to reduce
exposure to adverse fluctuations in interest rates on its borrowing
arrangements. The Company does not enter into derivative financial instruments
for trading purposes. As a matter of policy all derivative positions are used
to reduce risk by hedging underlying economic exposure. The derivatives the
Company uses are straightforward instruments with liquid markets. At July 31,
the Company was primarily exposed to the London Interbank Offered Rate (LIBOR)
interest rate on the outstanding borrowings under its line of credit and other
bank borrowing arrangements. Information about the Company's borrowing
arrangements including principal amounts and related interest rates appears in
Note 12 to the Consolidated Financial Statements included herein.
The Company has historically had very low exposure to changes in foreign
currency exchange rates, and as such, has not used derivative financial
instruments to manage foreign currency fluctuation risk. As the Company expands
globally, the risk of foreign currency exchange rate fluctuation may
dramatically increase. Therefore, in the future, the Company may consider
utilizing derivative instruments to mitigate such risks.
ITEM 8. - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
(a) Consolidated Financial Statements:
Page
----
Independent Auditors' Report 32
Consolidated Balance Sheets as of July 31, 1998
(Restated) and 1997..................................... 33
Consolidated Statements of Operations for the three
years ended July 31, 1998 (Restated), 1997 and 1996..... 34-35
Consolidated Statements of Stockholders' Equity for
the three years ended July 31, 1998 (Restated), 1997
and 1996................................................ 36
Consolidated Statements of Cash Flows for the three years
ended July 31, 1998 (Restated), 1997 and 1996........... 37
Notes to Consolidated Financial Statements (Restated)....... 38-57
(b) Selected Quarterly Financial Data (unaudited) is set forth in Note 18 of
the Notes to Consolidated Financial Statements (Restated) referred to in
Item 8 (a) above and incorporated herein by reference.
31
<PAGE>
INDEPENDENT AUDITORS' REPORT
----------------------------
The Board of Directors
CMGI, Inc. (formerly "CMG Information Services, Inc."):
We have audited the accompanying consolidated balance sheets of CMGI, Inc. and
subsidiaries as of July 31, 1998 and 1997, and the related consolidated
statements of operations, stockholders' equity and cash flows for each of the
years in the three-year period ended July 31, 1998. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
consolidated financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of CMGI, Inc. and
subsidiaries as of July 31, 1998 and 1997, and the results of their operations
and their cash flows for each of the years in the three-year period ended July
31, 1998, in conformity with generally accepted accounting principles.
/s/ KPMG LLP
KPMG LLP
Boston, Massachusetts
September 22, 1998, except for Note 19
which is as of October 27, 1998, and except
for the restatement referred to in Notes 2, 3
and 14, as to which the date is May 7, 1999.
32
<PAGE>
CMGI, Inc. and Subsidiaries
Consolidated Balance Sheets
(in thousands, except share and per share amounts)
<TABLE>
<CAPTION>
July 31,
1998 1997
---- ----
(Restated)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 61,537 $ 59,762
Available-for-sale securities 5,764 5,945
Accounts receivable, trade, less allowance for doubtful
accounts of $900 and $946 in 1998 and 1997 21,431 26,055
Inventories 8,250 3,077
Prepaid expenses 2,991 5,738
Net current assets of discontinued operations 482 1,225
Other current assets 2,364 2,798
-------- --------
Total current assets 102,819 104,600
-------- --------
Property and equipment 20,990 11,981
Less accumulated depreciation and amortization 7,587 5,351
-------- --------
Net property and equipment 13,403 6,630
-------- --------
Investments in affiliates 82,616 9,160
Costs in excess of net assets of subsidiaries acquired, net of accumulated
amortization of $3,379 in 1998 and $878 in 1997 55,770 16,680
Net non-current assets of discontinued operations 1,246 5,482
Other assets 3,964 3,696
-------- --------
$259,818 $146,248
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Notes payable $ 27,656 $ 22,494
Current installments of long-term debt 16,594 3,221
Accounts payable 10,809 9,830
Accrued income taxes 10,085 --
Accrued expenses 18,731 16,405
Deferred revenues 4,932 13,665
Other current liabilities 1,228 431
-------- --------
Total current liabilities 90,035 66,046
-------- --------
Long-term debt, less current installments 1,373 9,550
Long-term deferred revenues -- 5,100
Deferred income taxes 15,536 8,481
Other long-term liabilities 4,428 2,104
Minority interest 15,310 25,519
Commitments and contingencies
Stockholders' equity:
Preferred stock, $0.01 par value per share. Authorized 5,000,000 shares; none issued -- --
Common stock, $0.01 par value per share. Authorized 100,000,000 shares; issued and
outstanding 46,067,886 shares at July 31, 1998 and 38,638,172 shares at July 31, 1997 461 386
Additional paid-in capital 91,029 16,590
Net unrealized gain (loss) on available-for-sale securities (436) 852
Deferred compensation (1,442) --
Retained earnings 43,524 11,620
-------- --------
Total stockholders' equity 133,136 29,448
-------- --------
$259,818 $146,248
======== ========
</TABLE>
see accompanying notes to consolidated financial statements
33
<PAGE>
CMGI, Inc. and Subsidiaries
Consolidated Statements of Operations
<TABLE>
<CAPTION>
(in thousands, except per share amounts) Years ended July 31,
1998 1997 1996
---- ---- ----
(Restated)
<S> <C> <C> <C>
Net revenues $ 81,916 $ 60,056 $ 17,735
Operating expenses:
Cost of revenues 72,950 34,866 11,215
Research and development 19,223 17,767 5,412
In-process research and development 10,325 1,312 2,691
Selling 28,882 33,228 9,293
General and administrative 20,795 13,803 7,519
-------- -------- --------
Total operating expenses 152,175 100,976 36,130
-------- -------- --------
Operating loss (70,259) (40,920) (18,395)
-------- -------- --------
Other income (deductions):
Interest income 2,426 3,368 2,750
Interest expense (3,296) (1,619) (59)
Gain on sale of Lycos, Inc. common stock 92,388 -- --
Gain on stock issuance by Lycos, Inc. 46,285 -- 19,575
Gain on sale of available-for-sale securities 4,174 -- 30,049
Gain on sale of investment in TeleT Communications -- 3,616 --
Gain on sale of NetCarta Corporation -- 15,111 --
Gain on dividend distribution of Lycos, Inc. common stock -- 8,413 --
Equity in losses of affiliates (12,871) (5,556) (2,915)
Minority interest (28) 4,787 2,169
-------- -------- --------
129,078 28,120 51,569
-------- -------- --------
Income (loss) from continuing operations before income taxes 58,819 (12,800) 33,174
Income tax expense 31,555 2,034 17,566
-------- -------- --------
Income (loss) from continuing operations 27,264 (14,834) 15,608
Discontinued operations, net of income taxes:
Loss from operations of lists and database services segment (338) (7,193) (1,286)
Gain on sale of data warehouse product rights 4,978 -- --
-------- -------- --------
Net income (loss) $ 31,904 $(22,027) $ 14,322
======== ======== ========
</TABLE>
34
<PAGE>
CMGI, Inc. and Subsidiaries
Consolidated Statements of Operations -- (Continued)
<TABLE>
<CAPTION>
(in thousands, except per share amounts) Years ended July 31,
1998 1997 1996
---------- -------- --------
(Restated)
<S> <C> <C> <C>
Earnings (loss) per share:
Basic:
Income (loss) from continuing operations $ 0.65 $ (0.39) $ 0.43
Loss from discontinued operations of lists and database services segment (0.01) (0.19) (0.03)
Gain on sale of data warehouse product rights 0.12 -- --
------- ------- -------
Net income (loss) $ 0.76 $ (0.58) $ 0.40
======= ======= =======
Diluted:
Income (loss) from continuing operations $ 0.61 $ (0.39) $ 0.40
Loss from discontinued operations of lists and database services segment (0.01) (0.19) (0.03)
Gain on sale of data warehouse product rights 0.11 -- --
------- ------- -------
Net income (loss) $ 0.71 $ (0.58) $ 0.37
======= ======= =======
Weighted average shares outstanding:
Basic 41,666 37,716 36,016
======= ======= =======
Diluted 45,030 37,716 38,728
======= ======= =======
</TABLE>
see accompanying notes to consolidated financial statements
35
<PAGE>
CMGI, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
(in thousands, except share amounts)
<TABLE>
<CAPTION>
Net unrealized
Additional gain (loss) on
Common paid-in available-for-sale Deferred
stock capital securities compensation
----- ------- ---------- ------------
<S> <C> <C> <C> <C>
Balance at July 31, 1995
(35,354,880 shares) $354 $ 6,796 $ 18,005 $ --
Net income -- -- -- --
Issuance of common stock
(1,312,108 shares) 13 358 -- --
Tax benefit of stock option exercises -- 695 -- --
Effect of subsidiaries' equity
transactions -- 1,119 -- --
Sale of available-for-sale securities -- -- (18,005) --
---- ------- -------- ----------------
Balance at July 31, 1996
(36,666,988 shares) 367 8,968 -- --
Net loss -- -- -- --
Dividend of Lycos, Inc. common
Stock -- -- -- --
Net unrealized gain on
available-for-sale securities -- -- 852 --
Purchase of treasury stock
(400,000 shares) -- -- -- --
Issuance of common stock
(2,371,184 shares) 19 7,167 -- --
Tax benefit of stock option exercises -- 277 -- --
Effect of subsidiaries' equity
transactions -- 178 -- --
------------ ------------------ ----------------
Balance at July 31, 1997
(38,638,172 shares) 386 16,590 852 --
Net income (Restated) -- -- -- --
Issuance of common stock
(7,429,714 shares) 75 67,725 -- --
Deferred compensation related to
acquisition of Accipiter, Inc. -- 1,731 -- (1,731)
Amortization of deferred compensation
-- -- -- 289
Sale of available-for-sale securities -- -- (852) --
Net unrealized loss on
available-for-sale securities -- -- (436) --
Tax benefit of stock option exercises -- 3,114 -- --
Effect of subsidiaries' equity
transactions -- 1,869 -- --
------------ ------- -------- ----------------
Balance at July 31, 1998 (Restated)
(46,067,886 shares) $ 461 $91,029 $ (436) $(1,442)
============ ======= ======== ================
<CAPTION>
Total
Retained Treasury stockholders'
earnings stock equity
-------- ----- ------
<S> <C> <C> <C>
Balance at July 31, 1995
(35,354,880 shares) $ 30,335 $ -- $ 55,490
Net income 14,322 -- 14,322
Issuance of common stock
(1,312,108 shares) -- -- 371
Tax benefit of stock option exercises -- -- 695
Effect of subsidiaries' equity
transactions -- -- 1,119
Sale of available-for-sale securities -- -- (18,005)
-------- -------------- --------
Balance at July 31, 1996
(36,666,988 shares) 44,657 -- 53,992
Net loss (22,027) -- (22,027)
Dividend of Lycos, Inc. common
Stock (11,010) -- (11,010)
Net unrealized gain on
available-for-sale securities -- -- 852
Purchase of treasury stock
(400,000 shares) -- (984) (984)
Issuance of common stock
(2,371,184 shares) -- 984 8,170
Tax benefit of stock option exercises -- -- 277
Effect of subsidiaries' equity
transactions -- -- 178
-------- -------------- --------
Balance at July 31, 1997
(38,638,172 shares) 11,620 -- 29,448
Net income (Restated) 31,904 -- 31,904
Issuance of common stock
(7,429,714 shares) -- -- 67,800
Deferred compensation related to
acquisition of Accipiter, Inc. -- -- --
Amortization of deferred compensation
-- -- 289
Sale of available-for-sale securities -- -- (852)
Net unrealized loss on
available-for-sale securities -- -- (436)
Tax benefit of stock option exercises -- -- 3,114
Effect of subsidiaries' equity
transactions -- -- 1,869
-------- -------------- --------
Balance at July 31, 1998 (Restated)
(46,067,886 shares) $ 43,524 $ -- $133,136
======== ============== ========
</TABLE>
see accompanying notes to consolidated financial statements
36
<PAGE>
CMGI, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
(in thousands) Years ended July 31,
1998 1997 1996
---- ---- ----
(Restated)
<S> <C> <C> <C>
Cash flows from operating activities:
Income (loss) from continuing operations $ 27,264 $(14,834) $ 15,608
Adjustments to reconcile income (loss) from continuing operations to net cash used for
continuing operations:
Depreciation and amortization 6,953 4,044 2,006
Deferred income taxes 4,206 (871) 8,283
Non-operating gains (142,847) (27,140) (49,624)
Equity in losses of affiliates 12,871 5,556 2,915
Minority interest 28 (4,787) (2,169)
In-process research and development 10,325 1,312 2,691
Changes in operating assets and liabilities, excluding effects from acquisitions and
divestitures of subsidiaries:
Trade accounts receivable (8,977) (11,985) (7,110)
Inventories (3,873) (2,390) --
Prepaid expenses (1,322) (4,065) (1,442)
Accounts payable and accrued expenses 8,019 11,536 7,210
Deferred revenues 3,618 12,851 4,595
Refundable and accrued income taxes, net 15,031 (3,157) (7,678)
Other assets and liabilities (636) (460) (685)
--------- -------- --------
Net cash used for operating activities of continuing operations (69,340) (34,390) (25,400)
Net cash provided by (used for) operating activities of discontinued operations (2,385) (7,263) 74
--------- -------- --------
Net cash used for operating activities (71,725) (41,653) (25,326)
--------- -------- --------
Cash flows from investing activities:
Additions to property and equipment - continuing operations (8,043) (4,809) (3,928)
Additions to property and equipment - discontinued operations (146) (2,130) (3,140)
Investments in affiliates and acquisitions of subsidiaries, net of cash acquired (34,512) (23,566) (6,010)
Proceeds from sale of data warehouse product rights - discontinued operations 9,543 -- --
Proceeds from sales of Lycos, Inc. common stock 108,876 -- --
Proceeds from sale or maturities of available-for-sale securities 7,555 13,069 69,918
Purchases of available-for-sale securities (5,000) -- (25,526)
Proceeds from sales of NetCarta Corporation and investment in TeleT Communications -- 19,018 --
Reduction in cash due to deconsolidation of Lycos, Inc. (41,017) -- --
Other, net (338) (734) (67)
--------- -------- --------
Net cash provided by investing activities 36,918 848 31,247
--------- -------- --------
Cash flows from financing activities:
Proceeds from issuance of notes payable, net of repayments 4,456 22,630 --
Proceeds from issuance of long-term debt 10,250 6,500 --
Repayments of long-term debt (7,521) (1,230) --
Sale of common and treasury stock 23,206 8,170 371
Purchase of treasury stock -- (984) --
Net proceeds from issuance of stock by subsidiaries 3,526 -- 48,058
Other 2,665 2,094 (386)
--------- -------- --------
Net cash provided by financing activities 36,582 37,180 48,043
--------- -------- --------
Net increase (decrease) in cash and cash equivalents 1,775 (3,625) 53,964
Cash and cash equivalents at beginning of year 59,762 63,387 9,423
--------- -------- --------
Cash and cash equivalents at end of year $ 61,537 $ 59,762 $ 63,387
========= ======== ========
</TABLE>
see accompanying notes to consolidated financial statements
37
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(1) Nature of Operations
CMGI, Inc. ("CMGI" or "the Company", formerly CMG Information Services, Inc.)
is a direct marketing service provider that invests in, develops and integrates
advanced, Internet, interactive, and database management technologies. CMGI and
its subsidiaries offer their clients a wide variety of direct marketing
opportunities to choose from, including: Internet and interactive media direct
marketing software technologies, product and literature fulfillment and turnkey
outsourcing, sales lead/inquiry management, business-to-business telemarketing
services, highly segmented and accurate mailing lists, database management,
design and development capabilities, consultative list management and brokerage
services. The Company is advancing products and services that will both create
and profit from direct marketing opportunities on the Internet.
(2) Summary of Significant Accounting Policies
Principles of Consolidation and Presentation
The consolidated financial statements of the Company include its wholly-
owned and majority-owned subsidiaries which at July 31, 1998 include, Engage
Technologies, Inc. (Engage), Accipiter, Inc. (Accipiter), CMG Direct Corporation
(CMG Direct, see Note 3), SalesLink Corporation (SalesLink), InSolutions, Inc.
(InSolutions), On-Demand Solutions, Inc. (On-Demand Solutions), CMG@Ventures,
Inc., CMG@Ventures I, LLC (CMG@Ventures I, formerly CMG@Ventures, L.P.),
CMG@Ventures Capital Corporation, CMG Securities Corporation, CMG@Ventures II,
LLC (CMG@Ventures II), Blaxxun Interactive, Inc. (Blaxxun), ADSmart Corporation
(ADSmart), InfoMation Publishing Corporation (Infomation), Planet Direct
Corporation (Planet Direct), Navisite Internet Services Corporation (NaviSite),
Password Internet Publishing Corporation (Password) and Vicinity Corporation
(Vicinity). All significant intercompany accounts and transactions have been
eliminated in consolidation. The Company accounts for investments in businesses
in which it owns between 20% and 50% using the equity method and accounts for
investments in which it owns less than 20% at original cost. Certain amounts
for prior periods have been reclassified to conform with current year
presentations.
Restatement Related to In-Process Research and Development Expense
The accompanying consolidated financial statements have been restated to
reflect the impact of adjustments made by Lycos, Inc. (Lycos) to its previously
reported in-process research and development charges associated with Lycos'
acquisitions of Tripod, Inc., WiseWire Corporation and GuestWorld, Inc. during
CMGI's third and fourth quarters of fiscal 1998. The accompanying consolidated
financial statements have also been restated to reflect a change in the original
accounting for the purchase price allocation related to CMGI's acquisition of
Accipiter, Inc. (Accipiter) in the third fiscal quarter of 1998.
Lycos reduced the amount of its charges for in-process research and
development in connection with the above noted acquisitions and,
correspondingly, increased the amounts allocated to intangible assets by $74.0
million. During the periods effected, CMGI's ownership in Lycos ranged from
approximately 46% to approximately 22%, and CMGI accounted for its investment in
Lycos under the equity method of accounting, whereby CMGI's portion of the net
operating performance of Lycos was reflected in equity in losses of affiliates.
Additionally, during such periods CMGI recorded gains on sales of portions of
its Lycos stock holdings, and recorded gains on issuances of stock by Lycos. As
a result of the Lycos restatements, CMGI has accordingly restated previously
reported equity in losses of Lycos, gains on sales of Lycos stock and gains on
issuance of stock by Lycos for CMGI's fiscal quarters ended April 30, 1998 and
July 31, 1998. Lycos' reduction of previously recorded in-process research and
development charges resulted in higher gains on Lycos stock issuances recorded
by the Company, thereby increasing CMGI's book basis in its Lycos investment and
resulting in lower gains on sales of Lycos stock and reduced gains on Lycos
stock issuances in subsequent quarters. Related higher amortization charges
recorded by Lycos in subsequent quarters resulted in higher equity in loss of
affiliates amounts recorded by CMGI.
Upon consummation of the Accipiter acquisition in the third fiscal quarter
of 1998, CMGI, in its consolidated financial statements, reported an expense of
approximately $18.0 million representing acquired in-process research and
development that had not yet reached technological feasibility and had no
alternative future use. On May 7, 1999, CMGI announced a voluntary restatement
of the in-process research and development charge related to the Accipiter
acquisition to address valuation methodologies suggested by the SEC in a letter
dated September 9, 1998 to the American Institute of Certified Public
Accountants SEC Regulations Committee and as clarified through subsequent
practice. Upon consideration of this guidance and additional practice that has
developed since the SEC letter was first made public, the $18.0 million charge
as previously reported has been reduced to $9.2 million and amounts allocated to
goodwill and other intangible assets have been increased from $11.5 million to
$20.3 million.
38
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
The effect of this restatement on previously reported consolidated
financial statements as of and for the year ended July 31, 1998 is as follows
(in thousands, except per share amounts):
<TABLE>
<CAPTION>
Statements of Operations:
Year Ended
July 31, 1998
-------------
As Reported Restated
----------- --------
<S> <C> <C>
Cost of revenues $ 72,843 $ 72,950
In-process research and development 19,135 10,325
General and administrative expenses 20,287 20,795
Operating loss (78,454) (70,259)
Gain on sale of Lycos, Inc. common stock 97,158 92,388
Gain on stock issuance by Lycos, Inc. 28,301 46,285
Equity in losses of affiliates (11,821) (12,871)
Income from continuing operations before income taxes 38,460 58,819
Income tax expense 26,547 31,555
Income from continuing operations 11,913 27,264
Net income 16,553 31,904
Basic income from continuing operations per share 0.29 0.65
Basic net income per share 0.40 0.76
Diluted income from continuing operations per share 0.27 0.61
Diluted net income per share 0.37 0.71
<CAPTION>
Balance Sheets:
July 31, 1998
-------------
As Reported Restated
----------- --------
<S> <C> <C>
Investments in affiliates $ 66,187 $ 82,616
Cost in excess of net assets of subsidiaries acquired,
net of accumulated amortization 49,301 55,770
Other assets 2,238 3,964
Total assets 235,194 259,818
Non-current deferred income tax liabilities 10,528 15,536
Minority interest 11,045 15,310
Retained earnings 28,173 43,524
Total stockholders' equity 117,785 133,136
</TABLE>
NOTE: All "As Reported" and "As Restated" amounts in the above table
have been retroactively adjusted to reflect the presentation of the
Company's lists and database services segment as discontinued operations
and to reflect a two-for-one stock split effected in the form of a stock
dividend by the Company on January 11, 1999.
Revenue Recognition
Revenue from the sale of mailing lists is recognized when the mailing
labels are shipped. Revenue for services is recognized upon completion of the
service.
The Company's advertising revenues are derived principally from short-term
Internet advertising contracts in which the Company guarantees a minimum number
of impressions for a fixed fee or on a per-impression basis with an established
minimum fee. Revenues from advertising are recognized as the services are
performed.
The Company's license and product revenues are derived principally from
product licensing fees and fees from maintenance and support of its products.
License and product revenues are generally recognized upon delivery provided
that no significant Company obligations remain and collection of the receivable
is probable. In cases where there are significant remaining obligations, the
Company defers such revenue until those obligations are satisfied. Fees from
maintenance and support of the Company's products, including those fees bundled
with the initial licensing fees, are deferred and recognized ratably over the
service period.
39
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Gain on Issuances of Stock by Subsidiaries
At the time a subsidiary sells its stock to unrelated parties at a price in
excess of its book value, the Company's net investment in that subsidiary
increases. If at that time, the subsidiary is an operating entity and not
engaged principally in research and development, the Company records the
increase as a gain in its Consolidated Statements of Operations. Otherwise, the
increase is reflected in "effect of subsidiaries' equity transactions" in the
Company's Consolidated Statements of Stockholders' Equity.
If gains have been recognized on issuances of a subsidiary's stock and
shares of the subsidiary are subsequently repurchased by the subsidiary or by
the Company, gain recognition does not occur on issuances subsequent to the date
of a repurchase until such time as shares have been issued in an amount
equivalent to the number of repurchased shares. Such transactions are reflected
as equity transactions, and the net effect of these transactions is reflected in
the Consolidated Statements of Stockholders' Equity.
Cash Equivalents and Statement of Cash Flows Supplemental Information
Highly liquid investments with maturities of three months or less at the
time of acquisition are considered cash equivalents.
Net cash used for operating activities reflect cash payments for interest
and income taxes, net of income tax refunds received, as follows:
<TABLE>
<CAPTION>
Year ended July 31,
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Interest $ 2,856,000 $1,429,000 $ 26,000
=========== ========== ===========
Income taxes $15,720,000 $1,856,000 $16,069,000
=========== ========== ===========
</TABLE>
During fiscal year 1998, significant non-cash investing activities included
the sale of data warehouse product rights by the Company's subsidiary, Engage,
in exchange for available-for-sale securities in addition to $9.5 million in
cash (see note 3). Also, portions of the consideration for acquisitions of
businesses by the Company, or its subsidiary, during fiscal 1998 included the
issuance of shares of the Company's common stock and the issuance of seller's
notes (see note 7).
During fiscal year 1997, significant non-cash investing activities included
the sale of the Company's equity interest in TeleT Communications, LLC (TeleT)
in exchange for available-for-sale securities in addition to $550,000 in cash
(see note 10) and the acquisition of one subsidiary, Pacific Direct Marketing
Corporation (Pacific Link), for consideration which included $7.5 million
financed through a seller's note (see note 7). Significant non-cash financing
activities in fiscal 1997 consisted of the dividend distribution of 603,000
shares of Lycos stock to CMGI shareholders (see note 14).
During fiscal year 1996, in a non-cash investing transaction, the Company's
then consolidated subsidiary, Lycos, Inc. (Lycos), acquired Point Communications
Corporation in exchange for 526,316 shares of Lycos stock.
Fair Value of Financial Instruments
The carrying value for cash and cash equivalents, accounts receivable,
accounts payable and notes payable, approximates fair value because of the short
maturity of these instruments. The carrying value of long-term debt
approximates its fair value, as estimated by using discounted future cash flows
based on the Company's current incremental borrowing rates for similar types of
borrowing arrangements.
Marketable Securities
The Company determines the appropriate classification of marketable
securities at the time of purchase and reevaluates such designation at each
balance sheet date. Marketable securities have been classified as available-
for-sale and are carried at fair value, based on quoted market prices, net of
market value discount to reflect any restrictions on transferability, with
unrealized gains and losses reported as a separate component of stockholders'
equity.
Inventories
Inventories consist primarily of raw materials used in the Company's
fulfillment services segment and are stated at the lower of cost or market.
Cost is determined by the first-in, first-out (FIFO) method.
Accounting for Impairment of Long-Lived Assets
The Company assesses the need to record impairment losses on long-lived
assets used in operations when indicators of impairment are present. On an on-
going basis, management reviews the value and period of amortization or
depreciation of long-lived assets, including costs in excess of net assets of
subsidiaries acquired. During this review, the Company reevaluates the
significant assumptions used in determining the original cost of long-lived
assets. Although the assumptions may vary from transaction to transaction, they
generally include revenue growth, operating results, cash flows and other
indicators of value. Management then determines whether there has been a
permanent impairment of the value of long-lived assets based upon events or
circumstances which have occurred since acquisition.
40
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Property and Equipment
Property and equipment is stated at cost. Depreciation and amortization is
provided on the straight-line basis over the estimated useful lives of the
respective assets (three to seven years). Leasehold improvements are amortized
on a straight-line basis over the lesser of the estimated useful life of the
asset or the lease term.
Maintenance and repairs are charged to operating expenses as incurred.
Major renewals and betterments are added to property and equipment accounts at
cost.
Investments in Affiliates
The Company's investments in affiliated companies for which its ownership
exceeds 20%, but which are not majority-owned or controlled, are accounted for
using the equity method. Under the equity method, the Company's proportionate
share of each affiliate's net income or loss and amortization of the Company's
net excess investment over its equity in each affiliate's net assets is included
in "equity in losses of affiliates". Amortization is recorded on a straight-line
basis over periods ranging from five to ten years.
At the time an affiliate sells its stock to unrelated parties at a price in
excess of its book value, the Company's net investment in that affiliate
increases. If at that time, the affiliate is an operating entity and not
engaged principally in research and development, the Company records the
increase as a gain in its Consolidated Statements of Operations.
Costs in Excess of Net Assets of Subsidiaries Acquired
The costs in excess of net assets of subsidiaries acquired (goodwill) are
principally being amortized over periods expected to be benefited, ranging from
five to twenty years.
Deferred Revenues
Deferred revenues are comprised of license fees to be earned in the future
on license agreements existing at the balance sheet date and billings in excess
of earnings on both license and advertising contracts.
Research and Development Costs and Software Costs
Expenditures related to the development of new products and processes,
including significant improvements and refinements to existing products and the
development of software, are expensed as incurred, unless they are required to
be capitalized. Software development costs are required to be capitalized when
a product's technological feasibility has been established by completion of a
detailed program design or working model of the product, and ending when a
product is available for general release to customers. To date, the
establishment of technological feasibility and general release have
substantially coincided. As a result, capitalized software development costs
have not been significant. Additionally, at the date of acquisition or
investment, the Company evaluates the components of the purchase price of each
acquisition or investment to identify amounts allocated to in-process research
and development. Upon completion of acquisition accounting and valuation, such
amounts are charged to expense if technological feasibility had not been reached
at the acquisition date. In September, 1998, a representative of the Securities
and Exchange Commission (the SEC) advised the American Institute of Certified
Public Accountants with respect to factors to be considered in the valuation of
in-process research and development. Based on a review of the valuation
methodologies applied, the Company believes it has taken these factors into
consideration in determining amounts recorded in the current fiscal year ended
July 31, 1998.
Accounting for Income Taxes
Income taxes are accounted for under the asset and liability method whereby
deferred tax assets and liabilities are recognized for the estimated future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
in effect for the year in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
Earnings (Loss) Per Share
During the second quarter of fiscal 1998, the Company adopted Statement of
Financial Accounting Standards (SFAS) No. 128, "Earnings per Share". SFAS No.
128 required the Company to change the method formerly used to compute earnings
per share and to restate all prior periods presented. Basic earnings per share
is computed based on the weighted average number of common shares outstanding
during the period. Weighted average common equivalent shares outstanding during
the period, using the "treasury stock method", are included in the calculation
of diluted earnings per share only when the effect of their inclusion would be
dilutive. Accordingly, since the Company reported a net loss for the year ended
July 31, 1997, common equivalent shares have not been included in the
calculation of diluted earnings per share for that period.
If a subsidiary has dilutive stock options or warrants outstanding,
diluted earnings per share is computed by first deducting from net income
(loss), the income attributable to the potential exercise of the dilutive stock
options or warrants of the subsidiary. The effect of income attributable to
dilutive subsidiary stock equivalents was immaterial during the years ended July
31, 1998, 1997 and 1996.
41
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
The reconciliation of the denominators of the basic and diluted earnings
(loss) per share computations for the Company's reported net income (loss) is as
follows:
<TABLE>
<CAPTION>
Years Ended July 31,
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Weighted average number of common shares outstanding - basic 41,666,000 37,716,000 36,016,000
Weighted average number of dilutive common stock equivalents outstanding 3,364,000 -- 2,712,000
---------- ---------- ----------
Weighted average number of common shares outstanding -- diluted 45,030,000 37,716,000 38,728,000
========== ========== ==========
</TABLE>
Stock-Based Compensation Plans
The Company has adopted SFAS No. 123, "Accounting for Stock-Based
Compensation." As permitted by SFAS No. 123, the Company measures compensation
cost in accordance with Accounting Principles Board Opinion (APB) No. 25,
"Accounting for Stock Issued to Employees" and related interpretations.
Accordingly, no accounting recognition is given to stock options granted at fair
market value until they are exercised. Upon exercise, net proceeds, including
tax benefits realized, are credited to equity. Therefore, the adoption of SFAS
No. 123 was not material to the Company's financial condition or results of
operations; however, the pro forma impact on earnings per share has been
disclosed in the Notes to Consolidated Financial Statements as required by SFAS
No. 123 (see note 15).
Use of Estimates
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Diversification of Risk
Sales to one customer, Cisco Systems, Inc. (Cisco), accounted for 47% and
28% of net revenues and 61% and 47% of fulfillment services segment net revenues
for fiscal year 1998 and 1997, respectively. Accounts receivable from this
customer amounted to approximately 29% and 11% of total trade accounts
receivable at July 31, 1998 and July 31, 1997, respectively. The Company's
products and services are provided to customers primarily in North America.
Financial instruments which potentially subject the Company to
concentrations of credit risk are cash equivalents, available-for-sale
securities, and accounts receivable. The Company's cash equivalent investment
portfolio is diversified and consists primarily of short-term investment grade
securities. To reduce risk, the Company performs ongoing credit evaluations of
its customers' financial conditions and generally does not require collateral on
accounts receivable. The Company has not incurred any material write-offs
related to its accounts receivable.
The Company enters into interest rate swap and cap agreements to reduce the
impact of changes in interest rates on its floating rate debt. The swap
agreements are contracts to exchange floating rate for fixed interest payments
periodically over the life of the agreements without the exchange of the
underlying notional amounts. The notional amounts of interest rate agreements
are used to measure interest to be paid or received and do not represent the
amount of exposure to credit loss. The differential paid or received on
interest rate agreements is recognized as an adjustment to interest expense.
New Accounting Pronouncements
In June, 1997, the Financial Accounting Standards Board issued SFAS No.
130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures About
Segments of an Enterprise and Related Information." SFAS No. 130 establishes
standards for reporting and displaying comprehensive income and its components
in a full set of general-purpose financial statements. Comprehensive income is
a measure of all changes in stockholders' equity that result from recognized
transactions and other economic events of a period, other than transactions with
owners in their capacity as owners. SFAS No. 131 establishes standards for the
way that public business enterprises report selected information about operating
segments in annual and interim financial statements. It also establishes
standards for related disclosures about products and services, geographic areas
and major customers. SFAS No. 131 requires the use of the "management approach"
in disclosing segment information, based largely on how senior management
generally analyzes the business operations. SFAS No. 130 and 131 become
effective for the Company in fiscal 1999. The Company is in the process of
determining the impact of these standards, if any, on its consolidated financial
statements and related disclosures.
In December, 1997, the American Institute of Certified Public Accountants
issued Statement of Position (SOP) 97-2, "Software Revenue Recognition." SOP
97-2 establishes standards relating to the recognition of all aspects of
software revenue. SOP 97-2 is effective for transactions entered into beginning
in the Company's fiscal year 1999 and may require the Company to modify certain
aspects of its revenue recognition policies. The Company does not expect the
adoption of SOP 97-2 to have a material impact on the Company's consolidated
results of operations.
42
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
In March, 1998, the Accounting Standards Executive Committee of the
American institute of Certified Public Accountants, issued SOP 98-1, "Accounting
for the Cost of Computer Software Developed or Obtained for Internal Use," which
requires the capitalization of certain internal costs related to the
implementation of computer software obtained for internal use. The Company is
required to adopt this standard in the first quarter of fiscal year 2000. The
Company expects that the adoption of SOP 98-1 will not have a material impact on
the Company's financial position or its results of operations.
In June, 1998, the Financial Accounting Standards Board issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No.
133 establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities. SFAS No.
133 requires the recognition of all derivatives as either assets or liabilities
in the statement of financial position and the measurement of those instruments
at fair value. The Company is required to adopt this standard in the first
quarter of fiscal year 2000. The Company expects that the adoption of SFAS No.
133 will not have a material impact on the Company's financial position or its
results of operations.
(3) Segment Information and Discontinued Operations
The Company's continuing operations have been classified in two primary
business segments, (i) investment and development and (ii) fulfillment services.
Investment and development is a business segment formed during the third quarter
of fiscal year 1995 to focus on strategic investment and development
opportunities afforded by the Internet and interactive media markets.
Fulfillment services include product and literature fulfillment and turnkey
outsourcing, telemarketing, and sales/lead inquiry management. Corporate and
other includes available-for-sale securities, certain cash equivalents and
certain other assets which are not identifiable to the operations of the
Company's primary business segments.
From its inception in August, 1995, through July 31, 1997, the Company's
subsidiary, Engage, focused on providing traditional mailing list maintenance
and database services (through its ListLab division), and on developing data
mining, querying, analysis and targeting software products for use in large
database applications. As such, the results of Engage's operations were
classified in the Company's list and database services segment through July 31,
1997. During the first quarter of fiscal 1998, Engage sold certain rights to
its Engage.Fusion(TM) and Engage.Discover(TM) data warehouse products to Red
Brick Systems, Inc. (Red Brick) for $9.5 million and 238,160 shares of Red Brick
common stock, and recorded a pre-tax gain of $8,437,000 on the sale. These
products had been developed to accelerate the design and creation of very large
data warehouses and perform high-end data query and analysis. Engage retained
certain rights to sell Engage.Fusion and Engage.Discover to interactive media
markets as part of its Engage Product Suite. Additionally, during the first
quarter of fiscal year 1998, Engage transferred its ListLab division to the
Company's recently formed subsidiary, CMG Direct. With the sale of these rights
and transfer of its ListLab division, Engage has narrowed its focus to the
Internet software solutions market, where it seeks to help companies
individually distinguish, understand and interact with anonymous prospects and
customers in personalized marketing, sales, and service relationships via the
Internet. As a result of this repositioning, beginning in fiscal year 1998, the
operating results of Engage are now classified in the Company's investment and
development segment.
On March 11, 1999, the Company announced the signing of a binding agreement
to sell its wholly-owned subsidiary, CMG Direct to Marketing Services Group,
Inc. At the time, CMG Direct comprised the Company's entire lists and database
services segment. As a result, the operations of the Company's lists and
database services segment have been reflected as income (loss) from discontinued
operations in the accompanying consolidated financial statements. The gain on
sale of certain data warehouse product rights by Engage in the first quarter of
fiscal 1998 has also been reflected as discontinued operations. These data
warehouse products were developed by Engage during fiscal 1996 and 1997, when
Engage was included in the Company's lists and database services segment.
Certain prior period amounts in the consolidated financial statements have been
reclassified in accordance with generally accepted accounting principles to
reflect the Company's lists and database services segment as discontinued
operations. Summarized financial information for discontinued operations is as
follows:
<TABLE>
<CAPTION>
Years Ended July 31,
Results of operations: 1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Net revenues $ 9,568,000 $ 10,551,000 $10,750,000
Operating expenses 10,125,000 22,740,000 12,929,000
----------- ------------ -----------
Operating loss (557,000) (12,189,000) (2,179,000)
Gain on sale of data warehouse product rights 8,437,000 -- --
----------- ------------ -----------
Income (loss) before income taxes 7,880,000 (12,189,000) (2,179,000)
Income tax expense (benefit) 3,240,000 (4,996,000) (893,000)
----------- ------------ -----------
Net income (loss) from discontinued operations $ 4,640,000 $ (7,193,000) $(1,286,000)
=========== ============ ===========
</TABLE>
43
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
<TABLE>
<CAPTION>
As of July 31,
Financial Position: 1998 1997
---- ----
<S> <C> <C>
Current assets $ 2,748,000 $ 3,316,000
Property and equipment, net 570,000 4,514,000
Other assets 676,000 983,000
Current liabilities (2,266,000) (2,091,000)
Non-current liabilities -- (15,000)
----------- -----------
Net assets of discontinued operations $ 1,728,000 $ 6,707,000
=========== ===========
</TABLE>
During fiscal 1998, Cisco accounted for approximately 61% of net revenues
in the fulfillment services segment. Previously, Cisco accounted for 47% of
fulfillment services segment net revenues in fiscal 1997 and three customers
individually accounted for 15%, 15% and 13% of segment net revenues in fiscal
1996. Summarized financial information of the Company's continuing operations
by business segment for the fiscal years ended July 31, 1998, 1997 and 1996 is
as follows:
<TABLE>
<CAPTION>
Years Ended July 31,
1998 1997 1996
---- ---- ----
Net revenues:
<S> <C> <C> <C>
Investment and development $ 18,709,000 $ 23,917,000 $ 5,665,000
Fulfillment services 63,207,000 36,139,000 12,070,000
------------ ------------ ------------
$ 81,916,000 $ 60,056,000 $ 17,735,000
============ ============ ============
Operating income (loss):
Investment and development $(71,703,000) $(45,250,000) $(19,961,000)
Fulfillment services 1,444,000 4,330,000 1,566,000
------------ ------------ ------------
$(70,259,000) $(40,920,000) $(18,395,000)
============ ============ ============
Total assets:
Investment and development $120,759,000 $ 87,626,000 $ 68,256,000
Fulfillment services 67,356,000 32,734,000 6,366,000
Corporate and other 69,975,000 19,181,000 26,786,000
------------ ------------ ------------
$258,090,000 $139,541,000 $101,408,000
============ ============ ============
Capital expenditures:
Investment and development $ 3,710,000 $ 3,745,000 $ 3,128,000
Fulfillment services 4,333,000 1,064,000 800,000
------------ ------------ ------------
$ 8,043,000 $ 4,809,000 $ 3,928,000
============ ============ ============
Depreciation and amortization:
Investment and development $ 4,397,000 $ 2,410,000 $ 1,546,000
Fulfillment services 2,556,000 1,634,000 460,000
------------ ------------ ------------
$ 6,953,000 $ 4,044,000 $ 2,006,000
============ ============ ============
</TABLE>
The fulfillment services segment operating income was adjusted during the
fourth quarter of fiscal year 1998 to correct prior quarters' understatements of
cost of sales by SalesLink's subsidiary company, Pacific Link. The cost of
sales understatement was caused by estimates used in determining the material
content in cost of sales. As a result, previous quarterly results had
understated cost of sales and overstated inventory. Had such adjustments been
recorded in the period in which they occurred, quarterly fulfillment services
segment operating income would have been as follows:
<TABLE>
<CAPTION>
Three Months Ended
October 31, January 31, April 30, July 31,
----------- ----------- --------- --------
1997 1998 1998 1998 Total
---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C>
As Previously Reported $1,061,000 $1,149,000 $1,547,000 $(2,313,000) $1,444,000
========== ========== ========== =========== ==========
As Restated $ 279,000 $ 335,000 $ 656,000 $ 174,000 $1,444,000
========== ========== ========== =========== ==========
</TABLE>
44
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
(4) Deconsolidation of Lycos, Inc.
During the second fiscal quarter ended January 31, 1998, the Company sold
340,000 shares of Lycos stock on the open market and distributed 216,034 Lycos
shares to the profit members of CMG@Ventures I. Through the sale and
distribution of Lycos shares, the Company's ownership percentage in Lycos was
reduced from just in excess of 50% at October 31, 1997, to below 50% beginning
in November, 1997. As such, starting in November, 1997, the Company began
accounting for its remaining investment in Lycos under the equity method of
accounting, rather than the consolidation method. Prior to these events, the
operating results of Lycos were consolidated within the operating results of the
Company's investment and development segment, and the assets and liabilities of
Lycos were consolidated with those of CMGI's other majority-owned subsidiaries
in the Company's Consolidated Balance Sheets. The Company's historical
consolidated operating results for the fiscal years ended July 31, 1997 and 1996
included Lycos net revenues of $22,253,000 and $5,257,000, respectively, and
Lycos operating losses of ($8,759,000) and ($5,802,000), respectively. The
Company's consolidated operating results for the fiscal quarter ended October
31, 1997 included Lycos net revenues and operating loss of $9,303,000 and
($433,000), respectively. The Company's historical Consolidated Balance Sheets
as of July 31, 1997 and October 31, 1997 included Lycos amounts as follows:
<TABLE>
<CAPTION>
Jul. 31, 1997 Oct. 31, 1997
------------- -------------
<S> <C> <C>
Current assets $60,745,000 $63,935,000
=========== ===========
Total assets $65,419,000 $67,694,000
=========== ===========
Current liabilities $22,615,000 $25,822,000
=========== ===========
Total liabilities $27,772,000 $29,259,000
=========== ===========
</TABLE>
The following table contains the summarized financial information for Lycos
subsequent to deconsolidation in November, 1997, as restated to reflect Lycos'
adjustments to in-process research and development charges and amortization of
acquisition related intangible assets:
Condensed Statement of Operations:
<TABLE>
<CAPTION>
Nine Months Ended
July 31, 1998
-------------
<S> <C>
Net revenues $ 46,757,000
============
Operating loss $(31,058,000)
============
Net loss $(28,547,000)
============
</TABLE>
Note: Lycos' operating and net loss for the nine months ended July 31, 1998
includes in-process research and development and other one-time merger
related charges of $18,480,000.
Condensed Balance Sheet:
<TABLE>
<CAPTION>
July 31, 1998
-------------
<S> <C>
Current assets $200,797,000
Noncurrent assets 116,438,000
------------
Total assets $317,235,000
============
Current liabilities $ 53,875,000
Noncurrent liabilities 26,196,000
Stockholders' equity 237,164,000
------------
Total liabilities and stockholders' equity $317,235,000
============
</TABLE>
(5) Available-for-Sale Securities
At July 31, 1998, available-for-sale securities consist of 334,728 shares
of Open Market, Inc. common stock and 238,160 shares of Red Brick common stock,
carried at fair value and based on quoted market prices, net of a market value
discount to reflect the remaining restriction on transferability for the Red
Brick common shares. A $314,000 unrealized holding gain and a $750,000
unrealized holding loss was recorded on the Open Market, Inc. and Red Brick
shares, respectively, based on the change in market value of the respective
stocks from dates of acquisition to July 31, 1998. The net $436,000 unrealized
holding loss is presented in the equity section of the July 31, 1998
Consolidated Balance Sheet.
During the first quarter of fiscal year 1998, CMG@Ventures I
distributed 224,795 of its shares of Premiere Technologies, Inc. (Premiere)
common stock to the Company, and allocated 58,538 Premiere shares to
CMG@Ventures I's profit members. The Company sold its 224,795 shares during
fiscal 1998 for proceeds of $7,555,000, realizing a net gain of $4,174,000 on
the sale.
At July 31, 1997, available-for-sale securities consist of 283,333 shares
of Premiere common stock carried at fair value, based on quoted market price,
net of a market value discount to reflect restrictions on transferability
through September 19, 1997. An $852,000 unrealized gain, based on the change in
market value of the stock from date of acquisition to July 31, 1997, is
presented in the equity section of the July 31, 1997 Consolidated Balance Sheet,
net of deferred income taxes.
45
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
(6) Property and Equipment
Property and equipment consists of the following:
<TABLE>
<CAPTION>
July 31,
1998 1997
---- ----
<S> <C> <C>
Machinery and equipment $11,990,000 $ 7,373,000
Software 3,558,000 760,000
Leasehold improvements 2,825,000 1,752,000
Office furniture and equipment 1,959,000 1,438,000
Other equipment 658,000 658,000
----------- -----------
$20,990,000 $11,981,000
=========== ===========
</TABLE>
(7) Business Combinations
On October 24, 1996, the Company's subsidiary, SalesLink, acquired
Pacific Link, a company specializing in high technology product and literature
fulfillment and turnkey outsourcing. The consideration for the acquisition was
$17,000,000, $8,500,000 of which was paid in cash at the date of acquisition,
$1,000,000 of which SalesLink paid (along with interest at the annual rate of
7%) in February 1997, and the remaining $7,500,000 of which was financed through
a seller's note (see note 12). The sources of the cash portion of the purchase
price were $3,000,000 from corporate funds provided by the Company to SalesLink
for the acquisition and $5,500,000 from a bank loan.
On April 9, 1998, the Company acquired Accipiter, a company specializing in
Internet advertising management solutions, in exchange for 2,527,384 shares of
the Company's common stock. The shares issued by the Company in the acquisition
of Accipiter are not registered under the Securities Act of 1933 and are subject
to restrictions on transferability for periods ranging from six to twenty-four
months from the date of issuance. The total purchase price for Accipiter was
valued at $30,178,000, including costs of acquisition of $198,000. The value of
the Company's shares included in the purchase price was recorded net of a
weighted average 15% market value discount to reflect the restrictions on
transferability. Of the purchase price, $9,200,000 was allocated to in-process
research and development which has been charged to operations during fiscal
1998.
Approximately $1.7 million of deferred compensation was recorded during
fiscal 1998 relating to approximately 86,000 of the Company's common shares
issued to employee stockholders of Accipiter which are being held in escrow.
These shares are subject to forfeiture upon termination of employment over a
two-year period. Deferred compensation expense will be recognized over the two-
year service period.
Also during fiscal 1998, the Company, or its subsidiaries, completed the
acquisition of three other companies for purchase prices valued at a combined
total of $23,630,000, including InSolutions ($15,218,000 purchase price in June,
1998), Servercast Communications, LLC (Servercast, $1,020,000 in July, 1998) and
On-Demand Solutions ($7,392,000 on July 31, 1998). The combined consideration
for these acquisitions consisted of 620,804 shares of the Company's common stock
valued at $14,585,000, $6,578,000 in cash and $2,467,000 financed through
seller's notes. The shares issued by the Company were not registered under the
Securities Act of 1933 and were subject to restrictions on transferability for
periods ranging from twelve to twenty-four months. The value of the Company's
shares included in the purchase prices of these acquisitions were recorded net
of market value discounts ranging from 12% to 22% to reflect the restrictions on
transferability. $5,000,000 of the cash consideration was provided through
additional bank borrowings by the Company's subsidiary, SalesLink. Additional
consideration of up to $2,783,000 could be paid related to the acquisition of
InSolutions if certain future performance goals are met.
The acquisitions during fiscal 1997 and 1998 have been accounted for using
the purchase method, and, accordingly, the purchase prices have been allocated
to the assets purchased and liabilities assumed based upon their fair values at
the dates of acquisition. The portion of the purchase prices allocated to
goodwill will be amortized on a straight line basis over five years for
Accipiter and Servercast and over 15 years for Pacific Link, InSolutions and On-
Demand Solutions. The acquired companies are included in the Company's
consolidated financial statements from the dates of acquisition.
46
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
The purchase prices of the acquisitions during fiscal 1998 and 1997 were
allocated as follows:
<TABLE>
<CAPTION>
1998 1997
------------------------------------------------
Accipiter All Others Pacific Link
--------- ---------- ------------
<S> <C> <C> <C>
Working capital, including cash acquired $ 441,000 $ (989,000) $(1,204,000)
Property, plant and equipment 262,000 1,484,000 713,000
Other assets 2,000 173,000 385,000
In-process research and development 9,200,000 -- --
Goodwill 18,393,000 23,357,000 17,229,000
Developed technology 1,600,000 -- --
Other identifiable intangible assets 280,000 -- --
Other long-term liabilities -- (395,000) (123,000)
----------- ----------- -----------
Purchase price $30,178,000 $23,630,000 $17,000,000
=========== =========== ===========
</TABLE>
The following unaudited pro forma financial information presents the
consolidated operations of the Company and the acquired companies as if the
acquisitions had occurred as of the beginning of fiscal 1997, after giving
effect to certain adjustments including increased amortization of goodwill
related to the acquisitions, increased interest expense related to long-term
debt issued in conjunction with the acquisitions and decreased compensation for
certain officers to reflect contractual post-acquisition compensation. The one-
time in-process research and development charge of $9,200,000 which was recorded
in fiscal 1998 related to the acquisition of Accipiter is not included in the
pro forma results as it is unusual and not indicative of normal operating
results. The unaudited pro forma information excludes the impact of the
acquisition of Servercast since it is not material to the Company's consolidated
financial statements. The unaudited pro forma financial information is provided
for informational purposes only and should not be construed to be indicative of
the Company's consolidated results of operations had the acquisitions been
consummated on the dates assumed and do not project the Company's results of
operations for any future period:
<TABLE>
<CAPTION>
Year ended July 31,
1998 1997
---- ----
<S> <C> <C>
Net revenues $107,816,000 $ 87,658,000
============ ============
Net income (loss) $ 34,402,000 $(29,635,000)
============ ============
Basic net income (loss) per share $ 0.78 $ (0.74)
============ ============
Diluted net income (loss) per share $ 0.73 $ (0.74)
============ ============
</TABLE>
(8) CMG@Ventures Investments
During fiscal year 1996, the Company, through CMG@Ventures I, invested
$19.2 million in eight companies, including $2 million in Vicinity, $750,000 in
TeleT, $2 million in GeoCities, $4 million in Blaxxun, $4.5 million in NetCarta
Corporation (NetCarta), $1 million in Lycos, $1.75 million in Ikonic
Interactive, Inc., and $3.2 million in FreeMark Communications, Inc. (FreeMark).
CMG@Ventures I invested a total of $10.8 million in five companies during
fiscal year 1997, including $2 million in Parable LLC (Parable), $1.2 million in
Lycos, $3.8 million in NetCarta, $1.8 million in Vicinity and $2 million in
GeoCities. During fiscal 1997, the Company completed its minimum funding
commitment of $35 million to CMG@Ventures I, and formed a new limited liability
company subsidiary, CMG@Ventures II, to continue the Company's Internet venture
capital investment model. CMG@Ventures II invested a total of $8.3 million in
five companies during fiscal year 1997, including $2 million in Silknet
Software, Inc. (Silknet), $2 million in KOZ, inc. (KOZ) $1 million in Softway
Systems, Inc. (Softway Systems), $1 million in Sage Enterprises, Inc. (Sage
Enterprises), and $2.3 million in Reel.com LLC (Reel.com). CMG@Ventures II
invested a total of $27.6 million in fifteen companies during fiscal year 1998,
including $100,000 in Blaxxun, $1.8 million in GeoCities, $200,000 in Vicinity,
$3 million in Silknet, $2.1 million in Parable, $150,000 in KOZ, $3.5 million in
Sage Enterprises, $4.6 million in Reel.com, $1.8 million in Speech Machines plc
(Speech Machines), $2.6 million in Chemdex Corporation (Chemdex), $2 million in
TicketsLive Corporation (TicketsLive), $1 million in Critical Path, $2 million
in Mother Nature's General Store, Inc. (Mother Nature), $1.5 million in Visto
Corporation (Visto), and $1.25 million in Universal Learning Technology.
47
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
At July 31, 1998, CMG@Ventures I held equity investments in five companies,
including Blaxxun (81% legal ownership), GeoCities (32%), Lycos (25%), Parable
(31%), and Vicinity (50%). At July 31, 1998, CMG@Ventures II held equity
investments in fourteen companies, including Chemdex (16%), Critical Path (7%),
GeoCities (2%), KOZ (14%), Mother Nature (24%), Parable (11%), Reel.com (36%),
Sage Enterprises (29%), Silknet (24%), Softway Systems (9%), Speech Machines
(29%), TicketsLive (14%), Universal Learning Technology (12%), and Visto (6%).
The Company owns 100% of the capital interest and has all voting rights with
respect to CMG@Ventures I and CMG@Ventures II investments. The Company is
entitled to 77.5% and 80% of the net capital gains, as defined, on investments
made by CMG@Ventures I and CMG@Ventures II, respectively. The remaining
interest in the net capital gains on these investments are attributed to profit
partners, including the President and Chief Executive Officer and the Chief
Financial Officer of the Company. The Company is responsible for all operating
expenses of CMG@Ventures I and CMG@Ventures II. CMG@Ventures I's interest in
Lycos is subject to further reduction because CMG@Ventures I is obligated to
sell to Lycos a portion of its shares of common stock of Lycos, as necessary, to
provide for shares issuable upon exercise of options granted by Lycos under its
1995 stock option plan. As of July 31, 1998, (retroactively adjusted to reflect
Lycos' two-for-one stock split affected in August, 1998), CMG@Ventures I. was
obligated to sell up to 391,296 shares to Lycos at a price of $0.01 per share
and up to 458,048 shares at prices ranging from $0.14 to $4.80 per share.
After accounting for Lycos shares subject to option funding and shares
attributable to profit partners, approximately 6.5 million Lycos shares, (also
on a post-split basis), were attributable to CMGI as of July 31, 1998.
CMG@Ventures II's investments in Sage Enterprises and Reel.com were converted
into shares of Amazon.com, Inc. and Hollywood Entertainment Corporation,
respectively, pursuant to mergers of the respective companies subsequent to July
31, 1998 (see note 19).
The acquisition accounting and valuation for the Company's or its
subsidiaries' investments in Speech Machines, Chemdex and Silknet in fiscal
1998, Parable and Silknet in fiscal year 1997, and FreeMark, NetCarta,
GeoCities, Point Communications Corporation, and Vicinity in fiscal 1996,
resulted in totals of $1,125,000, $1,312,000 and $2,691,000 in fiscal years
1998, 1997 and 1996, respectively, being identified as in-process research and
development, which were expensed because technological feasibility had not been
reached at the dates the investments were made.
(9) Gain on Stock Issuance by Lycos, Inc. and Effect of Subsidiaries' Equity
Transactions
Gain on stock issuance by Lycos, Inc. represents the net increase in the
Company's proportionate share of the dollar amount of Lycos' equity resulting
from stock issuances by Lycos, a developer and provider of online guides to the
Internet. The Company recorded a pre-tax gain of $19,575,000 in fiscal 1996
relating to Lycos' initial public offering of 3,135,000 shares of common stock
at $16 per share, which raised $46,021,000 in net proceeds for Lycos. With this
transaction, the Company's ownership in Lycos was reduced from approximately 76%
to approximately 58%. The Company provided $8,026,000 in deferred income taxes
resulting from the gain.
The Company recorded net pre-tax gains totaling $46,285,000 in fiscal 1998
resulting from stock issuances by Lycos. In February, 1998, the Company
recorded a pre-tax gain of $16,756,000 relating to Lycos' issuance of 1,268,709
shares of its common stock, valued at approximately $61 million, in its
acquisition of Tripod, Inc. With this transaction, the Company's ownership in
Lycos was reduced from approximately 46% to approximately 42%. The Company's
pre-tax gain was recorded net of the impact of a $7.2 million in-process
research development charge recorded by Lycos in conjunction with the
acquisition of Tripod, Inc. In June, 1998, the Company recorded a pre-tax gain
of $22,963,000 relating to Lycos' secondary public offering of 2,337,500 shares
of common stock at $50 per share, which raised net proceeds of $111,191,000 for
Lycos. With this transaction, the Company's ownership in Lycos was reduced from
approximately 35% to approximately 31%. The Company also recorded net pre-tax
gains totaling $6,566,000 on other issuances of stock by Lycos during fiscal
1998, which included stock issued by Lycos in its acquisitions of WiseWire
Corporation and GuestWorld, Inc., net of the impact of in-process research and
development charges recorded by Lycos related to these acquisitions; stock
issued by Lycos for its minority investments in GlobeComm, Inc. and Sage
Enterprises; and shares issued by Lycos as a result of employee stock option
exercises. The Company provided $19,008,000 in deferred income taxes resulting
from the gains on stock issuances by Lycos during fiscal 1998.
On July 31, 1996, the Company's subsidiary, Blaxxun, a developer of three
dimensional interactive software, successfully completed an equity financing,
issuing 400,000 shares of preferred stock to an outside party in exchange for
$2,000,000. With this transaction, the Company's ownership in Blaxxun was
reduced from 100% to 92% and its net equity in Blaxxun increased by $1,302,000.
During fiscal 1998, Blaxxun issued 166,000 shares of common stock for net
proceeds of $41,000 and 649,000 shares of preferred stock for net proceeds of
$3,478,000. Included in the fiscal 1998 amounts were 93,000 shares of preferred
stock purchased by the Company for $500,000. As a result of the fiscal 1998
transactions, the Company's ownership in Blaxxun was reduced from 92% to 81% and
its net equity in Blaxxun increased by $3,054,000. Since at the time of the
transactions Blaxxun was engaged principally in research and development, the
fiscal 1996 and fiscal 1998 increases in the Company's proportionate share of
the dollar amount of Blaxxun's equity of $768,000 and $1,757,000, net of
$534,000 and $1,297,000 of deferred income taxes, respectively, have been
reflected as an equity transaction included in "Effect of subsidiaries' equity
transactions" in the accompanying Consolidated Statements of Stockholders'
Equity.
The above gains on stock issuances by Lycos and effects of subsidiaries'
equity transactions are reported net of the interest, if any, attributed to
CMG@Ventures I's profit members.
48
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
(10) Sale of CMG@Ventures Investments
On September 19, 1996, the Company sold its equity interest in TeleT to
Premiere for $550,000 in cash and 320,833 shares of Premiere stock. The
Company, through CMG@Ventures I, acquired its 46% equity interest in TeleT for
$750,000 during April 1996. As a result of the sale, the Company recognized a
pre-tax gain of $3,616,000, reported net of the 22.5% interest attributed to
CMG@Ventures I's profit members, reflected as "Gain on sale of investment in
TeleT Communications" in the accompanying Consolidated Statements of Operations.
Of the Premiere shares received, 37,500 are to be held in escrow for a six-year
period, subject to certain customary conditions, and have been classified in
other assets with a carrying value of $450,000. The remaining shares received
were subject to an average one-year restriction on transferability, and were
classified in available-for-sale securities, with a carrying value at the time
of acquisition of $4,080,000, net of market value discount to reflect the
restriction on transferability.
On December 9, 1996, Microsoft Corporation (Microsoft) entered into a
definitive agreement to acquire one of the Company's subsidiaries, NetCarta, for
$20,000,000 in cash, subject to certain conditions. On January 31, 1997, the
sale of NetCarta was finalized, with the Company receiving proceeds of
$18,468,000, net of proceeds to former NetCarta employees who exercised employee
stock options. As a result of the sale, the Company recognized a pre-tax gain
of $15,111,000, reported net of the 22.5% interest attributed to CMG@Ventures
I's profit members, reflected as "Gain on sale of NetCarta Corporation" in the
accompanying Consolidated Statements of Operations.
During fiscal 1998, CMG@Ventures I distributed 3,333,334 of its shares of
Lycos common stock to the Company, and 593,164 shares to CMG@Ventures I's profit
members. The Company sold 1,955,015 of its Lycos shares during fiscal 1998,
including 1,705,015 sold on the open market throughout the year and 250,000
shares sold as part of Lycos' secondary public offering in June, 1998. The
Company received net proceeds of $108,876,000 from its sales of Lycos shares in
fiscal 1998 and recorded pre-tax gains on the sales totaling $92,388,000. The
gains on the Company's sales of Lycos shares are reported net of the associated
interest attributed to CMG@Ventures I's profit members.
(11) Accrued Expenses
Accrued expenses consist of the following:
<TABLE>
<CAPTION>
July 31,
1998 1997
---- ----
<S> <C> <C>
Accrued compensation and benefits $ 3,244,000 $ 2,058,000
Accrued professional services 3,194,000 2,060,000
Accrued customer deposits 2,084,000 2,204,000
Accrued promotional expenses 87,000 4,178,000
Other 10,122,000 5,905,000
----------- -----------
$18,731,000 $16,405,000
=========== ===========
</TABLE>
(12) Borrowing Arrangements
Notes payable at July 31, 1998 consisted of $20 million in collateralized
corporate borrowings, $6.2 million owed by SalesLink under its revolving line of
credit facility and $1.5 million owed by other subsidiaries of the Company under
line of credit facilities. Notes payable at July 31, 1997 consisted of $10
million in collateralized corporate borrowings, $10 million borrowed under the
Company's corporate line of credit, and $2,494,000 owed by SalesLink under its
line of credit.
The Company's collateralized corporate borrowings were secured by 1,255,789
and 784,314 of the Company's shares of Lycos stock at July 31, 1998 and 1997,
respectively. Under this agreement, the Company could become subject to
additional collateral requirements under certain circumstances. The $10 million
in borrowings outstanding at July 31, 1997 were payable in full in January,
1998. On January 20, 1998, the Company renewed this agreement for an additional
term of one year and increased the outstanding principal amount to $20 million.
Interest under this facility is payable quarterly at the London Interbank
Offered Rate (LIBOR) plus 1.75% (7.44% and 7.52% effective rates at July 31,
1998 and 1997, respectively). The Company has entered into an interest rate
swap agreement with the lender that effectively fixed the interest rate on this
$20 million debt at a rate of 7.40% beginning April 20, 1998 through January 20,
1999. During fiscal 1997, the Company had entered into an interest rate swap
agreement with the lender that had effectively fixed the interest rate on the
$10 million principal at 7.52% through January 17, 1998.
SalesLink's borrowings were made under a revolving credit agreement with a
bank. The revolving credit agreement provided for the option of interest at
LIBOR or the higher of 1) the rate announced by BankBoston, N.A. as its base
rate (Prime), or 2) 0.5% above the Federal Funds Effective Rate plus, in any
case, an applicable margin based on SalesLink's leverage ratio (7.65% and 7.66%
effective rates at July 31, 1998 and 1997, respectively).
49
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
The $10 million balance outstanding at July 31, 1997 under the Company's
corporate line of credit agreement with a bank was repaid during fiscal 1998 and
there are no outstanding borrowings under this facility as of July 31, 1998.
Long-term debt consists of the following:
<TABLE>
<CAPTION>
July 31,
1998 1997
---- ----
<S> <C> <C>
Term notes payable to a bank issued by SalesLink $15,500,000 $ 5,500,000
Note payable to former shareholder of InSolutions 1,467,000 --
Notes payable to former members of Servercast issued by NaviSite 1,000,000 --
Note payable to former shareholder of Pacific Link issued by SalesLink -- 7,271,000
----------- -----------
17,967,000 12,771,000
Less: Current portion 16,594,000 3,221,000
----------- -----------
$ 1,373,000 $ 9,550,000
=========== ===========
</TABLE>
SalesLink's term notes payable to a bank provide for the option of interest
at LIBOR or the higher of 1) Prime, or 2) 0.5% above the Federal Funds Effective
Rate plus, in any case, an applicable margin based on SalesLink's leverage ratio
(7.65% and 7.66% effective rates at July 31, 1998 and 1997, respectively).
During fiscal 1998, SalesLink repaid $250,000 of principal under its $5.5
million bank term note and refinanced the remaining portion into an amended term
note which included an increased principal amount of $10.25 million. Of the
additional principal amounts borrowed, $5 million was used as consideration for
the Company's acquisition of InSolutions and $4.9 million was used to prepay the
remaining balance on SalesLink's note payable to a former shareholder of Pacific
Link. The bank term note outstanding at July 31, 1998 provides for repayment in
quarterly installments beginning January 31, 1999 through October 31, 2002, with
the remaining balance to be repaid on November 11, 2002.
The Company's note payable to a former shareholder of InSolutions was
issued in June, 1998 as consideration for the Company's acquisition of
InSolutions. This note bears interest at 5.71% and is repayable in twelve
monthly installments beginning November 30, 1998. Additional principal amounts
totaling $2.8 million could become due under this note if InSolutions meets
certain future performance goals (see note 7). The contingent principal amounts
owed, if any, would bear interest at 5.71% and would be payable in twenty-four
monthly installments beginning November 30, 1999. The Company's subsidiary,
NaviSite, issued $1 million in notes payable to former members of Servercast as
consideration for the acquisition of Servercast in July, 1998. These notes bear
interest at 5.50% and are repayable on January 2, 2000.
Maturities of long-term debt for the next five fiscal years are as follows:
1999, $16,594,000; 2000, $1,373,000; Thereafter, none.
As of February 24, 1997, the Company had entered into an interest rate swap
agreement with the lender providing SalesLink's bank borrowing arrangements.
The agreement effectively set a maximum LIBOR interest rate base on debt for a
notional principal amount of $8 million at a rate of 8.5% through February 26,
2002. This swap was purchased to provide protection to the Company from
exposure to higher interest rates in the future (above 8.5%), and requires
additional payments by the Company should LIBOR fall below 5% or should LIBOR be
above 6%, but below 8.5%. At July 31, 1998, based on prices quoted from the
bank, interest rate hedge agreement values would indicate an obligation of
$78,000 to terminate this contract.
The Company's bank borrowing arrangements are subject to normal banking
terms and conditions, including financial covenants requiring the Company or
SalesLink to maintain certain levels of net worth and income, certain financial
position ratios, as well as limitations on indebtedness and capital
expenditures. As of July 31, 1998, SalesLink did not comply with certain
covenants of their borrowing arrangements. SalesLink is working with the bank
to cure the non-compliance, as of July 31, 1998 and prospectively, through
waivers or amendments to the covenant terms. SalesLink has not yet received
such waivers or amendments and, accordingly, all of SalesLink's bank borrowings
have been classified as current liabilities in the July 31, 1998 Consolidated
Balance Sheet. Further, as a result of such non-compliance, beginning August 1,
1998 until the non-compliance is cured, SalesLink's $15.5 million bank term note
payable and its outstanding line of credit borrowings are subject to interest at
Prime plus 3.5% and 4.5%, respectively.
50
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
(13) Commitments
The Company leases facilities and certain other machinery and equipment
under various noncancelable operating leases expiring through June 2013. Future
minimum lease payments as of July 31, 1998 are as follows:
<TABLE>
<CAPTION>
Year ending July 31:
<S> <C>
1999 $16,752,000
2000 11,969,000
2001 7,454,000
2002 5,037,000
2003 4,107,000
Thereafter 22,841,000
-----------
$68,160,000
===========
</TABLE>
Total rent and equipment lease expense charged to continuing operations was
$10,454,000, $5,528,000 and $1,683,000 for the years ended July 31, 1998, 1997
and 1996, respectively.
The Company is subject to legal proceedings and claims which arise in the
ordinary course of its business. In the opinion of management, the amount of
ultimate liability with respect to these actions will not materially affect the
financial position of the Company.
(14) Stockholders' Equity
On January 11, 1999, May 11, 1998, February 2, 1996 and March 17, 1995, the
Company effected 2-for-1, 2-for-1, 2-for-1 and 3-for-2 common stock splits,
respectively, in the form of stock dividends. Accordingly, all data shown in the
accompanying consolidated financial statements has been retroactively adjusted
to reflect these events.
During the first quarter of fiscal 1997, the Company's Board of Directors
authorized the Company to buy back up to 2,000,000 shares of its common stock.
During the first and second quarters of fiscal 1997, 400,000 shares were
repurchased at an average cost of $2.46 per share, for a total of $984,000.
Pursuant to a stock purchase agreement entered into as of December 10, 1996, the
Company sold 1,881,908 shares of its common stock (the "CMGI Shares"), including
the 400,000 treasury shares acquired in fiscal 1997, to Microsoft on January 31,
1997, representing 4.9% of CMGI's total outstanding shares of common stock
following the sale. The CMGI Shares purchased by Microsoft were priced at
$3.625 per share, with proceeds to CMGI totaling $6,821,917. The CMGI Shares
purchased by Microsoft are not registered under the Securities Act of 1933 and
carried a one-year prohibition on transfer or sale. Under the terms of the
agreement and following the one-year period, Microsoft is entitled to two demand
registration rights as well as piggy back registration rights. Additionally,
Microsoft is subject to "stand still" provisions, whereby it is prohibited for a
period of three years, without the consent of CMGI, (i) from increasing its
ownership in CMGI above ten percent of CMGI's outstanding shares, (ii) from
exercising any control or influence over CMGI, and (iii) from entering into any
voting agreement with respect to its CMGI Shares.
On May 28, 1997, the Company announced a new venture dividend program in
connection with the Company's CMG@Ventures Internet investments. Subject to
restrictions on transfer, the program envisions that it may distribute up to 10%
of the stock held by CMG@Ventures following an initial public offering by any
one of the companies in which it holds an investment. The Company may also
announce from time to time other stock dividends in connection with its Internet
investments. Such dividends are subject to approval of the Company's Board of
Directors and subject to holding requirements by regulatory agencies such as the
Securities and Exchange Commission. The program may be altered or discontinued
at the discretion of the Company. The Company also announced its first dividend
under the new program, distributing 603,000 shares of Lycos common stock, with a
market value of $11,008,000 at the date of distribution, to the Company's
stockholders on July 31, 1997. The distribution resulted in a pre-tax gain of
$8,413,000 in fiscal 1997 reflected as "Gain on dividend distribution of Lycos,
Inc. common stock" in the accompanying Consolidated Statements of Operations.
Pursuant to a stock purchase agreement entered into as of December 19,
1997, the Company sold 2,012,008 shares of its common stock to Intel Corporation
(Intel), representing 4.9% of CMGI's total outstanding shares of common stock
following the sale. The CMGI shares sold to Intel were priced at $5.436 per
share, with proceeds to CMGI totaling $10,937,000. The CMGI shares purchased by
Intel are not registered under the Securities Act of 1933. Under the terms of
the agreement, Intel is entitled to two demand registration rights as well as
piggyback registration rights. Additionally, Intel is subject to "stand still"
provisions, whereby it is prohibited for a period of three years, without the
consent of CMGI, (i) from increasing its ownership in CMGI above ten percent of
CMGI's outstanding shares, (ii) from exercising any control or influence over
CMGI, and (iii) from entering into any voting agreement with respect to its CMGI
shares.
51
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Pursuant to a stock purchase agreement entered into as of February 15,
1998, the Company sold 1,250,000 shares of its common stock to Sumitomo
Corporation ("Sumitomo") on February 27, 1998. The CMGI shares sold to Sumitomo
were priced at $8.00 per share, with proceeds to CMGI totaling $10,000,000. The
CMGI shares purchased by Sumitomo are not registered under the Securities Act of
1933 and carry a one-year restriction on transfer or sale. Under the terms of
the agreement and following the one-year period, Sumitomo is entitled to two
demand registration rights as well as piggyback registration rights.
Additionally, Sumitomo is subject to "stand still" provisions, whereby it is
prohibited for a period of three years, without the consent of CMGI, from (i)
increasing its ownership in CMGI above ten percent of CMGI's outstanding shares,
(ii) proposing or soliciting any person to propose a business combination with,
or change of control of, CMGI, (iii) making, proposing or soliciting any person
to propose a tender offer for CMGI stock, and (iv) entering into any voting
agreement with respect to its CMGI shares.
(15) Stock Option Plans
The Company has two stock option plans currently in effect: the 1986 Stock
Option Plan (the "1986 Plan") and the 1995 Stock Option Plan For Non-Employee
Directors (the "Directors' Plan"). Options under both plans are granted at fair
market value on the date of the grant. Options granted under the 1986 Plan are
generally exercisable in equal cumulative installments over a four-to-ten year
period beginning one year after the date of grant. Options under the Directors'
Plan become exercisable in five equal annual installments beginning immediately
after each Annual Stockholders Meeting following grant. Outstanding options
under both Plans at July 31, 1998 expire through 2008.
Under the 1986 Plan, non-qualified stock options or incentive stock options
may be granted to the Company's or its subsidiaries' employees, as defined. The
Board of Directors administers this plan, selects the individuals to whom
options will be granted, and determines the number of shares and exercise price
of each option. The Company has reserved 9,000,000 shares of common stock for
issuance under the 1986 Plan. The number of shares reserved for issuance
pursuant to the 1986 Plan is reduced by the number of shares issued under the
Company's 1995 Employee Stock Purchase Plan (see note 16).
Pursuant to the Directors' Plan, 1,128,000 shares of the Company's common
stock were initially reserved. Options for 188,000 shares are to be granted to
each Director who is neither an officer or full time employee of the Company,
nor an affiliate of an institutional investor which owns shares of common stock
of the Company. Options were granted to existing Directors with five years of
continuous service at the date the Plan was adopted, and are granted to
subsequent Directors at the time of election to the Board.
The status of the plans during the three fiscal years ended July 31, 1998,
was as follows:
<TABLE>
<CAPTION>
1998 1997
------------------------------------ -----------------------------------
Weighted Weighted
Number of average Number of average
shares exercise price shares exercise price
------ -------------- ------ --------------
<S> <C> <C> <C> <C>
Options outstanding, beginning of year 3,870,760 $1.90 4,087,432 $1.94
Granted 1,762,500 8.68 676,200 3.97
Exercised (953,126) 2.44 (434,508) 2.09
Canceled (225,376) 2.91 (458,364) 5.08
--------- ---------
Options outstanding, end of year 4,454,758 $4.42 3,870,760 $1.90
========= ===== ========= =====
Options exercisable, end of year 1,292,470 $1.24 1,479,544 $1.49
========= ===== ========= =====
Options available for grant, end of 1,959,044 3,562,560
year ========= =========
<CAPTION>
1996
------------------------------------
Weighted
Number of average
shares exercise price
------ --------------
<S> <C> <C>
Options outstanding, beginning of year 4,812,296 $0.82
Granted 913,824 4.94
Exercised (1,283,368) 0.20
Canceled (355,320) 0.83
----------
Options outstanding, end of year 4,087,432 $1.94
========== =====
Options exercisable, end of year 571,584 $1.24
========== =====
Options available for grant, end of 3,826,472
year ==========
</TABLE>
52
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
The following table summarizes information about the Company's stock
options outstanding at July 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding
-------------------------------------------------------------
Weighted average Weighted
Number of remaining average exercise
Range of exercise prices shares contractual life price
------------------------ ------ ---------------- -----
<S> <C> <C> <C>
$ 0.39 - $ 0.92 1,841,948 3.8 years $ 0.75
$ 1.53 - $ 2.53 274,668 3.7 1.91
$ 3.22 - $ 5.44 1,750,404 4.6 4.70
$ 6.13 - $ 8.91 178,238 3.4 7.17
$20.00 - $25.44 409,500 9.2 20.17
---------
$ 0.39 - $25.44 4,454,758 4.6 years $ 4.42
================ ========= =================== ======
<CAPTION>
Options Exercisable
-------------------------------------
Weighted
Number of average exercise
Range of exercise prices shares price
------------------------ ------ -----
<S> <C> <C>
$ 0.39 - $ 0.92 1,066,518 $0.80
$ 1.53 - $ 2.53 102,794 1.75
$ 3.22 - $ 5.44 98,046 3.55
$ 6.13 - $ 8.91 25,112 8.79
$20.00 - $25.44 -- --
---------
$ 0.39 - $25.44 1,292,470 $1.24
================ ========= =====
</TABLE>
SFAS No. 123, "Accounting for Stock-Based Compensation", sets forth a fair-
value based method of recognizing stock-based compensation expense. As
permitted by SFAS No. 123, the Company has elected to continue to apply APB No.
25 to account for its stock-based compensation plans. Had compensation cost for
awards in fiscal 1998, 1997 and 1996 under the Company's stock-based
compensation plans been determined based on the fair value method set forth
under SFAS No. 123, the pro forma effect on the Company's net income (loss) and
earnings (loss) per share would have been as follows:
<TABLE>
<CAPTION>
Years Ended July 31,
1998 1997 1996
------------ -------------- ------------
<S> <C> <C> <C>
Pro forma net income (loss) $28,604,000 $(23,907,000) $13,666,000
=========== ============ ===========
Pro forma net income (loss) per share:
Basic $ 0.69 $ (0.63) $ 0.38
=========== ============ ===========
Diluted $ 0.64 $ (0.63) $ 0.35
=========== ============ ===========
</TABLE>
The fair value of each stock option grant has been estimated on the date of
grant using the Black-Scholes option pricing model with the following weighted
average assumptions for fiscal 1998, 1997 and 1996, respectively: volatility of
90.07%, 66.69% and 80.30%; risk-free interest rate of 5.50%, 6.19% and 5.81%;
expected life of options of 4.2, 6.2 and 4.0 years; and 0% dividend yield for
all years. The weighted average fair value per share of options granted during
fiscal 1998, 1997 and 1996 was $5.86, $2.64 and $2.53, respectively.
The effect of applying SFAS No. 123 as shown in the above pro forma
disclosure is not likely to be representative of the pro forma effect on
reported income or loss for future years. SFAS No. 123 does not apply to awards
made prior to fiscal 1996 and additional awards in future years are anticipated.
(16) Employee Stock Purchase Plan
On October 4, 1994, the Board of Directors of the Company adopted the 1995
Employee Stock Purchase Plan (the Plan). The purpose of the Plan is to provide
a method whereby all eligible employees of the Company and its subsidiaries may
acquire a proprietary interest in the Company through the purchase of shares of
common stock. Under the Plan, employees may purchase the Company's common stock
through payroll deductions.
At the beginning of each of the Company's fiscal quarters, commencing with
February 1, 1995, employees are granted an option to purchase shares of the
Company's common stock at an option price equal to 85% of the fair market value
of the Company's common stock on either the first business day or last business
day of the applicable quarterly period, whichever is lower.
Employees purchased 66,392, 46,076 and 33,296 shares of common stock of the
Company under the Plan during fiscal 1998, 1997 and 1996, respectively.
53
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
(17) Income Taxes
The provision (benefit) for income taxes from continuing operations for the
years ended July 31, consists of the following:
<TABLE>
<CAPTION>
Current Deferred Total
------- -------- -----
<S> <C> <C> <C>
July 31, 1996:
Federal $ 8,444,000 $ 6,448,000 $14,892,000
State 839,000 1,835,000 2,674,000
----------- ----------- -----------
$ 9,283,000 $ 8,283,000 $17,566,000
=========== =========== ===========
July 31, 1997:
Federal $ 724,000 $ (849,000) $ (125,000)
State 2,181,000 (22,000) 2,159,000
----------- ----------- -----------
$ 2,905,000 $ (871,000) $ 2,034,000
=========== =========== ===========
July 31, 1998:
Federal $17,229,000 $ 7,424,000 $24,653,000
State 10,120,000 (3,218,000) 6,902,000
----------- ----------- -----------
$27,349,000 $ 4,206,000 $31,555,000
=========== =========== ===========
</TABLE>
Excluded from the tax provision in fiscal 1998 are deferred tax assets and
liabilities of $187,000 (net of valuation allowance of $1,704,000) and $130,000,
respectively, which were acquired through the acquisitions of certain
subsidiaries during fiscal 1998. Also excluded from the tax provision in fiscal
1998, but included in deferred tax liabilities are $1,297,000 provided for the
effect of subsidiaries' equity transactions. In addition, during fiscal 1998,
the Company sold available-for-sale securities for which $593,000 of deferred
taxes were provided in fiscal 1997 relating to the unrealized holding gain
recorded on these securities at July 31, 1997.
Included in deferred tax assets at July 31, 1998 is approximately $950,000,
which has been fully offset by a valuation allowance, related to the acquisition
of net operating loss carryforwards of certain subsidiaries acquired during
fiscal 1998. If utilized, the tax benefit of the acquired net operating loss
carryforwards will result in a reduction of recorded goodwill in lieu of an
income tax benefit in the Consolidated Statement of Operations.
Excluded from the tax benefit in fiscal 1997 but included in deferred
income tax liabilities and assets are $593,000 provided for unrealized holding
gains from the increase in the market value of available-for-sale securities and
$260,000 related to deferred tax assets acquired with the acquisition of Pacific
Link, respectively. Excluded from the tax provision in fiscal 1996 but included
in deferred income tax liabilities are $666,000 provided for the effect of
subsidiaries' equity transactions and $78,000 related to the difference in bases
of assets acquired.
54
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Deferred income tax assets and liabilities have been classified on the
accompanying Consolidated Balance Sheets in accordance with the nature of the
item giving rise to the temporary differences. The components of deferred tax
assets and liabilities are as follows:
<TABLE>
<CAPTION>
July 31, 1998 July 31, 1997
------------------------------------------- ------------------------------------------
Current Non-current Total Current Non-current Total
------------ -------------- ------------- ------------ ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Deferred tax assets:
Accruals and reserves $ 3,322,000 $ -- $ 3,322,000 $1,630,000 $ -- $ 1,630,000
Tax basis in excess of financial basis of
investments in subsidiaries and
affiliates -- 9,731,000 9,731,000 -- 6,990,000 6,990,000
Tax basis in excess of financial basis of
available-for-sale securities 740,000 -- 740,000 -- -- --
Net operating loss carryforward of
acquired subsidiary -- 957,000 957,000 -- -- --
Other 22,000 1,361,000 1,383,000 -- 866,000 866,000
----------- ------------ ------------ ---------- ----------- -----------
Total gross deferred tax assets 4,084,000 12,049,000 16,133,000 1,630,000 7,856,000 9,486,000
Less valuation allowance (1,617,000) (11,253,000) (12,870,000) (985,000) (7,716,000) (8,701,000)
----------- ------------ ------------ ---------- ----------- -----------
Net deferred tax assets 2,467,000 796,000 3,263,000 645,000 140,000 785,000
----------- ------------ ------------ ---------- ----------- -----------
Deferred tax liabilities:
Financial basis in excess of tax basis of
investments in subsidiaries and
affiliates -- (15,897,000) (15,897,000) -- (7,994,000) (7,994,000)
Differences in tax depreciation and
amortization -- (293,000) (293,000) -- (570,000) (570,000)
Financial basis in excess of tax basis of
available-for-sale securities -- -- -- (534,000) -- (534,000)
Other (102,000) (142,000) (244,000) -- (57,000) (57,000)
----------- ------------ ------------ ---------- ----------- -----------
Total gross deferred tax liabilities (102,000) (16,332,000) (16,434,000) (534,000) (8,621,000) (9,155,000)
----------- ------------ ------------ ---------- ----------- -----------
Net deferred tax asset (liability) $ 2,365,000 $(15,536,000) $(13,171,000) $ 111,000 $(8,481,000) $(8,370,000)
=========== ============ ============ ========== =========== ===========
</TABLE>
The net change in the total valuation allowance for the year ended July 31,
1998 was an increase of $2,465,000, net of the impact of acquired valuation
allowances. In assessing the realizability of deferred tax assets, management
considers whether it is more likely than not that some portion or all of the
deferred tax assets will not be realized. Based upon the level of historical
taxable income and projections for future taxable income over the periods which
the deferred tax assets are deductible, management believes it is more likely
than not the Company will realize the benefits of these deductible differences,
net of the existing valuation allowance at July 31, 1998.
The following table reconciles the income tax expense (benefit) based on
the federal statutory income tax rate to the Company's actual income tax
expense:
<TABLE>
<CAPTION>
Years Ended July 31,
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Provision (benefit) for income taxes at federal statutory rate $20,587,000 $(4,480,000) $11,611,000
Difference in income tax expense (benefit) resulting from:
Non-deductible goodwill amortization 859,000 294,000 112,000
Valuation allowance, net of impact of acquisitions 2,465,000 4,903,000 3,798,000
Non-deductible in-process research and development charge
related to acquisition of subsidiary 3,220,000 -- --
Utilization of research and development credits (612,000) -- --
State income taxes, net of federal benefit 4,486,000 1,403,000 1,738,000
Other 550,000 (86,000) 307,000
----------- ----------- -----------
Actual income tax expense (benefit) $31,555,000 $ 2,034,000 $17,566,000
=========== =========== ===========
</TABLE>
55
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
(18) Selected Quarterly Financial Information (unaudited)
The following table sets forth selected quarterly financial and stock price
information for the years ended July 31, 1998 and 1997. The operating results
for any given quarter are not necessarily indicative of results for any future
period. The Company's common stock is traded on the NASDAQ National Market
System ("NASDAQ/NMS") under the symbol CMGI. Included below are the high and
low sales prices (adjusted for 2-for-1 stock splits effected on May 11, 1998 and
January 11, 1999) during each quarterly period for the shares of common stock as
reported by NASDAQ/NMS.
(in thousands, except per share data)
<TABLE>
<CAPTION>
Fiscal 1998 Quarter ended
-------------------------
Oct. 31 Jan. 31 Apr. 30 Jul. 31
------- ------- ------- -------
(Restated) (Restated)
<S> <C> <C> <C> <C>
Net revenues $ 22,595 $ 15,230 $ 18,145 $ 25,946
Cost of revenues 13,675 14,275 17,230 27,770
Research and development expenses 6,047 4,513 3,849 4,814
In-process research and development expenses -- 875 9,250 200
Selling, general and administrative expenses 15,071 9,204 11,317 14,085
------------ -------- -------- --------
Operating loss (12,198) (13,637) (23,501) (20,923)
Interest income (expense), net 73 (420) (202) (321)
Gain on sale of Lycos, Inc. common stock 6,324 10,764 24,850 50,450
Gain on issuance of stock by Lycos, Inc. (94) 8 24,294 22,077
Gain on sale of available-for-sale securities 4,174 -- -- --
Gain on sale of investment in TeleT -- -- -- --
Gain on sale of NetCarta Corporation -- -- -- --
Gain on distribution of Lycos, Inc. common stock -- -- -- --
Equity in losses of affiliates (1,529) (2,987) (4,247) (4,108)
Minority interest (28) -- -- --
Income tax benefit (expense) 1,019 336 (13,125) (19,785)
------------ -------- -------- --------
Income (loss) from continuing operations (2,259) (5,936) 8,069 27,390
Discontinued operations, net of income taxes 4,944 102 (147) (259)
------------ -------- -------- --------
Net income (loss) $ 2,685 $ (5,834) $ 7,922 $ 27,131
============ ======== ======== ========
Market Price
High $ 7.13 $ 9.25 $ 26.88 $ 45.88
============ ======== ======== ========
Low $ 3.69 $ 4.78 $ 9.14 $ 16.63
============ ======== ======== ========
<CAPTION>
Fiscal 1997 Quarter ended
-------------------------
Oct. 31 Jan. 31 Apr. 30 Jul 31
------- ------- ------- ------
<S> <C> <C> <C> <C>
Net revenues $ 7,540 $ 16,058 $ 16,602 $19,856
Cost of revenues 3,638 9,510 9,755 11,963
Research and development expenses 3,720 4,997 4,444 4,606
In-process research and development expenses 1,312 -- -- --
Selling, general and administrative expenses 11,896 11,774 10,724 12,637
--------- -------- -------- -------
Operating loss (13,026) (10,223) (8,321) (9,350)
Interest income (expense), net 924 260 328 237
Gain on sale of Lycos, Inc. common stock -- -- -- --
Gain on issuance of stock by Lycos, Inc. -- -- -- --
Gain on sale of available-for-sale securities -- -- -- --
Gain on sale of investment in TeleT 3,616 -- -- --
Gain on sale of NetCarta Corporation -- 15,111 -- --
Gain on distribution of Lycos, Inc. common stock -- -- -- 8,413
Equity in losses of affiliates (1,008) (1,081) (1,924) (1,543)
Minority interest 2,422 1,025 492 848
Income tax benefit (expense) 515 (2,900) 1,176 (825)
--------- -------- -------- -------
Income (loss) from continuing operations (6,557) 2,192 (8,249) (2,220)
Discontinued operations, net of income taxes (840) (1,526) (2,027) (2,800)
--------- -------- -------- -------
Net income (loss) $ (7,397) $ 666 $(10,276) $(5,020)
========= ======== ======== =======
Market Price
High $ 4.57 $ 5.10 $ 4.41 $4.66
========= ======== ======== =======
Low $ 2.28 $ 2.39 $ 2.75 $3.10
========= ======== ======== =======
</TABLE>
(19) Subsequent Events
In August, 1998, CMG@Ventures II's holdings in Sage Enterprises were
converted into 225,558 shares of restricted Amazon.com, Inc. common stock as
part of a merger wherein Amazon.com, Inc. acquired Sage Enterprises.
CMG@Ventures II had invested $4.5 million in Sage Enterprises beginning in June,
1997. The Company expects to record a gain on the conversion of its investment
in Sage Enterprises during its fiscal quarter ended October 31, 1998. Such gain
will be recorded net of the 20% interest attributable to CMG@Ventures II's
profit members.
In August, 1998, the Company's affiliate, GeoCities, completed its initial
public offering of common stock, issuing approximately 5 million shares at a
price of $17.00 per share. The Company, through its subsidiaries, CMG@Ventures
I and II, has invested a total of $5.9 million in GeoCities beginning in
January, 1996. CMG@Ventures I and II own a combined 8.8 million shares of
GeoCities common stock and options to purchase an additional 1 million shares at
a price of $0.89 per share. The Company expects to record a gain on the
issuance of stock by GeoCities during its fiscal quarter ended October 31, 1998,
representing the increase in the book value of the Company's net equity in
GeoCities as a result of the initial public offering. The gain will be recorded
net of the interests attributable to CMG@Ventures I's and II's profit members.
In October, 1998, CMG@Ventures II's holdings in Reel.com were converted
into 1,943,783 restricted common and 485,946 restricted, convertible preferred
shares of Hollywood Entertainment Corporation (Hollywood Entertainment) as part
of a merger wherein Hollywood Entertainment acquired Reel.com. The preferred
shares are convertible into common shares on a 1-for-1 basis, subject to
approval by Hollywood Entertainment shareholders. CMG@Ventures II had invested
$6.9 million in Reel.com beginning in July, 1997. The Company expects to record
a gain on the conversion of its investment in Reel.com during its fiscal quarter
ended October 31, 1998. The gain will be reported net of the 20% interest
attributable to CMG@Ventures II's profit members.
56
<PAGE>
CMGI, Inc. and Subsidiaries
Notes to Consolidated Financial Statements - (Continued)
Also in October, 1998, in a separate transaction, the Company purchased
1,524,644 restricted common and 803,290 restricted, convertible preferred shares
of Hollywood Entertainment for a total purchase price of $31.1 million. The
preferred shares are convertible into common shares on a 1-for-1 basis, subject
to approval by Hollywood Entertainment shareholders.
The Company recently formed its third venture capital fund, CMG@Ventures III,
LLC (CMG@Ventures III), and has begun raising capital from outside investors for
a corresponding outside investment fund, @Ventures III, L.P. The Company owns
100% of the capital and is entitled to 80% of the net capital gains of
CMG@Ventures III, and will be entitled to 2% of the net capital gains of
@Ventures III, L.P. These two funds will co-invest in all investment candidates
based on a predetermined ratio. CMGI has committed to funding CMG@Ventures III
up to the greater of $30 million or 19.9% of amounts committed to @Ventures III,
L.P.
57
<PAGE>
ITEM 9. - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Incorporated by reference from the portions of the Definitive Proxy
Statement entitled "Proposal 1--Election of Directors," "Additional
Information," and "Section 16(a) Beneficial Ownership Reporting Compliance."
ITEM 11. - EXECUTIVE COMPENSATION
Incorporated by reference from the portions of the Definitive Proxy
Statement entitled "Executive Compensation,"and "Additional Information
Compensation of Directors."
ITEM 12. - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Incorporated by reference from the portion of the Definitive Proxy
Statement entitled "Security Ownership by Management and Principal
Stockholders."
ITEM 13. - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Incorporated by reference from the portion of the Definitive Proxy
Statement entitled "Certain Relationships and Related Transactions."
PART IV
ITEM 14. - EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(A) Financial Statements, Financial Statement Schedule, and Exhibits
1. Financial Statements. The financial statements as set forth
under Item 8 of this report on Form 10-K/A are incorporated
herein by reference. The following restated consolidated
financial statements of Lycos, Inc. as required by Regulation
S-X, Rule 3-09 are filed herewith as Exhibit 99.1:
- Independent Auditors' Report
- Consolidated Balance Sheets as of July 31, 1998
(Restated) and 1997
- Consolidated Statements of Operations for the three
years ended July 31, 1998 (Restated), 1997 and 1996
- Consolidated Statements of Stockholders' Equity for the
three years ended July 31, 1998 (Restated), 1997 and
1996
- Consolidated Statements of Cash Flows for the three
years ended July 31, 1998 (Restated), 1997 and 1996
- Notes to Consolidated Financial Statements (Restated)
2. Financial Statement Schedule. Financial Statement Schedule II
of the Company and the corresponding Report of Independent
Auditors on Financial Statement Schedule are included in this
Report.
All other financial statement schedules have been omitted
since they are either not required, not applicable, or the
information is otherwise included.
3. Exhibits. The following Exhibits are required to be filed with
this Report by Item 14 and are incorporated by reference to
the source cited in the Exhibit Index below or are filed
herewith.
58
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit No. Title Method of Filing
----------- ----- ----------------
<S> <C> <C>
3 (i)(1) Amendment to the Restated Certificate of Incorporated by reference to Exhibit 3 (i) (1) to the
Incorporation. Registrant's quarterly report on Form 10-Q for the quarter
ended April 30, 1996
3 (i) (2) Restated Certificate of Incorporation. Incorporated by reference from Registration Statement on Form
S-1, as amended, filed on November 10, 1993 (Registration No.
33-71518)
3 (ii) Restated By-Laws. Incorporated by reference from Registration Statement on Form
S-1, as amended, filed on November 10, 1993 (Registration No.
33-71518)
4 Specimen Stock Certificate representing the Incorporated by reference from Registration Statement on Form
Common Stock. S-1, as amended, filed on November 10, 1993 (Registration No.
33-71518).
10.01 Form of Indemnification Agreement executed Previously filed.
between the Company and each of the members of
its Board of Directors (David S. Wetherell,
William H. Berkman, Craig D. Goldman, John A.
McMullen and Robert J. Ranalli) in June 1998.
10.02 Lease, dated November 21, 1991, Between the Incorporated by reference from Registration Statement on Form
Registrant and Ballardvale Park Associates II S-1, as amended, filed on November 10, 1993 (Registration No.
Limited Partnership. 33-71518).
10.03 Lease Agreement, dated September 2, 1992, between Incorporated by reference from Registration Statement on Form
SalesLink Corporation, the subsidiary of the S-1, as amended, filed on November 10, 1993 (Registration No.
Registrant, and American National Bank & Trust 33-71518).
Company of Chicago as Trustee under Trust No.
1001971-01.
10.04 Amendment to Lease, dated May 10, 1992, between Incorporated by reference from Registration Statement on Form
SalesLink Corporation, the subsidiary of the S-1, as amended, filed on November 10, 1993 (Registration No.
Registrant, and Drydock Associates Limited 33-71518).
Partnership.
10.05* Employment Agreement, dated August 1, 1993, Incorporated by reference from Registration Statement on Form
between the Registrant and David S. Wetherell. S-1, as amended, filed on November 10, 1993 (Registration No.
33-71518).
10.06 Fulfillment and Inventory Management Agreement Incorporated by reference from Registration Statement on Form
between SalesLink Corporation, the subsidiary of S-1, as amended, filed on November 10, 1993 (Registration No.
the Registrant, and MFS Financial Services, Inc. 33-71518).
10.07 Fulfillment and Mailing Agreement, dated January Incorporated by reference from Registration Statement on Form
1, 1993, between SalesLink Corporation, the S-1, as amended, filed on November 10, 1993 (Registration No.
subsidiary of the Registrant and Kemper Financial 33-71518).
Services, Inc.
</TABLE>
59
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Title Method of Filing
----------- ----- ----------------
<S> <C> <C>
10.08 Agreement, dated January 15, 1991, between Incorporated by reference from Registration Statement on Form
ListLab, a division of the Registrant, and S-1, as amended, filed on November 10, 1993 (Registration No.
Prentice-Hall, Business and Professional 33-71518).
Publishing Division.
10.09 Account Indebtedness Letter Agreement, dated as Incorporated by reference from Registration Statement on Form
of November 9, 1993, between the Registrant and S-1, as amended, filed on November 10, 1993 (Registration No.
David S. Wetherell. 33-71518).
10.10 Amendment to Account Indebtedness Letter Incorporated by reference from Registration Statement on Form
Agreement, dated as of January 10, 1994, between S-1, as amended, filed on November 10, 1993 (Registration No.
the Registrant and David S. Wetherell. 33-71518).
10.11* Amendment No. 1 to the Employment Agreement, Incorporated by reference from Registration Statement on Form
dated January 20, 1994, between the Registrant S-1, as amended, filed on November 10, 1993 (Registration No.
and David S. Wetherell. 33-71518).
10.12 Amendment No. 2 to Account Indebtedness Letter Incorporated by reference from Registration Statement on Form
Agreement, dated January 25, 1994 between the S-1, as amended, filed on November 10, 1993 (Registration No.
Registrant and David S. Wetherell. 33-71518).
10.13 Extension Agreement dated August 4, 1995 to Incorporated by reference to Exhibit 10.24 to the Registrant's
Fulfillment and Mailing Agreement dated January annual report on Form 10-K for the year ended July 31, 1995 .
1, 1993, between SalesLink Corporation and Kemper
Financial Services, Inc.
10.14 Fulfillment Master Purchase Agreement dated March Incorporated by reference to Exhibit 10.25 to the Registrant's
28, 1994, between SalesLink Corporation and annual report on Form 10-K for the year ended July 31, 1995.
Fidelity Investments Institutional Service
Company, Inc.
10.15 Literature Fulfillment Agreement dated August 1, Incorporated by reference to Exhibit 10.26 to the Registrant's
1995, between SalesLink Corporation and Vista annual report on Form 10-K for the year ended July 31, 1995.
Capital Management.
10.16 License Agreement dated June 16, 1995, as Incorporated by reference to Exhibit 10.27 to the Registrant's
amended, between the Registrant, CMG@Ventures, annual report on Form 10-K for the year ended July 31, 1995.
L.P., Carnegie Mellon University, and Lycos, Inc.
10.17 Agreement and Plan of Reorganization dated as of Incorporated by reference from report on Form 8-K as filed
November 8, 1994, as amended, among the with the Commission 01/01/95 (File No. 0-22846).
Registrant, BookLink Technologies, Inc., America
Online, Inc. and BLT Acquisition Corporation.
10.18* 1995 Employee Stock Purchase Plan, as amended. Incorporated by reference to Exhibit 10.1 to the Registrant's
quarterly report on Form 10-Q for the quarter ended October
31, 1997.
10.19* 1986 Stock Option Plan, as amended. Incorporated by reference to Exhibit 10.2 to the Registrant's
quarterly report on Form 10-Q for the quarter ended October
31, 1997.
</TABLE>
60
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Title Method of Filing
----------- ----- ----------------
<S> <C> <C>
10.20 Master Agreement dated as of February 13, 1996 Incorporated by reference to Exhibit 10.33 to the Registrant's
between BBN Corporation and the Registrant. quarterly report on Form 10-Q for the quarter ended January
31, 1996.
10.21* 1995 Stock Option Plan for Non-Employee Incorporated by reference to Exhibit 10.3 to the Registrant's
Directors, as amended. quarterly report on Form 10-Q for the quarter ended October
31, 1997.
10.22 Amendments dated February 9, 1996 and March 4, Incorporated by reference to Exhibit 10.35 to the Registrant's
1996 to License Agreement dated June 16, 1995, quarterly report on Form 10-Q for the quarter ended January
between the Registrant, CMG@Ventures L.P., 31, 1996.
Carnegie Mellon University and Lycos, Inc.
10.23 Sublease, dated September 26, 1996 between the Incorporated by reference to Exhibit 10.1 to the Registrant's
Registrant and FTP Software, Inc. quarterly report on Form 10-Q for the quarter ended October
31, 1996.
10.24* Amendment No. 2 to Employment Agreement, dated Incorporated by reference to Exhibit 10.2 to the Registrant's
October 25, 1996, between the Registrant and quarterly report on Form 10-Q for the quarter ended October
David S. Wetherell. 31, 1996.
10.25 Supplement #1 to Sublease, dated September 26, Incorporated by reference to Exhibit 10.1 to the Registrant's
1996 between the Registrant and FTP Software, Inc. quarterly report or Form 10-Q for the quarter ended January
31, 1997.
10.26 CMG Stock Purchase Agreement, dated as of Incorporated by reference to Exhibit 99.1 to the Registrant's
December 10, 1996 by and between the Registrant current report on Form 8-K dated January 31, 1997, filed on
and Microsoft Corporation. February 14, 1997.
10.27* CMG @Ventures, Inc. Deferred Compensation Plan. Incorporated by reference to Exhibit 10.1 to the Registrant's
quarterly report on Form 10-Q for the quarter ended April 30,
1997.
10.28 Stock Purchase Agreement dated as of October 24, Incorporated by reference to Exhibit 2 to the Registrant's
1996, among SalesLink Corporation, CMG report on Form 8-K as filed with the commission 10/24/96 (File
Information Services, Inc., Pacific Direct No. 0-022846).
Marketing Corp., d/b/a Pacific Link and all the
stockholders of Pacific Link.
10.29 Warrant Purchase Agreement by and among SalesLink Incorporated by reference to Exhibit 10.37 to the Registrant's
Corporation and BankBoston, N.A., dated as of annual report on Form 10-K for the year ended July 31, 1997.
October 24, 1996.
10.30 Common Stock Purchase Warrant issued by SalesLink Incorporated by reference to Exhibit 10.38 to the Registrant's
Corporation to BankBoston, N.A., dated as of annual report on Form 10-K for the year ended July 31, 1997.
October 24, 1996.
10.31 Revolving Credit Agreement, dated May 14, 1997, Incorporated by reference to Exhibit 10.49 to the Registrant's
between the Registrant and BankBoston, N.A. annual report on Form 10-K for the year ended July 31, 1997.
10.32 Revolving Credit Note, dated May 14, 1997, Incorporated by reference to Exhibit 10.50 to the Registrant's
between the Registrant and BankBoston, NA. annual report on Form 10-K for the year ended July 31, 1997.
</TABLE>
61
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Title Method of Filing
----------- ----- ----------------
<S> <C> <C>
10.33 First Amendment, dated as of May 26, 1998, to Previously filed.
Revolving Credit Agreement, dated May 14, 1997 by
and among CMG Information Services, Inc. and
BankBoston, N.A. and the other lending
institutions listed on Schedule 1 to the Credit
Agreement.
10.34 Second Amendment, dated as of April 9, 1998, to Previously filed.
Revolving Credit Agreement, dated May 14, 1997,
by and among CMG Information Services, Inc. and
BankBoston, N.A. and the other lending
institutions listed on Schedule 1 to the Credit
Agreement.
10.35 Third Amendment, dated as of May 31, 1998, to Previously filed.
Revolving Credit Agreement, dated May 14, 1997,
by and among CMG Information Services, Inc. and
BankBoston, N.A. and the other lending
institutions listed on Schedule 1 to the Credit
Agreement.
10.36 Fourth Amendment, dated as of August 14, 1998, to Previously filed.
Revolving Credit Agreement, dated May 14, 1997,
by and among CMG Information Services, Inc. and
BankBoston, N.A. and the other lending
institutions listed on Schedule 1 to the Credit
Agreement.
10.37 Fifth Amendment, dated as of September 30, 1998, Previously filed.
to Revolving Credit Agreement, dated May 14,
1997, by and among CMG Information Services, Inc.
and BankBoston, N.A. and the other lending
institutions listed on Schedule 1 to the Credit
Agreement.
10.38 Common Stock Purchase Agreement dated as of Incorporated by reference to Exhibit 99.1 to the Registrant's
December 19, 1997 by and between CMG Information current report on Form 8-K dated December 19, 1997, filed
Services, Inc. and Intel Corporation. December 29, 1997.
10.39 ISDA Master Swap Agreement (the "Swap Incorporated by reference to Exhibit 10.1 to the Registrant's
Agreement"), dated January 13, 1998, between quarterly report on Form 10-Q for the quarter ended January
BankBoston, N.A. and the Registrant. 31, 1998.
10.40 Schedule to the Swap Agreement, dated January 13, Incorporated by reference to Exhibit 10.2 to the Registrant's
1998. quarterly report on Form 10-Q for the quarter ended January
31, 1998.
10.41 Confirmation to the Swap Agreement, dated January Incorporated by reference to Exhibit 10.3 to the Registrant's
13, 1998. quarterly report on Form 10-Q for the quarter ended January
31, 1998.
10.42 ISDA Credit Support Annex, dated January 13, Incorporated by reference to Exhibit 10.4 to the Registrant's
1998, between BankBoston, N.A. and the Registrant. quarterly report on Form 10-Q for the quarter ended January
31, 1998.
</TABLE>
62
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Title Method of Filing
----------- ----- ----------------
<S> <C> <C>
10.43 Agreement for the Assignment of Voting Rights, Incorporated by reference to Exhibit 10.5 to the Registrant's
dated January 13, 1998, between the Registrant quarterly report on Form 10-Q for the quarter ended January
and Long Lane Master Trust. 31, 1998.
10.44 Repurchase Agreement, dated January 13, 1998, Incorporated by reference to Exhibit 10.6 to the Registrant's
between the Registrant and Long Lane Master Trust. quarterly report on Form 10-Q for the quarter ended January
31, 1998.
10.45 Common Stock Purchase Agreement dated as of Incorporated by reference to Exhibit 99.1 to the Registrant's
February 15, 1998 by and between CMG Information current report on Form 8-K dated February 27, 1998, filed
Services, Inc. and Sumitomo Corporation. March 19, 1998.
10.46 CMG @Ventures I, LLC Limited Liability Company Incorporated by reference to Exhibit 10.1 to the Registrant's
Agreement, dated December 18, 1997. quarterly report on Form 10-Q for the quarter ended April 30,
1998.
10.47 Agreement and Plan of Merger dated as of April 8, Incorporated by reference to Exhibit 2.1 to the Registrant's
1998 among CMG Information Services, Inc., CMGI current report on Form 8-K dated April 8, 1998, filed on April
Acquisition Corporation, Accipiter, Inc., and 23, 1998.
Certain Stockholders of Accipiter, Inc. Named
Herein.
10.48 Employee Stockholder Escrow Agreement dated April Incorporated by reference to Exhibit 2.2 to the Registrant's
8, 1998. current report on Form 8-K dated April 8, 1998, filed on April
23, 1998.
10.49 Non-Employee Stockholder Escrow Agreement dated Incorporated by reference to Exhibit 2.3 to the Registrant's
April 8, 1998. current report on Form 8-K dated April 8, 1998, filed on April
23, 1998.
10.50 Employee Investment Representation and Lockup Incorporated by reference to Exhibit 2.4 to the Registrant's
Letters dated April 8, 1998. current report on Form 8-K dated April 8, 1998, filed on April
23, 1998.
10.51 Non-Employee Investment Representation and Lockup Incorporated by reference to Exhibit 2.5 to the Registrant's
Letters dated April 8, 1998. current report on Form 8-K dated April 8, 1998, filed on April
23, 1998.
10.52 Registration Rights Agreement dated April 8, 1998. Incorporated by reference to Exhibit 2.6 to the Registrant's
current report on Form 8-K dated April 8, 1998, filed on April
23, 1998.
10.53 Lease, dated January 6, 1998, between the 425 Incorporated by reference to Exhibit 10.2 to the Registrant's
Medford Nominee Trust and SalesLink Corporation quarterly report on Form 10-Q for the quarter ended April 30,
for premises at 425 Medford Street, Boston, 1998.
Massachusetts.
10.54 CMG Information Services, Inc. Guaranty of Incorporated by reference to Exhibit 10.3 to the Registrant's
SalesLink Corporation Lease for 425 Medford quarterly report on Form 10-Q for the quarter ended April 30,
Street, Boston, Massachusetts. 1998.
10.55 Supplement No. 2 to the Registrant's Lease for Incorporated by reference to Exhibit 10.4 to the Registrant's
100 Brickstone Square, Andover, Massachusetts. quarterly report on Form 10-Q for the quarter ended April 30,
1998.
</TABLE>
63
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Title Method of Filing
----------- ----- ----------------
<S> <C> <C>
10.56 Supplement No. 3 to the Registrant's Lease for Incorporated by reference to Exhibit 10.5 to the Registrant's
100 Brickstone Square, Andover, Massachusetts. quarterly report on Form 10-Q for the quarter ended April 30,
1998.
10.57 Amended and Restated Revolving Credit and Term Previously filed.
Loan Agreement, dated as of June 11, 1998, among
SalesLink Corporation, InSolutions Incorporated,
Pacific Direct Marketing Corp., BankBoston, N.A.
and the other lending institutions set forth in
Schedule 1.
10.58 Amended and Restated Term Note, dated June 11, Previously filed.
1998, between SalesLink Corporation and
InSolutions Incorporated and Imperial Bank.
10.59 Amended and Restated Term Note, dated June 11, Previously filed.
1998, between SalesLink Corporation and
InSolutions Incorporated and BankBoston, N.A.
10.60 Fourth Amended and Restated Revolving Credit Previously filed.
Note, dated June 11, 1998, between SalesLink
Corporation and InSolutions Incorporated and
Imperial Bank.
10.61 Fourth Amended and Restated Revolving Credit Previously filed.
Note, dated June 11, 1998, between SalesLink
Corporation and InSolutions Incorporated and
BankBoston, N.A.
10.62 Amended and Restated Stock Pledge Agreement, Previously filed.
dated June 11, 1998, between SalesLink
Corporation and BankBoston, N.A.
10.63 Amended and Restated Guaranty, dated as of June Previously filed.
11, 1998, by Pacific Direct Marketing Corp. in
favor of BankBoston, N.A.
10.64 Amended and Restated Security Agreement, dated as Previously filed.
of June 11, 1998, among SalesLink Corporation,
InSolutions Incorporated and BankBoston, N.A.
10.65 Amended and Restated Security Agreement, dated as Previously filed.
of June 11, 1998, between Pacific Direct
Marketing Corp. and BankBoston, N.A.
10.66 Amended and Restated Trademark Collateral Previously filed.
Security and Pledge Agreement, dated as of June
16, 1998, between SalesLink Corporation and
BankBoston, N.A.
10.67 Trademark Collateral Security and Pledge Previously filed.
Agreement, dated as of June 11, 1998, between
InSolutions Incorporated and BankBoston, N.A.
</TABLE>
64
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Title Method of Filing
----------- ----- ----------------
<S> <C> <C>
10.68 Registration Rights Agreement, dated June 16, Previously filed.
1998, between the listed shareholders and CMG
Information Services, Inc.
10.69 CMG@Ventures II, LLC Operating Agreement, dated Previously filed.
as of February 26, 1998
21 Subsidiaries of the Registrant. Previously filed.
23.1 Consent of Independent Auditors. Filed herewith.
23.2 Consent of Independent Auditors for Lycos, Inc. Filed herewith.
27.1 Restated Financial Data Schedule for the year Filed herewith.
ended July 31, 1998.
99.1 Restated Consolidated Financial Statements and Filed herewith.
Independent Auditors' Report Thereon of Lycos,
Inc.
</TABLE>
* Management contracts and compensatory plans or arrangements.
(B) Reports on Form 8-K
On June 12, 1998, the Company filed a report on Form 8-K/A amending the
Form 8-K dated April 8, 1998 in conjunction with the acquisition of all the
issued and outstanding shares of capital stock of Accipiter, Inc. in
exchange for approximately 2,528,000 shares of the Company's common stock.
On July 1, 1998, the Company filed a report on Form 8-K dated June 16, 1998
in conjunction with the acquisition of all the issued and outstanding
shares of capital stock of InSolutions, Incorporated in exchange for
approximately 370,000 shares of the Company's common stock, $5 million in
cash and a note payable to a former employee shareholder.
65
<PAGE>
REPORT OF INDEPENDENT AUDITORS ON FINANCIAL STATEMENT SCHEDULE
--------------------------------------------------------------
The Board of Directors
CMGI, Inc. (formerly "CMG Information Services, Inc."):
The audits referred to in our report dated September 22, 1998, except for Note
19, which is as of October 27, 1998, and except for the restatement referred to
in Notes 2, 3 and 14, as to which the date is May 7, 1999, included a related
financial statement schedule as of July 31, 1998, and for each of the years in
the three-year period ended July 31, 1998. This financial statement schedule is
the responsibility of the Company's management. Our responsibility is to
express an opinion on this financial statement schedule based on our audits. In
our opinion, such financial statement schedule, when considered in relation to
the basic consolidated financial statements taken as a whole, present fairly in
all material respects the information set forth therein.
/s/ KPMG LLP
KPMG LLP
Boston, Massachusetts
September 22, 1998, except for Note 19
which is as of October 27, 1998, and except
for the restatement referred to in Notes 2, 3
and 14, as to which the date is May 7, 1999.
66
<PAGE>
CMGI, INC.
SCHEDULE II
Valuation and Qualifying Accounts
For the years ended July 31, 1996, 1997, 1998
<TABLE>
<CAPTION>
Additions Deductions
------------------------------- -------------------------------
Additions Deductions
Accounts Receivable, Charged to (Charged
Allowance for Balance at Costs and against (a) Balance at
Doubtful beginning of Expenses (Bad Accounts Deconsolidation/ end
Accounts period Acquisitions Debt Expense) Receivable) Dispositions of period
-------- ------ ------------ ------------- ----------- ------------ ---------
<S> <C> <C> <C> <C> <C> <C>
1996 $ 47,000 $ -- $276,000 $ -- $ -- $323,000
1997 $323,000 $395,000 $424,000 $186,000 $ 10,000 $946,000
1998 $946,000 $264,000 $448,000 $ 99,000 $659,000 $900,000
</TABLE>
(a) Amount of $659,000 in fiscal 1998 relates to the effect of deconsolidation
of Lycos, Inc. on November 1, 1997. Amount of $10,000 in fiscal 1997
relates to the disposition of the Company's subsidiary, NetCarta
Corporation in January 1997.
67
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, this Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
CMGI, INC.
(Registrant)
Date: May 26, 1999 By /s/ David S. Wetherell
------------------------
David S. Wetherell, President
Pursuant to the
requirements of the Securities Exchange Act of 1934, this report has been duly
signed below by the following persons on behalf of the Registrant and in the
capacities and on the date set forth above.
Signature Title
- --------- -----
/s/ David S. Wetherell Chairman of the Board, President,
- --------------------------------- Chief Executive Officer and Director
David S. Wetherell (Principal Executive Officer)
/s/ Andrew J. Hajducky III Chief Financial Officer and
- --------------------------------- Treasurer (Principal Financial and
Andrew J. Hajducky III, CPA Accounting Officer)
/s/ Craig D. Goldman Director
- ---------------------------------
Craig D. Goldman
/s/ William H. Berkman Director
- ---------------------------------
William H. Berkman
/s/ Robert J. Ranalli Director
- ---------------------------------
Robert J. Ranalli
/s/ Avram Miller Director
- ---------------------------------
Avram Miller
68
<PAGE>
Exhibit 23.1
------------
CONSENT OF INDEPENDENT AUDITORS
--------------------------------
The Board of Directors
CMGI, Inc. (formerly "CMG Information Services, Inc."):
We consent to the incorporation by reference in the registration statements of
CMGI, Inc. on Forms S-8 (File No. 33-86742 and File No. 33-06745) and on Form S-
3 (File No. 333-71863) of our reports dated September 22, 1998, except as to
Note 19, which is as of October 27, 1998, and except for the restatement
referred to in Notes 2, 3 and 14, as to which the date is May 7, 1999, relating
to the consolidated balance sheets of CMGI, Inc. and subsidiaries as of July 31,
1998 and 1997, and the related consolidated statements of operations,
stockholders' equity and cash flows and related schedule for each of the years
of the three-year period ended July 31, 1998, which reports appear in the July
31, 1998 annual report on Form 10-K/A of CMGI, Inc.
/s/ KPMG LLP
KPMG LLP
Boston, Massachusetts
May 26, 1999
<PAGE>
Exhibit 23.2
------------
CONSENT OF INDEPENDENT AUDITORS
-------------------------------
The Board of Directors
Lycos, Inc.:
We consent to the incorporation by reference on Form 10-K/A of CMGI, Inc.
(formerly "CMG Information Services, Inc."),of our report dated August 18, 1998,
except for the restatement related to acquired in-process technology referred to
in Note 1, as to which the date is March 22, 1999 relating to the consolidated
balance sheets of Lycos, Inc. as of July 31, 1998 and 1997, and the related
consolidated statements of operations, stockholders' equity and cash flows for
each of the years in the three-year period ended July 31, 1998, which report
appears in the July 31, 1998 annual report on Form 10-K/A of Lycos, Inc.
/s/ KPMG LLP
KPMG LLP
Boston, Massachusetts
May 26, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE ANNUAL
REPORT ON FORM 10-K/A OF CMGI, INC. FOR THE YEAR ENDED JULY 31, 1998 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUL-31-1998
<PERIOD-START> AUG-01-1997
<PERIOD-END> JUL-31-1998
<CASH> 61,537
<SECURITIES> 5,764
<RECEIVABLES> 21,431
<ALLOWANCES> 900
<INVENTORY> 8,250
<CURRENT-ASSETS> 102,819
<PP&E> 20,990
<DEPRECIATION> 7,587
<TOTAL-ASSETS> 259,818
<CURRENT-LIABILITIES> 90,035
<BONDS> 0
0
0
<COMMON> 461
<OTHER-SE> 132,675
<TOTAL-LIABILITY-AND-EQUITY> 259,818
<SALES> 81,916
<TOTAL-REVENUES> 81,916
<CGS> 72,950
<TOTAL-COSTS> 72,950
<OTHER-EXPENSES> 79,225
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 3,296
<INCOME-PRETAX> 58,819
<INCOME-TAX> 31,555
<INCOME-CONTINUING> 27,264
<DISCONTINUED> 4,640
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 31,904
<EPS-BASIC> 0.76
<EPS-DILUTED> 0.71
</TABLE>
<PAGE>
EXHIBIT 99.1
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Lycos, Inc.:
We have audited the accompanying consolidated balance sheets of Lycos, Inc.
as of July 31, 1998 and 1997 and the related consolidated statements of
operations, stockholders' equity and cash flows for each of the years in the
three year period ended July 31, 1998. These consolidated financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Lycos, Inc. at July 31, 1998 and 1997, and the results of its operations and
cash flows for each of the years in the three year period ended July 31, 1998,
in conformity with generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
Boston, Massachusetts
August 18, 1998, except for the restatement
related to acquired in-process technology
referred to in Note 1, as to which the date
is March 22, 1999.
1
<PAGE>
LYCOS, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
JULY 31, 1998 JULY 31, 1997
------------- -------------
(restated)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ........................................... $ 153,728,200 $ 40,766,258
Accounts receivable, less allowance for doubtful accounts of
$1,208,000 and $554,000 at July 31, 1998 and 1997, respectively.... 10,958,470 6,634,262
Electronic commerce and license fees receivable...................... 30,223,986 9,065,806
Prepaid expenses..................................................... 5,559,842 4,278,418
Other current assets................................................. 326,292 --
------------- -------------
Total current assets............................................. 200,796,790 60,744,744
------------- -------------
Property and equipment, less accumulated depreciation and amortization... 3,960,059 2,397,600
Electronic commerce and license fees receivable.......................... 21,537,371 650,000
Investments.............................................................. 8,874,568 --
Intangible assets, less accumulated amortization......................... 78,787,554 1,243,050
Other assets............................................................. 3,278,994 383,615
------------- -------------
Total assets..................................................... $ 317,235,336 $ 65,419,009
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable..................................................... $ 4,873,302 $ 3,289,513
Accrued expenses..................................................... 17,589,700 7,387,707
Deferred revenues.................................................... 30,730,390 9,541,566
Billings in excess of revenues....................................... 681,849 2,387,424
Due to related parties............................................... -- 9,105
------------- -------------
Total current liabilities........................................ 53,875,241 22,615,315
Deferred revenues........................................................ 26,159,754 5,100,000
Deferred income taxes.................................................... 36,667 56,667
------------- -------------
26,196,421 5,156,667
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value; 5,000,000 shares authorized, none
issued or outstanding.............................................. -- --
Common stock, $.01 par value; 80,000,000 shares authorized,
38,991,436 shares at July 31, 1998 and 27,593,240 at July 31, 1997
issued and outstanding............................................. 389,916 275,932
Additional paid-in capital......................................... 278,126,582 49,368,940
Deferred compensation.............................................. (116,338) (185,436)
Accumulated deficit................................................ (40,251,893) (11,812,409)
Treasury stock, at cost, 708,674 shares at July 31, 1998........... (984,593) --
------------- -------------
Total stockholders' equity....................................... 237,163,674 37,647,027
------------- -------------
Total liabilities and stockholders' equity....................... $ 317,235,336 $ 65,419,009
============= =============
</TABLE>
See accompanying notes to consolidated financial statements.
2
<PAGE>
LYCOS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED
-----------------------------------------------------
JULY 31, 1998 JULY 31, 1997 JULY 31, 1996
------------- ------------- -------------
(restated)
<S> <C> <C> <C>
Revenues:
Advertising....................................... $ 41,768,607 $ 17,417,388 $ 4,478,474
Electronic commerce, license and other............ 14,291,698 4,855,654 778,753
------------- ------------- -------------
Total revenues................................ 56,060,305 22,273,042 5,257,227
Cost of revenues................................... 12,513,259 4,335,941 2,900,808
------------- ------------- -------------
Gross profit.................................. 43,547,046 17,937,101 2,356,419
Operating expenses:
Research and development.......................... 9,477,708 4,301,267 906,591
In process research and development............... 17,280,000 -- 452,000
Sales and marketing............................... 35,035,754 19,126,317 4,747,805
General and administrative........................ 5,631,104 2,718,763 1,692,362
Amortization of intangible assets................. 7,613,711 540,416 359,868
------------- ------------- -------------
Total operating expenses...................... 75,038,277 26,686,763 8,158,626
------------- ------------- -------------
Operating loss..................................... (31,491,231) (8,749,662) (5,802,207)
Interest income.................................... 3,051,747 2,130,472 714,369
------------- ------------- -------------
Net loss........................................... $ (28,439,484) $ (6,619,190) $ (5,087,838)
============= ============= =============
Basic net loss per share........................... $ (0.92) $ (0.24) $ (0.21)
============= ============= =============
Shares used in computing basic net loss per share.. 30,932,982 27,589,486 23,984,830
============= ============= =============
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
LYCOS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
ADDITIONAL
COMMON STOCK PAID-IN DEFERRED ACCUMULATED TREASURY STOCK
SHARES AMOUNT CAPITAL COMPENSATION DEFICIT SHARES AMOUNT
------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balances at July 31, 1995... 20,000,000 $ 200,000 $ 1,137,000 $ (87,000) $ (105,381) -- --
Capital contribution........ -- -- 1,000,000 -- -- -- --
Capital contribution
related to License
Agreement.............. -- -- 250,000 -- -- -- --
Issuance of common stock
in connection with
acquisitions........... 1,052,632 10,526 531,474 -- -- -- --
Issuance of common stock
pursuant to certain
preemptive rights...... 263,160 2,632 326,318 -- -- -- --
Issuance of common stock
in connection with Initial
Public Offering, net of
offering costs........ 6,270,000 62,700 45,631,382 -- -- -- --
Deferred compensation
related to grant of stock
options................ -- -- 523,505 (523,505) -- -- --
Amortization of deferred
compensation............... -- -- -- 234,344 -- -- --
Net loss.................... -- -- -- -- (5,087,838) -- --
------------------------------------------------------------------------------------------------
Balances at July 31, 1996... 27,585,792 $ 275,858 $ 49,399,679 $(376,161) $ (5,193,219) -- --
Issuance of common stock
in connection with
Employee Stock Purchase
Plan....................... 7,448 74 18,328 -- -- -- --
Cancellation of options..... -- -- (49,067) 49,067 -- -- --
Amortization of deferred
compensation............... -- -- -- 141,658 -- -- --
Net loss.................... -- -- -- -- (6,619,190) -- --
------------------------------------------------------------------------------------------------
Balances at July 31, 1997... 27,593,240 $ 275,932 $ 49,368,940 $(185,436) $ (11,812,409) -- --
Issuance of common stock
in connection with
Employee Stock
Purchase Plan......... 8,588 86 65,956 -- -- -- --
Cancellation of options..... -- -- (22,562) 22,562 -- -- --
Issuance of common stock
in connection with
exercise of stock options.. 2,047,020 20,470 3,221,724 -- -- 61,556 (307)
Treasury stock in
connection with exercise
of stock options....... -- -- -- -- -- 608,184 (467,589)
Issuance of common stock
in connection with
exercise of warrants....... 207,228 2,072 1,361,516 -- -- 18,836 (113,581)
Issuance of common stock
in connection with
strategic investments,
net of offering costs...... 301,028 3,012 7,879,431 -- -- -- --
Issuance of common stock
and warrants
in connection with
acquisitions.......... 4,149,142 41,492 104,807,563 -- -- 20,098 (403,116)
Issuance of common stock
in connection with
Secondary Public Offering,
net of offering
costs.................. 4,675,000 46,750 111,144,116 -- -- -- --
Issuance of common stock
in connection with
services rendered...... 10,190 102 299,898 -- -- -- --
Amortization of deferred
compensation............... -- -- -- 46,536 -- -- --
Net loss (restated)......... -- -- -- -- (28,439,484) -- --
------------------------------------------------------------------------------------------------
Balances at July 31, 1998
(restated)................. 38,991,436 $ 389,916 $ 278,126,582 $(116,338) $ (40,251,893) 708,674 $(984,593)
------------------------------------------------------------------------------------------------
<CAPTION>
TOTAL
--------------
<S> <C>
Balances at July 31, 1995.. $ 1,144,619
Capital contribution....... 1,000,000
Capital contribution
related to License
Agreement............. 250,000
Issuance of common stock
in connection with
acquisitions.......... 542,000
Issuance of common stock
pursuant to certain
preemptive rights..... 328,950
Issuance of common stock
in connection with
Initial Public
Offering, net of
offering costs....... 45,694,082
Deferred compensation
related to grant of stock
options............... --
Amortization of deferred
compensation.............. 234,344
Net loss................... (5,087,838)
--------------
Balances at July 31, 1996.. $ 44,106,157
Issuance of common stock
in connection with
Employee Stock Purchase
Plan....................... 18,402
Cancellation of options..... --
Amortization of deferred
compensation............... 141,658
Net loss.................... (6,619,190)
--------------
Balances at July 31, 1997... $ 37,647,027
Issuance of common stock
in connection with
Employee Stock
Purchase Plan......... 66,042
Cancellation of options..... --
Issuance of common stock
in connection with
exercise of stock options.. 3,241,887
Treasury stock in
connection with exercise
of stock options....... (467,589)
Issuance of common stock
in connection with
exercise of warrants....... 1,250,007
Issuance of common stock
in connection with
strategic investments,
net of offering costs...... 7,882,443
Issuance of common stock
and warrants
in connection with
acquisitions.......... 104,445,939
Issuance of common stock
in connection with
Secondary Public Offering,
net of offering
costs.................. 111,190,866
Issuance of common stock
in connection with
services rendered...... 300,000
Amortization of deferred
compensation............... 46,536
Net loss (restated)......... (28,439,484)
--------------
Balances at July 31, 1998... $237,163,674
--------------
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
LYCOS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED
-----------------------------------------------
July 31, 1998 July 31, 1997 July 31, 1996
-------------- -------------- --------------
(restated)
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net loss....................................................... $(28,439,484) $(6,619,190) $(5,087,838)
Adjustments to reconcile net loss to net cash used in
operating activities:
Amortization of deferred compensation....................... 46,536 141,658 234,344
Depreciation and amortization............................... 9,138,843 1,269,064 642,218
Allowance for doubtful accounts............................. 654,000 405,000 200,000
In process research and development expense................. 17,280,000 -- 452,000
Issuance of common stock for services rendered.............. 300,000 -- --
Changes in operating assets and liabilities:
Accounts receivable......................................... (4,768,973) (3,745,337) (3,454,950)
Electronic commerce and license fees receivable............. (42,045,551) (7,731,585) (1,984,221)
Prepaid expenses............................................ (1,258,140) (3,296,707) (981,711)
Other current assets........................................ (326,292) -- --
Other assets................................................ (2,895,379) (216,000) (167,615)
Accounts payable............................................ 774,033 547,634 2,600,071
Accrued expenses............................................ 8,343,512 5,641,289 1,735,693
Deferred revenues........................................... 42,155,798 11,493,144 3,125,285
Billings in excess of revenues.............................. (1,705,575) 984,992 1,402,432
Due to related parties...................................... (9,105) (428,162) 295,660
Deferred income taxes....................................... (20,000) (21,333) 28,000
-------------- -------------- -------------
Net cash used in operating activities.......................... (2,775,777) (1,575,533) (960,632)
-------------- -------------- -------------
INVESTING ACTIVITIES
Purchase of property and equipment............................. (1,091,988) (1,818,798) (1,632,079)
Payments under License Agreement............................... -- -- (750,000)
Cash acquired through acquisitions, net........................ 2,540,619 -- 17,137
Investment in Joint Venture.................................... (992,125) -- --
-------------- -------------- -------------
Net cash provided by (used in) investing activities............ 456,506 (1,818,798) (2,364,942)
-------------- -------------- -------------
FINANCING ACTIVITIES
Proceeds from issuance of common stock, net of offering costs.. 111,190,866 18,402 46,021,314
Proceeds from exercise of stock options........................ 3,241,887 -- --
Proceeds from issuance of common stock under Employee
Stock Purchase Plan............................................ 66,042 -- --
Proceeds from exercise of warrants............................. 1,250,007 -- --
Proceeds from capital contribution............................. -- -- 1,000,000
Cash used to repurchase treasury stock......................... (467,589) -- --
-------------- -------------- -------------
Net cash provided by financing activities...................... 115,281,213 18,402 47,021,314
-------------- -------------- -------------
Net increase (decrease) in cash and cash equivalents........... 112,961,942 (3,375,929) 43,695,740
Cash and cash equivalents at beginning of year................. 40,766,258 44,142,187 446,447
-------------- -------------- -------------
Cash and cash equivalents at end of year....................... $153,728,200 $40,766,258 $44,142,187
============== ============== =============
</TABLE>
5
<PAGE>
LYCOS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS--(CONTINUED)
<TABLE>
<CAPTION>
YEAR ENDED
---------------------------------------------
JULY 31, 1998 JULY 31, 1997 JULY 31, 1996
--------------- ------------- -------------
(restated)
<S> <C> <C> <C>
Schedule of non-cash financing and investing activities:
Issuance of common stock for License Agreement.................... $ -- $ -- $300,000
Recognition of deferred tax liability related to License
Agreement........................................................... -- -- 50,000
Assets and liabilities recognized upon acquisition of Point
Communications...................................................... -- -- --
Accounts receivable.............................................. -- -- 33,975
Property and equipment........................................... -- -- 47,496
Goodwill......................................................... -- -- 186,633
Accounts payable................................................. -- -- 97,734
Deferred revenues................................................ -- -- 23,137
Accrued expenses................................................. -- -- 4,370
Due to related parties........................................... -- -- 70,000
Issuance of common stock upon acquisition of Tripod, Inc., -- --
WiseWire, Corp., and GuestWorld, Inc................................ $104,445,939
Assets and liabilities recognized upon acquisition of Tripod, Inc., -- --
WiseWire Corp., and GuestWorld, Inc.
Accounts receivable.............................................. 209,235 -- --
Prepaid expenses................................................. 23,284 -- --
Property and equipment........................................... 1,995,601 -- --
Developed technology............................................. 12,331,195 -- --
Goodwill and other intangible assets............................. 72,827,020 -- --
Accounts payable................................................. 809,756 -- --
Accrued expenses................................................. 1,858,481 -- --
Deferred revenues................................................ 92,780 -- --
Issuance of common stock in connection with strategic
investments........................................................ 7,882,443 -- --
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company
Lycos, Inc. ("Lycos" or the "Company"), which operates in one industry
segment, provides guides for finding information on the Internet's World Wide
Web. The Company was formed in June 1995 by CMG@Ventures, L.P. ("CMG@Ventures")
to license on an exclusive basis (with certain limited exceptions) from Carnegie
Mellon University ("CMU" or the "Licensor") the Lycos Internet search and
indexing technology.
The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries, from their respective dates of acquisition.
All significant intercompany balances and transactions have been eliminated.
Restatement Related to Acquired In-Process Technology
The accompanying consolidated financial statements as of and for the year
ended July 31, 1998 have been restated to reflect a change in the original
accounting for the purchase price allocations related to the acquisitions of
Tripod, Wisewire and Guestworld. The Company has also restated the accounting
for its acquisition of WhoWhere? completed subsequent to July 31, 1998. In a
letter (the "SEC Letter"), dated September 9, 1998, to the American Institute of
Certified Public Accountants SEC Regulations Committee, which was made public in
October 1998, the Securities and Exchange Commission (SEC) set forth its views
on purchased in-process research and development. Subsequent to the issuance of
the SEC Letter the staff of the SEC has reviewed various filings of the Company.
As a part of this review the management of the Company and the staff of the SEC
have had discussions with respect to the methods used to value purchased in-
process research and development that was written off at the date of
acquisition. As a result of these discussions, the Company has modified the
methods used to value purchased in-process research and development in
connection with the Company's acquisitions. This resulted in a reduction in the
amount of the charge for in-process research and development from $91,239,000 to
$17,280,000 and an increase in the amounts allocated to intangible assets from
$11,199,000 to $85,158,000. The restatement does not affect previously reported
net cash flows for the periods. The effect of this restatement on previously
reported consolidated financial statements as of and for the year ended July 31,
1998 is as follows (in thousands except per share amounts):
<TABLE>
<CAPTION>
Year Ended
July 31, 1998
-------------
Statements of Operations: As Reported Restated
----------- --------
<S> <C> <C>
In-process research and development $ 91,239 $ 17,280
Amortization of intangibles 2,132 7,614
Loss from operations (99,968) (31,491)
Net loss (96,917) (28,439)
Basic and diluted net loss per share $ (3.13) $ (0.92)
July 31, 1998
-------------
Balance Sheets: As Reported Restated
----------- --------
Intangible assets $ 10,310 $ 78,788
Total assets 248,758 317,235
Accumulated deficit (108,729) (40,252)
Total shareholders' equity 168,687 237,164
</TABLE>
Joint Ventures
On May 1, 1997, the Company entered into a joint venture agreement with
Bertelsmann Internet Services to create localized versions of the Lycos search
and navigation service throughout Europe. The new company, named Lycos
Bertelsmann GmbH & Co. KG ("Lycos Bertelsmann"), is owned 50% by Lycos and 50%
by Bertelsmann. Bertelsmann Internet Services, a subsidiary of Bertelsmann AG,
has committed to provide capital, infrastructure and employees for the venture
while Lycos will provide the core technology and brand name. The carrying value
of the Company's investment in Lycos Bertelsmann was not material at July 31,
1998 or 1997. The investment is accounted for under the equity method and
accordingly, the Company will recognize 50% of the net profits of Lycos
Bertelsmann when realized.
On April 13, 1998, the Company entered into a joint venture with Sumitomo
Corporation, a $100 billion dollar company and one of Japan's largest trading
companies, and Internet Initiative Japan (IIJ), the country's largest Internet
Service Provider to create a localized version of the lycos.com Web Site to be
called Lycos Japan which will feature navigation and search capability, and will
soon include news, sports, stocks and other services. Terms of the deal include
a 40% ownership stake by Lycos in exchange for approximately $992,000, with
Sumitomo Corporation owning 50% of the venture and IIJ maintaining a 10% stake
in the entity. Sumitomo Corporation and Lycos will manage the daily operations
of the site, including aggregation of local content, sales, marketing and
administration from the operations' headquarters in Tokyo, Japan. For the year
ending July 31, 1998, Lycos' share of operating costs was not material.
Investments
During 1998 the Company obtained equity interests in two privately held,
internet related companies through the issuance of the Company's common stock
(see Note 2). Both investments resulted in the Company owning less than 20% of
the respective investees. Accordingly, these investments are accounted for under
the cost method. The Company purchased these investments in March and April,
1998, and their carrying values approximate fair values. For these non-quoted
investments, the Company regularly reviews the assumptions underlying the
operating performance and cash flow forecasts in assessing the carrying values.
Public Offerings
On April 2, 1996, the Company completed an initial public offering of its
common stock in which 6,000,000 shares of common stock were issued at a price of
$8.00 per share. On April 12, 1996, pursuant to the exercise of an over-
allotment option granted to the underwriters of the Company's initial public
offering, the Company issued an additional 270,000 shares of its common stock at
a price of $8.00 per share.
7
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
On June 4, 1998, the Company completed a secondary offering of its common
stock in which 4,000,000 shares of common stock were issued at a price of $23.82
per share net of underwriting discounts and commissions. On June 10, 1998,
pursuant to the exercise of an over-allotment option granted to the
underwriters of the Company's secondary offering, the Company issued an
additional 675,000 shares of its common stock at a price of $25.00 per share.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with original
or remaining maturities of three months or less to be cash equivalents. At July
31, 1998 and 1997, the Company had no investments with maturities greater than
three months.
Electronic Commerce and License Fees Receivable
Electronic commerce and license fees receivable are comprised of fees to be
received in the future on electronic commerce and licensing agreements existing
at the balance sheet date.
Other assets
Other assets comprise primarily purchased hardware to be sold to joint
venture partners. Purchased hardware will be sold at cost upon completion.
Property and Equipment
Property and equipment are stated at cost, net of accumulated amortization
and depreciation. Property and equipment are depreciated on a straight-line
basis over the estimated useful lives of the assets (three to five years).
Leasehold improvements are amortized on a straight-line basis over the lesser of
the estimated useful life of the asset or the lease term.
Intangible Assets
Intangible assets primarily relate to the Company's acquisitions and
include developed technology, licensed technology, trademarks, trade names,
content copyrights, customer base and goodwill. In connection with acquisitions
accounted for under the purchase method of accounting (see Note 4), the Company
recorded these intangible assets based on the excess of the purchase price over
the identifiable tangible net assets of the acquiree on the date of purchase.
Intangible assets are reported at cost, net of accumulated amortization, and are
being amortized over their estimated useful life of five years. The Company
continually evaluates the existence of goodwill impairment in accordance with
the provisions of SFAS 121, "Accounting for the Impairment of Long-Lived Assets
and Long-Lived Assets to be disposed of".
Accounting for Impairment of Long-Lived Assets
In accordance with Financial Accounting Standards Board Statement No. 121,
the Company records impairment losses on long-lived assets to be held and used
or to be disposed of when indicators of impairment are present and the
undiscounted cash flows estimated to be generated by those assets are less than
the asset carrying amount.
Deferred Revenues
Deferred revenues are comprised of license and electronic commerce fees to
be earned in the future on noncancelable agreements existing at the balance
sheet date.
8
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Income Taxes
The Company records income taxes using the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and the tax effect of net operating loss carryforwards. Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected to
be recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
Revenue Recognition
The Company's advertising revenues are derived principally from short-term
advertising contracts in which the Company guarantees a number of impressions
for a fixed fee or on a per impression basis with an established minimum fee.
Revenues from advertising are recognized as the services are performed.
Electronic commerce revenues are derived principally from "slotting fees"
paid for selective positioning and promotion within the Company's suite of
products as well as from royalties from the sale of goods and services from the
Company's websites. The Company's license and product revenues are derived
principally from product licensing fees and fees from maintenance and support of
its products. Electronic commerce, license and product revenues are generally
recognized upon delivery provided that no significant Company obligations remain
and collection of the receivable is probable. In cases where there are
significant remaining obligations, the Company defers such revenue until those
obligations are satisfied. Fees from maintenance and support of the Company's
products including revenues bundled with the initial licensing fees are deferred
and recognized ratably over the service period.
Cost of Revenues
Cost of revenues specifically attributable to advertising and electronic
commerce, license and product revenues are not separately identifiable and
therefore are not separately disclosed in the consolidated statements of
operations.
Research and Development Costs
Research and development expenditures are expensed as incurred. Software
development costs are required to be capitalized when a product's technological
feasibility has been established either by completion of a detail program design
or a working model of the product and ending when a product is available for
general release to consumers. To date, attainment of technological feasibility
of the Company's products and general release to customers have substantially
coincided. As a result, the Company has not capitalized any software development
costs since such costs have not been significant.
Advertising Costs
The Company expenses advertising production costs as incurred. Advertising
expense was approximately $5,675,000, $4,427,000 and $567,000 for the years
ended July 31, 1998, 1997 and 1996, respectively.
9
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Stock-Based Compensation
Statement of Financial Accounting Standards No. 123 ("SFAS 123") requires
that companies either recognize compensation expense for grants of stock, stock
options, and other equity instruments based on fair value, or provide pro forma
disclosure of net income (loss) and earnings (loss) per share in the notes to
the financial statements. The Company applies APB Opinion 25 and related
interpretations in accounting for its plans. Accordingly, no compensation cost
has been recognized under SFAS 123 for the Company's stock option plans, and
footnote disclosure is provided in Note 8.
Concentration of Credit Risk
The Company performs ongoing credit evaluations of its customers' financial
conditions and generally does not require collateral on accounts receivable. The
Company maintains allowances for credit losses and such losses have been within
management's expectations. Direct write-offs of accounts receivable were
$333,000 for the year ended July 31, 1998 and $51,000 for the year ended July
31, 1997. There were no direct write-offs of accounts receivable for the year
ended July 31, 1996. No single customer accounted for greater than 10% of total
revenues during the years ended July 31, 1998, 1997 and 1996.
The Company's services are provided to customers in several industries
primarily in North America. Sales to foreign customers for the years ended July
31, 1998, 1997 and 1996 were approximately $2,640,000, $1,700,000 and $385,000,
respectively.
Financial Instruments
The recorded amounts of financial instruments, including cash equivalents,
receivables, accounts payable, accrued expenses and deferred revenues,
approximate their fair market values as of July 31, 1998. The Company has no
investments in derivative financial instruments.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Per Share Amounts
For the year ended July 31, 1998, the Company adopted the provisions of
Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings per
Share." SFAS 128 requires the presentation of basic loss per share and diluted
loss per share for all periods presented. As the Company has been in a net loss
position for the years ended July 31, 1998, 1997 and 1996, common stock
equivalents were excluded from the diluted loss per share calculation as they
would be antidilutive. As a result, diluted loss per share is the same as basic
loss per share, and has not been presented separately.
Stock Split
In July 1998, the Company's Board of Directors approved a two-for-one
common stock split. Shareholders of record on August 14, 1998 (the record date)
were entitled to one additional share for every share held on August 25, 1998.
The Company has presented loss per share and weighted average shares in the
consolidated statement of operations for all periods presented and all footnote
disclosures reflecting the effect of the stock split.
10
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Treasury Stock
In connection with a license agreement with Carnegie Mellon University,
CMG@Ventures, Inc. has agreed to sell to the Company the number of shares of
common stock equal to the shares issuable upon exercise of certain options
granted, as defined, at a price equal to the exercise price of the underlying
options exercised (see Note 8). Under this agreement, the Company issues shares
of Company stock to employees upon exercise of options and subsequently buys an
equivalent number of Company shares at the respective exercise price from
CMG@Ventures, resulting in treasury stock.
Reclassifications
Certain prior years' balances have been reclassified to conform with the
current year's presentation.
New Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board issued Statement No.
130 ("SFAS 130") "Reporting Comprehensive Income". This statement
establishes standards for reporting and display of comprehensive income and its
components (revenues, expenses, gains and losses) in a full set of general-
purpose financial statements. This statement is effective for fiscal years
beginning after December 15, 1997. Reclassification of financial statements for
earlier periods provided for comparative purposes is required. The Company
expects to adopt SFAS 130 for the year ending July 31, 1999. The Company
believes that this pronouncement will not have a material adverse affect on its
results of operations.
In June 1997, the Financial Accounting Standards Board issued Statement No.
131 ("SFAS 131"), "Disclosures about Segments of an Enterprise and Related
Information". This statement establishes standards for the way that public
business enterprises report information about operating segments in annual
financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports issued to
shareholders. This statement is effective for financial statements for periods
beginning after December 15, 1997. The Company expects to adopt SFAS 131 for the
year ending July 31, 1999. Because the Company operates within a single
operating segment, adoption of this statement is currently not expected to have
a material impact on the Company's consolidated financial statements and
footnote disclosures.
In October 1997, the American Institute of Certified Public Accountants
issued Statement of Position 97-2 ("SOP 97-2"), "Software Revenue Recognition",
which provides guidance on applying generally accepted accounting principles in
recognizing revenue on software transactions and supersedes SOP 91-1, "Software
Revenue Recognition". The Company expects to adopt SOP 97-2 for its fiscal year
ending July 31, 1999 and does not anticipate any material impact on its revenue
recognition policies.
In March 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-1("SOP 98-1"), "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use", which establishes
guidelines for the accounting for the costs of all computer software developed
or obtained for internal use. The Company is required to adopt SOP 98-1
effective August 1, 1999. The adoption of SOP 98-1 is not expected to have a
material impact on the Company's consolidated financial statements.
In April, 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-5 ("SOP 98-5"), "Reporting on the Costs of
Start-Up Activities." The statement is effective for fiscal years beginning
after December 15, 1998. The statement requires costs of start-up activities and
organization costs to be expensed as incurred. The Company is required to adopt
SOP 98-5 effective August 1, 1999. The adoption of SOP 98-5 is not expected to
have a material impact on the Company's consolidated financial statements.
11
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
In June 1998, the Financial Accounting Standards Board issued Statement No.
133 ("SFAS 133"), "Accounting for Derivative Instruments and Hedging
Activities", which requires that all derivative instruments be recorded on the
balance sheet at their fair value. Changes in the fair value of derivatives are
recorded each period in current earnings or other comprehensive income,
depending on whether a derivative is designated as part of a hedge transaction
and, if it is, the type of hedge transaction. For fair-value hedge transactions
in which the Company is hedging changes in an asset's, liability's or firm
commitment's fair value, changes in the fair value of the derivative instrument
will generally be offset in the income statement by changes in the hedged item's
fair value. For cash flow hedge transactions, changes in the fair value of the
derivative instrument will be reported in comprehensive income. The gains and
losses on the derivative instrument that are reported in other comprehensive
income will be reclassified as earnings in the periods in which earnings are
impacted by the variability of the cash flows of the hedged item. The
ineffective portion of all hedges will be recognized in current period earnings.
The Company currently expects to adopt SFAS 133 for the year ending July 31,
1999. Management has determined there will be no impact on its results of
operations or financial position resulting from the adoption of SFAS 133 because
the Company currently does not hold derivative instruments.
2. INVESTMENTS
On March 9, 1998, the Company purchased 1,000,000 shares of Class A
Preferred Stock of GlobeComm, Inc. ("GlobeComm") through the issuance of 200,124
shares of Lycos common stock, valued at $4,577,837. The investment, carried at
cost, represents an approximate 9.85% stake in GlobeComm on a fully diluted
basis. GlobeComm is the owner of iName, a leading provider of lifetime
personalized e-mail addresses and advanced e-mail services. Lycos provides free
e-mail services to users based on iName's advanced products.
On April 13, 1998, the Company purchased 1,915,709 shares of Series B
Convertible Participating Preferred Stock of Sage Enterprises, Inc.
("PlanetAll") through the issuance of 100,904 shares of Lycos common stock,
valued at $3,304,606. The investment, carried at cost, represents an
approximate 14.1% stake in PlanetAll, on a fully diluted basis.
Subsequent to July 31, 1998, all of the outstanding common stock of
PlanetAll was acquired by Amazon.com. See Note 7 "Subsequent Events".
3. PROPERTY AND EQUIPMENT
Property and equipment, at cost, consisted of the following:
<TABLE>
<CAPTION>
JULY 31,
---------------------------
1998 1997
------------- -----------
<S> <C> <C>
Computers and equipment................ $ 3,623,686 $ 2,234,012
Furniture and fixtures................. 1,091,726 563,756
Leasehold improvements................. 1,356,222 585,912
Purchased software..................... 525,197 141,096
------------- -----------
6,596,831 3,524,776
Less accumulated depreciation and...... (2,636,772) (1,127,176)
amortization.......................... ------------- -----------
$ 3,960,059 $ 2,397,600
============= ===========
</TABLE>
12
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
4. ACQUISITIONS
Tripod, Inc.
On February 11, 1998, the Company entered into an Agreement and Plan of
Merger (the "Agreement") by and among the Company, Pod Acquisition Corp., a
Delaware corporation and a wholly-owned subsidiary of the Company ("PAC"),
Tripod, Inc., a Delaware corporation ("Tripod"), William Peabody and Richard
Sabot, providing for the merger of PAC with and into Tripod (the "Merger"). On
February 12, 1998,the Company completed the closing of the Merger and Tripod
became a wholly-owned subsidiary of the Company. In accordance with the terms of
the Agreement, Richard Sabot was elected, effective May 1, 1998, to the
Company's Board of Directors for a term expiring at the first Annual Meeting of
the Company's stockholders held after the Company's fiscal year ending July 31,
2000.
The acquisition was accounted for as a purchase. The purchase price was
allocated to the assets acquired and liabilities assumed based on their
estimated fair values. Results of operations for Tripod have been included with
those of the Company for periods subsequent to the date of acquisition.
In the Merger, all outstanding shares of Common Stock and Preferred Stock
of Tripod and options and warrants to purchase Common Stock and Preferred Stock
of Tripod were converted into 3,120,826 shares and options and warrants to
purchase Common Stock of the Company. All outstanding options to purchase Common
Stock of Tripod have been assumed by the Company and converted into options to
purchase Common Stock of the Company, and all outstanding warrants to purchase
Preferred Stock of Tripod have been assumed by the Company and converted into
warrants to purchase Common Stock of the Company.
Under the terms of the Agreement and related Escrow Agreement dated
February 11, 1998, an aggregate of 255,682 shares of Common Stock of the Company
and options and warrants to purchase an additional 56,418 shares of Common Stock
of the Company will be held in escrow for the purpose of indemnifying the
Company against certain liabilities of Tripod and its stockholders. The escrow
will expire on February 11, 1999.
The purchase price was allocated as follows:
(restated)
<TABLE>
<S> <C>
In process research and development........... $ 7,200,000
Developed technology.......................... 2,480,000
Goodwill and other intangible assets.......... 49,739,935
Other assets, principally cash and equipment.. 3,633,449
Liabilities assumed .......................... (1,603,731)
-------------
$61,449,653
=============
</TABLE>
As a result of discussions with the staff of the SEC, the Company has
adjusted the allocation of the purchase price originally reported. Among the
factors considered in discussions with the staff of the SEC in determining the
amount of the allocation of the purchase price to in-process research and
development were various factors such as estimating cash flows resulting from
the expected revenues generated from such projects, and discounting the net cash
flows, in addition to other assumptions. The remaining identified intangibles,
including the value of purchased technology and other intangibles will be
amortized on a straight-line basis over five years.
Accumulated amortization on intangible assets acquired in the acquisition
of Tripod was $4,070,000 at July 31, 1998.
If these projects are not successfully developed, the Company's sales and
profitability may be adversely affected in future periods. Additionally, the
failure of any particular individual project in-process could impair the value
of the intangible assets acquired.
WiseWire Corporation
On April 30, 1998, the Company entered into an Agreement and Plan of Merger
(the "Agreement") by and among the Company, Wise Acquisition Corp., a
Pennsylvania corporation and a wholly-owned subsidiary of the Company ("WAC"),
and WiseWire Corporation, a Pennsylvania corporation ("WiseWire"), pursuant to
which WAC was merged with and into WiseWire (the "Merger"). As a result of the
Merger, WiseWire became a wholly-owned subsidiary of the Company.
The acquisition was accounted for as a purchase. The purchase price was
allocated to the assets acquired and liabilities assumed based on their
estimated fair values. Results of operations for WiseWire are included with
those of the Company for periods subsequent to the date of acquisition.
13
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
In the Merger, all outstanding shares of Common Stock and Preferred Stock
of WiseWire and options to purchase Common Stock of WiseWire were converted into
1,648,510 shares and options to purchase Common Stock of the Company. All
outstanding options to purchase Common Stock of WiseWire have been assumed by
the Company.
Under the terms of the Agreement and related Escrow Agreement dated April
30, 1998, an aggregate of 164,874 shares of Common Stock of the Company will be
held in escrow for the purpose of indemnifying the Company against certain
liabilities of WiseWire and its stockholders. The escrow will expire on April
30, 1999.
The purchase price was allocated as follows:
(restated)
<TABLE>
<S> <C>
In process research and development........... $ 9,080,000
Developed technology.......................... 1,200,000
Goodwill and other intangible assets.......... 28,907,698
Other assets, principally cash and equipment.. 1,085,290
Liabilities assumed .......................... (857,286)
--------------
$39,415,702
==============
</TABLE>
As a result of discussions with the staff of the SEC, the Company has
adjusted the allocation of the purchase price originally reported. Among the
factors considered in discussions with the staff of the SEC in determining the
amount of the allocation of the purchase price to in-process research and
development were various factors such as estimating cash flows resulting from
the expected revenues generated from such projects, and discounting the net cash
flows, in addition to other assumptions. The remaining identified intangibles,
including the value of purchased technology and other intangibles will be
amortized on a straight-line basis over five years.
Accumulated amortization on intangible assets acquired in the acquisition
of WiseWire was $1,346,000 at July 31, 1998.
If these projects are not successfully developed, the Company's sales and
profitability may be adversely affected in future periods. Additionally, the
failure of any particular individual project in-process could impair the value
of the intangible assets acquired.
GuestWorld, Inc.
On June 16, 1998, the Company entered into an Agreement and Plan of Merger
(the "Agreement") by and among the Company, VW Acquisition Corp., a Delaware
corporation and a wholly-owned subsidiary of the Company ("VW"), GuestWorld,
Inc., a California corporation ("GuestWorld"), and all of the stockholders of
GuestWorld, acquired all of the outstanding capital stock of GuestWorld through
the merger of VW with and into GuestWorld (the "Merger"). As a result of the
Merger, GuestWorld became a wholly-owned subsidiary of the Company.
In the Merger, all outstanding shares of Common Stock of GuestWorld were
converted into an aggregate of 126,184 shares of Common Stock, par value $.01
per share, of the Company. The acquisition was accounted for as a purchase.
Results of operations for GuestWorld are included with those of the Company for
periods subsequent to the date of acquisition.
Under the terms of the Agreement and related Escrow Agreement dated June
16, 1998, an aggregate of 12,618 shares of Common Stock of the Company will be
held in escrow for the purpose of indemnifying the Company against certain
liabilities of GuestWorld and its stockholders. The escrow will expire on June
16, 1999.
The purchase price was allocated as follows:
(restated)
<TABLE>
<S> <C>
In process research and development... $1,000,000
Developed technology.................. --
Goodwill and other intangible assets.. 2,830,584
Property and equipment................ 50,000
Liabilities assumed .................. (300,000)
-------------
$3,580,584
=============
</TABLE>
As a result of discussions with the staff of the SEC, the Company has
adjusted the allocation of the purchase price originally reported. Among the
factors considered in discussions with the staff of the SEC in determining the
amount of the allocation of the purchase price to in-process research and
development were various factors such as estimating cash flows resulting from
the expected revenues generated from such projects, and discounting the net cash
flows, in addition to other assumptions. The remaining identified intangibles,
including the value of purchased technology and other intangibles will be
amortized on a straight-line basis over five years.
Accumulated amortization on intangible assets acquired in the acquisition
of GuestWorld was $65,976 at July 31, 1998.
If these projects are not successfully developed, the Company's sales and
profitability may be adversely affected in future periods. Additionally, the
failure of any particular individual project in-process could impair the value
of the intangible assets acquired.
14
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
In-Process Research and Development
In connection with the acquisitions of Tripod, WiseWire and GuestWorld, the
Company recorded an in-process research and development charge of $17.3 million
representing purchased in-process research and development that has not yet
reached technological feasibility and has no alternative future use. The
Company's management made certain assessments with respect to the determination
of all identifiable assets resulting from, or to be used in, research and
development activities as of the respective acquisition dates. Each of these
activities was evaluated as of the respective acquisition dates so as to
determine their stage of development and related fair value. The Company's
review, as of the acquisition date, indicated that the in-process research and
development had not reached a state of technological feasibility and evidenced
no alternative future use. In the case of in-process projects, the Company made
estimates to quantify the cost-to-complete for each project, identifying the
project date of introduction, the estimated life of the project, the project's
"fit" within the Company's own in-process research projects, the revenues to be
generated in each future period and the corresponding operating expenses and
other charges to apply to this revenue stream. In order to determine the value
of the earnings stream attributable to the in-process research and development,
the excess earnings from the projects were calculated by deducting the earnings
stream attributable to all other assets including working capital and tangible
assets. Based upon these assumptions, after-tax cash flows attributable to the
in-process project(s) were determined, appropriately discounted back to its
respective net present value, taking into account the uncertainty surrounding
the successful development of the purchased in-process technology.
In the Tripod and Wisewire acquisitions, the in-process research and
development projects were valued using an Income Approach, which included the
application of a discounted future earnings (excess earnings) methodology. In
both methodologies, the value of the in-process technology is comprised of the
total present value of the future earnings stream attributable to the technology
throughout its anticipated life. As a basis for the valuation process, the
Company made estimates of the revenue stream to be generated in each future
period and the corresponding operating expenses and other charges to apply to
this revenue stream. In order to determine the value of the earnings stream that
was specifically attributable to the in-process technology, the excess earnings
of the projects were calculated by deducting the earnings streams attributable
to all other assets, including working capital and tangible assets. Based upon
these assumptions, the future after-tax income streams relating to the in-
process technologies were discounted to present value using a risk adjusted
discount rate that reflected the uncertainty involved in successfully completing
and commercializing the in-process technologies.
The significant assumptions used as a basis for the in-process research and
development valuations include: future revenues and expenses forecasted for each
project; future working capital needs; estimated costs to complete; date of
project completion and product launch; and the probability and risk of project
completion as reflected in the discount rate selected to compute net present
values.
The period in which material net cash inflows from significant projects was
expected to commence was within three to six months or less after the respective
acquisition dates of Tripod and WiseWire. In the case of the Tripod
acquisition, the projects required an additional three to four months beyond the
initial time estimate to complete the in-process technology. In the case of the
WiseWire acquisition, the in-process technology was to be fully completed within
three to six months. However, at the present time, the in-process technology has
not been fully completed and an uncertainty exists as to whether the technology
can be successfully completed and commercialized in the future.
GuestWorld and WiseWire are both development stage companies that had not
generated significant commercial revenue at their respective acquisition dates
and were generating losses. Neither company had completed development of
technologically robust or commercially viable products or services. Significant
uncertainty existed in relation to the introduction of such products or
services.
Lycos' management has considered the possible existence or value of other
intangible assets such as patents, copyrights, brand names, customer lists,
etc. However, management at both companies had been focused on completing the
development projects underway and they had not undertaken the development of
other intangible assets. Accordingly, Lycos' management believes that the value
of any other such assets at the respective acquisition dates were minimal.
The purchase price paid for GuestWorld and WiseWire reflected payment for
incomplete technology. Should the in-process projects fail, the value of Lycos'
investment in these incomplete technologies would be diminimous or zero.
In the case of Tripod, management does believe that other intangible assets
had been created by management at the acquisition date. As a result, in addition
to valuing in-process research and development, management has also allocated a
proportion of the purchase price, based on their respective fair values, to
existing technology employed in the creation and management of pods as well as
to other intangible assets associated with the existing community members.
15
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The following unaudited pro forma financial information presents the
combined results of operations of Lycos, Tripod and WiseWire as if the
acquisitions had occurred as of the beginning of 1997, after giving effect to
certain adjustments, including amortization of goodwill and other intangible
assets. The pro forma financial information does not necessarily reflect the
results of operations that would have occurred had Lycos, Tripod and WiseWire
constituted a single entity during such period. Pro forma information for
GuestWorld for periods prior to the acquisition have not been presented because
the results of GuestWorld's operations were not material to the Company's
historical results.
<TABLE>
<CAPTION>
(UNAUDITED) LYCOS TRIPOD WISEWIRE COMBINED
-------------- ------------- ------------- ---------------
<S> <C> <C> <C> <C>
YEAR ENDED JULY 31, 1998
- ------------------------
Revenues..................................... $ 56,060,305 $ 731,499 $ 310,123 $ 57,101,927
Operating expenses and interest income,
net (restated)............................. 87,072,868 2,117,021 2,625,150 91,815,039
--------------------------------------------------------------
Net loss (restated).......................... $(31,012,563) $(1,385,522) $(2,315,027) $ (34,713,112)
==============================================================
YEAR ENDED JULY 31, 1997
- ------------------------
Revenues..................................... $ 22,273,042 $ 517,490 $ 111,490 $ 22,902,022
Operating expenses and interest income,
net........................................ 28,892,232 3,506,191 2,463,770 34,862,193
--------------------------------------------------------------
Net loss..................................... $ (6,619,190) $(2,988,701) $(2,352,280) $ (11,960,171)
==============================================================
</TABLE>
WhoWhere?, Inc.
On August 13, 1998, the Company entered into an Agreement and Plan of merger
to acquire WhoWhere?, Inc. See Note 7 "Subsequent Events".
5. ACCRUED EXPENSES
Accrued expenses consist of the following:
<TABLE>
<CAPTION>
JULY 31, JULY 31,
1998 1997
------------ ------------
<S> <C> <C>
Compensation and benefits.. $ 2,262,015 $ 942,749
Advertising and promotion.. 8,885,178 4,238,361
Professional fees.......... 1,262,351 627,884
Non-income taxes........... 567,500 407,401
Other...................... 4,612,656 1,171,312
------------ ------------
$ 17,589,700 $ 7,387,707
============ ============
</TABLE>
16
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
6. COMMITMENTS AND CONTINGENCIES
The Company leases its facilities and certain other equipment under
operating lease agreements expiring through 2004. Future noncancelable minimum
payments as of July 31, 1998 under these leases for each fiscal year end are as
follows:
1999................................. $8,557,981
2000................................. 5,854,175
2001................................. 3,612,403
2002................................. 3,402,195
2003................................. 2,384,660
Rent expense under noncancellable operating leases was $5,057,907,
$2,094,774, and $318,500 for the years ended July 31, 1998, 1997 and 1996,
respectively.
The Company is obligated to make payments totaling approximately $19
million under contracts to provide search and navigation services between June
1998 and September 1999. No payments had been made under these agreements as of
July 31, 1998.
The Company is subject to legal proceedings and claims which arise in the
ordinary course of its business. In the opinion of management, the amount of
ultimate liability with respect to these actions will not materially affect the
financial position, results of operations or cash flows of the Company.
7. SUBSEQUENT EVENTS (UNAUDITED)
Acquisition of WhoWhere? Inc.
On August 7, 1998, the Company entered into an Agreement and Plan of Merger
(the "Agreement") by and among the Company, What Acquisition Corp., a Delaware
corporation and a wholly-owned subsidiary of the Company ("WWAC"), WhoWhere?
Inc., a California corporation ("WhoWhere?"), and certain shareholders of
WhoWhere? providing for the merger of WWAC with and into WhoWhere? (the
"Merger"). On August 13, 1998, the Company completed the closing of the Merger
and WhoWhere? became a wholly-owned subsidiary of the Company.
The acquisition will be accounted for as a purchase. The purchase price
will be allocated to the assets acquired and liabilities assumed based on their
estimated fair values. Results of operations for WhoWhere? will be included with
those of the Company for periods subsequent to the date of acquisition.
In the Merger, all outstanding shares of Common Stock and Preferred Stock
of WhoWhere? were converted into an aggregate of 3,770,254 shares of Common
Stock , par value $.01 per share, of the Company (the "Lycos Common Stock"), and
all outstanding options and warrants to purchase Common Stock or Preferred Stock
of WhoWhere? were assumed by the Company and became options or warrants, as the
case may be, to purchase an aggregate of 1,335,244 shares of Lycos Common Stock.
17
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The Company has filed a Registration Statement on Form S-3 with respect to the
resale of the shares of Lycos Common Stock issued in the Merger and the shares
of Lycos Common Stock issuable upon the exercise of warrants assumed in the
Merger and filed a Registration Statement on Form S-8 with respect to the shares
of Lycos Common Stock issuable upon the exercise of options and warrants assumed
in the Merger.
Under the terms of the Agreement and related Escrow Agreement dated August
13, 1998, an aggregate of 377,038 shares of Lycos Common Stock and options and
warrants to purchase an additional 133,540 shares of Lycos Common Stock will be
held in escrow for the purpose of indemnifying the Company against certain
liabilities of WhoWhere? and its stockholders. The escrow will expire on August
13, 1999.
Acquisition of Wired Ventures, Inc.
On October 5, 1998, the Company entered into a definitive merger agreement
to acquire Wired Ventures Inc. in a stock-for-stock transaction valued at
approximately $83 million, net of cash to be acquired and the value of shares
issuable to the holders of options to purchase common stock of Wired which are
exercised prior to the closing of the acquisition. The transaction is intended
to be accounted for as a purchase, and accordingly, the purchase price will be
allocated to assets acquired and liabilities assumed based on their respective
fair values. Subject to several conditions, including approval of Wired's
shareholders, the transaction is expected to close in the third quarter of
fiscal 1999.
Acquisition of PlanetAll, Inc.
In August 1998, pursuant to an Agreement and Plan of Merger, Amazon.com
acquired all of the outstanding capital stock of PlanetAll. Amazon.com issued
approximately 800,000 shares of Amazon.com common stock, par value $.01 per
share valued at approximately $87 million. Of the total of 800,000 shares issued
by Amazon.com, the Company received 107,377 shares valued at approximately $11.6
million at the time of acquisition in exchange for its shares of PlanetAll. See
Note 2.
Merger with Home Shopping Network, Ticketmaster and Ticketmaster
Online--CitySearch
On February 9, 1999, the Company announced the formation of USA/Lycos
Interactive Networks, Inc.("USA/Lycos"), a three way merger between Lycos,
Ticketmaster Online-CitySearch, Inc. ("TMCS") and certain USA Networks, Inc.
("USAi") properties; Home Shopping Network, Ticketmaster and First Auction.
Under the terms of the proposed merger agreement, Lycos shareholders will own
30% of USA/Lycos, USAi will own 61.5% and TMCS shareholders other than USAi will
own 8.5% of USA/Lycos. Additionally, Lycos shareholders can increase their
ownership another 5%, to a total of 35%, and TMCS public shareholders can
increase their ownership by 0.15%, to a total of 8.65%, should the initial
USA/Lycos shares achieve a market value of $45 billion over specified periods.
The transaction is expected to be completed in the second quarter of
calendar 1999 and is subject to Lycos shareholder approval and customary
regulatory approvals. Additional information with respect to the proposed
transaction is available on Forms 8-K filed with the Securities and Exchange
Commission on February 11, 1999 and February 26, 1999.
Litigation
The Company is subject to several purported class action lawsuits. The
complaints allege, among other claims, violations of the United States federal
securities law through alleged misrepresentations relating to the Company's
agreement to enter into an announced transaction with USA Networks, Inc. and
certain affiliated companies. Each complaint seeks an unspecified award of
damages. The Company believes that the allegations in the complaints are without
merit and intends to contest them vigorously.
8. STOCKHOLDERS' EQUITY
Common Stock
On June 4, 1998, 4,500,000 of the Company's shares were sold under a
registration statement filed with the Securities Exchange Commission. Of the
4,500,000 shares sold, 4,000,000 shares were sold by the Company and 500,000
were sold by CMG Information Services, Inc ("CMGI"). The Company did not
receive any proceeds from the sale of shares by CMGI. Proceeds to the Company
were approximately $95 million, before deduction of expenses payable by the
Company of $350,000. The Underwriters exercised an option to purchase 675,000
additional shares of Common Stock, resulting in additional proceeds to the
Company of approximately $16 million.
5218
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
1995 Stock Option Plan
During 1995, the Company adopted the 1995 Stock Option Plan (the "1995
Plan") under which nonqualified stock options to purchase common stock may be
granted to officers and other key employees. Under the Plan, options to purchase
2,000,000 shares of common stock may be granted at an exercise price determined
by the Board of Directors. Options granted under the 1995 Plan are exercisable
in five equal annual installments beginning one year after date of grant, except
that the vesting of certain options are subject to acceleration upon the
occurrence of certain events. Options under the 1995 Plan expire six years from
date of grant. The total weighted average contractual life of options
outstanding at July 31, 1998 was 3.5 years.
A summary of option activity under the 1995 Plan is as follows:
<TABLE>
<CAPTION>
WEIGHTED-
AVERAGE RANGE OF
OPTIONS EXERCISE PRICE EXERCISE PRICES
----------------------------------------------
<S> <C> <C> <C>
Outstanding at July 31, 1995.... 1,120,000 $0.01 $ 0.01
Granted....................... 1,179,552 $2.41 $0.01 - $ 8.00
Exercised..................... -- -- ---
Terminated.................... (390,608) $0.07 $0.01 - $ 4.80
----------
Outstanding at July 31, 1996... 1,908,944 $1.48 $0.01 - $ 8.00
----------
Granted....................... 420,000 $7.20 $5.69 - $ 7.94
Exercised..................... (101,600) $0.03 $0.01 - $ 1.16
Terminated.................... (245,736) $1.72 $0.01 - $ 8.00
----------
Outstanding at July 31, 1997... 1,981,608 $2.73 $0.01 - $ 7.94
----------
Granted....................... -- -- ---
Exercised..................... (630,184) $0.34 $0.01 - $ 7.94
Terminated.................... (212,080) $1.25 $0.01 - $ 8.50
----------
Outstanding at July 31, 1998... 1,139,344 $3.11 $0.01 - $ 7.94
==========
Exercisable at July 31, 1998... 359,368 $3.75 $0.01 - $ 7.75
==========
</TABLE>
The following table summarizes information about the Company's stock options
outstanding at July 31, 1998.
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-----------------------------------------------------------------
WEIGHTED-
1995 STOCK OPTION NUMBER AVERAGE WEIGHTED- WEIGHTED-
PLAN RANGE OF OUTSTANDING REMAINING AVERAGE NUMBER AVERAGE
EXERCISE AT CONTRACTUAL EXERCISE EXERCISABLE AT EXERCISE
PRICES JULY 31, 1998 LIFE (YEARS) PRICE JULY 31, 1998 PRICE
--------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$0.01--$1.16 407,696 3.1 $0.02 82,200 $0.01
$4.80--$4.80 441,648 3.5 $4.80 269,168 $4.80
$5.69--$7.94 290,000 4.7 $7.15 8,000 $6.77
------------- --------------
1,139,344 359,368
============= ==============
</TABLE>
Pursuant to the License Agreement, CMG@Ventures has agreed to sell to the
Company a number of shares of common stock equal to the shares issuable upon
exercise of options granted under the 1995 Plan and the 1996 Plan (as defined
below) prior to the initial public offering at a price equal to the exercise
price of the options as such options are exercised.
19
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The Company has recorded deferred compensation expense of approximately
$610,000 for the difference between the grant price and the estimated fair value
(determined by independent valuations or by reference to third party
transactions) of certain of the Company's stock options granted. This amount is
being amortized over the vesting period of the individual options on a straight-
line basis, determined separately for each portion of the options that vest in
each year. Deferred compensation expense recognized for the year ended July 31,
1998, 1997 and 1996 was approximately $47,000, $142,000 and $234,000,
respectively.
1996 Stock Option Plan
On February 2, 1996, the 1996 Stock Option Plan (the ''1996 Plan'') was
adopted by the Board of Directors. A maximum of 2,000,000 shares of common stock
may be issued pursuant to the 1996 Plan upon exercise of options. On June 27,
1997, the Company's Board of Directors voted to authorize an additional
4,400,000 shares for grant under the 1996 Plan.
Under the 1996 Plan, incentive stock options may be granted to employees
and officers of the Company and non-qualified stock options may be granted to
consultants, employees and officers of the Company. The exercise price of such
incentive stock options cannot be less than the fair market value of the common
stock on the date of grant, or less than 110% of fair market value in the case
of employees or officers holding 10% or more of the voting stock of the Company.
The Compensation Committee of the Board of Directors has the authority to select
optionees and to determine the terms of the options granted. Options granted
under the 1996 Plan are exercisable in five equal annual installments commencing
on the first anniversary of the date of grant, except that vesting of certain
options are subject to acceleration upon the occurrence of certain events.
Options under the 1996 Plan expire ten years from the date of grant. The total
weighted average contractual life of options outstanding at July 31, 1998, was
9.0 years.
A summary of option activity under the 1996 Plan is as follows:
<TABLE>
<CAPTION>
WEIGHTED-
AVERAGE RANGE OF EXERCISE
OPTIONS EXERCISE PRICE PRICES
------------------------------------------------
<S> <C> <C> <C>
Outstanding at July 31, 1995... -- -- --
Granted....................... 241,500 $ 6.52 $ 3.00 - $ 8.88
Exercised..................... -- -- --
Terminated.................... (62,000) $ 7.39 $ 6.50 - $ 8.50
-----------
Outstanding at July 31, 1996... 179,500 $ 6.21 $ 3.00 - $ 8.88
-----------
Granted....................... 2,169,844 $ 5.82 $ 2.91 - $ 10.75
Exercised..................... -- -- --
Terminated.................... (298,800) $ 6.56 $ 3.57 - $ 10.75
-----------
Outstanding at July 31, 1997... 2,050,544 $ 5.72 $ 2.91 - $ 10.75
-----------
Granted....................... 3,593,500 $ 22.43 $ 8.38 - $ 49.78
Exercised..................... (354,596) $ 5.81 $ 3.00 - $ 10.75
Terminated.................... (257,200) $ 8.14 $ 3.00 - $ 18.94
-----------
Outstanding at July 31, 1998... 5,032,248 $ 15.15 $ 2.91 - $ 49.78
===========
Exercisable at July 31, 1998... 96,312 $ 6.10 $ 2.91 - $ 10.25
===========
</TABLE>
20
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The following table summarizes information about the Company's stock options
outstanding at July 31, 1998.
<TABLE>
<CAPTION>
OPTIONS
OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------------------------------------
WEIGHTED-
1996 STOCK OPTION AVERAGE WEIGHTED- WEIGHTED-
PLAN RANGE OF NUMBER REMAINING AVERAGE NUMBER AVERAGE
EXERCISE OUTSTANDING AT CONTRACTUAL EXERCISE EXERCISABLE EXERCISE
PRICES JULY 31, 1998 LIFE (YEARS) PRICE AT JULY 31, 1998 PRICE
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 2.91--$ 5.18 545,276 8.1 $ 4.31 25,000 $3.79
$ 5.19--$ 5.57 355,812 8.2 $ 5.55 15,012 $5.53
$ 5.67--$ 7.88 463,100 8.0 $ 6.32 30,700 $6.58
$ 7.89--$ 10.75 1,219,160 8.9 $ 8.62 25,600 $8.14
$10.76--$ 25.00 1,367,000 9.4 $ 19.37 -- --
$25.01--$ 37.00 965,900 9.8 $ 28.73 -- --
$37.01--$ 53.46 116,000 9.6 $ 38.86 -- --
---------------- ------------------
5,032,248 96,312
================ ==================
</TABLE>
In September 1996, the Company canceled 169,464 options previously granted
to employees under the 1995 Plan and 1996 Plan at various exercise prices and
granted an equivalent number of additional options to those same employees
pursuant to the 1996 Plan at an exercise price of $4.80 per share. No
compensation expense was recognized by the Company as the exercise price of
these options on the date of grant was at or above fair market value.
1995 Tripod Stock Option Plan
In connection with the acquisition of Tripod, the Company assumed the 1995
Stock Option Plan under which incentive stock options and nonqualified stock
options to purchase common stock may be granted to officers, key employees and
advisors. Under the Plan, options to purchase 367,926 shares of common stock
were reserved for grants. Options under the 1995 Tripod Stock Option Plan are
generally exercisable in eight semi-annual installments beginning six months
after date of grant. Options under the 1995 Tripod Stock Option Plan expire ten
years from the date of grant. The total weighted average contractual life of
options outstanding at July 31, 1998 was approximately 10.0 years.
A summary of option activity under the 1995 Tripod Stock Option Plan is as
follows:
<TABLE>
<CAPTION>
WEIGHTED-
AVERAGE RANGE OF EXERCISE
OPTIONS EXERCISE PRICE PRICES
-----------------------------------------------
<S> <C> <C> <C>
Outstanding at February 12, 1998... 367,926 $ 0.65 $ 0.62 - $ 1.54
Granted........................... -- -- --
Exercised......................... (134,492) $ 0.62 $ 0.62 - $ 1.54
Terminated........................ (24,820) $ 0.88 $ 0.62 - $ 1.54
----------
Outstanding at July 31, 1998....... 208,614 $ 0.65 $ 0.62 - $ 1.54
==========
Exercisable at July 31, 1998....... 79,995 $ 0.62 $ 0.62 - $ 1.54
==========
</TABLE>
21
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The following table summarizes information about stock options outstanding
under the 1995 Tripod Stock Option Plan at July 31, 1998:
<TABLE>
<CAPTION>
OPTIONS
OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------------------------------------
WEIGHTED-
1995 STOCK OPTION AVERAGE WEIGHTED- WEIGHTED-
PLAN RANGE OF NUMBER REMAINING AVERAGE NUMBER AVERAGE
EXERCISE OUTSTANDING AT CONTRACTUAL EXERCISE EXERCISABLE EXERCISE
PRICES JULY 31, 1998 LIFE (YEARS) PRICE AT JULY 31, 1998 PRICE
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$0.50--$ 0.75 201,222 10.3 $0.62 79,834 $0.62
$0.75--$ 2.00 7,392 2.9 $1.54 161 $1.54
---------------- ----------------
208,614 79,995
================ ================
</TABLE>
1995 and 1996 WiseWire Stock Option Plans
In connection with the acquisition of WiseWire, the Company assumed the 1995
and 1996 Stock Option Plan under which incentive stock options and nonqualified
stock options to purchase common stock may be granted to officers, key employees
and advisors. Under these plans, the Company may grant either incentive stock
options or non-qualified stock options. These options are fully vested and are
exercisable over a 5 year period from date of grant. The employee plan was
adopted in 1995 and is restricted to Company employees. These options generally
have a term of ten years from the date of grant with 20% vesting after a brief
probationary period and the remainder vest over a four-year period. The non-
employee plan was adopted in 1996 and is intended primarily for directors or
other non-employees. Options granted under the non-employee plan typically vest
immediately. The total weighted average contractual life of options outstanding
under the 1995 and 1996 WiseWire Stock Option Plans at July 31, 1998 was
approximately 8.1 and 8.4 years, respectively.
A summary of option activity under the 1995 WiseWire Stock Option Plan is as
follows:
<TABLE>
<CAPTION>
WEIGHTED-
AVERAGE RANGE OF EXERCISE
OPTIONS EXERCISE PRICE PRICES
----------------------------------------------
<S> <C> <C> <C>
Outstanding at April 30, 1998... 210,274 $ 2.67 $1.34 - $ 53.46
Granted........................ -- -- --
Exercised...................... (63,024) $ 2.02 $1.34 - $ 8.02
Terminated..................... (27,096) $ 4.06 $1.34 - $ 8.02
---------
Outstanding at July 31, 1998.... 120,154 $ 2.69 $1.34 - $ 53.46
=========
Exercisable at July 31, 1998.... 25,960 $ 2.83 $1.34 - $ 53.46
=========
</TABLE>
The following table summarizes information about stock options outstanding
under the 1995 WiseWire Stock Option Plan at July 31, 1998:
<TABLE>
<CAPTION>
OPTIONS
OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------------------------------------
WEIGHTED-
1995 STOCK OPTION AVERAGE WEIGHTED- WEIGHTED-
PLAN RANGE OF NUMBER REMAINING AVERAGE NUMBER AVERAGE
EXERCISE OUTSTANDING AT CONTRACTUAL EXERCISE EXERCISABLE EXERCISE
PRICES JULY 31, 1998 LIFE (YEARS) PRICE AT JULY 31, 1998 PRICE
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 1.00--$ 2.00 89,224 8.3 $1.34 22,390 $ 1.34
$ 5.00--$ 53.46 30,930 7.6 $6.61 3,570 $12.18
---------------- ------------------
120,154 25,960
================ ==================
</TABLE>
22
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
A summary of option activity under the 1996WiseWire Stock Option Plan is as
follows:
<TABLE>
<CAPTION>
WEIGHTED-
AVERAGE RANGE OF EXERCISE
OPTIONS EXERCISE PRICE PRICES
-----------------------------------------------
<S> <C> <C> <C>
Outstanding at April 30, 1998... 21,034 $13.19 0.14 - $ 53.46
Granted........................ -- -- --
Exercised...................... -- -- --
Terminated..................... (13,466) $13.10 0.14 - $ 53.46
---------
Outstanding at July 31, 1998.... 7,568 $13.37 13.37 - $ 13.37
=========
Exercisable at July 31, 1998.... 7,568 $13.37 13.37 - $ 13.37
=========
</TABLE>
The following table summarizes information about stock options outstanding
under the 1996 WiseWire Stock Option Plan at July 31, 1998:
<TABLE>
<CAPTION>
OPTIONS
OUTSTANDING OPTIONS EXERCISABLE
---------------------------------------- -----------------------------
WEIGHTED-
1996 STOCK OPTION AVERAGE WEIGHTED- WEIGHTED-
PLAN RANGE OF NUMBER REMAINING AVERAGE NUMBER AVERAGE
EXERCISE OUTSTANDING AT CONTRACTUAL EXERCISE EXERCISABLE EXERCISE
PRICES JULY 31, 1998 LIFE (YEARS) PRICE AT JULY 31, 1998 PRICE
---------------------------------------- -----------------------------
<S> <C> <C> <C> <C> <C>
$ 10.69--$ 16.04 7,568 8.4 $13.37 7,568 $13.37
========== ===========
</TABLE>
1996 Non-Employee Director Stock Option Plan
On February 2, 1996, the 1996 Non-Employee Director Stock Option Plan (the
"Director Plan") was approved by the Board of Directors. The Director Plan
authorizes the issuance of a maximum of 200,000 shares of common stock. The
Director Plan is administered by the Board of Directors. Under the Director Plan
each non-employee director first elected to the Board of Directors after the
completion of the initial public offering will receive an option for 20,000
shares on the date of his or her election. The exercise price per share for all
options granted under the Director Plan will be equal to the fair market value
of the common stock as of the date of grant. Accordingly, the Company has
recognized no compensation expense with respect to such grants. All options vest
in three equal installments beginning on the first anniversary of the date of
grant. Options under the Director Plan will expire 10 years from the date of
grant and are exercisable only while the optionee is serving as a director of
the Company. As of July 31, 1998, 40,000 options had been granted at exercise
prices of between $5.75 and $8.69 per share and remained outstanding under the
Director Plan, of which 13,333 were exercisable.
1996 Employee Stock Purchase Plan
On February 2, 1996, the 1996 Employee Stock Purchase Plan ("1996 Purchase
Plan") was adopted by the Company's Board of Directors. The 1996 Purchase Plan
authorizes the issuance of a maximum of 500,000 shares of common stock and is
administered by the Compensation Committee of the Board of Directors. All
employees of the Company who have completed six months of service with the
Company are eligible to participate in the 1996 Purchase Plan with the exception
of those employees who own 5% or more of the Company's stock and directors who
are not employees of the Company may not participate in this plan. Employees
elect to have deducted from 1%-10% of their base compensation. The exercise
price for the option is the lesser of 85% of the fair market value of the common
stock on the first or last business day of the purchase period (6 months). An
employee's rights under the 1996 Purchase Plan terminate upon his or her
voluntary withdrawal from the Plan at any time or upon termination of
employment.
23
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Stock-Based Compensation
The Company has granted options to purchase shares of common stock to key
employees and directors. These options vest over periods of up to five years and
expire at various dates through 2007. The Company has adopted the disclosure
provisions of SFAS No. 123 with respect to its stock-based compensation. The
effects of applying SFAS No. 123 in this pro forma disclosure may not be
representative of the effects on reported income or loss for future years. SFAS
123 does not apply to awards prior to 1995. The Company anticipates additional
awards in future years. Had compensation cost for the Company's stock-based
compensation plans been determined based on the grant date fair value in
accordance with SFAS 123, the Company's net loss and net loss per share for the
years ended July 31, 1998, 1997 and 1996 would have been increased to the pro
forma amounts indicated below:
<TABLE>
<CAPTION>
AS REPORTED PRO FORMA
--------------------------------- --------------------------------
NET LOSS LOSS PER SHARE NET LOSS LOSS PER SHARE
--------------------------------- --------------------------------
<S> <C> <C> <C> <C>
Year ended July 31, 1998
(restated)................... $(28,439,484) $(0.92) $ (35,442,185) $(1.14)
Year ended July 31, 1997....... $ (6,619,190) $(0.24) $ (7,548,626) $(0.28)
Year ended July 31, 1996....... $ (5,087,838) $(0.21) $ (5,191,133) $(0.22)
</TABLE>
The grant date fair value of each stock option is estimated using the
Black-Scholes option-pricing model with the following assumptions: an expected
life of four years for both the 1996 plan and the 1995 plan for all three years,
expected volatility of 100% for both Plans in 1998 and 70% for both plans for
1997 and 1996, a dividend yield of 0% for both plans and a weighted average
risk-free interest rate of 5.48% for both Plans in 1998 and 6.50% for the 1996
plan and 5.75% for the 1995 plan in 1997 and 1996. The weighted average grant
date fair values of options granted in 1998, 1997 and 1996 were $16.47, $4.87
and $1.62, respectively. The weighted-average remaining contractual life of
options outstanding at July 31, 1998 was 9.0 years.
9. INCOME TAXES
The company did not record any provision for federal and state income taxes
through July 31, 1998. The actual tax expense for 1998, 1997 and 1996 differs
from "expected" tax expense (computed by applying the statutory U.S. federal
corporate tax rate of 34% to earnings before income taxes) as follows:
<TABLE>
<CAPTION>
YEAR ENDED JULY 31,
-----------------------------------
1998 1997 1996
----------- ------------ ----------
(restated) (In thousands)
<S> <C> <C> <C>
Computed "expected" tax benefit $ (9,669) $(2,251) $(2,035)
Nondeductible amounts and other differences:
In Process Research and Development 8,176 -- 154
Other 85 (326) --
Change in valuation allowance for deferred taxes
allocated to income tax expense 1,408 2,577 1,881
----------- ------------ ----------
$ -- $ -- $ --
=========== ============ ==========
</TABLE>
24
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
At July 31, 1998 and 1997 deferred income tax assets and liabilities result
from temporary differences in the recognition of income and expense for tax and
financial reporting purposes. The sources and tax effects of these temporary
differences are presented below:
<TABLE>
<CAPTION>
JULY 31,
---------------------
(In thousands) 1998 1997
--------- ---------
<S> <C> <C>
Deferred tax liabilities:
Book over tax basis of developed technology $ 2,806 $ 250
---------- ---------
Total deferred liabilities 2,806 250
---------- ---------
Deferred tax assets:
Deferred Revenue 2,169 1,823
Reserves 2,307 867
Tax in excess of book basis for differences in equity investments 2,164 1,923
Net operating losses and credit carryforwards 15,979 311
Other 594 103
---------- ---------
Total gross deferred tax assets 23,213 5,027
Less valuation allowance (20,407) (4,777)
Net deferred tax asset 2,806 250
---------- ---------
Net deferred income taxes $ -- $ --
========== =========
</TABLE>
In assessing the realizability of deferred tax assets, the Company considers
whether it is more likely than not that some or all of the deferred tax asset
will not be realized. The Company believes that sufficient uncertainty exist
regarding the realizability of the deferred tax assets such that valuation
allowances of $20,407,000 and $4,777,000 for July 31, 1998 and 1997
respectively, have been established for deferred tax assets.
At July 31, 1998, the Company had approximately $38,000,000 of federal and
state net operating loss carryforwards which will begin to expire in 2007 for
federal purposes and 1998 for state purposes. Utilization of the net operating
losses may be subject to an annual limitation imposed by change in ownership
provisions of Section 382 of the Internal Revenue Code and similar state
provisions.
In accordance with FAS 109, the accounting for the tax benefits of acquired
deductible temporary differences, which are not recognized at the acquisition
date because a valuation allowance is established, and recognized subsequent to
the acquisitions will be applied first to reduce to zero, any goodwill and other
noncurrent intangible assets related to the acquisitions. Any remaining
benefits would be recognized as reduction of income tax expense. As of July 31,
1998, $5,460,000 of the Company's deferred asset pertains to acquired companies,
the future benefits of which will be applied first to reduce to zero any
goodwill and other noncurrent intangible related to the acquisitions prior to
reducing the Company's income tax expense. Deferred tax assets and related
valuation allowance of approximately $10,519,000 relate to certain operating
loss carryforwards resulting from the exercise of employee stock options, the
tax benefit of which, when recognized, will be accounted for as a credit to
additional paid-in capital rather than a reduction of income tax.
The Company's deferred tax liability relates solely to the difference in bases
of acquired assets. A portion or all of net operating loss carryforwards which
can be utilized in any year may be limited by changes in ownership of the
Company, pursuant to Section 382 of the Internal Revenue Code and similar
statutes.
25
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
10. SELECTED QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
The following table sets forth selected quarterly financial and stock price
information for the years ended July 31, 1998 and 1997. The operating results
for any given quarter are not necessarily indicative of results for any future
period. The Company's common stock is traded on the NASDAQ National Market
System ("NASDAQ/NMS") under the symbol LCOS. Included below are the high and
low sales prices (adjusted for a 2-for-1 stock split effected as of August 1,
1995) during each quarterly period for the shares of common stock as reported by
NASDAQ/NMS.
<TABLE>
<CAPTION>
(IN THOUSANDS, EXCEPT PER SHARE DATA)
----------------------------------------------------------------------------------
FISCAL 1998 QUARTER ENDED FISCAL 1997 QUARTER ENDED
----------------------------------------------------------------------------------
OCT. 31 JAN. 31 APR. 30 JUL. 31 OCT. 31 JAN. 31 APR. 30 JUL. 31
----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Total revenues................ $9,303 $12,603 $ 15,129 $19,025 $ 3,663 $ 5,004 $ 5,853 $ 7,753
Cost of revenues.............. 1,779 2,719 4,747 3,268 741 993 1,116 1,487
Gross profit.................. 7,524 9,884 10,382 15,757 2,922 4,011 4,737 6,266
Research & development
expense.................. 1,435 1,734 2,704 3,605 974 976 1,158 1,192
In-process research &
development expense...... -- -- 16,280 (1) 1,000 (1) -- -- -- --
Sales and marketing........... 5,477 7,310 10,172 12,077 4,627 4,754 4,526 5,218
General and administrative
expenses................. 932 990 1,508 2,200 545 693 645 836
Amortization of intangibles... 113 113 2,294 (1) 5,094 (1) 117 141 161 122
Operating loss................ (433) (263) (22,576)(1) (8,219)(1)(3,341) (2,553) (1,753) (1,102)
Interest income............... 540 564 524 1,423 582 541 480 527
Net income (loss)............. 107 301 (22,052) (6,796) (2,759) (2,012) (1,273) (575)
Basic and diluted net income
(loss) per share.............. $ 0.00 $ 0.00 $ (0.71) $ (0.19) $ (0.10) $ (0.08) $ (0.05) $ (0.02)
Market Price:
High......................... 21.00 21.00 39.57 53.63 6.38 9.38 11.38 9.63
Low.......................... 8.13 12.63 17.60 24.16 2.88 4.75 6.00 5.60
</TABLE>
(1) Restated, see Note 1
11. RELATED PARTY TRANSACTIONS
In connection with the formation of the Company, the Company, CMU,
CMG@Ventures and CMG Information Services, Inc. ("CMGI") entered into a
license agreement ("License Agreement") pursuant to which CMU granted the
Company a perpetual, exclusive (with certain limited exceptions), worldwide
license to use the Lycos Internet search and indexing technology and the Lycos
Catalog. The Company paid licensing fees and additional payments equal to 50% of
certain cash receipts, as defined, totaling approximately $1,250,000. All
amounts due under the License Agreement were paid as of July 31, 1996. The
Company also issued 2,000,000 shares of common stock in connection with this
Agreement. Accumulated amortization under the License Agreement at July 31, 1997
and 1996 was $726,000 and $337,000, respectively.
On February 9, 1996, the Company sold 183,160 shares and 80,000 shares of
common stock and options to acquire 119,452 shares and 52,172 shares of Common
Stock to CMU and Dr. Michael Mauldin, respectively, for an aggregate purchase
price of $328,950, pursuant to the exercise of preemptive rights granted to
these parties in the License Agreement. These preemptive rights were exercised
in connection with the issuance of shares of common stock pertaining to the
Company's acquistion of Point Communications on October 12, 1995 (see Note 4).
The options granted to Dr. Mauldin and CMU have an exercise price of $1.00 per
share and became fully vested upon completion of the Company's initial public
offering in April 1996.
26
<PAGE>
LYCOS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
In addition to amounts paid to CMU in connection with the License Agreement,
the Company was also required to pay to CMU an additional $525,000 pursuant to
two licenses granted by CMU which were assigned to the Company. As of July 31,
1998, the Company had paid an aggregate of $400,000 to CMU pursuant to these
licenses.
In April 1998 the remaining carrying value of the License Agreement of
approximately $831,000 was written off as it was not considered to have any
remaining future economic benefit.
27
