10-Q 1 a05-14285_110q.htm 10-Q

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

ý

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

 

 

 

For the quarterly period ended June 30, 2005

 

 

 

OR

 

 

 

o

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

 

 

 

For the transition period from               to               

 

Commission File Number 0-28018

 


 

YAHOO! INC.

(Exact name of Registrant as specified in its charter)

 

Delaware

 

77-0398689

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer
Identification No.)

 

701 First Avenue

Sunnyvale, California 94089

(Address of principal executive offices)

 

Registrant’s telephone number, including area code: (408) 349-3300

 


 

Indicate by check mark whether the Registrant (1) has filed all reports required 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 ý  No o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes 
ý  No o

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class

 

Outstanding at August 2, 2005

 

 

 

 

 

 

Common stock, $0.001 par value

 

1,408,953,447

 

 

 



 

YAHOO! INC.

 

Table of Contents

 

 

 

Page

 

 

 

PART I.

FINANCIAL INFORMATION

3

 

 

 

Item 1.

Condensed Consolidated Financial Statements (unaudited)

3

 

Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2004 and 2005

3

 

Condensed Consolidated Balance Sheets at December 31, 2004 and June 30, 2005

4

 

Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2004 and 2005

5

 

Notes to Condensed Consolidated Financial Statements

7

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

20

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

44

Item 4.

Controls and Procedures

45

 

 

 

PART II.

OTHER INFORMATION

46

 

 

 

Item 1.

Legal Proceedings

46

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

47

Item 3.

Defaults Upon Senior Securities

47

Item 4.

Submission of Matters to a Vote of Security Holders

47

Item 5.

Other Information

47

Item 6.

Exhibits

48

 

Signatures

49

 

2



 

PART I—FINANCIAL INFORMATION

 

Item 1.  Condensed Consolidated Financial Statements (unaudited)

 

YAHOO! INC.

 

Condensed Consolidated Statements of Operations

(unaudited, in thousands except per share amounts)

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues

 

$

832,299

 

$

1,252,997

 

$

1,590,085

 

$

2,426,739

 

Cost of revenues

 

297,383

 

485,898

 

579,088

 

939,195

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross profit

 

534,916

 

767,099

 

1,010,997

 

1,487,544

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 

 

 

 

Sales and marketing

 

191,875

 

246,406

 

358,170

 

476,925

 

Product development

 

87,140

 

125,544

 

164,129

 

244,893

 

General and administrative

 

63,159

 

81,430

 

120,715

 

154,975

 

Stock compensation expense*

 

7,140

 

10,948

 

19,712

 

20,414

 

Amortization of intangibles

 

36,108

 

41,414

 

66,620

 

81,617

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

385,422

 

505,742

 

729,346

 

978,824

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income from operations

 

149,494

 

261,357

 

281,651

 

508,720

 

Other income, net

 

13,179

 

979,736

 

27,557

 

1,029,730

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes, earnings in equity interests and minority interests

 

162,673

 

1,241,093

 

309,208

 

1,538,450

 

Provision for income taxes

 

(72,517

)

(515,855

)

(137,226

)

(636,290

)

Earnings in equity interests

 

24,108

 

33,105

 

43,976

 

62,483

 

Minority interests in operations of consolidated subsidiaries

 

(1,752

)

(3,654

)

(2,234

)

(5,394

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

112,512

 

$

754,689

 

$

213,724

 

$

959,249

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income per share—basic

 

$

0.08

 

$

0.54

 

$

0.16

 

$

0.69

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income per share—diluted

 

$

0.08

 

$

0.51

 

$

0.15

 

$

0.65

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares used in per share calculation—basic

 

1,347,459

 

1,395,596

 

1,337,807

 

1,390,277

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares used in per share calculation—diluted

 

1,449,707

 

1,484,200

 

1,438,128

 

1,481,114

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

*Stock compensation expense by function:

 

 

 

 

 

 

 

 

 

Sales and marketing

 

$

2,376

 

$

1,509

 

$

5,981

 

$

2,999

 

Product development

 

2,548

 

3,741

 

7,271

 

7,003

 

General and administrative

 

2,216

 

5,698

 

6,460

 

10,412

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stock compensation expense

 

$

7,140

 

$

10,948

 

$

19,712

 

$

20,414

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

3



 

YAHOO! INC.

 

Condensed Consolidated Balance Sheets

(unaudited, in thousands, except par values)

 

 

 

December 31,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

823,723

 

$

1,920,423

 

Marketable debt securities

 

1,875,964

 

1,474,101

 

Marketable equity securities

 

812,288

 

 

Accounts receivable, net

 

479,993

 

548,408

 

Prepaid expenses and other current assets

 

98,507

 

157,918

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current assets

 

4,090,475

 

4,100,850

 

 

 

 

 

 

 

Long-term marketable debt securities

 

1,042,575

 

1,530,149

 

Property and equipment, net

 

531,696

 

589,373

 

Goodwill

 

2,550,957

 

2,563,597

 

Intangible assets, net

 

480,666

 

491,494

 

Other assets

 

481,832

 

396,904

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

9,178,201

 

$

9,672,367

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

48,205

 

$

30,909

 

Accrued expenses and other current liabilities

 

853,115

 

709,394

 

Deferred revenue

 

279,387

 

304,287

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current liabilities

 

1,180,707

 

1,044,590

 

 

 

 

 

 

 

Long-term deferred revenue

 

65,875

 

64,584

 

Long-term debt

 

750,000

 

750,000

 

Other long-term liabilities

 

35,907

 

81,237

 

Minority interests in consolidated subsidiaries

 

44,266

 

50,354

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Common Stock, $0.001 par value; 5,000,000 shares authorized; 1,383,584 and 1,405,691 issued and outstanding, respectively

 

1,416

 

1,440

 

Additional paid-in capital

 

5,682,884

 

6,051,035

 

Deferred stock-based compensation

 

(28,541

)

(98,632

)

Treasury stock

 

(159,988

)

(324,883

)

Retained earnings

 

1,069,939

 

2,029,188

 

Accumulated other comprehensive income

 

535,736

 

23,454

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

7,101,446

 

7,681,602

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

9,178,201

 

$

9,672,367

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

4



 

YAHOO! INC.

 

Condensed Consolidated Statements of Cash Flows

(unaudited, in thousands)

 

 

 

Six Months Ended

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

 

Net income

 

$

213,724

 

$

959,249

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Depreciation and amortization

 

143,620

 

184,368

 

Tax benefits from stock options

 

121,121

 

602,568

 

Earnings in equity interests

 

(43,976

)

(62,483

)

Dividends received

 

 

10,670

 

Minority interests in operations of consolidated subsidiaries

 

2,234

 

5,394

 

Stock compensation expense

 

19,712

 

20,414

 

(Gains)/losses from sales of investments, assets, and other, net

 

9,616

 

(952,266

)

Changes in assets and liabilities, net of effects of acquisitions:

 

 

 

 

 

Accounts receivable, net

 

(35,822

)

(78,157

)

Prepaid expenses and other assets

 

582

 

10,240

 

Accounts payable

 

(13,593

)

(14,193

)

Accrued expenses and other liabilities

 

51,869

 

79,816

 

Deferred revenue

 

16,590

 

24,290

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by operating activities

 

485,677

 

789,910

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

 

Acquisition of property and equipment, net

 

(94,388

)

(161,800

)

Purchases of marketable debt securities

 

(1,461,937

)

(5,474,827

)

Proceeds from sales and maturities of marketable debt securities

 

1,469,667

 

5,374,465

 

Acquisitions, net of cash acquired

 

(573,877

)

(126,374

)

Proceeds from sales of marketable equity securities

 

1,351

 

970,296

 

Other investing activities, net

 

15,137

 

(38,595

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by (used in) investing activities

 

(644,047

)

543,165

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

 

Proceeds from issuance of common stock, net

 

317,678

 

302,724

 

Repurchases of common stock

 

 

(164,895

)

Structured stock repurchases, net

 

(50,000

)

(359,931

)

Other financing activities, net

 

 

800

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by (used in) financing activities

 

267,678

 

(221,302

)

 

 

 

 

 

 

 

 

 

 

 

 

Effect of exchange rate changes on cash and cash equivalents

 

3,053

 

(15,073

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

112,361

 

1,096,700

 

Cash and cash equivalents at beginning of period

 

415,892

 

823,723

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents at end of period

 

$

528,253

 

$

1,920,423

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

5



 

Supplemental schedule:

 

Acquisition-related activities (in thousands):

 

 

 

Six Months Ended

 

 

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash paid for acquisitions

 

$

619,611

 

$

127,452

 

Cash acquired in acquisitions

 

(45,734

)

(1,078

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

573,877

 

$

126,374

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock, restricted stock and stock options issued in connection with acquisitions

 

$

2,209

 

$

44,381

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See Note 3—“Acquisitions” for additional information.

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

6



 

YAHOO! INC.

Notes to Condensed Consolidated Financial Statements

(unaudited)

 

Note 1—The Company and Summary of Significant Accounting Policies

 

The Company.  Yahoo! Inc., together with its consolidated subsidiaries (“Yahoo!” or the “Company”) is a leading global Internet brand and one of the most trafficked Internet destinations worldwide.  Yahoo! seeks to provide Internet services that are essential and relevant to users and businesses through the provision of online properties (collectively referred to as the “Yahoo! Network”) to Internet users and a range of tools and marketing solutions for businesses to market to that community of users.

 

Stock Split.  On April 7, 2004, the Yahoo! Board of Directors approved a two-for-one split of the Company’s shares of common stock effected in the form of a stock dividend.  As a result of the stock split, Yahoo! stockholders received one additional share of Yahoo! common stock for each share of common stock held of record on April 26, 2004.  The additional shares of Yahoo! common stock were distributed on May 11, 2004.  All share and per share amounts in these condensed consolidated financial statements and related notes have been retroactively adjusted to reflect the stock split for all periods presented.

 

Basis of Presentation.  The condensed consolidated financial statements include the accounts of Yahoo! and its majority-owned subsidiaries.  All significant intercompany accounts and transactions have been eliminated.  Investments in entities in which the Company can exercise significant influence, but are less than majority owned and not otherwise controlled by the Company, are accounted for under the equity method and are included in other assets on the condensed consolidated balance sheets.  The Company has included the results of operations of acquired companies from the closing dates of the acquisitions.

 

The accompanying unaudited condensed consolidated interim financial statements reflect all adjustments, consisting of only normal recurring items, which in the opinion of management, are necessary for a fair statement of the results of operations for the periods shown.  The results of operations for such periods are not necessarily indicative of the results expected for the full year or for any future period.

 

The preparation of condensed consolidated financial statements in conformity with generally accepted accounting principles in the United States requires management to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities.  On an on-going basis, the Company evaluates its estimates, including those related to uncollectible receivables, the useful lives of long-lived assets including property and equipment, investment fair values, goodwill and other intangible assets, income taxes and contingencies.  In addition, the Company uses assumptions when employing the Black-Scholes option valuation model to estimate the fair value of stock options granted for pro forma disclosure purposes.  The Company bases its estimates of the carrying value of certain assets and liabilities on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, when these carrying values are not readily available from other sources.  Actual results may differ from these estimates.

 

Certain prior period balances have been reclassified to conform to the current year presentation.  A new subtotal is being presented in the consolidated statement of operations: Income before income taxes, earnings in equity interests, and minority interests.  Earnings in equity interests and minority interests in operations of consolidated subsidiaries are now presented below the provision for income taxes.  In accordance with generally accepted accounting principles, these items have consistently been presented net of income taxes.  In addition, beginning in the fourth quarter of 2004, the Company made reclassifications in the consolidated balance sheets and consolidated cash flow statements related to the classification of auction rate securities.  Certain of these securities were included in the cash and cash equivalents lines in prior periods.  These amounts have been reclassified to short term marketable debt securities. The reclassification resulted in a reduction of $118 million in previously reported net cash used in investing activities and an increase of $118 million in the previously reported net change in cash and cash equivalents for the six months ended June 30, 2004.  The reduction of $118 million in cash used in investing activities is the result of an increase of $600 million in purchases of marketable debt securities and an increase of $718 million in proceeds from sales and maturities of marketable debt securities.

 

These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2004.

 

7



 

Stock-Based Compensation.  The Company measures compensation expense for its stock-based employee compensation plans using the intrinsic value method.  The Company recorded compensation expense of $7 million and $11 million in the three months ended June 30, 2004 and 2005, respectively.  The Company recorded compensation expense of $20 million in each of the six months ended June 30, 2004 and 2005.  If the fair value based method had been applied in measuring stock compensation expense, the pro forma effect on net income and net income per share would have been as follows (in thousands, except per share amounts):

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income:

 

 

 

 

 

 

 

 

 

As reported

 

$

112,512

 

$

754,689

 

$

213,724

 

$

959,249

 

Add: Stock compensation expense included in reported net income, net of related tax effects

 

4,284

 

6,568

 

11,827

 

12,248

 

Less: Stock compensation expense determined under fair value based method for all awards, net of related tax effects*

 

(54,245

)

(57,147

)

(122,499

)

(114,193

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Pro forma net income

 

$

62,551

 

$

704,110

 

$

103,052

 

$

857,304

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income per share

 

 

 

 

 

 

 

 

 

As reported - basic

 

$

0.08

 

$

0.54

 

$

0.16

 

$

0.69

 

As reported - diluted

 

$

0.08

 

$

0.51

 

$

0.15

 

$

0.65

 

 

 

 

 

 

 

 

 

 

 

Pro forma - basic

 

$

0.05

 

$

0.50

 

$

0.08

 

$

0.62

 

Pro forma - diluted

 

$

0.04

 

$

0.47

 

$

0.07

 

$

0.58

 

 

*                                         For the three and six months ended June 30, 2004, the stock compensation expense amount has been adjusted to reflect lower calculated fair values for employee stock options which resulted in an increase of $7 million ($0.01 per share – basic; $0.00 per share – diluted) and $10 million ($0.01 per share – basic and diluted), respectively, in pro forma net income. The adjustment was required as the Company’s estimate of the fair value of employee stock options was incorrectly based on a five-and-one-half year expected life rather than the three-and-one-half year expected life intended by management.

 

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable.  In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility and expected life of the options granted.  Because the Company’s options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in the opinion of management, the existing models do not necessarily provide a reliable single measure of the fair value of its options.

 

See “Recent Accounting Pronouncements” below regarding the impact of the adoption of Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment” (“SFAS 123R”).

 

Recent Accounting Pronouncements

 

In December 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS 123R, which requires companies to recognize in the statement of operations all share-based payments to employees, including grants of employee stock options, based on their fair values.  Accounting for share-based compensation transactions using the intrinsic method supplemented by pro forma disclosures will no longer be permissible.  The new statement will be effective for public entities no later than the beginning of the first fiscal year beginning after June 15, 2005.  The Company will adopt the new statement on January 1, 2006.  The Company has not yet completed its analysis of the impact of adopting SFAS 123R and is therefore currently unable to quantify the effect on its financial statements.  However, the adoption of this new statement will have a significant impact on the results of operations and net income per share of the Company as the Company will be required to expense the fair value of all share-based payments.

 

8



 

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections”, a replacement of Accounting Principles Board Opinion No. 20, “Accounting Changes”, and SFAS No. 3, “Reporting Accounting Changes in Interim Financial Statements” (“SFAS 154”).  SFAS 154 changes the requirements for the accounting for, and reporting of, a change in accounting principle.  Previously, voluntary changes in accounting principles were generally required to be recognized by way of a cumulative effect adjustment within net income during the period of the change. SFAS 154 requires retrospective application to prior periods’ financial statements, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change.  SFAS 154 is effective for accounting changes made in fiscal years beginning after December 15, 2005; however, the statement does not change the transition provisions of any existing accounting pronouncements.  The Company does not believe adoption of SFAS 154 will have a material effect on its financial position, cash flows or results of operations.

 

Note 2—Basic and Diluted Net Income Per Share

 

Basic net income per share is computed using the weighted average number of common shares outstanding during the period, excluding any unvested restricted stock that is subject to repurchase.  Diluted net income per share is computed using the weighted average number of common shares and, if dilutive, potential common shares outstanding during the period.  Potential common shares consist of unvested restricted stock (using the treasury stock method), the incremental common shares issuable upon the exercise of stock options (using the treasury stock method) and the conversion of the Company’s zero coupon senior convertible notes (using the if-converted method).  For the three months ended June 30, 2004 and 2005, approximately 58 million and 55 million options to purchase common stock, respectively, were excluded from the calculation, as their exercise prices were greater than the average market price of the common stock during the periods.  For the six months ended June 30, 2004 and 2005, approximately 63 million and 61 million options to purchase common stock, respectively were excluded from the calculation, as their exercise prices were greater than the average market price of the common stock during the periods.  See Note 8—“Long-Term Debt” for additional information related to the Company’s zero coupon senior convertible notes.

 

The following table sets forth the computation of basic and diluted net income per share (in thousands, except per share amounts):

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Numerator:

 

 

 

 

 

 

 

 

 

Net income

 

$

112,512

 

$

754,689

 

$

213,724

 

$

959,249

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

 

 

 

 

Weighted average common shares

 

1,347,897

 

1,398,690

 

1,338,245

 

1,392,870

 

Weighted average unvested restricted stock subject to repurchase

 

(438

)

(3,094

)

(438

)

(2,593

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Denominator for basic calculation

 

1,347,459

 

1,395,596

 

1,337,807

 

1,390,277

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average effect of dilutive securities:

 

 

 

 

 

 

 

 

 

Employee stock options

 

65,494

 

51,566

 

63,627

 

53,282

 

Convertible notes

 

36,585

 

36,585

 

36,585

 

36,585

 

Restricted stock

 

169

 

453

 

109

 

970

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Denominator for diluted calculation

 

1,449,707

 

1,484,200

 

1,438,128

 

1,481,114

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income per share—basic

 

$

0.08

 

$

0.54

 

$

0.16

 

$

0.69

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income per share—diluted

 

$

0.08

 

$

0.51

 

$

0.15

 

$

0.65

 

 

 

 

 

 

 

 

 

 

 

 

Note 3—Acquisitions

 

Acquisitions completed in 2004

 

3721.  On January 2, 2004, the Company completed the acquisition of all of the outstanding capital shares of 3721 Network Software Company Limited (“3721”), a Hong Kong-based software development company.  The acquisition combined the

 

9



 

Company’s global audience and 3721’s keyword search technology to enable the Company to continue improving its global search services.  These factors contributed to a purchase price in excess of the fair value of 3721’s net tangible and intangible assets acquired, and as a result, the Company has recorded goodwill in connection with this transaction.

 

The total purchase price of approximately $95 million consisted of $92 million in cash consideration, including $41 million related to a contingent earnout, which was finalized and paid in the three months ended June 30, 2005, $2 million related to stock options exchanged, and direct transaction costs of $1 million.  The total cash consideration of approximately $92 million less cash acquired of $7 million resulted in a net cash outlay of $85 million.

 

The allocation of the purchase price to the assets acquired and liabilities assumed based on the fair values was as follows (in thousands):

 

Cash acquired

 

$

6,917

 

Other tangible assets acquired

 

4,498

 

Amortizable intangible assets

 

 

 

Trade name, trademark, and domain name

 

1,000

 

Customer, affiliate, and advertiser related relationships

 

7,600

 

Developed technology and patents

 

3,800

 

Goodwill

 

80,957

 

 

 

 

 

 

 

 

 

Total assets acquired

 

104,772

 

 

 

 

 

Liabilities assumed

 

(11,186

)

Deferred stock-based compensation

 

1,757

 

 

 

 

 

 

 

 

 

Total

 

$

95,343

 

 

 

 

 

 

The amortizable intangible assets have useful lives not exceeding five years.  No amount has been allocated to in-process research and development, and $81 million has been allocated to goodwill.  Goodwill represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired, and is not deductible for tax purposes.

 

Kelkoo.  On April 5, 2004, the Company completed the acquisition of a majority interest in Kelkoo S.A. (“Kelkoo”), a leading European online comparison shopping service.  In July 2004, the Company completed the acquisition of additional interests in Kelkoo, increasing the Company’s total ownership interest in Kelkoo to 100 percent.  The acquisition expanded the Company’s global commerce presence and together with the Company’s current services is expected to increase the Company’s competitive position in Europe.  These factors contributed to a purchase price in excess of the fair value of Kelkoo’s net tangible and intangible assets acquired, and as a result, the Company has recorded goodwill in connection with this transaction.

 

The total purchase price of approximately $571 million consisted of $562 million in cash consideration, $6 million in incurred liabilities and direct transaction costs of $3 million.  The total cash consideration of approximately $562 million less cash acquired of $39 million resulted in a net cash outlay of $523 million.

 

The allocation of the purchase price to the assets acquired and liabilities assumed based on the fair values was as follows (in thousands):

 

Cash acquired

 

$

38,817

 

Other tangible assets acquired

 

24,068

 

Amortizable intangible assets

 

 

 

Trade name, trademark, and domain name

 

61,300

 

Customer, affiliate, and advertiser related relationships

 

36,100

 

Developed technology and patents

 

9,100

 

Goodwill

 

453,555

 

 

 

 

 

 

 

 

 

Total assets acquired

 

622,940

 

 

 

 

 

Liabilities assumed

 

(51,832

)

 

 

 

 

 

 

 

 

Total

 

$

571,108

 

 

 

 

 

 

The amortizable intangible assets have useful lives not exceeding five years.  No amount has been allocated to in-process research and development, and $454 million has been allocated to goodwill.  Goodwill represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired, and is not deductible for tax purposes.

 

10



 

Musicmatch.  On October 18, 2004, the Company completed the acquisition of Musicmatch, Inc. (“Musicmatch”), a leading provider of personalized music software and services.  The acquisition significantly increased the Company’s presence in the digital music business and together with the Company’s current music services,  Yahoo! Music, is expected to provide one of the most comprehensive suites of music services available for users, marketers, artists and record labels.  These factors contributed to a purchase price in excess of the fair value of Musicmatch’s net tangible and intangible assets acquired, and as a result, the Company has recorded goodwill in connection with this transaction.

 

The total estimated purchase price of approximately $158 million consisted of $156 million in cash consideration, and direct transaction costs of $2 million.  The $156 million of total cash consideration less cash acquired of $3 million resulted in a net cash outlay of $153 million.

 

The preliminary allocation of the purchase price to the assets acquired and liabilities assumed based on the estimated fair values was as follows (in thousands):

 

Cash acquired

 

$

2,516

 

Other tangible assets acquired

 

8,754

 

Amortizable intangible assets

 

 

 

Developed technology and patents

 

18,100

 

Customer contracts and related relationships

 

1,700

 

Trade name, trademark and domain name

 

1,100

 

Goodwill

 

171,875

 

 

 

 

 

 

 

 

 

Total assets acquired

 

204,045

 

 

 

 

 

Liabilities assumed

 

(46,371

)

 

 

 

 

 

 

 

 

Total

 

$

157,674

 

 

 

 

 

 

The amortizable intangible assets have useful lives not exceeding 3 years.  Based on a preliminary estimate, no amount has been allocated to in-process research and development, and $172 million has been allocated to goodwill.  Goodwill represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired, and is not deductible for tax purposes.  The preliminary purchase price allocation for Musicmatch is subject to revision as more detailed analysis is completed and additional information on the fair value of assets and liabilities becomes available.  Any change in the fair value of the net assets of Musicmatch will change the amount of the purchase price allocable to goodwill.

 

Other Acquisitions.  During the year ended December 31, 2004 the Company acquired three other companies which were each accounted for as business combinations.  The total purchase price for these three acquisitions was approximately $49 million and consisted of $46 million in cash consideration, $2 million related to stock options exchanged and $1 million of direct transaction costs.  The total cash consideration of $46 million less cash acquired of $2 million resulted in a net cash outlay of $44 million.  Of the purchase price, approximately $41 million was allocated to goodwill, $14 million to amortizable intangible assets and $6 million to net assumed liabilities.  No amounts have been allocated to in-process research and development.  Goodwill represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired, and is not deductible for tax purposes.

 

Acquisitions completed in 2005

 

During the three months ended March 31, 2005 the Company acquired a software development company.  The transaction was treated as an asset acquisition for accounting purposes and therefore no goodwill was recorded.  The total estimated purchase price was approximately $58 million and consisted of $54 million in cash consideration, $3 million related to stock options exchanged and $1 million of direct transaction costs.  For accounting purposes, approximately $93 million was allocated to amortizable intangible assets, with lives not exceeding three years, $37 million to liabilities, primarily deferred income tax liabilities, and $2 million to deferred stock-based compensation.  In connection with the acquisition, the Company also issued approximately 1 million shares of restricted stock valued at $35 million that will be recognized as expense over three years.

 

During the three months ended June 30, 2005 the Company acquired three companies which were each accounted for as business combinations.  The total estimated purchase price for the three acquisitions was approximately $37 million and consisted of $32 million in cash consideration, $3 million related to stock options exchanged, and $2 million of incurred liabilities and direct transaction costs.  The total cash consideration of approximately $32 million less cash acquired of $1 million resulted in a net

 

11



 

cash outlay of $31 million.  Of the total estimated purchase price, approximately $31 million was allocated to goodwill and $6 million to amortizable intangible assets.  Less than $1 million has been allocated to in-process research and development and recorded in product development expenses.  Goodwill represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired, and is not deductible for tax purposes.  The purchase price allocations for these acquisitions are preliminary and subject to revision as more detailed analyses are completed and additional information on the fair value of assets and liabilities becomes available.  Any change in the fair value of the net assets of the acquired companies will change the amount of the purchase price allocable to goodwill.

 

Pro forma results of operations have not been presented for the acquisitions completed during the six months ended June 30, 2004 or June 30, 2005 as the results of the acquired companies either individually or in the aggregate were not material to the Company.

 

Note 4—Goodwill

 

The changes in the carrying amount of goodwill for the six months ended June 30, 2005 are as follows (in thousands):

 

 

 

United States

 

International

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance as of January 1, 2005

 

$

1,673,419

 

$

877,538

 

$

2,550,957

 

Acquisitions and other*

 

15,000

 

36,528

 

51,528

 

Foreign currency translation adjustments

 

 

(38,888

)

(38,888

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance as of June 30, 2005

 

$

1,688,419

 

$

875,178

 

$

2,563,597

 

 

 

 

 

 

 

 

 

 

*                                         Other primarily includes certain purchase price adjustments that affect existing goodwill.

 

Note 5—Intangible Assets, Net

 

The following table summarizes the Company’s intangible assets, net (in thousands):

 

 

 

December 31, 2004

 

June 30, 2005

 

 

 

Net

 

Gross carrying
amount

 

Accumulated
amortization*

 

Net

 

 

 

 

 

 

 

 

 

 

 

Trademark, trade name and domain name

 

$103,796

 

$134,000

 

$(46,272

)

$87,728

 

Customer, affiliate, and advertiser related relationships

 

205,032

 

323,066

 

(145,919

)

177,147

 

Developed technology and patents

 

171,838

 

309,645

 

(83,026

)

226,619

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total intangible assets, net

 

$480,666

 

$766,711

 

$(275,217

)

$491,494

 

 

 

 

 

 

 

 

 

 

 

 

*                                         Foreign currency translation adjustments, reflecting movement in the currencies of the underlying entities, totaled approximately $3 million as of June 30, 2005.

 

The Company recognized amortization expense for intangible assets of approximately $36 million and $41 million for the three months ended June 30, 2004 and 2005, respectively.  The Company recognized amortization expense for intangible assets of approximately $67 million and $82 million for the six months ended June 30, 2004 and 2005, respectively.  Based on the current amount of intangibles subject to amortization, the estimated amortization expense for each of the succeeding five years is as follows: six months ending December 31, 2005: $95 million; 2006: $181 million; 2007: $135 million; 2008: $74 million, and 2009: $6 million.

 

12



 

Note 6—Other Income, Net

 

Other income, net is comprised of (in thousands):

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest and investment income

 

$

13,254

 

$

27,100

 

$

26,016

 

$

50,872

 

Investment gains (losses), net

 

(5,610

)

949,149

 

(2,488

)

968,283

 

Other

 

5,535

 

3,487

 

4,029

 

10,575

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total other income, net

 

$

13,179

 

$

979,736

 

$

27,557

 

$

1,029,730

 

 

 

 

 

 

 

 

 

 

 

 

Investment gains (losses), net include realized investment gains, realized investment losses, realized gains on derivatives, and impairment charges related to declines in values of privately held companies judged to be other than temporary.  Investment gains (losses) include gains in the amounts of $949 million and $961 million, in the three and six months ended June 30, 2005, respectively, related to the sale of a non-strategic marketable equity securities investment which was previously classified as a current asset.

 

Note 7—Comprehensive Income

 

Comprehensive income, net of taxes, is comprised of (in thousands):

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

112,512

 

$

754,689

 

$

213,724

 

$

959,249

 

Other comprehensive income

 

 

 

 

 

 

 

 

 

Change in net unrealized gains (losses) on available-for-sale securities before tax, net of reclassification adjustments

 

(26,524

)

(697,660

)

(19,530

)

(772,149

)

Tax impact of net unrealized gains

 

10,611

 

279,064

 

7,818

 

308,858

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Change in net unrealized gains (losses) on available-for-sale securities, net of tax, net of reclassification adjustments

 

(15,913

)

(418,596

)

(11,712

)

(463,291

)

Foreign currency translation adjustment

 

(14,836

)

(46,066

)

(12,259

)

(48,991

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income

 

(30,749

)

(464,662

)

(23,971

)

(512,282

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

81,763

 

$

290,027

 

$

189,753

 

$

446,967

 

 

 

 

 

 

 

 

 

 

 

 

The following table summarizes the components of accumulated other comprehensive income (in thousands):

 

 

 

December 31, 2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized gains on available-for-sale securities, net of tax

 

$

475,314

 

$

12,023

 

Cumulative foreign currency translation adjustment

 

60,422

 

11,431

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income

 

$

535,736

 

$

23,454

 

 

 

 

 

 

 

 

13



 

Note 8—Long-Term Debt

 

In April 2003, the Company issued $750 million of zero coupon senior convertible notes (the “Notes”) due April 2008, which resulted in net proceeds to the Company of approximately $733 million after transaction fees of $17 million, which have been deferred and are included on the condensed consolidated balance sheets in other assets.  As of June 30, 2005, approximately $10 million of the transaction fees remain to be amortized.  The Notes were issued at par and bear no interest.  The Notes are convertible into Yahoo! common stock at a conversion price of $20.50 per share, which would result in the issuance of an aggregate of approximately 37 million shares, subject to adjustment upon the occurrence of specified events.  Each $1,000 principal amount of the Notes will initially be convertible into 48.78 shares of Yahoo! common stock.

 

The Notes are convertible prior to the final maturity date (1) during any fiscal quarter if the closing sale price of the Company’s common stock for at least 20 trading days in the 30 trading-day period ending on the last trading day of the immediately preceding fiscal quarter exceeded 110 percent of the conversion price on that 30th trading day, (2) during the period beginning January 1, 2008 through the maturity date, if the closing sale price of the Company’s common stock on the previous trading day was 110 percent or more of the then current conversion price, and (3) upon specified corporate transactions.  Upon conversion, the Company has the right to deliver cash in lieu of common stock.  The Company may be required to repurchase all of the Notes following a fundamental change of the Company, such as a change of control, prior to maturity at face value.  The Company may not redeem the Notes prior to their maturity.

 

As of June 30, 2005, the market price condition for convertibility of the Notes was satisfied with respect to the fiscal quarter beginning July 1, 2005 and ending on September 30, 2005.  During this period holders of the Notes will be able to convert their Notes into shares of Yahoo! common stock at the rate of 48.78 shares of Yahoo! common stock for each Note.  The Notes will also be convertible into shares of Yahoo! common stock in subsequent fiscal quarters, if any, with respect to which the market price condition for convertibility is met.  As of June 30, 2005, no Notes have been converted since their issuance.

 

As of June 30, 2005, the fair value of the Notes was approximately $1.3 billion based on quoted market prices.  The shares issuable upon conversion of the Notes have been included in the computation of diluted net income per share since the Notes were issued.

 

Note 9—Stock Repurchase Programs

 

In March 2001, the Company’s Board of Directors authorized the Company to repurchase up to $500 million of its outstanding shares of common stock from time to time over the next two years, depending on market conditions, share price and other factors.  In March 2003, the Company’s Board of Directors authorized a two-year extension of the stock repurchase program until March 2005.  Under this program, from March 2001 through December 31, 2004, the Company repurchased 32.9 million shares of common stock at an average price of $4.86 per share for a total amount of approximately $160 million.  During this period, of the shares repurchased, 32.1 million shares were purchased from SOFTBANK Corp. (“SOFTBANK”) at an average price of $4.84 per share.  During the three months ended March 31, 2005, the Company repurchased an additional 4.9 million shares in the open market, at an average price of $33.60 per share, for total consideration of $165 million.  This stock repurchase program has expired.

 

In March 2005, the Company’s Board of Directors authorized a new stock repurchase program for the Company to repurchase up to $3 billion of its outstanding shares of common stock from time to time over the next five years, depending on market conditions, share price and other factors.  No shares were repurchased under this stock repurchase program in the three and six months ended June 30, 2005.  Treasury stock is accounted for under the cost method.

 

In August 2004, the Company entered into a $100 million structured stock repurchase transaction which matured in four separate tranches through March 31, 2005.  One of the four tranches matured and settled in December 2004.  During the six months ended June 30, 2005, the remaining three tranches settled resulting in the Company receiving $82 million in cash.

 

In February 2005, the Company entered into $150 million in structured stock repurchase transactions which mature in three separate tranches through August 2005.  One of the three tranches matured and settled in the three months ended June 30, 2005 resulting in the Company receiving $53 million.  The remaining two tranches will mature in July 2005 and August 2005.  On each of the maturity dates, if the market price of Yahoo! common stock is at or above $29.00 for the July 2005 maturing tranche, and $31.49 for the August 2005 maturing tranche, the Company will have its investment returned with a premium.  If the market price

 

14



 

of the Company’s common stock is below the pre-determined prices, the Company will repurchase shares of its common stock, up to an aggregate of 3.5 million shares.

 

In April 2005, the Company entered into $500 million in structured stock repurchase transactions which mature in three separate tranches through October 2005.  One of the three tranches matured and settled in the three months ended June 30, 2005 resulting in the Company receiving $156 million.  The remaining two tranches will mature in October 2005.  On each of the remaining maturity dates, if the market price of Yahoo! common stock is at or above $35.11 for both the $150 million and $200 million tranches, the Company will have its investments returned with a premium.  If the market price is below $35.11, the Company will repurchase up to an aggregate of 11.0 million shares of its common stock.

 

Note 10—Commitments and Contingencies

 

Operating Leases.  The Company has entered into various non-cancelable operating lease agreements for offices and facilities globally, for original lease periods up to 23 years and expiring between 2005 and 2027.

 

Net lease commitments as of June 30, 2005 can be summarized as follows (in millions):

 

 

 

Gross lease
commitments

 

Sublease
income

 

Net lease
commitments

 

 

 

 

 

 

 

 

 

Six months ending December 31, 2005

 

$

30

 

$

(5

)

$

25

 

Years ending December 31,

 

 

 

 

 

 

 

2006

 

57

 

(5

)

52

 

2007

 

59

 

 

59

 

2008

 

62

 

 

62

 

2009

 

60

 

(1

)

59

 

2010

 

54

 

(1

)

53

 

Due after 5 years

 

304

 

(1

)

303

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total net lease commitments

 

$

626

 

$

(13

)

$

613

 

 

 

 

 

 

 

 

 

 

Affiliate Commitments.  In connection with our contracts to provide sponsored search services to affiliates, the Company is obligated to make payments, which represent traffic acquisition costs, to our affiliates.  As of June 30, 2005, the commitments total $326 million of which $109 million will be payable in the remainder of 2005, $208 million will be payable in 2006 and $9 million will be payable in 2007.

 

Other Commitments.  In the ordinary course of business, the Company may provide indemnifications of varying scope and terms to customers, vendors, lessors, business partners and other parties with respect to certain matters, including, but not limited to, losses arising out of the Company’s breach of agreements, services to be provided by the Company, or from intellectual property infringement claims made by third parties.  In addition, the Company has entered into indemnification agreements with its directors and certain of its officers that will require the Company, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors or officers.  The Company has also agreed to indemnify certain former officers, directors and employees of acquired companies in connection with the acquisition of such companies.  The Company maintains director and officer insurance, which may cover certain liabilities arising from its obligation to indemnify its directors and officers, and former directors and officers of acquired companies, in certain circumstances.

 

It is not possible to determine the maximum potential loss under these indemnification agreements due to the limited history of prior indemnification claims and the unique facts and circumstances involved in each particular agreement.  Such indemnification agreements may not be subject to maximum loss clauses.  Historically, the Company has not incurred material costs as a result of obligations under these agreements and it has not accrued any liabilities related to such indemnification obligations in its condensed consolidated financial statements.

 

On April 21, 2003, Overture Services Inc. (“Overture”) completed its purchase of the Web Search unit of Fast Search and Transfer ASA, a Norway based developer of search and real-time filtering technologies, for $70 million in cash, plus a contingent earn-out payment of up to $30 million over three years based on specified operating criteria.

 

15



 

As of June 30, 2005, the Company did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.  As such, the Company is not exposed to any financing, liquidity, market or credit risk that could arise if the Company had engaged in such relationships.

 

Contingencies.  From time to time, third parties assert patent infringement claims against the Company.  Currently, the Company is engaged in several lawsuits regarding patent issues and has been notified of a number of other potential patent disputes.

 

In addition, from time to time the Company is subject to other legal proceedings and claims in the ordinary course of business, including claims of alleged infringement of trademarks, copyrights and other intellectual property rights, and a variety of claims, including claims alleging defamation or invasion of privacy, arising in connection with its email, message boards, auction sites, shopping services, and other communications and community features.

 

In October 2000, 800-JR-Cigar, Inc. filed a complaint in the United States District Court for the District of New Jersey against Overture, a wholly-owned subsidiary of the Company acquired in October 2003.  The plaintiff in this case, and in certain other cases which have been brought against Overture in the past, claims, among other things, that it has trademark rights in certain search terms and that Overture violates these rights by allowing its advertisers to bid on these search terms.  The complaints seek injunctive relief and damages.  The Company and Overture believe that Overture has meritorious defenses to liability and damages and are contesting the lawsuit vigorously.  In August 2003, Accor filed a similar complaint in the Nanterre District Court in France against Overture and Overture S.A.R.L., Overture’s wholly-owned subsidiary in France.  On January 17, 2005, the Nanterre District Court ruled in favor of Accor and found Overture and Overture S.A.R.L. liable for trademark infringement.  Overture S.A.R.L. and Overture have appealed this decision.

 

On May 24, 2001, Arista Records, Inc., Bad Boy Records, BMG Music d/b/a The RCA Records Label, Capitol Records, Inc., Virgin Records America, Inc., Sony Music Entertainment Inc., UMG Recordings, Inc., Interscope Records, Motown Record Company, L.P., and Zomba Recording Corporation filed a lawsuit alleging copyright infringement against LAUNCH in the United States District Court for the Southern District of New York.  The plaintiffs allege, among other things, that the consumer-influenced portion of LAUNCH’s LAUNCHcast service is “interactive” within the meaning of Section 114 of the Copyright Act and therefore does not qualify for the compulsory license provided for by the Copyright Act.  The Complaint seeks declaratory and injunctive relief and damages for the alleged infringement.  After the lawsuit was commenced, the Company entered into an agreement to acquire LAUNCH.  In June 2001,   LAUNCH settled the LAUNCH litigation as to UMG Recordings, Inc.  The Company’s acquisition of LAUNCH closed in August 2001, and since that time LAUNCH has been a wholly owned subsidiary of the Company.  The Company and LAUNCH do not believe that LAUNCH has infringed any rights of plaintiffs and intend to vigorously contest the lawsuit.  In January 2003, LAUNCH settled the LAUNCH litigation as to Sony Music Entertainment, Inc.  In October 2003, LAUNCH settled the litigation as to Capitol Records, Inc. and Virgin Records America, Inc.  Accordingly, BMG Music d/b/a/ The RCA Records Label is the sole remaining plaintiff in this proceeding.  On March 16, 2004 the plaintiff filed motions for partial summary judgment on the issues of willful infringement and whether the consumer-influenced portion of Launch’s LAUNCHcast service is “interactive” within the meaning of Section 114 of the Copyright Act and therefore does not qualify for the compulsory license provided for by the Copyright Act.  LAUNCH filed its opposition to the motions for partial summary judgment on April 30, 2004, and a hearing on the motions was held on June 18, 2004.  The Court has not yet ruled on the motions for summary judgment.  The Company does not believe it is feasible to predict or determine the outcome or resolution of the remaining LAUNCH litigation at this time.  The range of possible resolutions of such LAUNCH litigation could include judgments against LAUNCH or settlements that could require substantial payments by LAUNCH.

 

On July 12, 2001, the first of several purported securities class action lawsuits was filed in the United States District Court for the Southern District of New York against certain underwriters involved in Overture’s initial public offering, Overture, and certain of Overture’s current and former officers and directors.  The Court consolidated the cases against Overture.  Plaintiffs allege, among other things, violations of the Securities Act of 1933 and the Securities Exchange Act of 1934 involving undisclosed compensation to the underwriters, and improper practices by the underwriters, and seek unspecified damages.  Similar complaints were filed in the same court against numerous public companies that conducted initial public offerings of their common stock since the mid-1990s.  All of these lawsuits were consolidated for pretrial purposes before Judge Shira Scheindlin.  On April 19, 2002, plaintiffs filed an amended complaint, alleging Rule 10b-5 claims of fraud.  On July 15, 2002, the issuers filed a motion to dismiss for failure to comply with applicable pleading standards.  On October 8, 2002, the Court entered an Order of Dismissal as to all of the individual defendants in the Overture IPO litigation, without prejudice.  On February 19, 2003, the Court denied the motion to dismiss the Rule 10b-5 claims against certain defendants, including Overture.  Settlement discussions relating to this case on behalf of the named defendants have occurred over the last year, resulting in a final settlement memorandum of

 

16



 

understanding with the plaintiff and Overture’s insurance carriers.  This settlement proposal includes the settlement of and release of claims against the issuer defendants, including Overture.  The settlement is subject to a number of conditions, including approval of the court.  If the settlement does not occur, and litigation against Overture continues, the Company and Overture believe that Overture has meritorious defenses to liability and damages and intend to defend the case vigorously.

 

On or about February 4, 2004, a shareholder derivative action was filed in the Court of Chancery of the State of Delaware in and for New Castle County, against the Company (as nominal defendant) and certain of the Company’s current and former officers and directors (the “Derivative Defendants”).  Two similar shareholder derivative actions were filed in the California Superior Court for the County of San Mateo on February 13, 2004.  The complaints generally allege breaches of fiduciary duties by the Derivative Defendants related to the alleged purchase of shares in initial public offerings or the alleged acquiescence in such conduct.  The complaints seek unspecified monetary damages and other relief purportedly on behalf of the Company from the Derivative Defendants.  The action in Delaware was dismissed by the Delaware Court of Chancery, and the dismissal has been affirmed by the Delaware Supreme Court.  The Company understands the Derivative Defendants deny any impropriety and intend to defend the remaining lawsuits vigorously.

 

The Company does not believe, based on current knowledge, that any of the foregoing legal proceedings or claims are likely to have a material adverse effect on its financial position, results of operations or cash flows.  However, the Company may incur substantial expenses in defending against third party claims.  In the event of a determination adverse to the Company or its subsidiaries, the Company may incur substantial monetary liability, and be required to change its business practices.  Either of these could have a material adverse effect on the Company’s financial position, results of operations or cash flows.

 

Note 11—Segments

 

The Company manages its business geographically.  The primary areas of measurement and decision-making are the United States and International.  Management relies on an internal management reporting process that provides revenue and segment operating income before depreciation and amortization for making financial decisions and allocating resources.  Segment operating income before depreciation and amortization includes income from operations before depreciation, amortization of intangible assets and amortization of stock compensation expense.  Management believes that segment operating income before depreciation and amortization is an appropriate measure of evaluating the operational performance of the Company’s segments.  However, this measure should be considered in addition to, not as a substitute for, or superior to, income from operations or other measures of financial performance prepared in accordance with generally accepted accounting principles.

 

17



 

The following tables present summarized information by segment (in thousands):

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,
2004

 

June 30,
2005

 

June 30,
2004

 

June 30,
2005

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues by segment:

 

 

 

 

 

 

 

 

 

United States

 

$

624,161

 

$

869,517

 

$

1,223,432

 

$

1,688,243

 

International

 

208,138

 

383,480

 

366,653

 

738,496

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenues

 

$

832,299

 

$

1,252,997

 

$

1,590,085

 

$

2,426,739

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Segment operating income before depreciation and amortization:

 

 

 

 

 

 

 

 

 

United States

 

$

198,365

 

$

291,244

 

$

389,619

 

$

561,659

 

International

 

35,697

 

77,196

 

55,364

 

151,843