10-12G 1 d1012g.htm FORM 10-12G Form 10-12G
Table of Contents

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10

 

GENERAL FORM FOR REGISTRATION OF SECURITIES

PURSUANT TO SECTION 12(b) OR 12(g) OF

THE SECURITIES EXCHANGE ACT OF 1934

 


 

GOOGLE INC.

(Exact name of Registrant as specified in its charter)

 


 

Delaware

(State or other jurisdiction of

incorporation or organization)

     

77-0493581

(I.R.S. Employer Identification Number)

 

1600 Amphitheatre Parkway

Mountain View, California

94043

(Address, including zip code, of principal

executive office)

 

(650) 623-4000

(Registrant’s telephone number, including area code)

 


 

Securities to be registered pursuant to Section 12(b) of the Act: None

 

Securities to be registered pursuant to Section 12(g) of the Act:

 

Common Stock, par value $.001 per share

 

Class A Senior Common Stock, par value $0.001 per share

 



Table of Contents

TABLE OF CONTENTS

 

          Page

Item 1

  

Business

   2

Item 2

  

Financial Information

   2

Item 3

  

Properties

   2

Item 4

  

Security Ownership of Certain Beneficial Owners and Management

   2

Item 5

  

Directors and Executive Officers

   2

Item 6

  

Executive Compensation

   2

Item 7

  

Certain Relationships and Related Transactions

   3

Item 8

  

Legal Proceedings

   3

Item 9

  

Market Price of and Dividends on the Registrant’s Common Equity and Related Stockholder Matters

   3

Item 10

  

Recent Sales of Unregistered Securities

   3

Item 11

  

Description of Registrant’s Securities to be Registered

   3

Item 12

  

Indemnification of Directors and Officers

   7

Item 13

  

Financial Statements and Supplementary Data

   8

Item 14

  

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

   42

Item 15

  

Financial Statements and Exhibits

   42

 


 

This registration statement includes forward-looking statements. All statements other than statements of historical facts contained in this registration statement, including statements regarding our future financial position, business strategy and plans and objectives of management for future operations, are forward-looking statements. The words “believe,” “may,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “expect” and similar expressions, as they relate to us, are intended to identify forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements are subject to a number of risks, uncertainties and assumptions discussed in Item 3 under the heading “Risk Factors.”


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INFORMATION REQUIRED IN REGISTRATION STATEMENT

CROSS-REFERENCE SHEET BETWEEN REGISTRATION STATEMENT ON FORM S-1

AND ITEMS OF FORM 10

 

Item 1.   Business

 

The information required by this item is contained under the sections “Prospectus Summary,” “Risk Factors,” “Business” and “Where You Can Find Additional Information” of the registration statement on Form S-1 (File No. 333-114984) filed as an exhibit hereto (the “Registration Statement”). Those sections are incorporated herein by reference.

 

Item 2.   Financial Information

 

The information required by this item is contained under the sections “Selected Financial Information” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the Registration Statement. Those sections are incorporated herein by reference.

 

Item 3.   Properties

 

The information required by this item is contained under the section “Business—Facilities” of the Registration Statement. That section is incorporated herein by reference.

 

Item 4.   Security Ownership of Certain Beneficial Owners and Management

 

The following table sets forth certain information with respect to the beneficial ownership of our Common Stock, at March 31, 2004, for:

 

    Each person who we know beneficially owns more than 5% of our Common Stock.

 

    Each of our directors.

 

    Each of our named executive officers.

 

    All of our directors and executive officers as a group.

 

Unless otherwise noted below, the address of each beneficial owner listed in the table is c/o Google Inc., 1600 Amphitheatre Parkway, Mountain View, California 94043.

 

We have determined beneficial ownership in accordance with the rules of the SEC. Except as indicated by the footnotes below, we believe, based on the information furnished to us, that the persons and entities named in the table below have sole voting and investment power with respect to all shares of common stock that they beneficially own, subject to applicable community property laws. Beneficial ownership representing less than 1% is denoted with an “*.”

 

     Common
Stock


Name of Beneficial Owner


   Shares

5% Stockholders

    

KPCB Holdings Inc. As Nominee (1)

   23,893,800

Sequoia Capital (2)

   23,893,800

Executive Officers and Directors

    

Eric Schmidt

   14,758,600

Sergey Brin

   38,490,304

Larry Page

   38,593,700

Omid Kordestani (3)

   4,810,520

Wayne Rosing (4)

   1,468,000

L. John Doerr (1)

   23,893,800

John L. Hennessy

   —  

Arthur D. Levinson

   —  

Michael Moritz (2)

   23,893,800

Paul S. Otellini

   —  

K. Ram Shriram

   5,324,660

Executive Officers and Directors as a group (5) (11 persons)

   151,233,384

(1)   Includes 23,893,800 shares held by KPCB Holdings, as Nominees. John disclaims beneficial ownership of the shares held by this fund except to the extent of his pecuniary interest in this fund. The address of KPCB Holdings, as Nominees, and John is 2750 Sand Hill Road, Menlo Park, California 94025.

 

(2)   Includes 21,654,952 shares held by Sequoia Capital VIII; 1,433,624 shares held by Sequoia International Technology Partners VIII(Q); 477,872 shares held by CMS Partners LLC; 274,784 shares held by Sequoia International Technology Partners VIII; and 52,568 shares held by Sequoia 1997. Michael disclaims beneficial ownership of the shares held by these funds except to the extent of his pecuniary interest in these funds. The address of these funds and Michael is 3000 Sand Hill Road, Bldg 4, Suite 180, Menlo Park, California 94025.

 

(3)   Includes 1,420,000 shares issuable upon exercise of options that are exercisable within 60 days of March 31, 2004. The option provides for exercise prior to vesting, and any unvested shares that are exercised will be subject to a lapsing repurchase right in our favor. 788,000 of the shares are vested and 632,000 of the shares are unvested.

 

(4)   Includes 148,000 shares issuable upon exercise of options that are exercisable within 60 days of March 31, 2004. The option provides for exercise prior to vesting, and any unvested shares that are exercised will be subject to a lapsing repurchase right in our favor. 10,000 of the shares are vested and 138,000 of the shares are unvested.

 

(5)   Includes shares issuable upon exercise of options that are exercisable within 60 days of March 31, 2004, of which 798,000 shares will be vested and 770,000 shares will be unvested.

 

Item 5.   Directors and Executive Officers

 

The information required by this item is contained under the section “Management” of the Registration Statement. That section is incorporated herein by reference.

 

Item 6.   Executive Compensation

 

The information required by this item is contained under the section “Management—Executive Compensation” of the Registration Statement. That section is incorporated herein by reference.

 

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Item 7.   Certain Relationships and Related Transactions

 

The information required by this item is contained under the section “Certain Relationships and Related Party Transactions” of the Registration Statement. That section is incorporated herein by reference.

 

Item 8.   Legal Proceedings

 

The information required by this item is contained under the section “Business—Legal Proceedings” of the Registration Statement. That section is incorporated herein by reference.

 

Item 9.   Market Price of and Dividends on the Registrant’s Common Equity and Related Stockholder Matters

 

The information required by this item is contained under the section “Dividend Policy” of the Registration Statement and under the section “Item 11—Description of Registrant’s Securities to be Registered” herein. Each section is incorporated herein by reference.

 

Item 10.   Recent Sales of Unregistered Securities

 

The information required by this item is contained under the section “Item 15—Recent Sales of Unregistered Securities” of the Registration Statement. That section is incorporated herein by reference.

 

Item 11.   Description of Registrant’s Securities to be Registered

 

We are authorized to issue “Common Stock,” “Class A Senior Common Stock” and “Preferred Stock.” The total number of shares that we are authorized to issue is 864,781,656 shares. The number of shares of authorized Common Stock is 400,000,000 shares, $0.001 par value per share. The number of shares of authorized Class A Senior Common Stock is 300,000,000 shares, $0.001 par value per share. The number of shares of authorized Preferred Stock is 164,781,656 shares, $0.001 par value per share. At March 31, 2004, there were 697 record holders of shares of Common Stock, 635 record holders of shares of Class A Senior Common Stock and 32 record holders of shares of Preferred Stock.

 

Common Stock

 

We are authorized to issue 400,000,000 shares of Common Stock, $0.001 par value per share. As of March 31, 2004, 11,920,766 shares of Common Stock were issued and outstanding. The rights, privileges, preferences and restrictions of our Common Stock are as follows:

 

Dividend Rights. Subject to the rights of holders of classes of stock having prior dividend rights, holders of Common Stock shall be entitled to share equally with the holders of the Class A Senior Common Stock in any dividends as may be declared by the board of directors.

 

Liquidation Rights. In the event we are sold by way of merger, reorganization or asset sale, or in the event we decide to liquidate or wind-up, after payment of the full preferential amounts to the holders of Preferred Stock in accordance with our certificate of incorporation, all remaining assets available for distribution will be distributed equally among the holders of shares of our Common Stock and Class A Senior Common Stock.

 

Voting Rights. Holders of shares of our Common Stock are entitled to one vote per share. Holders of shares of our Common Stock vote together with the holders of our Class A Senior Common Stock as one class on all matters, except as required by law.

 

Election of Directors. Holders of shares of our Common Stock and our Class A Senior Common Stock, voting as a single class, are entitled to elect three (3) directors. In addition, the holders of our Common Stock are entitled to vote together with the holders of our Preferred Stock and our Class A Senior Common Stock (voting together as a single class and on an as-converted to Common Stock basis) for the election of one director.

 

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Class A Senior Common Stock

 

We are authorized to issue 300,000,000 shares of our Class A Senior Common Stock, $0.001 par value per share. As of March 31, 2004, 80,359,844 shares of our Class A Senior Common Stock were issued and outstanding. The rights, privileges, preferences and restrictions of our Class A Senior Common Stock are as follows:

 

Dividend Rights. Subject to the rights of holders of classes of stock having prior dividend rights, holders of Class A Senior Common Stock shall be entitled to share equally with the holders of Common Stock in any dividends as may be declared by the board of directors.

 

Liquidation Rights. In the event we are sold by way of merger, reorganization or asset sale, or in the event we decide to liquidate or wind-up, after payment of the full preferential amounts to the holders of Preferred Stock in accordance with our certificate of incorporation, all remaining assets available for distribution will be distributed equally among the holders of shares of our Common Stock and Class A Senior Common Stock.

 

Election of Directors. Holders of shares of our Common Stock and our Class A Senior Common Stock, voting as a single class, are entitled to elect three (3) directors. In addition, the holders of our Class A Senior Common Stock are entitled to vote together with the holders of our Preferred Stock and our Common Stock (voting together as a single class and on an as-converted to Common Stock basis) for the election of one director.

 

Automatic Conversion. Each share of our Class A Senior Common Stock automatically converts into one share of Common Stock immediately prior to the closing of an initial public offering where stock is sold to the public with a price per share of not less than $2.3425 and at an aggregate offering price of not less than $15,000,000. All outstanding shares of our Class A Senior Common Stock will also automatically convert into shares of Common Stock upon the affirmative vote of the holders of at least a majority of the outstanding shares of Class A Senior Common Stock.

 

Voluntary Conversion. In the event of a vote of our stockholders on a matter that requires the approval of the holders of our securities on a class-by-class basis, each share of our Class A Senior Common Stock becomes convertible, at the option of the holder, into one share of Common Stock.

 

Voting Rights. Each holder of shares of Class A Senior Common Stock is entitled to 10 votes per share.

 

Preferred Stock

 

The number of authorized shares of our preferred stock is 164,781,656 shares, $0.001 par value, 15,360,000 of which are designated as Series A Preferred Stock, 15,360,000 of which are designated as Series A-1 Preferred Stock, 50,444,772 of which are designated as Series B Preferred Stock, 50,444,772 of which are designated as Series B-1 Preferred Stock, 9,148,604 of which are designated as Series C Preferred Stock, 9,148,604 of which are designated as Series C-1 Preferred Stock, 7,437,452 of which are designated as Series D Preferred Stock and 7,437,452 of which are designated as Series D-1 Preferred Stock. The rights, privileges, preferences and restrictions of our Preferred Stock are as follows:

 

Dividend Rights. The holders of our Preferred Stock are entitled to receive dividends prior and in preference to any dividends on our Class A Senior Common Stock and Common Stock, if and when declared by our board of directors, at the rate of $0.00625 per share per year for the Series A and Series A-1 Preferred, $0.049525 per share per year for the Series B and Series B-1 Preferred, $0.23425 per share per year for the Series C and Series C-1 Preferred and $0.291 per share per year for the Series D and Series D-1 Preferred (as adjusted for any stock split, stock dividend, combination or other recapitalization).

 

Liquidation Rights. In the event we are sold by way of merger, reorganization or asset sale, or in the event we decide to liquidate or wind-up, the holders of our Preferred Stock shall be entitled to receive, prior to any distribution of any of our assets to the holders of the Class A Senior Common Stock and Common Stock, an amount equal to $0.0625 for each share of Series A or Series A-1 Preferred then held by them, an amount equal to $0.49525 for each share of Series B or Series B-1 Preferred then held by them, an amount equal to $2.3425 for each share of Series C or Series C-1 Preferred then held by them and an amount equal to $2.91 for each share of Series D or Series D-1 Preferred then held by them. In the event the assets and funds available for distribution to the holders of our Preferred Stock shall be insufficient to permit the payment of full preferential amounts, then our entire assets shall be distributed ratably among the holders of our Preferred Stock.

 

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Voting Rights. The holder of each share of our Preferred Stock is entitled to notice of any stockholder’s meeting in accordance with our bylaws and any other matter submitted to the vote of stockholders and shall be entitled to vote, together with the holders of Class A Senior Common Stock and Common Stock, with respect to any matters upon which the holders of our Class A Senior Common Stock and Common Stock have the right to vote.

 

Election of Directors. Holders of our Preferred Stock, voting as a single class, shall be entitled to elect two directors to our board of directors. In addition, the holders of our Preferred Stock are entitled to vote together with the holders of our Class A Senior Common Stock and our Common Stock (voting together as a single class and on an as-converted to Common Stock basis) for the election of one director.

 

Voluntary Conversion. At the option of the holder, each share of our Preferred Stock is convertible into shares of our Class A Senior Common Stock at the then effective and applicable conversion rate.

 

Automatic Conversion. Each share of our Preferred Stock automatically converts into shares of our Class A Senior Common Stock at the then effective and applicable conversion rate immediately prior to the closing of an initial public offering where stock is sold to the public with a price per share of not less than $2.3425 and at an aggregate offering price of not less than $15,000,000. Each share of our Preferred Stock is also automatically convertible into shares of Class A Senior Common Stock at the then effective and applicable conversion rate upon the affirmative vote of the holders of at least a majority of the shares of our outstanding Preferred Stock.

 

Antidilution Adjustments. In the event we issue certain additional securities without consideration or for consideration per share less than the applicable conversion price of any series of our Preferred Stock, then the conversion rate of any such series of Preferred Stock shall be reduced concurrently with such issuance.

 

Protective Provisions. Our certificate of incorporation contains provisions that limit our ability to take certain actions without the approval of at least a majority of our Preferred Stock. These actions include, among other things: (i) amending or repealing any provision of our certificate of incorporation or bylaws if such action would materially or adversely alter or change the preferences, rights, privileges of the Preferred Stock, or increase or decrease the number of authorized shares of Preferred Stock; (ii) authorizing or issuing shares of any class or series of stock having any preference or priority as to voting, dividends or liquidation rights which are superior to any preferences of the Preferred Stock; and (iii) effecting a sale of the company, either by way of merger, sale or otherwise.

 

Special Mandatory Conversion. In the event a holder of Preferred Stock does not participate in certain specified financing transactions (described in our certificate of incorporation) they will automatically be converted into another series of Preferred Stock that does not have anti-dilution protection.

 

Registration Rights

 

The holders of our Preferred Stock (and certain holders of warrants to purchase our Class A Senior Common Stock) are entitled to rights with respect to the registration of their shares under the Securities Act. These registration rights are contained in our Third Amended and Restated Investors’ Rights agreement and are described below. The registration rights under the Third Amended and Restated Investors’ Rights Agreement will expire five years following the completion of this offering, or, with respect to an individual holder, when such holder is able to sell all of its shares pursuant to Rule 144 under the Securities Act in any three month period.

 

Demand Registration Rights

 

At any time following six months after the closing of this offering, the holders of shares of our capital stock having demand registration rights under the Third Amended and Restated Investors’ Rights Agreement have the right to require that we register their capital stock, provided such registration relates to not less than 40% in aggregate of our then outstanding shares of capital stock having demand registration rights. We are only obligated to effect two registrations in response to these demand registration rights. We may postpone the filing of a registration statement for up to 90 days once in any 12-month period if our board of directors determines in good faith that the filing would be seriously detrimental to our stockholders or us. The underwriters of any underwritten offering have the right to limit the number of shares to be included in a registration statement filed in response to the exercise of these demand registration rights. We

 

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must pay all expenses, except for underwriters’ discounts and commissions, incurred in connection with these demand registration rights.

 

Piggyback Registration Rights

 

If we register any securities for public sale, the stockholders with piggyback registration rights under the Third Amended and Restated Investors’ Rights Agreement have the right to include their shares in the registration, subject to specified exceptions. The underwriters of any underwritten offering have the right to limit the number of shares registered by these stockholders due to marketing reasons, provided that the number of shares held by stockholders with piggyback registration rights may not be limited to less than 30% of the total number of shares to be included in the registration. We must pay all expenses, except for underwriters’ discounts and commissions, incurred in connection with these piggyback registration rights.

 

S-3 Registration Rights

 

If we are eligible to file a registration statement on Form S-3, the stockholders with S-3 registration rights under the Third Amended and Restated Investors’ Rights Agreement can request that we register their shares, provided that the total price of the shares of common stock offered to the public is at least $250,000. The holders of S-3 registration rights may only require us to file one Form S-3 registration statement in any 12-month period, and any holder of S-3 registration rights may not require us to file a registration statement on Form S-3 if we have already effected two registrations on Form S-3 at the request of such holder. We may postpone the filing of a Form S-3 registration statement for up to 90 days once in any 12-month period if our board of directors determines in good faith that the filing would be seriously detrimental to our stockholders or us. The holders of S-3 registration rights must pay all expenses associated with any registrations on Form S-3.

 

Anti-Takeover Effects of Delaware Law

 

We will be subject to the provisions of Section 203 of the Delaware General Corporation Law regulating corporate takeovers. In general, Section 203 prohibits a publicly-held Delaware corporation from engaging under certain circumstances, in a business combination with an interested stockholder for a period of three years following the date the person became an interested stockholder unless:

 

    prior to the date of the transaction, the board of directors of the corporation approved either the business combination or the transaction which resulted in the stockholder becoming an interested stockholder;

 

    upon completion of the transaction that resulted in the stockholder becoming an interested stockholder, the stockholder owned at least 85% of the voting stock of the corporation outstanding at the time the transaction commenced, excluding for purposes of determining the number of shares outstanding (1) shares owned by persons who are directors and also officers and (2) shares owned by employee stock plans in which employee participants do not have the right to determine confidentially whether shares held subject to the plan will be tendered in a tender or exchange offer; or

 

    on or subsequent to the date of the transaction, the business combination is approved by the board and authorized at an annual or special meeting of stockholders, and not by written consent, by the affirmative vote of at least 66 2/3% of the outstanding voting stock which is not owned by the interested stockholder.

 

Generally, a business combination includes a merger, asset or stock sale, or other transaction resulting in a financial benefit to the interested stockholder. An interested stockholder is a person who, together with affiliates and associates, owns or, within three years prior to the determination of interested stockholder status, did own 15% or more of a corporation’s outstanding voting securities. We expect the existence of this provision to have an anti-takeover effect with respect to transactions our board of directors does not approve in advance.

 

Listing

 

We are not listed on any stock market or exchange.

 

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EQUITY COMPENSATION PLAN INFORMATION

 

The following table provides information as of December 31, 2003 with respect to the shares of our Class A Senior Common Stock and Common Stock that may be issued under our existing equity compensation plans.

 

          (a)

    (b)

   (c)

 

Plan Category


   Class of
Common
Stock


   Number of
securities to be
issued upon
exercise of
outstanding
options, warrants
and rights


    Weighted-average
exercise price
of outstanding
options, warrants
and rights


   Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))


 

Equity compensation plans approved by security holders

   Class A
Senior
Common
Stock
   11,597,077     $ 1.816    5,438,151 (1)

Equity compensation plans approved by security holders

   Common
Stock
   5,719,625       3.813    —    

Equity compensation plans not approved by security holders

   Common
Stock
   46,424 (2)     0.363    —    

Total

   Class A
Senior
Common
Stock
   11,597,077       1.816    5,438,151  

Total

   Common
Stock
   5,766,049       3.786    —    

(1)   Includes an aggregate of 5,438,151 shares of Class A Senior Common Stock and Common Stock reserved for issuance under the Company’s 1998 Stock Plan, 2003 Stock Plan, 2003 Stock Plan (No. 2) and 2003 Stock Plan (No. 3).
(2)   Consists of outstanding options to purchase 46,424 shares of Common Stock at a weighted-average exercise price of $0.363 granted under Applied Semantics, Inc.’s stock option plan, which we assumed in connection with the acquisition of Applied Semantics in April 2003. We did not reserve the right to make subsequent grants or awards under the aforementioned plan.

 

Item 12.   Indemnification of Directors and Officers

 

The information required by this item is contained under the section “Item 14—Indemnification of Directors and Officers” of the Registration Statement. That section is incorporated herein by reference.

 

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Item 13.   Financial Statements and Supplementary Data

 

REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS

 

The Board of Directors and Stockholders

Google Inc.

 

We have audited the accompanying consolidated balance sheets of Google Inc. as of December 31, 2002 and 2003, and the related consolidated statements of income, redeemable convertible preferred stock warrant and stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2003. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

 

We conducted our audits in accordance with auditing standards generally accepted in the United States. 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 financial statements referred to above present fairly, in all material respects, the consolidated financial position of Google Inc. at December 31, 2002 and 2003, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States.

 

/s/    Ernst & Young LLP

 

April 20, 2004

San Francisco, California

 

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Google Inc.

 

CONSOLIDATED BALANCE SHEETS

(In thousands, except par value)

 

     December 31,

    As of
March 31,


 
     2002

    2003

    2004

 
                 (unaudited)  

Assets

                        

Current assets:

                        

Cash and cash equivalents

   $ 57,752     $ 148,995     $ 251,354  

Short-term investments

     88,579       185,723       203,534  

Accounts receivable, net of allowance of $2,297, $4,670 and $5,611

     61,994       154,690       179,505  

Deferred income taxes

     12,646       22,105       15,714  

Prepaid revenue share, expenses and other assets

     10,825       48,721       53,279  
    


 


 


Total current assets

     231,796       560,234       703,386  

Property and equipment, net

     53,873       188,255       253,006  

Goodwill

           87,442       87,442  

Intangible assets, net

     96       18,114       18,755  

Prepaid revenue share, expenses and other assets, non-current

     1,127       17,413       16,865  
    


 


 


Total assets

   $ 286,892     $ 871,458     $ 1,079,454  
    


 


 


Liabilities, Redeemable Convertible Preferred Stock Warrant and Stockholders’ Equity

                        

Current liabilities:

                        

Accounts payable

   $ 9,394     $ 46,175     $ 37,781  

Accrued compensation and benefits

     14,528       33,522       23,862  

Accrued expenses and other current liabilities

     10,810       26,411       34,956  

Accrued revenue share

     13,100       88,672       99,179  

Deferred revenue

     11,345       15,346       15,680  

Income taxes payable

     25,981       20,705       83,785  

Current portion of equipment leases

     4,350       4,621       4,388  
    


 


 


Total current liabilities

     89,508       235,452       299,631  

Long-term portion of equipment leases

     6,512       1,988       1,017  

Deferred revenue, long-term

     1,901       5,014       5,551  

Liability for stock options exercised early, long-term

     567       6,341       7,993  

Deferred income taxes

     580       18,510       22,099  

Other long-term liabilities

           1,512       1,512  

Commitments and contingencies

                        

Redeemable convertible preferred stock warrant

     13,871       13,871       13,871  

Stockholders’ equity:

                        

Convertible preferred stock, $0.001 par value, issuable in series: 166,896, 164,782 and 164,782 shares authorized at December 31, 2002 and 2003 and March 31, 2004, 70,432, 71,662 and 71,662 shares issued and outstanding at December 31, 2002 and 2003 and March 31, 2004; aggregate liquidation preference of $40,815 at March 31, 2004

     44,346       44,346       44,346  

Class A Senior common stock and common stock, $0.001 par value: 700,000 shares authorized, 145,346, 160,866, and 163,538 shares issued and outstanding, excluding 3,281, 11,987, and 10,946 shares subject to repurchase (see Note 9) at December 31, 2002 and 2003 and March 31, 2004

     145       161       164  

Additional paid-in capital

     83,410       725,219       801,712  

Note receivable from officer/stockholder

     (4,300 )     (4,300 )     (4,300 )

Deferred stock-based compensation

     (35,401 )     (369,668 )     (368,579 )

Accumulated other comprehensive income

     49       1,660       (888 )

Retained earnings

     85,704       191,352       255,325  
    


 


 


Total stockholders’ equity

     173,953       588,770       727,780  
    


 


 


Total liabilities, redeemable convertible preferred stock warrant and stockholders’ equity

   $ 286,892     $ 871,458     $ 1,079,454  
    


 


 


 

See accompanying notes.

 

9


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Google Inc.

 

CONSOLIDATED INCOME STATEMENTS

(In thousands, except per share amounts)

 

     Year Ended December 31,

   Three Months Ended
March 31,


     2001

    2002

    2003

   2003

    2004

                      (unaudited)

Net revenues

   $ 86,426     $ 347,848     $ 961,874    $ 178,894     $ 389,638

Costs and expenses:

                                     

Cost of revenues

     14,228       39,850       121,794      17,471       53,413

Research and development

     16,500       31,748       91,228      12,505       35,019

Sales and marketing

     20,076       43,849       120,328      17,767       47,904

General and administrative

     12,275       24,300       56,699      10,027       21,506

Stock-based compensation(1)

     12,383       21,635       229,361      36,418       76,473
    


 


 

  


 

Total costs and expenses

     75,462       161,382       619,410      94,188       234,315
    


 


 

  


 

Income from operations

     10,964       186,466       342,464      84,706       155,323

Interest income (expense) and other, net

     (896 )     (1,551 )     4,190      (47 )     300
    


 


 

  


 

Income before income taxes

     10,068       184,915       346,654      84,659       155,623

Provision for income taxes

     3,083       85,259       241,006      58,859       91,650
    


 


 

  


 

Net income

   $ 6,985     $ 99,656     $ 105,648    $ 25,800     $ 63,973
    


 


 

  


 

Net income per share:

                                     

Basic

   $ 0.07     $ 0.86     $ 0.77    $ 0.20     $ 0.42
    


 


 

  


 

Diluted

   $ 0.04     $ 0.45     $ 0.41    $ 0.10     $ 0.24
    


 


 

  


 

Number of shares used in per share calculations

                                     

Basic

     94,523       115,242       137,697      127,339       151,084
    


 


 

  


 

Diluted

     186,776       220,633       256,638      248,687       264,183
    


 


 

  


 


(1)    Stock-based compensation is allocated as follows (see Note 1):

     Year Ended December 31,

   Three Months Ended
March 31,


     2001

    2002

    2003

   2003

    2004

                      (unaudited)

Cost of revenues

   $ 876     $ 1,065     $ 8,557    $ 1,452     $ 5,076

Research and development

     4,440       8,746       138,377      19,423       46,265

Sales and marketing

     1,667       4,934       44,607      7,618       14,146

General and administrative

     5,400       6,890       37,820      7,925       10,986
    


 


 

  


 

     $ 12,383     $ 21,635     $ 229,361    $ 36,418     $ 76,473
    


 


 

  


 

 

See accompanying notes.

 

10


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Google Inc.

 

CONSOLIDATED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK WARRANT

AND STOCKHOLDERS’ EQUITY

 

    Redeemable
Convertible
Preferred Stock
Warrant


  Convertible
Preferred Stock


  Class A Senior
Common and
Common Stock


 

Addi-

tional

Paid-In

Capital

Amount


   

Notes

Receiv-

able

from

Officer/

Stock-

holders


   

Deferred

Stock-

Based

Compen-

sation


   

Accumu-

lated

Other

Compre-

hensive

Income


 

Retained

Earnings

(Accu-

mulated

Deficit)


   

Total

Stock-

holders’

Equity


  Shares

  Amount

  Shares

  Amount

  Shares

  Amount

           
    (In thousands)

Balance at December 31, 2000

    $   69,988   $ 42,873   119,940   $ 120   $ 13,669     $ (34 )   $ (8,457 )   $   $ (20,937 )   $ 27,234

Issuance of Series C convertible preferred stock

        444     1,042                                       1,042

Issuance of Class A Senior common stock upon exercise of stock options for cash and notes receivable, net of repurchases

              17,312     17     5,271       (4,300 )                     988

Payments of notes receivable from stockholders

                            34                       34

Issuance of Class A Senior common stock

              132         114                             114

Issuance of Series C convertible preferred stock warrants

            232                                       232

Issuance of Class A Senior common stock warrants

                      1,140                             1,140

Value of options granted to non-employees

                      186                             186

Deferred stock-based compensation related to options granted to employees

                      19,954             (19,954 )              

Amortization of deferred stock-based compensation, net of reversals for terminated employees

                      (381 )           12,578                 12,197

Net income and comprehensive income

                                            6,985       6,985
   
 

 
 

 
 

 


 


 


 

 


 

Balance at December 31, 2001

        70,432     44,147   137,384     137     39,953       (4,300 )     (15,833 )         (13,952 )     50,152

Issuance of Class A Senior common stock upon exercise of stock options for cash, net of unvested stock options exercised early and repurchases

              7,962     8     2,254                             2,262

Issuance of Series C convertible preferred stock warrants

            199                                       199

Issuance of Series D redeemable convertible preferred stock warrant

      13,871                                            

Value of options granted to non-employees

                      1,460                             1,460

Deferred stock-based compensation related to options granted to employees

                      40,141             (40,141 )              

Amortization of deferred stock-based compensation, net of reversals for terminated employees

                      (398 )           20,573                 20,175

Comprehensive income:

                                                                         

Change in unrealized gain on available-for-sale investments

                                        49           49

Net income

                                            99,656       99,656
                                                                       

Total comprehensive income

                                                  99,705
   
 

 
 

 
 

 


 


 


 

 


 

Balance at December 31, 2002

    $ 13,871   70,432   $ 44,346   145,346   $ 145   $ 83,410     $ (4,300 )   $ (35,401 )   $ 49   $ 85,704     $ 173,953

 

See accompanying notes.

 

11


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Google Inc.

 

CONSOLIDATED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK WARRANT

AND STOCKHOLDERS’ EQUITY—(Continued)

 

    Redeemable
Convertible
Preferred Stock
Warrant


  Convertible
Preferred Stock


  Class A Senior
Common and
Common Stock


 

Addi-

tional

Paid-In

Capital

Amount


   

Notes

Receiv-

able

from

Officer/

Stock-

holders


   

Deferred

Stock-

Based

Compen-

sation


   

Accumu-

lated

Other

Compre-

hensive

Income


   

Retained

Earnings

(Accu-

mulated

Deficit)


 

Total

Stock-

holders’

Equity


 
  Shares

  Amount

  Shares

  Amount

  Shares

  Amount

           
    (In thousands)  

Balance at December 31, 2002

    $ 13,871   70,432   $ 44,346   145,346   $ 145   $ 83,410     $ (4,300 )   $ (35,401 )   $ 49     $ 85,704   $ 173,953  

Issuance of Class A Senior common stock and common stock upon exercise of stock options for cash, net of unvested stock options exercised early and repurchases

              9,896     10     3,710                             3,720  

Issuance of Series C convertible preferred stock

        1,230                                            

Vesting of shares exercised early (see Note 9)

              3,078     3     934                             937  

Issuance of fully vested common stock and stock options in connection with acquisitions

              2,265     3     72,674                             72,677  

Issuance of fully vested common stock and stock options in connection with licensed technology

              46         863                             863  

Issuance of restricted shares to employees in connection with acquisitions

              235         10,752             (10,752 )                

Value of options granted to non-employees

                      15,816                             15,816  

Deferred stock-based compensation related to options granted to employees

                      540,673             (540,673 )                

Amortization of deferred stock-based compensation, net of reversals for terminated employees

                      (3,613 )           217,158                 213,545  

Comprehensive income:

                                                                           

Change in unrealized gain on available-for-sale investments

                                        (51 )         (51 )

Foreign currency translation adjustment

                                        1,662           1,662  

Net income

                                              105,648     105,648  
                                                                       


Total comprehensive income

                                                  107,259  
   
 

 
 

 
 

 


 


 


 


 

 


Balance at December 31, 2003

      13,871   71,662     44,346   160,866     161     725,219       (4,300 )     (369,668 )     1,660       191,352     588,770  

Issuance of common stock upon exercise of stock options for cash, net of unvested stock options exercised early and repurchases (unaudited)

              2,066     2     928                             930  

Vesting of shares exercised early (see Note 9) (unaudited)

              606     1     181                             182  

Value of options granted to non-employees (unaudited)

                      2,756                             2,756  

Deferred stock-based compensation related to options granted to employees (unaudited)

                      76,092             (76,092 )                

Amortization of deferred stock-based compensation, net of reversals for terminated employees (unaudited)

                      (3,464 )           77,181                 73,717  

Comprehensive income:

                                                                           

Change in unrealized gain on available-for-sale investments (unaudited)

                                        5           5  

Foreign currency translation adjustment (unaudited)

                                        (2,553 )         (2,553 )

Net income (unaudited)

                                              63,973     63,973  
                                                                       


Total comprehensive income (unaudited)

                                                  61,425  
   
 

 
 

 
 

 


 


 


 


 

 


Balance at March 31, 2004 (unaudited)

    $ 13,871   71,662   $ 44,346   163,538   $ 164   $ 801,712     $ (4,300 )   $ (368,579 )   $ (888 )   $ 255,325   $ 727,780  
   
 

 
 

 
 

 


 


 


 


 

 


 

 

See accompanying notes.

 

12


Table of Contents

Google Inc.

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

    Year Ended December 31,

    Three Months Ended
March 31,


 
    2001

    2002

    2003

    2003

    2004

 
                      (unaudited)  

Operating activities

                                       

Net income

  $ 6,985     $ 99,656     $ 105,648     $ 25,800     $ 63,973  

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

                                       

Depreciation and amortization of property and equipment

    9,831       17,815       43,851       6,977       21,286  

Amortization of warrants

    4,157       10,953       4,864       3,522       31  

Amortization of intangibles

    194       215       6,334       195       2,359  

In-process research and development

                11,618              

Stock-based compensation

    12,383       21,635       229,361       36,418       76,473  

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

                                       

Accounts receivable

    (11,736 )     (43,877 )     (90,385 )     (17,817 )     (24,815 )

Deferred income taxes

    (2,194 )     (9,872 )     19       (773 )     5,700  

Prepaid revenue share, expenses and other assets

    (22 )     (5,875 )     (58,914 )     (3,640 )     (7,041 )

Accounts payable

    1,643       5,645       36,699       6,309       (8,393 )

Incomes taxes payable

    4,592       21,389       (6,337 )     35,550       63,080  

Accrued compensation and benefits

    3,705       9,457       18,989       (2,608 )     (9,660 )

Accrued expenses and other liabilities

    502       5,936       13,752       961       8,350  

Accrued revenue share

          13,100       72,967       19,953       12,143  

Deferred revenue

    1,049       9,088       6,980       2,351       871  
   


 


 


 


 


Net cash provided by operating activities

    31,089       155,265       395,446       113,198       204,357  
   


 


 


 


 


Investing activities

                                       

Purchases of property and equipment

    (13,060 )     (37,198 )     (176,801 )     (29,550 )     (86,037 )

Purchase of short-term investments

    (26,389 )     (93,061 )     (316,599 )     (41,832 )     (190,401 )

Maturities and sales of short-term investments

    11,460       20,443       219,404       11,869       172,585  

Acquisition of businesses, net of cash acquired

                (39,958 )     22        

Change in other assets

    1,102       99                    
   


 


 


 


 


Net cash used in investing activities

    (29,091 )     (109,717 )     (313,954 )     (59,491 )     (103,853 )
   


 


 


 


 


Financing activities

                                       

Proceeds from issuance of convertible preferred stock, net

    1,042                          

Proceeds from exercise of stock options, net

    988       2,262       15,477       5,590       4,911  

Payments of notes receivable from stockholders

    34                          

Payments of principal on capital leases and equipment loans

    (4,503 )     (7,735 )     (7,388 )     (2,239 )     (1,204 )
   


 


 


 


 


Net cash provided by (used in) financing activities

    (2,439 )     (5,473 )     8,089       3,351       3,707  
   


 


 


 


 


Effect of exchange rate changes on cash and cash equivalents

                1,662       (160 )     (1,852 )
   


 


 


 


 


Net increase (decrease) in cash and cash equivalents

    (441 )     40,075       91,243       56,898       102,359  

Cash and cash equivalents at beginning of year

    18,118       17,677       57,752       57,752       148,995  
   


 


 


 


 


Cash and cash equivalents at end of year

  $ 17,677     $ 57,752     $ 148,995     $ 114,650     $ 251,354  
   


 


 


 


 


Supplemental disclosures of cash flow information

                                       

Property and equipment acquired under equipment leases

  $ 7,679     $ 7,303     $                  
   


 


 


               

Cash paid for interest

  $ 1,677     $ 2,285     $ 1,739                  
   


 


 


               

Cash paid for taxes

  $ 685     $ 73,763     $ 247,422                  
   


 


 


               

Note receivable from officer/stockholder in exchange for common stock

  $ 4,300     $     $                  
   


 


 


               

Issuance of redeemable convertible preferred stock warrant in conjunction with revenue arrangement

  $     $ 13,871     $                  
   


 


 


               

Issuance of convertible preferred stock warrants in conjunction with capital lease arrangements

  $ 232     $ 199     $                  
   


 


 


               

Issuance of Class A Senior common stock warrants in connection with recruitment fees

  $ 1,140     $     $                  
   


 


 


               

Acquisition related activities:

                                       

Cash paid for acquisitions (net of cash acquired)

  $     $     $ 40,001                  
   


 


 


               

Issuance of common stock in connection with acquisitions, net of deferred stock-based compensation

  $ 114     $     $ 73,540                  
   


 


 


               

 

See accompanying notes.

 

13


Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Note 1.    The Company and Summary of Significant Accounting Policies

 

Nature of Operations

 

Google Inc. (“Google” or the “Company”) was incorporated in California in September 1998. The Company re-incorporated in the State of Delaware in August 2003. The Company offers highly targeted advertising solutions, global Internet search solutions through its own destination Internet site and intranet solutions via an enterprise search appliance.

 

Basis of Consolidation

 

The consolidated financial statements include the accounts of Google and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated. The Company has included the results of operations of acquired entities from the date of acquisition (see Note 4).

 

Unaudited Interim Financial Information

 

The accompanying unaudited interim consolidated balance sheet as of March 31, 2004, the consolidated statements of income and cash flows for the three months ended March 31, 2003 and 2004 and the consolidated statement of redeemable convertible preferred stock warrant and stockholders’ equity for the three months ended March 31, 2004 are unaudited. These unaudited interim consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States. In the opinion of the Company’s management, the unaudited interim consolidated financial statements have been prepared on the same basis as the audited consolidated financial statements and include all adjustments necessary for the fair presentation of the Company’s statement of financial position, results of operations and its cash flows for the three months ended March 31, 2003 and 2004. The results for the three months ended March 31, 2004 are not necessarily indicative of the results to be expected for the year ending December 31, 2004.

 

Use of Estimates

 

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported and disclosed in the financial statements and the accompanying notes. Actual results could differ materially from these estimates.

 

On an ongoing basis, the Company evaluates its estimates, including those related to revenue recognition, accounts receivable allowance, fair value of investments, fair value of acquired intangible assets and goodwill, useful lives of intangible assets and property and equipment, deemed value of common stock for the purpose of determining stock-based compensation (see below), and income taxes, among others. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities.

 

The Company’s board of directors determines the fair market value of the Company’s common stock in the absence of a public market for these shares. For purposes of financial accounting for employee stock-based compensation, management has applied hindsight within each year to arrive at deemed values for the shares underlying the options that are higher than the fair market values determined by the board. These deemed values were determined based on a number of factors, including input from advisors, the Company’s historical and forecasted operating results and cash flows, and comparisons to publicly-held companies. The deemed values were used to determine the amount of stock-based compensation recognized related to stock and stock option

 

14


Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

grants to employees and non-employees, the amount of expense related to stock warrants issued to third-parties (see Note 9) and the purchase prices of the Company’s acquisitions (see Note 4).

 

Revenue Recognition

 

The following table presents the Company’s net revenues (in thousands):

 

     Year Ended December 31,

   Three Months Ended
March 31,


     2001

   2002

   2003

   2003

   2004

                    (unaudited)
      

Advertising revenues:

                                  

Google web sites

   $ 66,932    $ 306,977    $ 772,192    $ 154,108    $ 293,053

Google Network web sites

          12,278      144,411      15,287      82,246
    

  

  

  

  

Total advertising revenues

     66,932      319,255      916,603      169,395      375,299

Licensing and other revenues

     19,494      28,593      45,271      9,499      14,339
    

  

  

  

  

Net revenues

   $ 86,426    $ 347,848    $ 961,874    $ 178,894    $ 389,638
    

  

  

  

  

 

In the first quarter of 2000, the Company introduced its first advertising program through which it offered advertisers the ability to place text-based ads on Google web sites targeted to users’ search queries. Advertisers paid the Company based on the number of times their ads were displayed on users’ search results pages and the Company recognized revenue at the time these ads appeared. In the fourth quarter of 2000, the Company launched Google AdWords, an online self-service program that enables advertisers to place text-based ads on Google web sites. AdWords customers originally paid the Company based on the number of times their ads appeared on users’ search results pages. In the first quarter of 2002, the Company began offering AdWords exclusively on a cost-per-click basis, so that an advertiser pays the Company only when a user clicks on one of its ads. The Company recognizes as revenue the fees charged advertisers each time a user clicks on one of the text-based ads that are displayed next to the search results on Google web sites. Effective January 1, 2004, the Company now offers a single pricing structure to all of its advertisers based on the AdWords cost-per-click model.

 

Google AdSense is the program through which the Company distributes its advertisers’ text-based ads for display on the web sites of the Google Network members. The Company recognizes as revenues the fees charged advertisers net of the portion shared with its Google Network members under its AdSense program. The Company’s net revenues and cost of revenues would both have been $91.7 million and $504.0 million and $69.7 million and $262.6 million higher in 2002 and 2003, and in the three months ended March 31, 2003 and 2004, if these AdSense arrangements had been accounted for on a gross basis. There were no AdSense arrangements in 2001.

 

Certain AdSense agreements obligate the Company to make guaranteed minimum revenue share payments to Google Network members, based on their achieving defined performance terms. The Company’s guaranteed minimum provisions normally cover a period of three months or less, but there may be successive guarantee periods during the term of the agreement. Because management believes each period covered by a guaranteed minimum is a separate transaction or accounting unit, the Company’s policy is to recognize either net revenues or cost of revenues over the period covered by the guaranteed minimum, but not both. As a result, the Company amortizes any guaranteed minimum prepayment (or accretes an amount payable to its Google Network member if the guaranteed minimum payment is due in arrears) equal to the related advertiser fees the Company receives

 

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Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

until such time as it can determine it is probable that such fees over the remaining period covered by the guaranteed minimum will be greater than or less than the remaining guaranteed minimum amount. The Company recognizes no net revenues or cost of revenues related to the guaranteed minimum provision until the time it makes such a determination, no later than halfway through the period covered by the guaranteed minimum. Once management makes such a determination, the Company thereafter recognizes net revenues or cost of revenues equal to the amount by which the related advertiser fees are greater than or less than the pro rata amortization or accretion of the remaining guaranteed minimum amount. Management occasionally revises such determinations. Thereafter, and to the extent advertiser fees are greater than or less than the pro rata amortization or accretion of the remaining guaranteed minimum amount, cost of revenue or net revenue amounts previously recognized are not restated. Instead, in the then current period the Company reduces cost of revenues or net revenues by the amount previously recognized and any remaining amount is recognized as net revenues or cost of revenues, respectively. The Company has not reduced any material cost of revenue or net revenue amounts previously recorded in any of the periods presented.

 

If and at the time an AdSense agreement is terminated or abandoned, the Company recognizes a charge against net revenues or to cost of revenues to the full extent of its remaining obligations under the terms of the agreement. The Company has not terminated or abandoned any AdSense agreements that have resulted in a material charge against earnings in any of the periods presented.

 

Concurrent with the commencement of certain AdSense agreements the Company has purchased specific items from, or provided other consideration to, its partners. According to Emerging Issues Task Force (“EITF”) Issue No. 01-9, Accounting for Consideration Given by a Vendor to a Customer, cash consideration given by a vendor to a customer is presumed to be a reduction of the selling price of the vendor’s product or service and, therefore, should be characterized as a reduction of revenues when recognized in the vendor’s income statement unless the vendor receives an identifiable benefit in exchange for the consideration and the vendor can reasonably estimate the fair value of the benefit identified. If management determines the Company will derive little or no benefit from a purchased item, or if it cannot estimate the item’s fair value, then the cost of the item is deemed to be part of the AdSense agreement and is amortized against net revenues or to cost of revenues, as the case may be. The cost of such an item, along with other cash payments or the value of other consideration such as warrants to purchase the Company’s stock, is amortized so that neither net revenues nor cost of revenues is recognized until management determines it is probable that the sum of the pro-rated cost and any remaining unamortized guaranteed minimum amounts will be either greater or less than the related advertiser fees. The cost is pro rated over each of the periods covered by the guaranteed minimums or, if there are no guaranteed minimums, over periods not to exceed twelve months. After such a determination has been made, the Company amortizes the pro rated cost such that only net revenues or cost of revenues is recognized over the remaining term covered by the guaranteed minimum or over a period of not more than twelve months.

 

The unamortized prepaid guaranteed minimum amounts were $1.8 million at both December 31, 2002 and 2003. In addition, the costs of items purchased from, or other consideration provided to, Google Network members concurrent with the commencement of certain AdSense arrangements that management has determined have no other value to the Company were $13.9 million and $19.8 million in 2002 and 2003, and the related unamortized amounts were $4.6 million and $18.8 million at December 31, 2002 and 2003. These unamortized amounts are included in “prepaid revenues share, expenses and other assets” on the accompanying Consolidated Balance Sheets.

 

The Company generates fees form search services through a variety of contractual arrangements, which include per-query search fees and search service hosting fees. Revenues from set-up and support fees and search service hosting fees are recognized on a straight-line basis over the term of the contract, which is the expected

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

period during which these services will be provided. The Company’s policy is to recognize revenues from per-query search fees in the period queries are made and results are delivered.

 

The Company also generates fees from the sale and license of its Search Appliance, which includes hardware, software and 12 to 24 months of post-contract support. As the elements are not sold separately, sufficient vendor-specific objective evidence does not exist for the allocation of revenue. As a result, the entire fee is recognized ratably over the term of the post-contract support arrangement in accordance with Statement of Position 97-2, Software Revenue Recognition, as amended.

 

The Company provides search services pursuant to certain AdSense agreements. Management believes that search services and revenue share arrangements represent separate units of accounting pursuant to EITF 00-21 Revenue Arrangements with Multiple Deliverables. These separate services are provided simultaneously to the web site partner and are recognized as revenues in the periods provided.

 

Deferred revenue is recorded when payments are received in advance of the Company’s performance in the underlying agreement, net of any amounts estimated to be paid to Google Network members which are recorded as “accrued revenue share” on the accompanying consolidated balance sheets.

 

Cost of Revenues

 

Cost of revenues consists primarily of the expenses associated with the operation of the Company’s data centers, including depreciation, labor, energy and bandwidth costs. Cost of revenues also includes credit card and other transaction fees relating to processing customer transactions and guaranteed minimums and other costs to the extent that they exceed fees received from advertisers under the related AdSense agreements.

 

Stock-based Compensation

 

Stock-based compensation as shown on the accompanying consolidated income statements consists of amortization of deferred stock-based compensation related to restricted shares and options to purchase Class A Senior common stock and common stock to employees and the values of options to purchase such stock issued to non-employees.

 

As permitted by SFAS 123, Accounting for Stock-based Compensation, the Company accounts for employee stock-based compensation in accordance with Accounting Principles Board Opinion (“APB”) No. 25, Accounting for Stock Issued to Employees (“APB 25”), and related interpretations. Under APB 25, deferred compensation for options granted to employees is equal to its intrinsic value, determined as the difference between the exercise price and the deemed value of the underlying stock on the date of grant. For purposes of financial accounting for employee stock-based compensation, management has applied hindsight within each year to arrive at deemed values for the shares underlying the options. The Company has recorded deferred stock-based compensation equal to the difference between these deemed values and the exercise prices.

 

In connection with certain restricted share and stock option grants to employees, the Company recorded deferred stock-based compensation costs of $20.0 million, $40.1 million and $540.7 million in 2001, 2002 and 2003. Amortization of deferred stock-based compensation totaled $12.2 million, $20.2 million and $213.5 million in 2001, 2002 and 2003. The deferred stock-based compensation is being amortized using the accelerated vesting method, in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock-based Compensation (“SFAS 123”), EITF 96-18, Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in connection with Selling, Goods or Services (“EITF 96-18”), and Financial Accounting Standards Board (“FASB”) Interpretation (“FIN”) No. 28, over the vesting

 

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Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

period of each respective restricted share and stock option, generally over four to five years. The remaining unamortized, deferred stock-based compensation for all restricted shares and stock option grants through December 31, 2003 assuming no change in the stock option accounting rules and assuming all employees remain employed at Google for their remaining vesting periods will be expensed as follows over each of the next five years and thereafter (in millions):

 

2004

   $ 204.8

2005

     96.3

2006

     47.5

2007

     16.1

2008

     3.5

Thereafter

     1.5
    

     $ 369.7
    

 

The Company accounts for stock awards issued to non-employees in accordance with the provisions of SFAS 123 and EITF 96-18. Under SFAS 123 and EITF 96-18, the Company uses the Black-Scholes method to measure the value of options granted to non-employees at each vesting date to determine the appropriate charge to stock-based compensation.

 

The Company recorded stock-based compensation expense of $186,000, $1.5 million, and $15.8 million for the value of stock options earned by non-employees in 2001, 2002 and 2003.

 

At December 31, 2003, there were 500,150 unvested options to purchase shares of Class A Senior common stock held by non-employees with a weighted- average exercise price of $0.69 and a weighted-average 48 month remaining vesting period. These options will generally vest on a monthly and ratable basis subsequent to December 31, 2003.

 

Pro forma information regarding net income has been determined as if the Company had accounted for its employee stock options under the method prescribed by SFAS 123. The resulting effect on pro forma net income disclosed is not likely to be representative of the effects on net income on a pro forma basis in future years due to additional grants and years of vesting in subsequent years.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Had compensation cost for options granted under the option plans (see Note 9) been determined based on the fair value method prescribed by SFAS 123, the Company’s net income and net income per share would have been adjusted to the pro forma amounts below (in thousands):

 

     Year Ended December 31,

    Three Months Ended
March 31,


 
     2001

    2002

    2003

    2003

    2004

 
                       (unaudited)  

Net income, as reported

   $ 6,985     $ 99,656     $ 105,648     $ 25,800     $ 63,973  

Add: Stock-based employee compensation expense included in reported net income

     12,197       20,175       213,545       34,619       73,717  

Deduct: Total stock-based employee compensation expense under the fair value based method for all awards

     (14,648 )     (22,390 )     (215,946 )     (34,943 )     (74,605 )
    


 


 


 


 


Net income, pro forma

   $ 4,534     $ 97,441     $ 103,247     $ 25,476     $ 63,085  
    


 


 


 


 


Net income per share:

                                        

As reported—basic

   $ 0.07     $ 0.86     $ 0.77     $ 0.20     $ 0.42  

Pro forma—basic

   $ 0.05     $ 0.85     $ 0.75     $ 0.20     $ 0.42  

As reported—diluted

   $ 0.04     $ 0.45     $ 0.41     $ 0.10     $ 0.24  

Pro forma—diluted

   $ 0.02     $ 0.44     $ 0.40     $ 0.10     $ 0.24  

 

For purposes of the above pro forma calculation, the value of each option granted through March 31, 2004 was estimated on the date of grant using the Black-Scholes pricing model with the following weighted-average assumptions:

 

     Year Ended
December 31,


   

Three Months
Ended

March 31,


 
     2001

    2002

    2003

    2003

    2004

 
                       (unaudited)  

Risk-free interest rate

   4.38 %   3.34 %   2.11 %   2.05 %   2.20 %

Expected volatility

   100 %   75 %   75 %   75 %   75 %

Expected life (in years)

   4     3     3     3     3  

Dividend yield

                    

 

The weighted-average fair value of an option granted in 2001, 2002 and 2003, and in the three months ended March 31, 2003 and 2004, was $0.91, $2.79 and $29.12, and $14.16 and $67.06, using the Black-Scholes pricing model.

 

Stock Options Exercised Early

 

The Company typically allows employees to exercise options prior to vesting. In accordance with EITF 00-23, Issues Related to Accounting for Stock Compensation under APB Opinion No. 25 and FASB Interpretation No. 44, stock options granted or modified after March 21, 2002, which are subsequently exercised for cash prior to vesting are treated differently from prior grants and related exercises. The consideration received for an exercise of an option granted after the effective date of this guidance is considered to be a deposit of the exercise price and the related dollar amount is recorded as a liability. The shares and liability are only reclassified into equity on a ratable basis as the award vests. The Company has appropriately applied the guidance and recorded a liability on the consolidated balance sheets relating to 3,281,004, 11,987,482 and 10,945,942 of options granted subsequent to

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

March 21, 2002 that were exercised and are unvested at December 31, 2002 and 2003 and at March 31, 2004. Furthermore, these shares are not presented as outstanding on the accompanying consolidated statements of redeemable convertible preferred stock warrant and stockholders’ equity and consolidated balance sheets. Instead, these shares are disclosed as outstanding options in the footnotes to these financial statements.

 

Stock Split

 

In February and June 2003, the Company affected separate two-for-one stock splits. In addition, the Company affected other splits in prior years. All references to Class A Senior common shares, common shares and preferred stock and per share amounts including options and warrants to purchase Class A Senior common shares, common shares and preferred stock have been retroactively restated to reflect the stock split as if such split had taken place at the inception of the Company.

 

Net Income Per Share

 

The Company computes net income per share in accordance with SFAS 128, Earnings per Share. Under the provisions of SFAS 128, basic net income per share is computed using the weighted average number of Class A Senior common shares and common shares outstanding during the period except that it does not include unvested Class A Senior common shares and common shares subject to repurchase or cancellation. Diluted net income per share is computed using the weighted average number of Class A Senior common shares and common shares and, if dilutive, potential Class A Senior common shares and common shares outstanding during the period. Potential Class A Senior common shares and common shares consist of the incremental Class A Senior common shares and common shares issuable upon the exercise of stock options, warrants, unvested common shares subject to repurchase or cancellation and convertible preferred stock. The dilutive effect of outstanding stock options and warrants is reflected in diluted earnings per share by application of the treasury stock method. Convertible preferred stock is reflected on an if-converted basis.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

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

 

     Year Ended December 31,

    Three Months Ended
March 31,


 
     2001

    2002

    2003

    2003

    2004

 
                       (unaudited)  

Basic and diluted net income per share:

                                        

Numerator:

                                        

Net income

   $ 6,985     $ 99,656     $ 105,648     $ 25,800     $ 63,973  
    


 


 


 


 


Denominator:

                                        

Weighted average Class A Senior common shares and common shares outstanding

     125,135       143,317       168,093       158,982       173,737  

Less: Weighted average unvested Class A Senior common shares and common shares subject to repurchase or cancellation

     (30,612 )     (28,075 )     (30,396 )     (31,643 )     (22,653 )
    


 


 


 


 


Denominator for basic calculation

     94,523       115,242       137,697       127,339       151,084  

Effect of dilutive securities

                                        

Add:

                                        

Weighted average convertible preferred shares

     70,432       70,432       71,128       70,432       71,662  

Stock options and warrants and weighted average unvested Class A Senior common shares and common shares subject to repurchase or cancellation

     21,821       34,959       47,813       50,916       41,437  
    


 


 


 


 


Denominator for diluted calculation

     186,776       220,633       256,638       248,687       264,183  
    


 


 


 


 


Net income per share, basic

   $ 0.07     $ 0.86     $ 0.77     $ 0.20     $ 0.42  
    


 


 


 


 


Net income per share, diluted

   $ 0.04     $ 0.45     $ 0.41     $ 0.10     $ 0.24  
    


 


 


 


 


 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

 

Certain Risks and Concentrations

 

The Company’s revenues are principally derived from online advertising, the market for which is highly competitive and rapidly changing. Significant changes in this industry or changes in customer buying behavior could adversely affect the Company’s operating results.

 

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash equivalents, investments and accounts receivable. Cash equivalents consist of money market funds. Short term investments consist primarily of agency notes, market auction preferred securities, municipal auction rate receipts and municipal bonds held with five financial institutions. Accounts receivable are typically unsecured and are derived from revenues earned from customers primarily located in the U.S. In 2003 and in the three months ended March 31, 2004, the Company generated approximately 74% and 70% of its net revenues from customers based in the U.S. with the majority of customers outside of the U.S. located in Japan and Europe. Many of the Company’s Network members are in the Internet industry. To appropriately manage this risk, the Company performs ongoing evaluations of customer credit and limits the amount of credit extended, but generally no collateral is required. The Company maintains reserves for estimated credit losses and these losses have generally been within management’s expectations.

 

No customer accounted for greater than 10% of net revenues in 2001, 2002 and 2003 or in the three months ended March 31, 2003 and 2004.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Fair Value of Financial Instruments

 

The carrying amounts of the Company’s financial instruments, including cash and cash equivalents, short-term investments, accounts receivable, accounts payable and accrued liabilities, approximate fair value because of their short maturities. The carrying amounts of the Company’s equipment loans and capital leases approximate fair value of these obligations based upon management’s best estimates of interest rates that would be available for similar debt obligations at December 31, 2002 and 2003.

 

Cash and Cash Equivalents and Short-Term Investments

 

The Company invests its excess cash in money market funds and in highly liquid debt instruments of the U.S. government, its agencies and municipalities. All highly liquid investments with stated maturities of three months or less from date of purchase are classified as cash equivalents; highly liquid investments with stated maturities of greater than three months are classified as short-term investments.

 

Management determines the appropriate classification of its investments in debt and marketable equity securities at the time of purchase and reevaluates such designation at each balance sheet date. The Company’s debt and marketable equity securities have been classified and accounted for as available-for-sale. The Company does not intend to hold securities with stated maturities greater than twelve months until maturity. In response to changes in the availability of and the yield on alternative investments as well as liquidity requirements, the Company occasionally sells these securities prior to their stated maturities. These securities are carried at fair value, with the unrealized gains and losses, net of taxes, reported as a component of stockholders’ equity. Any realized gains or losses on the sale of short-term investments are determined on a specific identification method, and such gains and losses are reflected as a component of interest income or expense.

 

Accounts Receivable

 

Accounts receivable are recorded at the invoiced amount and are non-interest bearing. The Company maintains an allowance for doubtful accounts to reserve for potentially uncollectible receivables. Management reviews the accounts receivable by aging category to identify specific customers with known disputes or collectibility issues. In determining the amount of the reserve, management makes judgments about the creditworthiness of significant customers based on ongoing credit evaluations. The Company also maintains a sales allowance to reserve for potential credits issued to customers. The amount of the reserve is determined based on historical credits issued.

 

Property and Equipment

 

Property and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, generally two to five years. Equipment under capital leases and leasehold improvements are amortized over the shorter of the lease term or the estimated useful lives of the assets. Construction in process is primarily related to the building of production equipment servers and lease-hold improvements. Depreciation for these assets commences once they are placed in service.

 

Long-Lived Assets Including Goodwill and Other Acquired Intangible Assets

 

The Company reviews property and equipment and certain identifiable intangibles, excluding goodwill, for impairment whenever events or changes in circumstances indicate the carrying amount of an asset may not be

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

recoverable. Recoverability of these assets is measured by comparison of its carrying amount to future undiscounted cash flows the assets are expected to generate. If property and equipment and certain identifiable intangibles are considered to be impaired, the impairment to be recognized equals the amount by which the carrying value of the assets exceeds its fair market value. The Company has made no adjustments to its long-lived assets in any of the years presented.

 

The Company has adopted SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead be tested for impairment at least annually or sooner whenever events or changes in circumstances indicate that they may be impaired. The Company completed its first goodwill impairment test at November 30, 2003, and found no impairment. The test was based on the Company’s single operating segment and reporting unit structure.

 

SFAS No. 142 also requires that intangible assets with definite lives be amortized over their estimated useful lives and reviewed for impairment whenever events or changes in circumstances indicate an asset’s carrying value may not be recoverable in accordance with SFAS No. 144, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of. The Company is currently amortizing its acquired intangible assets with definite lives over periods ranging from 2 to 3 years. The Company believes no events or changes in circumstances have occurred that would require an impairment test for these assets.

 

Income Taxes

 

The Company recognizes income taxes under the liability method. Deferred income taxes are recognized for differences between the financial reporting and tax bases of assets and liabilities at enacted statutory tax rates in effect for the years in which the differences are expected to reverse. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date.

 

Foreign Currency

 

Generally, the functional currency of the Company’s international subsidiaries is the local currency. The financial statements of these subsidiaries are translated to U.S. dollars using month-end rates of exchange for assets and liabilities, and average rates of exchange for revenues, costs and expenses. Translation gains (losses) are deferred and recorded in accumulated other comprehensive income as a component of stockholders’ equity. The Company recorded $1.7 million of net translation gains in 2003. There was no translation gain or loss in 2001 and 2002. Net gains and losses resulting from foreign exchange transactions are included in the consolidated income statements. The Company recognized $2.1 million of net gains resulting from foreign exchange transactions in 2003. Net transaction gains and losses recognized during 2001 and 2002 were not material.

 

Advertising Expenses

 

The Company expenses advertising costs in the period in which they are incurred. For the years ended December 31, 2001, 2002 and 2003 advertising expenses totaled approximately $5.3 million, $7.0 million and $20.9 million, including $2.8 million and $1.4 million of warrant amortization expense in 2001 and 2002 and none in 2003.

 

Comprehensive Income

 

Comprehensive income is comprised of net income and other comprehensive income. Other comprehensive income includes unrealized gains and losses on foreign exchange and unrealized gains and losses on available-

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

for-sale investments. The differences between total comprehensive income and net income as disclosed on the consolidated statement of redeemable convertible preferred stock warrant and stockholders’ equity for 2001, 2002 and 2003 were insignificant.

 

Recent Accounting Pronouncements

 

In November 2002, the EITF reached a consensus on Issue 00-21, Accounting for Multiple Element Revenue Arrangements, addressing how to account for arrangements that involve the delivery or performance of multiple products, services, and/or rights to use assets. Revenue arrangements with multiple deliverables are divided into separate units of accounting if the deliverables in the arrangement meet the following criteria: (1) the delivered item has value to the customer on a standalone basis; (2) there is objective and reliable evidence of the fair value of undelivered items; and (3) delivery of any undelivered item is probable. Arrangement consideration should be allocated among the separate units of accounting based on their relative fair values, with the amount allocated to the delivered item being limited to the amount that is not contingent on the delivery of additional items or meeting other specified performance conditions. The guidance in Issue 00-21 is effective for revenue arrangements entered into in fiscal periods after June 15, 2003. The adoption of Issue 00-21 did not have an impact on the Company’s financial statements.

 

During November 2002, the FASB issued FIN 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others, an interpretation of FASB Statements No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34. FIN 45 elaborates on the existing disclosure requirements for a guarantor in its interim and annual financial statements regarding its obligations under guarantees issued. It also clarifies that at the time a guarantee is issued, the guarantor must recognize an initial liability for the fair value of the obligations it assumes under the guarantee and must disclose that information in its financial statements. The initial recognition and measurement provisions apply on a prospective basis to guarantees issued or modified after December 31, 2002, and the disclosure requirements apply to guarantees outstanding at December 31, 2002. The Company adopted the provisions of FIN 45 at January 1, 2003. The adoption of this Interpretation did not have an impact on the Company’s operating results. See further discussion regarding indemnifications in Note 7.

 

In January 2003, the FASB issued FIN 46, Consolidation of Variable Interest Entities. FIN 46 clarifies the application of Accounting Research Bulletin No. 51. This Interpretation requires variable interest entities to be consolidated if the equity investment at risk is not sufficient to permit an entity to finance its activities without support from other parties or the equity investors lack specified characteristics. The Company does not have any variable interest entities.

 

In May 2003, the FASB issued SFAS 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS 150 establishes standards for how a company classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify certain financial instruments as a liability (or as an asset in some circumstances). SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 did not have an impact on the Company’s financial statements.

 

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Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Note 2.    Cash, Cash Equivalents and Short-term Investments

 

Cash, cash equivalents and short-term investments consist of the following (in thousands):

 

     As of December 31,

  

As of
March 31,

2004


     2002

   2003

  
               (unaudited)

Cash and cash equivalents

   $ 57,752    $ 148,995    $ 251,354
    

  

  

Short-term investments:

                    

Municipal securities

   $ 86,979    $ 166,538    $ 179,975

Market auction preferred securities

     1,600      8,000      10,000

U.S. government notes

          11,185      13,559
    

  

  

Total short-term investments

     88,579      185,723      203,534
    

  

  

Total cash, cash equivalents and short-term investments

   $ 146,331    $ 334,718    $ 454,888
    

  

  

 

The Company has not experienced any significant realized gains or losses on its investments in the periods presented. Gross unrealized gains and losses at December 31, 2002 and 2003 and at March 31, 2004 were not material.

 

The following table summarizes the estimated fair value of our securities held in short-term investments classified by the stated maturity date of the security (in thousands):

 

     As of December 31,

  

As of
March 31,

2004


     2002

   2003

  
               (unaudited)

Due within 1 year

   $   17,744    $ 29,381    $ 23,727

Due within 1 year through 5 years

          81,830      129,202

Due within 5 years through 10 years

          11,382      3,463

Due after 10 years

     70,835      63,130      47,142
    

  

  

Total

   $ 88,579    $ 185,723    $ 203,534
    

  

  

 

In addition, at December 31, 2002 and at both December 31, 2003 and March 31, 2004, the Company had $376,000 and $11.0 million of restricted cash and investment securities classified as other current assets which are included in “prepaid revenue share, expenses and other assets” in the accompanying consolidated balance sheets.

 

Note 3.    Interest Income (Expense) and Other

 

     Year Ended December 31,

    Three Months
Ended March 31,


 
     2001

    2002

    2003

    2003

    2004

 
     (in thousands)  
                       (unaudited)  

Interest income

   $ 861     $ 1,215     $ 2,663     $ 513     $ 1,156  

Interest expense

     (1,758 )     (2,570 )     (1,931 )     (550 )     (286 )

Other

     1       (196 )     3,458       (10 )     (570 )
    


 


 


 


 


Interest income (expense) and other, net

   $ (896 )   $ (1,551 )   $ 4,190     $ (47 )   $ 300  
    


 


 


 


 


 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Note 4.    Acquisitions

 

Applied Semantics, Inc.

 

In April 2003, the Company acquired all of the voting interests of Applied Semantics, Inc. (“ASI”) to strengthen its search and advertising programs, including content-targeted advertising programs. The transaction was accounted for as a business combination.

 

The total purchase price was $102.4 million and consisted of a cash payment of $41.5 million, including direct transaction costs of $400,000, and the issuance of 1,825,226 fully vested shares of the Company’s common stock and 557,574 fully vested and unvested options to purchase the Company’s common stock valued at $60.9 million. The intrinsic value of the unvested options to purchase 81,352 shares of common stock on the date of acquisition was recorded as deferred stock-based compensation and is being amortized as compensation expense on an accelerated basis over the related vesting periods of three to 47 months contingent upon each individual’s continued employment with the Company.

 

The fair values of the assets and liabilities acquired, including intangible assets, were determined by management with input from an appraiser. The total purchase price was allocated as follows (in thousands):

 

Goodwill

   $ 84,192  

Developed technology

     16,600  

Customer contracts and other

     4,100  

Net tangible assets acquired

     3,612  

Deferred tax asset

     1,074  

Deferred stock-based compensation

     1,933  

Deferred tax liabilities

     (9,074 )
    


Total

   $ 102,437  
    


 

Goodwill includes but is not limited to the synergistic value and potential competitive benefits that could be realized by the Company from the acquisition, any future products that may arise from ASI’s technology, as well as ASI’s skilled and specialized workforce. The goodwill amount is not deductible for tax purposes.

 

The developed technology and customer contracts and other have a weighted-average useful life of three and two years, and a combined weighted average life of 2.81 years.

 

Cash consideration of $900,000 may be paid over the next four years to certain former employees of ASI contingent upon their continued employment with the Company and will be recognized as expense as it is earned by the employees. As of December 31, 2003, the Company had paid approximately $300,000 of this amount.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

The results of operations of ASI have been included in the Company’s consolidated income statements since the completion of the acquisition on April 23, 2003. The following unaudited pro forma information presents a summary of the results of operations of the Company assuming the acquisition of ASI occurred on January 1, 2002 (in thousands, except per share amounts):

 

     Year Ended
December 31,


     2002

   2003

     (unaudited)

Net revenues

   $ 354,035    $ 964,693

Net income

   $ 94,749    $ 105,072

Net income per share—basic:

   $ 0.81    $ 0.76

Net income per share—diluted:

   $ 0.43    $ 0.41

 

Other Acquisitions

 

During the year ended December 31, 2003 the Company acquired all of the voting interests of three other companies. Two of the companies were accounted for as business combinations. Because the third company was considered a development stage enterprise, the transaction was accounted for as an asset purchase in accordance with EITF Issue No. 98-3, Determining Whether a Nonmonetary Transaction Involves Receipt of Productive Assets or of a Business.

 

The total purchase price for the three acquisitions was $15.3 million and consisted of a cash payment of $1.5 million and the issuance of 440,000 fully vested shares of the Company’s common stock valued at $13.8 million. The total purchase price was allocated as follows (in thousands):

 

Goodwill

   $ 3,250  

Developed technology

     3,651  

Net liabilities assumed

     (1,759 )

Deferred tax liabilities

     (1,487 )

Purchased in-process research and development

     11,618  
    


Total

   $ 15,273  
    


 

Purchased in-process research and development of $11.6 million was expensed upon acquisition because technological feasibility had not been established and no future alternative uses existed. That amount is included in research and development expenses on the accompanying consolidated income statement and is not deductible for tax purposes.

 

Goodwill includes but is not limited to the synergistic value and potential competitive benefits that could be realized by the Company from the acquisitions, any future products that may arise from the related technology, as well as the skilled and specialized workforce acquired. The goodwill amount is not deductible for tax purposes.

 

The developed technology has a weighted-average useful life of three years.

 

In addition in conjunction with the acquisitions, the Company issued 235,000 restricted shares of the Company’s common stock valued at $10.8 million. The fair value of the restricted shares was recorded as deferred stock-based compensation and will be amortized to compensation expense on an accelerated basis over the related vesting periods of two to five years, contingent upon each individual’s continued employment with the Company.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Note 5.    Goodwill and Other Intangible Assets

 

The changes in the carrying amount of goodwill for the year ended December 31, 2003, are as follows (in thousands):

 

Balance as of January 1, 2003

   $

Goodwill acquired during year

     87,442
    

Balance as of December 31, 2003

   $ 87,442
    

 

Information regarding the Company’s acquisition-related intangible assets that are being amortized is as follows (in thousands):

 

     As of December 31, 2003

     Gross Carrying
Amount


   Accumulated
Amortization


   Net Carrying
Value


Developed technology

   $ 20,917    $ 5,514    $ 15,403

Customer contracts and other

     4,100      1,389      2,711
    

  

  

Total

   $ 25,017    $ 6,903    $ 18,114
    

  

  

 

Amortization expense of acquisition-related intangible assets for the year ended December 31, 2003 was $6.3 million.

 

Estimated amortization expense for acquisition-related intangible assets on the Company’s December 31, 2003 consolidated balance sheet for the fiscal years ending December 31, is as follows (in thousands):

 

2004

   $ 8,767

2005

     7,423

2006

     1,924
    

     $ 18,114
    

 

Note 6.    Property and Equipment

 

Property and equipment consist of the following (in thousands):

 

     As of December 31,

  

As of
March 31,

2004


     2002

   2003

  
               (unaudited)

Information technology assets

   $ 78,764    $ 204,417    $ 258,751

Furniture and fixtures

     1,835      6,803      9,103

Leasehold improvements

     908      7,677      8,044

Construction in process

     5,379      42,940      71,855
    

  

  

Total

     86,886      261,837      347,753

Less accumulated depreciation and amortization

     33,013      73,582      94,747
    

  

  

Property and equipment, net

   $ 53,873    $ 188,255    $ 253,006
    

  

  

 

29


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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Note 7.    Commitments and Contingencies

 

Capital Leases

 

In June 2001, the Company entered into a master equipment lease agreement with a financial institution. The agreement provided for an initial equipment lease line of credit not to exceed $5.0 million. In October 2001, the same financial institution provided for the syndication of another equipment lease line of credit not to exceed $10.0 million. At December 31, 2003, $15.0 million had been borrowed under these equipment lease lines of credit.

 

The equipment financed under the capital lease arrangement is included in property and equipment and the related amortization is included in depreciation and amortization expense. The cost of assets financed under the capital lease was $15.0 million at December 31, 2002 and 2003. The related amortization expense was $728,000, $3.4 million and $5.0 million during 2001, 2002 and 2003 and accumulated amortization was $4.1 million and $9.1 million at December 31, 2002 and 2003. The equipment leases have payment terms of 36 months.

 

The Company has issued warrants to purchase 179,956 shares of Series C convertible preferred stock in connection with its draw on the equipment lease lines (see Note 9).

 

Operating Leases

 

During 2003, the Company entered into a nine year sublease agreement for its headquarters in Mountain View, California. According to the terms of the sublease, the Company will begin making payments in July 2005 and payments will increase at 3% per annum thereafter. The Company recognizes rent expense under this arrangement on a straight line basis. The lease terminates on December 31, 2012, however, the Company may exercise two five year renewal options at its discretion. The Company has an option to purchase the property for approximately $172.4 million, which is exercisable in 2006. At December 31, 2003, the Company had not made a decision with respect to this purchase option. In connection with the lease, the Company has a letter of credit which requires it to maintain $9.0 million of cash and investment securities as collateral. This required collateral effectively expires in April 2004. As a result, it is classified as other current assets, which is included in “prepaid revenue share, expenses and other assets” on the accompanying consolidated balance sheets. At December 31, 2003, the Company was in compliance with its financial covenants under the lease.

 

In addition, the Company has entered into various non-cancelable operating lease agreements for its offices throughout the U.S. and for international subsidiaries with original lease periods expiring between 2004 and 2015. The Company is committed to pay a portion of the buildings’ operating expenses as determined under the agreements. Certain of these arrangements have free or escalating rent payment provisions. The Company recognizes rent expense under such arrangements on a straight line basis. Total payments relating to leases having an initial or remaining non-cancelable term less than one year are $2.3 million and are not included in the table below. Rent expense was $2.0 million, $3.7 million, and $8.9 million in 2001, 2002, and 2003.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

At December 31, 2003, future payments under capital leases and minimum payments under non-cancelable operating leases with a remaining term greater than one-year are as follows over each of the next five years and thereafter (in thousands):

 

     Capital
Leases


   Operating
Leases


2004

   $ 5,304    $ 7,378

2005

     2,080      13,596

2006

     —        18,620

2007

     —        18,774

2008

     —        18,769

Thereafter

     —        69,592
    

  

Total minimum payments required

     7,384    $ 146,729
           

Less amounts representing interest

     775       
    

      

Minimum future payments of principal

     6,609       

Current portion

     4,621       
    

      

Long-term portion

   $ 1,988       
    

      

 

AdSense Agreements

 

In connection with our AdSense revenue share agreements, the Company is periodically required to make non-cancelable guaranteed minimum revenue share payments to a small number of its Google Network members over the term of the respective contracts. Under some of our contracts, these guaranteed payments can vary based on the Google Network members achieving defined performance terms, such as number of advertisements displayed or search queries. In some cases, certain guaranteed amounts will be adjusted downward if the Google Network members do not meet their performance terms and, in some cases, these amounts will be adjusted upward if they exceed their performance terms. In all but one of these AdSense agreements, if a Google Network member were unable to perform under the contract, such as being unable to provide search queries, as defined under the terms of that agreement, then the Company would not be obligated to make any non-cancelable guaranteed minimum revenue share payments to that member.

 

Under one AdSense agreement, through 2005 the Company is obligated to make $5.6 million of non-cancelable guaranteed minimum revenue share payments irrespective of whether or not the Google Network member achieves defined performance goals. The only circumstance in which the non-cancelable guaranteed minimum revenue share payments would not be due to this Google Network member would be material breach, as defined in the agreement.

 

Management believes future non-cancelable guaranteed minimum revenue share payments will be significantly greater than the contractual minimum of $5.6 million. To date, total advertiser fees generated under these AdSense agreements have exceeded the total guaranteed minimum revenue share payments. In 2003, the Company made $108.8 million of non-cancelable minimum guaranteed revenue payments.

 

Purchase Obligations

 

Additionally, the Company had $11.9 million of other non-cancelable contractual obligations and $24.9 million of open purchase orders for which we have not received the related services or goods at

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

December 31, 2003. The Company has the right to cancel these open purchase orders upon 10 days notice prior to the date of delivery. The majority of these purchase obligations are related to data center operations.

 

Letters of Credit

 

Associated with several leased facilities, the Company has unused letters of credit for $12.2 million and related compensating balances of $11.0 million as included in “prepaid revenue share, expenses and other assets” in the accompanying consolidated balance sheets. At December 31, 2003, the Company was in compliance with its financial covenants under the letters of credit.

 

Indemnifications

 

While the Company has various guarantees included in contracts in the normal course of business, primarily in the form of indemnities, these guarantees do not represent significant commitments or contingent liabilities of the indebtedness of others. Accordingly, the Company has not recorded a liability related to indemnification provisions.

 

Legal Matters

 

Overture Services (now owned by Yahoo) has sued the Company, claiming that the Google AdWords program infringes certain claims of an Overture Services patent. It also claims that the patent relates to an Overture Services own bid-for-ad placement business model and its pay-for-performance technologies. The Company is currently litigating this case. If Overture Services wins, it may significantly limit the Company’s ability to use the AdWords program, and the Company also may be required to pay damages. While management currently believes that the lawsuit is without merit and that the amount of the ultimate liability, if any, with respect to this action will not materially affect the financial position, results of operations, or liquidity of the Company, the ultimate outcome of any litigation is uncertain. Were an unfavorable outcome to occur, the impact could be material to the Company.

 

Currently, there is no other significant litigation pending against the Company other than as disclosed in the paragraph above. From time to time, the Company may become a party to litigation and subject to claims incident to the ordinary course of the Company’s business. Although the results of litigation and claims cannot be predicted with certainty, the Company believes that the final outcome of such matters will not have a material adverse effect on the Company’s business, results of operations or financial condition. Regardless of outcome, litigation can have an adverse impact on the Company because of defense costs, diversion of management resources and other factors.

 

Note 8.    Redeemable Convertible Preferred Stock Warrant

 

As a part of an AdSense agreement entered into during 2002, the Company issued to the Google Network member fully vested warrants to purchase 7,437,452 shares of Series D convertible preferred stock. The warrants have an exercise price of $2.91 and a life of five years. These warrants expire in 2012.

 

The Company determined the fair value of the warrants to be $13.9 million. At December 31, 2003, the warrants have been fully amortized.

 

Under certain circumstances, the Company could be required to pay the holder of the warrant the lesser of (i) the fair value of the warrants (as calculated and defined in the warrant agreement using a Black-Scholes pricing model) and (ii) $5.82 per share for maximum payment of approximately $43.3 million.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

As a result of the redemption feature of the warrant, the fair value of the warrants has been classified outside of stockholders’ equity. Currently, the circumstances necessary for this warrant to be redeemable are not probable and, therefore, the warrant has not been classified as a liability and the value has not been adjusted from the calculated amount. In the future, should a redemption event become probable, the warrant value would be reclassified as a liability and its value adjusted. Any adjustments in value would be recorded as a deemed dividend.

 

Note 9.    Stockholders’ Equity

 

Convertible Preferred Stock

 

Convertible preferred stock consists of the following (in thousands):

 

     As of December 31,

     2002

   2003

     Shares
Authorized


   Shares
Issued and
Outstanding


   Shares
Authorized


   Shares
Issued and
Outstanding


   Aggregate
Liquidation
Preference


Series A

   15,360    15,360    15,360    15,360    $ 960

Series A-1

   15,360       15,360        

Series B

   50,651    49,823    50,445    49,823      24,677

Series B-1

   50,651       50,445        

Series C

   10,000    5,249    9,149    6,479      15,178

Series C-1

   10,000       9,149        

Series D

   7,437       7,437        

Series D-1

   7,437       7,437        
    
  
  
  
  

     166,896    70,432    164,782    71,662    $ 40,815
    
  
  
  
  

 

Significant terms of the Series A, A-1, B, B-1, C, C-1, D and D-1 convertible preferred stock are as follows:

 

    Holders of Series A, Series B, Series C and Series D convertible preferred stock are entitled to noncumulative dividends of $0.00625, $0.0496, $0.2343 and $0.2910 per share, respectively, if and when declared by the board of directors in preference to holders of common stock. No dividends have been declared through December 31, 2003.

 

    In the event of liquidation, dissolution, or winding up of the Company, either voluntarily or involuntarily, stockholders will receive distributions of $0.0625 for each share of Series A or A-1 convertible preferred stock, $0.4953 for each share of Series B or B-1 convertible preferred stock, and $2.3425 for each share of Series C or C-1 convertible preferred stock, and $2.91 for each share of Series D or D-1 convertible preferred stock. All remaining assets will be shared on a prorata basis between the Class A Senior common and common stockholders.

 

    Each share of the convertible preferred stock is convertible into one share of Class A Senior common stock of the Company at the option of the holder and carries voting rights equivalent to the Class A Senior common stock on a share-for-share basis. The conversion rate of the convertible preferred stock is subject to adjustment in the event of, among other things, stock splits and stock dividends. Each share of convertible preferred stock automatically converts into Class A Senior common stock in the event of a public offering of the Company’s common stock in which the gross proceeds and the offering price per share exceed certain minimum amounts.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

    The holders of Series A, B, C, and D convertible preferred stock are entitled to the right of first offer with respect to equity financings of the Company (which does not include an initial public offering of the Company’s stock). If the stockholders do not exercise this right in the event of an equity financing at a price per share less than the original respective issue price of Series A, B, C and D convertible preferred stock, then shares of Series A, B, C and D convertible preferred stock will be automatically converted into an equivalent number of shares of Series A-1, B-1, C-1, or D-1 convertible preferred stock, respectively.

 

Class A Senior Common Stock and Common Stock

 

The Company’s board of directors has authorized two classes of common stock, Class A Senior common stock and common stock. At December 31, 2003 there were 11,220,718 and 161,632,445 shares legally outstanding of common stock and Class A Senior common stock. The rights of the holders of Class A Senior common stock and common stock are identical, except with respect to voting. Each share of common stock is entitled to one vote per share. Each share of Class A Senior common stock is entitled to ten votes per share. Shares of Class A Senior common stock may be converted at any time at the option of the stockholder and automatically convert upon sale or transfer to common stock. See Note 13.

 

At December 31, 2003, there were 115,986,783 shares of senior common stock and common stock reserved for future issuance, as presented in the following table:

 

Outstanding convertible preferred stock

   71,662,432

Outstanding options to purchase Class A Senior common stock and common stock

   17,363,122

Options to purchase Class A Senior common stock and common stock available for grant

   5,440,155

Warrants to purchase Class A Senior common stock

   1,294,308

Warrants to purchase convertible preferred stock

   8,239,284

Unvested shares related to options granted and exercised subsequent to March 21, 2002 to purchase Class A Senior common stock and common stock

   11,987,482
    

Total Class A Senior common stock and common stock reserved for future issuance

   115,986,783
    

 

Stock Plans

 

The Company maintains the 1998 Stock Plan, the 2000 Stock Plan, the 2003 Stock Plan, the 2003 Stock Plan (No. 2) and the 2003 Stock Plan (No. 3) and plans assumed through acquisitions which are collectively referred to as the “Stock Plans.” Under the Company’s Stock Plans, incentive and nonqualified stock options or rights to purchase Class A Senior common stock and common stock may be granted to eligible participants. Options must be priced to be at least 85% of the Class A Senior common stock or common stock’s fair market value at the date of grant as determined by the board of directors (100% in the case of incentive stock options). Options are generally granted for a term of ten years. Initial options granted under the Stock Plans generally vest 25% after the first year of service and ratably each month over the remaining 36-month period. Additional options granted under the Stock Plans generally vest 20% after the first year of service and ratably each month over the remaining 48-month period. Typically, options may be exercised prior to vesting. Sales of stock under stock purchase rights are made pursuant to restricted stock purchase agreements. There are 24,205,579 shares of Class A Senior common stock and common stock outstanding and subject to repurchase related to the Stock Plans at December 31, 2003. Of this total, 12,218,097 and 11,987,482 shares are related to options granted through and after March 21, 2002, in accordance with EITF 00-23, respectively.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

The following table summarizes the activity under the Company’s Stock Plans:

 

     Options Outstanding

     Shares Available
for Grant


   

Number

of Shares


    Weighted-Average
Exercise Price


Balance at December 31, 2000

   18,884,848     8,477,488     $ 0.25

Additional options authorized

   15,241,708          

Options granted

   (26,990,768 )   26,990,768     $ 0.30

Options exercised

       (17,754,728 )   $ 0.30

Options canceled

   898,000     (898,000 )   $ 0.24

Options repurchased

   443,740         $ 0.06
    

 

     

Balance at December 31, 2001

   8,477,528     16,815,528     $ 0.28

Additional options authorized

   14,400,000          

Options granted

   (14,980,716 )   14,980,716     $ 0.30

Options exercised

       (8,520,668 )   $ 0.28

Options canceled

   351,100     (351,100 )   $ 0.30

Options repurchased

   557,772         $ 0.25
    

 

     

Balance at December 31, 2002

   8,805,684     22,924,476     $ 0.29

Additional options authorized

   16,034,880          

Options granted

   (19,846,158 )   19,846,158     $ 2.65

Options exercised

       (13,145,075 )   $ 0.54

Options canceled

   274,955     (274,955 )   $ 1.50

Options repurchased

   170,794         $ 0.29
    

 

 

Balance at December 31, 2003

   5,440,155     29,350,604     $ 2.47

Options granted (unaudited)

   (1,005,120 )   1,005,120     $ 16.28

Options exercised (unaudited)

       (2,766,102 )   $ 2.83

Options canceled (unaudited)

   66,601     (66,601 )   $ 2.57

Options repurchased (unaudited)

   91,822         $ 0.09
    

 

     

Balance at March 31, 2004 (unaudited)

   4,593,458     27,523,021     $ 3.27
    

 

     

 

The number of options outstanding at December 31, 2002 and 2003 and March 31, 2004 includes 3,281,004, 11,987,482 and 10,945,942 of options granted and exercised subsequent to March 21, 2002 that are unvested at December 31, 2002 and 2003 and March 31, 2004, in accordance with EITF 00-23, Issues related to the accounting for stock compensation under APB Opinion No. 25 and FASB Interpretation No. 44.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

The following table summarizes additional information regarding outstanding and exercisable options at December 31, 2003:

 

    Options Outstanding

  Options Exercisable

Range of

Exercise Prices


  Total
Number of
Shares


  Unvested
options
granted and
exercised
subsequent
to March 21,
2002


  Number of
Shares


  Wtd. Avg.
Remaining
Life
(Years)


  Wtd. Avg.
Exercise
Price


 

Number of

Shares


  Wtd. Avg.
Exercise
Price


$   0.01–$  2.00   21,080,838   10,548,989   10,531,849   8.1   $ 0.40   10,304,146   $ 0.40
$   3.50–$  3.50   1,211,262   540,214   671,048   9.4   $ 3.50   597,648   $ 3.50
$   5.00–$  7.00   5,771,739   628,559   5,143,180   9.5   $ 5.15   5,037,530   $ 5.15
$   9.00–$  9.00   476,050   155,508   320,542   9.8   $ 9.00   291,742   $ 9.00
$ 10.00–$10.00   810,715   114,212   696,503   9.9   $ 10.00   664,203   $ 10.00
     
 
 
           
     
$   0.01–$10.00   29,350,604   11,987,482   17,363,122   8.7   $ 2.47   16,895,269   $ 2.45
     
 
 
           
     

 

The number of options exercisable at December 31, 2001 and 2002 were 16,815,528 and 22,924,476.

 

The following table summarizes additional information regarding outstanding and exercisable options at March 31, 2004 (unaudited):

 

    Options Outstanding

  Options Exercisable

Range of

Exercise Prices


  Total
Number of
Shares


  Unvested
options
granted and
exercised
subsequent
to March 21,
2002


  Number of
Shares


  Wtd. Avg.
Remaining
Life
(Years)


  Wtd. Avg.
Exercise
Price


  Number of
Shares


  Wtd. Avg.
Exercise
Price


$   0.01–$  2.00   18,272,609   9,010,008   9,262,601     7.9   $ 0.40   9,074,469   $ 0.40
$   3.50–$  3.50   1,210,012   616,900   593,112     9.1   $ 3.50   519,712   $ 3.50
$   5.00–$  7.00   5,765,289   745,631   5,019,658     9.3   $ 5.14   4,916,375   $ 5.14
$   9.00–$  9.00   469,300   186,058   283,242     9.5   $ 9.00   254,442   $ 9.00
$ 10.00–$12.00   1,156,875   251,957   904,938     9.7   $ 10.79   862,188   $ 10.80
$ 20.00–$20.00   648,940   136,175   512,765   10.0   $ 20.00   491,115   $ 20.00
     
 
 
           
     
$   0.01–$20.00   27,523,025   10,946,709   16,576,312     8.5   $ 3.27   16,118,301   $ 3.24
     
 
 
           
     

 

Note Receivable from Stockholder / Officer

 

In connection with the exercise of employee stock options, the Company has a $4.3 million loan receivable at December 31, 2003. This outstanding balance is for a loan that was made in 2001, to the Company’s Chief Executive Officer pursuant to a full recourse promissory note and stock pledge agreement. The note accrues interest at 7.38% compounded semi-annually and is repayable in full on September 28, 2005. See Note 13.

 

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Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Warrants to Purchase Class A Senior Common and Preferred Stock

 

     Shares Subject to
Purchase at
December 31, 2003


   Weighted Average
Exercise Price
Per Share


Warrants Type

           

Class A Senior Common

   1,294,308    $ 0.46

Series B Convertible Preferred

   621,876    $ 0.72

Series C Convertible Preferred

   179,956    $ 2.34

Series D Convertible Preferred

   7,437,452    $ 2.91
    
      

Total

   9,533,592    $ 2.42
    
      

 

No warrants outstanding at December 31, 2003 were exercised or canceled, and no warrants to purchase our stock were issued, in the three months ended March 31, 2004.

 

The Company determined the value of these warrants at the date of grant using the Black-Scholes option pricing model based on the estimated fair value of the underlying stock, a volatility rate of 100% or 75%, no dividends, a risk-free interest rate ranging from 4.93% to 6.84%, and an expected life of three to ten years which coincides with the maximum exercise periods of the warrants.

 

Class A Senior Common

 

In 2001, the Company issued fully vested, nonforfeitable warrants to purchase 1,194,308 shares of Class A Senior common stock at a price of $0.30 per share in connection with recruitment fees. The Company determined the value of the warrants to be $1.1 million. The entire fair value of the warrants was expensed during 2001 as general and administrative expense on the accompanying consolidated income statements. Also, in October 2000, the Company issued fully vested, nonforfeitable warrants to purchase 100,000 shares of Class A Senior common stock at a price of $2.34 per share. The above warrants expire in 2006 and 2005.

 

Series B Preferred

 

In 1999, the Company issued fully vested, nonforfeitable warrants to purchase 403,840 shares of Series B convertible preferred stock in connection with an equipment line of credit. The warrants have an exercise price of $0.495. The Company determined the fair value of the warrants to be $157,000. In connection with additional drawdowns on the equipment line of credit during 2000, the Company issued 74,216 and 143,820 warrants to purchase Series B convertible preferred stock with an exercise price of $0.62 and $1.42, respectively. The Company determined the fair value of these warrants to be $28,000 and $269,000. The cost of the warrants was expensed as additional interest expense over the life of the loan arrangement. These warrants remain outstanding and expire in 2005.

 

Series C Preferred

 

In June 2000, the Company issued warrants to purchase shares of Series C convertible preferred stock to a customer in connection with a Branding and Promotion Agreement whereby the customer provided advertising to the Company over a two-year period. The warrants had an exercise price of $2.34 per share. The Company determined the fair value of the warrants to be $5.7 million. The entire fair value of the warrants was expensed ratably over the two years of the agreement as sales and marketing expense on the accompanying consolidated income statements. In June 2003, the warrant converted in accordance with its terms into 1,229,944 shares of Series C convertible preferred stock.

 

37


Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

In 2001, the Company issued fully vested, nonforfeitable warrants to purchase 108,260 shares of Series C convertible preferred stock in connection with draw downs on the Company’s equipment lease lines of credit. The warrants have an exercise price of $2.345. The Company determined the fair value of the warrants to be $232,000. The cost of the warrants is being expensed as additional interest expense over the life of the lease arrangement. These warrants expire in 2011.

 

In 2002, the Company issued fully vested, nonforfeitable warrants to purchase 71,696 shares of Series C convertible preferred stock in connection with draw downs on the Company’s equipment lease lines of credit discussed in Note 7. The warrants have an exercise price of $2.345. The Company determined the fair value of the warrants to be $199,000. The cost of the warrants is being expensed as additional interest expense over the life of the lease arrangement. These warrants expire in 2012.

 

Series D Preferred

 

In 2002, the Company issued 7,437,452 redeemable warrants to purchase Series D convertible preferred stock to a customer in connection with a revenue-share agreement (see Note 8).

 

Note 10.    401(k) Plan

 

The Company has a 401(k) Savings Plan (the “401(k) Plan”) that qualifies as a deferred salary arrangement under Section 401(k) of the Internal Revenue Code. Under the 401(k) Plan, participating employees may elect to contribute up to 15% of their eligible compensation, subject to certain limitations. The Company matches employee contributions up to the lesser of 3.5% of the employee’s salary or $2,200. Employee and Company contributions are fully vested when contributed. The Company contributed approximately $329,000, $663,000 and $1.7 million during 2001, 2002 and 2003, respectively.

 

Note 11.    Income Taxes

 

Income from continuing operations before income taxes included income/(loss) from foreign operations of approximately $500,000 and $(6.5) million for 2002 and 2003. Pretax income from foreign operations was immaterial for 2001.

 

The provision for (benefit from) income taxes consisted of the following (in thousands):

 

     Year Ended December 31,

 
     2001

    2002

    2003

 

Current:

                        

Federal

   $ 4,260     $ 74,081     $ 187,686  

State

     1,017       19,683       52,336  

Foreign

           1,367       965  
    


 


 


Total

     5,277       95,131       240,987  

Deferred:

                        

Federal

     (1,782 )     (8,504 )     712  

State

     (412 )     (1,368 )     (693 )

Foreign

                  
    


 


 


Total

     (2,194 )     (9,872 )     19  
    


 


 


Provision for income taxes

   $ 3,083     $ 85,259     $ 241,006  
    


 


 


 

38


Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

The reconciliation of federal statutory income tax rate to the Company’s effective income tax rate is as follows (in thousands):

 

     Year Ended December 31,

 
     2001

    2002

    2003

 

Expected provision at federal statutory rate, 35%

   $ 3,524     $ 64,720     $ 121,329  

State taxes, net of federal benefit

     393       11,905       33,568  

Stock based compensation expense

     4,334       7,572       79,764  

Foreign rate differential

                 3,249  

In-process research and development

                 4,066  

Valuation allowance (utilized)/provided

     (5,558 )     (461 )      

Other individually immaterial items

     390       1,523       (970 )
    


 


 


Provision for income taxes

   $ 3,083     $ 85,259     $ 241,006  
    


 


 


 

Deferred Tax Assets

 

Deferred income taxes reflect the net effects of temporary differences between the carrying amounts of assets and liabilities for financing reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred tax assets and liabilities are as follows (in thousands):

 

     As of December 31,

 
     2002

    2003

 

Deferred tax assets:

                

Net operating loss carryforwards

   $ 210     $ 482  

Deferred compensation

     4,054       5,661  

State taxes

     6,216       15,947  

Deferred revenue

     834       775  

Accruals and reserves not currently deductible

     4,725       4,684  

Tax credits

           291  

Other

     42       28  
    


 


Total deferred tax assets

     16,081       27,868  

Deferred tax liabilities:

                

Depreciation

     (3,959 )     (15,778 )

Identified intangibles

           (8,223 )

Other

     (56 )     (272 )
    


 


Total deferred tax liabilities

     (4,015 )     (24,273 )
    


 


Net deferred tax assets

   $ 12,066     $ 3,595  
    


 


 

The net valuation allowance decreased by approximately $5.6 million and $500,000 during the years ended December 31, 2001 and 2002 respectively.

 

At December 31, 2003, the Company had federal and state net operating loss carryforwards of approximately $604,000 and $5.3 million, respectively. As of December 31, 2003, the Company had federal credit carryforwards of approximately $291,000. The net operating loss and credit carryforwards will begin to expire in 2006, if not utilized.

 

39


Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Utilization of the net operating loss and credit carryforwards may be subject to substantial annual limitation due to the ownership change limitations provided by the Internal Revenue Code of 1986, as amended, and similar state provisions. The annual limitation may result in the expiration of net operating losses before utilization.

 

Note 12.    Information about Geographic Areas

 

The Company’s chief operating decision-makers (i.e., chief executive officer and his direct reports) review financial information presented on a consolidated basis, accompanied by disaggregated information about revenues by geographic region for purposes of allocating resources and evaluating financial performance. There are no segment managers who are held accountable for operations, operating results and plans for levels or components below the consolidated unit level. Accordingly, the Company considers itself to be in a single reporting segment and operating unit structure.

 

Net revenues by geography are based on the billing address of the advertiser. The following table sets forth revenues and long-lived assets by geographic area (in thousands):

 

     Year Ended December 31,

   Three Months Ended
March 31,


     2001

   2002

   2003

   2003

   2004

                    (unaudited)

Net revenues:

                                  

United States

   $ 73,982    $ 275,347    $ 707,863    $ 135,873    $ 273,382

International

     12,444      72,501      254,011      43,021      116,256
    

  

  

  

  

Total net revenues

   $ 86,426    $ 347,848    $ 961,874    $ 178,894    $ 389,638
    

  

  

  

  

     As of December 31,

         
     2001

   2002

   2003

         

Long-lived assets:

                                  

United States

   $ 28,217    $ 55,008    $ 267,348              

International

          87      43,876              
    

  

  

             

Total long-lived assets

   $ 28,217    $ 55,095    $ 311,224              
    

  

  

             

 

Note 13.    Subsequent Events (unaudited)

 

Initial Public Offering and 2004 Stock Plan

 

In April 2004, the Company’s board of directors approved the filing of a registration statement with the Securities and Exchange Commission for an initial public offering of the Company’s common stock. In April 2004, the Company’s board of directors adopted the 2004 Stock Plan, and the Company expects its stockholders will approve the plan prior to the completion of this offering. The 2004 Stock Plan provides for the grant of incentive stock options to the Company’s employees and nonstatutory stock options, restricted stock, stock appreciation rights, performance units, performance shares, restricted stock units and other stock based awards to the Company’s employees, directors, and consultants. No awards have yet been issued pursuant to the 2004 Stock Plan.

 

40


Table of Contents

Google Inc.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(Information as of March 31, 2004 and for the three months ended March 31, 2003 and 2004 is unaudited)

 

Class A and Class B Common Stock

 

The Company’s certificate of incorporation provides that upon an initial public offering meeting certain criteria, the Company’s Class A Senior common stock, which has ten votes per share, would automatically convert into common stock, which has one vote per share. The Company’s board of directors has authorized an amendment to its certificate of incorporation to preserve the voting rights of its Class A Senior common stock at ten votes per share, and, as a result, these shares will no longer convert to common stock upon an initial public offering. In addition, shares of Class A Senior common stock may be converted at anytime at the option of the stockholder into common stock and automatically convert upon sale or transfer. Pursuant to this amendment each share of Class A Senior common stock will be reclassified as one share of Class B common stock and each share of common stock will be reclassified as Class A common stock. The Company expects our stockholders will approve these amendments prior to completion of this offering.

 

Shares issued and options granted under the Company’s 1998 Stock Plan and its 2003 Stock Plan were not exempt from registration or qualification under federal and state securities laws and the Company did not obtain the required registrations or qualifications. Shares issued and options granted under the Company’s 2003 Stock Plan (No. 2) and its 2003 Stock Plan (No. 3) were not exempt from registration or qualification under federal securities laws and the Company did not obtain the required registrations or qualifications. As a result, the Company intends to make a rescission offer to the holders of these shares and options beginning approximately 30 days after the effective date of this registration statement. If this rescission is accepted, the Company could be required to make aggregate payments to the holders of these shares and options of up to $34 million plus statutory interest. Federal securities laws do not expressly provide that a rescission offer will terminate a purchaser’s right to rescind a sale of stock that was not registered as required. If any or all of the offerees reject the rescission offer, the Company may continue to be liable under federal and state securities laws for up to an aggregate amount of approximately $34 million plus statutory interest. Management does not believe that this rescission offer will have a material effect on the Company’s results of operations, cash flows or financial position.

 

Note Receivable from Stockholder/Officer

 

In April 2004, the Company’s Chief Executive Officer fully repaid the principal and accrued interest due under a full recourse promissory note. See Note 9.

 

41


Table of Contents
Item 14.   Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

 

Not applicable

 

Item 15.   Financial Statements and Exhibits

 

(a)   Financial Statements

 

See Item 13 above.

 

(b)   Exhibits

 

Except for Exhibit 99.1, which is included herein, the following exhibits are incorporated herein by reference from the Registration Statement or, where noted, will be filed by amendment:

 

Exhibit
Number


  

Exhibit Title


  2.01   

Merger Agreement and Plan of Reorganization by and among Google Technology Inc., Bermuda Acquisition Inc., Applied Semantics Inc. and other parties signatory hereto dated as of April 18, 2003

  3.01   

Amended and Restated Certificate of Incorporation of Registrant as filed August 27, 2003

  3.01.1*   

Form of Second Amended and Restated Certificate of Incorporation of Registrant, to be filed upon the closing of the offering

  3.02   

Bylaws of Registrant

  3.02.1*   

Form of Amended and Restated Bylaws of Registrant, to be effective upon the closing of the offering

  4.01   

Third Amended and Restated Investor Rights Agreement dated May 31, 2002

  4.02*   

Specimen Class A common stock certificate

  4.03*   

Specimen Class B common stock certificate

10.01   

Form of Indemnification Agreement entered into between Registrant, its affiliates and its directors and officers

10.02   

1998 Stock Plan, as amended, and form of stock option agreement

10.03   

1999 Stock Option/Stock Incentive Plan, as amended, and form of stock option agreement

10.04   

2000 Stock Plan, as amended, and form of stock option agreement

10.05   

2003 Stock Plan, as amended, and form of stock option agreement

10.06   

2003 Stock Plan (No. 2) and form of stock option agreement

10.07   

2003 Stock Plan (No. 3) and form of stock option agreement

10.08   

2004 Stock Plan

10.09   

Google Technology Sublease Agreement dated July 9, 2003 by and between Silicon Graphics, Inc. and Registrant

10.09.1   

Amendment No. 1 to Sublease dated November 18, 2003 by and between Silicon Graphics, Inc. and Registrant

10.09.2   

Amendment No. 2 to Sublease dated December 17, 2003 by and between Silicon Graphics, Inc. and Registrant

10.09.3   

Landlord-Subtenant Agreement dated July 9, 2003 by and among WXIII/Amphitheatre Realty, L.L.C., Silicon Graphics, Inc. and Registrant

10.09.4   

Second Amendment to Commercial Lease dated July 9, 2003 by and among WXIII/Amphitheatre Realty, L.L.C., Silicon Graphics, Inc. and Registrant

10.09.5   

Amendment to Commercial Lease dated April 19, 2001 by and among the Goldman Sachs Group, Inc., Silicon Graphics, Inc. and Silicon Graphics Real Estate, Inc.

10.09.6   

Lease between the Goldman Sachs Group, Inc. and Silicon Graphics, Inc. dated December 29, 2000

10.09.7   

Nondisturbance and Attornment Agreement between Registrant and WXIII/Amphitheatre Realty, L.L.C.

10.13*   

Amended and Restated License Agreement dated October 13, 2003 by and between The Board of Trustees of the Leland Stanford Junior University and Registrant

10.14*   

Employment Agreement dated March 14, 2001 by and between Eric Schmidt and Registrant

21.01   

List of subsidiaries of Registrant

99.1   

Registration Statement on Form S-1


*   To be filed by amendment.

 

42


Table of Contents

SIGNATURES

 

Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant has duly caused this registration statement to be signed on its behalf by the undersigned, thereunto duly authorized.

 

GOOGLE INC.

By:

 

/s/    ERIC E. SCHMIDT        


   

Eric E. Schmidt

Chairman of the Executive Committee

and Chief Executive Officer

 

Dated: April 29, 2004

 

43


Table of Contents

EXHIBIT INDEX

 

 

Except for Exhibit 99.1, which is included herein, the following exhibits are incorporated herein by reference from the Registration Statement or, where noted, will be filed by amendment:

 

Exhibit
Number


  

Exhibit Title


  2.01   

Merger Agreement and Plan of Reorganization by and among Google Technology Inc., Bermuda Acquisition Inc., Applied Semantics Inc. and other parties signatory hereto dated as of April 18, 2003

  3.01   

Amended and Restated Certificate of Incorporation of Registrant as filed August 27, 2003

  3.01.1*   

Form of Second Amended and Restated Certificate of Incorporation of Registrant, to be filed upon the closing of the offering

  3.02   

Bylaws of Registrant

  3.02.1*   

Form of Amended and Restated Bylaws of Registrant, to be effective upon the closing of the offering

  4.01   

Third Amended and Restated Investor Rights Agreement dated May 31, 2002

  4.02*   

Specimen Class A common stock certificate

  4.03*   

Specimen Class B common stock certificate

10.01   

Form of Indemnification Agreement entered into between Registrant, its affiliates and its directors and officers

10.02   

1998 Stock Plan, as amended, and form of stock option agreement

10.03   

1999 Stock Option/Stock Incentive Plan, as amended, and form of stock option agreement

10.04   

2000 Stock Plan, as amended, and form of stock option agreement

10.05   

2003 Stock Plan, as amended, and form of stock option agreement

10.06   

2003 Stock Plan (No. 2) and form of stock option agreement

10.07   

2003 Stock Plan (No. 3) and form of stock option agreement

10.08   

2004 Stock Plan

10.09   

Google Technology Sublease Agreement dated July 9, 2003 by and between Silicon Graphics, Inc. and Registrant

10.09.1   

Amendment No. 1 to Sublease dated November 18, 2003 by and between Silicon Graphics, Inc. and Registrant

10.09.2   

Amendment No. 2 to Sublease dated December 17, 2003 by and between Silicon Graphics, Inc. and Registrant

10.09.3   

Landlord-Subtenant Agreement dated July 9, 2003 by and among WXIII/Amphitheatre Realty, L.L.C., Silicon Graphics, Inc. and Registrant

10.09.4   

Second Amendment to Commercial Lease dated July 9, 2003 by and among WXIII/Amphitheatre Realty, L.L.C., Silicon Graphics, Inc. and Registrant

10.09.5   

Amendment to Commercial Lease dated April 19, 2001 by and among the Goldman Sachs Group, Inc., Silicon Graphics, Inc. and Silicon Graphics Real Estate, Inc.

10.09.6   

Lease between the Goldman Sachs Group, Inc. and Silicon Graphics, Inc. dated December 29, 2000

10.09.7   

Nondisturbance and Attornment Agreement between Registrant and WXIII/Amphitheatre Realty, L.L.C.

10.13*   

Amended and Restated License Agreement dated October 13, 2003 by and between The Board of Trustees of the Leland Stanford Junior University and Registrant

10.14*   

Employment Agreement dated March 14, 2001 by and between Eric Schmidt and Registrant

21.01   

List of subsidiaries of Registrant

99.1   

Registration Statement on Form S-1


*   To be filed by amendment.