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J2 GLOBAL, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) Forward-Looking Information In addition to historical information, the foregoing Management's Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements. These forward-looking statements involve risks, uncertainties and assumptions. The actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including but not limited to those discussed below, the risk factors discussed in Part II, Item 1A - "Risk Factors" of this Quarterly Report on Form 10-Q (if any) and in Part I, Item 1A - "Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2011 (together, the "Risk Factors"), and the factors discussed in the section in this Quarterly Report on Form 10-Q entitled "Quantitative and Qualitative Disclosures About Market Risk." Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's opinions only as of the date hereof. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements. Readers should carefully review the Risk Factors and the risk factors set forth in other documents we file from time to time with the SEC. Some factors that could cause actual results to differ materially from those anticipated in these forward-looking statements include, but are not limited to, our ability and intention to: ? Sustain growth or profitability, particularly in light of an uncertain U.S. or worldwide economy and the related impact on customer acquisition and retention rates, customer usage levels andcredit and debit card payment declines; ? Maintain and expand our customer base and maintain or increase the average revenue per subscriber; ? Continue to expand our business and operations internationally in the wake of numerous risks, including adverse currency fluctuations, difficulty in staffing and managing international operations, higher operating costs as a percentage of revenues or theimplementation of adverse regulations; ? Maintain our financial position, operating results and cash flows in the event that we incur new or unanticipated costs or income, sales or other tax liabilities; ? Accurately estimate the assumptions underlying our effective worldwide tax rate; ? Continue to pay a comparable cash dividend on a quarterly basis; ? Maintain favorable relationships with critical third-party vendors whose financial condition will not negatively impact the services they provide; ? Manage certain risks inherent to our business, such as costs associated with fraudulent activity, a system failure or security breach of our network, effectively maintaining and managing our billing systems, time and resources required to manage our legal proceedings or adhering to our internal controls and procedures; ? Compete with other similar providers with regard to price, service and functionality; ? Cost-effectively procure, retain and deploy large quantities of telephone numbers in desired locations in the United States and abroad; ? Achieve business and financial objectives in light of burdensome domestic and international telecommunications, Internet or other regulations including data privacy, security and retention; ? Successfully manage our growth, including but not limited to our operational and personnel-related resources, and integrate newly acquired businesses; ? Successfully adapt to technological changes in the value added messaging and communications services industry; ? Successfully develop and protect our intellectual property, both domestically and internationally, including our brands, patents, trademarks and domain names, and avoid infringing upon theproprietary rights of others; ? Diversify our service offerings and derive more revenue from those services at acceptable levels of returns-on-investment; and ? Recruit and retain key personnel. In addition, our financial results could be materially impacted by risks associated with new accounting pronouncements. -22- --------------------------------------------------------------------------------Overview j2 Global, Inc. ("j2 Global", "our", "us" or "we") is a Delaware corporation founded in 1995. We provide cloud services to businesses of all sizes, from individuals to enterprises. These services, which we provide through the Internet to our customers' computers, mobile devices and telephones, deliver our customers increased sales and greater efficiency, flexibility, mobility, business continuity and security. We offer online fax, virtual phone systems, hosted email, email marketing, online backup, customer relationship management and bundled suites of these services. We market our services principally under the brand names eFax®, eVoice®, FuseMail®, Campaigner®, KeepItSafe®, LandslideCRMTM and Onebox®. We generate substantially all of our revenues from "fixed" subscription revenues for basic customer subscriptions and "variable" usage revenues generated from actual usage by our subscribers. We also generate revenues from patent licensing and sales and advertising. We categorize our services and solutions into two basic groups: direct inward-dial number ("DID") -based, which are services provided in whole or in part through a telephone number, and non-DID based, which are our other cloud services for business. As of March 31, 2012, we had approximately 2.0 million DIDs deployed to our paying subscribers, with additional DIDs in inventory. We operate in one reportable segment: cloud services for business. We market our services to a broad spectrum of prospective business customers including individuals, small to medium-sized businesses, large enterprises and government organizations. Our marketing efforts include enhancing brand awareness; utilizing online advertising, search engines and affiliate programs; and selling through both a telesales and direct sales force and cross selling. We continuously seek to extend the number of distribution channels through which we acquire paying customers and improve the cost and volume of customers obtained through our current channels. In addition to growing our business organically, we have used acquisitions to grow our customer base, expand our service offerings, enhance our technology and acquire skilled personnel. Since fiscal year 2000, we have completed 38 acquisitions in the cloud services for business industry. We continue to evaluate acquisitions on an on-going basis and expect to complete additional immaterial acquisitions in 2012. We may also pursue material acquisitions in the near term. We have a global presence with over 625 employees across 11 offices in 6 countries, and are able to market, sell and provide our services virtually anywhere in the world where access to the Internet is available. The following table sets forth certain key operating metrics for the three months ended March 31, 2012 and 2011 (in thousands, except for percentages): March 31, 2012 2011 Paying telephone numbers 2,025 1,930 Three Months Ended March 31, 2012 2011 (1) Subscriber revenues: Fixed $ 70,227 $ 57,475 Variable 14,598 15,393 Total subscriber revenues $ 84,825 $ 72,868 Percentage of total subscriber revenues: Fixed 82.8 % 78.9 % Variable 17.2 % 21.1 % Revenues: DID-based $ 78,561 $ 67,106 Non-DID-based 8,091 6,278 Total revenues $ 86,652 $ 73,384 (1) The amounts above reflect the change in estimate relating to the remaining service obligations to annual eFax® subscribers (See Note 1 - Basis of Presentation), which reduced subscriber revenues for the three months ended March 31, 2011 by $10.3 million. -23---------------------------------------------------------------------------------Critical Accounting Policies and Estimates In the ordinary course of business, we have made a number of estimates and assumptions relating to the reporting of results of operations and financial condition in the preparation of our financial statements. Actual results could differ significantly from those estimates under different assumptions and conditions. Our critical accounting policies are described in our 2011 Annual Report on Form 10-K filed with the SEC on February 28, 2012. During the three months ended March 31, 2012, there were no significant changes in our critical accounting policies and estimates. Results of Operations for the Three Months Ended March 31, 2012 Revenues Subscriber Revenues. (in thousands, except percentages) Three months ended Percentage March 31, Change 2012 2011 Subscriber Revenues $84,825 $72,868 16% Subscriber revenues consist of both a fixed monthly or annual recurring subscription component and a variable component which is driven by the actual usage of our service offerings. Over the past three calendar years, the fixed portion of our subscriber revenues has generally contributed an increasing percentage to our total subscriber revenues. This increase in subscriber revenues was due to an increase in our subscriber base and the impact of our change in estimate relating to remaining service obligations to eFax® annual subscribers (See Note 1 - Basis of Presentation) which reduced subscriber revenues for the three months ended March 31, 2011 by $10.3 million. The increase in our subscriber base resulted from new subscribers due to business acquisitions and subscribers coming directly to our websites; corporate, enterprise and government sales; and free-to-paid subscriber upgrades, in each case net of cancellations. Other Revenues. (in thousands, except percentages) Three months ended Percentage March 31, Change 2012 2011 Other Revenues $1,827 $516 254% Other revenues consist primarily of patent and technology licensing and sales revenues and advertising revenues generated by delivering email messages to our free customers on behalf of advertisers. The increase in other revenues for the three months ended March 31, 2012 resulted primarily from increased patent and technology related licensing revenues. Cost of Revenues (in thousands, except percentages) Three months ended Percentage March 31, Change 2012 2011 Cost of revenue $15,864 $15,792 -% As a percent of revenue 18% 22% (4)% Cost of revenues is primarily comprised of costs associated with data and voice transmission, DIDs, network operations, customer service, online processing fees and equipment depreciation. The increase in cost of revenues for the three months ended March 31, 2012 was primarily due to an increase in costs associated with businesses acquired in fiscal 2012 that for at least some portion of the first three months of fiscal 2012 were not yet fully integrated into j2 Global partially offset by reduced processing fees and a decrease in personnel and severance costs associated with businesses acquired in the prior comparable period. -24- -------------------------------------------------------------------------------- Operating Expenses Sales and Marketing. (in thousands, except percentages) Three months ended Percentage March 31, Change 2012 2011 Sales and Marketing $14,860 $15,511 (4)% As a percent of revenue 17% 21% (4)% Our sales and marketing costs consist primarily of Internet-based advertising, sales and marketing, personnel costs and other business development-related expenses. Our Internet-based advertising relationships consist primarily of fixed cost and performance-based (cost-per-impression, cost-per-click and cost-per-acquisition) advertising relationships with an array of online service providers. We have a disciplined return-on-investment approach to our Internet-based advertising and marketing spend, which can cause sales and marketing costs as a percentage of total revenues to vary from period to period based upon available opportunities. Advertising cost for the three months ended March 31, 2012 and 2011 was $11.7 million and $11.6 million, respectively. The decrease in sales and marketing expenses for the three months ended March 31, 2012 was primarily due to a decrease in personnel and severance costs associated with businesses acquired in comparison to the prior comparable quarter. Research, Development and Engineering. (in thousands, except percentages) Three months ended Percentage March 31, Change 2012 2011 Research, Development and Engineering $4,489 $4,772 (6)% As a percent of revenue 5% 7% (2)% Our research, development and engineering costs consist primarily of personnel-related expenses. The decrease in research, development and engineering costs for the three months ended March 31, 2012 was primarily due to a decrease in personnel and severance costs associated with businesses acquired in comparison to the prior comparable quarter. General and Administrative. (in thousands, except percentages) Three months ended Percentage March 31, Change 2012 2011 General and Administrative $13,829 $14,242 (3)% As a percent of revenue 16% 19% (3)% Our general and administrative costs consist primarily of personnel-related expenses, depreciation and amortization, share-based compensation expense, bad debt expense, professional fees and insurance costs. The decrease in general and administrative expense for the three months ended March 31, 2012 was primarily due to a decrease in personnel and severance costs associated with businesses acquired in comparison to the prior comparable quarter. -25- --------------------------------------------------------------------------------Share-Based Compensation The following table represents share-based compensation expense included in cost of revenues and operating expenses in the accompanying condensed consolidated statements of operations for the three months ended March 31, 2012 and 2011 (in thousands): Three Months Ended March 31, 2012 2011 Cost of revenues $ 242 $ 244 Operating expenses: Sales and marketing 375 348 Research, development and engineering 116 147 General and administrative 1,560 1,466 Total $ 2,293 $ 2,205 Non-Operating Income and Expenses Interest and Other Income (Expense), net. Our interest and other income (expense), net is generated primarily from interest earned on cash, cash equivalents and short-term and long-term investments and gain or losses on foreign exchange. Interest and other income (expense), net was $(0.7) million and $(0.3) million for the three months ended March 31, 2012 and 2011, respectively. The decrease in interest and other income (expense), net was primarily due to losses on foreign exchange primarily from short-term intercompany payables denominated in foreign currencies that remained unsettled. Income Taxes Our effective tax rate is based on pre-tax income, statutory tax rates, tax regulations (including those related to transfer pricing) and different tax rates in the various jurisdictions in which we operate. The tax bases of our assets and liabilities reflect our best estimate of the tax benefits and costs we expect to realize. When necessary, we establish valuation allowances to reduce our deferred tax assets to an amount that will more likely than not be realized. Provision for income taxes amounted to $8.4 million and $(8.2) million for the three months ended March 31, 2012 and 2011, respectively. Our effective tax rate was 22.6% and (36.0)% for the three months ended March 31, 2012 and 2011, respectively. The increase in our effective income tax rate for the three months ended March 31, 2012 was primarily attributable to the following: 1. a reversal during the first quarter 2011 of approximately $14.1 million of uncertain income tax positions as a result of expiring statutes of limitations; and 2. a decrease during the first quarter 2012 in the portion of our income being taxed in foreign jurisdictions and subject tolower tax rates than in the U.S.; partially offset by: 3. a decrease during the first quarter 2012 of approximately $1.4 million of uncertain income tax positions. Liquidity and Capital Resources Cash and Cash Equivalents and Investments At March 31, 2012, we had cash and investments of $193.3 million compared to $220.9 million at December 31, 2011. The decrease resulted primarily from share repurchases, dividends and business acquisitions, partially offset by cash provided by operations. At March 31, 2012, cash and investments consisted of cash and cash equivalents of $135.7 million, short-term investments of $29.1 million and long-term investments of $28.6 million. Our investments are comprised primarily of readily marketable corporate and governmental debt securities, money-market accounts and time deposits. For financial statement presentation, we classify our investments primarily as available-for-sale; thus, they are reported as short- and long-term based upon their maturity dates. Short-term investments mature within one year of the date of the financial statements and long-term investments mature one year or more from the date of the financial statements. We retain a substantial portion of our -26- -------------------------------------------------------------------------------- cash and investments in foreign jurisdictions for future reinvestment. As of March 31, 2012, cash and investments held within foreign and domestic jurisdictions were $96.6 million and $96.7 million, respectively. If we were to repatriate funds held within foreign jurisdictions, we would incur U.S. income tax on the repatriated amount at an approximate blended federal and state rate of 40%, net of a credit for foreign taxes paid on such amounts. On February 14, 2012, the Company announced that its Board of Directors had approved the declaration of a cash dividend of $0.21 per share of common stock paid on March 12, 2012 to all stockholders of record as of the close of business on February 27, 2012. On May 2, 2012, the Company's Board of Directors has approved a quarterly cash dividend of $0.215 per share of common stock paid on May 30, 2012 to all stockholders of record as of the close of business on May 16, 2012. Future dividends are subject to Board approval and certain restrictions within the Credit Agreement (the "Credit Agreement") with Union Bank, N.A. ("Lender"). We currently anticipate that our existing cash and cash equivalents and short-term investment balances and cash generated from operations will be sufficient to meet our anticipated needs for working capital, capital expenditure, investment requirements, stock repurchases and cash dividends for at least the next 12 months. Cash Flows Our primary sources of liquidity are cash flows generated from operations, together with cash and cash equivalents and short-term investments. Net cash provided by operating activities was $38.9 million and $38.2 million for the three months ended March 31, 2012 and 2011, respectively. Our operating cash flows resulted primarily from cash received from our subscribers offset by excess tax benefit from share-based compensation, cash payments we made to third parties for their services, employee compensation and tax payments. Certain tax payments are prepaid during the year and included within prepaid expenses and other current assets on the consolidated balance sheet. Our prepaid tax payments were $4.5 million and $11.0 million at March 31, 2012 and December 31, 2011, respectively. A significant portion of our subscribers pay us via credit cards and therefore our receivables from subscribers generally settle quickly. Net cash provided by investing activities was approximately $2.9 million and $0.9 million for the three months ended March 31, 2012 and 2011, respectively. For the three months ended March 31, 2012, net cash provided by investing activities was primarily attributable to the sale of available-for-sale investments partially offset by the purchase of available-for-sale investments, purchase of certificates of deposit, business acquisitions and property and equipment. For the three months ended March 31, 2011, net cash provided by investing activities was primarily attributable the sale of available-for-sale investments partially offset by the purchase of available-for-sale investments and intangible assets. Net cash (used in) provided by financing activities was approximately $(47.3) million and $2.2 million for the three months ended March 31, 2012 and 2011, respectively. For the three months ended March 31, 2012, net cash used in financing activities was primarily attributable to repurchase of stock and dividends paid partially offset by proceeds received upon the exercise of options and excess tax benefit from share-based compensation. For the three months ended March 31, 2011, net cash used in financing activities was primarily attributable to proceeds from the exercise of stock options partially offset by repurchases of stock. Contractual Obligations and Commitments The following table summarizes our contractual obligations and commitments as of March 31, 2012: Payments Due in (in thousands) Contractual Obligations 2012 2013 2014 2015 2016 Thereafter Total Operating leases (a) $ 2,284 $ 2,494 $ 2,372 $ 1,841 $ 1,629 $ 4,852 $ 15,472 Telecom services and co-location facilities (b) 3,778 2,799 218 16 - - 6,811 Computer software and related services (c) 160 215 24 - - - 399 Holdback payment (d) 698 1,218 451 - - - 2,367 Other (e) 357 107 - - - - 464 Total $ 7,277 $ 6,833 $ 3,065 $ 1,857 $ 1,629 $ 4,852 $ 25,513 ________________________ -27- --------------------------------------------------------------------------------(a) These amounts represent undiscounted future minimum rental commitments under noncancellable leases. (b) These amounts represent service commitments to various telecommunication providers. (c) These amounts represent software license commitments. (d) These amounts represent the holdback amounts in connection with certain business acquisitions. (e) These amounts primarily represent certain marketing and consulting arrangements. As of March 31, 2012, our liability for uncertain tax positions was $31.6 million. The future payments related to uncertain tax positions have not been presented in the table above due to the uncertainty of the amounts and timing of cash settlement with the taxing authorities. Credit Agreement On January 5, 2009, we entered into a Credit Agreement with Union Bank, N.A. in order to further enhance our liquidity in the event of potential acquisitions or other corporate purposes. On August 16, 2010, we entered into an amended Credit Agreement with the Lender. We have not drawn down any amounts under the Credit Agreement. See Note 8 - Commitments and Contingencies within our Annual Report on Form 10-K for the year ended December 31, 2011 for further details regarding the Credit Agreement. -28--------------------------------------------------------------------------------- |