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JCOM > SEC Filings for JCOM > Form 10-Q on 10-May-2013All Recent SEC Filings

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Form 10-Q for J2 GLOBAL, INC.


10-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

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, 2012 (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 and credit and
           debit card payment declines;


?          Maintain and increase our cloud services customer base and average
           revenue per user;


?          Generate sufficient cash flow to make interest and debt payments and
           reinvest in our business, and pursue desired activities and businesses
           plans while satisfying restrictive covenants relating to debt
           obligations;


?          Acquire businesses on acceptable terms and successfully integrate and
           realize anticipated synergies from such acquisitions;


?          Continue to expand our businesses 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 the implementation of
           adverse regulations;


?          Maintain our financial position, operating results and cash flows in
           the event that we incur new or unanticipated costs or tax liabilities,
           including those relating to federal and state income tax and indirect
           taxes, such as sales, value-added and telecommunication taxes;


?          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;


?          Create compelling digital media content causing increased traffic and
           advertising levels; additional advertisers or an increase in
           advertising spend;


?          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 and diversify services and
           related revenues at acceptable levels of financial return;

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?          Successfully develop and protect our intellectual property, both
           domestically and internationally, including our brands, patents,
           trademarks and domain names, and avoid infringing upon the proprietary
           rights of others; and

? Recruit and retain key personnel.

In addition, our financial results could be materially impacted by risks associated with new accounting pronouncements.

Overview

j2 Global, Inc., together with its subsidiaries ("j2 Global", the "Company", "our", "us" or "we"), is a leading provider of services delivered through the Internet. Through our Business Cloud Services Division, we provide cloud services to businesses of all sizes, from individuals to enterprises. Our Digital Media Division operates a portfolio of web properties providing technology, gaming and lifestyle content, using an innovative data-driven platform to connect advertisers with targeted audiences.

We generate revenues primarily from subscription and usage fees for our business cloud services and selling targeted advertising through our digital media businesses. We also generate revenues from intellectual property licensing and sales.
In addition to growing our businesses organically, we acquire businesses to grow our customer bases, expand and diversify our service offerings, enhance our technologies and acquire skilled personnel. Since December 31, 2000, and including acquisitions closed thus far in 2013 we have completed 43 acquisitions.
On November 9, 2012, we acquired Ziff Davis, Inc. ("Ziff Davis"), a company with extensive digital content holdings within the technology vertical. This acquisition expanded our operations into the digital media market, an area we believe provides attractive profit and expansion opportunities. On February 1, 2013, Ziff Davis acquired IGN Entertainment, Inc. ("IGN"), an online publisher of video game, entertainment and men's lifestyle content. For additional information on our acquisitions, see Note 3 - Business Acquisitions in the Notes to Condensed Consolidated Financial Statements included elsewhere in this Quarterly Report on Form 10-Q.
j2 Global was founded in 1995 and is a Delaware corporation. We manage our operations through two business segments: Business Cloud Services and Digital Media. Information regarding revenue and operating income attributable to each of our reportable segments is included within Note 13 - Segment Information of the Notes to Condensed Consolidated Financial Statements included elsewhere in this Quarterly Report on Form 10-Q, which is incorporated herein by reference. Our Business Cloud Services revenues are impacted by the number of effective business days in a given period. We traditionally experience lower than average Business Cloud Services usage and customer sign-ups in the fourth quarter. Revenues associated with our Digital Media operations are subject to seasonal fluctuations, becoming most active during the fourth quarter holiday period due to increased online retail activity.
Business Cloud Services Segment Performance Metrics

The following table sets forth certain key operating metrics for our Business Cloud Services segment as of and for the three months ended March 31, 2013 and 2012 (in thousands, except for percentages):

March 31,
2013 2012
Paying telephone numbers 2,155 2,025

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                                                              Three Months Ended March 31,
                                                               2013                   2012
Subscriber revenues:
Fixed                                                   $         71,387       $         70,227
Variable                                                          18,115                 14,598
Total subscriber revenues                               $         89,502       $         84,825
Percentage of total subscriber revenues:
Fixed                                                               79.8 %                 82.8 %
Variable                                                            20.2 %                 17.2 %
Subscriber revenues:
DID-based                                               $         82,502       $         78,487
Non-DID-based                                                      7,000                  6,338
Total subscriber revenues                               $         89,502       $         84,825

Average revenue per paying telephone number (ARPU)(1)   $          12.98       $          12.85
Cancel Rate(2)                                                       2.4 %                  2.4 %

(1) Quarterly ARPU is calculated using our standard convention of applying the average of the quarter's beginning and ending base to the total revenue for the quarter.

(2) Cancel rate is defined as cancels related to individual customer DIDs with greater than four months of continuous service (continuous service includes customer DIDs which are administratively canceled and reactivated within the same calendar month).

Digital Media Segment Performance Metrics

Our Digital Media segment was established with our fourth quarter 2012
acquisition of Ziff Davis. As a result, the following performance metrics for
our Digital Media segment for the three months ended March 31, 2013 are
presented with no prior comparable period (in millions):
           Three Months Ended March 31,
                       2013
Visits                              377
Page views                        1,249

Source: Omniture; Google Analytics

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 2012 Annual Report on Form 10-K filed with the SEC on March 1, 2013. During the three months ended March 31, 2013, there were no significant changes in our critical accounting policies and estimates.

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Results of Operations for the Three Months Ended March 31, 2013

Revenues

(in thousands, except percentages) Percentage Three Months Ended March 31, Change 2013 2012 Revenues $113,617 $86,652 31%

Our revenues consist of revenues from our Business Cloud Services segment and from our Digital Media segment. Business Cloud Services revenues primarily consist of revenues from "fixed" customer subscription revenues and "variable" revenues generated from actual usage of our services. We also generate Business Cloud Services revenues from intellectual property licensing and sales, and advertising.

Digital Media revenues primarily consist of advertising revenues, fees paid for generating business leads, and licensing and sale of editorial content and trademarks.

Our revenues have increased primarily due to the acquisitions of Ziff Davis and IGN in the Digital Media segment and an increase in our Business Cloud Services subscriber base due to business acquisitions and customer sign ups, net of cancellations.

Cost of Revenues

(in thousands, except percentages)                                    Percentage
                                     Three Months Ended March 31,       Change
                                        2013              2012
Cost of revenue                       $20,235           $15,864          28%
As a percent of revenue                 18%               18%             -%

Cost of revenues is primarily comprised of costs associated with data and voice transmission, DIDs, network operations, customer service, editorial and production costs, online processing fees and equipment depreciation. The increase in cost of revenues for the three months ended March 31, 2013 was primarily due to an increase in costs associated with the acquisitions of Ziff Davis and IGN within the Digital Media segment and other immaterial acquisitions within the Business Cloud Services segment.

Operating Expenses

Sales and Marketing.

(in thousands, except percentages)                                    Percentage
                                     Three Months Ended March 31,       Change
                                        2013              2012
Sales and Marketing                   $29,638           $14,860          99%
As a percent of revenue                 26%               17%             9%

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. Advertising cost for the three months ended March 31, 2013 and 2012 was $14.3 million and $11.7 million, respectively. The increase in sales and marketing expenses for the three months ended March 31, 2013 was primarily due to additional personnel and severance costs associated with the acquisition of Ziff Davis and IGN in the Digital Media segment and other immaterial acquisitions within the Business Cloud segment and an increase in advertising in comparison to the prior comparable quarter.

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Research, Development and Engineering.
(in thousands, except percentages)                                      Percentage
                                       Three Months Ended March 31,       Change
                                          2013              2012
Research, Development and Engineering    $6,746            $4,489          50%
As a percent of revenue                    6%                5%             1%

Our research, development and engineering costs consist primarily of personnel-related expenses. The increase in research, development and engineering costs for the three months ended March 31, 2013 was primarily due to additional personnel and severance costs associated with the acquisition of Ziff Davis and IGN in the Digital Media segment in comparison to the prior comparable quarter.

General and Administrative.
(in thousands, except percentages)                                    Percentage
                                     Three Months Ended March 31,       Change
                                        2013              2012
General and Administrative            $24,011           $13,829          74%
As a percent of revenue                 21%               16%             5%

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 increase in general and administrative expense for the three months ended March 31, 2013 was primarily due to additional personnel costs, severance costs and amortization of intangible assets associated with the acquisition of Ziff Davis and IGN in the Digital Media segment and other acquisitions within the Business Cloud segment in comparison to the prior comparable quarter.

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, 2013 and 2012 (in
thousands):
                                             Three Months Ended March 31,
                                                   2013                   2012
Cost of revenues                      $           214                   $   242
Operating expenses:
Sales and marketing                               418                       375
Research, development and engineering             106                       116
General and administrative                      1,610                     1,560
Total                                 $         2,348                   $ 2,293

Non-Operating Income and Expenses

Interest and Other Income (Expense), net. Our interest and other income (expense), net is generated primarily from interest charged on outstanding debt; gain or loss on foreign exchange; and interest earned on cash, cash equivalents and short-term and long-term investments. Interest and other income (expense), net was $(4.7) million and $(0.7) million for the three months ended March 31, 2013 and 2012, respectively. The change in interest and other income (expense), net for the three months ended March 31, 2013 was primarily due to interest accrued on the outstanding debt issued in July 2012 partially offset by a gain on foreign exchange primarily from short-term intercompany balances denominated in foreign currencies that remained unsettled.

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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 $5.5 million and $8.4 million for the three months ended March 31, 2013 and 2012, respectively. Our effective tax rate was 19.5% and 22.6% for the three months ended March 31, 2013 and 2012, respectively. The decrease in our effective income tax rate for the three months ended March 31, 2013 was primarily attributable to the following:

1. a decrease in the valuation allowance for the U.S. federal foreign tax credit;

2. an increase in foreign tax credits;

3. an increase in the U.S. federal domestic production activities deduction; and

4. a reversal of uncertain income tax positions for the 2008 U.S. federal domestic production activities deduction; partially offset by:

5. an increase in Subpart F income; and

6. an increase in the portion of our income being taxed in foreign jurisdictions to foreign jurisdictions with higher tax rates than the previous comparable period.

Segment Results
Our business segments are based on the organization structure used by management for making operating and investment decisions and for assessing performance. Our reportable business segments are: (i) Business Cloud Services; and (ii) Digital Media.
We evaluate the performance of our operating segments based on segment revenues, including both external and inter-segment net sales, and segment operating income. We account for inter-segment sales and transfers based primarily on standard costs with reasonable mark-ups established between the segments. Identifiable assets by segment are those assets used in the respective reportable segment's operations. Corporate assets consist of cash and cash equivalents, deferred income taxes and certain other assets. All significant inter-segment amounts are eliminated to arrive at our consolidated financial results.
Business Cloud Services
Prior to the acquisition of Ziff Davis on November 9, 2012, we operated as one segment which is now the Business Cloud Services segment. The following segment results are presented for the three months ended March 31, 2013 and 2012 (in thousands):

                         Three Months Ended    Three Months Ended
                              March 31,            March 31,
                                2013                  2012                    Change
External net sales       $          90,739     $         86,652     $      4,087          4.7 %
Inter-segment net sales                  -                    -                -            - %
Segment net sales                   90,739               86,652            4,087          4.7 %
Cost of revenues                    16,643               15,864              779          4.9 %
Gross profit                        74,096               70,788            3,308          4.7 %
Operating expenses                  29,439               26,661            2,778         10.4 %
Segment operating income $          44,657     $         44,127     $        530          1.2 %

Segment net sales of $90.7 million for the three months ended March 31, 2013 increased $4.1 million, or 4.7%, from the prior comparable period primarily due to an increase in our subscriber base partially offset by a decrease in patent and technology related licensing revenues.

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Segment gross profit of $74.1 million for the three months ended March 31, 2013 increased $3.3 million from the prior comparable period primarily due to an increase in net sales between the periods. The gross profit as a percentage of revenues for the three months ended March 31, 2013 was consistent with the prior comparable period.
Segment operating expenses of $29.4 million in 2013 increased $2.8 million from 2012 primarily due to (a) an increase in sales and marketing costs primarily due to additional advertising and (b) additional amortization of intangible assets associated with businesses acquired in and subsequent to 2012.
As a result of these factors, segment operating income of $44.7 million for the three months ended March 31, 2013 increased $0.5 million, or 1.2%, from the prior comparable period.
Digital Media
Our Digital Media segment was established with our fourth quarter of 2012 acquisition of Ziff Davis. As a result, the following segment results are presented with no prior comparable period (in thousands):

                        Three Months Ended March 31,
                                    2013
External net sales     $                   22,878
Intersegment net sales                         29
Segment net sales                          22,907
Cost of revenues                            3,593
Gross profit                               19,314
Operating expenses                         23,310
Segment operating loss $                   (3,996 )

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Liquidity and Capital Resources

Cash and Cash Equivalents and Investments

At March 31, 2013, we had cash and investments of $310.1 million compared to $343.6 million at December 31, 2012. The decrease resulted primarily from business acquisitions and dividends paid, partially offset by cash provided by operations. At March 31, 2013, cash and investments consisted of cash and cash equivalents of $193.1 million, short-term investments of $100.8 million and long-term investments of $16.1 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. Short-term investments include restricted balances that we may not liquidate until maturity, generally within 12 months. Restricted balances included in short-term investments were $20.4 million at March 31, 2013. We retain a substantial portion of our cash and investments in foreign jurisdictions for future reinvestment. As of March 31, 2013, cash and investments held within foreign and domestic jurisdictions were $178.8 million and $131.2 million, respectively. If we were to repatriate funds held within foreign jurisdictions, we would incur U.S. income tax on the repatriated amount at the federal statutory rate of 35% and the state statutory rate where applicable, net of a credit for foreign taxes paid on such amounts.

On May 7, 2013, our Board of Directors declared a quarterly cash dividend of $0.24 per share of common stock payable on June 4, 2013 to all stockholders of record as of the close of business on May 20, 2013. On February 12, 2013, our Board of Directors declared a quarterly cash dividend of $0.2325 per share of common stock which was paid on March 4, 2013 to all stockholders of record as of the close of business on February 25, 2013. Future dividends are subject to Board approval and certain restrictions within the Credit Agreement, as amended (the "Credit Agreement"), with Union Bank, N.A. (the "Lender") and within the Indenture relating to the debt issuance referenced below, a copy of which the Company filed with the SEC as an exhibit to its Current Report on Form 8-K on July 26, 2012.

On July 26, 2012, we completed the sale in a private offering of $250 million in aggregate principal amount of 8.0% senior unsecured notes due 2020. The net proceeds of the sale were $243.7 million after deducting the initial purchaser's discounts, commissions and expenses of the offering. We are using the net proceeds from the offering for general corporate purposes, including acquisitions.

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 $40.0 million and $38.9 million for the . . .

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