As filed with the Securities and Exchange Commission on August 7, 2009
UNITED STATESSECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
FORM 10-Q
Commission File No. 0-20570
IAC/INTERACTIVECORP (Exact name of registrant as specified in its charter)
555 West 18th Street, New York, New York 10011 (Address of registrant's principal executive offices)
(212) 314-7300 (registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of "accelerated filer," "large accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No ý
As of July 24, 2009, the following shares of the registrant's common stock were outstanding:
Common Stock
Class B Common Stock
Total outstanding Common Stock
The aggregate market value of the voting common stock held by non-affiliates of the registrant as of July 24, 2009 was $1,641,167,140. For the purpose of the foregoing calculation only, all directors and executive officers of the registrant are assumed to be affiliates of the registrant.
PART I—FINANCIAL STATEMENTS
Item 1. Consolidated Financial Statements
IAC/INTERACTIVECORP AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET
ASSETS
Cash and cash equivalents
Marketable securities
Accounts receivable, net of allowance of $10,235 and $11,396, respectively
Other current assets
Total current assets
Property and equipment, net
Goodwill
Intangible assets, net
Long-term investments
Other non-current assets
TOTAL ASSETS
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Accounts payable, trade
Deferred revenue
Accrued expenses and other current liabilities
Total current liabilities
Long-term debt
Income taxes payable
Other long-term liabilities
Redeemable noncontrolling interest
Commitments and contingencies
SHAREHOLDERS' EQUITY:
Common stock $.001 par value; authorized 1,600,000,000 shares; issued 222,343,626 and 210,217,183 shares, respectively, and outstanding 124,642,114 and 127,809,801 shares, respectively
Class B convertible common stock $.001 par value; authorized 400,000,000 shares; issued 16,157,499 shares and outstanding 12,799,999 shares
Additional paid-in capital
Retained earnings
Accumulated other comprehensive income
Treasury stock 97,701,512 and 82,407,382 shares, respectively
Total shareholders' equity
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
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IAC/INTERACTIVECORP AND SUBSIDIARIES CONSOLIDATED STATEMENT OF OPERATIONS (Unaudited)
Revenue
Costs and expenses:
Cost of revenue (exclusive of depreciation shown separately below)
Selling and marketing expense
General and administrative expense
Product development expense
Depreciation
Amortization of non-cash marketing
Amortization of intangibles
Goodwill impairment
Total costs and expenses
Operating income (loss)
Other income (expense):
Interest income
Interest expense
Equity in (losses) income of unconsolidated affiliates
(Loss) gain on sale of long-term investments
Other income (expense)
Total other income (expense), net
Earnings (loss) from continuing operations before income taxes
Income tax (provision) benefit
Earnings (loss) from continuing operations
Gain on sale of a discontinued operation, net of tax
Loss from discontinued operations, net of tax
Net earnings (loss)
Net loss attributable to noncontrolling interest
Net earnings (loss) attributable to IAC shareholders
Per share information attributable to IAC shareholders:
Basic earnings (loss) per share from continuing operations
Diluted earnings (loss) per share from continuing operations
Basic earnings (loss) per share
Diluted earnings (loss) per share
Non-cash compensation expense by function:
Cost of revenue
Total non-cash compensation expense
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IAC/INTERACTIVECORP AND SUBSIDIARIES CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (Unaudited)
Balance as of December 31, 2008
Comprehensive income:
Net earnings attributable to IAC shareholders for the six months ended June 30, 2009
Foreign currency translation, net of tax benefit of $237
Net unrealized gains on available-for-sale securities, net of tax provision of $20,634
Net unrealized gains recognized into earnings in connection with the sale and maturities of available-for-sale securities
Comprehensive income
Non-cash compensation expense
Issuance of common stock upon exercise of stock options, vesting of restricted stock units and other, net of withholding taxes
Income tax provision related to the exercise of stock options, vesting of restricted stock units and other
Issuance of common stock upon the exercise of warrants
Purchase of treasury stock
Fair value of redeemable noncontrolling interest adjustment
Equity award modification to settle a vested stock award for cash
Balance as of June 30, 2009
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IAC/INTERACTIVECORP AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS (Unaudited)
Cash flows from operating activities attributable to continuing operations:
Less: loss from discontinued operations, net of tax
Adjustments to reconcile earnings (loss) from continuing operations to net cash provided by operating activities attributable to continuing operations:
Impairment of long-term investments
Deferred income taxes
Equity in losses (income) of unconsolidated affiliates
Gain on sale of Match Europe
Loss (gain) on sale of long-term investments
Net decrease (increase) in the fair value of the derivatives created in the HSE sale and the Expedia spin-off
Changes in current assets and liabilities:
Accounts receivable
Accounts payable and other current liabilities
Other, net
Net cash provided by operating activities attributable to continuing operations
Cash flows from investing activities attributable to continuing operations:
Acquisitions, net of cash acquired
Capital expenditures
Proceeds from sales and maturities of marketable securities
Purchases of marketable securities
Proceeds from sales of long-term investments
Purchases of long-term investments
Proceeds from sale of a discontinued operation
Receivable created in the sale of Match Europe
Net cash (used in) provided by investing activities attributable to continuing operations
Cash flows from financing activities attributable to continuing operations:
Issuance of common stock, net of withholding taxes
Excess tax benefits from stock-based awards
Net cash used in financing activities attributable to continuing operations
Total cash (used in) provided by continuing operations
Net cash (used in) provided by operating activities attributable to discontinued operations
Net cash used in investing activities attributable to discontinued operations
Net cash used in financing activities attributable to discontinued operations
Total cash used in discontinued operations
Effect of exchange rate changes on cash and cash equivalents
Net decrease in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
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IAC/INTERACTIVECORP AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1—THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations
IAC operates more than 50 leading and diversified Internet businesses across 30 countries... our mission is to harness the power of interactivity to make daily life easier and more productive for people all over the world. IAC includes the businesses comprising its Media & Advertising segment; its Match and ServiceMagic segments; the businesses comprising its Emerging Businesses segment; and certain investments in unconsolidated affiliates.
All references to "IAC," the "Company," "we," "our" or "us" in this report are to IAC/InterActiveCorp.
Basis of Presentation
The consolidated financial statements include the accounts of the Company, all entities that are wholly-owned by the Company and all voting controlled subsidiaries or affiliates of the Company. The Company has no variable interest entities. Intercompany transactions and accounts have been eliminated. Investments in entities in which the Company has the ability to exercise significant influence, but does not own a controlling voting interest, are accounted for using the equity method and are included in "Long-term investments" in the accompanying consolidated balance sheet.
The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and with the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all of the information and notes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Interim results are not necessarily indicative of the results that may be expected for a full year. The accompanying unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K, as amended, for the year ended December 31, 2008.
Use of Estimates
Management is required to make certain estimates and assumptions during the preparation of the consolidated financial statements in accordance with U.S. generally accepted accounting principles. These estimates and assumptions impact the reported amount of assets and liabilities and disclosures of contingent assets and liabilities as of the date of the consolidated financial statements. They also impact the reported amount of net earnings during any period. Actual results could differ from those estimates.
Significant estimates and assumptions used in the preparation of the accompanying consolidated financial statements include those related to: the determination of the fair value of marketable securities; the assessment of marketable securities and long-term investments for other-than-temporary impairment; the carrying value of accounts receivable, including the determination of allowances for doubtful accounts and other revenue related allowances; the assessment of long-lived assets, definite-lived intangible assets, indefinite-lived intangible assets and goodwill for impairment; income taxes payable and deferred income taxes, including related reserves and valuation allowances; and the determination of stock-based compensation.
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IAC/INTERACTIVECORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
NOTE 1—THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Goodwill and Indefinite-Lived Intangible Assets
In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"), goodwill acquired in business combinations is assigned to the reporting units that are expected to benefit from the combination as of the acquisition date. The Company tests goodwill and indefinite-lived intangible assets for impairment annually as of October 1, or more frequently if events or changes in circumstances indicate that the assets might be impaired. If the carrying amount of a reporting unit's goodwill exceeds its implied fair value, an impairment loss equal to the excess is recorded. If the carrying amount of an indefinite-lived intangible asset exceeds its estimated fair value, an impairment loss equal to the excess is recorded.
The Company's reporting units are consistent with its determination of its operating segments. Goodwill is tested for impairment at the reporting unit level. The Company's operating segments, reporting units and reportable segments are as follows:
See Note 7 for additional information regarding the Company's method of determining operating and reportable segments.
Certain reporting units are currently operating in dynamic industry segments. These include IAC Search & Media and InstantAction.com. If actual operating results of these businesses vary significantly from anticipated results, future impairments of goodwill and/or other intangible assets could occur. To illustrate the magnitude of potential impairment charges relative to future changes in estimated fair value, had the estimated fair value of each of these reporting units been hypothetically lower by 10% as of October 1, 2008, the aggregate book value of goodwill would have exceeded fair value by approximately $140 million at IAC Search & Media and $4 million at InstantAction.com. Had the estimated fair values of each of these reporting units been hypothetically lower by 20% as of October 1, 2008, the book value of goodwill would have exceeded fair value by approximately $330 million at IAC Search & Media and $8 million at InstantAction.com.
Investment in Arcandor AG and Related Derivative Asset
As part of the consideration for the sale of Home Shopping Europe GmbH & Co. KG, and its affiliated station HSE24 ("HSE") to Arcandor AG ("ARO") on June 19, 2007, IAC received from ARO approximately 5.5 million shares of ARO stock plus additional consideration in the form of a contingent value right ("CVR"). ARO shares are listed on the German stock exchange (XETRA: ARO) and as a result, IAC is exposed to changes in ARO's stock price. ARO filed for insolvency on June 9, 2009. This filing accelerates the maturity date of the CVR and fixed its redemption value, which was dependent on the value of the 5.5 million shares of ARO stock, at €54 million. The ARO stock is an available-for-sale marketable equity security that is accounted for in accordance with SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS No. 115"). The CVR is accounted for as a derivative asset. During the second quarter of 2009, the Company sold
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4.3 million shares of ARO stock, resulting in a loss of $12.3 million and concluded that the decline in the price of the remaining 1.1 million shares of ARO stock was other-than-temporary and wrote the value of the remaining shares of ARO stock down to €0.61 per share, the ARO stock price on June 30, 2009, resulting in a $3.9 million impairment charge. At June 30, 2009, the carrying value of the Company's 1.1 million shares of ARO stock was $1.0 million. In addition, the Company recorded a $38.2 million impairment charge related to the CVR based upon the Company's assessment of the CVR's fair value at June 30, 2009 of €13.4 million or $18.9 million. The Company will continue to monitor the progress of the insolvency proceedings of ARO in the coming months and will reassess the fair value of the CVR each reporting period.
During the second and fourth quarters of 2008, the Company concluded that the decline in the ARO stock price was other-than-temporary and wrote the value of the 5.5 million shares of ARO stock down resulting in impairment charges of $132.6 million and $34.1 million, respectively. The 2008 impairment charges were determined to be other-than-temporary due to the significant decline in, and the Company's assessment of the near-to-medium term prospects for a recovery of, the ARO stock price. At December 31, 2008 the carrying value of the Company's 5.5 million shares of ARO stock was $23.8 million.
Recent Accounting Pronouncements
In April 2009, the Financial Accounting Standards Board ("FASB") issued FSP FAS No. 107-1 and Accounting Principles Board ("APB") Opinion No. 28-1 ("FSP FAS No. 107-1 and APB No. 28-1"), "Interim Disclosures about Fair Value of Financial Instruments", which amends SFAS No. 107, "Disclosures about Fair Value of Financial Instruments", and requires disclosures about the fair value of financial instruments for interim reporting periods as well as in annual financial statements. This FSP also amends APB Opinion No. 28, "Interim Financial Reporting", to require these disclosures in all interim financial statements. FSP FAS No. 107-1 and APB No. 28-1 is effective for interim reporting periods ending after June 15, 2009. The adoption of FSP FAS No. 107-1 and APB No. 28-1 did not have a material impact on the Company's consolidated financial position, results of operations or cash flows.
In April 2009, the FASB issued FSP FAS 115-2 and FAS 124-2, "Recognition and Presentation of Other-Than-Temporary Impairments". FSP FAS 115-2 and FAS 124-2 revises the guidance for determining and when to recognize other-than-temporary impairments of debt securities for which changes in fair value are not regularly recognized in earnings and the financial statement presentation of such impairments. FSP FAS 115-2 and FAS 124-2 is effective for interim reporting periods ending after June 15, 2009. The adoption of FSP FAS 115-2 and FAS 124-2 did not have a material impact on the Company's consolidated financial position, results of operations or cash flows.
In May 2009, the FASB issued SFAS No. 165, "Subsequent Events" ("SFAS No. 165"). SFAS No. 165 establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before the date that the financial statements are issued or are available to be issued. SFAS No. 165 requires disclosure of the date through which an entity has evaluated subsequent events. SFAS No. 165 is effective for interim and annual periods ending after June 15, 2009. In accordance with SFAS No. 165, the Company has evaluated, for potential recognition and disclosure, events that have occurred prior to the filing of the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2009 on August 7, 2009, the date of issuance of the Company's financial statements.
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Concentration of Credit Risk
A significant component of our revenue is 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 or advertiser spending behavior, including those changes that may result from the current economic downturn, could adversely affect our operating results. A component of IAC's revenue is attributable to a paid listing supply agreement with Google, which was renewed in late 2007 and expires on December 31, 2012. For the three and six months ended June 30, 2009, such revenue was $136.1 million and $265.4 million, respectively. Principally all of this revenue is earned by IAC Search & Media. Accounts receivable, net of allowances related to this agreement totaled $46.9 million at June 30, 2009 and $43.0 million at December 31, 2008.
Reclassifications
Effective January 1, 2009, the Company adopted SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statements—an amendment of Accounting Research Bulletin No. 51" ("SFAS No. 160"). SFAS No. 160 changed the accounting for and reporting of minority interest (also referred to as noncontrolling interest) in the Company's consolidated financial statements. Upon adoption, such noncontrolling interests in consolidated subsidiaries of the Company are reported on the consolidated balance sheet within shareholders' equity, separately from the Company's equity. However, in accordance with FASB Emerging Issues Task Force Topic No. D-98, "Classification and Measurement of Redeemable Securities," securities that are redeemable at the option of the holder and not solely within the control of the issuer, must be classified outside of shareholders' equity. Since the redemption of the Company's noncontrolling interests is outside the control of IAC, these interests are included in the mezzanine section of the accompanying consolidated balance sheet, outside of shareholders' equity. Upon adoption of SFAS No. 160, certain prior period amounts were reclassified to conform to the current period financial statement presentation.
The following table presents the changes in redeemable noncontrolling interest (in thousands):
Balance at January 1, 2009
Noncontrolling interest on recent acquisitions
Contribution from owners
Foreign currency translation adjustment
Other
Balance at June 30, 2009
The accompanying unaudited consolidated statements of operations for the three and six months ended June 30, 2008 and cash flows for the six months ended June 30, 2008 have been reclassified to present HSN, Inc. ("HSNi"), Interval Leisure Group, Inc. ("ILG"), Ticketmaster Entertainment, Inc. ("Ticketmaster") and Tree.com, Inc. ("Tree.com"), which were spun-off into separate independent public companies on August 20, 2008 (the "Spin-Off"), as discontinued operations.
Certain prior period amounts have been reclassified to conform to the current year presentation.
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NOTE 2—CONSOLIDATED FINANCIAL STATEMENT DETAILS
Property and equipment, net is comprised of (in thousands):
Buildings and leasehold improvements
Computer equipment and capitalized software
Furniture and other equipment
Projects in progress
Land
Less: accumulated depreciation and amortization
Accumulated other comprehensive income, net of tax, is comprised of (in thousands):
Foreign currency translation, net of tax
Unrealized gains (losses) on available-for-sale securities, net of tax
Accumulated other comprehensive income, net of tax
Revenue is comprised of (in thousands):
Service revenue
Product revenue
Other income (expense) is comprised of (in thousands):
Net (decrease) increase in the fair value of the derivative created in the HSE sale
Net (decrease) increase in the fair value of the derivatives created in Expedia spin-off
Impairment of shares of ARO stock
Other (expense) income
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NOTE 2—CONSOLIDATED FINANCIAL STATEMENT DETAILS (Continued)
Comprehensive income (loss)
Comprehensive income (loss) is comprised of (in thousands):
Net unrealized gains (losses) on available-for-sale securities, net of tax
Net unrealized losses (gains) recognized into earnings in connection with the sale and maturities of available-for-sale securities
Unrealized losses recognized into earnings in connection with the impairment of available-for-sale securities
Other comprehensive income
NOTE 3—INCOME TAXES
The Company calculates its interim income tax provision in accordance with Accounting Principles Board Opinion No. 28 and FASB Interpretation No. 18. At the end of each interim period, the Company makes its best estimate of the annual expected effective tax rate and applies that rate to its ordinary year-to-date earnings or loss. The income tax provision or benefit related to significant, unusual, or extraordinary items that will be separately reported or reported net of their related tax effect are individually computed and recognized in the interim period in which those items occur. In addition, the effect of changes in enacted tax laws or rates, tax status, or judgment on the realizability of a beginning-of-the-year deferred tax asset in future years is recognized in the interim period in which the change occurs.
The computation of the annual expected effective tax rate at each interim period requires certain estimates and assumptions including, but not limited to, the expected operating income (or loss) for the year, projections of the proportion of income (or loss) earned and taxed in foreign jurisdictions, permanent and temporary differences, and the likelihood of recovering deferred tax assets generated in the current year. The accounting estimates used to compute the provision or benefit for income taxes may change as new events occur, more experience is acquired, additional information is obtained or our tax environment changes. To the extent that the estimated annual effective tax rate changes during a quarter, the effect of the change on prior quarters is included in tax expense for the quarter in which the change occurs. Included in the income tax provision for the three months ended June 30, 2009 is a benefit of $22.1 million due to a higher estimated annual effective tax rate from that applied to the first quarter's ordinary loss from continuing operations. The higher estimated annual effective tax rate was primarily due to the increased impact that forecasted nondeductible and non-taxable items had on a change in forecasted ordinary pre-tax income.
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NOTE 3—INCOME TAXES (Continued)
For the three and six months ended June 30, 2009, the Company recorded an income tax provision for continuing operations of $22.1 million and $19.5 million, respectively, which represent effective tax rates of 34% and 60%, respectively. The tax rate for the three months ended June 30, 2009 is lower than the federal statutory rate of 35% due principally to benefits related to a change in the estimated annual effective tax rate and foreign tax credits related to the sale of Match Europe, substantially offset by non-deductible goodwill associated with the sale of Match Europe, an increase in reserves and related interest for tax contingencies, an increase in the valuation allowance on deferred tax assets related to losses from equity investments and impairments of the Company's shares of ARO stock and the related CVR. The tax rate for the six months ended June 30, 2009 is higher than the federal statutory rate of 35% due principally to non-deductible goodwill associated with the sale of Match Europe, an increase in reserves and related interest for tax contingencies, and an increase in valuation allowances on deferred tax assets related to the impairments of the Company's shares of ARO stock and the related CVR, offset by foreign tax credits related to the sale of Match Europe.
For the three and six months ended June 30, 2008, the Company recorded an income tax benefit for continuing operations of $22.3 million and $18.2 million, respectively, which represent effective tax rates of 21% and 17%, respectively. The tax rates for the three and six months ended June 30, 2008 are lower than the federal statutory rate of 35% due principally to the establishment of a valuation allowance on deferred tax assets related to the ARO stock impairment, non-deductible costs related the Spin-Off, and interest on tax contingencies, partially offset by lower state and foreign income taxes.
At June 30, 2009 and December 31, 2008, unrecognized tax benefits, including interest, were $427.8 million and $422.3 million, respectively. Total unrecognized tax benefits as of June 30, 2009 include $15.9 million that have been netted against the related deferred tax assets. Of the remaining balance, $411.8 million and $0.1 million are reflected in "non-current income taxes payable" and "accrued expenses and other current liabilities", respectively. Unrecognized tax benefits for the six months ended June 30, 2009 increased by $5.5 million due principally to interest and a net increase in state and local tax reserves, partially offset by the reversal of deductible temporary differences. Included in unrecognized tax benefits at June 30, 2009 is $122.5 million for tax positions which the ultimate deductibility is highly certain but for which there is uncertainty about the timing of such deductibility. If unrecognized tax benefits as of June 30, 2009 are subsequently recognized, $72.1 million and $181.7 million, net of related deferred tax assets and interest, would reduce income tax expense from continuing operations and discontinued operations, respectively. In addition, a continuing operations tax provision of $14.0 million would be required upon the subsequent recognition of unrecognized tax benefits for an increase in the Company's valuation allowance against certain deferred tax assets.
The Company recognizes interest and, if applicable, penalties related to unrecognized tax benefits in income tax expense. Included in the income tax expense for continuing operations for the three and six months ended June 30, 2009 is a $2.4 million expense, net of related deferred taxes of $1.6 million, and a $5.0 million expense, net of related deferred taxes of $3.3 million, respectively, for interest on unrecognized tax benefits. At June 30, 2009 and December 31, 2008, the Company has accrued $58.4 million and $49.7 million, respectively, for the payment of interest. Included in the income tax expense for continuing operations for both the three and six months ended June 30, 2009 is a $3.1 million expense for penalties on unrecognized tax benefits. At June 30, 2009 and December 31, 2008, the Company has accrued $5.0 million and $0.6 million, respectively, for penalties.
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The Company is routinely under audit by federal, state, local and foreign authorities in the area of income tax. These audits include questioning the timing and the amount of deductions and the allocation of income among various tax jurisdictions. Income taxes payable include amounts considered sufficient to pay assessments that may result from examination of prior year tax returns; however, the amount paid upon resolution of issues raised may differ from the amount provided. Differences between the reserves for tax contingencies and the amounts owed by the Company are recorded in the period they become known.
The Internal Revenue Service is currently examining the Company's tax returns for the years ended December 31, 2001 through 2006. The statute of limitations for these years has been extended to December 31, 2010. Various state, local and foreign jurisdictions are currently under examination, the most significant of which are California, Florida, New York and New York City, for various tax years beginning with December 31, 2001. These examinations are expected to be completed by 2010. The Company believes that it is reasonably possible that its unrecognized tax benefits could decrease by $12.9 million within twelve months of the current reporting date primarily due to the reversal of deductible temporary differences which will primarily result in a corresponding increase in net deferred tax liabilities. An estimate of other changes in unrecognized tax benefits, while potentially significant, cannot be made.
NOTE 4—GOODWILL AND INTANGIBLE ASSETS
The balance of goodwill and intangible assets, net is as follows (in thousands):
Intangible assets with indefinite lives
Intangible assets with definite lives, net
Total goodwill and intangible assets, net
The following table presents the balance of goodwill by segment, including the changes in the carrying amount of goodwill, for the six months ended June 30, 2009 (in thousands):
Media & Advertising
Match
ServiceMagic
Emerging Businesses
Total
Additions relate to acquisitions. Deductions principally relate to the sale of Match Europe on June 5, 2009 and the sale of ReserveAmerica on January 31, 2009.
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NOTE 4—GOODWILL AND INTANGIBLE ASSETS (Continued)
Intangible assets with indefinite lives relate to trade names and trademarks acquired in various acquisitions. At June 30, 2009, intangible assets with definite lives relate to the following (in thousands):
Technology
Supplier agreements
Distribution agreements
Customer lists
At December 31, 2008, intangible assets with definite lives relate to the following (in thousands):
Amortization of intangible assets with definite lives is computed on a straight-line basis and, based on December 31, 2008 balances, such amortization for the next five years and thereafter is estimated to be as follows (in thousands):
2009
2010
2011
2012
2013
2014
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NOTE 5—MARKETABLE SECURITIES
At June 30, 2009, available-for-sale marketable securities were as follows (in thousands):
Corporate debt securities
States of the U.S. and state political subdivisions
Other fixed term obligations
Total debt securities
Total marketable securities
The net unrealized gain is included in accumulated other comprehensive income at June 30, 2009. The proceeds from sales and maturities of available-for-sale marketable securities were $32.2 million, which resulted in gross realized gains of $0.2 million for the three months ended June 30, 2009. The proceeds from sales and maturities of available-for-sale marketable securities were $58.6 million, which resulted in gross realized gains of $0.4 million for the six months ended June 30, 2009. The net realized gains are included in "Other income (expense)" in the accompanying consolidated statement of operations.
The contractual maturities of debt securities classified as available-for-sale at June 30, 2009 are as follows (in thousands):
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due over ten years
The following table summarizes those investments with unrealized losses at June 30, 2009 that have been in a continuous unrealized loss position for less than twelve months and those in a continuous unrealized loss position for twelve months or longer (in thousands):
Substantially all of the Company's fixed income securities are rated investment grade or better. The gross unrealized losses related to fixed income securities were due primarily to changes in credit
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NOTE 5—MARKETABLE SECURITIES (Continued)
quality of the security or interest rates. Because the Company does not intend to sell any marketable securities and it is not more likely than not that the Company will be required to sell any marketable securities before recovery of their amortized cost bases, which may be maturity, the Company does not consider any of its marketable securities to be other-than-temporarily impaired at June 30, 2009.
During the three months ended June 30, 2009, $0.3 million of net unrealized gains included within other comprehensive income at March 31, 2009, were recognized into earnings. During the six months ended June 30, 2009, $0.3 million of net unrealized gains included within other comprehensive income at December 31, 2008, were recognized into earnings. The specific-identification method is used to determine the cost of a security sold or the amount reclassified from accumulated other comprehensive income into earnings.
NOTE 6—EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings (loss) per share attributable to IAC shareholders.
Numerator:
Earnings (loss) from continuing operations attributable to IAC shareholders
Loss from discontinued operations, including gain on sale, net of tax
Denominator:
Weighted average basic shares outstanding
Dilutive securities including stock options, warrants and RSUs
Denominator for earnings per share—weighted average shares(a)(b)
Earnings (loss) per share attributable to IAC shareholders:
Earnings (loss) per share from continuing operations
Discontinued operations, net of tax
Earnings (loss) per share
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NOTE 6—EARNINGS PER SHARE (Continued)
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NOTE 7—SEGMENT INFORMATION
The overall concept that IAC employs in determining its operating segments is to present the financial information in a manner consistent with how the chief operating decision maker and executive management view the businesses, how the businesses are organized as to segment management, and the focus of the businesses with regards to the types of products or services offered or the target market. Entities included in discontinued operations, as described in Note 9, are excluded from the schedules below. Operating segments are combined for reporting purposes if they have similar economic characteristics and meet the aggregation criteria of SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information."
Revenue:
Inter-segment elimination
Operating Income (Loss):
Corporate
The Company's primary metric is Operating Income Before Amortization, which is defined as operating income excluding, if applicable: (1) non-cash compensation expense, (2) amortization of non-cash marketing, (3) amortization and impairment of intangibles, (4) goodwill impairment, (5) pro forma adjustments for significant acquisitions, and (6) one-time items. The Company believes this measure is useful to investors because it represents the consolidated operating results from IAC's segments, taking into account depreciation, which it believes is an ongoing cost of doing business, but excluding the effects of any other non-cash expenses. Operating Income Before Amortization has certain limitations in that it does not take into account the impact to IAC's statement of operations of certain expenses, including non-cash compensation, non-cash marketing, and acquisition related accounting. IAC endeavors to compensate for the limitations of the non-GAAP measure presented by providing the comparable GAAP measure with equal or greater prominence, financial statements
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NOTE 7—SEGMENT INFORMATION (Continued)
prepared in accordance with generally accepted accounting principles, and descriptions of the reconciling items, including quantifying such items, to derive the non-GAAP measure.
Operating Income Before Amortization:
The following tables reconcile Operating Income Before Amortization to operating income (loss) for the Company's reporting segments and to net earnings (loss) attributable to IAC shareholders in total (in thousands):
Other income, net
Earnings from continuing operations before income taxes
Income tax provision
Earnings from continuing operations
Net earnings
Net earnings attributable to IAC shareholders
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Other expense, net
Loss from continuing operations before income taxes
Income tax benefit
Loss from continuing operations
Gain on sale of discontinued operations, net of tax
Net loss
Net loss attributable to IAC shareholders
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The following table presents depreciation by segment:
Depreciation:
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The Company maintains operations in the United States, the United Kingdom and other international territories. Geographic information about the United States and international territories is presented below:
United States
All other countries
Long-lived assets (excluding goodwill and intangible assets):
NOTE 8—FAIR VALUE MEASUREMENTS AND FINANCIAL INSTRUMENTS
In accordance with SFAS No. 157, "Fair Value Measurements," the Company categorizes its assets and liabilities measured at fair value into a fair value hierarchy that prioritizes the assumptions used in pricing the asset or liability into the following three levels:
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NOTE 8—FAIR VALUE MEASUREMENTS AND FINANCIAL INSTRUMENTS (Continued)
The following tables present the Company's assets and liabilities that are measured at fair value on a recurring basis:
Derivative asset created in the HSE sale
The following tables present the changes in the Company's assets and liabilities that are measured at fair value on a recurring basis using significant unobservable inputs (Level 3):
Balance at April 1
Total net gains (losses) (realized and unrealized):
Included in earnings
Included in other comprehensive income
Purchases, sales, issuances and settlements, net
Balance at June 30
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Balance at January 1
Total (losses) gains included in earnings:
Change in unrealized (losses) gains relating to assets and liabilities still held at June 30:
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Long-term investments measured at fair value using quoted market prices in active markets for identical assets (Level 1) are marketable equity securities accounted for in accordance with SFAS No. 115. The amortized cost basis of these marketable equity securities is $31.5 million with $51.8 million of gross unrealized gains and $0.7 million of gross unrealized losses at June 30, 2009. The net unrealized gain, net of taxes of $20.6 million, is included in accumulated other comprehensive income at June 30, 2009. The aggregate fair value of these marketable equity securities that have been in a continuous unrealized loss position for less than twelve months is $13.6 million at June 30, 2009. There were no marketable equity securities that have been in a continuous loss position for twelve months or longer at June 30, 2009. Because the Company does not intend to sell these securities and it is not more likely than not that the Company will be required to sell these securities before recovery of their amortized cost bases, the Company does not consider the unrealized loss at June 30, 2009 to be other-than-temporary.
Long-term investments measured at fair value using significant unobservable inputs (Level 3) are available-for-sale auction rate securities accounted for in accordance with SFAS No. 115. The auction rate securities are valued by discounting the estimated future cash flow streams of the securities over the life of the securities. Credit spreads and other risk factors are also considered in establishing a fair value. At June 30, 2009, the auction rate securities are rated either AA-/Baa1 or A/Baa1. Due to their high credit rating and because the Company does not intend to sell these securities and it is not more likely than not that the Company will be required to sell these securities before recovery of their amortized cost bases, which may be maturity, the Company does not consider the unrealized loss of $3.6 million to be an other-than-temporary impairment at June 30, 2009. The auction rate securities mature in 2025 and 2035.
The CVR is accounted for as a derivative asset and maintained at fair value relying on significant unobservable inputs including credit risk. As discussed in Note 1, ARO filed for insolvency on June 9, 2009 and, as a result, the maturity date of the CVR accelerated and its redemption value was fixed at €54 million. During the second quarter of 2009, the Company recognized a $38.2 million impairment charge related to the CVR due to increased credit risk associated with this derivative asset. The CVR is included in "Other current assets" in the accompanying consolidated balance sheet at June 30, 2009 and "Other non-current assets" in the accompanying consolidated balance sheet at December 31, 2008.
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Financial instruments
The additional disclosure below of the estimated fair value of financial instruments has been determined by the Company using available market information and appropriate valuation methodologies when available. The Company's financial instruments include a guarantee, letters of credit and surety bonds. These commitments are in place to facilitate the commercial operations of IAC and certain subsidiaries.
Note receivable, current
Notes receivable, non-current
Guarantee, letters of credit and surety bonds
The carrying amounts of cash and cash equivalents and note receivable, current approximate fair value due to their short-term maturity. Notes receivable, non-current are valued based on discounting the expected future cash flow streams using yields of the underlying credit. The fair value of long-term debt was estimated using quoted market prices. The fair value of guarantee, letters of credit and surety bonds are based on the present value of the costs associated with maintaining these instruments over their expected term. See Note 5 for discussion of the fair value of marketable securities.
Investments accounted for under the cost method are included in "Long-term investments" in the accompanying consolidated balance sheet and have a carrying value of $40.3 million at June 30, 2009. The Company evaluates each cost method investment for impairment on a quarterly basis and recognizes an impairment loss if a decline in value is determined to be other-than-temporary. Such impairment evaluations include, but are not limited to: the current business environment, including competition; going concern considerations such as financial condition and the rate at which the investee company utilizes cash and the investee company's ability to obtain additional financing to achieve its business plan; the need for changes to the investee company's existing business model due to changing business environments and its ability to successfully implement necessary changes; and comparable valuations. If the Company has not identified events or changes in circumstances that may have a significant adverse effect on the fair value of a cost method investment, then the fair value of such cost method investment is not estimated, as it is impracticable to do so.
NOTE 9—DISCONTINUED OPERATIONS
On August 20, 2008, IAC completed the spin-off of HSNi, ILG, Ticketmaster and Tree.com. In addition, on May 30, 2008, IAC sold EPI for $34.9 million, which resulted in a pre-tax loss of $37.4 million and an after-tax gain of $22.5 million. The after-tax gain on the sale of EPI was subsequently reduced to $22.3 million in the third quarter of 2008. Accordingly, discontinued operations include HSNi, ILG, Ticketmaster and Tree.com through June 30, 2008 and EPI through May 30, 2008, as well as Quiz TV Limited and iBuy for all periods presented.
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NOTE 9—DISCONTINUED OPERATIONS (Continued)
The net revenue and net earnings for the aforementioned discontinued operations for the applicable periods were as follows (in thousands):
(Loss) earnings before income taxes and noncontrolling interest
Included in the line item "(Loss) earnings before income taxes and noncontrolling interest" in the table above for the three and six months ended June 30, 2008 are impairment charges related to the goodwill and indefinite-lived intangible assets of HSNi of $221.5 million and $78.5 million, respectively, and of Tree.com of $132.5 million and $33.4 million, respectively.
NOTE 10—CONTINGENCIES
In the ordinary course of business, the Company is a party to various lawsuits. The Company establishes reserves for specific legal matters when it determines that the likelihood of an unfavorable outcome is probable and the loss is reasonably estimable. Management has also identified certain other legal matters where we believe an unfavorable outcome is not probable and, therefore, no reserve is established. Although management currently believes that resolving claims against us, including claims where an unfavorable outcome is reasonably possible, will not have a material impact on the liquidity, results of operations, or financial condition of the Company, these matters are subject to inherent uncertainties and management's view of these matters may change in the future. It is possible that an unfavorable outcome of one or more of these lawsuits could have a material impact on the liquidity, results of operations, or financial condition of the Company. The Company also evaluates other contingent matters, including tax contingencies, to assess the probability and estimated extent of potential loss. See Note 3 for additional information related to income tax contingencies.
NOTE 11—SUPPLEMENTAL CASH FLOW INFORMATION
Non-Cash Transactions for the Six Months Ended June 30, 2009
On June 5, 2009, IAC completed the sale of Match Europe to Meetic. In exchange for Match Europe, IAC received a 27% stake in Meetic (approximately 6.1 million shares of Meetic common stock), valued at $154.8 million, plus a promissory note valued at $6.2 million.
On January 31, 2009, IAC completed the sale of ReserveAmerica to The Active Network, Inc. ("Active"). In exchange for ReserveAmerica, IAC received approximately 3.5 million shares of Active convertible preferred stock, valued at $33.3 million.
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NOTE 11—SUPPLEMENTAL CASH FLOW INFORMATION (Continued)
Non-Cash Transactions for the Six Months Ended June 30, 2008
During the six months ended June 30, 2008, $12.3 million in aggregate principal amount of Convertible Notes was converted by the holders. Upon conversion, 0.2 million shares of IAC common stock and 0.2 million shares of Expedia common stock were issued to the holders.
NOTE 12—SUBSEQUENT EVENTS
Between July 1, 2009 and July 24, 2009, IAC repurchased 5.1 million shares of common stock for aggregate consideration of $84.4 million.
On July 29, 2009, IAC announced that its Board of Directors authorized the repurchase of up to 20 million shares of its outstanding common stock.
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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
GENERAL
Management Overview
For a more detailed presentation of the Company's operating businesses, see the Company's annual report on Form 10-K, as amended, for the year ended December 31, 2008.
Results of Operations for the three and six months ended June 30, 2009 compared to the three and six months ended June 30, 2008
Set forth below are the contributions made by our various segments and corporate operations to consolidated revenue, operating income (loss) and Operating Income Before Amortization (as defined in IAC's Principles of Financial Reporting) for the three and six months ended June 30, 2009 and 2008 (dollars in thousands).
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Refer to Note 7 to the consolidated financial statements for reconciliations by segment of Operating Income Before Amortization to Operating Income (Loss).
Consolidated Results
For the three months ended June 30, 2009 compared to the three months ended June 30, 2008
Revenue in 2009 decreased $14.1 million from 2008 primarily as a result of a decrease of $17.7 million from Media & Advertising. The decrease from Media & Advertising was driven by a decline in revenue per query across proprietary properties, partially offset by continued growth in partners and queries at the Ask toolbar business and the favorable impact from the acquisition of Lexico, which includes Dictionary.com and Thesaurus.com, on July 3, 2008.
For the six months ended June 30, 2009 compared to the six months ended June 30, 2008
Revenue in 2009 decreased $52.8 million from 2008 primarily as a result of a decrease of $65.7 million from Media & Advertising, partially offset by an increase of $8.9 million from ServiceMagic. The decrease from Media & Advertising was driven by a sharp decline in network revenue, resulting from the discontinuation of relationships with certain partners that took place during 2008 in conjunction with the renewed Google agreement, and fewer queries across proprietary properties, particularly at Fun Web Products and Ask.com. Partially offsetting these declines is the continued growth in partners and queries at the Ask toolbar business and the favorable impact in 2009 from the acquisition of Lexico. The increase in revenue at ServiceMagic reflects a more active service provider network and an 8% increase in service requests as well as the contributions from the businesses now comprising ServiceMagic International, acquired October 29, 2008, and Market Hardware, acquired January 23, 2009.
As a percentage of total revenue
bp = basis points
Cost of revenue consists primarily of traffic acquisition costs, compensation and other employee-related costs (including stock-based compensation) for personnel engaged in data center functions, the
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cost of products sold and shipping and handling costs. Traffic acquisition costs consist of revenue share payments to partners that have distributed toolbars and/or integrated paid listings into their websites and similar arrangements with third parties who direct traffic to our websites.
Cost of revenue in 2009 decreased $0.4 million from 2008 primarily due to decreases of $5.0 million from Match and $3.3 million from Emerging Businesses, partially offset by an increase of $7.6 million from Media & Advertising. The decrease in cost of revenue from Match was primarily due to a decrease of $4.9 million in traffic acquisition costs resulting principally from more favorable economic terms under agreements with certain domestic distribution partners and the sale of Match Europe to Meetic, an online dating company based in France, on June 5, 2009. Cost of revenue from Emerging Businesses decreased primarily due to the absence of ReserveAmerica in the current year period following its sale on January 31, 2009. Partially offsetting these decreases was an increase in cost of revenue from Media & Advertising, due in part to an increase in traffic acquisition costs.
Cost of revenue in 2009 decreased $17.8 million from 2008 primarily due to decreases of $9.2 million from Match and $7.5 million from Media & Advertising. The decrease in cost of revenue was primarily due to decreases in traffic acquisition costs from Match and Media & Advertising. The decrease in traffic acquisition costs of $9.2 million from Match was due to the factors described above in the three month discussion. Overall traffic acquisition costs from Media & Advertising during the period decreased as a direct result of a sharp decline in network revenue at IAC Search & Media.
Selling and marketing expense consists primarily of advertising and promotional expenditures and compensation and other employee-related costs (including stock-based compensation) for personnel engaged in customer service and sales functions. Advertising and promotional expenditures include online marketing, including fees paid to search engines, and offline marketing, including television, radio and print advertising.
Selling and marketing expense in 2009 increased $2.1 million from 2008 primarily due to increases of $5.7 million from ServiceMagic and $3.1 million from Media & Advertising, partially offset by a decrease of $4.6 million from Match. The increase in selling and marketing expense from ServiceMagic is primarily due to an increase of $4.7 million in advertising and promotional expenditures associated with online marketing. The increase in online marketing is a direct result of the growth in service requests from paid channels outpacing growth in free requests. Also contributing to the increase in selling and marketing expense from ServiceMagic is an increase in compensation and other employee-related costs, due in part, to the continued expansion of its sales force. Selling and marketing expense from Media & Advertising increased primarily due to increases of $2.5 million in advertising and
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promotional expenditures and $1.3 million in compensation and other-employee-related costs. Included in the increase in advertising and promotional expenditures from Media & Advertising are costs associated with the NASCAR partnership as well as marketing costs related to an ad campaign to rebrand the Ask.co.UK website. Partially offsetting the increase in selling and marketing expense is lower advertising and promotional expenditures from Match primarily due to a decrease in television advertising and online marketing.
Selling and marketing expense in 2009 increased $13.7 million from 2008 primarily due to increases of $10.1 million from ServiceMagic and $8.5 million from Media & Advertising, partially offset by a decrease of $4.6 million from Match. The increases in selling and marketing expense from ServiceMagic and Media & Advertising as well as the decrease from Match are primarily due to the factors described above in the three month discussion.
General and administrative expense consists primarily of compensation and other employee-related costs (including stock-based compensation) for personnel engaged in finance, legal, tax, human resources and executive management functions, facilities costs and fees for professional services.
General and administrative expense in 2009 decreased $22.4 million from 2008 primarily due to a decrease of $25.1 million from corporate, partially offset by an increase of $2.9 million from ServiceMagic. The decrease from corporate is principally due to the inclusion in the prior year period of $12.6 million in expenses related to the spin-off of HSN, Inc. ("HSNi"), Interval Leisure Group, Inc. ("ILG"), Ticketmaster Entertainment, Inc. ("Ticketmaster") and Tree.com, Inc. ("Tree.com") (the "Spin-Off"), as well as decreases in compensation and other employee-related costs, including stock-based compensation, and non-Spin-Off related professional fees. The decrease in compensation and other employee-related costs is primarily due to decreases in bonus expense and non-cash compensation expense. General and administrative expense from ServiceMagic increased primarily due to increases of $1.3 million in compensation and other employee-related costs and $0.4 million in professional fees.
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General and administrative expense in 2009 decreased $29.4 million from 2008 primarily due to a decrease of $36.6 million from corporate, partially offset by an increase of $4.2 million from ServiceMagic and $1.8 million from Match. The decrease from corporate is principally due to the factors described above in the three month discussion. Included in corporate expenses in the prior year period is $21.1 million in expenses related to the Spin-Off. General and administrative expense from ServiceMagic increased primarily due to increases of $1.9 million in compensation and other employee-related costs and $0.5 million in professional fees. Also contributing to the increase in general and administrative expense is an increase of $1.8 million in professional fees from Match primarily related to the sale of Match Europe in exchange for a 27% investment in Meetic.
Product development expense consists primarily of compensation and other employee-related costs (including stock-based compensation) that are not capitalized for personnel engaged in the design, development, testing and enhancement of technology.
Product development expense in 2009 decreased $0.6 million from 2008 primarily due to a decrease of $0.3 million in compensation and other employee-related costs from Media & Advertising.
Product development expense in 2009 decreased $4.0 million from 2008 primarily due to a decrease of $3.4 million in compensation and other employee-related costs from Media & Advertising which is due in part to a 4% decrease in average headcount at IAC Search & Media. Also contributing to the decrease in product development expense is an increase in costs being capitalized in the current year period related to the development and enhancement of the company's search technology and products.
For the three and six months ended June 30, 2009 compared to the three and six months ended June 30, 2008
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Depreciation for the three and six months ended June 30, 2009 decreased $0.6 million and $1.6 million, respectively, from 2008 primarily due to certain fixed assets becoming fully depreciated, partially offset by the incremental depreciation associated with capital expenditures made during 2009 and 2008.
Operating Income Before Amortization
Operating Income Before Amortization in 2009 increased $2.8 million from 2008 primarily due to a decrease of $21.3 million in corporate expenses and strong profit growth from Match. Included in the prior year period is $12.6 million in expenses related to the Spin-Off. Partially offsetting these increases in Operating Income Before Amortization is a decrease of $19.9 million from Media & Advertising resulting primarily from lower overall revenue.
Operating Income Before Amortization in 2009 decreased $19.0 million from 2008 primarily due to decreases of $47.3 million, $6.1 million and $4.7 million from Media & Advertising, ServiceMagic and Emerging Businesses, respectively. These decreases in Operating Income Before Amortization were partially offset by a decrease of $33.6 million in corporate expenses due in part to the inclusion in the prior year period of $21.1 million in expenses related to the Spin-Off.
The overall decrease in Operating Income Before Amortization reflects lower revenue from Media & Advertising, a shift in mix to lower revenue generating service requests and increased marketing costs from ServiceMagic, and increased operating expenses from Emerging Businesses primarily related to The Daily Beast and InstantAction.com, as well as the absence of profits from ReserveAmerica in the current year following its sale on January 31, 2009.
Operating income in 2009 increased $10.3 million from 2008 primarily due to the $2.8 million increase in Operating Income Before Amortization described above and decreases of $5.0 million in non-cash compensation expense and $2.9 million in amortization of non-cash marketing, partially offset
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by a slight increase in amortization of intangibles. The decrease in non-cash compensation is due in part to an increase in forfeited awards. The amortization of non-cash marketing referred to in this report consists of non-cash advertising secured from Universal Television as part of the transaction pursuant to which Vivendi Universal Entertainment, LLLP ("VUE") was created, and the subsequent transaction by which IAC sold its partnership interests in VUE.
Operating loss
Operating loss in 2009 increased $11.7 million from 2008 primarily due to the $19.0 million decrease in Operating Income Before Amortization described above, a goodwill impairment charge of $1.1 million related to our gift card business and a slight increase in amortization of intangibles. Partially offsetting these increases in operating loss are decreases of $5.3 million in non-cash compensation expense, as described above in the three month discussion, and $3.4 million in amortization of non-cash marketing.
At June 30, 2009, there was $113.8 million of unrecognized compensation cost, net of estimated forfeitures, related to all equity-based awards, which is expected to be recognized over a weighted average period of approximately 2.4 years.
Interest income in 2009 decreased $3.3 million from 2008 primarily due to the impact of lower average interest rates resulting, in part, from a reallocation of investments during the second half of 2008 into lower yielding treasury and government agency funds, partially offset by higher investment balances. Interest expense in 2009 decreased $12.6 million from 2008 as the amount of outstanding debt decreased year over year due to the extinguishment of $734.2 million of the Company's 7% Senior Notes due 2013 (the "Senior Notes") in connection with the Spin-Off. The remaining outstanding principal of the Senior Notes at June 30, 2009 is $15.8 million.
Equity in (losses) income of unconsolidated affiliates in 2009 decreased $8.6 million from 2008 primarily due to the inclusion in the prior year period of $8.4 million related to the equity in earnings of our former investment in Jupiter Shop Channel Co., Ltd., a Japanese TV shopping company.
Loss on sale of long-term investments in 2009 represents a loss of $12.3 million related to the Company's sale of Arcandor AG ("ARO") shares. As part of the consideration for the sale of Home Shopping Europe GmbH & Co. KG, and its affiliated station HSE24 ("HSE") in June 2007, the Company received approximately 5.5 million shares of ARO stock plus additional consideration in the
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form of a contingent value right ("CVR"). During the second quarter of 2009, the Company sold 4.3 million shares of ARO stock.
Gain on sale of long-term investments in 2008 represents a gain of $29.1 million associated with the sale of the Company's preferred investment in Points International, Ltd. ("Points").
Other income in 2009 of $74.1 million is principally due to a $116.8 million gain related to the sale of Match Europe. On June 5, 2009, Match.com completed the sale of its European operations to Meetic. In exchange for its European operations, Match.com received a 27% stake in Meetic, plus a promissory note valued at $6.2 million. Partially offsetting the increase in other income in 2009 are the write-downs of $38.2 million and $3.9 million related to the CVR and the Company's remaining 1.1 million shares of ARO stock, respectively. ARO filed for insolvency on June 9, 2009. The impairment charge related to the CVR is based upon the Company's assessment of its fair value at June 30, 2009 of €13.4 million or $18.9 million. The Company will continue to monitor the progress of the insolvency proceedings of ARO in the coming months and will reassess the fair value of the CVR each reporting period. At June 30, 2009, the carrying value of the Company's 1.1 million shares of ARO stock was €0.7 million or $1.0 million, which is based on €0.61 per share, the ARO stock price on June 30, 2009.
Other expense in 2008 of $127.9 million was principally due to a write-down of $132.6 million related to the Company's 5.5 million shares of ARO stock, partially offset by gains of $4.8 million related to the increase in the value of the CVR and the derivatives created in connection with the Expedia spin-off.
Interest income, interest expense, equity in (losses) income of unconsolidated affiliates, (loss) gain on sale of long-term investments and other income (expense) were all impacted principally due to the same factors described above in the three month discussion.
In 2009, the Company recorded an income tax provision for continuing operations of $22.1 million on pre-tax income of $64.7 million, which represents an effective tax rate of 34%. This rate is lower than the federal statutory rate of 35% due principally to benefits related to a change in the estimated annual effective tax rate and foreign tax credits related to the sale of Match Europe, substantially offset by non-deductible goodwill associated with the sale of Match Europe, an increase in reserves and related interest for tax contingencies, an increase in the valuation allowance on deferred tax assets related to losses from equity investments and impairments of the Company's shares of ARO stock and the related CVR. In 2008, the Company recorded an income tax benefit for continuing operations of $22.3 million on a pre-tax loss of $106.9 million, which represents an effective tax rate of 21%. This rate is lower than the federal statutory rate of 35% due principally to the establishment of a valuation allowance on deferred tax assets related to the ARO stock impairment, non-deductible costs related to the Spin-Off, and interest on tax contingencies, partially offset by lower state and foreign income taxes.
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In 2009, the Company recorded an income tax provision for continuing operations of $19.5 million on pre-tax income of $32.2 million, which represents an effective tax rate of 60%. This rate is higher than the federal statutory rate of 35% due principally to non-deductible goodwill associated with the sale of Match Europe, an increase in reserves and related interest for tax contingencies, an increase in valuation allowances on deferred tax assets related to the impairments of the Company's shares of ARO stock and the related CVR, offset by foreign tax credits related to the sale of Match Europe. In 2008, the Company recorded an income tax benefit for continuing operations of $18.2 million on a pre-tax loss of $106.3 million, which represents an effective tax rate of 17%. This rate is lower than the statutory rate of 35% due principally to the establishment of a valuation allowance on deferred tax assets related to the ARO stock impairment, non-deductible costs related to the Spin-Off, and interest on tax contingencies, partially offset by lower state and foreign income taxes.
At June 30, 2009 and December 31, 2008, the Company had unrecognized tax benefits of $369.4 million and $372.6 million, respectively. Unrecognized tax benefits for the six months ended June 30, 2009 decreased by $3.2 million due to the reversal of deductible temporary differences, offset by the net increase in state and local tax reserves. The Company recognizes interest and, if applicable, penalties related to unrecognized tax benefits in income tax expense. Included in the income tax expense for continuing operations for the three and six months ended June 30, 2009 is a $2.4 million and $5.0 million expense, respectively, net of related deferred taxes of $1.6 million and $3.3 million, respectively, for interest on unrecognized tax benefits. At June 30, 2009 and December 31, 2008, the Company has accrued $58.4 million and $49.7 million, respectively, for the payment of interest. Included in the income tax expense for continuing operations for both the three and six months ended June 30, 2009 is a $3.1 million expense for penalties on unrecognized tax benefits. At June 30, 2009 and December 31, 2008, the Company has accrued $5.0 million and $0.6 million, respectively, for penalties.
The Internal Revenue Service is currently examining the Company's tax returns for the years ended December 31, 2001 through 2006. The statute of limitations for these years has been extended to December 31, 2010. Various state, local and foreign jurisdictions are currently under examination, the most significant of which are California, Florida, New York and New York City, for various tax years beginning with December 31, 2001. These examinations are expected to be completed by the end of 2010. The Company believes that it is reasonably possible that its unrecognized tax benefits could decrease by $12.9 million within twelve months of the current reporting date primarily due to the reversal of deductible temporary differences which will primarily result in a corresponding increase in net deferred tax liabilities. An estimate of other changes in unrecognized tax benefits, while potentially significant, cannot be made.
On May 4, 2009, President Obama outlined his administration's proposal to modify certain aspects of the rules governing the U.S. taxation of certain non-U.S. subsidiaries. Many details of the proposal remain unknown and any legislation enacting such modifications would require Congressional approval; however, changes to these rules could impact the Company's effective tax rate. The Company will continue to monitor the progress of the proposals to determine the impact, if any, to the Company's consolidated financial position, results of operations and cash flows.
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Discontinued operations
Discontinued operations in the accompanying unaudited consolidated statement of operations include HSNi, ILG, Ticketmaster and Tree.com through June 30, 2008, Entertainment Publications, Inc. ("EPI") through May 30, 2008, and Quiz TV Limited and iBuy for all periods presented.
Results from these discontinued operations, net of tax, in 2009 and 2008 were losses of $2.2 million and $360.0 million, respectively. The 2009 amount is principally due to the increase in reserves for penalties and interest on tax contingencies. The 2008 amount is principally due to the losses of HSNi and Tree.com, which include pre-tax impairment charges related to goodwill and indefinite-lived intangible assets of $221.5 million and $78.5 million, respectively, for HSNi and $132.5 million and $33.4 million, respectively, for Tree.com. The losses from HSNi and Tree.com were partially offset by income of Ticketmaster and ILG.
Results from discontinued operations, net of tax, in 2009 and 2008 were losses of $1.0 million and $304.1 million, respectively. The 2009 and 2008 amounts are principally due to the factors described above in the three month discussion.
Additionally, the Company recognized an after-tax gain in the second quarter of 2008 of $22.5 million on the sale of EPI, which was subsequently reduced to $22.3 million in the third quarter of 2008.
In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"), the Company tests goodwill and indefinite-lived intangible assets on an annual basis as of October 1 or more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. We determine the fair value of a reporting unit based upon an evaluation of its expected discounted cash flows. This discounted cash flow analysis utilizes an evaluation of historical and forecasted operating results. The determination of discounted cash flows is based upon forecasted operating results that may not occur.
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Segment Results
In addition to the discussion of consolidated results above, the following is a discussion of the results of each segment.
Our Media & Advertising segment consists primarily of our search business, which includes Ask.com and other destination search websites through which we provide search and related advertising services, and toolbars and applications through which we promote and distribute these services, Citysearch, a leading online local city guide, and Evite, an online social planning website.
Revenue declined 10% to $168.6 million, primarily due to a decline in revenue per query across proprietary properties, partially offset by continued growth in partners and queries at the Ask toolbar business and $4.4 million of revenue in 2009 related to the acquisition of Lexico, which includes Dictionary.com and Thesaurus.com, on July 3, 2008. While queries at Fun Web Products and Ask.com declined, overall proprietary queries were flat as compared to the prior year period. Revenue per query declines reflect an improved experience on Ask.com following its relaunch in October 2008 which has resulted in fewer clicks by consumers to find what they are searching for. Citysearch revenue declined reflecting transitional issues related to the relaunch of the site and the integration of a new ad serving platform and a difficult display advertising environment.
Operating Income Before Amortization decreased 56% to $15.9 million, primarily due to the lower revenue noted above and increases of $3.1 million in selling and marketing expense and $1.8 million in traffic acquisition costs. Contributing to the increase in selling and marketing expense is an increase of $2.5 million in advertising and promotional expenditures, including those associated with the NASCAR partnership and an ad campaign to rebrand the Ask.co.UK website, as well as an increase of $1.3 million in compensation and other employee-related costs. The increase in traffic acquisition costs is primarily due to growth in distribution revenue which is included in proprietary revenue at IAC Search & Media. As a percentage of revenue, traffic acquisition costs associated with distribution revenue generated from partners who redirect traffic to the Ask.com landing page are higher than traffic acquisition costs associated with network revenue generated from integrated paid listings.
Operating income decreased 69% to $9.1 million, primarily due to the decrease in Operating Income Before Amortization described above and slight increases in amortization of intangibles, amortization of non-cash marketing and non-cash compensation expense.
Revenue declined 16% to $336.2 million, primarily due to a sharp decline in network revenue, resulting from the discontinuation of relationships with certain partners that took place during 2008 in conjunction with the renewed Google agreement. The full impact of this discontinuation was fully anniversaried beginning in the second quarter of 2009. Revenue declines also reflect fewer queries across proprietary properties, particularly at Fun Web Products and Ask.com, as well as a decrease in revenue per query at Ask.com reflecting fewer clicks per visit as users find what they are searching for sooner due to the relaunched site's improved user experience. Offsetting these decreases was the continued growth in partners and queries at the Ask toolbar business and $9.0 million of revenue in 2009 related to the acquisition of Lexico. Citysearch revenue declined primarily due to the factors described above in the three month discussion.
Operating Income Before Amortization decreased 65% to $26.0 million, primarily due to the lower revenue noted above and an increase of $8.5 million in selling and marketing expense, partially offset by decreases of $16.8 million in traffic acquisition costs and $4.1 million in product development
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expense. The increase in selling and marketing expense is primarily due to the factors described above in the three month discussion. Overall traffic acquisition costs during the period decreased as a direct result of a sharp decline in network revenue, partially offset by growth in distribution revenue included as a component of proprietary revenue at IAC Search & Media. The decrease in product development expense is primarily due to a decrease of $3.4 million in compensation and other employee-related costs due, in part, to a 4% reduction in average headcount at IAC Search & Media and an increase in costs being capitalized in the current year period related to the development and enhancement of the company's search technology and products.
Operating income decreased 83% to $10.2 million, primarily due to the decrease in Operating Income Before Amortization described above and increases of $2.5 million in amortization of non-cash marketing, $0.7 million in amortization of intangibles and $0.3 million in non-cash compensation expense. The increase in amortization of intangibles is related to recent acquisitions.
Revenue declined 5% to $88.3 million, reflecting the sale of Match Europe to Meetic on June 5, 2009. Excluding the results of Match Europe from both periods, revenue grew 9% during the quarter driven by a 9% increase in U.S. subscribers, partially offset by a 1% decline in revenue per subscriber.
Operating Income Before Amortization increased 25% to $28.5 million primarily due to decreases of $5.0 million in cost of revenue and $4.6 million in selling and marketing expense. Contributing favorably to the reduction in cost of revenue is a decrease of $4.9 million in traffic acquisition costs principally due to more favorable economic terms under agreements with certain domestic distribution partners and the sale of Match Europe to Meetic. The decrease in selling and marketing expense is due primarily to lower advertising expenses associated with television advertising and online marketing.
Operating income increased 45% to $28.4 million in 2009, primarily due to the increase in Operating Income Before Amortization discussed above and a decrease of $3.1 million in amortization of non-cash marketing.
Revenue declined 3% to $178.4 million, reflecting the impact of unfavorable foreign exchange rates and the sale of Match Europe to Meetic. Excluding the results of Match Europe from both periods, revenue grew 7% during the year driven primarily by the factors described above in the three month discussion.
Operating Income Before Amortization increased 17% to $38.5 million primarily due to decreases of $9.2 million in cost of revenue and $4.6 million in selling and marketing expense, partially offset by an increase of $1.8 million in general and administrative expense. The decreases in cost of revenue and selling and marketing expense are due primarily to the factors described above in the three month discussion. The increase in general and administrative expense was principally due to an increase of $1.8 million in professional fees during the year primarily related to the sale of Match Europe in exchange for a 27% investment in Meetic.
Operating income increased 43% to $38.1 million in 2009, primarily due to the increase in Operating Income Before Amortization discussed above and a decrease of $5.9 million in amortization of non-cash marketing.
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Revenue grew 18% to $42.4 million, benefiting from a more active service provider network and a 5% increase in service requests driven by increased marketing efforts. During 2009, ServiceMagic experienced a 15% increase in the number of times service requests are accepted by a service professional. A service request can be transmitted to and accepted by more than one service professional. Revenue further benefited from contributions from the businesses now comprising ServiceMagic International, acquired October 29, 2008, and Market Hardware, acquired January 23, 2009. Excluding the results of the aforementioned acquisitions, revenue grew 9% during the quarter.
Operating Income Before Amortization decreased 29% to $6.7 million, despite the increase in revenue noted above, reflecting an increase in marketing expense per service request as well as a shift in the mix of service requests from higher margin discretionary home repair and improvement requests to lower margin requests, due primarily to the general economic slowdown. During 2009, ServiceMagic experienced increases of $5.7 million in selling and marketing expense and $2.9 million in general and administrative expense. The increase in selling and marketing expense is primarily driven by an increase in advertising and promotional expenditures associated with online marketing. The increase in online marketing is a direct result of the growth in service requests from paid channels outpacing growth in free requests. Also contributing to the increase in selling and marketing expense is an increase in compensation and other-related costs, due in part, to the continued expansion of its sales force. The increase in general and administrative expense is primarily due to an increase of $1.3 million in compensation and other employee-related costs related to recent acquisitions, as well as an increase of $0.4 million in professional fees.
Operating income decreased 36% to $5.7 million, primarily due to the decrease in Operating Income Before Amortization discussed above and an increase of $0.6 million in amortization of intangibles, partially offset by a decrease of $0.2 million in non-cash compensation expense.
Revenue grew 14% to $73.8 million, driven primarily by the factors described above in the three month discussion. Excluding the results of ServiceMagic International and Market Hardware, revenue grew 8%.
Operating Income Before Amortization decreased 39% to $9.5 million, despite the increase in revenue noted above, reflecting increases of $10.1 million in selling and marketing expense and $4.2 million in general and administrative expense. The increases in both selling and marketing expense and general and administrative expense are primarily due to the factors described above in the three month discussion.
Operating income decreased 47% to $7.7 million, primarily due to the decrease in Operating Income Before Amortization discussed above and an increase of $0.9 million in amortization of intangibles, partially offset by a decrease of $0.2 million in non-cash compensation expense.
Our Emerging Businesses segment consists of Shoebuy and Pronto, as well as InstantAction.com, CollegeHumor.com, Gifts.com, Vimeo, Life123.com and The Daily Beast, among other early stage businesses that provide online content and/or services.
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Revenue declined 15% to $41.5 million reflecting the absence of revenue from ReserveAmerica in the current year period following its sale on January 31, 2009, partially offset by growth at Shoebuy and Pronto.
Operating Income Before Amortization loss increased by $1.5 million to a loss of $9.3 million. Losses increased due primarily to increased operating expenses associated with The Daily Beast and the absence of profits from ReserveAmerica in the current year period. Partially offsetting the increase in Operating Income Before Amortization loss are cost savings related to the shutdown or sale of certain other businesses and profit growth at Gifts.com.
Operating loss increased by $1.1 million to $10.2 million primarily due to the increased Operating Income Before Amortization loss discussed above and an increase of $0.2 million in amortization of non-cash compensation, partially offset by a decrease of $0.6 million in amortization of intangibles.
Revenue declined 7% to $85.5 million primarily due to the factors described above in the three months discussion.
Operating Income Before Amortization loss increased by $4.7 million to a loss of $20.3 million. Losses increased due primarily to increased operating expenses associated with The Daily Beast and InstantAction.com, as well as the absence of profits from ReserveAmerica in the current year following its sale on January 31, 2009. Partially offsetting the increase in Operating Income Before Amortization loss are cost savings related to the shutdown or sale of certain other businesses, decreased losses at Gifts.com and profitability at Pronto.
Operating loss increased by $4.5 million to $22.9 million primarily due to the increased Operating Income Before Amortization loss discussed above and a goodwill impairment charge of $1.1 million related to our gift card business, partially offset by decreases in amortization of intangibles and non-cash compensation expense of $1.2 million and $0.1 million, respectively.
Operating Income Before Amortization loss decreased by $21.3 million to a loss of $16.2 million primarily due to the inclusion in the prior year period of $12.6 million in expenses related to the Spin-Off. The current period also benefited from lower compensation and other employee-related costs and a decrease of $1.3 million in non-Spin-Off related professional fees.
Operating loss decreased $26.5 million to a loss of $29.1 million reflecting the decrease in Operating Income Before Amortization loss discussed above and a decrease of $5.3 million in non-cash compensation expense due, in part, to an increase in forfeited awards.
Operating Income Before Amortization loss decreased by $33.6 million to a loss of $31.1 million primarily due to the factors described above in the three months discussion. Spin-Off related expenses in the prior year period were $21.1 million.
Operating loss decreased $39.1 million to a loss of $62.3 million reflecting the decrease in Operating Income Before Amortization loss discussed above and a decrease of $5.5 million in non-cash compensation expense.
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FINANCIAL POSITION, LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 2009, the Company had $1.6 billion of cash and cash equivalents, $254.0 million of marketable securities and $95.8 million in long-term debt. Long-term debt consists of $80.0 million in Liberty Bonds due September 1, 2035 and $15.8 million in Senior Notes.
During the six months ended June 30, 2009 and 2008, IAC purchased 15.3 million and 3.0 million shares of IAC common stock for aggregate consideration, on a trade date basis, of $243.2 million and $145.6 million, respectively. IAC also repurchased an additional 5.1 million shares from July 1, 2009 through July 24, 2009 for aggregate consideration of $84.4 million. At July 24, 2009 IAC had approximately 2.0 million shares remaining in its share repurchase authorization. On July 29, 2009, the Company announced that its Board of Directors authorized the repurchase of up to 20 million shares of IAC common stock which is in addition to the remaining share repurchase authorization noted above. IAC may purchase shares over an indefinite period of time, depending on those factors IAC management deems relevant at any particular time, including, without limitation, market conditions, share price and future outlook.
Net cash provided by operating activities attributable to continuing operations was $103.4 million and $68.1 million in 2009 and 2008, respectively. The increase of $35.3 million in net cash provided by operating activities attributable to continuing operations is due principally to the payment of 2007 discretionary cash bonuses in the first quarter of 2008 while 2008 discretionary cash bonuses were paid in the fourth quarter of 2008. Also contributing to the year over year increase in cash provided by operating activities is a cash tax refund in 2009 related to the overpayment of taxes in 2008.
Net cash used in investing activities attributable to continuing operations in 2009 of $170.5 million includes $129.1 million related to the net purchases, sales and maturities of marketable securities, capital expenditures of $18.6 million and acquisitions, net of cash acquired, of $11.7 million. Net cash provided by investing activities attributable to continuing operations in 2008 of $147.3 million includes the net proceeds of $174.2 million related to the sales, maturities and purchases of marketable securities, the proceeds of $60.9 million from the sales of long-term investments and the proceeds of $32.9 million from the sale of EPI, partially offset by purchases of long-term investments of $58.9 million, capital expenditures of $35.7 million, and acquisitions, net of cash acquired, of $20.3 million. The purchases of long-term investments in 2008 related primarily to the Company's equity investment in The HealthCentral Network. The proceeds from the sale of long-term investments relate primarily to the sale of Points.
Net cash used in financing activities attributable to continuing operations in 2009 of $74.1 million includes the purchase of treasury stock of $225.1 million, partially offset by the proceeds related to the issuance of common stock, net of withholding taxes, of $149.1 million. Included in the proceeds related to the issuance of common stock are aggregate proceeds of $150.9 million from the exercise of warrants to acquire 11.5 million shares of IAC common stock that were due to expire on February 4, 2009. The strike price of the warrants was $13.09 per share. Net cash used in financing activities attributable to continuing operations in 2008 of $148.9 million includes the purchase of treasury stock of $145.6 million and the issuance of common stock, net of withholding taxes, of $4.3 million.
Net cash used in discontinued operations was $1.0 million and $233.9 million in 2009 and 2008, respectively. Net cash used in discontinued operations in 2008 relates primarily to the operations of Ticketmaster, HSNi, ILG and Tree.com. The Company does not expect future cash flows associated with existing discontinued operations to be material.
IAC anticipates that it will need to make capital and other expenditures in connection with the development and expansion of its overall operations. The Company may make a number of acquisitions which could result in the reduction of its cash balance or the incurrence of debt. IAC expects that 2009 capital expenditures will be lower than 2008.
IAC believes that its cash on hand along with its anticipated operating cash flows in 2009 and its access to capital markets are sufficient to fund its operating needs, capital, investing and other commitments and contingencies for the foreseeable future.
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CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
Contractual Obligations(a)
Long-term obligations(b)
Purchase obligations(c)
Operating leases
Total contractual cash obligations
Refer to Note 1 to the consolidated financial statements for a description of recent accounting pronouncements.
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IAC'S PRINCIPLES OF FINANCIAL REPORTING
IAC reports Operating Income Before Amortization as a supplemental measure to generally accepted accounting principles ("GAAP"). This measure is one of the primary metrics by which we evaluate the performance of our businesses, on which our internal budgets are based and by which management is compensated. We believe that investors should have access to, and we are obligated to provide, the same set of tools that we use in analyzing our results. This non-GAAP measure should be considered in addition to results prepared in accordance with GAAP, but should not be considered a substitute for or superior to GAAP results. IAC endeavors to compensate for the limitations of the non-GAAP measure presented by providing the comparable GAAP measure with equal or greater prominence, financial statements prepared in accordance with generally accepted accounting principles, and descriptions of the reconciling items, including quantifying such items, to derive the non-GAAP measure. We encourage investors to examine the reconciling adjustments between the GAAP and non-GAAP measure which we discuss below.
Definition of IAC's Non-GAAP Measure
Operating Income Before Amortization is defined as operating income excluding, if applicable: (1) non-cash compensation expense, (2) amortization of non-cash marketing, (3) amortization and impairment of intangibles, (4) goodwill impairment, (5) pro forma adjustments for significant acquisitions, and (6) one-time items. We believe this measure is useful to investors because it represents the consolidated operating results from IAC's segments, taking into account depreciation, which we believe is an ongoing cost of doing business, but excluding the effects of any other non-cash expenses. Operating Income Before Amortization has certain limitations in that it does not take into account the impact to IAC's statement of operations of certain expenses, including non-cash compensation, non-cash marketing, and acquisition-related accounting.
Pro Forma Results
We will only present Operating Income Before Amortization on a pro forma basis if we view a particular transaction as significant in size or transformational in nature. For the periods presented in this report, there are no transactions that we have included on a pro forma basis.
One-Time Items
Operating Income Before Amortization is presented before one-time items, if applicable. These items are truly one-time in nature and non-recurring, infrequent or unusual, and have not occurred in the past two years or are not expected to recur in the next two years, in accordance with SEC rules. For the periods presented in this report, there are no one-time items.
Non-Cash Expenses That Are Excluded From IAC's Non-GAAP Measure
Non-cash compensation expense consists principally of expense associated with the grants, including unvested grants assumed in acquisitions, of restricted stock, restricted stock units and stock options. These expenses are not paid in cash, and we include the related shares in our fully diluted shares outstanding which, for restricted stock units and stock options, are included on a treasury method basis. Upon vesting of restricted stock and restricted stock units and the exercise of certain stock options, the awards are settled, at the Company's discretion, on a net basis, with the Company remitting the required tax withholding amount from its current funds.
Amortization of non-cash marketing consists of non-cash advertising secured from Universal Television as part of the transaction pursuant to which VUE was created, and the subsequent transaction by which IAC sold its partnership interests in VUE (collectively referred to as "NBC Universal Advertising"). The NBC Universal Advertising is available for television advertising on
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various NBC Universal network and cable channels without any cash cost. At June 30, 2009, there was $13.4 million of NBC Universal Advertising credits available for use.
The NBC Universal Advertising is excluded from Operating Income Before Amortization because it is non-cash and generally is incremental to the advertising the Company otherwise secures as a result of its ordinary cost/benefit marketing planning process. Accordingly, the Company's aggregate level of advertising, and the increased concentration of that advertising on NBC Universal network and cable channels, does not reflect what our advertising effort would otherwise be without these credits, which will expire on December 31, 2009 if not exhausted before then. As a result, management believes that treating the NBC Universal Advertising as an expense does not appropriately reflect its true cost/benefit relationship, nor does it best reflect the Company's long-term level of advertising expenditures. Nonetheless, while the benefits directly attributable to television advertising are always difficult to determine, and especially so with respect to the NBC Universal Advertising due to its incrementality and heavy concentration, it is likely that the Company does derive benefits from it, though management believes such benefits are generally less than those received through its regular advertising for the reasons stated above. Operating Income Before Amortization therefore has the limitation of including those benefits while excluding the associated expense.
Amortization of intangibles is a non-cash expense relating primarily to acquisitions. At the time of an acquisition, the intangible assets of the acquired company, such as technology and supplier agreements, are valued and amortized over their estimated lives. While it is likely that we will have significant intangible amortization expense as we continue to acquire companies, we believe that since intangibles represent costs incurred by the acquired company to build value prior to acquisition, they were part of transaction costs.
RECONCILIATION OF OPERATING INCOME BEFORE AMORTIZATION
For a reconciliation of Operating Income Before Amortization to operating income (loss) by business and to net earnings (loss) attributable to IAC shareholders in total for the three and six months ended June 30, 2009 and 2008, see Note 7 to the consolidated financial statements.
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Item 3. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Risk
The Company's exposure to market rate risk for changes in interest rates relates primarily to the Company's investment portfolio and long-term debt.
Investment Portfolio
The Company invests its excess cash in certain cash equivalents and marketable securities, which consist primarily of money market instruments and short-to-intermediate-term debt securities issued by the U.S. government, U.S. governmental agencies, states of the U.S. and subdivisions thereof and investment grade corporate issuers. The Company employs a methodology that considers available evidence in evaluating potential impairment of its investments. Investments are considered to be impaired when a decline in fair value below the amortized cost basis is determined to be other-than-temporary. If a decline in fair value is determined to be other-than-temporary, an impairment loss is recorded and a new cost basis in the investment is established.
Based on the Company's total debt investment securities as of June 30, 2009, a 100 basis point increase or decrease in the level of interest rates would, respectively, decrease or increase the fair value of the debt investment securities by $2.0 million. Such potential increase or decrease in fair value is based on certain simplifying assumptions, including a constant level and rate of debt securities and an immediate across-the-board increase or decrease in the level of interest rates with no other subsequent changes for the remainder of the period. Conversely, since almost all of the Company's cash balance of approximately $1.6 billion is invested in variable rate interest earning assets, the Company would also earn more (less) interest income due to such an increase (decrease) in interest rates.
Long-term Debt
At June 30, 2009, the Company's outstanding debt approximated $95.8 million, all of which pays interest at fixed rates. If market rates decline, the Company runs the risk that the related required payments on the fixed rate debt will exceed those based on market rates. A 100 basis point increase or decrease in the level of interest rates would, respectively, decrease or increase the fair value of the fixed-rate debt by $9.3 million. Such potential increase or decrease in fair value is based on certain simplifying assumptions, including a constant level and rate of fixed-rate debt for all maturities and an immediate across-the-board increase or decrease in the level of interest rates with no other subsequent changes for the remainder of the period.
Equity Price Risk
At June 30, 2009, the Company has investments in equity securities of publicly traded companies that are considered available-for-sale marketable equity securities and are included in "Long-term investments" in the accompanying consolidated balance sheet. These available-for-sale marketable equity securities, with the exception of the Company's investment in Meetic, are accounted for in accordance with SFAS No. 115 "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS No. 115") and reported at fair value based on quoted market prices with unrealized gains or losses on these securities, net of tax, included as a component of "Accumulated other comprehensive income" in the accompanying consolidated balance sheet. These investments in equity securities of publicly traded companies are subject to significant fluctuations in fair value due to the volatility of the stock market. The Company's investment in Meetic is accounted for using the equity method of accounting, as described below. During 2009, the Company recorded an impairment charge on available-for-sale marketable equity securities of $3.9 million, as described below. It is not customary for the Company to make significant investments in equity securities as part of its marketable securities investment strategy.
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As part of the consideration for the sale of HSE on June 19, 2007, IAC received from ARO approximately 5.5 million shares of ARO stock plus additional consideration in the form of a CVR. ARO shares are listed on the German stock exchange (XETRA: ARO) and as a result, IAC is exposed to changes in ARO's stock price. ARO filed for insolvency on June 9, 2009. This filing accelerates the maturity date of the CVR and fixed its redemption value, which was dependent on the value of the 5.5 million shares of ARO stock, at €54 million. The ARO stock is an available-for-sale marketable equity security that is accounted for in accordance with SFAS No. 115. The CVR is accounted for as a derivative asset and maintained at fair value each reporting period with any changes in fair value recognized in current earnings as a component of other income (expense) in the consolidated statement of operations each period. During the second quarter of 2009, the Company sold 4.3 million shares of ARO stock, resulting in a loss of $12.3 million and concluded that the decline in the price of the remaining 1.1 million shares of ARO stock was other-than-temporary and wrote the value of the remaining shares of ARO stock down to €0.61 per share, the ARO stock price on June 30, 2009, resulting in a $3.9 million impairment charge. The carrying value of the Company's 1.1 million shares of ARO stock is €0.7 million or $1.0 million at June 30, 2009. In addition, the Company recorded a $38.2 million impairment charge related to the CVR based upon the Company's assessment of the CVR's fair value at June 30, 2009 of €13.4 million or $18.9 million. The Company will continue to monitor the progress of the insolvency proceedings of ARO in the coming months and will reassess the fair value of the CVR each reporting period. The impairment charges related to both the 1.1 million shares of ARO stock and the CVR are included in "Other income (expense)" in the accompanying consolidated statement of operations.
On October 25, 2004, IAC made an investment in OpenTable, Inc. ("OpenTable"), a provider of online restaurant reservations. The purchase price of the investment was $15.1 million in cash and was accounted for under the cost method. On May 21, 2009, OpenTable became a public company trading on the Nasdaq stock exchange (Nasdaq: OPEN) and as a result, IAC is exposed to changes in OpenTable's stock price. As a result of this transaction, IAC no longer accounts for its investment using the cost method of accounting but rather accounts for such investment as an available-for-sale marketable equity security in accordance with SFAS No. 115. The carrying value of the OpenTable investment is $65.7 million at June 30, 2009. The related unrealized gain of $30.4 million, net of deferred taxes, is included in other comprehensive income in the accompanying consolidated financial statements.
On June 5, 2009, in exchange for Match Europe, IAC received approximately 6.1 million shares of common stock (a 27% stake) in Meetic, an online dating company based in France, plus a promissory note valued at $6.2 million. Meetic shares are listed on the Euronext stock exchange (EPA: MEET) and as a result, IAC is exposed to changes in Meetic's stock price. The investment in Meetic is accounted for under the equity method of accounting. The carrying value of the Meetic investment is $154.8 million at June 30, 2009.
Foreign Currency Exchange Risk
The Company conducts business in certain foreign markets, primarily in the European Union. The Company's primary exposure to foreign currency risk relates to investments in foreign subsidiaries that transact business in a functional currency other than the U.S. Dollar, primarily the Euro and British Pound Sterling. However, the exposure is mitigated since the Company has generally reinvested profits from international operations in order to grow the businesses. The statements of operations of the Company's international operations are translated into United States dollars at the average exchange rates in each applicable period. To the extent the United States dollar strengthens against foreign currencies, the translation of these foreign currency denominated transactions results in reduced revenues and operating income. Similarly, the Company's revenue and operating income will increase for our international operations if the United States dollar weakens against foreign currencies. The
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Company is also exposed to foreign currency risk related to its assets and liabilities denominated in a currency other than the functional currency.
As the Company increases its operations in international markets it becomes increasingly exposed to potentially volatile movements in currency exchange rates. The economic impact of currency exchange rate movements on the Company is often linked to variability in real growth, inflation, interest rates, governmental actions and other factors. These changes, if material, could cause the Company to adjust its financing and operating strategies. Foreign exchange gains and losses were not material to the Company's earnings in 2009 and 2008. As currency exchange rates change, translation of the income statements of the Company's international businesses into U.S. dollars affects year-over-year comparability of operating results. Historically, the Company has not hedged foreign currency translation risks because cash flows from international operations were generally reinvested locally. However, the Company periodically reviews its strategy for hedging foreign currency translation risks. The Company's objective in managing its foreign currency risk is to minimize its potential exposure to the changes that exchange rates might have on its earnings, cash flows and financial position.
Item 4. Controls and Procedures
The Company monitors and evaluates on an ongoing basis its disclosure controls and internal control over financial reporting in order to improve their overall effectiveness. In the course of this evaluation, the Company modifies and refines its internal processes as conditions warrant.
As required by Rule 13a-15(b) under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), our management, including our Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined by Rule 13a-15(e) and 15d-15(e) under the Exchange Act). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of the end of the period covered by this report, our disclosure controls and procedures were effective in providing reasonable assurance that information we are required to disclose in our filings with the Securities and Exchange Commission under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Commission's rules and Forms, and include controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.
As required by Rule 13a-15(d) of the Exchange Act, the Company, under the supervision and with the participation of the Company's management, including the Chief Executive Officer and Chief Financial Officer, also evaluated whether any changes occurred to the Company's internal control over financial reporting during the period covered by this report that have materially affected, or are reasonably likely to materially affect, such control. Based on that evaluation, the Company concluded that there has been no such change during the period covered by this report.
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PART II OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Issuer Purchases of Equity Securities
The following table sets forth purchases by the Company of its common stock during the quarter ended June 30, 2009:
April 2009
May 2009
June 2009
IAC also repurchased an additional approximately 5.1 million shares from July 1, 2009 through July 24, 2009 pursuant to the October 2006 repurchase authorization, after which IAC had approximately 2.0 million shares remaining this authorization.
Item 4. Submission of Matters to a Vote of Security Holders
Annual Meeting
On June 15, 2009, IAC's annual meeting of stockholders (the "2009 Annual Meeting") was held. Stockholders present in person or by proxy, representing 103,752,060 shares of IAC common stock
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(entitled to one vote per share) and 12,799,999 shares of IAC Class B common stock (entitled to ten votes per share), voted on the following matters:
1. Election of Directors—stockholders elected the following eleven directors of the Company to hold office until the next annual meeting of stockholders or until their successors have been duly elected and qualified:
Elected by holders of IAC common stock voting as a separate class:
Donald R. Keough
Bryan Lourd
Alan G. Spoon
Elected by holders of IAC common stock and IAC Class B common stock, voting together as a single class:
Edgar Bronfman, Jr.
Barry Diller
Victor A. Kaufman
John C. Malone
Arthur C. Martinez
David Rosenblatt
Alexander von Furstenberg
Michael P. Zeisser
2. The Match Equity Proposal—stockholders approved an award for one of the Company's executive officers denominated in equity of one of the Company's subsidiaries (and potential future awards similarly denominated) (the "Match Equity Proposal"). The affirmative vote of the holders of a majority of the voting power of all shares of IAC capital stock present at the 2009 Annual Meeting voting in person or represented by proxy and voting together was required to approve the Match Equity Proposal. Stockholders eligible to vote voted as follows:
3. The Auditor Ratification Proposal—stockholders ratified the appointment of Ernst & Young LLP as the Company's independent registered public accounting firm for the year ended December 31, 2009. The affirmative vote of the holders of a majority of the voting power of all shares of IAC capital stock present at the 2009 Annual Meeting voting in person or represented by proxy and voting together was required to ratify this appointment. Stockholders eligible to vote voted as follows:
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Item 6. Exhibits
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: August 7, 2009
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