ITEM 1. BUSINESS
Introduction
AOL Inc. (referred to herein as “AOL”, the “Company”, “we”, “our” or “us”) is a leading global media technology company with a substantial worldwide audience and a suite of digital brands, products and services that we offer to consumers, advertisers, publishers and subscribers. We are focused on attracting and engaging consumers by creating and offering high quality branded online digital content, products and services and providing valuable advertising services on both our owned and operated properties and third-party websites.
We market our offerings to advertisers on both AOL Properties and on third party internet sites (the “Third Party Properties”). AOL Properties include our owned and operated content, products and services in the Membership Group and Brand Group segments, which are each described in further detail below. AOL Properties also include co-branded websites owned or operated by third parties for which certain criteria have been met, including the requirement that the internet traffic has been assigned to us. Our AOL subscription service, which we offer consumers in the United States for a monthly fee, is a valuable distribution channel for AOL Properties. Through AOL Platforms we provide third party publishers and our AOL Properties with premium products and services, such as premium formats, video advertising and content personalization, intended to make their websites and applications attractive to advertisers as well as the ability to programmatically sell advertising inventory. Through AOL Platforms, we provide advertisers the ability (i) to programmatically plan, buy and measure advertising across all screens and advertising formats using self-serve technology or our managed services and (ii) to buy advertising inventory using traditional advertising sales methods. We also provide advertisers and other content providers the ability to syndicate and measure video viewing and engagement activity at scale across all internet-enabled devices (i.e., desktop, mobile and internet-enabled television).
We are in the midst of executing a multi-year strategic plan to reinvigorate growth in our revenues and profits by taking advantage of the continuing migration of advertising, commerce and information to the internet and digital devices. Our strategy is to focus our resources on AOL’s core competitive strengths in technology platforms, subscription services, and content and advertising, including video content and advertising formats while expanding the distribution of our premium content, and our product and service offerings on multiple platforms and digital devices, including on internet-enabled televisions, smartphones and tablets. This approach includes our continued focus on our video content production and distribution and our video advertising offerings. We continue to reinvigorate AOL’s culture and brand by prioritizing the consumer experience, making greater use of data-driven insights, encouraging innovation and optimizing our advertising technology to create an end-to-end open data platform.
AOL was founded in 1985 and later merged with Time Warner Inc. (“Time Warner”) in 2001. In the fourth quarter of 2009, the board of directors of Time Warner approved the complete legal and structural separation of the Company from Time Warner (the “spin-off”), following which we became an independent, publicly-traded company. On November 2, 2009, the Company converted from AOL Holdings LLC, a limited liability company wholly owned by Time Warner, to AOL Inc., a Delaware corporation wholly owned by Time Warner. The spin-off occurred on December 9, 2009.
During 2014 we completed acquisitions that added many important components to our advertiser and publisher platform. In January 2014 we acquired Project Rover, Inc. (“Gravity”), a company that offers multi-screen content optimization and personalization using patented technology that creates interest graphs based on individuals’ interests, preferences and habits and that allows publishers to offer a tailored and relevant selection of editorial and advertising content to readers. In May 2014 we acquired Convertro, Inc. (“Convertro”), a leading multi-touch attribution modeling technology company. In December 2014 we acquired Vidible, Inc. (“Vidible”), a programmatic video exchange platform for discovering and distributing video content that will enable licensees and licensors to distribute and monetize video content across all internet-enabled devices.
Segments
Our business is organized into the following three reportable segments:
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The Brand Group, which consists of our portfolio of distinct and unique content brands as well as certain service brands. The results for this segment include the performance of our advertising offerings on a number of owned and operated sites, such as AOL.com, The Huffington Post, TechCrunch and MapQuest. The Brand Group also includes co-branded websites owned or operated by third parties for which certain criteria have been met, including the requirement that the internet traffic has been assigned to us.
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The Membership Group, which consists of offerings that serve our registered account holders, both free and paid. The results for this segment include the performance of our subscription offerings and advertising offerings on Membership Group properties, including communications products, such as AOL Mail.
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AOL Platforms (formerly referred to as AOL Networks), which consists of interconnected programmatic (automated) and premium advertising offerings and technologies that advertisers and publishers use to reach consumers across all devices (i.e., desktop, mobile and television), and includes formats such as display, including video and social formats. AOL Platforms also provides additional technology solutions that enhance our programmatic platforms and enable advertisers and publishers to have an end-to-end open programmatic media buying experience by providing access to Third Party Properties, AOL Properties ad serving, content personalization, targeting, attribution and cross-channel analytics. The results for this segment include the performance of Advertising.com (“Ad.com”), AdLearn Open Platform (“AOP”), Adap.tv, Marketplace by ADTECH (“Marketplace”), AOL On, Be On, ADTECH, Gravity, Vidible and Convertro.
In addition to the above reportable segments, we have a corporate and other category that includes activities that are not directly attributable or allocable to a specific segment. This category primarily consists of broad corporate functions and includes legal, human resources, accounting, analytics, finance and marketing as well as activities and costs not directly attributable to a particular segment such as restructuring costs, tax settlements and other general business costs. The corporate and other category also includes the elimination of revenues resulting from transactions between the Brand Group, Membership Group and AOL Platforms segments.
For financial information about our segments for the years ended December 31, 2014, 2013, and 2012, see “Note 12” in our accompanying consolidated financial statements and “Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
The Brand Group
The Brand Group seeks to be a leading publisher of relevant and engaging online content and a provider of engaging online consumer products and services, by utilizing highly scalable publishing platforms and content management systems. We generate advertising revenues in the Brand Group primarily through display advertising (which includes video advertising) and search advertising. The Brand Group consists of our portfolio of distinct and unique content brands as well as certain service brands with a focus on news, women/lifestyle and technology. Through our diverse network of sites, we seek to reach a global audience on many platforms and across all devices. With consumers’ increasingly shifting to mobile devices such as smartphones and tablets, we continue to focus our efforts on creating a better user experience across formats and devices. Additionally we offer advertisers and agencies powerful, comprehensive and efficient online tools to effectively deliver advertising and to reach targeted audiences across Brand Group properties on all internet-enabled devices. We also offer and sell native advertising to advertisers. Our native advertising offerings include enabling advertisers to sponsor or publish content on our sites, that is aligned with the advertiser's brand values and messaging, while being relevant to the consumer experience on the sites.
Brand Group offerings include original content produced by professional journalists from new and traditional media, politicians, celebrities, academics, policy experts, freelance writers and bloggers, our curated content and curated and aggregated content from third parties and user-generated content. Our content offerings are made available to broad audiences through sites such as AOL.com and The Huffington Post, and related sites, as well as to specialized audiences on highly-targeted, branded properties, such as Engadget and TechCrunch. Some of these sites also serve as entry points for our other services, such as AOL Search. Additionally, we have entered into joint ventures and other strategic partnerships with third parties with established brands in an effort to expand our content offerings. To facilitate the intake, creation, management and publication of original content, we utilize publishing platforms and content management systems that are designed to scale in a cost-effective manner in order to produce a large variety of relevant content for consumers. In some instances, we have entered into third party partnerships in certain content verticals, which typically provide that the Brand Group receives a share of advertising revenue sold on a co-branded site. The Brand Group continues to simplify its brand portfolio, focusing on fewer, more relevant brands and in 2014 we shuttered or disposed of several brands, including Patch. For more information related to our material dispositions, see “Note 4” in our accompanying consolidated financial statements. The Brand Group offers many highly engaging and relevant brands, including:
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AOL.com-AOL.com curates and aggregates compelling and engaging content, including content verticals around news, sports, entertainment and finance, and provides easy access to important services such as AOL Search and AOL Mail. We seek to continuously develop and refine our home page by offering enhanced features and functionality, including original video content and user interface improvements.
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The Huffington Post-an influential news, opinion and lifestyle website with user comments, which also includes many sections that offer news and perspectives on different subject areas, such as multicultural issues, healthy living and politics. We have expanded The Huffington Post internationally and it is now in over 10 countries, largely through partnerships with established local media companies. In 2014 and beyond we seek to continue the expansion of The Huffington Post. Additionally, HP Live! provides live online streaming video programming that leverages The Huffington Post’s community and social platform and invites real-time viewer engagement and interaction by smartphone, tablet or webcams.
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MapQuest-a leading online mapping and directions service. We seek to continue to supplement our MapQuest offerings beyond navigation through the launch of original travel content and enhanced trip planning features. We plan on further refining our mobile products with features and enhancements that enable users to experience trips more efficiently. MapQuest also licenses its business-to-business services to third party customers.
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Other brands-Moviefone, TechCrunch, Engadget, Makers and StyleMePretty
Through different services operated by AOL Platforms, advertisers are able to access inventory on Brand Group properties and our AOL Properties are able to optimize their content offerings, using multi-screen content optimization and personalization.
Increasingly, consumers access the internet on devices other than a personal computer. We continue to develop and offer applications for our existing desktop products and services that are optimized for display on portable devices, such as smartphones and tablets, and on internet-enabled televisions. In addition, we also continue to develop and offer applications specific to such devices.
We plan to continue our focus on creating a better user experience across our brands, investing in mobile applications within the Brand Group, prioritizing launches of key brands, collaborating with other providers in order to have our mobile applications included in their offerings, and expanding our mobile advertising platform. We offer AOL search on AOL Properties within the Brand Group and Membership Group.
We provide our consumers with a general, internet-based search experience that utilizes the organic web search results of Google Inc. (“Google”), presents additional links on the search results page that showcase contextually relevant AOL and third-party content and information and provides a variety of search-related features (such as suggesting related searches to help users further refine their search queries). We also provide our consumers with relevant paid text-based search advertising through our relationship with Google, in which we provide consumers sponsored link ads in response to their search queries. We distribute our search experience via AOL owned and operated properties globally, enabling users to access AOL's search services through search boxes, homepage resets, toolbars, browser extensions, and working with internal and external partners to drive traffic to our search landing pages. In addition, we offer vertical search services (i.e., search within a specific content category) and mobile search services on Brand Group and Membership Group properties.
We also offer contextually relevant advertising from both Google and AOL’s proprietary products. These advertisements are placed on sites targeted by advertisers based on the content of the websites. We also market our search services through search engine marketing, working with marketing partners to drive traffic to, and maximize the utilization of, our search services.
While the majority of our search revenues are reflected within the results of the Brand Group, search-related revenues are also included within the results of the Membership Group for search offerings provided in that segment.
Content, products and services on Brand Group properties are generally available to consumers and we are focused on attracting greater numbers of consumers to our offerings. In addition, we utilize various distribution channels as described below which allow us to more directly reach online consumers.
Certain of our Brand Group properties, such as our AOL.com portal and HuffingtonPost.com, serve as valuable distribution channels for our content, products and services as do our subscription services. We utilize our premium video platform as a means of distributing content and increasing engagement across our Brand Group properties. We use a variety of other distribution channels as well, including agreements with manufacturers of devices and other consumer electronics and mobile carriers. We distribute our content, products and services directly to consumers on the open web and through the Apple App Store, the Google Play Store, the Amazon Appstore and the Android Market. Additional distribution channels include toolbars, widgets, co-branded portals and websites, mobile aggregators, third-party websites and social networks (whether offered directly or by means of partnerships with social network operators such as Facebook, Inc. (“Facebook”), or enabling users to share our content through social networks) that link to AOL Properties. We also utilize search engine marketing and search engine optimization as distribution methods. We make available open standards and protocols for use by third-party developers to enhance, promote and distribute our properties.
The Membership Group
The Membership Group consists of offerings that serve our registered account holders, both free and paid. The Membership Group creates integrated experiences that allow our consumers to have access to useful content from important brands, communication tools, including AOL Mail, and valuable services, such as AOL Search. In addition, we continue to offer new products and services that are either third party or AOL-developed products that are made available to our subscribers as value-added benefits in their packages, or in some instances, to all internet customers on a stand-alone basis. We offer advertisers and agencies tools to effectively deliver advertising and reach targeted audiences across Membership Group properties. Advertising inventory on Membership Group sites not sold directly to advertisers may be included for sale to advertisers through AOL Platforms and is reflected as intersegment revenue within the Membership Group. Search offerings are also provided on Membership Group properties.
As of December 31, 2014, we had approximately 2.2 million domestic AOL subscribers. Our subscribers are important users of Brand Group and Membership Group properties, and engaging our subscribers, as well as former AOL subscribers who continue to utilize our free service plan, is an important component of our strategy. Our paid subscription plans provide a suite of products and services ranging from online storage, privacy and security solutions to technical support, back-up and unlimited dial-up internet access options, computer protection and partner discounts.
Similar to the Brand Group, through different services operated by AOL Platforms, advertisers are able to access inventory on Membership Group properties and our AOL Properties are able to optimize their content offerings, using multi-screen content optimization and personalization.
As part of our ongoing efforts to increase customer satisfaction and retention, we continue to develop, test and market additional new products, services and packages. AOL subscribers are able to manage their subscriptions through an online self-service portal as well as through telephone and chat-based customer support options.
We also offer a wide range of a la carte products and services, including computer tools, maintenance services, online technical support, anti-virus software, identity theft protection, online and social media privacy and reputation monitoring services, online learning and other lifestyle services. Consumers are likewise able to manage these products and services through an online self-service portal as well as through telephone and chat-based customer support options.
We also offer free communications tools, such as AOL Mail, which is a leading e-mail service in the United States. AOL Mail is a significant source of our consumer traffic and engagement.
We distribute Membership Group properties through channels similar to the Brand Group as described above.
AOL Platforms
AOL Platforms aims to help advertisers and publishers solve fundamental challenges presented by the digital marketing landscape by making available programmatic platforms, video offerings and advertising solutions. AOL Platforms offers our advertising technology products and services to advertisers, publishers and other technology companies individually or on a bundled basis. Advertisers and publishers can access our offerings on an individual basis, choosing specific services for their requirements from our suite of offerings, or on a bundled basis, accessing our full suite of services and offerings via our end-to-end open programmatic media buying experience. We aim to develop our current relationships with publishers and advertisers and continue to drive increased global advertiser investment and publisher growth.
Advertising revenues on AOL Platforms are primarily generated when we acquire and/or make available advertising inventory from AOL Properties or Third Party Properties and then use our proprietary optimization, targeting and delivery technology to match advertisers and their objectives with available inventory. Through our video offerings such as AOL On, Be On and Adap.tv, AOL Platforms is able to effectively create, curate and distribute video programming and video advertisements. AOL Platforms also provides integrated ad serving solutions to enable publishers and advertisers to efficiently manage, serve and report on their advertising programs. We expect cross-screen digital media advertising to increase as consumer habits shift towards digital media. As the number of advertisers seeking to reach consumers across multiple devices is also on the rise, and as consumer habits continue to shift towards digital media, we believe that AOL Platforms is positioned to address these market and consumer trends through its platforms, offerings and solutions. For more information related to our material acquisitions, see “Note 4” in our accompanying consolidated financial statements.
Programmatic Platforms
AOL Platforms’ programmatic technology automates ad planning and buying by matching publisher inventory to advertiser-designated criteria, across all internet-enabled devices and advertising formats. AOL Platforms is comprised of various programmatic technologies, including AOP, Adap.tv and MARKETPLACE, as well as complementary products and services, including ADTECH, Advertising.com, multi-touch attribution models (Convertro), and content personalization (Gravity). Through AOL Platforms, we seek to help our publishers and advertisers solve what we believe are critical marketing industry challenges of business inefficiency and data loss. We believe that companies will integrate into larger, more comprehensive programmatic platforms rather than operating independently as the use of programmatic advertising increases. We also expect that advertisers will use programmatic platforms that can absorb, utilize and protect multiple data sets across screens, formats and inventory types. We also offer advertisers the ability to target advertisements to specific users across all devices using device linking technology that utilizes identifiable information, such as geographic location, previous exposure to certain advertisements and/or user behavior online.
Our programmatic platform consists of the following offerings that advertisers and publishers use independently or in combination with one another on a self-service or managed-service basis:
AOP
AOP is our global demand side platform that leverages AdLearn, our proprietary scheduling, optimization and delivery technology that optimizes advertising placements against available inventory on Third Party Properties and AOL Properties. AOP is used by advertisers and agencies to programmatically plan, buy and measure online advertising across all internet-enabled devices and advertising formats. Advertisers have access to premium non-reserved inventory on Third Party Properties through Advertising.com and other inventory sources, and premium reserved and non-reserved inventory on AOL Properties. Advertisers have the option to use AOP through our self-service technology or our managed-services.
Adap.tv
We acquired Adap.tv, Inc. (“Adap.tv”) in September 2013. Adap.tv is our global video exchange for advertisers and publishers that schedules, optimizes and delivers advertising placements against available inventory on Third Party Properties and AOL Properties both programmatically and on a managed service basis across all internet-enabled devices and television.
MARKETPLACE
MARKETPLACE is our global sell-side platform that enables premium publishers to programmatically sell their desktop and mobile inventory via open exchange and private marketplace environments. MARKETPLACE is also available as a self-service programmatic tool or managed-service solution. Using MARKETPLACE, third party publishers can sell their inventory alongside certain AOL Properties.
Other Technologies
The following technology solutions enhance our programmatic platforms and enable advertisers and publishers to have an end-to-end open programmatic media buying experience by providing access to Third Party Properties and AOL Properties, ad serving, content personalization and attribution and analytics.
Advertising.com (Ad.com)
Ad.com is our legacy global third-party advertising network. Ad.com inventory includes non-reserved display inventory, including video inventory, from third-party publishers which can be bundled and sold with inventory from Brand Group and Membership Group properties. Advertisers can conduct campaigns across desktop, mobile and
social formats. Advertisers can access Ad.com inventory programmatically through AOP through the AdLearn technology that gets smarter at matching and optimizing media the more it is used. Advertisers can also access Ad.com inventory using our traditional managed service for both brand and direct response marketing.
The Company, Yahoo! Inc. (“Yahoo”) and Microsoft Corporation (“Microsoft”) are parties to non-exclusive agreements that allow advertising networks operated by each of the companies to offer each other’s premium non-reserved online display inventory to their respective customers. This partnership offers advertisers and agencies the efficiency of buying premium display at scale to reach customers and audiences.
ADTECH
ADTECH is our proprietary ad serving technology that is the primary ad server used by our Brand Group and Membership Group properties. In addition, we license this ad serving technology to third parties through our ADTECH subsidiaries in the United States and Europe. ADTECH supports premium display advertising, including video advertising, across all internet-enabled devices.
Gravity
Through Gravity, we offer content personalization and native advertising to Third Party Properties and AOL Properties.
Convertro
Convertro is a leading attribution modeling technology company that we acquired in May 2014. The attribution modeling technology enhances the ability of advertisers to customize their audience segments and establish a map of a user journey to a particular event across media channels (e.g., a conversion or completion), thereby enabling advertisers to develop a media plan that maximizes return on ad spend across various media channels. We believe this technology provides solutions to brands and agencies seeking to have an expansive and holistic view of their target customers across their entire purchasing path in real-time.
Video Platform
Our premium video platform includes content, technology and distribution channels for content providers, publishers and advertisers to access and distribute video content at scale. We remain focused on the continued expansion of our video platform for both AOL Properties and Third Party Properties. Through Vidible we plan to provide a programmatic video exchange platform for discovering and distributing video content that will enable licensees and licensors to distribute and monetize video content across all internet-enabled devices.
Content
AOL On, our premium video syndication service, which includes over a dozen curated content channels, can be accessed through and experienced across all internet-enabled devices. AOL On includes original programming and video content from a large number of syndication partners. Through Be On, advertisers are able to create, syndicate and measure branded video content at scale across all internet-enabled devices. Our Be On offering provides a platform for long-form branded content across all internet-enabled devices and we seek to provide brands with the tools and resources to create, syndicate at scale and measure premium content that consumers desire to watch and share.
Distribution
AOL On distributes ad-supported video content across a vast network of Third Party Properties and AOL Properties via all internet enabled devices. We believe that the Vidible video exchange technology will expand our video content management tools by providing another piece in the single end-to-end open platform that AOL Platforms continues to work towards. We expect that Vidible will also create an open marketplace for video for our partners seeking to curate, syndicate and monetize their content.
Technology
Our video technology platform is designed to meet a variety of video-related needs of our customers including those related to content distribution, monetization and measurement across all internet-enabled devices and video formats. In addition to AOL On and Be On technology platforms, Adap.tv is also a key platform that our advertisers and publishers use to buy and sell video advertising inventory programmatically across all internet-enabled devices. We believe Vidible, our programmatic video exchange platform, will also enhance our growing platform by providing partners access to additional video management, syndication and analytics tools.
Other Premium Formats and Ad Experiences
We have upgraded and consolidated our creative platforms to improve the premium ad experiences we can offer advertisers and publishers across all devices. Advertisers and publishers use the Pictela platform globally on a self-service or managed services basis to achieve aesthetic quality, impact and interactivity of online advertising while showcasing their products and services. Through our Pictela platform we aim to drive higher quality ad experiences and deeper consumer engagement.
Similar to our other AOL Platforms offerings, we support premium ad experiences across all formats and screens and encourage advertisers and publishers to use our sophisticated ad targeting strategies to drive improved results by delivering ads to the most interested consumers in relevant context.
Revenues
Global Advertising and Other Revenues
Across our segments, our advertising operations focus on the following:
AOL Properties. We sell advertising on AOL Properties, which include owned and operated content, products and services included in the Membership Group and Brand Group segments. AOL Properties also include co-branded websites owned or operated by third parties for which certain criteria have been met, including that the internet traffic has been assigned to us.
Third Party Properties. We sell advertising on Third Party Properties and offer advertising services to the publishers of these sites.
In addition to global advertising revenues, we also generate other revenues across our Third Party Properties and AOL Properties.
AOL Properties Advertising Revenue
We generate advertising revenues on AOL Properties through display advertising (which includes video advertising) and search advertising. We offer advertisers a wide range of capabilities and solutions to effectively deliver advertising and reach targeted audiences across AOL Properties through our dedicated advertising sales force. A significant area of our focus is on offering customized premium display advertising, including video. A
growing area of focus is on offering advertisers access to native advertising. The substantial number of unique visitors on AOL Properties allows us to offer advertisers the capability of reaching a broad and diverse demographic and geographic audience without having to partner with multiple content providers. We seek to provide effective and efficient advertising solutions utilizing data-driven insights that help advertisers decide how best to engage consumers. We offer advertisers marketing and promotional opportunities to purchase specific placements of advertising directly on AOL Properties (i.e., in particular locations and on specific dates). In addition, we offer advertisers the opportunity to bid on unreserved display advertising inventory on AOL Properties utilizing our proprietary scheduling, optimization and delivery technology. Finally, advertising inventory on AOL Properties not sold directly to advertisers, as described above, may be included for sale to advertisers by AOL Platforms with inventory purchased from third-party publishers. In addition, agreements with advertisers can include other advertising-related services such as content sponsorships, exclusivities or advertising effectiveness research.
For the years ended December 31, 2014, 2013 and 2012, our advertising revenues on AOL Properties were $995.7 million, $998.7 million and $946.9 million, respectively.
Display Advertising Revenues
Display advertising revenues are generated through the display of graphical advertisements as well as performance-based advertising. Agreements for advertising on AOL Properties typically take the following forms:
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impression-based contracts in which we provide “impressions” (an “impression” is delivered when an advertisement appears in web pages viewed by users) in exchange for a fixed fee (generally stated as cost-per-thousand impressions);
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time-based contracts in which we provide promotion over a specified time period for a fixed fee; or
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performance-based contracts in which performance is measured in terms of either “click-throughs” (when a user clicks on a company’s advertisement) or other user actions such as product/customer registrations, survey participation, sales leads, product purchases or other revenue sharing relationships.
Search Advertising Revenues
Search advertising revenues are generated on AOL Properties when a consumer clicks on a text-based ad on their screen. These text-based ads are either generated from a consumer-initiated search query or generated based on the content of the web page the consumer is viewing. Google is, except in certain limited circumstances, the exclusive web search and search-based advertising provider for AOL Properties, based on our agreement that runs through December 31, 2015. In connection with these search services, Google provides us with a share of the revenue generated through paid text-based search and contextual advertising on AOL Properties. For the year ended December 31, 2014, advertising revenues associated with the Google relationship were $407.4 million. Substantially all of these revenues were search revenues generated on AOL Properties, with a significant majority generated within the Brand Group and to a lesser extent within the Membership Group. See “Item 1A
ITEM 1A.
RISK FACTORS
The risks and uncertainties described below are those which we consider material and of which we are currently aware. In addition, this Annual Report contains forward-looking statements that involve risks and uncertainties. You should carefully read the section “Cautionary Statement Concerning Forward-Looking Statements”.
If any of the following events occur, our business, financial condition or results of operations could be materially and adversely affected and the trading price of our common stock could materially decline.
Risks Relating to Our Business
Our focus on our online advertising-supported business model involves significant risks.
Growth in our advertising revenues depends on our ability to maintain and expand our existing relationships with advertisers and publishers and our ability to develop new relationships with other advertisers and publishers. Growth in our advertising revenues also depends on our ability to continue offering effective products and services for advertisers and publishers. As the advertising market generates and develops new concepts and technology, we may incur additional costs to implement more effective products and services. As programmatic advertising gains traction with more advertisers and publishers, we continue to invest in and focus on our end-to-end open technology and programmatic platforms. Continuing to develop and improve these products and services may require significant time and additional investment. If we cannot continue to develop and improve our advertising products, services and technologies in a timely and cost-effective fashion, our competitive position and results of operations could be adversely affected.
The commercial attractiveness of the programmatic advertising solutions that we offer to publishers and advertisers depends on a variety of complex and evolving factors, among them the successful integration of various components of our tech stack including technology and platforms from our recent acquisitions, the continued effective functioning and improvement of our proprietary learning algorithms, the continued ability to access and utilize relevant data about consumers and their consumption habits across multiple devices and, with respect to programmatic advertising exchange-related activities, continued automated access to the advertising inventory and application programming interfaces of publishers as well as continued robust relationships with brand advertisers and agencies.
Our programmatic advertising solutions may become less attractive, and our results of operations may suffer, as a result of changes in laws and regulations and changes in industry standards generally. In addition, the following factors may further diminish the appeal of our programmatic advertising solutions and thereby negatively affect our results of operations: with respect to the availability of consumer data, changes in consumer choices; with respect to the functioning of our algorithms, the failure or inability to access, collect or analyze relevant data (for technological reasons or otherwise); and with respect to programmatic exchange activities, access to publisher inventory and relationships with advertisers and agencies, technological limitations or restrictions imposed by advertisers and publishers themselves.
In order for us to increase advertising revenues in the future, we believe it will be important to increase our overall volume of advertising sold and to maintain or increase pricing for advertising. If we are not able to attract consumers to, and engage consumers with, those AOL Properties that typically generate higher-priced and higher-volume advertising, our advertising revenues may not increase even if the aggregate number of consumers on AOL Properties increases and their aggregate engagement increases.
Additionally, there are different cost structures within our advertising business. In order to generate display advertising revenues on Third Party Properties, we incur TAC. While a majority of the costs associated with
generating display advertising on Third Party Properties are variable, a majority of costs associated with generating display advertising revenue on AOL Properties are fixed. Therefore, even if we generate higher display advertising revenues on Third Party Properties, because there are lower incremental margins associated with these sales, the increase in our operating income will be less than it would with an equivalent increase in display revenues on AOL Properties.
Additionally, advertising revenues are more unpredictable and variable than our subscription revenues, and are more likely to be adversely affected during economic downturns, as spending by advertisers tends to be cyclical in line with general economic conditions.
We face intense competition in all aspects of our business.
The internet industry, with its low barriers to entry and rapidly shifting consumer tastes, is dynamic and rapidly evolving. Competition among internet companies offering online content, products and services, as well as with traditional offline content and advertising companies which are increasingly offering their own online content, products and services, is intense both domestically and globally and new competitors can quickly emerge. Additionally, as the use of programmatic advertising continues to increase, we compete with companies that have also invested in programmatic platform offerings. As companies integrate into larger, more comprehensive programmatic platforms, new competitors may arise and our business could be adversely affected if we do not continue to invest in, develop and improve our programmatic products and services.
As consumers increasingly use mobile devices and as the demand for video content and advertising increases, we compete with other companies in developing and offering mobile and video content and advertising products and services. If consumers, advertisers and publishers do not widely adopt our mobile and video offerings or if we do not generate sufficient revenue from our mobile or video offerings, our competitive position could be adversely affected.
In addition, companies offering services to advertisers are increasingly seeking to track individual consumer usage across devices through the use of tracking and data correlation technologies. To the extent companies with a larger audience reach than ours are able to track individual consumer usage in this way and gather data about consumers that is valuable to advertisers, those companies will have a competitive advantage. If we cannot develop and offer effective tracking and data correlation technologies or we do not have access to a sufficient consumer audience, our advertising products and services may not be as valuable to advertisers and publishers and our competitive position and results of operations may be harmed.
Additionally, we could be at a competitive disadvantage in the long term if we are not able to capitalize on international opportunities, especially as compared to a number of our competitors who maintain an expansive global presence. If our competitors are more successful than we are in developing compelling content, products and services or in attracting and retaining consumers, advertisers, publishers and subscribers domestically and internationally, our business could be adversely affected.
If we do not continue to develop and offer compelling content, products and services and attract new consumers or maintain the engagement of our existing consumers, our advertising revenues could be adversely affected.
In order to attract consumers and maintain or increase engagement on AOL Properties, we believe we must offer compelling content, products and services across all devices, including mobile. Acquiring, developing and offering new content, products and services, as well as new functionality, features and enhanced performance of our existing content, products and services, may require significant investment and time to develop. In addition, consumer tastes are difficult to predict and subject to rapid change.
In general, our subscribers are among the most engaged consumers on AOL Properties. As our subscriber base declines, it is advantageous to maintain the engagement of former AOL subscribers and increase the number and
engagement of other consumers on AOL Properties in order to successfully execute our business model. Additionally, consumer engagement on certain of the AOL Properties, such as AOL.com, has a significant impact on our operating results and we continue to focus on efforts to maintain or increase engagement on those properties. For example, we derive a significant portion of our search advertising revenue from search queries on AOL.com. If we are unable to develop online content, products and services that are attractive and relevant to AOL.com consumers, we may not be able to maintain or increase our existing consumers’ engagement on or attract new consumers to AOL.com and as a result our search advertising revenues may be adversely affected.
Our subscriber base could decline faster than we currently anticipate which could result in a decrease in our subscription and advertising revenues.
Our subscriber base has declined and is expected to continue to decline. This decline has been the result of several factors, including the increased availability of high-speed internet broadband connections and attractive bundled offerings by such broadband providers, the fact that a significant amount of online content, products and services has been optimized for use with broadband internet connections and the effects of our strategic shift to focus on generating advertising revenues, which resulted in us essentially eliminating our marketing efforts for our subscription access services and the free availability of the vast majority of our content, products and services. Although we provide many additional products and services as part of our subscription plans, there can be no assurance that our subscribers will value the bundles of services we offer and they may cancel their subscriptions at any time. If any of these factors result in our subscriber base declining faster than we currently anticipate, our subscription and advertising revenues could be adversely affected.
We are dependent on a third-party search provider.
We do not own or control a general web search service or search advertising system. Google is, except in certain limited circumstances, the exclusive provider of web search and search sponsored links on AOL Properties through December 31, 2015. For the year ended December 31, 2014, search advertising revenues comprised approximately 21% of our total advertising and other revenues. Changes that Google has made and may unilaterally make in the future to its search service or advertising network, including changes in its policies and guidelines, pricing, algorithms or advertising relationships, could adversely affect our advertising revenues. Additionally, a decline or an unfavorable change in our relationship with Google could materially affect our advertising revenues. In addition, if Google fails to perform its obligations under the search agreement or terminates the terms of the search agreement, it may have an adverse effect on our business.
Upon expiration of our agreement with Google on December 31, 2015, there can be no assurance that the agreement will be renewed, or, if the agreement is renewed, that we would receive the same revenue share as we do under the current agreement. In addition, there can be no assurance that if we enter into an arrangement with an alternative search provider the terms would be as favorable as those under the current Google agreement. Even if we were to enter into an arrangement with an alternative search provider with terms as or more favorable than those under the current Google agreement, such an arrangement might generate significantly lower search advertising revenues.
Changes to products, technology and services made by third parties and consumers could adversely affect our business.
We are dependent on many products, technologies and services provided by third parties, including browsers, data and search indexes, in order for consumers to use our content, products and services, as well as to deliver, measure, render and report advertising. Any changes made by these third parties or consumers to functionality, features or settings of these products, technologies and services could adversely affect our business. For example, third parties may develop, and consumers may install, software that is used to block display or search advertisements or delete cookies, or consumers may elect to manually delete cookies more frequently. The widespread adoption of
products and technologies or changes to current products, technologies and services could adversely affect our business.
We rely on legacy technology infrastructure and a failure to update, scale or replace this technology infrastructure could adversely affect our business.
While we continue our efforts to update our technology infrastructure to minimize costs and maximize efficiencies, many of our products and services are dependent on technology infrastructure that was developed a number of years ago. The technology infrastructure utilized for our consumer offerings and advertising services is highly complex and may not provide satisfactory support as usage increases and products and services expand, change and become more complex in the future. In addition, we incur significant costs operating our business with multiple technology platforms and infrastructure. Updating and replacing our technology infrastructure may be challenging to implement and manage, may take time to test and deploy, may cause us to incur substantial costs and may cause us to suffer data loss or delays or interruptions in service which could adversely affect our business. Competitors with newer technology infrastructure may have greater flexibility and be in a position to respond more quickly than us to new opportunities, which could impact our competitive position in certain markets and adversely affect our business.
If we are unable to hire, engage and retain key management and other personnel, our business could be adversely affected.
Our future success depends in large part upon the continued service of key members of our management team and other personnel. If we do not succeed in retaining and engaging our key employees and in attracting new key personnel, we may be unable to meet our strategic objectives, including maintaining or building our most valuable brands and developing our end-to-end open programmatic platform, and, as a result, our business could be adversely affected. In particular, Tim Armstrong, our CEO, is critical to our overall management, as well as the development of our strategic direction and culture. We do not maintain any key-person life insurance policies.
If we cannot effectively distribute our content, products and services, our ability to attract new customers and maintain the engagement of existing consumers could be adversely affected.
As the behavior of internet consumers continues to change, distribution of our content, products and services via traditional methods may become less effective, and new distribution strategies may need to be developed. Consumers are increasingly using social networking sites to communicate and to acquire and disseminate information rather than through instant messaging, electronic mail and portals. As consumers migrate towards social networks, we continue to build social elements into our content, products and services in order to make them available on social networks and to attract and engage consumers on our properties, for example by allowing consumers to contribute comments or their own original content. There is no guarantee that we will be able to successfully integrate our content with such social networking or other new consumer trends. Even if we are able to distribute our content, products and services effectively through social networking or other new or developing distribution channels, this does not assure that we will be able to attract new consumers.
Currently, an important distribution channel for AOL Properties is through our subscription services. However, our subscriber base has declined and is expected to continue to decline. This continued decline is likely to reduce the effectiveness of our subscription services as a distribution channel. In addition, certain of our websites, including the AOL home page portal and The Huffington Post, act as valuable distribution channels for other AOL Properties. If we are unable to grow organically by attracting new consumers directly to our content, products and services or if traffic to our portals declines or our portals are less successful as a distribution vehicle for other AOL Properties, we may need to rely on distribution channels that require us to pay significant fees to third parties such as operators of third-party websites, online networks, software companies, device manufacturers, and others to promote or supply our services to their users.
Previously, we entered into distribution agreements with computer manufacturers to install our products and services on their personal computers and laptops. We no longer regularly enter into such agreements and as consumers upgrade their hardware, our products and services may not be as easily accessible. Additionally, our products and services may not be compatible on or supported by new hardware. A decline in the traffic and engagement from these consumers could adversely affect our advertising and subscription revenue.
To the extent that we cannot generate consumer and advertiser awareness and adoption of our mobile applications, content, products and services, including new forms of internet advertising for mobile and other internet enabled devices, our business could be adversely impacted.
Global consumers are increasingly accessing and using the internet through devices other than personal computers, such as smartphones, tablets and televisions. As consumer usage shifts away from personal computers and laptops, we expect that our ability to grow advertising revenue will become increasingly dependent on our ability to generate revenue from ads on mobile and other internet enabled devices such as set-top boxes (e.g., Roku, Amazon Fire TV). In order for consumers to access and use our content, products and services via these devices, we must continue to ensure that our content, products and services are compatible with such devices. We need to continue to secure arrangements with device manufacturers and carriers to promote prominent and effective distribution of our content, products and services. In addition to placement agreements with wireless carriers and device manufacturers, currently we offer applications directly to consumers for download from AOL Properties, the Apple App Store, the Google Play Store, or through other distribution channels. We are dependent on the interoperability of our products with popular mobile operating systems that we do not control, such as Android and iOS. To the extent a manufacturer or access provider makes any changes in these systems or terms of service that decreases our products' functionality, gives preferential treatment to competitive products, or prevents our ability to show ads, this could adversely affect our usage and revenue on mobile devices.
The amount of revenues earned in connection with mobile and other internet enabled devices is currently small relative to total advertising revenues. Also, business models in the marketplace seem to be undergoing experimentation and rapid change.
A disruption or failure of our networks and information systems, the internet or other technology may disrupt our business.
Our business is heavily dependent on the availability of network and information systems and services, other technologies, including those owned or licensed by third parties, and the internet. Shutdowns or service disruptions caused by events such as criminal activity, sabotage or espionage, computer viruses, hacking and other cyber-security attacks, router disruption, automated attacks such as denial of service attacks, power outages, natural disasters, accidents, terrorism, equipment failure or other events within or outside our control could adversely affect us and our consumers, including loss or compromise of data, service disruption, damage to equipment and data and excessive call volume to call centers. Furthermore, such attacks are not always able to be immediately detected, which means that we may not be in a position to promptly address the attacks or to implement adequate preventative measures. Such events could result in large expenditures necessary to recover data, or repair or replace such networks or information systems or to protect them from similar events in the future. As not all of our systems are fully redundant, some data or systems might not be recoverable after such events. In addition, not all of our systems operate in the same data centers. Significant incidents could result in a disruption of parts of our business, consumer dissatisfaction, damage to our brands, legal costs or liability, and a loss of consumers or revenues.
If our network and data security measures are breached, our products and services may be perceived as not being secure, consumers and customers may curtail or stop using our products and services and we may incur significant legal and financial costs.
Our products and services involve the storage and transmission of our consumers’ and customers’ personal and proprietary information in our facilities and on our equipment, networks and corporate systems. Network and data security breaches expose us to a risk of loss of this information, government enforcement actions and private litigation, remediation costs, increased costs for security measures, loss of revenue, damage to our reputation and potential liability. Network and data security breaches or unauthorized access have resulted in, and may in the future result in, a combination of significant legal and financial costs, increased remediation and other costs, damage to our reputation and a loss of confidence in the security of our products, services and networks that could have an adverse effect on our business. We take steps to prevent unauthorized access to our network and consumer and customer data and corporate systems, however, because the techniques used to obtain unauthorized access, disable or degrade service, or sabotage systems change frequently or may be designed to remain dormant until a triggering event, we may be unable to anticipate these techniques or implement adequate preventative measures. In addition, hardware, software or applications we develop or procure from third parties may contain defects in design or manufacture or other problems that could unexpectedly compromise network and data security. Unauthorized parties may also attempt to gain access to our systems or facilities through fraud, trickery or other forms of deceiving our team members and contractors. We can give no assurance that a future incident could not be caused by events such as criminal activity, sabotage or espionage, computer viruses, hacking and other cyber-security attacks, router disruption, automated attacks such as denial of service attacks, power outages, natural disasters, accidents, terrorism, equipment failure, malware in advertisements, or other events within or outside our control which could adversely affect us and our consumers.
As we previously disclosed, we have determined that there was a security incident in 2014 in which there was unauthorized access to information regarding a significant number of user accounts. This information included AOL users’ email addresses, postal addresses, address book contact information, encrypted passwords and encrypted answers to security questions that we ask when a user resets his or her password, as well as certain employee information. We believe that the individuals or entities have used this contact information to send “spoofed” emails that appeared to come from roughly 2% of our email accounts. We have no indication that the encryption on the passwords or on the answers to security questions was broken or that the incident resulted in disclosure of users’ financial information, including debit and credit cards, which is also fully encrypted. Our investigation of the security incident is complete and there is no indication that we have incurred or will incur a material loss associated with the security incident.
If we cannot continue to enforce and protect our intellectual property rights, our business could be adversely affected.
We rely on patent, copyright, trademark, domain name and trade secret laws in the United States and similar laws in other countries, as well as licenses and other agreements with our employees, consumers, content providers, suppliers and other parties, to establish and maintain our intellectual property rights in the technology, content, products and services used in our operations. These laws and agreements may not guarantee that our intellectual property rights will be protected and our intellectual property rights could be challenged or invalidated. Amendments to or interpretations of U.S. patent laws or new rulings around U.S. patent laws may adversely impact our ability to protect our new technologies, content, products and services and to defend against claims of patent infringement. In addition, such intellectual property rights may not be sufficient to permit us to take advantage of current industry trends or otherwise to provide competitive advantages, which could result in costly redesign efforts, discontinuance of offerings, decreased traffic and associated revenue or otherwise adversely affect our business. As we acquire and publish more original content, our intellectual property may be increasingly subject to misappropriation by others, and the costs to protect and enforce our intellectual property rights may increase. Additionally, as new generic top-level domains launch, we will likely register a significant number of domain names
and initiate more enforcement actions in order to protect and defend the trademark rights in our brands, and we may incur significant costs as a result.
We have been, and may in the future be, subject to claims of intellectual property infringement or tort law violations that could adversely affect our business.
Many companies (including patent holding companies) and individuals own patents, copyrights, trademarks, and trade secrets and frequently enter into litigation based on allegations of infringement or other violations of intellectual property rights. As we develop and offer new products, services, and technologies through various distribution channels we may experience an increase in the number of intellectual property claims against us. These claims, whether meritorious or not, may result in litigation, may be time-consuming and costly to resolve, and may require expensive changes in our methods of doing business and/or our content, products and services. These intellectual property infringement claims may require us to enter into royalty or licensing agreements on unfavorable terms or to incur substantial monetary liability. Additionally, these claims may result in our being enjoined preliminarily or permanently from further use of certain intellectual property and/or our content, products and services, or may require us to cease or significantly alter certain of our operations. The occurrence of any of these events as a result of these claims could result in substantially increased costs, could limit or reduce the number of our offerings to consumers, advertisers, publishers and AOL subscribers, could stifle innovation or otherwise adversely affect our business.
Some of our commercial agreements may require us to indemnify third parties against intellectual property infringement claims, which may require us to use substantial resources to defend against or settle such claims or, potentially, to pay damages. These third parties may also discontinue the use of our products, services, and technologies, as a result of injunctions or otherwise, which could result in loss of revenues and adversely impact our business. Additionally, we may be exposed to liability or substantially increased costs if a commercial partner does not honor its contractual obligation to indemnify us for intellectual property infringement claims made by third parties or if any amounts received are not adequate to cover our liabilities or the costs associated with defense of such claims. The occurrence of any of these events could adversely affect our business.
As a publisher of original content and aggregator of third party content, we also face risks of periodic tort claims such as defamation or improper use of publicity rights, as well as infringement claims such as plagiarism. Whether or not they have merit, these claims may be time-consuming or costly to resolve.
The misappropriation, release, loss or misuse of AOL, consumer or other data could adversely affect our business.
Our operations utilize significant amounts of data about our business, consumers, AOL subscribers and our advertising and publishing partners in order to deliver our content, products and services and our advertising solutions. Although we take measures to protect against unauthorized intrusion into such data, the misappropriation, release, loss or misuse of this data, whether by accident, omission or as the result of criminal activity, sabotage or espionage, hacking, computer viruses, natural disasters, terrorism, equipment failure or other events, could lead to negative publicity, harm to our reputation, customer dissatisfaction, regulatory enforcement actions or individual or class-action lawsuits or significant expenditures to recover the data or protect data from similar releases in the future, and may otherwise adversely affect our business. With respect to our AOL subscribers, if we or other companies experience any unauthorized intrusion into subscribers’ or customers’ data, our subscribers may not be willing to provide the information necessary for them to continue their subscription, and our business could be adversely affected. Additionally, many of our subscribers pay by credit or debit card. Data breaches at other companies have resulted and could in the future result in card cancellations of some of our subscribers. To the extent we do not receive updated payment information for these subscribers, the rate of our subscriber base decline could increase. Furthermore, as not all of our systems are fully redundant, some data or systems might not be recoverable in a catastrophic event or other significant service disruption.
New or existing federal, state or international laws or regulations or industry self-regulatory principles applicable to our business or the lack of regulations could subject us to claims or otherwise adversely affect our business.
Our business is subject to a variety of federal, state and international laws and regulations and industry self-regulatory principles, including those with respect to consumer privacy, advertising generally, consumer protection, content regulation, network neutrality, cyber security, data protection, intellectual property (including copyright, patent, trademark and trade secret laws), defamation, child protection, advertising to and collecting information from children, taxation, employment classification, billing, subpoena and warrant processes and others. These laws, regulations and principles and the interpretation or application of these laws, regulations and principles could change. In addition, new laws, regulations or principles affecting our business could be enacted. Furthermore, many laws were adopted prior to the advent of the internet and related technologies or have an unsettled application or scope with respect to the internet and related technologies and therefore their application on our business is often uncertain. Additionally, as our business evolves, we may be subject to new laws and the application of existing laws to us might change. These laws, regulations and principles are frequently costly to comply with and may divert a significant portion of management’s attention. If we fail to comply with these applicable laws, regulations or principles, we could receive negative publicity and be subject to significant liabilities which could adversely affect our business.
In the United States, internet access services are generally classified as “information services” and, since open internet rules promulgated in 2010 have been struck down by the DC Circuit Court of Appeals, are not subject to regulation by the Federal Communications Commission (“FCC”). The FCC has voted to reclassify internet access services as "telecommunications services" under Title II of the Telecommunications Act, which will subject internet service providers ("ISPs") to regulation that may restrict such providers from blocking or discriminating against content, but we do not know whether the rules implemented as a result of this vote will be adequate to prevent such conduct. Broadband providers have threatened litigation to challenge this action. In addition, Congress is considering legislation that would impose open internet protection, but it is unclear when Congress may take such action or whether that action will be successful. Currently the uncertainty of regulation or legislation preventing broadband ISPs from blocking or discriminating against our content could adversely affect our business.
Many of our advertising partners are subject to industry specific laws and regulations or licensing requirements, including advertisers in the following industries: pharmaceuticals, online gaming, alcohol, adult content, tobacco, firearms, insurance, securities brokerage, real estate, sweepstakes, free trial offers, automatic renewal services and legal services. If any of our advertising partners fails to comply with any of these licensing requirements or other applicable laws or regulations, or if such laws and regulations or licensing requirements become more stringent or are otherwise expanded, we could receive negative publicity, incur significant penalties or our business could be otherwise adversely affected.
Failure to comply with federal, state or international privacy laws or regulations, or the expansion of current or the enactment of new privacy laws or regulations, could adversely affect our business.
A variety of federal, state and international laws and regulations govern the collection, use, retention, sharing and security of consumer data. In addition to the potentially differing interpretations of existing law, the present landscape of public policy and privacy creates uncertainty for business planning. In such an uncertain environment, it is difficult to make informed long-term business planning decisions about data use, notice, storage, access, retention or choice. The existing privacy-related laws and regulations as well as industry self-regulatory principles are evolving and subject to potentially differing interpretations. There is a possibility that these laws may be interpreted in a way that is inconsistent with our practices. In addition, various federal, state and foreign legislative and regulatory bodies may expand current or enact new laws regarding data protection and privacy matters. We have posted privacy policies and practices concerning the collection, use and disclosure of user data on our websites. Any failure, or perceived failure, by us to comply with our posted privacy policies or with any data-related consent
orders, Federal Trade Commission requirements or orders or other federal, state or international privacy or consumer protection-related laws, regulations or industry self-regulatory principles could result in claims, proceedings or actions against us by governmental entities or others or other liabilities, or could result in us having to change our data collection practices, which could adversely affect our business. In addition, a failure or perceived failure to comply with industry standards or with our own privacy policies and procedures could result in a loss of consumers or advertisers and adversely affect our business.
Federal, state and international governmental authorities continue to evaluate the privacy implications inherent in the use of cookies and a variety of other data correlation technologies for advertising and measurement. Our data management platform is designed to be a comprehensive suite of advertising technologies that will deploy tracking and data correlation technologies, the regulation of which could adversely affect our business.
Any restructuring actions and cost reduction initiatives that we undertake may not deliver the expected results and these actions may adversely affect our business operations.
We have undertaken and expect to continue to undertake various restructuring activities and cost reduction initiatives in an effort to better align our organizational structure and costs with our strategy. In connection with such activities, we may experience a disruption in our ability to perform functions important to our strategy. Such activities could result in significant disruptions to our operations, including adversely affecting the timeliness of product releases, the successful implementation and completion of our strategic objectives and the results of our operations. If we do not fully realize or maintain the anticipated benefits of this or any restructuring plans and cost reduction initiatives, our business could be adversely affected.
The terms of our revolving credit facility contain restrictive covenants which limit our business and financing activities.
The terms of our revolving credit facility include customary covenants which impose restrictions on our business and financing activities, subject to certain exceptions or the consent of our lenders including, among other things, limits on our ability to incur additional debt, create liens, enter into merger, acquisition and divestiture transactions, pay dividends and engage in transactions with affiliates. The credit facility contains certain customary affirmative covenants, including a requirement that we maintain a maximum consolidated leverage ratio and a minimum consolidated interest coverage ratio, and customary events of default. Our ability to comply with these covenants may be adversely affected by events beyond our control, including economic, financial and industry conditions. A breach of any of the credit facility covenants, including a failure to maintain a required ratio or meet a required test, may result in an event of default. This may allow our lenders to terminate the commitments under the credit facility, declare all amounts outstanding under the credit facility (if any), together with accrued interest, to be immediately due and payable and exercise other rights and remedies. If this occurs, we may not be able to refinance the accelerated indebtedness on acceptable terms, or at all, or otherwise repay the accelerated indebtedness.
We may not have the ability to raise the funds necessary to settle conversions of the Notes in cash, repay the Notes at maturity or repurchase the Notes upon a fundamental change.
Holders of our Notes have the right to require us to repurchase all or a portion of their Notes upon the occurrence of a fundamental change at a repurchase price equal to 100% of the principal amount of the Notes to be repurchased, plus accrued and unpaid interest, if any. In addition, upon conversion of the Notes, unless we elect to deliver solely shares of our common stock to settle such conversion (other than paying cash in lieu of delivering any fractional share), we will be required to make cash payments in respect of the Notes being converted. Moreover, we will be required to repay the Notes in cash at their maturity, unless earlier converted or repurchased. However, we may not have enough available cash or be able to obtain financing at the time we are required to make repurchases of Notes surrendered therefor or pay cash with respect to Notes being converted or at their maturity.
In addition, our ability to repurchase or to pay cash upon conversion or at maturity of the Notes may be limited by law, regulatory authority or agreements governing our future indebtedness. Our failure to repurchase Notes at a time when the repurchase is required by the Indenture or to pay cash upon conversion or at maturity of the Notes as required by the Indenture would constitute a default under the Indenture. A default under the Indenture for the Notes or the fundamental change itself could also lead to a default under our credit facility or agreements governing our future indebtedness. Moreover, the occurrence of a fundamental change under the Indenture could constitute an event of default under any such agreements. If the payment of the related indebtedness were to be accelerated after any applicable notice or grace periods, we may not have sufficient funds to repay the indebtedness and repurchase the Notes or to pay cash upon conversion or at maturity of the Notes.
The conditional conversion feature of our outstanding Notes, if triggered, may adversely affect our financial condition and operating results.
In the event the conditional conversion feature of our Notes is triggered, holders of the Notes will be entitled to convert the Notes at any time during specified periods at their option. If one or more holders elect to convert their Notes, unless we elect to satisfy our conversion obligation by delivering solely shares of our common stock (other than paying cash in lieu of delivering any fractional share), we would be required to settle a portion or all of our conversion obligation through the payment of cash, which could adversely affect our liquidity. In addition, even if holders do not elect to convert their Notes, we could be required under applicable accounting rules to reclassify all or a portion of the outstanding principal of the Notes as a current rather than long-term liability, which would result in a material reduction of our net working capital.
Our outstanding Notes may be settled in cash, and the accounting method for such convertible debt securities could have a material effect on our reported financial results.
In accordance with US GAAP accounting guidance for convertible debt instruments that may be settled in cash upon conversion, we must separately account for the liability and equity components of convertible debt instruments (such as the Notes) in a manner that reflects our economic interest cost. The equity component of such instruments is required to be included in the additional paid-in capital section of stockholders’ equity on our consolidated balance sheets at the issuance date and the value of the equity component is treated as debt discount for purposes of accounting for the debt component of the Notes. As a result, we expect to record a greater amount of non-cash interest expense as a result of the amortization of the discounted carrying value of the Notes to their face amount over the term of the Notes. We will report lower net income (or larger net losses) in our financial results because accounting guidance requires interest to include both the amortization of the debt discount and the instrument’s non-convertible coupon interest rate, which could adversely affect our future financial results and the trading price of our common stock.
In addition, under certain circumstances, convertible debt instruments (such as the Notes) that may be settled entirely or partly in cash are currently accounted for utilizing the treasury stock method, the effect of which is that any shares issuable upon conversion of the Notes are not included in the calculation of diluted earnings per share except to the extent that the conversion value of the Notes exceeds their principal amount. Under the treasury stock method, for diluted earnings per share purposes, the transaction is accounted for as if the number of shares of common stock that would be necessary to settle such excess, if we elected to settle such excess in shares, are issued. We cannot be sure that the accounting standards in the future will continue to permit the use of the treasury stock method. If we are unable to use the treasury stock method in accounting for the shares issuable upon conversion of the Notes, then our diluted earnings per share would be adversely affected. In addition, our diluted earnings per share would also be adversely affected if the market price of our common stock increases such that the conversion rights of the Notes are triggered, or the market price of our common stock exceeds the applicable strike price of the warrants we issued in conjunction with the convertible note hedge and warrant transactions and become “in the money,” then our diluted earnings per share would also be adversely affected.
Future sales of our common stock or other securities convertible into our common stock could lower the market price for our common stock.
In the future, we may issue or sell additional shares of our common stock or securities convertible into or exchangeable for our common stock. In addition, a substantial number of shares of our common stock is reserved for issuance in connection with our employee benefit plans, for purchase by employees under our employee stock purchase plan, upon conversion of our outstanding convertible notes and in relation to the convertible note hedge and warrant transactions we entered into in connection with the issuance of the convertible notes. We cannot predict the size of future issuances or the effect, if any, that they may have on the market price for our common stock. The issuance and sale of substantial amounts of common stock or securities convertible into or exchangeable for our common stock, or the perception that such issuances and sales may occur, could adversely affect the market price of our common stock and impair our ability to raise capital through the sale of additional equity securities.
The convertible note hedge and warrant transactions may affect the value of our common stock.
In August 2014, we entered into convertible note hedge transactions with certain option counterparties. We also entered into warrant transactions with the option counterparties pursuant to which we will sell warrants for the purchase of our common stock. The convertible note hedge transactions are expected generally to reduce the potential dilution to our common stock upon any conversion of our outstanding Notes and/or offset any cash payments we are required to make in excess of the principal amount upon conversion of any Notes. The warrant transactions could separately have a dilutive effect to the extent that the market price per share of our common stock exceeds the strike price of the relevant warrants.
The option counterparties or their respective affiliates may modify their hedge positions by entering into or unwinding various derivatives with respect to our common stock and/or purchasing or selling our common stock or other securities of ours in secondary market transactions prior to the maturity of the Notes (and are likely to do so during any observation period related to a conversion of Notes or following any repurchase of notes by us in connection with any fundamental change repurchase date or otherwise). This activity could also cause or avoid an increase or a decrease in the market price of our common stock.
We are subject to counterparty risk with respect to the convertible note hedge transactions.
The option counterparties for our convertible note hedge transactions are financial institutions or affiliates of financial institutions, and we are subject to the risk that one or more of such option counterparties may default under the convertible note hedge transactions. Our exposure to the credit risk of the option counterparties is not secured by any collateral. If any option counterparty becomes subject to insolvency proceedings, we will become an unsecured creditor in those proceedings with a claim equal to our exposure at that time under the convertible note hedge transaction. Our exposure will depend on many factors but, generally, the increase in our exposure will be correlated to the increase in our common stock market price and in volatility of our common stock. In addition, upon a default by the option counterparty, we may suffer adverse tax consequences and dilution with respect to our common stock. We can provide no assurance as to the financial stability or viability of any option counterparty.
The terms of our outstanding Notes, Delaware law and provisions in our certificate of incorporation, bylaws and stockholder rights plan could discourage, delay or prevent a change in control of us, thereby depressing the market price of our common stock.
The holders of our Notes have the right, at their option, to require us to repurchase all or a portion of their Notes if a fundamental change occurs prior to the maturity date of the Notes. In addition, if a make-whole fundamental change occurs prior to the maturity date of the Notes, we will in some cases be required to increase the conversion rate for a holder that elects to convert its Notes in connection with such make-whole fundamental change. Furthermore, the indenture for the Notes prohibits us from engaging in certain mergers or acquisitions
unless, among other things, the surviving entity assumes our obligations under the Notes. These and other provisions in the indenture could discourage, delay or prevent a third party from acquiring us.
Our status as a Delaware corporation and the anti-takeover provisions of the Delaware General Corporation Law also may discourage, delay, or prevent a third party from acquiring us by prohibiting us from engaging in a business combination with an interested stockholder for a period of three years after the person becomes an interested stockholder, even if a change of control would be beneficial to our existing stockholders. In addition, our certificate of incorporation and bylaws contain provisions that could make it more difficult for a third party to acquire a majority of our outstanding voting stock. These provisions include the following:
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the ability of our board of directors to create and issue preferred stock without prior stockholder approval;
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the prohibition of stockholder action by written consent;
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advance notice requirements for director nominations and stockholder proposals;
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the ability of the board of directors to increase or decrease the number of directors without stockholder approval;
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the requirement that only stockholders holding not less than 40% of the voting power of our common stock may call special meetings of stockholders; and
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the ability of the board of directors to make, amend or repeal our bylaws.
We also have a stockholder rights plan that could discourage, delay or prevent a third party from acquiring us without the approval of our board of directors. Our stockholder rights plan has been filed with and is publicly available at or from the SEC.
These provisions could also delay or prevent a change in control of the Company, discourage proxy contests and make it more difficult for stockholders to elect directors of their choosing or to cause us to take other corporate actions they desire, any of which could depress the market price of our common stock.
We may need to raise additional capital, and we cannot be sure that additional financing will be available.
We have funded our ongoing working capital, capital expenditure and financing requirements through cash flows from operations, asset dispositions, borrowings under the Credit Facility Agreement and proceeds from the issuance of the Notes; however, we may require additional financing in the future. Our ability to obtain future financing will depend on, among other things, our financial condition and results of operations as well as the condition of the capital markets or other credit markets at the time we seek financing. Our ability to fund our working capital, capital expenditure and financing requirements in the future may be adversely affected if we are unable to obtain financing on acceptable terms. If we are unable to enter into the necessary financing arrangements or sufficient funds are not available on acceptable terms when required, we may not have sufficient liquidity and our business may be adversely affected.
Acquisitions of other businesses could adversely affect our operations and result in unanticipated liabilities.
Since January 1, 2014, we acquired companies such as Gravity, Convertro and Vidible and we may make additional acquisitions and strategic investments in the future. The completion of acquisitions and strategic investments as well as the integration of acquired companies or assets involve a substantial commitment of resources and we may fail to realize the anticipated benefits of such transactions and incur unanticipated liabilities that could harm our business. In addition, past or future transactions may be accompanied by a number of risks, including:
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the uncertainty of our returns on investment due to the new and developing industries in which some of the acquired companies operate;
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the adverse effect of known potential liabilities or unknown liabilities, such as claims of patent or other intellectual property infringement, associated with the companies acquired or in which we invest;
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the difficulty of integrating technology, administrative systems, personnel and operations of acquired companies into our services, systems and operations and unanticipated expenses related to such integration;
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the potential loss or disengagement of key talent at acquired companies;
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the potential disruption of our ongoing business and distraction of our management;
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additional operating losses and expenses of the businesses we acquire or in which we invest and the failure of such businesses to perform as expected;
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the failure to successfully further develop acquired technology, resulting in the impairment of amounts currently capitalized as intangible assets;
•
the difficulty of reconciling potentially conflicting or overlapping contractual rights and duties; and
•
the potential impairment of relationships with consumers, partners and employees as a result of the combination of acquired operations and new management personnel.
We face risks relating to doing business internationally that could adversely affect our business.
Our business operates and serves consumers globally. There are certain risks inherent in doing business internationally, including:
•
economic volatility and global economic uncertainty;
•
currency exchange rate fluctuations;
•
the requirements of local laws and customs relating to the publication and distribution of content and the display and sale of advertising;
•
uncertain protection and enforcement of our investment or intellectual property rights;
•
import or export restrictions and changes in trade regulations;
•
difficulties in developing, staffing and simultaneously managing a large number of foreign operations as a result of distance as well as language and cultural differences;
•
issues related to occupational safety and adherence to local labor laws and regulations;
•
political or social unrest;
•
risks related to government regulation;
•
the existence in some countries of statutory stockholder minority rights and restrictions on foreign direct ownership;
•
the presence of corruption in certain countries; and
•
higher than anticipated costs of entry.
One or more of these factors could adversely affect our business.
International expansion involves increased investment as well as risks associated with doing business abroad, as described above. In certain instances, we have expanded internationally through joint ventures, and our inability to control certain aspects of a joint venture partnership may impact the development and expansion of our offerings. Furthermore, investments in some regions can take a long period to generate an adequate return. In addition, as we expand into new international regions, we may have limited experience in operating and marketing our products and services in such regions and could be at a disadvantage compared to competitors with more experience.
We could be subject to additional tax liabilities which could adversely affect our business.
International, federal, state and local tax laws and regulations affecting our business are extremely complex and subject to varying interpretations. These tax laws and regulations, or interpretations or application of these tax laws and regulations, could change; or new laws and regulations affecting our business could be enacted. Additionally, existing laws such as the Internet Tax Freedom Act (“ITFA”), which exempts internet access from taxation by all but a few states and which has been extended until October 1, 2015, could expire, thereby imposing additional tax collection and remittance obligations that, in turn, may require significant resources to implement. There can be no assurance that our tax positions will not be challenged by relevant tax authorities or that we would be successful in any such challenge. Several taxing jurisdictions have sought to increase revenue by imposing new taxes on advertising generally, and internet advertising specifically, or by increasing general business taxes. Imposing new taxes on advertising or internet advertising would adversely affect us. Other states have sought to expand the definition of “nexus” for the purpose of taxing goods and services sold over the internet. If enacted, these new taxes would adversely affect our consumers and, as a result, could adversely affect our business.
We may not be able to utilize our tax attributes to offset future U.S. taxable income.
We believe that we have valuable tax attributes that are significant assets of the Company. Unless otherwise restricted, we can utilize these tax assets in certain circumstances to offset future U.S. taxable income, including in connection with capital gains that may be generated from a potential asset sale. Our ability to use the tax assets could be limited and the timing of the usage of the tax assets could be substantially delayed if we experience an “ownership change,” as defined in Section 382 of the Internal Revenue Code. A company generally experiences an “ownership change” for tax purposes if the percentage of stock owned by its 5% stockholders (as defined for tax purposes) increases by more than 50 percentage points over a rolling three-year period. To help protect shareholder value and preserve our ability to use the tax assets, our Board of Directors (the “Board”) adopted a Tax Asset Protection Plan (the “TAPP”) to act as a deterrent to any person acquiring beneficial ownership of 4.9% or more of our outstanding common stock without the approval of the Board. Notwithstanding the adoption of the TAPP, we cannot eliminate the possibility that an “ownership change” will occur. The amount by which our ownership may change in the future could, for example, be affected by purchases and sales of stock by stockholders and repurchases of stock by us, should we choose to do so. If the TAPP is not effective in preventing an ownership change our ability to use the tax assets to offset taxable income may be reduced or eliminated. Even if the TAPP is effective in preventing an ownership change, we will only be able to utilize these tax assets to the extent we generate taxable
income and the taxing authorities do not challenge the amount of our tax assets or otherwise make an adverse determination regarding our ability to use these assets, and therefore we are not able to guarantee that the tax assets will be valuable to us in the future.
Risks Relating to our Common Stock and the Securities Market
Our stock price may fluctuate significantly.
Our stock price has fluctuated significantly over the last two years and may fluctuate significantly in the future depending on many factors, some of which may be beyond our control, including:
•
actual or anticipated fluctuations in our operating results due to factors related to our business;
•
success or failure of our business strategy;
•
our quarterly or annual earnings, or those of other companies in our industry;
•
our ability to obtain financing as needed;
•
announcements by us or our competitors of significant acquisitions or dispositions;
•
changes in accounting standards, policies, guidance, interpretations or principles;
•
changes in earnings estimates by securities analysts or our ability to meet those estimates;
•
the operating and stock price performance of other comparable companies;
•
overall market fluctuations;
•
changes in laws and regulations affecting our business; and
•
general economic conditions and other external factors.
Stock markets in general have experienced volatility that has often been unrelated to the operating performance of a particular company. These broad market fluctuations could adversely affect the trading price of our common stock. When the market price of a company’s stock fluctuates significantly, shareholders may institute securities class action litigation against that company. Any litigation against us could cause us to incur substantial costs, divert the time and attention of our management and other resources or otherwise harm our business.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2.
ITEM 2. PROPERTIES
Our headquarters, located in New York City, is a leased property consisting of approximately 230 thousand square feet. We own a corporate campus in Dulles, Virginia comprised of office buildings, child care and support facilities of approximately 650 thousand square feet. In addition to these properties, we lease approximately 1,100 thousand square feet in over 50 facilities for use as corporate offices, sales offices, development centers, data centers and other operations in other locations in the United States and internationally. Our larger leased sites are located in California, Colorado, the District of Columbia, Illinois, Maryland, Minnesota, New York and Virginia and in the countries of Canada, Germany, India, Ireland, Israel and the United Kingdom. We sublease to third parties approximately 200 thousand square feet of our leased properties. Due to the nature of our operations, most of the properties described above are used by more than one of our segments.
We believe that our facilities are sufficient to meet our current and projected needs. We also have an ongoing process to review and update our real estate portfolio to meet changing business needs.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
We are a party to a variety of claims, suits and proceedings that arise in the normal course of business, including actions with respect to intellectual property claims, tax matters, labor and unemployment claims, commercial claims, claims related to our business model for content creation and other matters. While the results of such normal course claims, suits and proceedings cannot be predicted with certainty, management does not believe that, based on current knowledge and the likely timing of resolution of various matters, any additional reasonably possible potential losses above the amount accrued for such matters would be material to our financial statements nor does management believe there is a reasonable likelihood of any material loss from any pending legal proceedings. Regardless of the outcome, legal proceedings can have an adverse effect on us because of defense costs, diversion of management resources and other factors. See “Item 1A - Risk Factors-Risks Relating to Our Business-If we cannot continue to enforce and protect our intellectual property rights, our business could be adversely affected” and “Item 1A - Risk Factors-Risks Relating to Our Business-We have been, and may in the future be, subject to claims of intellectual property infringement or tort law violations that could adversely affect our business” included in this Annual Report.
ITEM 4.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
PART II
ITEM 5.
ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
AOL’s common stock is listed on the New York Stock Exchange (“NYSE”), under the symbol “AOL.” The following table presents the quarterly high and low sales prices for the common stock on the NYSE as reported for each period indicated:
As of February 24, 2015, there were approximately 14,668 holders of record of our common stock. Because many of our shares of common stock are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders. The closing price of the common stock on the NYSE on February 24, 2015 was $40.23.
Repurchases of Equity Securities
On July 28, 2014, the Board approved a stock repurchase program (the “2014 Stock Repurchase Program”), which authorizes us to repurchase up to $150 million of outstanding shares of common stock from time to time over the twelve months following the announcement. We did not repurchase any shares in the fourth quarter of 2014 and approximately $110 million remained authorized for stock repurchase under the 2014 Stock Repurchase Program as of December 31, 2014.
Dividend Policy
On August 26, 2012, we declared the payment of a special, one-time, cash dividend of $5.15 per share to shareholders of record at the close of business on December 5, 2012 (the “Special Cash Dividend”), which was paid on December 14, 2012. We have not made additional cash dividends since the Special Cash Dividend and we do not currently anticipate additional declarations of cash dividends on our common stock in the immediate future. The declaration of additional cash dividends on our common stock could impact the number of shares of common stock issuable under the senior convertible notes (“the Notes”).
Performance Graph
The graph below matches AOL Inc.’s cumulative 5-year total shareholder return on common stock with the cumulative total returns of the S&P Midcap 400 index and the Morgan Stanley High-Technology index. The graph tracks the performance of a $100 investment in our common stock and in each index (with the reinvestment of all dividends) from December 31, 2009 to December 31, 2014.
*
$100 invested on 12/31/09 in stock or index, including reinvestment of dividends.
Fiscal year ending December 31.
Copyright© 2014 S&P, a division of The McGraw - Hill Companies Inc. All rights reserved.
The stock price performance included in this graph is not necessarily indicative of future stock price performance.
This performance graph shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934 (the “Exchange Act”) or incorporated by reference into any of our filings under the Securities Act of 1933, as amended, or the Exchange Act, except as shall be expressly set forth by specific reference in such filing.
ITEM 6.
ITEM 6.
SELECTED FINANCIAL DATA
The following financial information for each of the five years ended December 31, 2014 has been derived from our consolidated financial statements. The selected consolidated financial data as of December 31, 2014 and 2013 and for the years ended December 31, 2014, 2013 and 2012 is derived from our audited consolidated financial statements included elsewhere in this Annual Report. The selected consolidated financial data as of December 31, 2012, 2011 and 2010 and for the years ended December 31, 2011 and 2010 is derived from audited financial statements not included herein.
The selected historical financial data presented below should be read in conjunction with our consolidated financial statements and the accompanying notes thereto, and “Item 7
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the potential gain or loss arising from changes in market rates and prices, which historically for us, has been associated primarily with changes in foreign currency exchange rates. We transact business in various foreign currencies which exposes us to the risk of fluctuations in foreign currency exchange rates. Foreign currency exchange gains and losses are not material to our financial statements in 2014, 2013 and 2012. At December 31, 2014, while the majority of our cash and accounts receivable balances were denominated in U.S. dollars, cash and accounts receivable denominated in foreign currencies made up approximately 14% of total cash and accounts receivable, including 6% in Euros, 3% in British pounds, 2% in Canadian dollars and 1% in Japanese yen.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of AOL Inc.
We have audited the accompanying consolidated balance sheets of AOL Inc. as of December 31, 2014 and 2013, and the related consolidated statements of comprehensive income, equity and cash flows for each of the three years in the period ended December 31, 2014. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of AOL Inc. at December 31, 2014 and 2013, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2014, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), AOL Inc.’s internal control over financial reporting as of December 31, 2014, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated February 27, 2015 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
New York, New York
February 27, 2015
AOL INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In millions, except per share amounts)
See accompanying notes.
AOL INC.
CONSOLIDATED BALANCE SHEETS
(In millions, except per share amounts)
See accompanying notes.
AOL INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In millions)
See accompanying notes.
AOL INC.
CONSOLIDATED STATEMENTS OF EQUITY
(In millions)
See accompanying notes.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1-DESCRIPTION OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Business
AOL Inc. (“AOL” or the “Company”) is a leading global media technology company with a substantial worldwide audience and a suite of digital brands, products and services that it offers to consumers, advertisers, publishers and subscribers. AOL is focused on attracting and engaging consumers by creating and offering high quality branded online digital content, products and services and providing valuable online advertising services on both AOL Properties and on third party internet sites (the “Third Party Properties”). AOL Properties include the Company's owned and operated content, products and services in the Membership Group and Brand Group segments. AOL Properties also includes co-branded websites owned or operated by third parties for which certain criteria have been met, including the requirement that the internet traffic has been assigned to the Company.
The Company’s strategy is to focus its resources on AOL’s core competitive strengths in content, advertising, technology platforms, video and paid services while expanding the distribution of its premium content and its product and service offerings on multiple platforms and digital devices, including on internet-enabled televisions, smartphones and tablets. AOL continues to reinvigorate its culture and brand by prioritizing the consumer experience, making greater use of data-driven insights and encouraging innovation.
AOL’s reportable segments are the Brand Group, the Membership Group and AOL Platforms (previously referred to as AOL Networks). In addition to the above reportable segments, AOL has a corporate and other category that includes activities that are not directly attributable to or allocable to a specific segment.
Brand Group
The Brand Group consists of AOL’s portfolio of distinct and unique content brands as well as certain service brands. The results for this segment reflect the performance of the Company’s advertising offerings on a number of owned and operated sites, such as AOL.com, The Huffington Post, TechCrunch, and MapQuest and include its multi-screen content optimization and personalization technology.
Membership Group
The Membership Group consists of offerings that serve AOL registered account holders, both free and paid, and is focused on delivering world-class experiences to AOL’s users who rely on these AOL products and properties. The results for this segment include AOL’s subscription offerings and advertising offerings on Membership Group properties, including communications products, such as AOL Mail.
AOL Platforms
AOL Platforms consists of interconnected programmatic (automated) and premium advertising offerings and technologies that advertisers and publishers use to reach consumers across all devices (i.e., desktop, mobile, tablet and internet-enabled television), and includes formats such as display, including video and social formats. AOL Platforms also provides additional technology solutions that enhance its programmatic platforms and enable advertisers and publishers to have an end-to-end open programmatic media buying experience by providing access to Third Party Properties, ad serving, content personalization and attribution and analytics. The results for this segment include the performance of Advertising.com, AdLearn Open Platform, Adap.tv, Marketplace by ADTECH (“Marketplace”), AOL On, Be On, ADTECH, Gravity and Convertro. The Company generates advertising revenues on AOL Platforms through the sale of advertising on third party websites and from advertising inventory on AOL Properties not sold directly to advertisers, as described above. AOL’s advertising offerings on AOL Platforms consist primarily of the sale of display advertising (which includes video advertising) and also include search advertising through sponsored listings.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Corporate and Other
Corporate and other primarily consists of broad corporate functions including legal, human resources, accounting, analytics, finance, marketing and activities and costs not directly attributable or allocable to a specific segment such as tax settlements and other general business costs. The corporate and other category also includes the elimination of revenues resulting from transactions between the Brand Group, Membership Group and AOL Platforms segments.
Basis of Presentation
Reclassifications
Advertising revenues and other revenues have been combined for all periods into a single advertising and other revenues line on the consolidated statements of comprehensive income, given the immateriality of other revenues to total revenues for all periods presented.
Basis of Consolidation
The consolidated financial statements include 100% of the assets, liabilities, revenues, expenses and cash flows of AOL and all voting interest entities in which AOL has a controlling voting interest (“subsidiaries”) and variable interest entities in which AOL is the primary beneficiary in accordance with the consolidation accounting guidance. Intercompany accounts and transactions between consolidated companies have been eliminated in consolidation. The consolidated balances of the Company’s variable interest entities are not material to the Company’s consolidated financial statements for the periods presented.
The financial position and operating results of the majority of AOL’s foreign operations are consolidated using the local currency as the functional currency. Local currency assets and liabilities are translated at the rates of exchange on the balance sheet date, and local currency revenues and expenses are translated at average rates of exchange during the period. Resulting translation gains or losses are included on the consolidated balance sheets as a component of accumulated other comprehensive income (loss), net and on the consolidated statements of comprehensive income as a component of other comprehensive income (loss), net of tax.
Redeemable Noncontrolling Interest
The noncontrolling interest in a joint venture between Mitsui & Company Ltd. and AOL (“Ad.com Japan”) is classified outside of permanent equity on the Company’s consolidated balance sheets for the years ended December 31, 2014 and 2013, due to a redemption right available to the noncontrolling interest holder in the future. The noncontrolling interest holder’s right to redeem its stock is exercisable any time between July 1 and July 30 of any year, commencing with July 1, 2014. This right was not exercised during July 2014. Net income on the consolidated statements of comprehensive income reflects 100% of the results of Ad.com Japan for the years ended December 31, 2014, 2013 and 2012 as the Company has a controlling financial interest in the entity. Net income is subsequently adjusted to exclude AOL’s noncontrolling interests to arrive at net income attributable to AOL Inc.
Use of Estimates
The preparation of the financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”) requires management to make estimates, judgments and assumptions that affect the amounts reported in the consolidated financial statements and footnotes thereto. Actual results could differ from those estimates. Significant estimates inherent in the preparation of the consolidated financial statements include asset impairments, reserves established for doubtful accounts, equity-based compensation, depreciation and amortization, business combinations, income taxes, litigation matters and contingencies.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Summary of Significant Accounting Policies
Revenues
The Company generates revenue primarily from advertising and from its subscription services. Revenue is recognized when persuasive evidence of an arrangement exists, performance under the contract has begun, the contract price is fixed or determinable and collectability of the related fee is reasonably assured.
Advertising Revenues
Advertising revenues are generated on AOL Properties through display advertising (which includes video advertising) and search advertising. Display advertising revenue is generated by the display of graphical advertisements and other performance-based advertising. Agreements for advertising on AOL Properties typically take the forms of impression-based contracts, time-based contracts or performance-based contracts. Search advertising revenue is generated when a consumer clicks on a text-based advertisement on their screen. These text-based advertisements are either generated from a consumer-initiated search query or generated based on the content of the web page the consumer is viewing. In addition to advertising revenues generated on AOL Properties, the Company also generates revenue from its advertising offerings on its Third Party Properties, which consist primarily of the sale of display advertising and also include search advertising. Advertising arrangements for the sale of Third Party Properties inventory typically take the form of impression-based contracts or performance-based contracts.
Advertising revenues derived from impression-based contracts, in which AOL provides impressions in exchange for a fixed fee (generally stated as cost-per-thousand impressions), are generally recognized as the impressions are delivered. An “impression” is delivered when an advertisement appears in web pages viewed by users. Revenues derived from time-based contracts, in which AOL provides promotion over a specified time period for a fixed fee, are recognized on a straight-line basis over the term of the contract, provided that AOL is meeting and will continue to meet its obligations under the contract (e.g., delivery of impressions over the term of the contract). Advertising revenues derived from contracts where AOL is compensated based on certain performance criteria are recognized as AOL completes the contractually specified performance. Performance is measured in terms of either “click-throughs” when a user clicks on a company’s advertisement or other user actions such as product/customer registrations, survey participation, sales leads, product purchases or other revenue sharing relationships.
Gross versus Net Revenue Recognition
In the normal course of business, the Company sometimes acts as or uses an intermediary or agent in executing transactions with third parties. The determination of whether revenue should be reported gross or net is based on an assessment of whether the Company is acting as the principal or an agent in the transaction. If the Company is acting as the principal in a transaction, the Company reports revenue on a gross basis. If the Company is acting as an agent in a transaction, the Company reports revenue on a net basis. In determining whether the Company acts as the principal or an agent, the Company follows the accounting guidance for principal-agent considerations and the Company places the most weight on whether or not the Company is the primary obligor in the arrangement.
Multiple-Element Transactions
Management analyzes contracts with multiple elements under the accounting guidance for multiple-element arrangements. The Company’s multiple-element arrangements generally include online advertising and non-advertising (i.e., insertion orders and production of a “microsite”) and involve multiple deliverables to customers across AOL Properties and/or the Third Party Properties. The guidance requires that revenue arrangements with multiple deliverables should be divided into separate units of accounting if the deliverables in the arrangement have value to the customer on a standalone basis, and if the delivery of the undelivered items in the arrangement is considered probable and substantially in the control of the vendor. If these criteria are met, then the arrangement
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
consideration is allocated among the separate units of accounting based on their relative estimated selling prices. In such circumstances, the Company uses a selling price hierarchy to determine the selling price to be used for allocating revenue to the deliverables: (i) vendor-specific objective evidence of fair value (“VSOE”), (ii) third-party evidence of selling price, and (iii) best estimate of the selling price (“BESP”). VSOE generally exists only when the Company sells the deliverable separately and VSOE is the price actually charged by the Company for that deliverable. BESPs reflect the Company’s best estimates of what the selling prices of deliverables would be if they were sold regularly on a stand-alone basis. The Company recognizes revenue from the provision of online advertising and non-advertising contracts when the advertising campaigns and the productions are delivered.
If the deliverables cannot be separated into multiple units of accounting, then the arrangement is accounted for as a combined unit of accounting and recognized into revenue based on the lower of (i) performance or (ii) straight-line as calculated in aggregate for the entire deal. Straight-line revenue recognition is determined by taking the total sold value of all deal components and recognizing that value evenly over the entire deal term.
Subscription Revenues
The Company earns revenue from its subscription services in the form of monthly or annual fees paid by subscribers to its service offerings, and such revenues are recognized on a straight-line basis as the service is provided.
Traffic Acquisition Costs
AOL incurs costs through arrangements in which it acquires third-party online advertising inventory for resale and arrangements whereby partners direct traffic to AOL Properties (e.g., UV acquisitions). AOL considers these costs to be traffic acquisition costs (“TAC”). TAC arrangements have a number of different economic structures, the most common of which are: payments based on a cost per thousand impressions or based on a percentage of the ultimate advertising revenues generated from the advertising inventory acquired for resale and payments for direct traffic delivered to AOL Properties priced on a per click basis (e.g., search engine marketing fees). These arrangements are primarily on a variable basis; however, the arrangements can also be on a fixed-fee basis, which often carry reciprocal performance guarantees by the counterparty, or a combination of fixed and variable fees. TAC agreements with fixed payments are typically expensed ratably over the term of the agreement. TAC agreements with variable payments are typically expensed based on the volume of the underlying activity at the specified contractual rates. TAC agreements with a combination of a fixed fee for a minimum amount of traffic delivered or other underlying activity and variable payments for delivery or performance in excess of the minimum are typically recognized into expense at the greater of straight-line or actual performance, taking into account counterparty performance to date and the projected counterparty performance over the term of the agreement.
Restructuring Costs
Restructuring costs consist primarily of employee termination benefits and contract termination costs, including lease exit costs. The Company’s restructuring actions include one-time involuntary termination benefits as well as certain contractual termination benefits or employee terminations under ongoing benefit arrangements. One-time involuntary termination benefits are recognized as a liability at estimated fair value when the plan of termination has been communicated to employees and certain other criteria are met. Ongoing termination benefit arrangements are recognized as a liability at estimated fair value when it is probable that amounts will be paid to employees and such amounts are reasonably estimable. Contract termination costs are recognized as a liability at fair value when a contract is terminated in accordance with its terms, or when AOL has otherwise executed a written termination of the contract. When AOL ceases using a facility but does not intend to or is unable to terminate the operating lease, AOL records a liability for the present value of the remaining lease payments, net of estimated sublease income, if any, that could be reasonably obtained for the property (even if the Company does not intend to sublease the facility for the remaining term of the lease). Costs associated with exit or disposal activities, including the related one-time and ongoing involuntary termination benefits, are reflected as restructuring costs on the
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
consolidated statements of comprehensive income. See “Note 9” for additional information about the Company’s restructuring activities.
Equity-Based Compensation
AOL records compensation expense under AOL’s equity-based compensation incentive plans based on the equity awards granted to employees.
In accounting for equity-based compensation awards, the Company follows the accounting guidance for equity-based compensation, which requires that a company measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. The cost associated with stock options is estimated using the Black-Scholes option-pricing model. The cost of equity instruments granted to employees is recognized in the consolidated statements of comprehensive income on a straight-line basis (net of estimated forfeitures) over the period during which an employee is required to provide service in exchange for the award. The Company begins recording equity-based compensation expense related to employee awards with performance conditions when it is considered probable that the performance conditions will be met. See “Note 8” for additional information on equity-based compensation.
Asset Impairments
Goodwill
Goodwill is tested annually for impairment during the fourth quarter or earlier upon the occurrence of certain events or substantive changes in circumstances that indicate goodwill is more likely than not impaired. These indicators include a sustained, significant decline in the Company’s stock price; a decline in its expected future cash flows; significant disposition activity; a significant adverse change in the economic or business environment; and the testing for recoverability of a significant asset group, among others. The occurrence of these indicators could have a significant impact on the recoverability of goodwill and could have a material impact on the Company’s consolidated financial statements.
The testing of goodwill for impairment is required to be performed at the level referred to as the reporting unit. During 2014, the Company had three reporting units for purposes of the goodwill impairment test; the Brand Group, the Membership Group and AOL Platforms.
Goodwill impairment is determined using a two-step process. The first step involves a comparison of the estimated fair value of a reporting unit to its carrying amount, including goodwill. If the estimated fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is not impaired and the second step of the impairment test is not necessary. If the carrying amount of a reporting unit exceeds its estimated fair value, then the second step of the goodwill impairment test must be performed. To measure the amount of impairment loss, if any, AOL determines the implied fair value of goodwill in the same manner as the amount of goodwill recognized in a business combination. Specifically, the estimated fair value of the reporting unit is allocated to all of the assets and liabilities of that unit (including any unrecognized intangible assets) as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the price paid to acquire the reporting unit. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess.
See “Note 3” for more information on the goodwill impairment testing for 2014.
Long-lived Assets
Long-lived assets, including finite-lived intangible assets (e.g., acquired technology and customer relationships), do not require that an annual impairment test be performed; instead, long-lived assets are tested for impairment upon the occurrence of an indicator of potential impairment. Once an indicator of potential impairment
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
has occurred, the impairment test is based on whether the intent is to hold the asset for continued use or to hold the asset for sale. If the intent is to hold the asset for continued use, the impairment test first requires a comparison of estimated undiscounted future cash flows generated by the asset group against the carrying value of the asset group. The Company groups long-lived assets for purposes of recognition and measurement of an impairment loss at the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities. If the carrying value of the asset group exceeds the estimated undiscounted future cash flows, the asset group would be deemed to be potentially impaired. Impairment, if any, would then be measured as the difference between the estimated fair value of the asset and its carrying value. Fair value is generally determined by discounting the future cash flows associated with that asset group. If the intent is to hold the asset group for sale and certain other criteria are met (i.e., the asset group can be disposed of currently, appropriate levels of authority have approved the sale and there is an active program to locate a buyer), the impairment test involves comparing the asset group’s carrying value to its estimated fair value less estimated costs of disposal. To the extent the carrying value is greater than the asset group’s estimated fair value less estimated costs of disposal, an impairment loss is recognized for the difference.
AOL recorded non-cash asset impairments and write-offs related to long-lived assets held and used and held for sale of $13.6 million, $12.1 million and $4.9 million in 2014, 2013 and 2012, respectively, included in costs of revenues and general and administrative expense on the consolidated statements of comprehensive income. The charge recorded in 2014 related primarily to asset write-offs in connection with capitalized internal-use software projects. The charge recorded in 2013 included a $7.5 million charge related to internal-use software related to Patch. The charge recorded in 2012 related primarily to asset write-offs in connection with facility consolidation, computer retirements and capitalized internal-use software project terminations.
Income Taxes
Income taxes are presented on the consolidated financial statements using the asset and liability method prescribed by the accounting guidance for income taxes. Income taxes (e.g., deferred tax assets, deferred tax liabilities, taxes currently payable/refunds receivable and tax expense) are recorded based on amounts refundable or payable in the current year and include the deferred income tax effects of temporary differences between the carrying amounts of assets and liabilities and their tax bases, stated at enacted tax rates expected to be in effect when the taxes are actually paid or recovered. Deferred income taxes reflect expected future tax benefits (i.e., assets) and future tax costs (i.e., liabilities). The tax effect of net operating loss, capital loss and general business credit carryovers result in deferred tax assets. Valuation allowances are established when management determines it is “more likely than not” that some portion or all of the deferred tax asset may not be realized. The Company considers all positive and negative evidence in evaluating its ability to realize its deferred income tax assets, including its historical operating results, ongoing tax planning, and forecast of future taxable income, on a jurisdiction by jurisdiction basis.
With respect to uncertain tax positions, AOL recognizes in the consolidated financial statements those tax positions determined to be “more likely than not” of being sustained upon examination, based on the technical merits of the positions. AOL records a liability (or reduces deferred tax assets) for the difference between the benefit recognized and measured pursuant to the accounting guidance for income taxes and the tax position taken on its tax return. The Company adjusts its estimates for uncertain tax positions periodically because of ongoing examinations by, and settlements with, the various taxing authorities, as well as changes in tax laws, regulations and interpretations. The consolidated tax provision for any given year includes adjustments to prior year income tax accruals that are considered appropriate and any related estimated interest. The Company’s policy is to recognize, when applicable, interest and penalties on uncertain tax positions as part of income tax expense.
Certain Risks and Concentrations
The Company’s financial instruments include primarily cash and equivalents, accounts receivable, accounts payable, accrued expenses and other current liabilities. Due to the short-term nature of these assets and liabilities,
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their carrying amounts approximate their fair value. Financial instruments that potentially subject the Company to concentrations of credit risk are primarily cash and accounts receivable.
The Company maintains its cash and equivalents balances in the form of money market accounts, U.S. treasury bills and time deposits. The Company maintains cash deposits with banks that at times exceed applicable insurance limits. The Company reduces its exposure to credit risk by maintaining such deposits with high quality financial institutions that management believes are creditworthy.
The Company is also exposed to counterparty credit risk as a result of the note hedge transactions. Upon default by the option counterparty, the Company may suffer dilution and tax consequences with respect to its common stock.
The Company’s exposure to customer credit risk relates primarily to advertising customers and individual subscribers to AOL’s subscription services, and is dispersed among many different counterparties, with no single customer having a receivable balance in excess of 10% of total net receivables at December 31, 2014 or 2013.
For each of the periods presented herein, the Company has had a contractual relationship with Google Inc. (“Google”) whereby Google provides paid text-based search advertising on AOL Properties. For the years ended December 31, 2014, 2013 and 2012, the revenues associated with the Google relationship (substantially all of which were search revenues generated on AOL Properties), were $407.4 million, $373.3 million and $350.9 million, respectively.
Cash and Equivalents
Cash equivalents primarily consist of highly liquid short-term investments with an original maturity of three months or less, which include money market accounts, U.S. treasury bills and time deposits that are readily convertible into cash. Cash equivalents are carried at cost plus accrued interest, which approximates fair value. These are included within cash and equivalents and fall within level one of the GAAP fair value hierarchy.
Restricted Cash
Restricted cash includes posted cash collateral for letters of credit related to certain of the Company’s lease agreements. The collateral amounts are legally restricted as to withdrawal and use for a period in excess of twelve months. Also included in restricted cash are security deposits held by the Company from lessees that are restricted as to use. The Company had $9.0 million of restricted cash included in prepaid expenses and other current assets and other long-term assets on the consolidated balance sheet as of December 31, 2014.
Allowance for Doubtful Accounts
AOL’s receivables consist primarily of two components, receivables from individual subscribers to AOL’s subscription services and receivables from advertising customers. Management performs separate evaluations of these components to determine if the balances will ultimately be fully collected considering management’s views on trends in the overall aging of receivables as well as past collection experience. In addition, for certain advertising receivables, management prepares an analysis of specific risks on a customer-by-customer basis. Using this information, management reserves an amount that is expected to be uncollectible. Receivables are written off when amounts are deemed to be uncollectible and internal collection efforts are closed.
Property and Equipment
Property and equipment are stated at cost. Depreciation, which includes amortization of capitalized software costs and amortization of assets under capital leases, is provided on a straight-line basis over the estimated useful lives of the assets. AOL evaluates the depreciation periods of property and equipment to determine whether events or circumstances warrant revised estimates of useful lives. Depreciation expense, recorded in costs of revenues and
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general and administrative expense, totaled $134.7 million, $128.9 million and $138.7 million for the years ended December 31, 2014, 2013 and 2012, respectively. Costs related to leasehold improvements are capitalized and amortized on a straight-line basis over the shorter of the economic useful life of the improvements or the remaining lease term.
Property and equipment, including assets under capital lease, consist of ($ in millions):
(a)
Land is not depreciated.
For the years ended December 31, 2014, 2013 and 2012, property and equipment acquired under capital lease agreements was $102.5 million, $63.4 million and $50.6 million, respectively, of which the majority is network equipment.
Capitalized Internal-Use Software Costs
AOL capitalizes certain costs incurred for the purchase and development of internal-use software. These costs, which include the costs associated with coding, software configuration, major upgrades and enhancements and are related to both AOL’s internal systems (such as billing and accounting) and AOL’s user-facing internet offerings, are included in property and equipment, net on the consolidated balance sheets. For the years ended December 31, 2014, 2013 and 2012, AOL capitalized $53.9 million, $43.7 million and $40.5 million, respectively, related to the purchase and development of internal-use software. At December 31, 2014 and 2013, the net book value of capitalized internal-use software was $85.3 million and $68.2 million, respectively.
Research and Development
Research and development costs, which are expensed as incurred, are included in costs of revenues and totaled $37.6 million, $40.6 million and $44.8 million for the years ended December 31, 2014, 2013 and 2012, respectively. These costs consist primarily of personnel and related costs that are incurred related to the development of software and user-facing internet offerings that do not qualify for capitalization.
Leases
The Company leases operating equipment and office space in various locations worldwide. Lease obligations are classified as operating leases or capital leases, as appropriate. Leased equipment and property that meets the capital lease criteria is capitalized and the present value of the future minimum lease payments is recorded as an asset under capital lease with a related capital lease obligation on the consolidated balance sheets.
Rent expense under operating leases is recognized on a straight-line basis over the lease term taking into
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consideration scheduled rent increases and any lease incentives.
Intangible Assets
AOL has a significant number of intangible assets, including acquired technology, trade names and customer relationships. AOL does not recognize the fair value of internally generated intangible assets. Intangible assets acquired in business combinations are recorded at fair value on the Company’s consolidated balance sheets and are amortized over estimated useful lives on a straight-line basis. Intangible assets subject to amortization are tested for impairment whenever events or changes in circumstances indicate that their carrying amount may not be recoverable. AOL does not have any indefinite lived intangible assets other than goodwill.
Advertising Costs
The Company expenses advertising costs as they are incurred. Advertising expense was $49.7 million, $61.6 million and $85.8 million for the years ended December 31, 2014, 2013, and 2012, respectively, and is included in general and administrative expense on the consolidated statements of comprehensive income.
Loss Contingencies
In the normal course of business, the Company is involved in legal proceedings, tax audits (other than income taxes) and other matters that give rise to potential loss contingencies. The Company accrues a liability for such matters when it is probable that a liability has been incurred and the amount of loss can be reasonably estimated. In situations where the Company can determine a best estimate within the range of potential loss, the Company records the best estimate of the potential loss as a liability. In situations where the Company has determined a range of loss, but no amount within the range is a better estimate than any other amount within the range, the Company records the minimum amount of the range of loss as a liability.
Other Comprehensive Income (Loss)
Other comprehensive income (loss) is included within comprehensive income on the consolidated statements of comprehensive income and stockholders’ equity on the consolidated balance sheets and consists of net income (loss) and other gains and losses affecting equity that, under GAAP, are excluded from net income (loss).
As of December 31, 2014, the Company's net accumulated other comprehensive income balance substantially consisted of foreign currency translation gains and losses.
Recently Adopted Accounting Standards
Accounting for Cumulative Translation Adjustments
In March 2013, new guidance was issued related to accounting for the cumulative translation adjustment upon derecognition of certain subsidiaries or groups of assets within a foreign entity or of an investment in a foreign entity. The new guidance clarifies that companies are required to apply the guidance in the foreign currency accounting subtopic to release any related cumulative translation adjustment into net income. The guidance also applies to step acquisitions.
The new guidance became effective for us in January 2014. The new guidance does not have a material impact on the way the Company currently releases cumulative translation adjustments into net income upon disposition or deconsolidation of a subsidiary.
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Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists
In July 2013, new guidance was issued related to the presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. The objective of the new guidance is to eliminate the diversity in financial statement reporting practices by requiring the netting of unrecognized tax benefits against a deferred tax asset for a loss or other carryforward that would apply in settlement of uncertain tax positions.
The new guidance became effective for the Company in January 2014 and resulted in the offsetting of approximately $32.5 million of uncertain tax positions against deferred tax assets as of December 31, 2014.
NOTE 2-INCOME PER COMMON SHARE
Basic income per common share is calculated by dividing net income attributable to AOL common stockholders by the weighted average number of shares of common stock outstanding during the reporting period. Diluted income per common share is calculated to give effect to all potentially dilutive common shares that were outstanding during the reporting period. The dilutive effect of outstanding equity-based compensation awards is reflected in diluted income per common share by application of the treasury stock method, only in periods in which such effect would have been dilutive for the period.
The Company has the option to pay cash, issue shares of common stock or any combination thereof for the aggregate amount due upon conversion of the convertible senior notes (the “Notes”). The Company’s intent is to settle the principal amount of the Notes in cash upon conversion. As a result, only the amounts payable in excess of the principal amounts of the Notes are considered in diluted earnings per share under the treasury stock method.
For the years ended December 31, 2014, 2013 and 2012 the Company had 6.1 million, 1.0 million and 2.9 million, respectively, of weighted-average potentially dilutive common shares that were not included in the computation of diluted earnings per share because to do so would be anti-dilutive for those periods.
The following table is a reconciliation of basic and diluted net income attributable to AOL common stockholders per common share (in millions, except per share amounts):
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NOTE 3-GOODWILL AND INTANGIBLE ASSETS
A summary of changes in the Company’s goodwill during the years ended December 31, 2014 and 2013 is as follows (in millions):
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The increase in goodwill for the year ended December 31, 2014 was due primarily to the acquisitions of Project Rover, Inc., dba Gravity (“Gravity”), Convertro, Inc. (“Convertro”) and Vidible, Inc. (“Vidible”) in 2014. See “Note 4” for additional information on these transactions.
Impairment Testing of Goodwill
As discussed in more detail in “Note 1”, goodwill is tested annually for impairment during the fourth quarter or earlier upon the occurrence of certain events or substantive changes in circumstances that indicate goodwill is more likely than not impaired.
The Company performed its annual goodwill impairment test for the Brand Group, Membership Group and AOL Platforms reporting units as of December 1, 2014. The Company determined the fair value for each of its reporting units using an income approach, or discounted cash flow (“DCF”) method. The reasonableness of the DCF approach was assessed by reference to a market-based approach based on analysis of comparable multiples by reporting unit, and the fair value determined under the market-based approach corroborated the fair values determined by the DCF approach.
Based on the goodwill impairment tests performed at December 1, 2014, the estimated fair value exceeded the carrying value for each reporting unit, and therefore, the second step of the goodwill impairment test was not required for any of the Company’s three reporting units. For each of the Brand Group, Membership Group and AOL Platforms reporting units, the estimated fair value of the reporting unit exceeded its respective book value by an amount in excess of 15%.
Determining the fair value of a reporting unit requires the exercise of significant judgment, including judgments about the appropriate discount rates, terminal growth rates, weighted average costs of capital and the amount and timing of expected future cash flows. The judgments used in determining the fair value of the Company’s reporting units are based on significant unobservable inputs which causes the determination of the implied fair value of goodwill to fall within level three of the GAAP fair value hierarchy. The cash flows employed in the DCF analysis are based on the most recent budgets, forecasts and business plans as well as various growth rate assumptions for years beyond the current business plan period. Discount rate assumptions are based on an assessment of the risk inherent in the future revenue streams and cash flows of the reporting unit. The discount rates utilized in the 2014 analysis ranged from 9% to 22% and a constant terminal growth rate was used in the DCF analysis of 3%. Failure to execute against AOL’s business plan for any of its reporting units could have a negative effect on the fair value of such reporting unit, and increase the risk of a goodwill impairment in the future.
2013 Goodwill Impairment Analysis
As part of the Company’s continuing effort to reduce its expenses and invest in areas of strategic focus, on August 15, 2013, the Company approved a restructuring plan for its Patch operations. The Company determined that the restructuring of its Patch operations constituted a substantive change in circumstances that could potentially reduce the fair value of the Patch reporting unit below its carrying amount. Accordingly, the Company tested the Patch reporting unit goodwill for impairment as of the interim testing date.
Based on the goodwill impairment analysis as of the interim testing date, the carrying value of the Patch reporting unit exceeded its fair value. Accordingly, step two of the goodwill impairment test was performed, where the Company determined the estimated fair value of Patch’s assets and liabilities. As a result of the step two evaluation, the Company recorded a goodwill impairment charge of $17.5 million during the third quarter of 2013, fully impairing the goodwill related to Patch.
The Company performed its annual goodwill impairment test for the Brand Group, Membership Group and AOL Platforms reporting units as of December 1, 2013. The estimated fair value exceeded the carrying value for
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each reporting unit, and therefore, the second step of the goodwill impairment test was not required for any of the Company’s four reporting units.
2012 Goodwill Impairment Analysis
As a result of a change in management structure in the fourth quarter of 2012, the Company concluded that it had four reporting units: the Brand Group, the Membership Group, AOL Platforms and Patch. As such, the Company was required to perform a goodwill impairment analysis immediately before its change in reporting units and immediately after the change. As a result, as of December 1, 2012, the Company performed both a consolidated goodwill impairment analysis (prior to the change in reporting units, the company had a single consolidated reporting unit for goodwill impairment testing) and a goodwill impairment analysis for each of the four reporting units subsequently.
The Company had no goodwill impairment charges in 2012.
Intangible Assets
The Company’s intangible assets and related accumulated amortization at December 31, 2014 and 2013 consisted of the following (in millions):
(a)
Amortization of intangible assets is provided on a straight-line basis over their respective useful lives, which generally range from one to ten years. The Company evaluates the useful lives of its finite-lived intangible assets each reporting period to determine whether events or circumstances warrant revised estimates of useful lives.
The Company recorded amortization expense of $65.6 million, $45.1 million and $38.2 million for the years ended December 31, 2014, 2013 and 2012, respectively. Based on the amount of intangible assets as of December 31, 2014, the estimated amortization expense for each of the succeeding five years ending December 31 is as follows (in millions):
The amounts above may vary as acquisitions and dispositions occur in the future, or as a result of the events or
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circumstances that warrant revised estimates of useful lives.
NOTE 4-BUSINESS ACQUISITIONS, DISPOSITIONS AND OTHER SIGNIFICANT TRANSACTIONS
2014 Acquisitions
Gravity
On January 23, 2014, the Company acquired Gravity, a company that provides content personalization technology and publisher solutions to create relevant consumer and advertiser experiences, for a purchase price of $83.2 million, net of cash acquired. An additional $7.6 million of cash consideration was deferred and will be paid over a two year service period to certain Gravity employees, which is being recorded as compensation expense over the required service period. The purchase price includes $0.8 million related to the portion of the fair value of converted Gravity awards that was attributable to pre-acquisition service. An additional $5.9 million of fair value of unvested AOL restricted stock issued to Gravity employees is being recognized as equity-based compensation expense over the remaining award service periods.
The Company recorded $46.1 million of goodwill (which is not deductible for tax purposes) and $40.4 million of intangible assets associated with this acquisition. The intangible assets associated with this acquisition consist primarily of technology, customer relationships and trade names, all of which are being amortized on a straight-line basis over a period of five years. The fair value of the significant identified intangible assets was estimated by using relief from royalty and multi-period excess earnings valuation methodologies, which represent level 3 fair value measurements. Inputs used in the methodologies primarily included projected future cash flows, discounted at a rate commensurate with the risk involved.
Convertro
On May 6, 2014, the Company acquired Convertro, a leading attribution modeling technology company that helps marketers reallocate budgets within their media channels, sites, placements and creatives, for a total purchase price of $98.6 million, net of cash acquired. The purchase price included $89.0 million in cash, $8.9 million estimated fair value (with a gross value of $10.0 million) of contingent consideration to be paid to Convertro shareholders upon meeting specified product development milestones over the 17 months following the acquisition date (which was achieved as of December 31, 2014), and $0.7 million of the $2.1 million estimated fair value of the unvested in-the-money options held by Convertro employees replaced with unvested AOL restricted stock and related to the pre-acquisition service period.
The remaining $1.4 million fair value of issued restricted stock is being recognized as equity-based compensation expense over the remaining awards requisite service periods. The integration of Convertro technology is expected to enhance the ability of advertisers to customize their audience segments and establish a map of user journey to a particular event across media channels (e.g., a conversion, completion), thereby enabling the Company’s advertisers to develop a media plan that maximizes return on ad spend across various media channels. The Company borrowed $75.0 million under its senior secured revolving credit facility agreement (the “Credit Facility Agreement”) to facilitate funding of this acquisition.
The fair value of the contingent consideration liability recognized on the acquisition date was $8.9 million, of which $6.0 million was classified within other current liabilities and the remaining $2.9 million was classified within other long-term liabilities on the consolidated balance sheets based on the expected timing of payments as of the acquisition date. The Company determined the fair value of the liability for the contingent consideration based on a probability-weighted discounted cash flow analysis, which represents a level 3 fair value measurement. As of December 31, 2014, all product development milestones had been achieved and the $10.0 million in contingent consideration had been fully paid to Convertro shareholders. The Company recognized $1.1 million of accretion expense in 2014 related to the difference between the $10.0 million gross contingent consideration paid and the $8.9
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million fair value recognized on the acquisition date. In addition to the purchase price paid for this business, the Company agreed to pay up to a $9.0 million retention bonus to certain Convertro employees which is being recorded as compensation expense over the two year required service period.
The Company recorded $73.3 million of goodwill (which is not deductible for tax purposes) and $28.3 million of intangible assets associated with this acquisition. The intangible assets associated with this acquisition consist of technology, a trade name and customer relationships, all of which are being amortized on a straight-line basis over a period of five years, consistent with the useful lives of comparable intangible assets purchased under similar circumstances.
The fair value of the significant identified intangible assets was estimated by using a discounted cash flow analysis using the relief from royalty approach to value the technology and trade name and the replacement cost approach to value customer relationships, which represent level 3 fair value measurements. Inputs used in the methodologies primarily included projected future cash flows, discounted at a rate commensurate with the risk involved.
Vidible
On December 1, 2014, the Company acquired Vidible, a cross-device, programmatic video distribution platform that offers self-service through a set of video tools and exchange capabilities, for a purchase price of $55.9 million, net of $1.3 million cash acquired. Additionally, the Company issued replacement restricted stock awards related to unvested in-the-money options held by Vidible employees with an estimated fair value of $2.8 million which will be recognized as equity-based compensation expense over the remaining requisite service periods of the awards.
The Company preliminarily recorded $44.2 million of goodwill (which is not deductible for tax purposes) and $14.7 million of intangible assets associated with this acquisition. The intangible assets associated with this acquisition consist of technology, a trade name and customer relationships. The intangible assets will be amortized on a straight-line basis over a period of up to five years, consistent with the useful lives of comparable intangible assets purchased under similar circumstances.
In connection with the transaction, $9.7 million of cash special retention bonus consideration was deferred and will be paid over a three year service period to certain Vidible employees contingent upon their future service to the Company. The special retention bonus will be recorded as compensation expense over the required service period. Additionally, a $10.0 million retention bonus pool was established and will be paid over a three year period, subject to meeting specified performance metrics in the first year, and conditioned upon continued employment.
The fair value of the significant identified intangible assets was estimated by using a discounted cash flow analysis using the relief from royalty method to value the technology and trade name and the replacement cost approach to value customer relationships, which represent level 3 fair value measurements. Inputs used in the valuations primarily included projected future cash flows discounted at a rate commensurate with the risk involved. The primary area where preliminary estimates are not yet finalized relates to deferred taxes.
2013 Acquisitions
Adap.tv
On September 5, 2013, the Company acquired Adap.tv for a purchase price of $405.0 million plus a working capital adjustment (which increased the total consideration paid to $410.6 million). The consideration paid to acquire Adap.tv included $329.5 million in cash, net of cash acquired, and 2.4 million shares of AOL common stock with a fair value of $80.8 million based on AOL’s closing stock price on the closing date. Adap.tv is an online video advertising company whose advertising technology platform provides advertisers and publishers the ability to buy
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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
and sell video advertising inventory across desktop, mobile, and connected TV platforms. This acquisition is expected to enhance the Company’s offerings to publishers and advertisers. The results of operations of Adap.tv are reflected within the AOL Platforms segment from the date of acquisition.
In connection with the acquisition, the Company replaced unvested in-the-money options held by Adap.tv employees under the Adap.tv Stock Incentive Plan (the “Adap.tv Plan”) with unvested AOL restricted stock of $35.6 million in fair value. Of the total fair value, $10.8 million was attributable to pre-acquisition service and included in the purchase price, bringing the total purchase price of Adap.tv for accounting purposes to $421.4 million. The remaining $24.8 million of the fair value of this restricted stock is being recognized as equity-based compensation expense over the remaining award service periods.
The Company recorded $295.1 million of goodwill (which is not deductible for tax purposes) and $120.3 million of intangible assets associated with this acquisition. The intangible assets associated with this acquisition consist of technology, advertiser and publisher relationships, and trade names, all of which are being amortized on a straight-line basis over a period of five years. The fair value of the significant identified intangible assets was estimated by using relief from royalty, cost savings and multi-period excess earnings valuation methodologies, which represent level 3 fair value measurements. Inputs used in the methodologies primarily included projected future cash flows, discounted at a rate commensurate with the risk involved.
2012 Acquisitions
Ad.com Japan
On February 9, 2012, the Company entered into a share-purchase agreement with Mitsui to purchase an additional 3% interest in Ad.com Japan for approximately $1.2 million. Ad.com Japan, which operates a display advertising network business in Japan, was formed in 2006. Prior to the execution of the share purchase agreement, AOL and Mitsui each owned a 50% interest in Ad.com Japan, and AOL accounted for its 50% interest using the equity method of accounting. As part of this transaction, AOL obtained control of the board and of the day-to-day operations of Ad.com Japan. The Company accounted for the incremental 3% share purchase as a business combination achieved in stages (“step acquisition”) and consolidated Ad.com Japan beginning on the closing date.
Under the accounting guidance for step acquisitions, AOL is required to record all assets acquired, liabilities assumed, and Mitsui’s noncontrolling interests at fair value, and recognize the entire goodwill of the acquired business. The step acquisition guidelines also require that AOL remeasure its preexisting investment in Ad.com Japan at fair value, and recognize any gains or losses from such remeasurement. The fair value of AOL’s interest immediately before the closing date was $15.4 million, which resulted in the Company recognizing a non-cash gain of approximately $10.8 million within interest and other income (expense), net on the consolidated statements of comprehensive income in the first quarter of 2012. The Company used a combination of the market based approach (guideline public company) and an income approach (discounted cash flow analysis), both of which represent level 3 fair value measurements, to measure both the fair value of AOL’s preexisting investment and the fair value of Mitsui’s noncontrolling interest. As Mitsui has a right to put its interest to AOL based on a pre-established and determinable price in the future, the noncontrolling interest is presented as redeemable noncontrolling interest outside permanent equity on the Company’s consolidated balance sheets. The noncontrolling interest holder’s right to redeem its stock is exercisable any time between July 1 and July 30 of any year, which commenced on July 1, 2014. The amount payable from AOL to Mitsui if Mitsui were to exercise its redemption right is determined by taking the sum of 2 billion Japanese yen (approximately $26.0 million as of the closing date) plus any incremental cash over the $7.8 million cash balance at December 31, 2011, and multiplying that total by Mitsui’s percentage ownership of Ad.com Japan (47% at closing). The Company elected to recognize changes in the redemption value as they occur.
The undiscounted redemption value of the put option held by Mitsui was approximately $8.0 million as of
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December 31, 2014, which exceeded the carrying value of Mitsui’s interest in Ad.com Japan by an immaterial amount, and is therefore reflected in redeemable noncontrolling interest on the consolidated balance sheets for the year ended December 31, 2014. The undiscounted redemption value of the put option held by Mitsui was approximately $9.2 million as of December 31, 2013, which is below the $9.7 million carrying value as of December 31, 2013.
The Company recorded $9.7 million of goodwill (which is not deductible for tax purposes) and $19.2 million of intangible assets associated with this acquisition. The intangible assets associated with this acquisition consist primarily of trade names to be amortized on a straight-line basis over a period of ten years and advertiser relationships to be amortized on a straight-line basis over a period of five years. The weighted average amortization period for all intangible assets is approximately eight years. The fair value of the significant identified intangible assets was estimated by using relief from royalty, cost savings and multi-period excess earnings valuation methodologies, which represent level 3 fair value measurements. Inputs used in the methodologies primarily included projected future cash flows, discounted at a rate commensurate with the risk involved.
Other 2012 Acquisitions
The Company also completed the following acquisitions during the year ended December 31, 2012:
•
During the third quarter of 2012, the Company completed the acquisition of the following: a 49% interest that the Company did not already own in AJM Productions, LLC, a company that operates a leading online content and lifestyle platform for pre-teen and teen audiences, and StyleMePretty, a company which operates a leading online provider of style-savvy wedding resources devoted to the modern bride.
•
During the fourth quarter of 2012, the Company completed the acquisition of Everlater, Inc., a company that produces software to simplify the creation and sharing of web content and Buysight, Inc. (“Buysight”), a company that operates a targeted advertising platform which uses machine learning technology to allow for real time optimization of advertising campaigns.
The aggregate purchase price of these acquisitions was $27.8 million, net of cash acquired. The Company recorded $12.5 million of goodwill, of which $6.6 million is deductible for tax purposes, and $16.4 million of intangible assets related to these acquisitions. With respect to the Buysight acquisition, during negotiations the Company agreed to pay a bonus to certain employees of Buysight immediately after the closing, and the $4.7 million paid was recognized as compensation expense during the fourth quarter of 2012.
The intangible assets associated with these acquisitions consist of acquired technology and trademarks to be amortized on a straight-line basis over a weighted average period of five years, non-compete agreements to be amortized on a straight-line basis over a weighted average period of three years and customer relationships to be amortized on a straight-line basis over a weighted average period of four years. The weighted average amortization period for all intangible assets is approximately five years.
Additional Information on Acquisitions
The businesses acquired by the Company during the periods presented herein were all in their early stages of development. This fact, along with market conditions at the time of acquisition, contributed to purchase prices that resulted in the allocation of a significant portion of such purchase prices to goodwill.
The amounts assigned to intangible assets were based on the Company’s best estimate of the fair value of such assets. The Company used an independent valuation specialist to assist in determining the fair value of the identified intangible assets in significant acquisitions. In most instances, the fair value of the significant identified intangible assets was estimated by performing a discounted cash flow analysis using the “income” approach, which represents a level 3 fair value measurement. The income approach includes a forecast of direct revenues and costs associated
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with the respective intangible assets and charges for economic returns on tangible and intangible assets utilized in cash flow generation. Net cash flows attributable to the identified intangible assets are discounted to their present value at a rate commensurate with the perceived risk. The projected cash flow assumptions considered contractual relationships, customer attrition, eventual development of new technologies and market competition.
The useful lives of trade names were estimated based on the Company’s evaluation of the useful lives of comparable intangible assets purchased under similar circumstances. The useful lives of customer relationships were estimated based upon the length of the contracts currently in place, probability-based estimates of contract renewals in the future and natural growth and diversification of the customer base.
In connection with incentive cash compensation arrangements made in connection with acquisitions, the Company recorded $12.5 million, $5.0 million and $12.3 million in compensation expense for the years ended December 31, 2014, 2013 and 2012, respectively.
Unaudited pro forma results of operations assuming these acquisitions had taken place at the beginning of each period are not provided because the historical operating results of the acquired companies were not significant and pro forma results would not be significantly different from reported results for the periods presented.
Dispositions and Disposals
Patch
On January 29, 2014 the Company entered into a joint venture with DMEP Corp. dba Hale Global (“Hale Global”), whereby the Company contributed Patch into a new limited liability company, which is operated and majority owned by Hale Global subsequent to the closing of the transaction. The Company recorded a loss on disposition of $3.1 million, which primarily represents the difference between the $12.8 million fair value of the Company’s 40% retained interest in Patch and the carrying value of contributed net assets. The loss on disposition is included in the loss on disposal of assets on the Company’s consolidated statements of comprehensive income. The fair value of the Company’s retained interest in the joint venture is being accounted for as an equity method investment. Due to the Company’s significant continuing involvement with the joint venture, the disposed component did not meet the criteria to be classified as a discontinued operation in the Company’s financial statements.
Sale of Dulles Technology Center
On July 30, 2014, the Company completed the sale of a data center property located in Virginia for cash of approximately $33.1 million, net of costs to sell the property. The Company recorded an immaterial loss upon the sale of the assets.
StudioNow and about.me
During the first quarter of 2013, the Company disposed of controlling interests in both StudioNow and about.me in two separate transactions. In aggregate, the Company recorded a gain of $2.2 million on these transactions which is included in gain on disposal of assets on the Company’s statement of comprehensive income. The retained interests held by the Company in StudioNow and about.me are accounted for under the cost method as the Company does not exercise significant influence over either business. Due to the Company’s significant continuing involvement with each of the disposed entities, these dispositions did not meet the criteria to be classified as discontinued operations in the Company’s financial statements.
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Patent Portfolio Sale and License
On June 15, 2012, the Company sold approximately 800 patents and their related patent applications (the “Sold Patents”) to Microsoft Corporation (“Microsoft”), and granted Microsoft a non-exclusive license to the Company’s retained patent portfolio, for aggregate proceeds of $1,056 million in cash (excluding transaction costs). The transaction was structured as a sale of all of the outstanding shares of a wholly owned non-operating subsidiary and the direct sale of certain other patents not held by the subsidiary.
The disposed assets had a carrying value of $3.2 million on the Company’s balance sheet and accordingly, the Company recorded a gain on the disposition of the Sold Patents of $946.5 million (which represents the consideration allocated to the sale less the carrying value of the disposed assets and transaction costs that were contingent on closing). With respect to the licensing portion of the transaction, the Company recognized income from licensing its retained patent portfolio of $96.0 million during the year ended December 31, 2012.
NOTE 5-LONG-TERM DEBT AND OTHER FINANCING ARRANGEMENTS
Capital Leases
Capital lease obligations consist of ($ in millions):
Assets recorded under capital lease obligations totaled $286.0 million and $233.0 million at December 31, 2014 and 2013, respectively. Related accumulated amortization totaled $143.9 million and $124.6 million at December 31, 2014 and 2013, respectively.
Future minimum capital lease payments at December 31, 2014 are as follows (in millions):
Interest Expense
Interest expense was $15.9 million, $6.5 million and $5.9 million for the years ended December 31, 2014, 2013 and 2012, respectively, and is included in interest and other income (expense), net on the consolidated
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statements of comprehensive income. The weighted-average interest rate on AOL’s capital lease obligations was 4.56% and 5.30% at December 31, 2014 and 2013, respectively. The weighted-average rate on capital lease obligations due within one year was 4.74% at December 31, 2014.
Revolving Credit Facility
On July 1, 2013, AOL entered into a $250 million Credit Facility Agreement. Under the terms of the Credit Facility Agreement, AOL may request an increase in the commitments of up to an additional $250 million with commitments from either new lenders or increased commitments from existing lenders, subject to the satisfaction of certain conditions. The Credit Facility Agreement is guaranteed by all of AOL’s material domestic subsidiaries, as defined in the Credit Facility Agreement, and substantially all of the property and assets of AOL have been pledged as collateral, subject to customary exceptions.
Interest on borrowings under the Credit Facility Agreement is payable at rates per annum equal to, at the option of AOL: (1) a fluctuating base rate equal to JPMorgan’s adjusted base rate (“ABR”) plus the applicable margin, or (2) a periodic fixed rate equal to the Eurodollar rate plus the applicable margin. The ABR will be the highest of (i) the federal funds rate plus 0.5%, (ii) JPMorgan’s publicly announced prime rate and (iii) one-month LIBOR plus 1.0%. The applicable margin relating to any Eurodollar loan is 2.0% and the applicable margin relating to any ABR loan is 1.0%. AOL is required to pay a commitment fee of 0.5% per annum based on the unused portion of the commitments under the Credit Facility Agreement.
The Credit Facility Agreement contains various affirmative, negative and financial covenants. Financial covenants in the agreement include a ratio of debt (net of unrestricted cash up to an agreed cap) to EBITDA (as defined in the Credit Facility Agreement, “EBITDA”) and a ratio of EBITDA to interest expense. The debt to EBITDA ratio must not exceed a specified maximum. The EBITDA to interest expense ratio requires the Company to meet or exceed a specified minimum. Each of the above ratios is tested at the end of each fiscal quarter and measured on a rolling four-quarter basis. To date, the Company is in compliance with its covenants under the Credit Facility Agreement.
Any amounts outstanding under the Credit Facility Agreement will be due and payable on July 1, 2018, and the commitments thereunder will terminate on such date. The Company intends to use borrowings under the Credit Facility Agreement for general corporate purposes.
During the year ended December 31, 2014, the Company borrowed and repaid $105.0 million under the Credit Facility Agreement, of which $75.0 million outstanding was repaid through use of the proceeds from the Notes discussed below. As of December 31, 2014, there were no amounts outstanding under the Credit Facility Agreement and the available borrowing capacity was $250 million.
Convertible Senior Notes
On August 14, 2014, the Company issued $379.5 million aggregate principal amount of 0.75% convertible senior notes due September 1, 2019 through a private placement. The Company sold the Notes under a purchase agreement, dated August 13, 2014, with Goldman, Sachs & Co. (“Goldman Sachs”) and J.P. Morgan Securities LLC as representatives of the several purchasers. The Notes were issued under an indenture, dated as of August 19, 2014 (the “Indenture”) between the Company and The Bank of New York Mellon, as trustee.
The net proceeds from the Company's sale of the Notes were approximately $368.6 million, net of issuance costs of $10.9 million. The Company used $40.0 million of the net proceeds from this offering to repurchase shares of its common stock from the purchasers of Notes in this offering in privately negotiated transactions through Goldman Sachs as its agent. These repurchases are part of the 2014 Stock Repurchase Program discussed in “Note 7”. The Company used $36.6 million of the net proceeds to pay the cost of the convertible note hedge transactions (after such cost was partially offset by the proceeds to the Company from the sale of warrants pursuant to the
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warrant transactions) as described below under “Note Hedge and Warrant Arrangements.” The Company used $75.0 million of the net proceeds to repay borrowings under the Credit Facility Agreement discussed above. The Company expects to use the remaining net proceeds from the offering of the Notes for general corporate purposes including, but not limited to, additional share repurchases, acquisitions or other strategic transactions and working capital.
Under the Indenture, the Notes bear interest at a rate of 0.75% per year payable semiannually in arrears in cash on March 1 and September 1 of each year, beginning on March 1, 2015. The Notes will mature on September 1, 2019, unless earlier converted or repurchased in accordance with their terms. The Notes rank senior in right of payment to all of the Company’s indebtedness that is expressly subordinated in right of payment to the Notes, will rank equally in right of payment with all of the Company’s existing and future liabilities that are not so subordinated, will be effectively junior to any of the Company's secured indebtedness to the extent of the value of the assets securing such indebtedness (including amounts outstanding under the Company’s current credit facility) and will be structurally subordinated to all indebtedness and other liabilities (including trade payables) of the Company’s subsidiaries.
If the Company undergoes a fundamental change, subject to certain conditions, holders of the Notes may require the Company to purchase for cash all or a part of their Notes in principal amounts of $1,000 or a multiple thereof at a repurchase price equal to 100% of the principal amount of Notes to be repurchased, plus accrued and unpaid interest to, but excluding, the fundamental change repurchase date. In addition, following certain corporate events that occur prior to maturity, the Company will increase the conversion rate for a holder who elects to convert its Notes in connection with such a corporate event in certain circumstances. In such event, an aggregate of up to 2.3 million additional shares of common stock could be issued upon conversions in connection with such corporate events, subject to adjustment in the same manner as the conversion rate.
The Notes will be convertible into cash, shares of common stock, or a combination of cash and shares of common stock, at the Company’s election based on an initial conversion rate of 17.4456 shares of common stock per $1,000 principal amount of Notes (which is equivalent to an initial conversion price of approximately $57.32 per share of common stock) subject to customary adjustments. Holders may convert their Notes at their option at anytime prior to the close of business on the business day immediately preceding May 1, 2019 upon the occurrence of certain events in the future, as defined in the Indenture. On or after May 1, 2019 to the close of business on the second scheduled trading day immediately preceding the maturity date, holders may convert all or any portion of their Notes, regardless of the foregoing conditions. The Company's intent is to settle the principal amount of the Notes in cash upon conversion. If the conversion value exceeds the principal amount, the Company would deliver shares of its common stock in respect to the remainder of its conversion obligation in excess of the aggregate principal amount (the “conversion spread”). The conversion spread would be included in the denominator for the computation of diluted net income per common share, using the treasury stock method. As of December 31, 2014, none of the conditions allowing holders of the Notes to convert have been met.
Accounting guidance requires that convertible debt that can be settled for cash, such as the Notes, be separated into the liability and equity component at issuance and each be assigned a value. The value assigned to the liability component is the estimated fair value, as of the issuance date, of a similar debt without the conversion feature. The difference between the principal amount of the Notes and estimated fair value of the liability component, representing the value of the conversion premium assigned to the equity component, is recorded as a debt discount on the issuance date. The fair value of the liability component of the Notes was determined using a discounted cash flow analysis, in which the projected interest and principal payments were discounted back to the issuance date of the Notes at a market yield, and represents a Level 3 fair value measurement. The Company estimated the straight debt yield by modeling the convertible note as a combination of a straight debt and a European call option. This required the use of a combination of inputs for similar assets observable in the marketplace to determine a yield on similar instruments without a conversion option and a significant unobservable input to estimate the future volatility of the Company's stock. The Company's stock volatility was estimated at 40% based on historical AOL stock price volatilities, as well as implied volatilities from option contracts traded immediately prior to the issuance date of the
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Notes. The Company estimated the straight debt borrowing rates at issuance to be 5.39% for similar debt to the Notes without the conversion feature, which resulted in a fair value of the liability component of approximately $301.5 million and a debt discount of $78.0 million. As a result, a conversion premium of $45.6 million, net of tax, was recorded in additional paid-in capital within stockholders' equity. The debt discount is amortized to interest expense using the effective interest method with an effective interest rate of 5.85% over the period from the issuance date through the contractual maturity date of the Notes on September 1, 2019.
In accounting for the transaction costs related to the Note issuance, the Company allocated the total amount incurred to the liability and equity components based on their relative fair values. Issuance costs attributable to the liability component were recorded within other assets on the consolidated balance sheets and are being amortized to expense over the term of the Notes using the effective interest method. Issuance costs attributable to the equity component were recorded as a charge to additional paid-in capital within stockholders' equity.
Balances attributable to the Notes consist of the following (in millions):
(*)
Recorded on the consolidated balance sheets in additional paid-in capital within stockholders' equity.
The Notes are carried at their original issuance value, net of unamortized debt discount, and are not marked to market each period. The approximate fair value of the Notes as of December 31, 2014, was $402.0 million. The fair value of the Notes was estimated on the basis of inputs that are observable in the market and are considered Level 2 in the fair value hierarchy.
The Company recognized interest expense related to the Notes of $6.6 million for the year ended December 31, 2014, consisting of $1.0 million for the contractual coupon interest, $5.0 million for the accretion of the convertible note discount and $0.6 million for the amortization of deferred transaction costs.
Note Hedge and Warrant Arrangements
In connection with the sale of the Notes, the Company entered into privately negotiated note hedge transactions relating to approximately 6.6 million shares of common stock (the “Note Hedges”) with certain option counterparties (the “Option Counterparties”). The Note Hedges represent call options from the Option Counterparties with respect to $379.5 million aggregate principal amount of the Notes. The strike price of the Note Hedges is $57.32 with a maturity date of September 1, 2019. These Note Hedges are designed to offset the Company’s exposure to potential dilution and/or amounts the Company is required to pay in excess of the principal amount upon conversion of the Notes in the event that the market value per share of its common stock at the time of exercise is greater than the strike price of the Note Hedges (the strike price corresponds to the initial conversion price of the Notes, subject to certain customary adjustments). During the third quarter of 2014, the Company paid $70.1 million for the Note Hedges and as a result, $42.0 million, net of tax, was recorded as a reduction to additional paid-in capital within stockholders' equity.
Separately, the Company also entered into privately negotiated warrant transactions with the Option Counterparties giving them the right to purchase in aggregate up to 13.2 million shares of common stock from the
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Company at a strike price of $84.92 per share. The warrants will have a dilutive effect with respect to the Company’s common stock to the extent that the market price per share of its common stock exceeds the strike price of $84.92 per share of the warrants on or prior to the expiration date of the warrants. The warrants expire over a three month period beginning on December 2, 2019. During the third quarter of 2014, the Company received $33.5 million in proceeds from the issuance of warrants.
The Note Hedges and warrants are not marked to market. The Note Hedges and warrants are separate transactions, entered into by the Company with the Option Counterparties and are not part of the terms of the Notes and will not affect the holders’ rights under the Notes. In addition, holders of the Notes will not have any rights with respect to the Note Hedges or the warrants. The value of the Note Hedges and warrants were initially recorded to and continue to be classified as additional paid-in capital within stockholders' equity.
NOTE 6-INCOME TAXES
The components of income (loss) from continuing operations before income taxes were as follows (in millions):
The components of the provision for income tax expense provided on income from continuing operations were as follows (in millions):
Included in Federal deferred expense is expense related to federal net operating loss and credit carryforward utilization of $42.0 million.
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The items accounting for the difference between income tax expense computed at the federal statutory rate of 35% and the provision for income taxes were as follows:
During the three months ended December 31, 2014, the Company completed an analysis of its federal research and development credit, resulting in an additional benefit of approximately $8.8 million, which is net of unrecognized tax benefits of $3.8 million, for tax years 2010 through 2013. The additional benefit associated with tax years 2010 through 2013 is the result of a change in estimate. On December 19, 2014, the Tax Increase Prevention Act of 2014 was signed into law. Under this act, the federal research and development credit was retroactively extended for amounts paid or incurred after December 31, 2013 and before January 1, 2015. The effects of this change in the tax law have resulted in an additional tax benefit of approximately $7.3 million, which is net of unrecognized tax benefits of $3.2 million, recognized in the fourth quarter of 2014 at the time the law was enacted.
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The significant components of AOL's deferred tax assets and liabilities were as follows (in millions):
AOL had $156.0 million and $217.3 million of U.S. federal net operating loss carryforwards as of December 31, 2014 and 2013, respectively. When realized, approximately $75.8 million of U.S. federal net operating loss carryforwards will be recognized as a benefit through additional paid in capital. AOL had approximately $698.8 million and $658.0 million of net operating loss carryforwards in various state and local jurisdictions as of December 31, 2014 and 2013, respectively. When realized, approximately $40.4 million of state net operating loss carryforwards will be recognized as a benefit through additional paid in capital.
During 2014, AOL requested approval from the U.S. Internal Revenue Service (“IRS”) to change AOL’s method of accounting for its advertising revenues. If approved, approximately $121.3 million of gross revenues will be deferred from 2014 to future tax years for U.S. federal and state tax purposes, thereby increasing AOL’s U.S. federal and state net operating loss carryforwards as of December 31, 2014. AOL will record the impact of this accounting method change when approval is received from the IRS.
Certain of these U.S. federal, state and local net operating loss carryforwards are subject to statutory annual use limitations under Section 382 of the Internal Revenue Code and applicable state tax laws. If not utilized, an insignificant amount of U.S. federal net operating loss carryforwards will begin to expire in 2018, with the majority of losses expiring between 2028 and 2033. If not utilized, an insignificant amount of state and local net operating loss carryforwards will begin to expire in 2015, with the majority of losses expiring between 2020 and 2033.
AOL had net operating losses from various foreign jurisdictions of $4,088.2 million and $4,406.9 million as of December 31, 2014 and 2013, respectively. Many of these foreign losses are attributable to specific operations and may not be utilized to offset taxable income of other operations of AOL. Although an insignificant amount of foreign net operating losses begin to expire in 2015, the majority of the losses carry forward indefinitely.
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AOL had $1,245.0 million and $1,251.7 million of U.S. federal and foreign capital loss carryforwards as of December 31, 2014 and 2013 respectively, which are subject to a full valuation allowance. If sufficient capital gains are not generated during the carryforward period, the U.S. federal capital loss carryforward will expire between 2015 and 2017. If not utilized, foreign capital losses, which are insignificant in total, will expire in 2020.
AOL had $69.7 million and $38.8 million of credit carryforwards as of December 31, 2014 and 2013, respectively. If not utilized the U.S. federal credit carryforwards begin to expire in 2027, with the majority expiring between 2030 and 2034. When realized, approximately $4.6 million of U.S. federal credits will be recognized as a benefit through additional paid in capital. Although an insignificant amount of foreign credit carryforwards begin to expire in 2015, the majority of these credits carry forward indefinitely. Although an insignificant portion of state credit carryforwards begin to expire in 2017, the majority of these credits carry forward indefinitely.
Included in total deferred tax asset balances are valuation allowances of $1,679.2 million and $1,730.3 million as of December 31, 2014 and 2013, respectively. As of December 31, 2014, the total valuation allowance of $1,679.2 million included $1,124.2 million related to foreign and state net operating loss carryforwards, $494.7 million related to capital loss carryforwards and $42.7 million related to outside basis differences. Of the $51.1 million decrease in valuation allowance from 2013 to 2014, $42.8 million is related to foreign attributes, with the remainder of the activity attributable to valuation allowances on state tax attributes and outside basis differences.
Realization of deferred tax assets for which valuation allowances have not been established is dependent upon generation of sufficient future taxable income. The Company expects to realize the benefit of remaining deferred tax assets through future reversals of existing deferred tax liabilities and through future taxable income. The Company believes it is more likely than not these deferred tax assets will be realized.
U.S. federal income taxes are provided on the portion of AOL’s income from certain foreign subsidiaries that is expected to be remitted to the United States. The Company has recorded deferred income taxes and foreign withholding taxes on unremitted earnings from foreign subsidiaries in the amount of $5.2 million and $4.8 million, as of December 31, 2014 and 2013, respectively. For AOL’s other foreign subsidiaries, the Company has not provided for U.S. income and foreign withholding taxes on approximately $18.8 million of certain foreign subsidiaries’ undistributed earnings as of December 31, 2014, because such earnings have been retained and are intended to be indefinitely reinvested outside of the United States. It is not practicable to estimate the amount of taxes that would be payable upon remittance of these earnings because such tax, if any, is dependent on circumstances existing if and when remittance occurs.
Accounting for Uncertainty in Income Taxes
Changes in unrecognized tax benefits, excluding the related accrual for interest and penalties, from January 1 to December 31 are set forth below (in millions):
The Company accrues interest and penalties where there is an underpayment of taxes, based on management’s
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best estimate of the amount ultimately to be paid, in the same period that the interest would begin accruing or the penalties would first be assessed. The Company recognizes interest and penalties related to unrecognized tax benefits as a component of income tax expense. The amounts of interest and penalties expense recorded through the income tax provision and the amounts of accrued interest and penalties on the consolidated balance sheets associated with unrecognized tax benefits are insignificant for the years ended December 31, 2014, 2013 and 2012.
The Company’s liabilities for unrecognized tax benefits, which include interest and penalties, were $59.8 million and $55.6 million as of December 31, 2014 and 2013, respectively. The remainder of unrecognized tax benefits have reduced deferred tax balances. The amount of unrecognized tax benefits which, if recognized, would affect the Company’s effective tax rate is $156.7 million and $146.1 million as of December 31, 2014 and 2013, respectively. This amount includes the federal tax benefit of state tax deductions. The Company does not expect its unrecognized tax benefits to significantly change in the next twelve months.
In conjunction with the complete legal and structural separation of the Company from Time Warner Inc. (the “spin-off”), AOL entered into a Second Tax Matters Agreement with Time Warner Inc. (“Time Warner”), effective December 9, 2009, that governs the respective post spin-off rights, responsibilities and obligations of Time Warner and AOL with respect to tax matters for the pre spin-off tax periods. Under the Second Tax Matters Agreement, Time Warner agreed to assume liabilities for U.S. federal, state or local income taxes that are determined on a consolidated, combined, unitary or similar basis for each taxable period in which AOL was included in such group with Time Warner. AOL remains responsible for any foreign income taxes and any other income taxes (primarily state taxes) that are not determined on a consolidated, combined, unitary or similar basis with Time Warner.
The Company files income tax returns in U.S. federal, state and foreign jurisdictions. For periods dating back to 2003, the statute of limitations has not yet closed in U.S. and foreign jurisdictions in which AOL filed separately from Time Warner. Tax periods remain open and subject to examination in many significant jurisdictions, including certain U.S. states (e.g., New York and Virginia) and foreign jurisdictions (e.g., Canada, India, Ireland, Luxembourg and United Kingdom). The Company is currently under examination by the Internal Revenue Service, New York State Department of Taxation and other foreign and state taxing authorities.
NOTE 7-STOCKHOLDERS’ EQUITY
AOL is authorized to issue up to 660 million shares of all classes of stock, consisting of 60 million shares of preferred stock, par value $0.01 per share (“Preferred Stock”), and 600 million shares of common stock, par value $0.01 per share. In August 2012, in connection with the Tax Asset Protection Plan, AOL filed a Certificate of Designation to its Amended and Restated Certificate of Incorporation creating a series of approximately 0.1 million shares of Preferred Stock designated as Series A Junior Participating Preferred Stock, par value $0.01 per share (the “Series A Preferred Stock”). The Series A Preferred Stock has the voting and such other rights as provided for in the Certificate of Designation. Rights and privileges associated with shares of Preferred Stock are subject to authorization by the Company’s Board of Directors (the “Board”) and may differ from those of any and all other series at any time outstanding. All shares of common stock will be identical and will entitle the holders thereof to the same rights and privileges.
During the year ended December 31, 2014, the Company recorded a $48.2 million increase to additional paid-in capital as a result of equity-based compensation transactions. Included in this amount was $70.7 million related to expense incurred under AOL’s equity-based compensation plan and $1.5 million related to a portion of the fair value of converted awards that was included in the purchase price of recent acquisitions, partially offset by a reduction of $24.8 million related to tax withholdings on the vesting of restricted stock units (“RSUs”).
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2014 Stock Repurchase Program
On July 28, 2014, the Board approved a stock repurchase program (the “2014 Stock Repurchase Program”), which authorizes AOL to repurchase up to $150 million of its outstanding shares of common stock from time to time over the twelve months following the announcement of the program, depending on market conditions, share price and other factors. The repurchases may be made in accordance with applicable securities laws in the open market, in block trades, pursuant to pre-arranged trading plans or otherwise and may include derivative transactions. The 2014 Stock Repurchase Program may be suspended or discontinued at any time.
During the year ended December 31, 2014, the Company repurchased a total of 0.9 million shares under the 2014 Stock Repurchase Program at a weighted-average price of $42.46 per share (approximately $40.0 million).
2013 Stock Repurchase Program
On February 8, 2013, the Company announced that the Board approved a stock repurchase program (“February 2013 Repurchase Program”), which authorized the Company to repurchase up to $100 million of its outstanding shares of common stock through February 8, 2014. Concurrent with the closing of the Credit Facility Agreement, the Company announced on July 8, 2013 that the Board approved a second stock repurchase program in 2013 (the “July 2013 Stock Repurchase Program”), which authorized AOL to repurchase up to $150 million of its outstanding shares of common stock through July 8, 2014. Repurchases were subject to market conditions, share price and other factors, and were made in accordance with applicable securities laws.
During the year ended December 31, 2014, the Company repurchased a total of 1.6 million shares under the July 2013 Stock Repurchase Program at a weighted-average price of $36.84 per share (approximately $58.6 million). During the year ended December 31, 2013, the Company repurchased a total of 3.9 million shares under both the February 2013 Repurchase Program and the July 2013 Stock Repurchase Program at a weighted-average price of $34.75 per share (approximately $134.8 million).
Tax Asset Protection Plan
As of December 31, 2014, AOL had significant domestic tax attributes, including both net operating loss deferred tax assets and capital loss carry forward deferred tax assets. Unless otherwise restricted, AOL can utilize these tax attributes in certain circumstances to offset future U.S. taxable income, including in connection with capital gains that may be generated from a potential asset sale. Should a “change of control” be triggered under Section 382 of the Internal Revenue Code of 1986, as amended, the Company may not be able to utilize these tax attributes to offset future U.S. taxable income, or such utilization could be significantly delayed. As a result, during the third quarter of 2012, the Company adopted a Tax Asset Protection Plan (the “TAPP”) that is intended to act as a deterrent to any individual, individual fund or family of funds with common dispositive power acquiring 4.9% or more of the Company’s outstanding shares without the approval of the Company’s Board.
Pursuant to the TAPP, the Company declared a dividend of one right on each outstanding share of common stock held of record as of the close of business on September 7, 2012. One right will also be issued together with each share of common stock issued after September 7, 2012 but before the date the rights are exercisable and, in certain circumstances, after such date. Subject to the terms, provisions and conditions of the TAPP, if the rights become exercisable, each right would initially represent the right to purchase from the Company one ten-thousandth of a share of Series A Preferred Stock for a purchase price of $100. If issued, each fractional share of Series A Preferred Stock would give the stockholder approximately the same dividend, voting and liquidation rights as one share of common stock. However, prior to exercise, a right does not give its holder any rights as a stockholder of the Company, including, without limitation, any dividend, voting or liquidation rights.
The rights will expire on August 27, 2015, or such earlier time as the Company’s Board determines that the
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Company has no remaining designated tax attributes as of the beginning of a taxable year. The TAPP was approved by the stockholders at the annual meeting of stockholders on May 3, 2013. As of December 31, 2014, no event occurred that caused the Company to believe it was appropriate to invoke an action under the TAPP. Thus, the TAPP did not have a material impact on the Company’s financial statements as of and for the year ended December 31, 2014.
Accelerated Stock Repurchase Agreement
On August 26, 2012, the Company entered into a fixed dollar collared accelerated stock repurchase agreement with Barclay’s Capital Inc. (“Barclays”), as agent for Barclays Bank PLC, effective August 27, 2012 (the “ASR Agreement”). Under the ASR Agreement, on August 30, 2012, the Company paid $654.1 million from cash on hand to Barclays to repurchase outstanding shares of common stock. The consideration paid to Barclays to repurchase shares included $54.1 million in contemplation of a cash dividend announced by the Company on August 27, 2012 (the “Special Cash Dividend”) and discussed further below, which was calculated as the present value of the Special Cash Dividend with respect to those shares deliverable under the ASR Agreement prior to the ex-dividend date of December 3, 2012. No shares were repurchased under the ASR Agreement during 2013.
On April 22, 2013, the repurchase program under the ASR Agreement was completed. Since the final volume-weighted average price of the Company’s stock was above the adjusted cap price established under the ASR Agreement, no additional shares were delivered upon completion of the program. The total amount of shares repurchased by the Company under the ASR Agreement was 18.4 million shares at a cap price of $32.69. The remaining $33.9 million recorded within APIC under the ASR Agreement was reclassified to treasury stock during the second quarter of 2013. The $654.1 million is reflected within treasury stock on the Company’s consolidated balance sheet as of December 31, 2013.
Special Cash Dividend
On August 26, 2012, AOL declared the Special Cash Dividend of $5.15 per share to be paid to shareholders of record at the close of business on December 5, 2012. The total amount of the Special Cash Dividend paid to shareholders on December 14, 2012 was $434.4 million with an offsetting reduction to retained earnings on the Company’s consolidated balance sheets. In connection with the payment of the Special Cash Dividend and in accordance with and pursuant to the Company’s Amended and Restated 2010 Stock Incentive Plan (“2010 SIP”), the Company made an equitable adjustment to outstanding stock options, such that both the fair value and intrinsic value of employee awards immediately following the Special Cash Dividend were essentially unchanged from the fair value and intrinsic value prior to the Special Cash Dividend. This dividend was treated as a return of capital for tax purposes. In addition to the amount paid on December 14, 2012, individuals who hold RSUs and performance stock units (“PSUs”) will be paid out dividend equivalents in cash as the respective RSUs and PSUs vest. The Company did not record any incremental compensation expense in connection with the adjustment of stock options or payment of dividend equivalents on RSUs and PSUs given that the adjustments were made pursuant to an existing anti-dilution provision included in the Company’s 2010 SIP, and the adjustments were made so that the holders of the awards were in the same economic position after the equity restructuring as before.
Dutch Auction Tender Offer
On June 28, 2012, AOL announced a $400.0 million modified Dutch auction tender offer. The tender offer began on the date of the announcement, June 28, 2012, and expired on August 2, 2012. Through the Dutch tender offer, AOL’s shareholders had the opportunity to tender some or all of their shares at a price within the range of $27.00 to $30.00 per share. Upon expiration, approximately 0.3 million shares were tendered through the offer at a final purchase price of $30.00 per share, for a total purchase price of approximately $8.8 million. AOL accounted for the repurchase of these shares as treasury stock on the Company’s consolidated balance sheet during the third quarter of 2012.
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NOTE 8-EQUITY-BASED COMPENSATION AND EMPLOYEE BENEFIT PLANS
Defined Contribution Plans
AOL employees participate in domestic and international defined contribution plans, primarily consisting of AOL’s domestic savings plan. AOL’s contributions to these plans are based on a percentage of the employees’ elected contributions and are subject to plan provisions.
Expenses related to AOL’s contribution to plans amounted to $13.4 million, $14.7 million and $14.5 million for the years ended December 31, 2014, 2013 and 2012, respectively.
Equity-Based Compensation
AOL Equity Plan
Pursuant to the Company’s 2010 SIP stock options are granted to employees, advisors and non-employee directors of AOL with exercise prices equal to the quoted market value of the common stock at the date of grant. Performance stock options are also granted to certain senior level executives. Generally, the stock options vest ratably over a three to four year vesting period and expire ten years from the date of grant. Certain stock option awards provide for accelerated vesting upon an election to retire after reaching a specified age and years of service, as well as certain additional circumstances for non-employee directors.
Also pursuant to the 2010 SIP, AOL may also grant shares of common stock, RSUs or PSUs to its employees, advisors and non-employee directors, which generally vest ratably over a three to four year period from the date of grant. Holders of common stock, RSU and PSU awards are generally entitled to receive regular cash dividends or dividend equivalents at the discretion of the Board, if paid by the Company during the period of time that the restricted stock or RSU awards are unvested. Certain of the Company’s PSU awards are subject to quarterly remeasurement of expense with corresponding adjustments to cumulative recognized compensation expense, as the service inception date precedes the grant date for these awards.
The Company is authorized to grant equity awards to employees, advisors and non-employee directors covering an aggregate of 34.4 million shares of AOL common stock under the 2010 SIP. Amounts available for issuance pursuant to grants under the 2010 SIP will change over time based on such activities as the conversion of equity awards into common stock, the forfeiture of equity awards and the cancellation of equity awards, among other activities.
Upon the (i) exercise of a stock option award, (ii) vesting of a RSU or (iii) grant of restricted stock, shares of AOL common stock are issued from authorized but unissued shares or from treasury stock.
AOL Employee Stock Purchase Plan
Pursuant to the Company’s 2012 Employee Stock Purchase Plan (the “ESPP”), eligible employees who elect to participate are granted the opportunity to purchase AOL’s common stock at a discount. The purchase price for the shares will be the lower of (i) 85% of the fair market value of the Company’s common stock on the first day of the offering period, or (ii) 85% of the fair market value of the Company’s common stock on the last day of the offering period. The Company has accounted for the ESPP as compensatory given the presence of a look-back feature, a 15% stock purchase discount from market price which is significant and incremental, and the fact that plan terms are not available to all common stock holders. A maximum of 9.0 million shares is available for issuance pursuant to the ESPP as of December 31, 2014.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
2014 Acquisitions of Gravity, Convertro and Vidible
In connection with the acquisitions of Gravity, Convertro and Vidible, the Company converted and issued replacement awards to the employees of the acquired companies. The Company issued restricted stock awards with an aggregate fair value of $5.7 million to replace unvested in-the-money options held by these employees. Of the total fair value of the stock awards issued, $1.5 million was related to pre-acquisition service and was recognized as purchase consideration. The remaining $4.2 million fair value is being recognized as equity-based compensation expense over the remaining requisite service periods. An additional $5.9 million of fair value of unvested AOL restricted stock issued to employees in connection with these acquisitions is being recognized as equity-based compensation expense over the remaining award service periods. See “Note 4” for additional information on the acquisitions of and the related stock conversions.
2013 Acquisition of Adap.tv
In connection with the acquisition of Adap.tv in September 2013, the Company replaced unvested in-the-money options held by Adap.tv employees under the Adap.tv Plan with approximately 1.1 million shares of unvested AOL restricted stock with a fair value of $35.6 million in aggregate. Of the converted options, $24.8 million is expected to be recognized as equity-based compensation expense over the remaining award vesting periods. In addition, the Company also issued to Adap.tv employees approximately 0.3 million shares of unvested AOL restricted stock awards (“RSAs”) with a fair value of $10.5 million in aggregate. The fair value of the restricted awards is expected to be recognized as equity-based compensation expense over the remaining portion of the original 3 to 4 years vesting period for each respective award. See “Note 4” for additional information on the acquisition of Adap.tv and the related stock conversion.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Equity-Based Compensation Expense
Compensation expense recognized by AOL related to its equity-based compensation plans is as follows (in millions):
AOL Stock Options
The assumptions presented in the table below represent the weighted-average value of the applicable assumption used to value AOL stock options at their grant date for stock options granted during the periods presented:
The volatility assumptions were determined based on a blend of AOL’s implied volatility and the historical and implied volatilities of a comparable peer group of publicly traded companies. The expected term, which represents the period of time that options granted are expected to be outstanding, is estimated based on the historical exercise experience and termination behaviors of the individuals that hold options to acquire AOL common stock. The risk-free rate assumed in valuing the options is based on the U.S. Treasury yield curve in effect at the time of grant for the expected term of the option. As the Company does not currently intend to pay dividends, the expected dividend yield is zero for all AOL equity awards granted.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes AOL stock option activity for the year ended December 31, 2014:
As of December 31, 2014, 18.5 million shares of AOL common stock were available for future grants of stock options. As of December 31, 2014, there was $10.8 million of unrecognized compensation cost related to outstanding employee stock options expected to vest. The Company expects to recognize this amount over a weighted-average period of 2.0 years. To the extent the actual forfeiture rate is different from what the Company has estimated, equity-based compensation expense related to these awards will be different from the Company’s expectations.
The weighted-average grant date fair value of an AOL stock option granted during the years ended December 31, 2014, 2013 and 2012 was $14.97, $12.96 and $6.93, respectively. The intrinsic value of stock options exercised for the years ended December 31, 2014, 2013 and 2012 was $17.6 million, $43.1 million and $19.3 million, respectively.
AOL Restricted Stock Units and Performance Stock Units
The following table summarizes information about unvested AOL RSUs, RSAs and PSUs for the year ended December 31, 2014:
At December 31, 2014, the intrinsic value of unvested AOL RSUs, RSAs and PSUs was $169.4 million. As of December 31, 2014, there was $80.3 million of unrecognized compensation cost related to outstanding RSUs, RSAs and PSUs expected to vest. The Company expects to recognize this amount over a weighted-average period of 2.0
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
years. To the extent the actual forfeiture rate is different from what the Company has estimated, equity-based compensation expense related to these awards will be different from the Company’s expectations. Total fair value of shares vested during the years ended December 31, 2014, 2013 and 2012 was $43.4 million, $28.2 million and $15.5 million, respectively.
NOTE 9-RESTRUCTURING COSTS
As part of the Company’s continuing effort to reduce its expenses and invest in areas of strategic focus, the Company incurred restructuring costs of $22.0 million, $41.3 million and $10.1 million for the years ended December 31, 2014, 2013 and 2012, respectively. These restructuring costs were primarily related to involuntary employee terminations. The 2013 restructuring costs primarily related to the Company's efforts to align its organizational structure with its strategy, including the restructuring of its Patch operations.
A summary of AOL’s restructuring activity for the years ended December 31, 2014, 2013 and 2012 is as follows (in millions):
At December 31, 2014, of the remaining liability of $5.9 million, $5.6 million was classified as a current liability within accrued expenses and other current liabilities, with the remaining $0.3 million classified within other long-term liabilities on the consolidated balance sheets. Amounts classified as long-term are expected to be paid through 2017.
NOTE 10-COMMITMENTS AND CONTINGENCIES
Commitments
AOL’s net rent expense was $47.6 million, $39.8 million and $41.6 million for the years ended December 31, 2014, 2013 and 2012, respectively, and is included in costs of revenues and general and administrative expense on the consolidated statements of comprehensive income. The Company has long-term lease commitments for office space and network-related facilities in various locations around the world, a number of which have renewal options at market rates to be determined prior to the renewal option being exercised. In addition, certain leases have rent escalation clauses with either fixed scheduled rent increases or rent increases based on the Consumer Price Index.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The minimum rental commitments under long-term operating leases during the next five years and thereafter are as follows (in millions):
(a)
Included in the above table are approximately $146.9 million of payments associated with the lease of the Company’s corporate headquarters in New York. AOL has leased its corporate headquarters for an initial lease term that ends in February 2023, with the option to extend the lease for an additional five years. Monthly rental payments to the landlord under this lease escalate by approximately 7% after the end of the fifth year and tenth year of the lease term. Included in the above table are approximately $20.9 million of payments associated with a leased building in California. AOL has leased this space for an initial lease term that ends in June 2017 with no renewal options. Rent was abated for the first nine months of the lease term with partial rent abatement for an additional three months. Only operating expenses were paid during the rent abatement period.
AOL has commitments under certain software licensing, TAC, business analysis, royalty and other agreements aggregating approximately $70.5 million at December 31, 2014, which are payable principally over a three-year period, as follows (in millions):
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(a)
The purchase obligation amounts included in the table above do not represent the entire anticipated purchases in the future, but represent only those items for which AOL is contractually obligated. Examples of the types of obligations included within purchase obligations include software licensing agreements and guaranteed royalty payments. Additionally, the Company also purchases products and services as needed with no firm commitment. For this reason, the amounts presented in the table above do not provide a reliable indicator of its expected future cash outflows. For purposes of identifying and accumulating purchase obligations, the Company has included all material contracts with an initial contractual term in excess of one year meeting the definition of a purchase obligation (i.e., legally binding for a fixed or minimum amount or quantity). For those contracts involving a fixed or minimum quantity but with variable pricing terms, the Company has estimated the contractual obligation based on its best estimate of the pricing that will be in effect at the time the obligation is incurred. Additionally, the Company has included only the obligations represented by those contracts as they existed at December 31, 2014, and did not assume renewal or replacement of the contracts at the end of their respective terms.
The Company also has certain contractual arrangements that would require it to make payments or provide funding if certain circumstances occur (“contingent commitments”). At December 31, 2014, these arrangements related primarily to letters of credit and totaled $8.2 million. The Company does not expect that these contingent commitments will result in any material amounts being paid by the Company in the foreseeable future.
Contingencies
AOL is a party to a variety of claims, suits and proceedings that arise in the normal course of business, including actions with respect to intellectual property claims, tax matters, labor and unemployment claims, commercial claims, claims related to the Company’s business model for content creation and other matters. While the results of such normal course claims, suits and proceedings cannot be predicted with certainty, management does not believe that, based on current knowledge and the likely timing of resolution of various matters, any additional reasonably possible potential losses above the amount accrued for such matters would be material to the Company’s financial statements nor does management believe there is a reasonable likelihood of any material loss from any pending legal proceedings. Regardless of the outcome, legal proceedings can have an adverse effect on AOL because of defense costs, diversion of management resources and other factors.
Security Incident
On April 28, 2014, the Company announced a security incident that involved unauthorized access to its network and systems (the “security incident”).
As a result of its investigation of the security incident, the Company has determined that there was unauthorized access to information regarding a significant number of user accounts. This information included AOL users’ email addresses, postal addresses, address book contact information, encrypted passwords and encrypted answers to security questions that the Company asks when a user resets his or her password, as well as certain employee information. The Company believes that the individuals or entities have used this contact information to send “spoofed” emails that appeared to come from roughly 2% of its email accounts. There is no indication that the encryption on the passwords or on the answers to security questions was broken or that the incident resulted in disclosure of users’ financial information, including debit and credit cards, which is also fully encrypted.
The Company's investigation of the security incident is complete, and there is no indication that the Company has incurred or will incur a material loss associated with the security incident.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11-ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
Accrued expenses and other current liabilities consist of (in millions):
NOTE 12-SEGMENT INFORMATION
The Company’s segments are determined based on the properties, products and services it provides and how the chief operating decision maker (“CODM”) evaluates the business and assesses performance. The Company’s chief executive officer is the Company’s CODM for the year ended December 31, 2014. The Company has the following operating segments:
•
The Brand Group, which consists of AOL's portfolio of distinct and unique content brands as well as certain service brands. The results for this segment include the performance of AOL's advertising offerings on a number of owned and operated sites, such as AOL.com, The Huffington Post, TechCrunch and MapQuest. The Brand Group also includes co-branded websites owned or operated by third parties for which certain criteria have been met, including the requirement that the internet traffic has been assigned to AOL.
•
The Membership Group, which consists of offerings that serve AOL's registered account holders, both free and paid. The results for this segment include the performance of AOL's subscription offerings and advertising offerings on Membership Group properties, including communications products, such as AOL Mail.
•
AOL Platforms (formerly referred to as AOL Networks), which consists of interconnected programmatic (automated) and premium advertising offerings and technologies that advertisers and publishers use to reach consumers across all devices (i.e., desktop, mobile and television), and includes formats such as display, including video and social formats. AOL Platforms also provides additional technology solutions that enhance AOL's programmatic platforms and enable advertisers and publishers to have an end-to-end open programmatic media buying experience by providing access to Third Party Properties, AOL Properties ad serving, content personalization, targeting, attribution and cross-channel analytics. The results for this segment include the performance of Advertising.com, AdLearn Open Platform, Adap.tv, Marketplace by ADTECH, AOL On, Be On, ADTECH, Gravity, Vidible and Convertro.
In addition to the above operating segments, the Company has a corporate and other category that includes activities that are not directly attributable or allocable to a specific segment. This category primarily consists of broad corporate functions and includes legal, human resources, accounting, analytics, finance and marketing as well as activities and costs not directly attributable to a particular segment such as restructuring costs, tax settlements and
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
other general business costs. The corporate and other category also includes the elimination of revenues resulting from transactions between the Brand Group, Membership Group and AOL Platforms segments.
For the year ended December 31, 2014, each of the Company's operating segments represents a reportable segment for external reporting purposes. No aggregation is necessary.
AOL Platforms sells advertising on third party websites and from advertising inventory managed within the Membership and Brand Groups. The revenues associated with these transactions are included in the revenues from external customers for AOL Platforms. An intersegment TAC expense is included in the expenses recorded for AOL Platforms, with a corresponding amount of intersegment revenues included in the respective segment results for the Membership and Brand Groups. The intersegment revenues and TAC expense are determined based on similar transactions that AOL Platforms has with large third-party publishers.
The CODM uses adjusted operating income before depreciation and amortization (“Adjusted OIBDA”) to evaluate the performance of the segments and allocate resources. Management considers Adjusted OIBDA to be the appropriate metric to evaluate and compare the ongoing operating performance of the Company’s business on a consistent basis across reporting periods, as it eliminates the effect of non-cash items which the Company does not believe are indicative of its core operating performance. This measure of profit or loss is considered to be a non-GAAP measure, and may be different than similarly-titled non-GAAP financial measures used by other companies.
The Company views Adjusted OIBDA as the segment measure of profit or loss that is most useful to investors since it is indicative of a segment’s performance and is representative of the method management uses to evaluate performance and make decisions about allocating resources. The Company defines Adjusted OIBDA as operating income before depreciation and amortization excluding the impact of restructuring costs, non-cash equity-based
compensation, gains and losses on all disposals of assets, non-cash asset impairments and write-offs and special items, which management does not believe are indicative of the Company’s core operating performance. Segment Adjusted OIBDA includes revenue from external customers and intersegment revenues, costs and expenses directly attributable to the segment and allocations of shared corporate and technology costs which are determined to be directly related to a particular segment.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Segment information for the years ended December 31, 2014, 2013 and 2012 is as follows (in millions):
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The following table presents the Company’s reconciliation of Adjusted OIBDA to operating income (in millions):
Special items for the year ended December 31, 2012 include patent licensing income of $96.0 million and costs related to the patent sale and license of $15.7 million, as well as proxy contest costs of $8.9 million, $7.6 million of tax settlement expenses and acquisition-related costs of $5.1 million.
Due to the nature of the Company’s operations, a majority of its assets are utilized across all segments. In addition, segment assets are not reported to, or used by, the CODM function to allocate resources or assess performance of the Company’s segments. Accordingly, the Company has not disclosed asset information by segment.
Information about Geographical Areas
The following table presents revenues in different geographical locations (in millions):
Revenues are attributed to countries based on the location of customers.
Net property and equipment located outside the United States, which represents 5%, 4% and 3% for the years ended December 31, 2014, 2013 and 2012, respectively, of total assets, are not material.
AOL INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13-SELECTED QUARTERLY FINANCIAL DATA (Unaudited; in millions except per share amounts)
(a)
Operating income for the year ended December 31, 2013 includes a non-cash goodwill impairment charge of $17.5 million related to Patch in the third quarter.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that the information we are required to disclose in our financial reports is recorded, processed, summarized and reported within the time periods specified by the SEC rules and forms, and that such information is accumulated and communicated to senior management, as appropriate, to allow timely decisions regarding required disclosure. Management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended. Any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of December 31, 2014, as required by Rules 13a-15(b) and 15d-15(b) of the Securities Exchange Act of 1934, as amended. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2014 at a reasonable assurance level.
Changes to Internal Control over Financial Reporting
We have evaluated the changes in our internal control over financial reporting that occurred during the year ended December 31, 2014 and concluded that there have not been any changes that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Management's Report on Internal Control over Financial Reporting
Management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer and effected by the Board, management and other personnel to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.
Internal control over financial reporting includes control self-assessments, which are audited by the internal audit function. Because of its inherent limitations, internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives. It is a process that involves human diligence and compliance and is therefore subject to lapses in judgment and breakdowns resulting from human error. It also can be circumvented by collusion or improper override. Because of its limitations, there is a risk that internal control over financial reporting may not prevent or detect on a timely basis errors or fraud that could cause a material misstatement of the financial statements. Additionally, changes in conditions may impact the effectiveness of controls subsequent to the date of the evaluation of the effectiveness of internal control over financial reporting.
Management conducted an evaluation of the effectiveness of our internal control over financial reporting as of December 31, 2014, using the criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework). Based on this evaluation, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2014.
Ernst & Young LLP, an independent registered public accounting firm, has audited the effectiveness of our internal control over financial reporting as of December 31, 2014, as stated in their report included in Item 9A.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of AOL Inc.
We have audited AOL Inc.’s internal control over financial reporting as of December 31, 2014, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). AOL Inc.’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, AOL Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2014, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of AOL Inc. as of December 31, 2014 and 2013, and the related consolidated statements of comprehensive income, equity and cash flows for each of the three years in the period ended December 31, 2014 of AOL Inc. and our report dated February 27, 2015 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
New York, New York
February 27, 2015
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None.
AOL INC.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by Items 401 (except for Item 401(b)), 405, 407(c)(3), 407(d)(4) and 407(d)(5) is incorporated by reference to our Proxy Statement to be filed in connection with the 2015 Annual Meeting of Stockholders.
See "Part I - Item 1 - Executive Officers of the Registrant" for information about our executive officers, as required by Item 401(b).
We have adopted a Code of Ethics for Our Senior Executive and Senior Financial Officers. Our Code of Ethics is publicly available on our corporate governance website located at http://ir.aol.com. Amendments to the Code of Ethics or any grant of a waiver from a provision of the Code of Ethics requiring disclosure under applicable SEC rules will also be disclosed on our website.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information called for by this item is hereby incorporated by reference to our Proxy Statement to be filed in connection with the 2015 Annual Meeting of Stockholders.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information called for by this item is hereby incorporated by reference to our Proxy Statement to be filed in connection with the 2015 Annual Meeting of Stockholders.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information called for by this item is hereby incorporated by reference to our Proxy Statement to be filed in connection with the 2015 Annual Meeting of Stockholders.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The information called for by this item is hereby incorporated by reference to our Proxy Statement to be filed in connection with the 2015 Annual Meeting of Stockholders.
AOL INC.
PART IV
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a)(1) Financial Statements
The financial statements listed in the Index to Consolidated Financial Statements and Supplementary Data, filed as part of this Annual Report.
(a)(2) Financial Statement Schedules
All financial statement schedules are omitted as the required information is not applicable or the information is presented in the consolidated financial statements or related notes.
(a)(3) Exhibits
See Item 15(b) below.
(b) Exhibits
The agreements and other documents filed as exhibits to this report are not intended to provide factual information or other disclosure other than with respect to the terms of the agreements or other documents themselves, and you should not rely on them for that purpose. In particular, any representations and warranties made by us in these agreements or other documents were made solely within the specific context of the relevant agreement or document and may not describe the actual state of affairs as of the date they were made or at any other time.
See the Exhibit Index immediately following the signature page of this Annual Report.
(c) Financial Statement Schedules
See Item 15(a)(2) above.
AOL INC.
SIGNATURES
Pursuant to the requirements of Section 13 or Section 15(d) 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, on February 27, 2015.
AOL INC.
By:
/s/ Karen Dykstra
Name:
Karen Dykstra
Title:
Chief Financial and Administrative Officer
(Principal Financial Officer)
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Timothy M. Armstrong and Karen Dykstra, jointly and severally, his or her attorney-in-fact, each with the power of substitution, for him or her in any and all capacities, to sign any amendments to this Annual Report on Form 10-K and to file the same, with exhibits thereto and other documents in connection therewith with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or substitute or substitutes may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
AOL INC.
SIGNATURES
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* Portions of this agreement have been omitted pursuant to an order granting confidential treatment.
** Management contract or compensatory plan or arrangement.
†
This certification will not be deemed “filed” for purposes of Section 18 of the Exchange Act (15 U.S.C. 78r), or otherwise subject to the liability of that section. Such certification will not be deemed to be incorporated by reference into any filing under the Securities Act or Exchange Act, except to the extent that the Registrant specifically incorporates it by reference.
††
In accordance with Rule 406T of Regulation S-T, the information in these exhibits is furnished and deemed not filed or a part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of Section 18 of the Exchange Act of 1934, and otherwise is not subject to liability under these sections and shall not be incorporated by reference into any registration statement or other document filed under the Securities Act of 1933, as amended, except as expressly set forth by specific reference in such filing.