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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _________ to __________
Commission file number 0-28064
eBAY INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 77-0430924
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
2005 HAMILTON AVE, SUITE 350
SAN JOSE, CALIFORNIA 95125
(Address of principal executive offices) (Zip Code)
(408) 369-4830
(Registrant's telephone number, including area code)
------------------------
Check whether the registrant: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
YES NO X
--- ---
As of November 11, 1998, there were 40,264,073 shares of the Registrant's Common
Stock outstanding.
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FORM 10-Q
eBAY INC.
INDEX
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PAGE
PART I FINANCIAL INFORMATION NUMBER
ITEM 1: Condensed Consolidated Financial Statements:
Condensed Consolidated Balance Sheet as of September 30,
1998 and December 31, 1997........................................................ 2
Condensed Consolidated Statement of Income for the three and nine months ended
September 30, 1998 and 1997....................................................... 3
Condensed Consolidated Statement of Cash Flows for the nine months ended
September 30, 1998 and 1997....................................................... 4
Notes to Condensed Consolidated Financial Statements............................... 5
ITEM 2: Management's Discussion and Analysis of Financial Condition and Results of
Operations........................................................................ 9
ITEM 3: Quantitative and Qualitative Disclosures About Market Risk......................... 21
PART II OTHER INFORMATION
ITEM 1: Legal Proceedings.................................................................. 21
ITEM 2: Changes in Securities and Use of Proceeds.......................................... 21
ITEM 3: Defaults Upon Senior Securities.................................................... 21
ITEM 4: Submission of Matters to a Vote of Security Holders................................ 21
ITEM 5: Other Information.................................................................. 21
ITEM 6: Exhibits and Reports on Form 8-K................................................... 22
Signatures................................................................................... 23
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PART I: FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
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eBAY INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(in thousands, except per share amounts; unaudited)
SEPTEMBER 30, DECEMBER 31,
1998 1997
---------------- ----------------
ASSETS
Current assets:
Cash and cash equivalents.................................................... $ 74,474 $ 3,723
Accounts receivable, net..................................................... 3,994 1,024
Other current assets......................................................... 3,663 220
--------- ---------
Total current assets..................................................... 82,131 4,967
Property and equipment, net..................................................... 5,668 652
Intangible assets, net.......................................................... 1,701 --
--------- ---------
$ 89,500 $ 5,619
========= =========
LIABILITIES, MANDATORILY REDEEMABLE
CONVERTIBLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY
Current liabilities:
Debt and leases, current portion............................................. $ 316 $ 258
Accounts payable............................................................. 3,376 252
Customer advances............................................................ 506 128
Income taxes payable......................................................... -- 169
Other current liabilities.................................................... 3,066 317
--------- ---------
Total current liabilities................................................ 7,264 1,124
Debt and leases, long-term portion.............................................. 94 305
Deferred tax liabilities........................................................ 157 157
--------- ---------
7,515 1,586
--------- ---------
Series B Mandatorily Redeemable Convertible Preferred
Stock and Series B warrants (Note 2)......................................... -- 3,018
--------- ---------
Stockholders' equity:
Preferred Stock, $0.001 par value; 5,000 and no shares authorized,
no shares issued or outstanding;............................................. -- --
Series A Convertible Preferred Stock, $0.001 par value;
no shares and 1,676 shares authorized, no shares and 1,676
shares issued and outstanding;............................................... -- 4
Common Stock, $0.001 par value, 195,000 and 60,000 shares.....................
authorized; 40,264 and 20,400 shares issued and outstanding;................ 40 20
Additional paid-in capital.................................................... 86,582 1,482
Notes receivable from stockholders............................................ (1,533) (68)
Unearned compensation......................................................... (4,912) (1,399)
Retained earnings............................................................. 1,808 976
--------- ---------
Total stockholders' equity............................................... 81,985 1,015
--------- ---------
$ 89,500 $ 5,619
========= =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
2
eBAY INC.
CONDENSED CONSOLIDATED STATEMENT OF INCOME
(in thousands, except per share amounts; unaudited)
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
------------------------------------ -------------------------------------
1998 1997 1998 1997
--------------- ---------------- ---------------- ----------------
Net revenues.................................. $ 12,935 $ 1,459 $ 27,857 $ 3,117
Cost of net revenues.......................... 2,103 253 3,839 413
--------- --------- --------- ---------
Gross profit........................... 10,832 1,206 24,018 2,704
--------- --------- --------- ---------
Operating expenses:
Sales and marketing...................... 5,476 369 10,086 581
Product development...................... 1,514 257 3,062 466
General and administrative............... 2,115 260 6,302 493
Acquired research and development and
amortization of acquired intangibles... 327 -- 477 --
--------- --------- --------- ---------
Total operating expenses............... 9,432 886 19,927 1,540
--------- --------- --------- ---------
Income from operations........................ 1,400 320 4,091 1,164
Interest and other income, net................ 122 27 223 33
Interest expense.............................. (11) (1) (36) (3)
--------- --------- --------- ---------
Income before income taxes.................... 1,511 346 4,278 1,194
Provision for income taxes.................... (848) (147) (3,400) (509)
--------- --------- --------- ---------
Net income.................................... $ 663 $ 199 $ 878 $ 685
========= ========= ========= =========
Net income per share:
Basic.................................... $ 0.04 $ 0.02 $ 0.07 $ 0.10
========= ========= ========= =========
Weighted average shares--basic........... 15,423 8,075 12,296 6,800
========= ========= ========= =========
Diluted.................................. $ 0.02 $ 0.01 $ 0.02 $ 0.02
========= ========= ========= =========
Weighted average shares--diluted......... 37,168 29,784 35,837 27,984
========= ========= ========= =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
eBAY INC.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(in thousands; unaudited)
NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------------
1998 1997
---------------- ----------------
Cash flows from operating activities:
Net income ................................................................... $ 878 $ 685
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for doubtful accounts ............................................ 1,423 30
Depreciation and amortization .............................................. 892 3
Amortization of unearned compensation ...................................... 1,888 --
Compensation expense associated with purchases
of Common Stock by outside directors ...................................... 429 --
Charitable contribution of Common Stock .................................... 1,215 --
Series B Preferred Stock issued for services ............................... 93 --
Acquired research and development .......................................... 150 --
Amortization of intangible assets .......................................... 515 --
Changes in current assets and liabilities:
Accounts receivable ...................................................... (4,381) (534)
Other current assets ..................................................... (3,443) (63)
Accounts payable ......................................................... 3,109 210
Customer advances ........................................................ 378 29
Income taxes payable ..................................................... (169) 51
Other current liabilities ................................................ 2,412 189
Deferred tax liabilities ................................................. -- 77
--------- --------
Net cash provided by operating activities ..................................... 5,389 677
--------- --------
Cash flows from investing activities:
Purchases of property and equipment ........................................ (5,899) (310)
--------- --------
Net cash used in investing activities ......................................... (5,899) (310)
--------- --------
Cash flows from financing activities:
Proceeds from Series B Preferred Stock and Series B warrants ................. 2,000 2,972
Proceeds from Common Stock, net .............................................. 69,446 --
Repayment of stockholder loans ............................................... 3 --
Principal payments on debt and leases ........................................ (188) (5)
--------- --------
Net cash provided by financing activities ..................................... 71,261 2,967
--------- --------
Net increase in cash and cash equivalents ..................................... 70,751 3,334
Cash and cash equivalents at beginning of period .............................. 3,723 103
--------- --------
Cash and cash equivalents at end of period .................................... $ 74,474 $ 3,437
========= ========
Non-cash investing and financing activities:
Property and equipment leases .............................................. $ -- $ 23
Common Stock issued for notes receivable ................................... $ 1,468 $ --
Common Stock issued for acquisition ........................................ $ 2,000 $ --
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
eBAY INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1--THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
THE COMPANY
eBay Inc. (the "Company") was incorporated in California in May 1996 and
reincorporated in Delaware in March 1998. eBay pioneered online person-to-person
trading by developing a Web-based community in which buyers and sellers are
brought together in an auction format to trade personal items such as antiques,
coins, collectibles, computers, memorabilia, stamps and toys. The eBay service
permits sellers to list items for sale, buyers to bid on items of interest and
all eBay users to browse through listed items in a fully-automated, topically-
arranged service that is available online 24 hours a day, seven days a week. The
Company operates in one business segment.
BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements as of
September 30, 1998 and December 31, 1997, and the three and nine months ended
September 30, 1998 and 1997, are unaudited. The unaudited interim condensed
consolidated financial statements have been prepared on the same basis as the
annual condensed consolidated financial statements and, in the opinion of
management, reflect all adjustments, which include only normal recurring
adjustments, necessary to present fairly the Company's financial position,
results of operations and cash flows as of September 30, 1998 and for the three
and nine months ended September 30, 1998 and 1997. These condensed consolidated
financial statements and notes thereto are unaudited and should be read in
conjunction with the Company's audited financial statements included in the
Company's Prospectus, as amended, filed with the Securities and Exchange
Commission on September 24, 1998. The results for the three and nine months
ended September 30, 1998 are not necessarily indicative of the expected results
for the year ending December 31, 1998. Certain prior period balances have been
reclassified to conform to the current period presentation.
PRINCIPLES OF CONSOLIDATION
The condensed financial statements as of September 30, 1998 and for the
three and nine months then ended are consolidated and include the accounts of
the Company and its wholly owned subsidiary. All significant intercompany
balances and transactions have been eliminated in consolidation.
ADVERTISING
The Company recognizes advertising expenses in accordance with Statement of
Position ("SOP") No. 93-7, "Reporting on Advertising Costs." As such, the
Company expenses the costs of producing advertisements at the time production
occurs, and expenses the costs of communicating advertising in the period in
which the advertising space or airtime is used. Internet advertising expenses
are recognized based on specifics of the individual agreements, but generally
using the greater of (i) the ratio of the number of impressions delivered over
the total number of contracted impressions and (ii) the straight-line basis over
the term of the contract.
STOCK SPLIT
In August 1998, the Company's Board of Directors effected a three-for-one
stock split of the outstanding shares of Common Stock. All share and per share
information included in these condensed consolidated financial statements have
been retroactively adjusted to reflect this stock split.
STOCK-BASED COMPENSATION
The Company accounts for stock-based employee compensation arrangements in
accordance with provisions of Accounting Principles Board ("APB") Opinion No.
25, "Accounting for Stock Issued to Employees," and complies with the disclosure
provisions of Statement of Financial Accounting Standards ("SFAS") No. 123,
"Accounting for Stock-Based Compensation." Under APB No. 25, compensation
expense is based on the difference, if any, on the date of the grant, between
the fair value of the Company's stock and the exercise price. The Company
accounts for stock issued to non-employees in accordance with the provisions of
SFAS No. 123 and EITF 96-18.
NET INCOME PER SHARE
The Company computes net income per share in accordance with SFAS No. 128,
"Earnings per Share" and SEC Staff Accounting Bulletin No. 98 ("SAB 98"). Under
the provisions of SFAS No. 128 and SAB 98, basic net
5
eBAY INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
income per share is computed by dividing the net income available to common
stockholders for the period by the weighted average number of common shares
outstanding during the period. Diluted net income per share is computed by
dividing the net income for the period by the weighted average number of common
and common equivalent shares outstanding during the period. Common equivalent
shares, composed of unvested restricted Common Stock and incremental common
shares issuable upon the exercise of stock options and warrants and upon
conversion of Series A and Series B Convertible Preferred Stock, are included in
diluted net income per share to the extent such shares are dilutive.
The following table sets forth the computation of basic and diluted net income
per share for the periods indicated, (in thousands, except per share amounts;
unaudited):
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
------------------------------------- -------------------------------------
1998 1997 1998 1997
---------------- ---------------- ---------------- ----------------
Numerator:
Net income................................... $ 663 $ 199 $ 878 $ 685
Accretion of Series B Mandatorily Redeemable
Convertible Preferred Stock to
redemption value............................ -- (23) (46) (23)
-------------- -------------- -------------- --------------
Net income available to common stockholders.. $ 663 $ 176 $ 832 $ 662
============== ============== ============== ==============
Denominator:
Weighted average shares...................... 27,841 20,400 26,307 20,400
Weighted average unvested common shares
subject to repurchase agreements............ (12,418) (12,325) (14,011) (13,600)
-------------- -------------- -------------- --------------
Denominator for basic calculation............ 15,423 8,075 12,296 6,800
Weighted average effect of dilutive
securities:
Series A Preferred Stock.................... 4,701 5,029 4,919 5,029
Series B Preferred Stock.................... 3,969 3,000 3,562 1,682
Series B Preferred Stock warrants........... -- -- 452 --
Weighted average unvested common shares
subject to repurchase agreements........... 12,418 12,325 14,011 13,600
Employee stock options...................... 657 1,355 597 873
-------------- -------------- -------------- --------------
Denominator for diluted calculation.......... 37,168 29,784 35,837 27,984
============== ============== ============== ==============
Net income per share:
Basic........................................ $ 0.04 $ 0.02 $ 0.07 $ 0.10
============== ============== ============== ==============
Diluted...................................... $ 0.02 $ 0.01 $ 0.02 $ 0.02
============== ============== ============== ==============
COMPREHENSIVE INCOME
Effective January 1, 1998 the Company adopted the provisions of SFAS No.
130, "Reporting Comprehensive Income." SFAS No. 130 establishes standards for
reporting comprehensive income and its components in financial statements.
Comprehensive income, as defined, includes all changes in equity (net assets)
during a period from non-owner sources. To date, the Company has not had any
transactions that are required to be reported in comprehensive income.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information." This
statement establishes standards for the way companies report information about
operating segments in annual financial statements. It also establishes standards
for related disclosures about products and services, geographic areas and major
customers. The disclosures prescribed by SFAS No. 131 will be effective for the
year ending December 31, 1998. The Company has determined that it does not have
any separately reportable business segments as of September 30, 1998.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 is
effective for all fiscal quarters of all fiscal years beginning after June 15,
1999. SFAS No. 133 requires that all derivative instruments be recorded on the
balance sheet at their fair value. Changes in the fair value of derivatives are
recorded each period in current earnings or other comprehensive income,
depending on whether a derivative is designed as part of a hedge transaction
and, if it is, the type of hedge
6
eBAY INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
transaction. The Company does not expect that the adoption of SFAS No. 133 will
have a material impact on its condensed consolidated financial statements.
In March 1998, the American Institute of Certified Public Accountants
issued SOP No. 98-1, "Software for Internal Use," which provides guidance on
accounting for the cost of computer software developed or obtained for internal
use. SOP No. 98-1 is effective for financial statements for fiscal years
beginning after December 15, 1998. The Company does not expect that the adoption
of SOP No. 98-1 will have a material impact on its condensed consolidated
financial statements.
NOTE 2--COMMON STOCK:
INITIAL PUBLIC OFFERING, CONVERSION OF PREFERRED STOCK
In September 1998, the Company completed its initial public offering and
issued 4,014,275 shares of its Common Stock at a price of $18.00 per share. The
Company received approximately $66.0 million in cash, net of underwriting
discounts, commissions and other offering costs. Simultaneously with the closing
of the initial public offering, each outstanding share of Series A Convertible
Preferred Stock and Series B Redeemable Convertible Preferred Stock was
automatically converted into three shares of Common Stock.
UNEARNED STOCK-BASED COMPENSATION
In connection with certain stock option grants during the nine months ended
September 30, 1998 and the year ended December 31, 1997, the Company recognized
unearned compensation totaling $5.4 million and $1.4 million, respectively,
which is being amortized over the four year vesting periods of the related
options. Amortization expense recognized during the nine months ended September
30, 1998 and the year ended December 31, 1997 totaled approximately $1.9 million
and $25,000, respectively.
STOCK OPTION GRANTS
During the period from July 1, 1998 through September 30, 1998, the Company
granted options to purchase 2,053,752 shares of Common Stock to new employees at
exercise prices between $14 and $15 per share. No shares were granted between
the date of the initial public offering, September 24, 1998, and the close of
the period, September 30, 1998.
NOTE 3--ACQUISITION:
Effective June 30, 1998, the Company acquired all the outstanding shares of
Jump Incorporated ("Jump"), a forum where Internet users can buy and sell items
in an online auction format. The acquisition has been accounted for using the
purchase method of accounting and accordingly, the purchase price has been
allocated to the tangible and intangible assets acquired and liabilities assumed
on the basis of their respective fair values on the acquisition date. The fair
value of intangible assets was determined using a combination of methods,
including replacement cost estimates for acquired research and development and
completed technology, a risk-adjusted income approach for the acquired customer
list and the amounts paid for covenants not to compete.
The total purchase price of approximately $2.3 million consisted of 142,848
shares of the Company's Common Stock with an estimated fair value of
approximately $2.0 million and other acquisition related expenses of
approximately $335,000, consisting primarily of payments for non-compete
agreements totaling approximately $208,000 and legal and other professional
fees. Of the total purchase price, approximately $150,000 was allocated to in-
process technology and was immediately charged to operations because such in-
process technology had not
7
eBAY INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
reached the stage of technological feasibility at the acquisition date and had
no alternative future use. The remainder of the purchase price was allocated to
net tangible liabilities assumed ($31,000) and intangible assets, including
completed technology ($500,000), customer list ($1.5 million), covenants not to
compete ($208,000) and goodwill ($24,000). The intangible assets are being
amortized over their estimated useful lives of 8 to 24 months.
The following unaudited pro forma condensed consolidated financial
information reflects the results of operations for the nine months ended
September 30, 1998 and 1997, as if the acquisition had occurred on January 1,
1998 and 1997, respectively, and after giving effect to purchase accounting
adjustments. These pro forma results have been prepared for comparative purposes
only and do not purport to be indicative of what operating results would have
been had the acquisitions actually taken place on January 1, 1998 or 1997, and
may not be indicative of future operating results, (in thousands, except per
share amounts; unaudited).
NINE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30,
1998 1997
---------------- ----------------
Net revenues .................................................................. $ 27,869 $ 3,128
Income (loss) from operations ................................................. 2,588 (651)
Net loss ...................................................................... (626) (1,061)
Net loss per share:
Basic and diluted .......................................................... $ (0.05) $ (0.16)
Weighted average shares .................................................... 12,439 6,943
NOTE 4--DEBT:
LINE OF CREDIT
At September 30, 1998 and December 31, 1997, the Company had $363,000 and
$545,000, respectively, outstanding under a line of credit with a financial
institution. The line of credit provides for a revolving line, including an
equipment sub-limit facility, of up to $750,000 and is secured by certain assets
of the Company. Advances under the equipment sub-limit facility were limited to
specific property and equipment acquisitions through January 5, 1998. The line
of credit accrues interest at a variable rate determined by the bank (9.75% at
September 30, 1998 and December 31, 1997) and is repayable in 24 monthly
installments of principal and accrued interest through January 5, 2000. Under
the line of credit, the Company is required to comply with certain financial
covenants. The Company was in compliance with all such covenants at September
30, 1998 and December 31, 1997. During October 1998, the Company repaid the
line of credit in full.
LETTER OF CREDIT
At September 30, 1998 and December 31, 1997, the Company maintained a
$202,000 letter of credit to secure the lease deposit on its office facility.
The letter of credit expires December 1, 1999, and is secured by the line of
credit.
NOTE 5--MARKETING AGREEMENT:
In August 1998, the Company entered into a three-year marketing agreement
with America Online, Inc. ("AOL"). Under the terms of the agreement the Company
will be provided with a specific number of advertising impressions featuring it
as the preferred provider of person-to-person auction services on AOL's service.
In consideration for the impressions, the Company has committed to pay $12.0
million over the three-year term of the agreement. Of the $12.0 million total
commitment, $1.5 million was paid during the three months ended September 30,
1998. The Company is recognizing these fees as sales and marketing expense over
the term of the contract based on the greater of (i) the ratio of the number of
impressions delivered over the total number of contracted impressions and (ii)
the straight-line basis over the term of the contract. The Company recognized
$667,000 of related expenses during the three and nine months ended September
30, 1998.
8
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
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FORWARD LOOKING STATEMENTS
This document contains certain forward-looking statements that involve
risks and uncertainties, such as statements of the Company's plans, objectives,
expectations and intentions. When used in this document, the words "expects,"
"anticipates," "intends" and "plans" and similar expressions are intended to
identify certain of these forward-looking statements. The cautionary statements
made in this document should be read as being applicable to all related forward-
looking statements wherever they appear in this document. The Company's actual
results could differ materially from those discussed in this document. Factors
that could cause or contribute to such differences include those discussed
below, as well as those discussed in the Company's Prospectus dated September
24, 1998.
OVERVIEW
eBay pioneered online person-to-person trading by developing a Web-based
community in which buyers and sellers are brought together in an efficient and
entertaining auction format to buy and sell personal items such as antiques,
coins, collectibles, computers, memorabilia, stamps and toys. The eBay service
permits sellers to list items for sale, buyers to bid on items of interest and
all eBay users to browse through listed items in a fully-automated, topically-
arranged, intuitive and easy-to-use online service that is available 24 hours a
day, seven days a week.
eBay was formed as a sole proprietorship in September 1995 and operated its
online auction service under the name of "Auction Web." The Company was
incorporated in May 1996, but had no employees other than the founder until July
1996 and, at December 31, 1996, had only six employees. In September 1997, the
Company renamed its auction service "eBay" and launched a second generation of
this service with a substantially redesigned user interface and a new robust,
scalable "backend" transaction processing architecture. The Company's total
headcount grew to 41 by December 31, 1997 and to 131 by September 30, 1998. From
December 31, 1997 to September 30, 1998, the number of registered eBay users
grew from approximately 340,000 to approximately 1,265,000.
Substantially all of the Company's revenues come from placement and success
fees paid by sellers; eBay charges no fees to buyers and, to date, has chosen to
sell almost no advertising on its Web site. Sellers pay a nominal placement fee
between $0.25 and $2.00 to list items for sale. By paying additional fees,
sellers can have items featured in various ways. Sellers for whom a three, five
or seven day auction is successfully concluded (i.e., there is at least one bid
above the seller's specified minimum or reserve price, whichever is higher) also
pay a success fee between 1.25% and 5% based on the final purchase price.
Revenues from placement fees are recognized at the time that the item is listed;
revenues related to success fees are recognized at the time that the auction is
successfully concluded. At no point during the auction process does the Company
take possession of either the item being sold or the buyer's payment for the
item. Fees to sellers are aggregated and billed on a monthly basis. A
substantial majority of customer accounts are settled by directly charging
credit card numbers provided by sellers. Provisions for estimated uncollectible
accounts and authorized credits are recorded as percentages of revenues and are
provided for at the time of revenue recognition. In certain instances,
customers will deposit funds with eBay in anticipation of future transactions;
these prepayments appear on the Company's balance sheet as customer advances.
Effective June 30, 1998, the Company acquired all the outstanding shares of
Jump Incorporated ("Jump"), the developer and operator of Up4Sale, an
advertising-supported online trading service in an auction format. The
acquisition has been accounted for using the purchase method of accounting, and
accordingly the purchase price has been allocated to the tangible and intangible
assets acquired and liabilities assumed on the basis of their respective fair
values on the acquisition date. The fair value of intangible assets was
determined using a combination of methods, including replacement cost estimates
for acquired research and development and completed technology, a risk-adjusted
income approach for the acquired customer list and the amounts paid for
covenants not to compete. The total purchase price of approximately $2.3 million
consisted of 142,848 shares of the Company's Common Stock with an estimated fair
value of approximately $2.0 million and other acquisition related expenses of
approximately $335,000, consisting primarily of payments for non-compete
agreements totaling approximately $208,000 and legal
9
and other professional fees. Of the total purchase price, approximately $150,000
was allocated to in-process technology and was immediately charged to operations
as the technology had not reached technological feasibility as of the
acquisition date and had no alternative future use. The remainder of the
purchase price was allocated to net tangible liabilities assumed ($31,000) and
intangible assets, including completed technology ($500,000), the customer list
($1.5 million), covenants not to compete ($208,000) and goodwill ($24,000). The
intangible assets will be amortized over their estimated useful lives which
range from 8 to 24 months.
RESULTS OF OPERATIONS
The following table sets forth, for the periods presented, certain data
derived from the Company's unaudited condensed consolidated statement of income
as a percentage of net revenues and certain unaudited supplemental operating
data. The operating results for the three and nine months ended September 30,
1998 and 1997 are not necessarily indicative of the results that may be expected
for any future period.
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
--------------------------------------- ---------------------------------------
1998 1997 1998 1997
----------------- ----------------- ----------------- -----------------
Net revenues.................................. 100.0% 100.0% 100.0% 100.0%
Cost of net revenues.......................... 16.3 17.3 13.8 13.2
-------- ------- -------- -------
Gross profit.................................. 83.7 82.7 86.2 86.8
-------- ------- -------- -------
Operating expenses:
Sales and marketing.......................... 42.3 25.3 36.2 18.7
Product development.......................... 11.7 17.6 11.0 15.0
General and administrative................... 16.4 17.9 22.6 15.8
Acquired research and development and
amortization of acquired intangibles........ 2.5 -- 1.7 --
-------- ------- -------- -------
Total operating expenses................... 72.9 60.8 71.5 49.5
-------- ------- -------- -------
Income from operations........................ 10.8 21.9 14.7 37.3
Interest, net, and other income, net.......... 0.9 1.8 0.7 1.0
-------- ------- -------- -------
Income before income taxes.................... 11.7 23.7 15.4 38.3
Provision for income taxes.................... (6.6) (10.1) (12.2) (16.3)
-------- ------- -------- -------
Net income.................................... 5.1% 13.6% 3.2% 22.0%
======== ======= ======== =======
SUPPLEMENTAL OPERATING DATA (IN THOUSANDS):
Number of registered users at end of period... 1,265 223 1,265 223
Gross merchandise sales (1)................... $ 195,046 $ 24,281 $ 438,792 $ 51,248
Number of auctions listed..................... 9,236 1,178 20,029 2,415
________________________________
(1) Represents the aggregate sales prices of all goods for which an auction was
successfully concluded (i.e., there was at least one bid above the seller's
specified minimum price or reserve price, whichever is higher).
NET REVENUES
The Company's net revenues increased to $12.9 million and $27.9 million in
the three and nine months ended September 30, 1998, respectively, from the $1.5
million and $3.1 million reported in the comparable periods of 1997. The strong
growth was primarily the result of increased activity on the eBay Web site, as
shown by increases in total items listed and gross merchandise sales. Neither
increased fees for specific featured placements nor changes in average
transaction size had a material impact on net revenue growth.
COST OF NET REVENUES
Cost of net revenues are primarily derived from costs associated with
customer support and Web site operations. These include: fees for independent
contractors, compensation for Company customer support and site operations
personnel and, to a lesser extent, ISP connectivity charges, bank processing
charges for customer fees paid by credit cards, depreciation of the equipment
required for the Company's Web site operations, and
10
amortization of acquired technology. Cost of net revenues increased in absolute
dollars to $2.1 million or 16.3% of net revenues and $3.8 million or 13.8% of
net revenues in the three and nine months ended September 30, 1998,
respectively, from $253,000 or 17.3% of net revenues and $413,000 or 13.2% of
net revenues in the comparable periods of 1997. The increase in absolute dollars
resulted from the continued development and expansion of the Company's customer
support organization, increases, in absolute dollars, in bank processing charges
for customer fees paid by credit cards, depreciation of the equipment required
for the Company's Web site operations, ISP connectivity charges and amortization
of technology acquired in the Jump acquisition.
SALES AND MARKETING
The Company's sales and marketing expenses are comprised primarily of
compensation for the Company's sales and marketing personnel, advertising, trade
show and other promotional costs, expenses for creative design of the Company's
Web site and an allocation of overhead. Sales and marketing expenses increased
to $5.5 million or 42.3% of net revenues and $10.1 million or 36.2% of net
revenues in the three and nine months ended September 30, 1998, respectively,
from $369,000 or 25.3% of net revenues and $581,000 or 18.7% of net revenues in
the comparable periods of 1997. The increases resulted primarily from continued
growth in the number of personnel, increases in advertising and promotional
expenses and expenses related to the Company's agreement with AOL. See Note 5 of
Notes to Condensed Consolidated Financial Statements. As of September 30, 1998
the Company had advanced payments to certain third parties to reserve space for
advertisements and promotions commencing in the fourth quarter of 1998. Sales
and marketing expenses are expected to increase in the fourth quarter, due in
part to the commencement of the Company's radio and print advertising campaign
following the end of the "quiet period" associated with the Company's initial
public offering.
PRODUCT DEVELOPMENT
The Company's product development expenses consist primarily of
compensation for the Company's product development staff, payments to outside
contractors and, to a lesser extent, of depreciation on equipment used for
development and an allocation of overhead. The Company's product development
expenses increased in absolute dollars to $1.5 million or 11.7% of net revenues
and $3.1 million or 11.0% of net revenues in the three and nine months ended
September 30, 1998, respectively, as compared to $257,000 or 17.6% of net
revenues and $466,000 or 15.0% of net revenues in the comparable periods of
1997. The increases in absolute dollars resulted primarily from the increased
size of the product development staff and payments to outside contractors.
GENERAL AND ADMINISTRATIVE
The Company's general and administrative expenses consist primarily of
compensation for personnel and, to a lesser extent, provisions for doubtful
accounts, fees for outside professional advisors and an allocation of overhead.
The Company's general and administrative expenses increased in absolute dollars
to $2.1 million or 16.4% of net revenues and $6.3 million or 22.6% of net
revenues in the three and nine months ended September 30, 1998, respectively,
from $260,000 or 17.9% of net revenues and $493,000 or 15.8% of net revenues in
the comparable periods of 1997. The increases in absolute dollars resulted
primarily from additional personnel-related expenses, the provision for doubtful
accounts (based upon a percentage of revenues reflecting the Company's
historical experience), fees for professional services and allocations of
overhead. Additionally, the increase during the nine months ended September 30,
1998 includes June 1998 charges for the Company's contribution of 107,250 shares
of the Company's Common Stock with an estimated fair value of $1.2 million to a
charitable foundation and compensation expense associated with purchases of
restricted shares of Common Stock by its outside directors of $429,000. There
were no such expenses in the comparable periods of 1997.
ACQUIRED RESEARCH AND DEVELOPMENT AND AMORTIZATION OF ACQUIRED INTANGIBLES
During the nine months ended September 30, 1998, the Company recorded a
$150,000 expense for in-process technology acquired in the acquisition of Jump.
The cost was charged to operations because the acquired in-process technology
had not reached the stage of technological feasibility at the acquisition date
and had no alternative future use. During the three and nine months ended
September 30, 1998 the Company recorded amortization expense of $327,000 and
$477,000 (which includes the $150,000 previously discussed), respectively,
associated with other intangible assets acquired in the acquisition of Jump. See
Note 3 of the Condensed Consolidated Financial Statements. There were no such
expenses in the comparable periods of 1997.
11
INTEREST, NET, AND OTHER INCOME, NET
The Company's interest, net, and other income, net, increased to $111,000
and $187,000 in the three and nine months ended September 30, 1998,
respectively, from $26,000 and $30,000 in comparable periods of 1997.
Substantially all of the increase was the result of interest earned on cash and
cash equivalents, particularly the interest earned on the net proceeds from the
Company's sales of Series B Preferred Stock and Series B Warrants in June 1997,
the exercise of those warrants in May 1998 and the exercise of employee stock
options. The Company expects that interest income will increase during the
fourth quarter of 1998 following the successful completion of its initial public
offering in September 1998.
PROVISION FOR INCOME TAXES
The Company's effective federal and state income tax rate was 79.5% in the
first nine months of 1998 as compared to 42.6% in the comparable period of 1997.
The increase in the effective tax rate in 1998, when compared to 1997, is
largely the result of certain non-deductible costs, including charges for stock-
based compensation and expenses related to the acquisition of Jump.
STOCK-BASED COMPENSATION
In 1998 and 1997, the Company recorded aggregate unearned compensation
totaling $6.8 million in connection with the grant of certain stock options
subsequent to April 1997, which amount is being amortized over the four-year
vesting period of such options. Of the total unearned compensation,
approximately $818,000 and $1.9 million was amortized in the three and nine
months ended September 30, 1998, respectively. These amortization amounts were
allocated among the operating expense categories based upon the primary activity
of the related employee, resulting in charges in the three and nine months
ended September 30, 1998 of approxiamtely $34,000 and $61,000 to cost of net
revenues, $196,000 and $383,000 to product development expenses, $97,000 and
$259,000 to sales and marketing expenses, and $491,000 and $1.2 million to
general and administrative expenses, respectively. Such expenses in the
comparable periods of 1997 were insignificant.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company has financed its operations primarily from net
cash generated from operating activities and, to a lesser extent, from the sale
of Series B Preferred Stock and Series B Warrants, proceeds from the exercise of
those warrants and proceeds from the exercise of stock options. In September
1998, the Company completed its initial public offering and issued 4,014,275
shares of its Common Stock at a price of $18.00 per share. The Company received
approximately $66.0 million in cash, net of underwriting discounts, commissions
and other offering costs. Simultaneously with the closing of the initial public
offering, each outstanding share of Series A Convertible Preferred Stock and
Series B Redeemable Convertible Preferred Stock was automatically converted into
three shares of Common Stock.
Net cash provided by operating activities was $5.4 million for the nine
months ended September 30, 1998, compared to $677,000 during the same period of
1997. Net cash provided by operating activities resulted primarily from the
Company's net income before non-cash charges for amortization of unearned
compensation, a charitable contribution of the Company's Common Stock,
depreciation and amortization, and increases in various liability categories,
offset in part by increases in other current assets and accounts receivable, net
of provisions for doubtful accounts.
Net cash used in investing activities was $5.9 million for the nine months
ended September 30, 1998, compared to $310,000 during the same period of 1997.
Net cash used in investing activities was entirely the result of purchases of
property and equipment, primarily computer equipment, software and furniture and
fixtures.
Net cash provided by financing activities was $71.3 million for the nine
months ended September 30, 1998, compared to $3.0 million during the same period
of 1997. Net cash provided by financing activities resulted primarily from
proceeds from the Company's initial public offering of 4,014,275 shares of its
Common Stock for which the Company received approximately $66.0 million in cash,
net of underwriting discounts, commissions and other offering costs and, to a
lesser extent, proceeds from the exercise of Series B Warrants of $2.0 million
and proceeds from the sale of restricted Common Stock in the aggregate amount of
$3.2 million.
12
At September 30, 1998, the principal source of liquidity for the Company
was $74.5 million of cash and cash equivalents. As of that date, the Company
also had a line of credit in the amount of $750,000. Borrowings under the line
of credit accrue interest at a variable rate determined by the bank, are
repayable in 24 monthly installments of principal and accrued interest through
January 5, 2000 and are secured by certain assets of the Company. Under the line
of credit, the Company is required to maintain certain financial covenants. The
Company was in compliance with all of these covenants at September 30, 1998. The
Company repaid all amounts outstanding under the line in October 1998.
During the three and nine months ended September 30, 1998, the Company
incurred significant non-cash expenses related to the amortization of stock
compensation, a charitable contribution of the Company's Common Stock, and the
acquisition of Jump, as noted previously. Such items do not have an impact on
the Company's liquidity, but may be interpreted as such to readers of the
financial statements. The table below sets forth supplemental information
concerning the impact of certain non-cash items on income from operations. The
Statement of Income data has been derived from the Company's unaudited condensed
consolidated financial statements, which, in Management's opinion, have been
prepared on substantially the same basis as the audited annual consolidated
financial statements necessary for a fair presentation of the periods presented.
The operating results in any quarter are not necessarily indicative of the
results that may be expected for any future period.
THREE MONTHS ENDED
-------------------------------------------------------
SEPT. 30, JUNE 30, MAR. 31, DEC. 31, SEPT. 30,
1998 1998 1998 1997 1997
---- ---- ---- ---- ----
(IN THOUSANDS; UNAUDITED)
HISTORICAL
Net revenues................................................... $ 12,935 $ 8,941 $ 5,981 $ 2,627 $ 1,459
--------- -------- -------- -------- --------
Gross profit................................................... 10,832 7,835 5,351 2,294 1,206
Operating expenses............................................. 9,432 6,843 3,652 1,971 886
--------- -------- -------- -------- --------
Income from operations......................................... $ 1,400 $ 992 $1,699 $ 323 $ 320
========= ======== ======== ======== ========
SUPPLEMENTAL INFORMATION (1)
Historical income from operations.............................. $ 1,400 $ 992 $1,699 $ 323 $ 320
Add back certain non-cash charges:
Amortization of stock compensation.......................... 818 1,078 421 25 --
Amortization of acquisition related charges (2)............. 515 150 -- -- --
Charitable contribution of Common Stock..................... -- 1,215 -- -- --
--------- -------- -------- -------- --------
Total add back........................................... 1,333 2,443 421 25 --
--------- -------- -------- -------- --------
Supplemental income from operations excluding
certain non-cash charges.................................... $ 2,733 $3,435 $2,120 $ 348 $ 320
========= ======== ======== ======== ========
(1) The accompanying supplemental financial information is presented for
informational purposes only and should not be considered as a substitute
for the historical financial information presented in accordance with
generally accepted accounting principles.
(2) Expenses associated with the amortization of acquisition related charges
are included within cost of net revenues as well as operating expenses
under the heading "acquired research and development and amortization of
acquired intangibles."
At September 30, 1998, the Company had committed itself to certain capital
equipment additions aggregating approximately $1.0 million, and, as a result of
its August 1998 marketing agreement with AOL, the Company had obligated itself
to make aggregate payments of $12.0 million over the three-year term of the
agreement.
13
See Note 5 of Notes to Condensed Consolidated Financial Statements.
The Company believes that its existing cash and cash equivalents, which
include the net proceeds from its recently completed initial public offering,
and any cash generated from operations will be sufficient to fund its operating
activities, capital expenditures and other obligations for at least the next 15
months.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information." This
statement establishes standards for the way companies report information about
operating segments in annual financial statements. It also establishes standards
for related disclosures about products and services, geographic areas and major
customers. The disclosures prescribed by SFAS No. 131 will be effective for the
year ending December 31, 1998. The Company has determined that it does not have
any separately reportable business segments as of September 30, 1998.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 is
effective for all fiscal quarters of all fiscal years beginning after June 15,
1999. SFAS No. 133 requires that all derivative instruments be recorded on the
balance sheet at their fair value. Changes in the fair value of derivatives are
recorded each period in current earnings or other comprehensive income,
depending on whether a derivative is designed as part of a hedge transaction
and, if it is, the type of hedge transaction. The Company does not expect that
the adoption of SFAS No. 133 will have a material impact on its condensed
consolidated financial statements.
In March 1998, the American Institute of Certified Public Accountants
issued SOP No. 98-1, "Software for Internal Use," which provides guidance on
accounting for the cost of computer software developed or obtained for internal
use. SOP No. 98-1 is effective for financial statements for fiscal years
beginning after December 15, 1998. The Company does not expect that the adoption
of SOP No. 98-1 will have a material impact on its condensed consolidated
financial statements.
YEAR 2000 ISSUES
Many current installed computer systems and software products are coded to
accept only two-digit entries in the date code field and cannot reliably
distinguish dates beginning on January 1, 2000 from dates prior to the year
2000. Many companies' software and computer systems may need to be upgraded or
replaced in order to correctly process dates beginning in 2000. The Company has
reviewed its internal programs and has determined that there are no significant
Year 2000 issues within the Company's systems or services. The Company is
currently completing modifications to its internal systems to ensure Year 2000
compliance. Costs associated with such modifications have not been material and
have involved a reallocation of internal resources rather than incremental
expenditures. However, the Company utilizes third-party equipment and software
that may not be Year 2000 compliant. The Company believes that the third-party
systems that are material to its business are Year 2000 compliant based on
information provided by these suppliers. Failure of such third-party equipment
or software to properly process dates for the year 2000 and thereafter could
require the Company to incur unanticipated expenses to remedy any problems,
which could have a material adverse effect on the Company's business, results of
operations and financial condition. The Company continues to monitor and
evaluate its ability to confront Year 2000 issues and allocate resources
accordingly. In addition, the Company's business is dependent on the continued
successful operation of the Internet and any interruption or significant
degradation of Internet operations, whether due to Year 2000 problems or
otherwise, could have a material adverse effect on the Company's business,
results of operations and financial position.
14
RISK FACTORS THAT MAY AFFECT RESULTS OF OPERATIONS AND FINANCIAL CONDITION
LIMITED OPERATING HISTORY
The Company has only a limited operating history on which to base an
evaluation of its business and prospects. The Company's prospects must be
considered in light of the risks, uncertainties, expenses and difficulties
frequently encountered by companies in their early stages of development,
particularly companies in new and rapidly evolving markets such as online
commerce. To address these risks and uncertainties, the Company must, among
other things, maintain and increase the number of its registered users, items
listed on its service and completed auctions, maintain and enhance its brand,
implement and execute its business and marketing strategy successfully, continue
to develop and upgrade its technology and information-processing systems,
continue to enhance the eBay service to meet the needs of a changing market,
provide superior customer support, respond to competitive developments and
attract, integrate, retain and motivate qualified personnel. There can be no
assurance that the Company will be successful in accomplishing all of these
things, and the failure to do so could have a material adverse effect on the
Company's business, results of operations and financial condition.
POTENTIAL FLUCTUATIONS IN RESULTS OF OPERATIONS
The Company's operating results have varied on a quarterly basis during its
short operating history and may fluctuate significantly as a result of a variety
of factors, many of which are outside the Company's control. Factors that may
affect the Company's quarterly operating results include: (i) the Company's
ability to retain an active user base, attract new users who list items for sale
and who complete transactions through its service, and maintain customer
satisfaction; (ii) the Company's ability to manage the number of items listed on
its service; (iii) the announcement or introduction of new sites, services and
products by the Company or its competitors; (iv) the success of the Company's
brand building and marketing campaigns; (v) competition; (vi) the level of use
of the Internet and online services; (vii) consumer confidence in and acceptance
of the Internet and other online services for commerce and, in particular, the
trading of products such as those listed on eBay; (viii) consumer confidence in
the security of transactions over the Internet; (ix) the Company's ability to
upgrade and develop its systems and infrastructure to accommodate growth; (x)
the Company's ability to attract new personnel in a timely and effective manner;
(xi) technical difficulties or service interruptions; (xii) governmental
regulation by Federal or local governments; and (xiii) general economic
conditions as well as economic conditions specific to the Internet and online
commerce industries.
As a result of the Company's limited operating history and the emerging
nature of the markets in which it competes, it is difficult for the Company to
forecast its revenues or earnings accurately. In addition, the Company has no
backlog and most of the Company's net revenues for a particular quarter are
derived from auctions that are listed and completed during that quarter. The
Company's current and future expense levels are based largely on its investment
plans and estimates of future revenues and are, to a large extent, fixed. The
Company may be unable to adjust spending in a timely manner to compensate for
any unexpected revenue shortfall. Accordingly, any significant shortfall in
revenues relative to the Company's planned expenditures would have an immediate
adverse effect on the Company's business, results of operations and financial
condition. Further, as a strategic response to changes in the competitive
environment, the Company may from time to time make certain pricing, service or
marketing decisions that could have a material adverse effect on its business,
results of operations and financial condition.
Due to the foregoing factors, the Company's quarterly revenues and
operating results are difficult to forecast. The Company believes that
period-to-period comparisons of its operating results may not be meaningful and
should not be relied upon as an indication of future performance. In addition,
it is likely that in one or more future quarters the Company's operating results
will fall below the expectations of securities analysts and investors. In such
event, the trading price of the Common Stock would almost certainly be
materially adversely affected.
SEASONAL FLUCTUATIONS IN RESULTS OF OPERATIONS
The Company believes that its results of operations are somewhat seasonal
in nature, with fewer auctions listed around the Thanksgiving and Christmas
holidays in the fourth quarter. The Company's limited operating history,
however, makes it difficult to fully assess the impact of these seasonal factors
or whether or not its business is susceptible to cyclical fluctuations in the
U.S. economy.
15
MANAGEMENT OF POTENTIAL GROWTH
The Company is currently experiencing a period of significant expansion and
anticipates that further expansion will be required to address potential growth
in its customer base and market opportunities. This expansion has placed, and is
expected to continue to place, a significant strain on the Company's management,
operational and financial resources. Certain members of the Company's
management, including the Company's President and Chief Executive Officer and
Senior Vice President of Marketing have joined the Company in 1998. To manage
the expected growth of its operations and personnel, the Company will be
required to improve existing and implement new transaction processing,
operational and financial systems, procedures and controls, and to expand, train
and manage its growing employee base. There can be no assurance that the
Company's current and planned personnel, systems, procedures and controls will
be adequate to support the Company's future operations, that Company management
will be able to hire, train, retain, motivate and manage required personnel or
that Company management will be able to identify, manage and exploit existing
and potential strategic relationships and market opportunities. The failure of
the Company to manage growth effectively could have a material adverse effect on
the Company's business, results of operations and financial condition.
DEPENDENCE ON CONTINUED GROWTH OF DEVELOPING THE ONLINE PERSON-TO-PERSON
COMMERCE MARKET
The market for the sale of goods over the Internet, particularly through
person-to-person trading, is a new and emerging market. The Company's future
revenues and profits are substantially dependent upon the widespread acceptance
and use of the Internet and other online services as a medium for commerce by
consumers. In addition, the disruption or degradation to the Internet for any
reason, including inadequate growth in computer or telecommunications
infrastructure, Year 2000 or other software problems, or other technological or
regulatory problems would adversely affect usage of the Internet and other
online services generally and the eBay service in particular. If use of the
Internet and other online services does not continue to grow or grows more
slowly than expected, if the infrastructure for the Internet and other online
services does not effectively support growth that may occur, or if the Internet
and other online services are disrupted or degraded for any reason, the
Company's business, results of operations and financial condition would be
materially adversely affected.
RISK OF SYSTEM FAILURES
The Company's success, and in particular its ability to facilitate trades
successfully and provide high quality customer support, depends on the efficient
and uninterrupted operation of its computer and communications hardware systems.
The Company seeks to generate a high volume of traffic and transactions on the
eBay service. Accordingly, the satisfactory performance, reliability and
availability of the Company's Web site, processing systems and network
infrastructure are critical to the Company's reputation and its ability to
attract and retain large numbers of users who bid for or sell items on its
service while maintaining adequate customer support levels. Any failures in the
day-to-day operations of the Company's site and any failure to expand or upgrade
its systems sufficiently to accommodate growth could have a material adverse
effect on the Company's business, results of operations and financial condition.
Substantially all of the Company's computer hardware for operating the eBay
service is currently located at the facilities of Exodus Communications, Inc.
("Exodus") in Santa Clara, California. These systems and operations are
vulnerable to damage or interruption from earthquakes, floods, fires, power
loss, telecommunication failures, break-ins, sabotage, intentional acts of
vandalism, such as viruses, and similar events. The Company does not presently
have fully redundant systems, a formal disaster recovery plan or alternative
providers of hosting services and does not carry sufficient business
interruption insurance to compensate it for losses that may occur. Any damage
to or failure of the systems of the Company could result in reductions in, or
terminations of, the eBay service, which could have a material adverse effect on
the Company's business, results of operations and financial condition.
INTENSE COMPETITION
The market for person-to-person trading over the Internet is new, rapidly
evolving and intensely competitive, and the Company expects competition to
intensify further in the future. Barriers to entry are relatively low, and
current and new competitors can launch new sites at a relatively low cost using
commercially-available software. The Company currently or potentially competes
with a number of other companies. The Company's direct competitors include
various online person-to-person auction services, including Yahoo! Inc.
("Yahoo"), using technology
16
provided by Onsale Exchange, a division of Onsale, Inc. ("Onsale"); Auction
Universe, a Times-Mirror Company; Excite, Inc. ("Excite"); and a number of other
services, including those that serve specialty markets. The Company also
competes indirectly with business-to-consumer online auction services such as
Onsale, First Auction, and Surplus Auction. The Company potentially faces
competition from a number of large online communities and services that have
expertise in developing online commerce and in facilitating online person-to-
person interaction. Certain of these potential competitors, including
Amazon.com, Inc., America Online, Inc. ("AOL") and Microsoft Corporation
("Microsoft") currently offer a variety of business-to-consumer trading services
and classified ad services. Other large companies with strong brand recognition
and experience in online commerce, such as Cendant Corporation, QVC and large
newspaper or media companies may also seek to compete in the online auction
market. Competitive pressures created by any one of these companies, or by the
Company's competitors collectively, could have a material adverse effect on the
Company's business, results of operations and financial condition.
Certain of the Company's current and many of the Company's potential
competitors have longer operating histories, larger customer bases, greater
brand recognition in other business and Internet markets and significantly
greater financial, marketing, technical and other resources than the Company. In
addition, other online trading services may be acquired by, receive investments
from or enter into other commercial relationships with larger, well-established
and well-financed companies as use of the Internet and other online services
increases. Therefore, certain of the Company's competitors with other revenue
sources may be able to devote greater resources to marketing and promotional
campaigns, adopt more aggressive pricing policies or devote substantially more
resources to Web site and systems development than the Company or may try to
attract traffic by offering services for free. In addition, certain online
services and search engine companies may channel users to trading services that
compete with the Company. There can be no assurance that the Company will be
able to compete successfully against current and future competitors.
RAPID TECHNOLOGICAL CHANGE
The market in which the Company competes is characterized by rapidly
changing technology, evolving industry standards, frequent new service and
product announcements, introductions and enhancements and changing customer
demands. Accordingly, the Company's future success will depend on its ability to
adapt to rapidly changing technologies, to adapt its services to evolving
industry standards and to continually improve the performance, features and
reliability of its service in response to competitive service and product
offerings and evolving demands of the marketplace. The failure of the Company to
adapt to such changes would have a material adverse effect on the Company's
business, results of operations and financial condition.
RISKS RELATED TO FRAUD, ILLEGAL ITEMS, AND INFORMATION DISSEMINATED THROUGH
THE COMPANY'S SERVICE
The Company's success depends largely upon sellers reliably delivering and
accurately representing the listed goods and buyers paying the agreed purchase
price. The Company takes no responsibility for delivery of payment or goods to
any user of the eBay service. The Company has received in the past, and
anticipates that it will receive in the future, communications from users who
did not receive the purchase price or the goods that were to have been
exchanged. The Company, beyond suspending the accounts of users who fail to
fulfill their delivery obligations and crediting sellers with the amount of
their fees in certain circumstances, does not have the ability to otherwise
require users to make payments or deliver goods and the Company does not
compensate users who believe they have been defrauded by other users. Any
negative publicity generated as a result of fraudulent or deceptive conduct by
users of eBay could damage the Company's reputation and diminish the value of
its brand name, which could have a material adverse effect on the Company's
business, results of operations and financial condition.
The Company does not pre-screen the goods that are listed by users on eBay
or the contents of their listings, which may include text and images. The
Company has received in the past, and anticipates that it will receive in the
future, communications alleging that certain items sold through the eBay service
infringe third-party copyrights, trademarks or other intellectual property
rights or are illegal. While the Company's user policy prohibits the sale of
goods which may infringe third-party intellectual property rights or are
illegal, and the Company is empowered to suspend the account of any user who
infringes third-party intellectual property rights or lists illegal items, the
law relating to the liability of online services companies for information
carried on or disseminated through their services is currently unsettled. It is
possible that claims could be made against the Company under both United States
and foreign law for defamation, libel, invasion of privacy, negligence,
copyright or trademark infringement, or other theories based on the nature and
content of the materials disseminated through its services. There can be no
17
assurance that an allegation of infringement or the presence of an illegal item
will not result in litigation against the Company. Any such litigation could be
costly for the Company and could result in increased costs of doing business, or
could in some other manner have a material adverse effect on the Company's
business, results of operations and financial condition.
DEPENDENCE ON KEY PERSONNEL
The Company's performance is substantially dependent on the continued
services and on the performance of its senior management and other key
personnel. The Company does not have long-term employment agreements with any of
its key personnel and maintains no "key person" life insurance policies. The
loss of the services of any of its executive officers or other key employees
could have a material adverse effect on the Company's business, results of
operations and financial condition. The Company's future success also depends on
its ability to identify, attract, hire, train, retain and motivate other highly
skilled technical, managerial, marketing and customer support personnel.
Competition for such personnel is intense, and there can be no assurance that
the Company will be able to successfully attract, integrate or retain
sufficiently qualified personnel. The failure to retain and attract the
necessary personnel could have a material adverse effect on the Company's
business, results of operations and financial condition.
ONLINE COMMERCE SECURITY RISKS
A significant barrier to online commerce and communications is the secure
transmission of confidential information over public networks. Currently, a
significant number of eBay users authorize the Company to bill their credit card
accounts directly for all transaction fees charged by the Company. The Company
relies on encryption and authentication technology licensed from third parties
to provide the security and authentication technology to effect secure
transmission of confidential information, including customer credit card
numbers. There can be no assurance that advances in computer capabilities, new
discoveries in the field of cryptography, or other events or developments will
not result in a compromise or breach of the technology used by the Company to
protect customer transaction data. If any such compromise of the Company's
security were to occur, it could have a material adverse effect on the Company's
business, results of operations and financial condition.
RISKS ASSOCIATED WITH ACQUISITIONS
If appropriate opportunities present themselves, the Company intends to
acquire businesses, technologies, services or products that the Company believes
are strategic. There can be no assurance that the Company will be able to
identify, negotiate or finance future acquisitions successfully, or to integrate
such acquisitions with its current business. The process of integrating an
acquired business, technology, service or product into the Company may result in
unforeseen operating difficulties and expenditures and may absorb significant
management attention that would otherwise be available for ongoing development
of the Company's business. Moreover, there can be no assurance that the
anticipated benefits will be realized.
GOVERNMENTAL REGULATION AND LEGAL UNCERTAINTIES
The Company is generally not subject to direct federal, state or local
regulation regarding access to or commerce on the Internet, other than
regulations applicable to Internet businesses generally. Due to the increasing
popularity and use of the Internet and other online services, it is possible
that a number of laws and regulations may be adopted with respect to the
Internet or other online services covering issues such as user privacy, freedom
of expression, pricing, content and quality of products and services, taxation,
advertising, intellectual property rights and information security.
Applicability to the Internet of existing laws governing issues such as property
ownership, copyrights and other intellectual property issues, taxation, libel,
obscenity and personal privacy is uncertain. The vast majority of such laws were
adopted prior to the advent of the Internet and related technologies and, as a
result, do not contemplate or address the unique issues of the Internet and
related technologies. In addition, numerous states, including the State of
California in which the Company's headquarters are located, have regulations
regarding the manner in which "auctions" may be conducted and the liability of
"auctioneers" in conducting such auctions. The Company does not believe that
such regulations, which were adopted prior to the advent of the Internet, govern
the operations of the Company's business nor have any claims been filed by any
state implying that the Company is subject to such legislation. There can be no
assurance, however, that a state will not attempt to impose these regulations
upon the Company in the future or that such imposition will not have a material
adverse effect on the Company's business, results of operations and financial
condition.
18
Several states have also proposed legislation that would limit the uses of
personal user information gathered online or require online services to
establish privacy policies. The Federal Trade Commission has also recently
settled a proceeding with one online service regarding the manner in which
personal information is collected from users and provided to third parties.
Changes to existing laws or the passage of new laws intended to address these
issues could increase the cost of doing business as a result of litigation costs
or increased service delivery costs, or could in some other manner have a
material adverse effect on the Company's business, results of operations and
financial condition. In addition, because the Company's services are accessible
worldwide, and the Company facilitates sales of goods to users worldwide, other
jurisdictions may claim that the Company is required to qualify to do business
as a foreign corporation in a particular state or foreign country. Failure by
the Company to qualify as a foreign corporation in a jurisdiction where it is
required to do so could subject the Company to taxes and penalties for the
failure to qualify and could result in the inability of the Company to enforce
contracts in such jurisdictions.
RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS
A component of the Company's strategy is to expand internationally.
Expansion into the international markets will require management attention and
resources. The Company has limited experience in localizing its service, and the
Company believes that many of its competitors are also undertaking expansion
into foreign markets. There can be no assurance that the Company will be
successful in expanding into international markets. In addition to the
uncertainty regarding the Company's ability to generate revenues from foreign
operations and expand its international presence, there are certain risks
inherent in doing business on an international basis, including, among others,
regulatory requirements, legal uncertainty regarding liability, tariffs, and
other trade barriers, difficulties in staffing and managing foreign operations,
longer payment cycles, different accounting practices, problems in collecting
accounts receivable, political instability, seasonal reductions in business
activity and potentially adverse tax consequences, any of which could adversely
affect the success of the Company's international operations. To the extent the
Company expands its international operations and has additional portions of its
international revenues denominated in foreign currencies, the Company could
become subject to increased risks relating to foreign currency exchange rate
fluctuations. There can be no assurance that one or more of the factors
discussed above will not have a material adverse effect on the Company's future
international operations and, consequently, on the Company's business, results
of operations and financial condition.
PROTECTION AND ENFORCEMENT OF INTELLECTUAL PROPERTY RIGHTS
The Company regards the protection of its copyrights, service marks,
trademarks, trade dress and trade secrets as critical to its future success and
relies on a combination of copyright, trademark, service mark and trade secret
laws and contractual restrictions to establish and protect its proprietary
rights in products and services. The Company pursues the registration of its
trademarks and service marks in the U.S. and internationally. The Company has
entered into confidentiality and invention assignment agreements with its
employees and contractors, and nondisclosure agreements with parties with which
it conducts business in order to limit access to and disclosure of its
proprietary information. There can be no assurance that these contractual
arrangements or the other steps taken by the Company to protect its intellectual
property will prove sufficient to prevent misappropriation of the Company's
technology or to deter independent third-party development of similar
technologies. The Company also relies on certain technologies that it licenses
from third parties, such as Oracle Corporation ("Oracle"), Microsoft and Sun
Microsystems Inc. ("Sun"), the suppliers of key database technology, the
operating system and specific hardware components for the eBay service. There
can be no assurance that these third-party technology licenses will continue to
be available to the Company on commercially reasonable terms. The loss of such
technology could require the Company to obtain substitute technology which could
materially adversely affect the Company's business, results of operations and
financial condition.
There can be no assurance that third parties will not claim infringement by
the Company with respect to past, current or future technologies. The Company
expects that participants in its markets will be increasingly subject to
infringement claims as the number of services and competitors in the Company's
industry segment grows. Any such claim, whether meritorious or not, could be
time-consuming, result in costly litigation, cause service upgrade delays or
require the Company to enter into royalty or licensing agreements. Such royalty
or licensing agreements might not be available on terms acceptable to the
Company or at all. As a result, any such claim could have a material adverse
effect upon the Company's business, results of operations and financial
condition.
19
POSSIBLE VOLATILITY OF STOCK PRICE
The trading price of the Common Stock has been and is likely to be highly
volatile and could be subject to wide fluctuations in response to factors such
as actual or anticipated variations in the Company's quarterly operating
results, announcements of technological innovations, or new services by the
Company or its competitors, changes in financial estimates by securities
analysts, conditions or trends in the Internet and online commerce industries,
changes in the market valuations of other Internet or online service companies,
announcements by the Company or its competitors of significant acquisitions,
strategic partnerships, joint ventures or capital commitments, additions or
departures of key personnel, sales of Common Stock or other securities of the
Company in the open market and other events or factors, many of which are beyond
the Company's control. In the past, following periods of volatility in the
market price of a company's securities, securities class-action litigation has
often been instituted against such company. Such litigation, if instituted,
could result in substantial costs and a diversion of management's attention and
resources, which would have a material adverse effect on the Company's business,
results of operations and financial condition.
20
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
- --------------------------------------------------------------------------------
Not applicable.
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PART II. OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS
From time to time the Company is involved in legal proceedings in the
ordinary course of business. None of such proceedings are expected to have a
material impact on the Company's business, results of operations or financial
condition.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
The effective date of the Company's first registration statement, filed on
Form S-1 under the Securities Act of 1933 (No. 333-59097) relating to the
Company's initial public offering of its Common Stock, was September 23, 1998.
A total of 4,014,275 shares of Company's Common Stock were sold to an
underwriting syndicate. The managing underwriters were Goldman, Sachs & Co.,
Donaldson, Lufkin & Jenrette, BancBoston Robertson Stephens and BT Alex. Brown.
The offering commenced and was completed on September 24, 1998, at a price of
$18.00 per share. An additional 10,725 shares of Common stock were sold on
behalf of a selling stockholder as part of the same offering. The initial
public offering resulted in gross proceeds of $72.5 million, $5.1 million of
which was applied toward the underwriting discount. Expenses related to the
offering totaled approximately $1.2 million, paid to affiliated parties. Gross
proceeds to the Company and selling stockholder were $66.0 million and $180,000,
respectively. From the time of receipt through September 30, 1998, the proceeds
were all applied toward working capital.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Pursuant to the Company's bylaws, stockholders who wish to bring matters or
propose nominees for director at the Company's 1999 annual meeting of
stockholders must provide specified information to the Company not earlier than
the close of business on the 90th day preceding the annual meeting date and not
later than the close of business on the 60th day preceding the annual meeting
date or the 10th day after the Company's public announcement of the annual
meeting date (unless such matters are included in the Company's proxy statement
pursuant to Rule 14a-8 under the Securities Exchange Act of 1934, as amended).
21
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed as part of this report:
3.07 Amended and Restated Certificate of Incorporation as
currently in effect.
3.08 Bylaws as currently in effect.
27.01 Financial Data Schedule (EDGAR version only)
(b) There were no reports on Form 8-K filed during the quarter ended
September 30, 1998.
22
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SIGNATURES
- --------------------------------------------------------------------------------
In accordance with the requirements of the Securities Exchange Act, the
Registrant has caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
eBAY INC.
Date: November 13, 1998 By: /s/ Margaret C. Whitman
-----------------------------
Margaret C. Whitman
President and Chief
Executive Officer
By: /s/ Gary F. Bengier
-----------------------------
Gary F. Bengier
Chief Financial Officer
and Vice President of
Operations
23