ZIFF DAVIS, INC. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Information In addition to historical information, we have also made forward-looking statements in this report. These statements are based on our estimates and assumptions and are subject to risks and uncertainties. Forward-looking statements include the information concerning our possible or assumed future results of operations. Forward-looking statements also include those preceded or followed by the words “anticipates,” “believes,” “estimates,” “hopes” or similar expressions. For those statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including but not limited to those discussed below, the risk factors discussed in Part II, Item 1A - “Risk Factors” of this Quarterly Report on Form 10-Q (if any), in Part II Item 1A - “Risk Factors” in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2020 and in Part I, Item 1A - “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2019 (together, the “Risk Factors”), and the factors discussed in the section in this Quarterly Report on Form 10-Q entitled “Quantitative and Qualitative Disclosures About Market Risk.” Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s opinions only as of the date hereof. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements. Readers should carefully review the Risk Factors and the risk factors set forth in other documents we file from time to time with the SEC. Some factors that could cause actual results to differ materially from those anticipated in these forward-looking statements include, but are not limited to, our ability and intention to: ◦ Sustain growth or profitability, particularly in light of an uncertain U.S. or worldwide economy and the related impact on customer acquisition and retention rates, customer usage levels, and credit and debit card payment declines; ◦ Maintain and increase our Cloud Services customer base and average revenue per user; ◦ Generate sufficient cash flow to make interest and debt payments, reinvest in our business, and pursue desired activities and businesses plans while satisfying restrictive covenants relating to debt obligations; ◦ Acquire businesses on acceptable terms and successfully integrate and realize anticipated synergies from such acquisitions; ◦ Continue to expand our businesses and operations internationally in the wake of numerous risks, including adverse currency fluctuations, difficulty in staffing and managing international operations, higher operating costs as a percentage of revenues, or the implementation of adverse regulations; ◦ Maintain our financial position, operating results and cash flows in the event that we incur new or unanticipated costs or tax liabilities, including those relating to federal and state income tax and indirect taxes, such as sales, value-added and telecommunication taxes; ◦ Accurately estimate the assumptions underlying our effective worldwide tax rate; ◦ Maintain favorable relationships with critical third-party vendors whose financial condition will not negatively impact the services they provide; ◦ Create compelling digital media content causing increased traffic and advertising levels; additional advertisers or an increase in advertising spend; and effectively target digital media advertisements to desired audiences; ◦ Manage certain risks inherent to our business, such as costs associated with fraudulent activity, system failure or security breach; effectively maintaining and managing our billing systems; time and resources required to manage our legal proceedings; liability for legal and other claims; or adhering to our internal controls and procedures; ◦ Compete with other similar providers with regard to price, service, and functionality; ◦ Cost-effectively procure, retain and deploy large quantities of telephone numbers in desired locations in the United States and abroad; ◦ Achieve business and financial objectives in light of burdensome domestic and international telecommunications, internet or other regulations, including regulations related to data privacy, access, security, retention, and sharing; ◦ Successfully manage our growth, including but not limited to our operational and personnel-related resources, and integration of newly acquired businesses; -45- ◦ Successfully adapt to technological changes and diversify services and related revenues at acceptable levels of financial return; ◦ Successfully develop and protect our intellectual property, both domestically and internationally, including our brands, patents, trademarks and domain names, and avoid infringing upon the proprietary rights of others; and ◦ Recruit and retain key personnel. In addition, other factors that could cause actual results to differ materially from those anticipated in these forward-looking statements or materially impact our financial results include the risks associated with new accounting pronouncements, as well as those associated with natural disasters, public health crises, pandemics including the COVID-19 outbreak and other catastrophic events outside of our control, including as to COVID-19 the scope and duration of the pandemic, actions taken by governmental authorities in response to the pandemic, and the direct and indirect impact of the pandemic on our customers, third parties and us. Overview J2 Global, Inc., together with its subsidiaries (“J2 Global”, “the Company”, “our”, “us” or “we”), is a leading provider of internet services. Through our Cloud Services business, we provide cloud services to consumers and businesses and license our intellectual property (“IP”) to third parties. In addition, the Cloud Services business includes fax, voice, backup, security, consumer privacy and protection (“CPP”) and email marketing products. Our Digital Media business specializes in the technology, gaming, broadband, business to business, and healthcare offering content, tools and services to consumers and businesses. J2 Global was incorporated in 2014 as a Delaware corporation through the creation of a new holding company structure, and our Cloud Services business, operated by our wholly-owned subsidiary, J2 Cloud Services, LLC (formerly J2 Cloud Services, Inc.), and its subsidiaries, was founded in 1995. We manage our operations through two businesses: Cloud Services and Digital Media. Information regarding revenue and operating income attributable to each of our businesses is included within Note 16 - Segment Information of the Notes to Condensed Consolidated Financial Statements included elsewhere in this Quarterly Report on Form 10-Q. Our Cloud Services business generates revenues primarily from customer subscription and usage fees and from IP licensing fees. Our Digital Media business generates revenues from advertising and sponsorships, subscription and usage fees, performance marketing and licensing fees. In addition to growing our business organically, on a regular basis we acquire businesses to grow our customer bases, expand and diversify our service offerings, enhance our technologies, acquire skilled personnel and enter into new markets. Our consolidated revenues are currently generated from three basic business models, each with different financial profiles and variability. Our Cloud Services business is driven primarily by subscription revenues that are relatively higher margin, stable and predictable from quarter to quarter with some seasonal weakness in the fourth quarter. The Cloud Services business also includes the results of our IP licensing business, which can vary dramatically in both revenues and profitability from period to period. Our Digital Media business is driven primarily by advertising revenues, has relatively higher sales and marketing expense and has seasonal strength in the fourth quarter. We continue to pursue additional acquisitions, which may include companies operating under business models that differ from those we operate under today. Such acquisitions could impact our consolidated profit margins and the variability of our revenues. In March 2020, the World Health Organization declared the COVID-19 outbreak as a pandemic, and we anticipate our customers and our operations in all locations will be affected as the virus continues to proliferate and as a result of the governmental responses to the pandemic. The impact of the COVID-19 pandemic has had a negative effect on the global economy, disrupting the financial markets and creating increasing volatility and overall uncertainty. Given this disruption, volatility and uncertainty, our quarterly results may be adversely affected due to various factors affecting our performance. The Company has adjusted certain aspects of our operations to protect our employees and customers while still seeking to meet customers’ needs for our vital cloud internet services and digital media services. Management is actively monitoring the global situation and will take further action to alter our operations as may be required by federal, foreign, state and local authorities or that we determine are otherwise necessary or appropriate under the circumstances. The full extent, duration and overall impact of the COVID-19 pandemic is currently unknown and depends on future developments that are uncertain and unpredictable. Therefore, we are continuing to assess the impact to our results of -46- operations, financial position and liquidity based on our current assessment of the situation which could change based on the spread of the pandemic and additional government action which could limit economic activity or cause for a slower reopening of the economy. -47- Cloud Services Performance Metrics We use certain metrics to generally assess the operational and financial performance of our Cloud Services business; these metrics also serve as a baseline for (a) internal trends and (b) benchmarking against competitors. The average monthly revenue per customer can be used as an analytical tool in determining the marginal economics of customer acquisition, which is particularly useful as we continue to focus on growing our higher-margin businesses. We also use this metric, in conjunction with the cancel rate, to help provide a directional indicator of Cloud Services revenue and calculate the lifetime value of customers within each of our business units. The following table sets forth certain key operating metrics for our Cloud Services business as of and for the three and six months ended June 30, 2020 and 2019 (in thousands, except for percentages): Three Months Ended June 30, Six Months Ended June 30, 2020 2019 2020 2019 Subscriber revenues: Fixed (1) $ 140,755 $ 140,352 $ 282,241 $ 264,661 Variable (1) 26,285 28,557 54,547 56,037 Total subscriber revenues $ 167,040 $ 168,909 $ 336,788 $ 320,698 Other license revenues 18 223 54 679 Total revenues $ 167,058 $ 169,132 $ 336,842 $ 321,377 Percentage of total subscriber revenues: Fixed 84.3 % 83.1 % 83.8 % 82.5 % Variable 15.7 % 16.9 % 16.2 % 17.5 % Total revenues: Number-based $ 94,988 $ 97,379 $ 191,502 $ 194,447 Non-number-based 72,070 71,753 145,340 126,930 Total revenues $ 167,058 $ 169,132 $ 336,842 $ 321,377 Average monthly revenue per Cloud Business Customer (ARPU) (2)(3) $ 13.66 $ 14.01 Cancel Rate (4) 2.2 % 2.5 % (1) The first quarter 2020 disclosure of $144.8 million in fixed subscriber revenue included $3.3 million of revenue which was subsequently determined to be variable subscriber revenue. As a result, the fixed and variable subscriber revenue for the six months ended June 30, 2020 has been corrected in the table above. (2) Quarterly ARPU is calculated using our standard convention of applying the average of the quarter’s beginning and ending base to the total revenue for the quarter. We believe ARPU provides investors an understanding of the average monthly revenues we recognize associated with each Cloud Services customer. As ARPU varies based on fixed subscription fee and variable usage components, we believe it can serve as a measure by which investors can evaluate trends in the types of services, levels of services and the usage levels of those services across our Cloud Services customer base. (3) Cloud Services customers are defined as paying direct inward dialing numbers for fax and voice services, and direct and resellers’ accounts for other services. (4) Cancel Rate is defined as cancels of small and medium business and individual Cloud Services customers with greater than four months of continuous service (continuous service includes Cloud Services customers administratively canceled and reactivated within the same calendar month), and enterprise Cloud Services customers beginning with their first day of service. Calculated monthly and expressed as an average over the three months of the quarter. -48- Digital Media Performance Metrics We use certain metrics to generally assess the operational and financial performance of our Digital Media business. The number of visits is an important metric because it is an indicator of consumers’ level of engagement with our mobile applications, websites and other services. We believe highly engaged consumers are more likely to participate in advertising programs and other activities that derive our multiple revenue streams. We define a visit as a group of interactions by users with our mobile and desktop applications and websites. A single visit can contain multiple page views and actions, and a single user can open multiple visits across domains, web browsers, desktop or mobile devices. We measure visits with Google Analytics and through partner platform measures. Page views are measured each time a page on our websites is loaded in a browser. The following table sets forth certain key operating metrics for our Digital Media business for the three and six months ended June 30, 2020 and 2019 (in millions): Three Months Ended June 30, Six Months Ended June 30, 2020 2019 2020 2019 Visits (1) 2,359 1,618 4,504 3,425 Page views 7,786 6,492 15,533 13,579 Sources: Google Analytics and Partner Platforms (1) Page views for the six months ended June 30, 2020 include an adjustment of 0.6 billion views not previously reported Critical Accounting Policies and Estimates In the ordinary course of business, we have made a number of estimates and assumptions relating to the reporting of results of operations and financial condition in the preparation of our financial statements. Actual results could differ significantly from those estimates under different assumptions and conditions. Our critical accounting policies are described in our 2019 Annual Report on Form 10-K filed with the SEC on March 2, 2020. During the three months ended June 30, 2020, there were no significant changes in our critical accounting policies and estimates. Results of Operations for the Three and Six Months Ended June 30, 2020 Cloud Services Given the uncertainty of the current macroeconomic environment and the impact of the COVID-19 pandemic, we expect the revenue for the remainder of fiscal year 2020 to be modestly lower compared to the prior-year comparable period. The main focus of our Cloud Services offerings is to reduce or eliminate costs, increase sales and enhance productivity, mobility, business continuity and security of our customers as the technologies and devices they use evolve over time. As a result, we expect to continue to take steps to enhance our existing offerings and offer new services to continue to satisfy the evolving needs of our customers. We expect acquisitions to remain an important component of our strategy and use of capital in this business; however, we cannot predict whether our current pace of acquisitions will remain the same within this business, especially in light of the current macroeconomic conditions. In a given period, we may close greater or fewer acquisitions than in prior periods or acquisitions of greater or lesser significance than in prior periods. Moreover, future acquisitions of businesses within this space but with different business models may impact Cloud Services’ overall profit margins. Also, as IP licensing often involves litigation, the timing of licensing transactions is unpredictable and can and does vary significantly from period to period. This variability can cause the overall business’s financial results to materially vary from period to period. -49- Digital Media Given the uncertainty of the current macroeconomic environment and the impact of the COVID-19 pandemic, we expect the revenue for the remainder of fiscal year 2020 to be flat to slightly lower compared to the prior-year comparable period. We expect the Digital Media business to improve as we integrate our recent acquisitions and over the longer term as advertising transactions continue to shift from offline to online, but these initiatives will be offset by the impact of COVID-19 in the near term. The main focus of our advertising programs is to provide relevant and useful advertising to visitors to our websites and those included within our advertising networks, reflecting our commitment to constantly improve their overall web experience. As a result, we expect to continue to take steps to improve the relevance of the ads displayed on our websites and those included within our advertising networks. The operating margin we realize on revenues generated from ads placed on our websites is significantly higher than the operating margin we realize from revenues generated from those placed on third-party websites. Growth in advertising revenues from our websites has generally exceeded that from third-party websites. This trend has had a positive impact on our operating margins, and we expect that this will continue for the foreseeable future. However, the trend in advertising spend is shifting to mobile devices and other newer advertising formats which generally experience lower margins than those from desktop computers and tablets. We expect this trend to continue to put pressure on our margins. We expect acquisitions to remain an important component of our strategy and use of capital in this business; however, we cannot predict whether our current pace of acquisitions will remain the same within this business, especially in light of the current macroeconomic conditions. In a given period, we may close greater or fewer acquisitions than in prior periods or acquisitions of greater or lesser significance than in prior periods. Moreover, future acquisitions of businesses within this space but with different business models may impact Digital Media’s overall profit margins. J2 Global Consolidated Based on the trends discussed above with respect to our Cloud Services and Digital Media businesses, we anticipate our consolidated revenue for the remainder of fiscal year 2020 to be modestly lower compared to the prior-year comparable period. We expect operating profit as a percentage of revenues to generally decrease in the future primarily due to the fact that revenue with respect to our Digital Media business (i) is increasing as a percentage of our revenue on a consolidated basis and (ii) has historically operated at a lower operating margin. Revenues (in thousands, except percentages) Three Months Ended June 30, Percentage Change Six Months Ended June 30, Percentage Change 2020 2019 2020 2019 Revenues $330,984 $322,432 3% $663,377 $622,325 7% Our revenues consist of revenues from our Cloud Services business and from our Digital Media business. Cloud Services revenues primarily consist of revenues from “fixed” customer subscription revenues and “variable” revenues generated from actual usage of our services. We also generate Cloud Services revenues from IP licensing. Digital Media revenues primarily consist of advertising revenues, subscriptions earned through the granting of access to, or delivery of, certain data products or services to customers, fees paid for generating business leads, and licensing and sale of editorial content and trademarks. Our revenues in 2020 have increased over the comparable three and six month periods of 2019 primarily due to a combination of acquisitions and organic growth; partially offset by declines in certain areas of both the Digital Media and Cloud Services businesses. -50- Cost of Revenues (in thousands, except percentages) Three Months Ended June 30, Percentage Change Six Months Ended June 30, Percentage Change 2020 2019 2020 2019 Cost of revenue $56,802 $60,266 (6)% $115,933 $111,279 4% As a percent of revenue 17% 19% 17% 18% Cost of revenues is primarily comprised of costs associated with network operations, content fees, editorial and production costs, database hosting and online processing fees. The decrease in cost of revenues for the three months ended June 30, 2020 was primarily due to a lower content fees, campaign fulfillment cost and other editorial and production costs; partially offset by an increase in depreciation. The increase in cost of revenues for the six months ended June 30, 2020 was primarily due to higher depreciation, database hosting, network operations and online processing fees; partially offset by a decrease in content fees, campaign fulfillment cost and other editorial and production costs. Operating Expenses Sales and Marketing. (in thousands, except percentages) Three Months Ended June 30, Percentage Change Six Months Ended June 30, Percentage Change 2020 2019 2020 2019 Sales and Marketing $92,805 $88,446 5% $192,243 $175,326 10% As a percent of revenue 28% 27% 29% 28% Our sales and marketing costs consist primarily of internet-based advertising, sales and marketing, personnel costs and other business development-related expenses. Our internet-based advertising relationships consist primarily of fixed cost and performance-based (cost-per-impression, cost-per-click and cost-per-acquisition) advertising relationships with an array of online service providers. Advertising cost for the three months ended June 30, 2020 was $33.9 million (primarily consists of $23.4 million of third-party advertising costs and $8.9 million of personnel costs) compared to 2019 of $38.5 million (primarily consists of $28.1 million of third-party advertising costs and $9.6 million of personnel costs). Advertising cost for the six months ended June 30, 2020 was $72.8 million (primarily consists of $50.7 million of third-party advertising costs and $18.4 million of personnel costs) compared to 2019 of $74.7 million (primarily consists of $53.2 million of third-party advertising costs and $19.4 million of personnel costs).The increase in sales and marketing expenses for the three and six months ended June 30, 2020 versus the prior comparable periods was primarily due to increased personnel costs, partner revenue share, software licenses and consulting fees associated with the acquisition of businesses acquired in and subsequent to the second quarter 2019 within the Digital Media and Cloud Services businesses. Research, Development and Engineering . (in thousands, except percentages) Three Months Ended June 30, Percentage Change Six Months Ended June 30, Percentage Change 2020 2019 2020 2019 Research, Development and Engineering $13,606 $11,938 14% $29,012 $24,922 16% As a percent of revenue 4% 4% 4% 4% Our research, development and engineering costs consist primarily of personnel-related expenses. The increase in research, development and engineering costs for the three and six months ended June 30, 2020 versus the prior comparable periods was primarily due to an increase in costs associated with businesses acquired in and subsequent to the second quarter 2019. -51- General and Administrative. (in thousands, except percentages) Three Months Ended June 30, Percentage Change Six Months Ended June 30, Percentage Change 2020 2019 2020 2019 General and Administrative $94,731 $105,168 (10)% $197,902 $203,322 (3)% As a percent of revenue 29% 33% 30% 33% Our general and administrative costs consist primarily of personnel-related expenses, depreciation and amortization, changes in the fair value associated with contingent consideration, share-based compensation expense, bad debt expense, professional fees, severance and insurance costs. The decrease in general and administrative expense for the three months ended June 30, 2020 versus the prior comparable period was primarily due to decreased amortization of intangible assets. The decrease in general and administrative expense for the six months ended June 30, 2020 versus the prior comparable period was primarily due to changes in the fair value of contingent consideration and decreased amortization of intangible assets; partially offset by increased depreciation, costs relating to businesses acquired in and subsequent to the second quarter 2019, professional fees and non-income taxes. Share-Based Compensation The following table represents share-based compensation expense included in cost of revenues and operating expenses in the accompanying Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2020 and 2019 (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2020 2019 2020 2019 Cost of revenues $ 143 $ 131 $ 277 $ 263 Operating expenses: Sales and marketing 416 389 814 793 Research, development and engineering 484 361 915 719 General and administrative 5,487 5,981 10,837 10,173 Total $ 6,530 $ 6,862 $ 12,843 $ 11,948 Non-Operating Income and Expenses Interest expense, net . Our interest expense, net is generated primarily from interest expense due to outstanding debt, partially offset by interest income earned on cash, cash equivalents and investments. Interest expense, net was $22.2 million and $17.3 million for the three months ended June 30, 2020 and 2019, respectively, and $43.2 million and $33.4 million for the six months ended June 30, 2020 and 2019, respectively. Interest expense, net increased over the prior comparable periods primarily due to the issuance of our 1.75% Convertible Senior Notes in the fourth quarter 2019. Loss on investments, net. Our loss on investments, net is generated from gains or losses from investments in equity and debt securities. Our loss on investments, net was $3 thousand and $24 thousand for the three months ended June 30, 2020 and 2019, respectively, and $20.8 million and $38.0 thousand for the six months ended June 30, 2020 and 2019, respectively. Our loss on investments, net for the three month ended June 30, 2020 was comparable to the prior period. Our net loss on investments, net increased for the six months ended June 30, 2020 versus the prior comparable periods due to net losses realized on certain investments as the result of changes in the investee’s capital structure and overall market volatility. Other (income) expense, net . Our other (income) expense, net is generated primarily from miscellaneous items and gain or losses on currency exchange. Other (income) expense, net was $(9.1) million and $(0.4) million for the three months ended June 30, 2020 and 2019, respectively, and $(2.2) million and $1.8 million for the six months ended June 30, 2020 and 2019, respectively. Other (income) expense, net increased for the three and six months ended June 30, 2020 versus the prior comparable periods primarily due to reduced losses on currency exchange. -52- Income Taxes Our effective tax rate is based on pre-tax income, statutory tax rates, tax regulations (including those related to transfer pricing) and different tax rates in the various jurisdictions in which we operate. The tax bases of our assets and liabilities reflect our best estimate of the tax benefits and costs we expect to realize. When necessary, we establish valuation allowances to reduce our deferred tax assets to an amount that will more likely than not be realized. Provision for income taxes amounted to $16.0 million and $11.1 million for the three months ended June 30, 2020 and 2019, respectively, and $24.7 million and $10.9 million for the six months ended June 30, 2020 and 2019, respectively. Our effective tax rate was 26.7% and 28.1% for the three months ended June 30, 2020 and 2019, respectively, and 37.1% and 15.0% for the six months ended June 30, 2020 and 2019, respectively. The decrease in our effective income tax rate for the three months ended June 30, 2020 was primarily attributable to the following: 1. a decrease during 2020 due to similar discrete tax costs having a lesser impact to our effective income tax rate as a result of the increase in our pre-tax income; and 2. a decrease in tax expense in 2020 due to a reduction in foreign income subject to U.S. income tax (Global Intangible Low-Taxed Income or “GILTI”) as part of the Tax Cuts and Jobs Act of 2017; partially offset by 3. an increase in tax expense during 2020 due to establishing a valuation allowance on deferred tax assets related to the impairment of certain investments; and 4. a decrease in the benefit of a portion of our income being taxed in foreign jurisdictions and subject to lower tax rates than in the U.S. The increase in our effective income tax rate for the six months ended June 30, 2020 was primarily attributable to the following: 1. an increase in tax expense during 2020 due to establishing a valuation allowance on deferred tax assets related to the impairment of certain investments; 2. an increase in tax expense due to discrete tax benefits related to a reduction in our net reserve for uncertain tax positions that was recorded for the six months ended June 30, 2019 with no similar events for the six months ended June 30, 2020; and 3. a decrease in the benefit of a portion of our income being taxed in foreign jurisdictions and subject to lower tax rates than in the U.S.; partially offset by 4. a decrease in tax expense in 2020 due to a reduction in foreign income subject to U.S. income tax (GILTI) as part of the Tax Cuts and Jobs Act of 2017. Significant judgment is required in determining our provision for income taxes and in evaluating our tax positions on a worldwide basis. We believe our tax positions, including intercompany transfer pricing policies, are consistent with the tax laws in the jurisdictions in which we conduct our business. Certain of these tax positions have in the past been, and are currently being, challenged, and this may have a significant impact on our effective tax rate if our tax reserves are insufficient. -53- Equity Method Investment Net loss in earnings of equity method investment. Net loss in earnings of equity method investment is generated from our investment in the OCV Fund for which we receive annual audited financial statements. The investment in the OCV Fund is presented net of tax and on a one-quarter lag due to the timing and availability of financial information from OCV. If the Company becomes aware of a significant decline in value that is other-than-temporary, the loss will be recorded in the period in which the Company identifies the decline. The net loss (income) in earnings of equity method investment was $5.8 million and $(4.1) million, net of tax benefit (expense) for the three months ended June 30, 2020 and 2019, respectively, and $10.1 million and $(3.6) million for the six months ended June 30, 2020 and 2019, respectively. The fiscal 2020 loss was primarily a result of the impairment of two of its investments as a result of COVID-19 in the amount of $7.0 million, net of tax benefit. In addition, the Company recognized an investment loss in fiscal 2020 in the amount of $3.1 million, net of tax benefit. During the three months ended June 30, 2020 and 2019, the Company recognized management fees of $0.8 million and $0.8 million, net of tax benefit, respectively, and for the six months ended June 30, 2020 and 2019, the Company recognized management fees of $1.5 million and $1.5 million, net of tax benefit, respectively. Cloud Services and Digital Media Results Our businesses are based on the organization structure used by management for making operating and investment decisions and for assessing performance and have been aggregated into two businesses: (i) Cloud Services; and (ii) Digital Media. We evaluate the performance of our businesses based on revenues, including both external and interbusiness net sales, and operating income. We account for interbusiness sales and transfers based primarily on standard costs with reasonable mark-ups established between the businesses. Identifiable assets by business are those assets used in the respective business’s operations. Corporate assets consist of cash and cash equivalents, deferred income taxes and certain other assets. All significant interbusiness amounts are eliminated to arrive at our consolidated financial results. Cloud Services The following results are presented for the three and six months ended June 30, 2020 and 2019 (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2020 2019 2020 2019 External net sales $ 167,058 $ 169,132 $ 336,842 $ 321,377 Inter-business net sales — — — — Net sales 167,058 169,132 336,842 321,377 Cost of revenues 39,427 36,598 77,787 69,081 Gross profit 127,631 132,534 259,055 252,296 Operating expenses 65,652 70,187 141,342 131,415 Operating income $ 61,979 $ 62,347 $ 117,713 $ 120,881 Cloud Services’ net sales of $167.1 million for the three months ended June 30, 2020 decreased $2.1 million, or 1.2%, from the prior comparable period due to the impact of the COVID-19 pandemic. Net sales of $336.8 million for the six months ended June 30, 2020 increased $15.5 million, or 4.8%, from the prior comparable period primarily due to business acquisitions acquired in and subsequent to the second quarter 2019. Cloud Services’ gross profit of $127.6 million for the three months ended June 30, 2020 decreased $4.9 million, or 3.7%, and gross profit of $259.1 million for the six months ended June 30, 2020 increased $6.8 million, or 2.7%, from the prior comparable periods primarily due to the impact of the COVID-19 pandemic. Cloud Services’ operating expenses of $65.7 million for the three months ended June 30, 2020 decreased $4.5 million from the prior comparable period primarily due to lower amortization of intangible assets. Operating expenses of $141.3 million for the six months ended June 30, 2020 increased $9.9 million from the prior comparable period primarily due to -54- expense associated with businesses acquired in and subsequent to the prior comparable period including (a) marketing and advertising costs; (b) non-income taxes; and (c) additional salary and related costs. As a result of these factors, Cloud Services’ operating income of $62.0 million for the three months ended June 30, 2020 decreased $0.4 million, or 0.6%, and operating income of $117.7 million for the six months ended June 30, 2020 decreased $3.2 million, or 2.6%, from the prior comparable periods. Digital Media The following results are presented for the three and six months ended June 30, 2020 and 2019 (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2020 2019 2020 2019 External net sales $ 163,926 $ 153,298 $ 326,534 $ 300,945 Inter-business net sales 61 61 144 97 Net sales 163,987 153,359 326,678 301,042 Cost of revenues 17,338 23,668 38,109 42,198 Gross profit 146,649 129,691 288,569 258,844 Operating expenses 129,829 128,158 266,797 258,326 Operating income (loss) $ 16,820 $ 1,533 $ 21,772 $ 518 Digital Media’s net sales of $164.0 million for the three months ended June 30, 2020 increased $10.6 million, or 6.9%, from the prior comparable period due to business acquisitions. Net sales of $326.7 million for the six months ended June 30, 2020 increased $25.6 million, or 8.5%, from the prior comparable period primarily due to business acquisitions. Digital Media’s gross profit of $146.6 million for the three months ended June 30, 2020 increased $17.0 million, or 13.1%, and gross profit of $288.6 million for the six months ended June 30, 2020 increased $29.7 million, or 11.5%, from the prior comparable periods primarily due to business acquisitions. Digital Media’s operating expenses of $129.8 million for the three months ended June 30, 2020 increased $1.7 million, and operating expenses of $266.8 million for the six months ended June 30, 2020 increased $8.5 million from the prior comparable periods primarily due to additional expense associated with businesses acquired in and subsequent to the prior comparable period including (a) additional salary and related costs including severance; (b) marketing and advertising costs; and (c) depreciation; partially offset by (d) lower fair value adjustments associated with contingent consideration; and (e) amortization of intangible assets. As a result of these factors, Digital Media’s operating income of $16.8 million for the three months ended June 30, 2020 increased $15.3 million or 997.2%, and operating income of $21.8 million for the six months ended June 30, 2020 increased $21.3 million, or 4,103.1%, from the prior comparable periods. Liquid ity and Capital Resources Cash and Cash Equivalents and Investments At June 30, 2020, we had cash and investments of $710.9 million compared to $675.7 million at December 31, 2019. The increase in cash and investments resulted primarily from cash provided from operations; partially offset by cash used in the repurchase of common stock, purchases of property and equipment (including capitalized labor), investments and business acquisitions. At June 30, 2020, cash and investments consisted of cash and cash equivalents of $616.8 million and long-term investments of $94.0 million. Our investments consist of equity and debt securities. For financial statement presentation, we classify our debt securities primarily as short- and long-term based upon their maturity dates. Short-term investments mature within one year of the date of the financial statements and long-term investments mature one year or more from the date of the financial statements. As of June 30, 2020, cash and investments held within domestic and foreign jurisdictions were $645.7 million and $65.2 million, respectively. -55- On January 7, 2019, J2 Cloud Services, LLC entered into a Credit Agreement (the “Credit Agreement”) with certain lenders from time to time party thereto (collectively, the “Lenders”) and MUFG Union Bank, N.A., as sole lead arranger and as administrative agent for the Lenders (the “Agent”). Pursuant to the Credit Agreement, as amended in July and August 2019, the Lenders have provided J2 Cloud Services with a credit facility of $200.0 million (the “Credit Facility”) through December 31, 2020. On November 15, 2019, the Company reduced its borrowing capacity from $200.0 million to $100.0 million. The proceeds of the Credit Facility are intended to be used for working capital and general corporate purposes of J2 Cloud and its subsidiaries, including to finance certain permitted acquisitions and capital expenditures in accordance with the terms of the Credit Agreement. As of June 30, 2020, there were no amounts outstanding under the Credit Facility. On February 6, 2019, the Company’s Board of Directors approved a quarterly cash dividend of $0.4450 per share of J2 Global common stock payable on March 12, 2019 to all stockholders of record as of the close of business on February 25, 2019. On May 2, 2019, the Company’s Board of Directors approved a quarterly cash dividend of $0.4550 per share of J2 Global common stock payable on June 4, 2019 to all stockholders of record as of the close of business on May 20, 2019. Future dividends are subject to Board approval. However, based on the significant number of current investment opportunities within the Company’s portfolio of businesses and the historic returns from prior investments, the Board of Directors suspended dividend payments for the foreseeable future after the June 4, 2019 payment. On September 25, 2017, the Board of Directors of the Company authorized the Company’s entry into a commitment to invest $200 million in an investment fund (the “Fund”) over several years at a fairly ratable rate. The manager, OCV Management, LLC (“OCV”), and general partner of the Fund are entities with respect to which Richard S. Ressler, Chairman of the Board of Directors (the “Board”) of the Company, is indirectly the majority equity holder. As a limited partner in the Fund, the Company will pay an annual management fee to the manager equal to 2.0% (reduced by 10% each year beginning with the sixth year) of capital commitments. In addition, subject to the terms and conditions of the Fund’s limited partnership agreement, once the Company has received distributions equal to its invested capital, the Fund’s general partner will be entitled to a carried interest equal to 20%. The Fund has a six year investment period, subject to certain exceptions. The commitment was approved by the Audit Committee of the Board in accordance with the Company’s related-party transaction approval policy. In the first six months of 2020, the Company received capital call notices from the management of OCV Management, LLC. for $26.5 million, inclusive of certain management fees, of which $26.5 million has been paid for the six months ended June 30, 2020. We currently anticipate that our existing cash and cash equivalents and cash generated from operations will be sufficient to meet our anticipated needs for working capital, capital expenditures and stock repurchases, if any, for at least the next 12 months. Cash Flows Our primary sources of liquidity are cash flows generated from operations, together with cash and cash equivalents. Net cash provided by operating activities was $241.6 million and $212.2 million for the six months ended June 30, 2020 and 2019, respectively. Our operating cash flows resulted primarily from cash received from our customers offset by cash payments we made to third parties for their services, employee compensation and interest payments associated with our debt. The increase in our net cash provided by operating activities in 2020 compared to 2019 was attributable to a decrease in accounts receivables, higher uncertain tax positions and income taxes payable; partially offset by a decrease in accounts payable and accrued expenses due to the timing of payments. Our cash and cash equivalents were $616.8 million and $575.6 million at June 30, 2020 and December 31, 2019, respectively. Net cash used in investing activities was $96.9 million and $311.5 million for the six months ended June 30, 2020 and 2019, respectively. For the six months ended June 30, 2020 and 2019, net cash used in investing activities was primarily due to capital expenditures associated with the purchase of property and equipment (including capitalized labor), the purchase of investments and business acquisitions. The decrease in our net cash used in investing activities in 2020 compared to 2019 was primarily due to fewer business acquisitions. Net cash (used in) provided by financing activities was $(101.5) million and $44.8 million for the six months ended June 30, 2020 and 2019, respectively. For the six months ended June 30, 2020, net cash used in financing activities was primarily due to repurchase of common stock and business acquisitions. The change in net cash used in financing activities in -56- 2020 compared to 2019 was primarily attributable repurchase of common stock and borrowing under the line of credit in 2019 that did not occur in 2020; partially offset by lower dividend payments. Stock Repurchase Program In February 2012, the Company’s Board of Directors approved a program authorizing the repurchase of up to five million shares of our common stock through February 20, 2013 (the “2012 Program”) which was subsequently extended through February 20, 2021. During the six month period ended June 30, 2020, we repurchased 1,000,000 shares under this program. Cumulatively at June 30, 2020, 3.9 million shares were repurchased at an aggregate cost of $196.2 million (including an immaterial amount of commission fees). In July 2016, the Company acquired and subsequently retired 935,231 shares of J2 Global common stock in connection with the acquisitions of Integrated Global Concepts, Inc. As a result of the purchase of J2 Global common stock, the Company’s Board of Directors approved a reduction in the number of shares available for purchase under the 2012 Program by the same amount. As a result of the acquired shares through acquisition and the purchase of J2 Global common stock through the Company’s share repurchase program, the number of shares available for purchase under the 2012 Program is 140,819 shares of J2 Global common stock. On August 6, 2020, the Company’s Board of Directors approved a program authorizing the repurchase of up to 10 million shares of the Company’s common stock through August 6, 2025 (see Note 18 - Subsequent Events of the Notes to the Condensed Consolidated Financial Statements). -57- Contractual Obligations and Commitments The following table summarizes our contractual obligations and commitments as of June 30, 2020: Payments Due in (in thousands) Contractual Obligations 2020 2021 2022 2023 2024 Thereafter Total Long-term debt - principal (a) $ — $ 402,414 $ — $ — $ — $ 1,200,000 $ 1,602,414 Long-term debt - interest (b) 30,852 55,164 48,625 48,625 48,625 58,250 290,141 Operating leases (c) 14,432 27,781 25,629 20,022 13,440 38,009 139,313 Finance leases (d) 877 598 317 28 — — 1,820 Telecom services and co-location facilities (e) 1,787 2,163 1,074 95 — — 5,119 Short-term note payable (f) 400 — — — — — 400 Holdback payments (g) 4,532 1,511 1,511 — — — 7,554 Contingent consideration (h) 2,092 — — — — — 2,092 Transition Tax (i) — — — — 3,189 8,486 11,675 Self-Insurance (j) 10,926 5,753 — — — — 16,679 Other (k) 711 614 598 — — — 1,923 Total $ 66,609 $ 495,998 $ 77,754 $ 68,770 $ 65,254 $ 1,304,745 $ 2,079,130 (a) These amounts represent principal on long-term debt. (b) These amounts represent interest on long-term debt. (c) These amounts represent undiscounted future minimum rental commitments under noncancellable operating leases. (d) These amounts represent undiscounted future minimum rental commitments under noncancellable finance leases. (e) These amounts represent service commitments to various telecommunication providers. (f) These amounts represent short-term note payable. (g) These amounts represent the holdback amounts in connection with certain business acquisitions. (h) These amounts represent the contingent earn-out liabilities in connection with certain business acquisitions. (i) These amounts represent commitments related to the transition tax on unrepatriated foreign earnings reduced by the 2017 overpayment of US Federal Income Tax. (j) These amounts represent health and dental insurance plans in connection to self-insurance. (k) These amounts represent certain consulting and Board of Directors fee arrangements, software license and implementation commitments and others. As of June 30, 2020, our liability for uncertain tax positions was $57.6 million. The future payments related to uncertain tax positions have not been presented in the table above due to the uncertainty of the amounts and timing of cash settlement with such authorities. We have not presented contingent consideration associated with acquisitions (other than contingent consideration which we have deemed as certain in terms of amount and timing) in the table above due to the uncertainty of the amounts and the timing of cash settlements. We have also not presented our remaining commitment to OCV Management, LLC of approximately $101.4 million due to the uncertainty of timing of funding requests. Off-Balance Sheet Arrangements We are not party to any material off-balance sheet arrangements. -58-