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CORPORATE FOCUS—Homestore.com Pro Forma, GAAP Nets Differ by $86M

Summary Business: Internet real estate services Headquarters: Westlake Village CEO: Stuart H. Wolff Market Cap: $2.35 billion Dividend Yield: N/A* Total Liabilities: $284.3 million P/E: N/A Long-Term Debt: None * Homestore.com does not pay dividends Read Homestore.com’s press releases and things look pretty good for the Westlake Village-based Internet real estate services company. It reported revenues of $129 million in the second quarter, up from $72 million in the same quarter of 2000. “Few companies in today’s environment are generating that kind of top-line growth,” Wolff said. But once you get past the top line, things get murkier. Certainly, today Homestore.com is AOL’s exclusive provider of apartment and residential real estate listings, in an era when home sales are one of the few industries that still have a healthy pulse. It survived a Justice Department investigation into anti-competitive practices, and federal officials cleared its $730 million acquisition of rival Move.com from Cendant Corp., owner of franchises like Century 21 and Coldwell Banker. And, depending on how you’re counting, that top line in the second quarter of this year generated a net income of either $14.5 million, about 13 cents a share or a net loss of $72 million, about 31 cents a share. The $72 million net loss (down from a loss of $98.2 million in the same quarter a year earlier) is derived using generally accepted accounting principles (GAAP). The $14.5 million profit is Homestore.com’s pro forma earnings after $86.5 million in unusual charges are excluded. While any number of items are considered pro forma expenses these days, in Homestore.com’s case it means stock-based charges, amortization of intangible assets, acquisition-related charges and write-downs on investments. Homestore.com is not the only company these days reporting pro forma earnings. And $86.5 million is not even close to the largest gap between the two kinds of figures being reported. In its most recent quarter, for instance, Qualcomm Inc. reported pro forma earnings of $174.3 million and a GAAP net loss of $274.7 million, a difference of $449 million. “It’s the way it is at this point,” said Shawn Milne, an analyst with Wit SoundView. “Look at a hundred other tech companies, it’s the same thing. “I would suggest you look at cash flow. That’s the most important thing.” With so many tech companies reporting pro forma earnings that paint a far more optimistic picture than GAAP results do, analysts have begun paying more attention to other elements of earnings reports. At the end of the second quarter, Homestore.com’s balance sheet reported $175.6 million in cash on hand. It also reported $90 million as restricted cash in the form of a letter of credit AOL is holding. Among the $86.5 million in unusual charges Homestore.com reported is $9.3 million it amortizes each quarter for the marketing deal it struck with AOL in April 2000. In return for the exclusive five-year agreement with AOL, Homestore.com gave AOL $20 million in cash and 3.9 million shares of stock. It also guaranteed AOL higher stock prices at certain points in the future than it is currently trading at. For instance, if Homestore.com is not trading at $65.64 by July 2003, it must pay AOL the difference for 60 percent of those 3.9 million shares. On Friday, Homestore.com was trading at $16.26. The letter of credit reflected in the $90 million of restricted cash on its balance sheet is AOL’s guarantee. Homestore.com has a similar agreement with Budget Truck Group. It gave Budget Group 1.1 million shares in February 2000 in return for a marketing campaign that includes Homestore’s logo on the sides of 45,000 Budget and Ryder rental trucks. Those shares must be worth $64.50 by March 2002 or Homestore.com owes the difference. In a report he prepared on Homestore.com, Henry Blodget of Merrill Lynch said that, while using equity to pay for operating expenses like marketing is certainly appropriate, reporting it as pro forma expenses makes it difficult to analyze the company’s value. “This is not a disclosure issue,” Blodget said. “It is, however, a valuation issue.” Using pro forma results may be an accurate way to measure Homestore.com’s cash earnings, but it is not a good way to measure its operating earnings and consequently makes it difficult to compare it with competitors. As a result, Blodget said, Homestore is “more expensive than it looks.”

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