** **

**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

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**FORM 10-Q**

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| **(Mark One)** | ** ** | ** **                                                                                              |
|----------------|------------|---------------------------------------------------------------------------------------------------------|
| **x**          | ** ** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
| ** **     | ** ** | **For the Quarterly Period Ended June 30,  2006**                                                  |
| ** **     | ** ** | **Or**                                                                                                  |
| **o**          | ** ** | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |

 

**For thetransition periodfrom                         to**

**Commissionfile number 000-33367**

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**UNITED ONLINE, INC.**

(Exact Name of Registrant as Specified in Its Charter)

| **Delaware**                             | ** ** | **77-0575839**                       |
|------------------------------------------|------------|--------------------------------------|
| (State or other  Jurisdiction of         |       | (I.R.S Employer  Identification No.) |
| Incorporation or  Organization)          |       |                                 |
| **21301 Burbank Boulevard,**             | ** ** | **91367**                            |
| **Woodland  Hills, California**          |       | (Zip Code)                           |
| (Address of  Principal Executive Office) |       |                                 |

 

**(818) 287-3000**

(Registrant’sTelephone Number, Including Area Code)

**Not applicable**

(Former Name,Former Address and Former Fiscal Year, if Changed Since Last Report)

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Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days. Yes x  No o

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer ornon-accelerated filer. See definition of “accelerated filer and largeaccelerated filer” in Rule 12b-2 of the Exchange Act. (Check one)

| Large accelerated filer o |   | Accelerated  filer x |   | Non-accelerated filer o |
|--------------------------------|--------|---------------------------|--------|-------------------------|

 

Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the ExchangeAct). Yes o No x

Therewere 64,953,970 shares of the registrant’s common stock outstanding at August 4,2006.

 

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**INDEX**

|                   | ** ** | ** ** | ** ** | ** **                                                                                                                              | ** ** | ** ** | ** ** |
|-------------------|------------|------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|
| **PART I.**  | ** ** | ** ** | ** ** | **FINANCIAL  INFORMATION**                                                                                                              | ** ** | ** ** |       |
|              |       | Item 1.    |       | Condensed Consolidated Balance Sheets at June 30,  2006 (unaudited) and December 31, 2005                                     |       | 3          |       |
|              |       |       |       | Unaudited Condensed Consolidated Statements of  Operations for the Quarters and Six Months Ended June 30, 2006 and 2005            |       | 4          |       |
|              |       |       |       | Unaudited Condensed Consolidated Statements of  Comprehensive Income for the Quarters and Six Months Ended June 30, 2006  and 2005 |       | 5          |       |
|              |       |       |       | Unaudited Condensed Consolidated Statement of  Stockholders’ Equity for the Six Months Ended June 30, 2006                    |       | 6          |       |
|              |       |       |       | Unaudited Condensed Consolidated Statements of Cash  Flows for the Six Months Ended June 30, 2006 and 2005                         |       | 7          |       |
|              |       |       |       | Notes to the Unaudited Condensed Consolidated  Financial Statements                                                                     |       | 8          |       |
|              |       | Item 2.    |       | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                                             |       | 26         |       |
|              |       | Item 3.    |       | Quantitative and Qualitative Disclosures About Market  Risk                                                                             |       | 45         |       |
|              |       | Item 4.    |       | Controls and Procedures                                                                                                                 |       | 46         |       |
| **PART II.** | ** ** | ** ** | ** ** | **OTHER  INFORMATION**                                                                                                                  | ** ** | ** ** |       |
|              |       | Item 1.    |       | Legal  Proceedings                                                                                                                      |       | 47         |       |
|              |       | Item 1A.   |       | Risk Factors                                                                                                                            |       | 49         |       |
|              |       | Item 2.    |       | Unregistered Sales of Equity Securities and Use of  Proceeds                                                                            |       | 68         |       |
|              |       | Item 4.    |       | Submission of Matters to a Vote of Security Holders                                                                                     |       | 69         |       |
|              |       | Item 6.    |       | Exhibits                                                                                                                                |       | 70         |       |
| **SIGNATURES**    |       | 72         |       |

 

In this document, “UnitedOnline,” the “Company,” “we,” “us” and “our” collectively refer to UnitedOnline, Inc. and its wholly-owned subsidiaries.

2

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**PART I—FINANCIALINFORMATION**

**ITEM 1.**   FINANCIALSTATEMENTS

**UNITED ONLINE, INC.CONDENSED CONSOLIDATED BALANCE SHEETS(in thousands)**

| ** **                                       | ** ** | **June 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|--------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| ** **                                       | ** ** | **(unaudited)**         | ** ** | ** **                  | ** ** |
| **Assets**                                       |       |                    |       |                        |       |   |   |
| Current assets:                                  |       |                    |       |                        |       |   |   |
| Cash and cash equivalents                        |       | $                       | 24,362     |                        |       | $ | 100,397 |   |   |
| Short-term investments                           |       | 125,857                 |       |                        | 143,965    |   |   |
| Accounts receivable                              |       | 27,002                  |       |                        | 19,201     |   |   |
| Deferred tax assets, net                         |       | 13,442                  |       |                        | 14,808     |   |   |
| Other current assets                             |       | 12,155                  |       |                        | 12,332     |   |   |
| Total current assets                             |       | 202,818                 |       |                        | 290,703    |   |   |
| Property and equipment,  net                     |       | 39,819                  |       |                        | 33,093     |   |   |
| Deferred tax  assets, net                        |       | 53,600                  |       |                        | 53,547     |   |   |
| Goodwill                                         |       | 138,707                 |       |                        | 80,499     |   |   |
| Intangible  assets, net                          |       | 64,902                  |       |                        | 59,338     |   |   |
| Other assets                                     |       | 3,530                   |       |                        | 4,008      |   |   |
| Total assets                                     |       | $                       | 503,376    |                        |       | $ | 521,188 |   |   |
| **Liabilities and Stockholders’ Equity**    |       |                    |       |                        |       |   |   |
| Current  liabilities:                            |       |                    |       |                        |       |   |   |
| Accounts payable                                 |       | $                       | 42,660     |                        |       | $ | 46,955 |   |   |
| Accrued liabilities                              |       | 39,841                  |       |                        | 36,249     |   |   |
| Member redemption liability                      |       | 14,667                  |       |                        | —     |   |   |
| Deferred revenue                                 |       | 55,024                  |       |                        | 52,835     |   |   |
| Current portion of term loan                     |       | —                  |       |                        | 16,498     |   |   |
| Current portion of capital leases                |       | 398                     |       |                        | 373        |   |   |
| Total current liabilities                        |       | 152,590                 |       |                        | 152,910    |   |   |
| Member redemption  liability                     |       | 3,876                   |       |                        | —     |   |   |
| Deferred revenue                                 |       | 3,147                   |       |                        | 3,449      |   |   |
| Term loan                                        |       | —                  |       |                        | 37,710     |   |   |
| Capital leases                                   |       | 153                     |       |                        | 325        |   |   |
| Other liabilities                                |       | 3,773                   |       |                        | 4,379      |   |   |
| Total liabilities                                |       | 163,539                 |       |                        | 198,773    |   |   |
| Commitments and  contingencies (see Note 8)      |       |                    |       |                        |       |   |   |
| Stockholders’ equity:                       |       |                    |       |                        |       |   |   |
| Common stock                                     |       | 6                       |       |                        | 6          |   |   |
| Additional paid-in capital                       |       | 450,352                 |       |                        | 472,745    |   |   |
| Deferred stock-based compensation                |       | —                  |       |                        | (15,558    | ) |   |
| Accumulated other comprehensive loss             |       | (347                    | )          |                        | (327       | ) |   |
| Accumulated deficit                              |       | (110,174                | )          |                        | (134,451   | ) |   |
| Total stockholders’ equity                  |       | 339,837                 |       |                        | 322,415    |   |   |
| Total liabilities  and stockholders’ equity |       | $                       | 503,376    |                        |       | $ | 521,188 |   |   |

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

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**UNITED ONLINE, INC.UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS(in thousands, except per share amounts)**

| ** **                                                                        | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-----------------------------------------------------------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                        | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Revenues                                                                          |       | $                                     | 134,900    |                                          | $          | 131,520 |   | $ | 262,232 |   | $ | 262,051 |   |
| Operating  expenses:                                                              |       |                                  |       |                                          |       |   |   |   |   |
| Cost of revenues (including stock-based compensation,  see Note 6)      |       | 31,146                                |       | 27,419                                        |       | 61,036 |   | 55,198 |   |
| Sales and marketing (including stock-based  compensation, see Note 6)        |       | 46,137                                |       | 53,803                                        |       | 89,556 |   | 107,886 |   |
| Product development (including stock-based  compensation, see Note 6)        |       | 13,385                                |       | 9,558                                         |       | 26,201 |   | 18,664 |   |
| General and administrative (including stock-based  compensation, see Note 6) |       | 17,422                                |       | 14,227                                        |       | 33,668 |   | 26,827 |   |
| Amortization of intangible assets                                                 |       | 4,552                                 |       | 5,654                                         |       | 8,941 |   | 11,632 |   |
| Total operating expenses                                                          |       | 112,642                               |       | 110,661                                       |       | 219,402 |   | 220,207 |   |
| Operating income                                                                  |       | 22,258                                |       | 20,859                                        |       | 42,830 |   | 41,844 |   |
| Interest and  other income, net                                                   |       | 1,354                                 |       | 1,592                                         |       | 3,070 |   | 3,009 |   |
| Interest expense                                                                  |       | (411                                  | )          | (1,355                                        | )          | (2,127 | ) | (3,357 | ) |
| Income before  income taxes                                                       |       | 23,201                                |       | 21,096                                        |       | 43,773 |   | 41,496 |   |
| Provision for  income taxes                                                       |       | 11,616                                |       | 10,424                                        |       | 20,537 |   | 19,337 |   |
| Income before  cumulative effect of accounting change                             |       | 11,585                                |       | 10,672                                        |       | 23,236 |   | 22,159 |   |
| Cumulative effect  of accounting change, net of tax (see Note 1)             |       | —                                |       | —                                        |       | 1,041 |   | — |   |
| Net income                                                                        |       | $                                     | 11,585     |                                          | $          | 10,672 |   | $ | 24,277 |   | $ | 22,159 |   |
| Basic net income per  share:                                                      |       |                                  |       |                                          |       |   |   |   |   |
| Income before cumulative effect of accounting change                              |       | $                                     | 0.18       |                                          | $          | 0.18 |   | $ | 0.37 |   | $ | 0.37 |   |
| Cumulative effect of accounting change, net of tax                                |       | —                                |       | —                                        |       | 0.01 |   | — |   |
| Basic net income  per share                                                       |       | $                                     | 0.18       |                                          | $          | 0.18 |   | $ | 0.38 |   | $ | 0.37 |   |
| Diluted net income per  share:                                                    |       |                                  |       |                                          |       |   |   |   |   |
| Income before cumulative effect of accounting change                              |       | $                                     | 0.18       |                                          | $          | 0.17 |   | $ | 0.36 |   | $ | 0.35 |   |
| Cumulative effect of accounting change, net of tax                                |       | —                                |       | —                                        |       | 0.01 |   | — |   |
| Diluted net  income per share                                                     |       | $                                     | 0.18       |                                          | $          | 0.17 |   | $ | 0.37 |   | $ | 0.35 |   |
| Shares used to  calculate basic net income per share                              |       | 63,782                                |       | 60,831                                        |       | 63,150 |   | 60,613 |   |
| Shares used to calculate  diluted net income per share                            |       | 65,955                                |       | 63,093                                        |       | 65,425 |   | 63,066 |   |

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

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**UNITED ONLINE, INC.UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME(in thousands)**

| ** **                                                                                                                                                                                                                                         | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                                                                                                                                                                                         | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Net income                                                                                                                                                                                                                                         |       | $                                     | 11,585     |                                          | $          | 10,672 |   | $ | 24,277 |   | $ | 22,159 |   |
| Unrealized gain  (loss) on short-term investments, net of tax of $28 and $23 for  the quarter and six months ended June 30, 2006, respectively and $44 and  $(109) for the quarter and six months ended June 30, 2005, respectively |       | 42                                    |       | 66                                            |       | 26 |   | (162 | ) |
| Unrealized loss  on derivative, net of tax of $(60) for the six months ended June 30,  2006 and $(49) and $(12) for the quarter and six months ended June 30,  2005                                                                      |       | —                                |       | (72                                           | )          | (83 | ) | (19 | ) |
| Foreign currency  translation                                                                                                                                                                                                                      |       | 9                                     |       | (68                                           | )          | 37 |   | (87 | ) |
| Comprehensive income                                                                                                                                                                                                                               |       | $                                     | 11,636     |                                          | $          | 10,598 |   | $ | 24,257 |   | $ | 21,891 |   |

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

5

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**UNITED ONLINE, INC.UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY(in thousands)**

| ** **                                                       | ** ** | **Common Stock** | ** ** | **Additional  Paid-In** | ** ** | **Deferred  Stock-Based** | ** ** | **Accumulated  Other  Comprehensive** | ** ** | **Accumulated**        | ** ** | **Total  Stockholders’** | ** ** |
|------------------------------------------------------------------|------------|-----------------------|------------|-------------------------|------------|---------------------------|------------|---------------------------------------|------------|------------------------|------------|-------------------------------|------------|
| ** **                                                       | ** ** | **Shares**            | ** ** | **Amount**              | ** ** | **Capital**               | ** ** | **Compensation**                      | ** ** | **Income (Loss)** | ** ** | **Deficit**                   | ** ** | **Equity** | ** ** |
| Balance at December 31, 2005                                |       | 62,606                |       |                    | $          | 6                         |       |                                  |       | $                      | 472,745    |                          |       |   | $ | (15,558 | ) |   |   | $ | (327 | ) |   |   | $ | (134,451 | ) |   |   | $ | 322,415 |   |   |
| Cumulative effect of accounting change, net of tax               |       | —                |       |                    | —     |                      |       |                                  | (1,041     | )                      |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | (1,041 | ) |   |
| Balance at January 1, 2006                                  |       | 62,606                |       |                    | 6          |                      |       |                                  | 471,704    |                   |       |                          | (15,558    | ) |   |   | (327 | ) |   |   | (134,451 | ) |   |   | 321,374 |   |   |
| Reversal of deferred stock-based compensation                    |       | —                |       |                    | —     |                      |       |                                  | (15,558    | )                      |       |                          | 15,558     |   |   |   | — |   |   |   | — |   |   |   | — |   |   |
| Exercises of stock options                                       |       | 1,551                 |       |                    | —     |                      |       |                                  | 5,037      |                   |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | 5,037 |   |   |
| Issuance of common stock through employee stock  purchase plan   |       | 380                   |       |                    | —     |                      |       |                                  | 2,965      |                   |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | 2,965 |   |   |
| Vesting of restricted stock units                                |       | 298                   |       |                    | —     |                      |       |                                  | —     |                   |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | — |   |   |
| Repurchases of common stock                                      |       | —                |       |                    | —     |                      |       |                                  | (1,957     | )                      |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | (1,957 | ) |   |
| Dividends paid on shares outstanding and restricted  stock units |       | —                |       |                    | —     |                      |       |                                  | (26,242    | )                      |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | (26,242 | ) |   |
| Stock-based compensation                                         |       | —                |       |                    | —     |                      |       |                                  | 10,833     |                   |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | 10,833 |   |   |
| Unrealized gain on short-term investments, net of tax            |       | —                |       |                    | —     |                      |       |                                  | —     |                   |       |                          | —     |   |   |   | 26 |   |   |   | — |   |   |   | 26 |   |   |
| Unrealized loss on derivative, net of tax                        |       | —                |       |                    | —     |                      |       |                                  | —     |                   |       |                          | —     |   |   |   | (83 | ) |   |   | — |   |   |   | (83 | ) |   |
| Foreign currency translation                                     |       | —                |       |                    | —     |                      |       |                                  | —     |                   |       |                          | —     |   |   |   | 37 |   |   |   | — |   |   |   | 37 |   |   |
| Tax benefits from stock options                                  |       | —                |       |                    | —     |                      |       |                                  | 3,570      |                   |       |                          | —     |   |   |   | — |   |   |   | — |   |   |   | 3,570 |   |   |
| Net income                                                       |       | —                |       |                    | —     |                      |       |                                  | —     |                   |       |                          | —     |   |   |   | — |   |   |   | 24,277 |   |   |   | 24,277 |   |   |
| Balance at  June 30, 2006                                   |       | 64,835                |       |                    | $          | 6                         |       |                                  |       | $                      | 450,352    |                          |       |   | $ | — |   |   |   | $ | (347 | ) |   |   | $ | (110,174 | ) |   |   | $ | 339,837 |   |   |

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

6

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**UNITED ONLINE, INC.UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS(in thousands)**

| ** **                                                                            | ** ** | **Six Months Ended   June 30,** | ** ** |
|---------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                            | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
| Cash flows from  operating activities:                                                |       |                                                |       |   |   |
| Net income                                                                            |       | $                                                   | 24,277     |   | $ | 22,159 |   |
| Adjustments to  reconcile net income to net cash provided by operating activities:    |       |                                                |       |   |   |
| Depreciation and amortization                                                         |       | 18,993                                              |       | 18,890 |   |
| Stock-based compensation                                                              |       | 10,833                                              |       | 3,995 |   |
| Deferred taxes                                                                        |       | 806                                                 |       | 761 |   |
| Tax benefits from stock-based compensation                                            |       | 3,570                                               |       | 8,003 |   |
| Excess tax benefits from stock-based compensation                                     |       | (2,583                                              | )          | — |   |
| Cumulative effect of accounting change, net of tax                                    |       | (1,041                                              | )          | — |   |
| Other                                                                                 |       | 2,315                                               |       | 792 |   |
| Changes in  operating assets and liabilities (excluding the effects of acquisitions): |       |                                                |       |   |   |
| Accounts receivable                                                                   |       | 1,917                                               |       | (1,231 | ) |
| Other assets                                                                          |       | 1,498                                               |       | 1,955 |   |
| Accounts payable and accrued liabilities                                              |       | (9,355                                              | )          | 8,894 |   |
| Member retention liability                                                            |       | 870                                                 |       | — |   |
| Deferred revenue                                                                      |       | 876                                                 |       | 6,461 |   |
| Other liabilities                                                                     |       | (88                                                 | )          | 1,732 |   |
| Net cash provided by operating activities                                             |       | 52,888                                              |       | 72,411 |   |
| Cash flows from  investing activities:                                                |       |                                                |       |   |   |
| Purchases of property and equipment                                                   |       | (13,953                                             | )          | (8,473 | ) |
| Purchases of rights, patents and trademarks                                           |       | (509                                                | )          | (5,554 | ) |
| Purchases of short-term investments                                                   |       | (180,309                                            | )          | (192,437 | ) |
| Proceeds from maturities and sales of short-term  investments                         |       | 198,321                                             |       | 185,333 |   |
| Cash paid for acquisitions, net of cash acquired                                      |       | (60,528                                             | )          | (8,638 | ) |
| Net cash used for investing activities                                                |       | (56,978                                             | )          | (29,769 | ) |
| Cash flows from  financing activities:                                                |       |                                                |       |   |   |
| Payments on term loan                                                                 |       | (54,209                                             | )          | (36,666 | ) |
| Payments on capital leases                                                            |       | (146                                                | )          | (440 | ) |
| Proceeds from exercises of stock options                                              |       | 5,037                                               |       | 3,845 |   |
| Proceeds from employee stock purchase plan                                            |       | 2,965                                               |       | 1,678 |   |
| Repurchases of common stock                                                           |       | (1,957                                              | )          | (14,207 | ) |
| Payments for dividends                                                                |       | (26,242                                             | )          | (12,590 | ) |
| Excess tax benefits from stock-based compensation                                     |       | 2,583                                               |       | — |   |
| Net cash used for financing activities                                                |       | (71,969                                             | )          | (58,380 | ) |
| Effect of  exchange rate changes on cash and cash equivalents                         |       | 24                                                  |       | (89 | ) |
| Change in cash  and cash equivalents                                                  |       | (76,035                                             | )          | (15,827 | ) |
| Cash and cash  equivalents, beginning of period                                       |       | 100,397                                             |       | 56,512 |   |
| Cash and cash  equivalents, end of period                                             |       | $                                                   | 24,362     |   | $ | 40,685 |   |

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

7

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**UNITED ONLINE, INC.NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**1.**                 DESCRIPTIONOF BUSINESS, BASIS OF PRESENTATION, SIGNIFICANT ACCOUNTING POLICIES AND RECENTACCOUNTING PRONOUNCEMENTS

**Description ofBusiness**

United Online, Inc. (“United Online” or the “Company”)is a leading provider of consumer Internet and media services through a numberof brands, including NetZero, Juno, Classmates and MyPoints (as of April 2006).The Company’s Communications services include Internet access, email, Internetsecurity and VoIP. The Company’s Content & Media services includesocial networking, online loyalty marketing, Web hosting and photo sharing. Ona combined basis, the Company’s Web properties attract a significant number ofInternet users each month and the Company offers marketers a broad array ofInternet advertising products as well as online market research and measurementservices.

On April 10, 2006,the Company acquired MyPoints.com, Inc. (“MyPoints”), a leading providerof online loyalty marketing services, for approximately $56.6 million in cash.The Company reports MyPoints within its Content & Media segment.

**Basis ofPresentation**

The accompanying consolidated financial statements forthe quarters and six months ended June 30, 2006 and 2005, which includeUnited Online and its wholly-owned subsidiaries, are unaudited except forthe balance sheet information at December 31, 2005, which is derived fromthe audited consolidated financial statements filed with the Securities andExchange Commission (“SEC”) in the Company’s Annual Report on Form 10-Kon March 6, 2006 but does not include all disclosures required byaccounting principles generally accepted in the United States of America (“GAAP”).The Company’s interim financial statements have been prepared in accordancewith GAAP including those for interim financial information and with theinstructions for Form 10-Q and Article 10 of Regulation S-Xissued by the SEC. Accordingly, they do not include all of the information andnote disclosures required by GAAP for complete financial statements. Theyear-end condensed balance sheet data was derived from audited financialstatements, but does not include all disclosures required by GAAP. Allsignificant intercompany accounts and transactions have been eliminated inconsolidation. The consolidated financial statements, in the opinion ofmanagement, reflect all adjustments (consisting only of normal recurringadjustments) that are necessary for a fair presentation of the results for theperiods shown. The results of operations for such periods are not necessarilyindicative of the results expected for any future periods.

The preparation offinancial statements in accordance with GAAP requires management to makeestimates and assumptions that affect the reported amounts of assets andliabilities and disclosure of contingent liabilities and the reported amountsof revenues and expenses. Actual results could differ from those estimates.These unaudited condensed consolidated financial statements should be read inconjunction with the audited consolidated financial statements and relatednotes for the year ended December 31, 2005 included in the Company’sAnnual Report on Form 10-K filed on March 6, 2006 with the SEC.

**SignificantAccounting Policies**

*MemberRedemption Liability—**The**memberredemption liability represents the estimated costs associated with the Company’sobligation to redeem outstanding member balances (in Points), less an allowancefor Points expected to expire prior to redemption. Such members’ Points may beconverted by enrolled members into various third-party gift certificates,frequent travel programs, coupons or other rewards. Points are granted tomembers when they respond to direct marketing offers delivered by the*

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*Company, purchase goods fromadvertisers or engage in other specified activities. The Company is liable forproviding the rewards to members if and when such members seek to redeemaccumulated Points upon reaching required redemption thresholds. The memberredemption liability is estimated based upon a weighted-average cost of Pointsthat may be redeemed in the future. The liability is based upon historicalredemption costs and managements’ estimate of future trends. Under the Company’scurrent policy, MyPoints reserves the right to cancel or disable accounts andexpire unredeemed Points in those accounts that are inactive for a period of 12consecutive months. “Inactive” shall be defined as a lack of one of thefollowing: Web site visit (click through); email response; survey completion;profile update or any Point-earning or Point-spending transaction. However, theCompany reserves the right to extend the life of the unredeemed Points if themember is active. The Company bases its estimate of Points that will not beredeemed on an analysis of historical point earning trends, redemption activityand individual member accounts. This analysis is updated monthly.*

*RevenueRecognition—**MyPoints**earns revenueprimarily from corporate advertising customers by charging fees for sendingemails to the MyPoints’ members and placing advertising on the MyPoints Website. Under the terms of advertising contracts, MyPoints earns revenueprimarily based on three components: (1) transmission of emailadvertisements to enrolled members, (2) unique clicks on transmittedemails and (3) actual transactions by members over the Internet. Revenueis recognized when email is transmitted to members, when responses are receivedand when members complete online transactions. Each of these activities is adiscrete, independent activity, which generally is specified in the advertisingsales agreement entered into with the customer. As the earning activities takeplace, activity measurement data (e.g., number of emails sent and number ofresponses received) is accumulated and the related revenue is recorded. Revenuefrom the sale of Points to MyPoints’customers is deferred over a 15-monthperiod, which is the expected time that either the Points are redeemed and MyPointsprovides an award, or the Points expire prior to redemption. Revenue is alsodeferred if MyPoints has performed under the contract and has billed for itsservices; however, the collection of the receivable is not reasonably assured.Revenue is recognized once the collection of the cash is no longer in doubt.Also, deferred revenue represents invoiced services that have not yet beenperformed.*

*Stock-BasedCompensation—**On**January 1, 2006, theCompany adopted Statement of Financial Accounting Standards (“SFAS”) No. 123(revised 2004),**Share-BasedPayment**, which requires the measurement and recognition ofcompensation expense for all share-based payment awards made to employees anddirectors including employee stock options, restricted awards and employee stockpurchases related to the Employee Stock Purchase Plan (“employee stockpurchases”) based on the grant-date fair values of the awards. SFAS No. 123Rsupersedes the Company’s previous accounting under Accounting Principles Board(“APB”) Opinion No. 25,**Accountingfor Stock Issued to Employees**. In March 2005, theSEC issued Staff Accounting Bulletin (“SAB”) No. 107 relating to SFAS No. 123R.The Company has applied the provisions of SAB No. 107 in its adoption ofSFAS 123R (see Note 6 for additional information).*

*The Company adopted SFAS No. 123R using the modifiedprospective transition method, and the Company’s consolidated financialstatements at and for the quarter and six months ended June 30, 2006reflect the impact of SFAS No. 123R. In accordance with the modifiedprospective transition method, the Company’s consolidated financial statementsfor prior periods have not been restated to reflect, and do not include, theimpact of SFAS No. 123R. Stock-based compensation expense recognized underSFAS No. 123R for the quarter and six months ended June 30, 2006 was$5.9 million and $10.8 million, respectively, which was primarily related tostock options, restricted stock and the discount on employee stock purchases.Stock-based compensation expense for the quarter and six months ended June 30,2005 was $2.9 million and $4.0 million, respectively, which was primarilyrelated to restricted stock.*

*SFAS No. 123R requires companies to estimate the fairvalue of share-based payment awards on the grant date using an option-pricingmodel. Under SFAS No. 123, the Company used the Black-Scholes*

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*option-pricing model for valuationof share-based awards for its pro forma information. Upon adoption of SFAS No. 123R,the Company elected to continue to use the Black-Scholes option-pricing modelfor valuing awards. The value of the portion of the award that is ultimatelyexpected to vest is recognized as expense over the requisite service periods inthe Company’s consolidated statements of operations. Prior to the adoption ofSFAS No. 123R, the Company accounted for share-based awards to employeesand directors using the intrinsic value method in accordance with APB No. 25as allowed under SFAS No. 123,**Accounting for Stock-Based Compensation**. Under theintrinsic value method, no stock-based compensation expense related to stockoptions had been recognized in the Company’s consolidated statements ofoperations, other than as related to acquisitions, because the exercise priceof the Company’s stock options granted to employees and directors equaled thefair market value of the underlying stock at the grant date.*

*Stock-based compensation expense recognized during thecurrent period is based on the value of the portion of share-based paymentawards that is ultimately expected to vest. SFAS No. 123R requiresforfeitures to be estimated at the time of grant in order to calculate theamount of share-based awards that will ultimately vest. The forfeiture rate isbased on historical rates. Stock-based compensation expense recognized in theCompany’s consolidated statements of operations for the quarter and six monthsended June 30, 2006 includes (i) compensation expense for share-basedpayment awards granted prior to, but not yet vested at, December 31, 2005 basedon the grant-date fair value estimated in accordance with the pro formaprovisions of SFAS No. 123 and (ii) compensation expense for theshare-based payment awards granted subsequent to December 31, 2005, basedon the grant-date fair value estimated in accordance with the provisions ofSFAS No. 123R. As stock-based compensation expense recognized in theconsolidated statement of operations for the quarter and six months endedJune 30, 2006 is based on awards ultimately expected to vest, it has beenreduced for estimated forfeitures. In the Company’s pro forma informationrequired under SFAS No. 123 for the periods prior to 2006, the Companyaccounted for forfeitures as they occurred. Accordingly, a pretax cumulativeeffect adjustment totaling $1.1 million ($1.0 million, net of tax) was recordedin the March 2006 quarter to adjust for awards granted prior to January 1,2006, that are not ultimately expected to vest.*

*Prior to the adoption of SFAS No. 123R, the Companyrecognized stock-based compensation expense for awards with graded vesting bytreating each vesting tranche as a separate award and recognizing compensationexpense ratably for each tranche. For equity awards granted subsequent to theadoption of SFAS No. 123R, the Company treats such awards as a singleaward and recognizes stock-based compensation expense on a straight-line basis(net of estimated forfeitures) over the employee service period.*

*In November 2005, the Financial Accounting StandardsBoard (“FASB”) issued FASB Staff Position (“FSP”) No. SFAS 123(R)-3,**Transition Election Related toAccounting for Tax Effects of Share-Based Payment Awards**. Thealternative transition method includes simplified methods to establish thebeginning balance of the additional paid-in capital pool (“APIC pool”) relatedto the tax effects of employee share-based compensation, and to determine thesubsequent impact on the APIC pool and consolidated statements of cash flows ofthe tax effects of employee share-based compensation awards that areoutstanding upon adoption of SFAS No. 123R. In the June 2006 quarter,the Company adopted the provisions of SFAS 123(R)-3.*

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*In thequarter of adoption, stock-based compensation expense reduced the Company’sresults of operations as follows (in thousands, except per share amounts), excludingthe cumulative effect of accounting change:*

| ** **                                              | ** ** | **Six Months  Ended  June 30, 2006** | ** ** |
|---------------------------------------------------------|------------|-----------------------------------------------------|------------|
| Operating  expenses:                                    |       |                                                |       |   |   |
| Cost of revenues                                        |       |                                                | $          | 493 |   |   |
| Sales and  marketing                                    |       |                                                | 2,016      |   |   |
| Product  development                                    |       |                                                | 3,111      |   |   |
| General and  administrative                             |       |                                                | 5,213      |   |   |
| Stock-based  compensation                               |       |                                                | 10,833     |   |   |
| Tax benefit recognized                                  |       |                                                | (2,171     | ) |   |
| Stock-based  compensation, net of tax                   |       |                                                | $          | 8,662 |   |   |
| Stock-based  compensation, net of tax per common share: |       |                                                |       |   |   |
| Basic                                                   |       |                                                | $          | 0.14 |   |   |
| Diluted                                                 |       |                                                | $          | 0.13 |   |   |

 

*Thefollowing table illustrates (in thousands, except per share amounts) the effecton net income and earnings per share in the prior year as if the Company hadapplied the fair value recognition provisions of SFAS No. 123, as amendedby SFAS No. 148,**Accountingfor Stock-Based Compensation—Transition and Disclosure**.*

| ** **                                                                                                  | ** ** | **Quarter Ended  June 30, 2005** | ** ** | **Six Months Ended  June 30, 2005** | ** ** |
|-------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|---------------------------------------------------------|------------|
| Net income, as  reported                                                                                    |       |                                            | $          | 10,672                                                  |       |   |   | $ | 22,159 |   |   |
| Add: Stock-based compensation included in net  income, net of tax                                           |       |                                            | 2,426      |                                                    |       |   | 3,343 |   |   |
| Deduct: Total stock-based compensation determined  under fair value-based method for all awards, net of tax |       |                                            | (7,013     | )                                                       |       |   | (9,710 | ) |   |
| Pro forma net income                                                                                        |       |                                            | $          | 6,085                                                   |       |   |   | $ | 15,792 |   |   |
| Basic net income per share, as reported                                                                     |       |                                            | $          | 0.18                                                    |       |   |   | $ | 0.37 |   |   |
| Basic net income per share, pro forma                                                                       |       |                                            | $          | 0.10                                                    |       |   |   | $ | 0.26 |   |   |
| Diluted net income per share, as reported                                                                   |       |                                            | $          | 0.17                                                    |       |   |   | $ | 0.35 |   |   |
| Diluted net  income per share, pro forma                                                                    |       |                                            | $          | 0.09                                                    |       |   |   | $ | 0.25 |   |   |

 

**Recent AccountingPronouncements**

*Accounting Changesand Error Corrections*

In June 2005, theFASB issued SFAS No. 154, *Accounting Changes andError Corrections—a replacement of APB Opinion No. 20 and FASB Statement No. 3*.SFAS No. 154 changes the requirements for the accounting for and reportingof a change in accounting principle and applies to all voluntary changes inaccounting principle. APB Opinion No. 20 previously required that mostvoluntary changes in accounting principle be recognized by including in netincome of the period of change the cumulative effect of changing to the newaccounting principle. SFAS No. 154 requires retrospective application toprior periods’ financial statements of changes in accounting principle, unlessit is impracticable to 

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determineeither the period-specific effects or the cumulative effect of the change. Whenit is impracticable to determine the period-specific effects of an accountingchange on one or more individual prior periods presented, SFAS No. 154requires that the new accounting principle be applied to the balances of assetsand liabilities as of the beginning of the earliest period for whichretrospective application is practicable and that a corresponding adjustment bemade to the opening balance of retained earnings for that period rather thanbeing reported in an income statement. When it is impracticable to determinethe cumulative effect of applying a change in accounting principle to all priorperiods, SFAS No. 154 requires that the new accounting principle beapplied as if it were adopted prospectively from the earliest date practicable.In addition, SFAS No. 154 makes a distinction between retrospectiveapplication of an accounting principle and the restatement of financialstatements to reflect the correction of an error. SFAS No. 154 iseffective for accounting changes and corrections of errors made beginning inthe March 2006 quarter. The implementation of SFAS No. 154 did nothave a material impact on the Company’s financial position, results ofoperations or cash flows.

*Accounting forUncertainty in Income Taxes*

In July 2006, theFASB issued FASB Interpretation (“FIN”) No. 48, *Accountingfor Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109*,which clarifies the accounting for uncertainty in income tax positions. ThisInterpretation requires that the Company recognize in the consolidatedfinancial statements the impact of a tax position that is more likely than notto be sustained upon examination based on the technical merits of the position.The provisions of FIN No. 48 will be effective for the Company beginningin the March 2007 quarter, with the cumulative effect of the change inaccounting principle recorded as an adjustment to opening retained earnings.The Company is currently evaluating the impact of adopting FIN No. 48.

**2.**                 ACQUISITIONS

*MyPoints.com, Inc.*

On April 10, 2006, the Company acquiredMyPoints.com, Inc. for approximately $56.6 million in cash, includingacquisition costs. MyPoints is a leading provider of member-driven Internetdirect marketing services and provides advertisers with an integrated suite ofincentive-based media products. The acquisition was accounted for under thepurchase method in accordance with SFAS No. 141, *Business Combinations*. The primary reasonfor the acquisition was to expand the Company’s Content & Mediabusiness offerings. MyPoints’ results of operations are included in theconsolidated financial statements from the date of acquisition.

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Thepurchase price was allocated to the net assets acquired based on theirestimated fair values, including identifiable intangible assets. The purchaseprice allocation is considered final. The following table summarizes the netliabilities assumed and the intangible assets and goodwill acquired inconnection with the acquisition (in thousands):

| **Description**                          | ** ** | ** ** | ** ** | **Estimated  Fair  Value** | ** ** | **Estimated  Amortizable  Life** | ** ** |
|------------------------------------------|------------|------------|------------|----------------------------|------------|----------------------------------|------------|
| Net liabilities  assumed:                |       |       |       |                       |       |                             |       |
| Cash                                     |       | $          | 7,137      |                       |       |                             |       |   |
| Accounts receivable                      |       | 9,667      |       |                       |       |                             |       |
| Other current assets                     |       | 1,905      |       |                       |       |                             |       |
| Property and equipment                   |       | 2,833      |       |                       |       |                             |       |
| Other assets                             |       | 496        |       |                       |       |                             |       |
| Accounts payable and accrued liabilities |       | (9,376     | )          |                       |       |                             |       |
| Deferred revenue                         |       | (471       | )          |                       |       |                             |       |
| Member redemption liability              |       | (17,673    | )          |                       |       |                             |       |
| Total net liabilities assumed            |       | (5,482     | )          |                       |       |                             |       |
| Intangible assets  acquired:             |       |       |       |                       |       |                             |       |
| Customer contracts                       |       | 9,230      |       |                       | 5 years    |                             |       |
| Proprietary rights                       |       | 3,700      |       |                       | 10 years   |                             |       |
| Total intangible assets acquired         |       | 12,930     |       |                       |       |                             |       |
| Goodwill                                 |       | 49,116     |       |                       |       |                             |       |
| Total purchase  price                    |       | $          | 56,564     |                       |       |                             |       |   |

 

The weighted average amortizable life of the acquiredintangible assets is 6.4 years. The acquisition was treated as an acquisitionof net assets for tax purposes, and accordingly, the $49.1 million of goodwillacquired is deductible for tax purposes.

Thefollowing summarized unaudited pro forma information assumes that theacquisition of MyPoints had occurred at the beginning of each of the periodspresented (in thousands, except per share amounts). The pro forma effect of thetransaction is immaterial to the consolidated financial statements for thequarter ended June 30, 2006, and accordingly, is not included in thefollowing:

| ** **                                            | ** ** | **Quarter  Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------------------------|------------|-----------------------------------|------------|-----------------------------------------------|------------|
| ** **                                            | ** ** | **2005**                          | ** ** | **2006**                                      | ** ** | **2005** | ** ** |
| Revenues                                              |       | $                                 | 140,796    |                                          | $          | 273,869 |   | $ | 279,411 |   |
| Income before  cumulative effect of accounting change |       | $                                 | 10,410     |                                          | $          | 23,350 |   | $ | 21,800 |   |
| Net income                                            |       | $                                 | 10,410     |                                          | $          | 24,391 |   | $ | 21,800 |   |
| Basic net income  per share:                          |       |                              |       |                                          |       |   |   |
| Income before cumulative effect of accounting change  |       | $                                 | 0.17       |                                          | $          | 0.37 |   | $ | 0.36 |   |
| Net income                                            |       | $                                 | 0.17       |                                          | $          | 0.39 |   | $ | 0.36 |   |
| Diluted net  income per share:                        |       |                              |       |                                          |       |   |   |
| Income before cumulative effect of accounting change  |       | $                                 | 0.16       |                                          | $          | 0.36 |   | $ | 0.35 |   |
| Net income                                            |       | $                                 | 0.16       |                                          | $          | 0.37 |   | $ | 0.35 |   |

 

*The Names Database*

In March 2006, the Company acquired The NamesDatabase for approximately $10.1 million in cash, including acquisition costs.The Names Database is a social-networking service that acts as an intermediarybetween members, allowing them to send messages through the site to oneanother. The acquisition was 

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accounted for under thepurchase method in accordance with SFAS No. 141. The primary reason forthe acquisition was to acquire The Names Database’s member relationships andsoftware to expand the Company’s social-networking business. The Names Database’sresults of operations are included in the consolidated financial statementsfrom the date of acquisition.

Thepurchase price was allocated to the net assets acquired based on theirestimated fair values, including identifiable intangible assets. The purchaseprice allocation is considered final. The following table summarizes the netliabilities assumed and the intangible assets and goodwill acquired inconnection with the acquisition (in thousands):

| **Description**                                 | ** ** | ** ** | ** ** | **Estimated  Fair  Value** | ** ** | **Estimated  Amortizable  Life** | ** ** |
|-------------------------------------------------|------------|------------|------------|----------------------------|------------|----------------------------------|------------|
| Net liabilities  assumed:                       |       |       |       |                       |       |                             |       |   |   |
| Cash                                            |       |       | $          | 510                        |       |                             |       |   |   |   |
| Accounts receivable                             |       |       | 51         |                       |       |                             |       |   |   |
| Accounts payable and accrued liabilities        |       |       | (8         | )                          |       |                             |       |   |   |
| Deferred revenue                                |       |       | (541       | )                          |       |                             |       |   |   |
| Deferred income taxes                           |       |       | (545       | )                          |       |                             |       |   |   |
| Total net liabilities assumed                   |       |       | (533       | )                          |       |                             |       |   |   |
| Intangible assets  acquired:                    |       |       |       |                       |       |                             |       |   |   |
| Pay accounts                                    |       |       | 500        |                       |       |                             | 4 years    |   |   |
| Free accounts                                   |       |       | 600        |                       |       |                             | 10 years   |   |   |
| Advertising contracts and related relationships |       |       | 29         |                       |       |                             | 2 years    |   |   |
| Technology                                      |       |       | 245        |                       |       |                             | 5 years    |   |   |
| Proprietary rights                              |       |       | 134        |                       |       |                             | 5 years    |   |   |
| Other intangibles                               |       |       | 45         |                       |       |                             | 5 years    |   |   |
| Total intangible assets acquired                |       |       | 1,553      |                       |       |                             |       |   |   |
| Goodwill                                        |       |       | 9,092      |                       |       |                             |       |   |   |
| Total purchase  price                           |       |       | $          | 10,112                     |       |                             |       |   |   |   |

 

The weighted average amortizable life of the acquiredintangible assets is 6.6 years. The $9.1 million of goodwill acquired is notdeductible for tax purposes. The pro forma effect of the transaction isimmaterial to the consolidated financial statements.

Cash paid for acquisitionsduring the six months ended June 30, 2006 included a $1.5 million paymentfor PhotoSite, which was previously included in accrued liabilities at December 31,2005.

**3.**                 BALANCESHEET COMPONENTS

**Short-TermInvestments**

Short-terminvestments consist of the following (in thousands):

| ** **            | ** ** | **June 30, 2006** | ** ** |
|-----------------------|------------|-----------------------------|------------|
| ** **            | ** ** | **Amortized  Cost**         | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Estimated  Fair Value** | ** ** |
| U.S. corporate  notes |       | $                           | 6,004      |   |   | $ | — |   |   |   | $ | (12 | ) |   | $ | 5,992 |   |
| Government  agencies  |       | 120,307                     |       |   | — |   |   |   | (442 | ) |   | 119,865 |   |
| Total                 |       | $                           | 126,311    |   |   | $ | — |   |   |   | $ | (454 | ) |   | $ | 125,857 |   |

 

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Gross unrealized gains and losses are presented net oftax in accumulated other comprehensive income on the consolidated balancesheets. The Company had no material realized gains or losses from the sale ofshort-term investments in the quarters and six months ended June 30, 2006and 2005.

Thefollowing table summarizes the fair value and gross unrealized losses of ourshort-term investments, aggregated by type of investment instrument and lengthof time that individual securities have been in a continuous unrealized lossposition, at June 30, 2006 (in thousands):

| ** **            | ** ** | **Less than 12 Months** | ** ** | **12 Months or Greater** | ** ** | **Total**       | ** ** |
|-----------------------|------------|----------------------------------------|------------|-----------------------------------------|------------|-----------------|------------|
| ** **            | ** ** | **Fair  Value**                        | ** ** | **Gross  Unrealized  Losses**           | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** | **Gross  Unrealized  Losses** | ** ** |
| U.S. corporate  notes |       | $                                      | 5,992      |                                    |       | $               | (12        | ) |   | $ | — |   |   | $ | — |   |   | $ | 5,992 |   |   | $ | (12 | ) |   |
| Government  agencies  |       | 14,193                                 |       |                                    | (16        | )               |       | 39,918 |   |   | (426 | ) |   | 54,111 |   |   | (442 | ) |   |
| Total                 |       | $                                      | 20,185     |                                    |       | $               | (28        | ) |   | $ | 39,918 |   |   | $ | (426 | ) |   | $ | 60,103 |   |   | $ | (454 | ) |   |

 

Our investment portfolio consists of both corporateand government securities that have a maximum maturity of four years. Thelonger the duration of these securities, the more susceptible they are tochanges in market interest rates and bond yields. As yields increase, thosesecurities purchased with a lower yield-at-cost show a mark-to-marketunrealized loss. All unrealized losses are due to changes in interest rates andbond yields.

Maturitiesof short-term investments were as follows (in thousands):

| ** **                           | ** ** | **June 30, 2006** | ** ** |
|--------------------------------------|------------|-----------------------------|------------|
| ** **                           | ** ** | **Amortized  Cost**         | ** ** | **Estimated  Fair Value** | ** ** |
| Maturing within 1  year              |       | $                           | 24,824     |   | $ | 24,795 |   |
| Maturing between  1 year and 4 years |       | 43,927                      |       | 43,560 |   |
| Maturing after 4  years              |       | 57,560                      |       | 57,502 |   |
| Total                                |       | $                           | 126,311    |   | $ | 125,857 |   |

 

**Accounts Receivable**

At June 30, 2006, onecustomer comprised approximately 14% of the consolidated accounts receivablebalance. At December 31, 2005, two customers comprised approximately 21%and 12% of the consolidated accounts receivable balance. For the quarters andsix months ended June 30, 2006 and 2005, the Company did not have anyindividual customers that comprised more than 10% of total revenues.

**Property andEquipment**

Propertyand equipment consists of the following (in thousands):

| ** **                       | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|----------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                       | ** ** | **2006**          | ** ** | **2005**              | ** ** |
| Computer software  and equipment |       | $                 | 136,229    |                  |       | $ | 90,357 |   |   |
| Furniture and  fixtures          |       | 16,253            |       |                  | 11,351     |   |   |
|                             |       | 152,482           |       |                  | 101,708    |   |   |
| Less: accumulated  depreciation  |       | (112,663          | )          |                  | (68,615    | ) |   |
| Total                            |       | $                 | 39,819     |                  |       | $ | 33,093 |   |   |

 

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**Goodwill andIntangible Assets**

Thechanges in goodwill for the six months ended June 30, 2006 were as follows(in thousands):

| Balance at  January 1, 2006                                     |   | $      | 80,499  |   |
|----------------------------------------------------------------------|--------|--------|---------|--------|
| Goodwill recorded in connection with The Names  Database acquisition |   | 9,092  |    |
| Goodwill recorded in connection with the MyPoints  acquisition       |   | 49,116 |    |
| Balance at June 30,  2006                                       |   | $      | 138,707 |   |

 

 

Intangibleassets consist of the following (in thousands):

| ** **                                       | ** ** | **June 30, 2006** | ** ** |
|--------------------------------------------------|------------|-----------------------------|------------|
| ** **                                       | ** ** | **Cost**                    | ** ** | **Accumulated  Amortization** | ** ** | **Net** | ** ** |
| Pay accounts and  free accounts                  |       | $                           | 107,733    |   |   | $ | (71,693 | ) |   | $ | 36,040 |   |
| Trademarks and  trade names                      |       | 25,786                      |       |   | (5,492 | ) |   | 20,294 |   |
| Advertising  contracts and related relationships |       | 7,229                       |       |   | (4,999 | ) |   | 2,230 |   |
| Software and  technology                         |       | 9,533                       |       |   | (5,505 | ) |   | 4,028 |   |
| Patents, domain  names and other                 |       | 4,638                       |       |   | (2,328 | ) |   | 2,310 |   |
| Total                                            |       | $                           | 154,919    |   |   | $ | (90,017 | ) |   | $ | 64,902 |   |

 

| ** **                                       | ** ** | **December 31, 2005** | ** ** |
|--------------------------------------------------|------------|---------------------------------|------------|
| ** **                                       | ** ** | **Cost**                        | ** ** | **Accumulated  Amortization** | ** ** | **Net** | ** ** |
| Pay accounts and  free accounts                  |       | $                               | 98,732     |   |   | $ | (66,103 | ) |   | $ | 32,629 |   |
| Trademarks and  trade names                      |       | 21,952                          |       |   | (4,254 | ) |   | 17,698 |   |
| Advertising  contracts and related relationships |       | 7,200                           |       |   | (3,871 | ) |   | 3,329 |   |
| Software and  technology                         |       | 9,280                           |       |   | (4,691 | ) |   | 4,589 |   |
| Patents, domain  names and other                 |       | 3,247                           |       |   | (2,154 | ) |   | 1,093 |   |
| Total                                            |       | $                               | 140,411    |   |   | $ | (81,073 | ) |   | $ | 59,338 |   |

 

**Accrued Liabilities**

Accruedliabilities consist of the following (in thousands):

| ** **                                  | ** ** | **June 30,  2006** | ** ** | **December 31,  2005** | ** ** |
|---------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| Employee  compensation and related expenses |       | $                       | 18,514     |                        |       | $ | 20,353 |   |   |
| Income taxes  payable                       |       | 13,701                  |       |                        | 9,769      |   |   |
| Subscriber  referral fees                   |       | 5,031                   |       |                        | 4,281      |   |   |
| Other                                       |       | 2,595                   |       |                        | 1,846      |   |   |
| Total                                       |       | $                       | 39,841     |                        |       | $ | 36,249 |   |   |

 

**Term Loan andInterest Rate Cap**

In January 2006, theCompany paid, in full, the outstanding balance on the term loan ofapproximately $54.2 million. Effective upon payment of the outstanding balance,the Credit Agreement terminated and is of no further force or effect. Inconnection with the repayment of the term loan in January 2006, theCompany terminated the interest rate cap. During the quarter ended March 31,2006, the Company recognized approximately $1.5 million in deferred financingcosts in connection with the repayment of the term loan.

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**4.**   STOCKHOLDERS’EQUITY

*Common StockRepurchases*

The Company’s Board of Directors authorized a commonstock repurchase program that allows the Company to repurchase shares of itscommon stock through open market or privately negotiated transactions based onprevailing market conditions and other factors through December 31, 2006.At June 30, 2006, the Company had repurchased $139.2 million of its commonstock under the program, leaving $60.8 million remaining under the program.

Shares withheld fromrestricted stock units (“RSUs”) awarded to employees upon vesting to payapplicable withholding taxes on their behalf are considered common stockrepurchases, but are not part of the Board approved repurchase program. Uponvesting, the Company currently does not collect the applicable withholdingtaxes for RSUs from employees. Instead, the Company automatically withholds,from the RSUs that vest, the portion of those shares with a fair market valueequal to the amount of the withholding taxes due. The Company then pays theapplicable withholding taxes in cash, which is accounted for as a repurchase ofcommon stock. In the six months ended June 30, 2006, approximately 155,000shares were withheld from RSUs that vested in order to pay the applicableemployee withholding taxes.

*Dividends*

The Company’s Board ofDirectors declared quarterly dividends of $0.20 per share in February 2006and May 2006, which were paid on February 28, 2006 and May 31,2006 and totaled $12.9 million and $13.4 million, respectively. In July 2006,the Company’s Board of Directors declared a quarterly cash dividend of $0.20per share of common stock. The record date for the dividend is August 11,2006 and the dividend is payable on August 31, 2006.

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**5.**   EARNINGSPER SHARE

Thefollowing table sets forth the computation of basic and diluted earnings pershare for the quarters and six months ended June 30, 2006 and 2005 (inthousands, except per share amounts):

| ** **                                                                                | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                                | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Numerator:                                                                                |       |                                  |       |                                          |       |   |   |   |   |
| Income before cumulative  effect of accounting change                                     |       | $                                     | 11,585     |                                          | $          | 10,672 |   | $ | 23,236 |   | $ | 22,159 |   |
| Cumulative effect  of accounting change, net of tax                                       |       | —                                |       | —                                        |       | 1,041 |   | — |   |
| Net income                                                                                |       | $                                     | 11,585     |                                          | $          | 10,672 |   | $ | 24,277 |   | $ | 22,159 |   |
| Denominator:                                                                              |       |                                  |       |                                          |       |   |   |   |   |
| Weighted average  common shares—basic                                                |       | 64,257                                |       | 61,383                                        |       | 63,625 |   | 61,127 |   |
| Less: weighted average common shares subject to  repurchase                               |       | (475                                  | )          | (552                                          | )          | (475 | ) | (514 | ) |
| Shares used to  calculate basic net income per share                                      |       | 63,782                                |       | 60,831                                        |       | 63,150 |   | 60,613 |   |
| Add: Dilutive effect of stock options, restricted  stock and employee stock purchase plan |       | 2,173                                 |       | 2,262                                         |       | 2,275 |   | 2,453 |   |
| Shares used to  calculate diluted net income per share                                    |       | 65,955                                |       | 63,093                                        |       | 65,425 |   | 63,066 |   |
| Basic net income  per share:                                                              |       |                                  |       |                                          |       |   |   |   |   |
| Income before cumulative effect of accounting change                                      |       | $                                     | 0.18       |                                          | $          | 0.18 |   | $ | 0.37 |   | $ | 0.37 |   |
| Cumulative effect of accounting change, net of tax                                        |       | —                                |       | —                                        |       | 0.01 |   | — |   |
| Basic net income  per share                                                               |       | $                                     | 0.18       |                                          | $          | 0.18 |   | $ | 0.38 |   | $ | 0.37 |   |
| Diluted net  income per share:                                                            |       |                                  |       |                                          |       |   |   |   |   |
| Income before cumulative effect of accounting change                                      |       | $                                     | 0.18       |                                          | $          | 0.17 |   | $ | 0.36 |   | $ | 0.35 |   |
| Cumulative effect of change in accounting principle,  net of tax                          |       | —                                |       | —                                        |       | 0.01 |   | — |   |
| Diluted net income per  share                                                             |       | $                                     | 0.18       |                                          | $          | 0.17 |   | $ | 0.37 |   | $ | 0.35 |   |

 

The diluted per sharecomputations exclude stock options, unvested common stock and restricted stockunits, which are antidilutive. The number of antidilutive shares at June 30,2006 and 2005 was 3.6 million and 7.4 million, respectively.

**6.**   STOCK-BASEDCOMPENSATION PLANS

*Stock-BasedCompensation Plans*

The Company has three active equity plans under whichit is authorized to grant stock options, restricted stock awards and RSUs.

Stock options granted to employees generally vest overa three or four-year period. Stock options granted to directors generally vestover a nine-month to three-year period, either monthly or annually. Stockoption grants expire after ten years unless cancelled earlier due totermination of employment or Board service. Certain stock option grants areimmediately exercisable for unvested shares of common stock, with the unvestedportion of the shares remaining subject to repurchase by the Company at theexercise price until the vesting period is complete.

RSUs granted to employees generally vest over afour-year period. RSUs granted to non-employee directors generally vest over aone-year period.

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Upon the exercise of astock option award, the vesting of an RSU or the grant of restricted stock,common shares are issued from authorized but unissued shares. At June 30,2006, an aggregate of 27.6 million shares were reserved under the Company’splans, of which 4.0 million shares were available for issuance at June 30,2006.

*Stock-BasedCompensation Recognized*

Thefollowing table summarizes the stock-based compensation that has beenincluded in the following captions for each of the periods presented (inthousands):

| ** **                     | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|--------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                     | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Operating  expenses:           |       |                                  |       |                                          |       |   |   |   |   |
| Cost of revenues               |       | $                                     | 256        |                                          | $          | 57 |   | $ | 493 |   | $ | 82 |   |
| Sales and  marketing           |       | 1,072                                 |       | 224                                           |       | 2,016 |   | 324 |   |
| Product  development           |       | 1,645                                 |       | 350                                           |       | 3,111 |   | 413 |   |
| General and  administrative    |       | 2,891                                 |       | 2,289                                         |       | 5,213 |   | 3,176 |   |
| Total stock-based compensation |       | $                                     | 5,864      |                                          | $          | 2,920 |   | $ | 10,833 |   | $ | 3,995 |   |
| Tax benefit  recognized        |       | $                                     | 1,115      |                                          | $          | 494 |   | $ | 2,171 |   | $ | 652 |   |

*Stock Options*

Thefair value of each option grant is estimated on the date of grant using theBlack-Scholes option-pricing model, consistent with the provisions of SFAS No. 123Rand SAB No. 107. Because option-pricing models require the use ofsubjective assumptions, changes in these assumptions can materially affect thefair value of the options. The assumptions presented in the table belowrepresent the weighted average of the applicable assumption used to value stockoptions at their grant date. The Company calculates expected volatility basedon historical volatility of the Company’s common stock. The expected term,which represents the period of time that options granted are expected to beoutstanding, is estimated based on historical exercise experience. The Companyevaluated historical exercise behavior when determining the expected termassumptions. The risk-free rate assumed in valuing the options is based on theU.S. Treasury yield curve in effect at the time of grant for the expected termof the option. The Company determines the expected dividend yield percentage bydividing the expected annual dividend by the market price of United Onlinecommon stock at the date of grant.

| ** **                | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Risk-free  interest rate  |       | 4.8                                   | %          | 3.8                                           | %          | 4.6 | % | 4.2 | % |
| Expected life (in  years) |       | 3.8                                   |       | 5.0                                           |       | 3.8 |   | 5.0 |   |
| Dividend yield            |       | 6.2                                   | %          | 5.3                                           | %          | 6.1 | % | 0.8 | % |
| Volatility                |       | 57.5                                  | %          | 89.7                                          | %          | 60.0 | % | 94.0 | % |

 

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Thefollowing table summarizes activity during the six months ended June 30,2006:

| ** **                           | ** ** | **Options  Outstanding** | ** ** | **Weighted  Average   Exercise  Price** | ** ** | **Weighted  Average  Remaining  Contractual  Life** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|--------------------------------------|------------|--------------------------|------------|----------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------|------------|
| ** **                           | ** ** | **(in thousands)**  | ** ** | ** **                                   | ** ** | **(in years)**                                 | ** ** | **(in thousands)**         | ** ** |
| Outstanding at  January 1, 2006 |       |                     | 11,628     |                                         |       |                                                | $          | 13.31                           |       |   |   |   |   |   |   |   |   |   |
| Granted                              |       |                     | 210        |                                         |       |                                                | 13.18      |                            |       |   |   |   |   |   |   |   |   |
| Exercised                            |       |                     | (1,551     | )                                            |       |                                                | 3.25       |                            |       |   |   |   |   |   |   |   |   |
| Cancelled                            |       |                     | (2,357     | )                                            |       |                                                | 24.33      |                            |       |   |   |   |   |   |   |   |   |
| Outstanding at  June 30, 2006   |       |                     | 7,930      |                                         |       |                                                | $          | 12.00                           |       |   |   | 6.97 |   |   |   | $ | 21,464 |   |   |
| Exercisable at  June 30, 2006   |       |                     | 6,268      |                                         |       |                                                | $          | 12.18                           |       |   |   | 6.46 |   |   |   | $ | 19,635 |   |   |

 

In March 2006, the Company offered eligibleemployees of the Company the opportunity to exchange any outstanding stockoptions granted to them which have an exercise price per share of the Company’scommon stock at or above $16.00 (the “Eligible Options”) in return for RSUs.The exchange offer expired in April 2006, and approximately 1.8 millionshares of common stock underlying Eligible Options were exchanged for RSUscovering approximately 0.4 million shares of common stock in exchange for thecancellation of the Eligible Options. The exchange was offered to 315 eligibleemployees and accounted for as a modification under SFAS No. 123R in the June 2006quarter. The number of RSUs that were issued in exchange for each tenderedEligible Option was based on the per share exercise price of that option andwas, in all events, less than the number of shares subject to the tenderedoption. Eligible options with exercise prices between $16.00 and $20.00 wereexchanged based on a ratio of one RSU for four eligible options. Eligibleoptions with exercise prices greater than $20.00 were exchanged based on aratio of one RSU for five eligible options. Total expense associated with theexchange, prior to the consideration of expected forfeitures, is approximately$0.8 million, of which approximately $0.1 million was recognized in the quarterended June 30, 2006.

Total unrecognized compensation cost related tounvested stock options at June 30, 2006, prior to the consideration ofexpected forfeitures, is approximately $6.5 million and is expected to berecognized over a weighted-average period of 1.0 years.

The weighted-average grantdate fair value of stock options granted during the six months ended June 30,2006 and 2005 was $4.51 and $7.55, respectively. The total intrinsic value ofoptions exercised during the six months ended June 30, 2006 and 2005 was$14.1 million and $14.5 million, respectively. Cash received from the exerciseof stock options was $5.0 million and $3.8 million, respectively, for the sixmonths ended June 30, 2006 and 2005. The tax benefits realized from stockoptions exercised in the six months ended June 30, 2006 and 2005 wereapproximately $2.6 million and $4.2 million, respectively.

*Restricted Stockand Restricted Stock Units*

At January 1, 2006 and June 30, 2006,475,000 restricted shares of common stock with a weighted-average grant datefair value of $19.91 were outstanding. The shares vest entirely at the end of afour-year vesting period in January 2008.

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Thefollowing table summarizes activity for RSUs during the six months ended June 30,2006:

| ** **                           | ** ** | **RSUs  Outstanding**   | ** ** | **Weighted  Average Grant  Date Fair Value** | ** ** |
|--------------------------------------|------------|-------------------------|------------|-------------------------------------------------------------|------------|
| ** **                           | ** ** | **(in thousands)** | ** ** | ** **                                                  | ** ** |
| Outstanding at  January 1, 2006 |       |                    | 1,642      |                                                        |       |   | $ | 10.78 |   |   |
| Granted                              |       |                    | 1,816      |                                                        |       |   | 10.03 |   |   |
| Vested                               |       |                    | (454       | )                                                           |       |   | 9.40 |   |   |
| Cancelled                            |       |                    | (212       | )                                                           |       |   | 9.53 |   |   |
| Outstanding at June 30,  2006   |       |                    | 2,792      |                                                        |       |   | $ | 10.61 |   |   |

 

For the six months ended June 30,2006, the Company issued approximately 1.8 million RSUs at a weighted-averagegrant date fair value of $10.03. For the six months ended June 30, 2005,the Company issued approximately 1.4 million RSUs at a weighted-average grantdate fair value of $10.50. At June 30, 2006, the intrinsic value ofoutstanding restricted stock and RSUs was approximately $39.2 million. Totalunrecognized compensation cost related to unvested restricted stock and RSUs atJune 30, 2006 prior to the consideration of expected forfeitures isapproximately $26.6 million and is expected to be recognized over aweighted-average period of 1.5 years. The fair value of RSUs that vested duringthe six months ended June 30, 2006 was approximately $5.5 million.

*Employee StockPurchase Plan*

The Company has a 2001 Employee Stock Purchase Plan (“ESPP”),which expires in the year 2011, and under which approximately 5.8 millionshares of the Company’s common stock were reserved under the plan at June 30,2006. At June 30, 2006, 2.8 million shares were available for issuance.Under the ESPP, each eligible employee may authorize payroll deductions of upto 15% of their compensation to purchase shares of common stock on two “purchasedates” each year at a purchase price per share equal to 85% of the lower of (i) theclosing selling price per share of common stock on the employee’s entry dateinto the two-year offering period in which the purchase date occurs or (ii) theclosing selling price per share on the purchase date. Each offering period hasa twenty-four month duration and purchase intervals of six months.

Thefair value of ESPP shares was estimated using the Black-Scholes option pricingmodel with the following weighted average assumptions: 

| ** **                | ** ** | **Quarter Ended  June 30, 2006** | ** ** | **Six Months Ended  June 30, 2006** | ** ** |
|---------------------------|------------|-------------------------------------------------|------------|---------------------------------------------------------|------------|
| Risk-free  interest rate  |       |                                            | 3.8        | %                                                       |       |   | 3.7 | % |   |
| Expected life (in  years) |       |                                            | 0.5-2.0    |                                                    |       |   | 0.5-2.0 |   |   |
| Dividend yield            |       |                                            | 8.2        | %                                                       |       |   | 8.6 | % |   |
| Volatility                |       |                                            | 51.8       | %                                                       |       |   | 53.2 | % |   |

 

The assumptions presented in the table above representthe weighted average of the applicable assumptions used to value ESPP shares.The Company calculates expected volatility based on historical volatility ofthe Company’s common stock. The expected term represents the amount of timeremaining in the 24-month offering period. The risk-free rate assumed invaluing the ESPP shares is based on the U.S. Treasury yield curve in effect atthe time of grant for the expected term. The Company determines the expecteddividend yield percentage by dividing the expected annual dividend by themarket price of United Online common stock at the date of grant.

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For the quarter and sixmonths ended June 30, 2006, the Company recognized approximately $0.6million and $1.2 million, respectively, of stock-based compensationexpense related to the ESPP. For the quarter and six months ended June 30,2005, the Company recognized $0 of stock-based compensation expense related tothe ESPP. Total unrecognized compensation cost related to the ESPP at June 30,2006 is approximately $1.8 million and is expected to be recognized over aweighted-average period of 0.7 years.

**7.**   SEGMENTINFORMATION

The Company complies with the reporting requirements ofSFAS No. 131, *Disclosures about Segmentsof an Enterprise and Related Information*. Historically, the Companyoperated in one principal operating segment, a provider of consumer Internetsubscription services through a number of brands, including NetZero, Juno, andClassmates. Effective in the March 2006 quarter, the Company is operatingin two reportable segments: Communications—consisting of its Internet access,email and VoIP services; and Content & Media—consisting of itssocial-networking, loyalty marketing, Web-hosting and photo-sharing services.Unallocated corporate expenses are centrally managed at the corporate level andconsist of corporate-related expenses, depreciation, amortization of intangibleassets and stock-based compensation. The Company has restated the prior periodsto reflect the change in the composition of the reportable segments. Managementhas determined that segment income from operations, which excludes corporateexpenses, depreciation, amortization of intangible assets and stock-basedcompensation, is the appropriate measure for assessing performance of itssegments and for allocating resources among its segments.

Revenueand income from operations by segment are as follows (in thousands):

| ** **                      | ** ** | **Quarter Ended June 30, 2006** | ** ** |
|---------------------------------|------------|-----------------------------------------------------|------------|
| ** **                      | ** ** | **Communications**                                  | ** ** | **Content & Media** | ** ** | **Total** | ** ** |
| Billable services               |       |                                                | $          | 87,161 |   |   |   | $ | 21,697 |   |   | $ | 108,858 |   |
| Advertising                     |       |                                                | 9,087      |   |   |   | 16,955 |   |   | 26,042 |   |
| Total revenues                  |       |                                                | $          | 96,248 |   |   |   | $ | 38,652 |   |   | $ | 134,900 |   |
| Segment income from  operations |       |                                                | $          | 35,574 |   |   |   | $ | 7,357 |   |   | $ | 42,931 |   |

 

| ** **                      | ** ** | **Six Months Ended June 30, 2006** | ** ** |
|---------------------------------|------------|-------------------------------------------------------------|------------|
| ** **                      | ** ** | **Communications**                                          | ** ** | **Content & Media** | ** ** | **Total** | ** ** |
| Billable services               |       |                                                        | $          | 177,820 |   |   |   | $ | 42,194 |   |   | $ | 220,014 |   |
| Advertising                     |       |                                                        | 18,770     |   |   |   | 23,448 |   |   | 42,218 |   |
| Total revenues                  |       |                                                        | $          | 196,590 |   |   |   | $ | 65,642 |   |   | $ | 262,232 |   |
| Segment income from  operations |       |                                                        | $          | 69,042 |   |   |   | $ | 13,651 |   |   | $ | 82,693 |   |

 

| ** **                      | ** ** | **Quarter Ended June 30, 2005** | ** ** |
|---------------------------------|------------|-----------------------------------------------------|------------|
| ** **                      | ** ** | **Communications**                                  | ** ** | **Content & Media** | ** ** | **Total** | ** ** |
| Billable services               |       |                                                | $          | 100,847 |   |   |   | $ | 16,643 |   |   | $ | 117,490 |   |
| Advertising                     |       |                                                | 8,673      |   |   |   | 5,357 |   |   | 14,030 |   |
| Total revenues                  |       |                                                | $          | 109,520 |   |   |   | $ | 22,000 |   |   | $ | 131,520 |   |
| Segment income from  operations |       |                                                | $          | 37,301 |   |   |   | $ | 53 |   |   | $ | 37,354 |   |

 

| ** **                      | ** ** | **Six Months Ended June 30, 2005** | ** ** |
|---------------------------------|------------|-------------------------------------------------------------|------------|
| ** **                      | ** ** | **Communications**                                          | ** ** | **Content & Media** | ** ** | **Total** | ** ** |
| Billable services               |       |                                                        | $          | 202,003 |   |   |   | $ | 31,715 |   |   | $ | 233,718 |   |
| Advertising                     |       |                                                        | 17,532     |   |   |   | 10,801 |   |   | 28,333 |   |
| Total revenues                  |       |                                                        | $          | 219,535 |   |   |   | $ | 42,516 |   |   | $ | 262,051 |   |
| Segment income from  operations |       |                                                        | $          | 70,122 |   |   |   | $ | 3,248 |   |   | $ | 73,370 |   |

 

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Areconciliation of segment income from operations (which excludes corporateexpenses, depreciation, amortization of intangible assets and stock-basedcompensation) to consolidated operating income, is as follows for each periodpresented (in thousands):

| ** **                            | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                            | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Segment income from  operations:      |       |                                  |       |                                          |       |   |   |   |   |
| Communications                        |       | $                                     | 35,574     |                                          | $          | 37,301 |   | $ | 69,042 |   | $ | 70,122 |   |
| Content & Media              |       | 7,357                                 |       | 53                                            |       | 13,651 |   | 3,248 |   |
| Total segment  income from operations |       | 42,931                                |       | 37,354                                        |       | 82,693 |   | 73,370 |   |
| Corporate expenses                    |       | (4,912                                | )          | (4,137                                        | )          | (10,037 | ) | (8,641 | ) |
| Depreciation                          |       | (5,345                                | )          | (3,784                                        | )          | (10,052 | ) | (7,258 | ) |
| Amortization of intangible assets     |       | (4,552                                | )          | (5,654                                        | )          | (8,941 | ) | (11,632 | ) |
| Stock-based compensation              |       | (5,864                                | )          | (2,920                                        | )          | (10,833 | ) | (3,995 | ) |
| Consolidated operating  income        |       | $                                     | 22,258     |                                          | $          | 20,859 |   | $ | 42,830 |   | $ | 41,844 |   |

 

Pursuant to SFAS No. 131,total segment assets have not been disclosed as this information is notreported to, or used by, the chief operating decision maker. The vast majorityof the Company’s revenues and related results of operations and identifiableassets are in the United States of America. The Company’s $138.7 million ofgoodwill is allocated entirely to the Content & Media segment.

**8.**   COMMITMENTSAND CONTINGENCIES

*Legal Contingencies*

On April 20, 2001, Jodi Bernstein, on behalf ofhimself and all others similarly situated, filed a lawsuit in the United StatesDistrict Court for the Southern District of New York against NetZero, certainofficers and directors of NetZero and the underwriters of NetZero’s initialpublic offering, Goldman Sachs Group, Inc., BancBoston Robertson Stephens, Inc.and Salomon Smith Barney, Inc. The complaint alleges that the prospectusthrough which NetZero conducted its initial public offering in September 1999was materially false and misleading because it failed to disclose, among otherthings, that (i) the underwriters had solicited and received excessive andundisclosed commissions from certain investors in exchange for which theunderwriters allocated to those investors material portions of the restrictednumber of NetZero shares issued in connection with the offering; and (ii) theunderwriters had entered into agreements with customers whereby theunderwriters agreed to allocate NetZero shares to those customers in theoffering in exchange for which the customers agreed to purchase additionalNetZero shares in the aftermarket at pre-determined prices. Plaintiffs areseeking injunctive relief and damages. Additional lawsuits setting forthsubstantially similar allegations were also served against NetZero on behalf ofadditional plaintiffs in April and May 2001. The case against NetZerowas consolidated with approximately 300 other suits filed against more than 300issuers that conducted their initial public offerings between 1998 and 2000,their underwriters and an unspecified number of their individual corporateofficers and directors. In a court order dated February 15, 2005, theDistrict Court granted preliminary approval of the issuer defendants’ proposedsettlement. On June 30, 2005, the United States Court of Appeals for theSecond Circuit granted the underwriter defendants’ petition for permission toappeal the District Court’s order granting plaintiffs’ motion for classcertification. A hearing on the settlement was held on April 24, 2006, andthe parties are awaiting the court’s ruling on the motion for final approval ofthe settlement.

On August 21, 2001, Juno commenced an adversaryproceeding in U.S. Bankruptcy Court in the Southern District of New Yorkagainst Smart World Technologies, LLC, dba “Freewwweb” (the “Debtor”), a providerof free Internet access that had elected to cease operations and had sought the

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protection of Chapter 11of the Bankruptcy Code. The adversary proceeding arose out of a subscriberreferral agreement between Juno and the Debtor. In response to the commencementof the adversary proceeding, the Debtor and its principals filed a pleadingwith the Bankruptcy Court asserting that Juno is obligated to pay compensationin an amount in excess of $80 million as a result of Juno’s conduct inconnection with the subscriber referral agreement. In addition, a dispute arosebetween Juno and UUNET Technologies, Inc., an affiliate of MCI WorldComNetwork Services, Inc., regarding the value of services provided by UUNET,with UUNET claiming in excess of $1.0 million and Juno claiming less than $0.3million. On April 25, 2003, Juno, the Committee of Unsecured Creditors,WorldCom and UUNET (allegedly the largest secured creditor) entered into aStipulation of Settlement, which provided for the payment by Juno of $5.5 millionin final settlement of all claims against Juno. On September 11, 2003, thecourt issued an order approving the Stipulation of Settlement. On September 12,2005, the Second Circuit Court of Appeals vacated the judgment of thebankruptcy court and remanded the case to the bankruptcy court. Discovery inthe adversary proceeding in the bankruptcy court has commenced. No trial datehas been set. On August 4, the Company entered into a settlement agreementwith the Committee of Unsecured Creditors providing for the settlement of allclaims against Juno pursuant to a proposed plan of liquidation of Debtor. Ifthe settlement and plan of liquidation are approved by the bankruptcy court,subject to certain conditions, Juno has agreed to pay $6.25 million. If the settlementand plan of liquidation are approved by the bankruptcy court and not appealed,Juno has agreed to pay an additional $0.25 million. As a result of thesedevelopments, the Company has increased its reserve for this matter to $6.25million.

On April 27, 2004, plaintiff MyMail Ltd. filed alawsuit in the United States District Court for the Eastern District of Texasagainst NetZero, Juno, NetBrands, America Online, Inc., AT&T,EarthLink, Inc., SBC Communications, Inc., and Verizon Communications, Inc.alleging infringement of plaintiff’s patent which purports to cover user accessto a computer network. On October 28, 2005, the court issued an ordergranting defendants’ motions for summary judgment of non-infringement of thepatent. MyMail has filed a notice of appeal of the trial court’s ruling. Thehearing date for the appeal has not been set.

On March 6, 2006, plaintiff Anthony Piercy fileda purported consumer class action lawsuit in the Superior Court of the State ofCalifornia, County of Los Angeles, against NetZero claiming that NetZerocontinues to charge consumers fees after they cancel their Internet accessaccount. NetZero has filed a response to the lawsuit denying the materialallegations of the complaint.

On July 27, 2006, plaintiff Donald E. Ewart fileda purported consumer class action lawsuit in the Superior Court of the State ofCalifornia, County of Los Angeles, against NetZero claiming that NetZerocontinues to charge consumers fees after they cancel their Internet accessaccount. NetZero has not yet filed or served its formal response to thecomplaint.

The pending lawsuits involve complex questions of factand law and may require the expenditure of significant funds and the diversionof other resources to defend. Although the Company does not believe the outcomeof the above outstanding legal proceedings, claims and litigation will have amaterial adverse effect on its business, financial position, results ofoperations or cash flows, the results of litigation are inherently uncertainand the Company can provide no assurance that it will not be materially andadversely impacted by the results of such proceedings. The Company hasestablished a reserve for the Freewwweb matter discussed above and such reserveis reflected in the consolidated financial statements. There can be noassurance, however, that this reserve will be sufficient to cover the possiblelosses from such litigation. We have not established reserves for any othermatters.

The Company is subject tovarious other legal proceedings and claims that arise in the ordinary course ofbusiness. Management believes the amount and ultimate liability, if any, withrespect to these actions will not materially affect the Company’s business,financial position, results of operations or cash flows. 

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Therecan be no assurance, however, that such actions will not be material oradversely affect the Company’s business, financial position, results ofoperations or cash flows.

**9.**   SUBSEQUENTEVENT

In July 2006, the Company announced its intentionto relocate its New York office to New Jersey. In connection with therelocation, the Company had a small reduction in force and intends to subleaseor terminate its facility lease for its New York office space.

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**ITEM 2.**                MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

**Overview**

We are a leading provider of consumer Internet andmedia services through a number of brands including NetZero, Juno, Classmatesand MyPoints. Our Communications services include Internet access, email,Internet security and VoIP. Our Content & Media services includesocial networking, online loyalty marketing, Web hosting and photo sharing. Ona combined basis, our Web properties attract a significant number of Internetusers each month and we offer marketers a broad array of Internet advertisingproducts as well as online market research and measurement services.

On April 10, 2006, weacquired MyPoints, a leading provider of online loyalty marketing services, forapproximately $56.6 million in cash. MyPoints is reported under ourContent & Media segment from the date of acquisition.

**Segment Definitions**

Wereport our businesses in two reportable segments:

| **Segment**               | ** ** | ** **                                                            | ** ** | **Internet Services** | ** ** |
|---------------------------|------------|-----------------------------------------------------------------------|------------|-----------------------|------------|
| Communications            |       | Internet access, email,  Internet security, family services and VoIP. |       |
| Content &  Media |       | Social networking, loyalty marketing, Web hosting  and photo sharing. |       |

 

**Consumer Brands andServices**

***Communications***

We offer a variety of Communications-based services,both free of charge and subscription-based, under a number of brands,which include the following:

*InternetAccess:*   NetZero,Juno and BlueLight;

*VoIP:*   NetZero Voiceand PrivatePhone;

*Email:**  *NetZeroMegaMail and Juno MegaMail; and

*Other Services:**  *NetZeroFamily Pack, Juno Family Pack and Norton Internet Security.

*Internet Access*

Our basic pay accessservices include Internet access and an email account and are offered throughvarious pricing plans, generally $9.95 per month. We also offer acceleratedaccess services which are bundled with additional benefits such as pop-upblocking, antivirus software, enhanced email storage and VoIP telephonycapabilities, for up to $14.95 per month. Our accelerated access servicesutilize technologies to reduce the time for certain Web pages to downloadto users’ computers when compared to our basic access services. We generallyoffer discounted pricing on our monthly access rates for subscribers that makeextended service commitments. NetZero and Juno also offer free access serviceswhich differ from their respective pay access services in that the hourly andcertain other limitations are set for the free services. In addition, the freeaccess services incorporate certain advertising initiatives, including apersistent advertising banner, not present on the pay services. Our accessservices are available in more than 9,000 cities across the United States andCanada.

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*VoIP*

NetZero Voice, a VoIPtelephony service, provides local and long distance calling over dial-up andbroadband Internet connections. We offer a free version of our VoIP servicewhich enables users to make unlimited computer-to-computer calls and instanttext message one another at no charge and includes a free voicemail accountintegrated with email into one convenient message center. Our pay VoIP serviceplans have all of the features of the free service and we offer pricing plansat $3.95 and $14.95 per month which include a dedicated phone number and up tounlimited minutes to and from the publicly switched telephone network (PSTN)within the U.S., Canada and Puerto Rico. In addition, NetZero Voice offersinternational PSTN calling at attractively priced rates per minute and a numberof other features such as call forwarding. PrivatePhone is a free Internetphone service that offers a free phone number and voicemail that does notrequire the use of a computer to sign up or check messages. Users can choose aphone number from most area codes in the U.S. and use it instead of their homeor mobile phone number as a way to screen calls.

*Email*

We offer free Web-basedemail services, including up to one gigabyte of storage, anti-spam protection,address book importing, photo viewing and more. NetZero and Juno offer premiumemail services under the MegaMail brand with expanded features and storagecapabilities through various pricing plans, generally $9.95 per year.

*Other Services*

The Family Pack bundlestogether leading third-party produced family-oriented Internet services and isoffered to subscribers for $4.95 per month. Our accelerated access servicesinclude Norton’s antivirus service free of charge and members can upgrade to amore complete Norton Internet Security package that includes antispyware,parental controls and other features for an additional $1.95 per month.

***Content &Media***

We offer a variety of Content & Mediaproducts and services, both free of charge and subscription-based, undera number of brands, which include the following:

*SocialNetworking:**  *Classmates,StayFriends, The Names Database and Klassträffen;

*LoyaltyMarketing:*   MyPoints;

*WebHosting:**  *FreeServers,50megs, Bizhosting and Global Servers; and

*Online Photos:**  *PhotoSite.

*Social Networking*

Connecting millions ofusers primarily across the United States and, to a lesser extent, Germany,Sweden, Canada and other major English-speaking countries, including the UnitedKingdom and India, our social-networking services allow members to stay intouch with people from their past. Membership in our social-networking servicesis free and allows users to post a personal profile, access and search ourdatabase of other registered members within personally relevant onlinecommunities from school, work and the military. In addition to the features ofour free social-networking services, our pay services also enable subscribersto communicate with other members and are offered through various pricingplans, generally $39.00 per year or $15.00 for three months in the U.S. Oursocial-networking properties also contain advertising initiatives throughouttheir Web sites.

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*Loyalty Marketing*

In April 2006, weacquired MyPoints.com, Inc. MyPoints offers advertisers and retailers directmarketing solutions such as rewards-based Web shopping, targeted emails basedon self-reported and behavioral data, and online surveys that pre-qualify itsmembers for targeted offers. MyPoints members are rewarded with points forclicking or shopping through MyPoints’ emails, for shopping through theMyPoints’ Web site, and for completing surveys. The points are then redeemablefor gift cards and other benefits with various partners.

*Web Hosting*

Our Web-hosting services,which include domain name registration services, are offered through variouspricing plans, generally from $1.99 to $9.99 per month. A limited,advertising-supported version of the service is offered free of charge.

*Online Photos*

PhotoSite is an onlinedigital photo-sharing service, which enables users to display photos, orderprints and create custom photo albums, Web logs and full computer screenslideshows on their own personal photo Web site. With PhotoSite, users cancatalog and store digital photos by subject matter, allowing convenientsearches of photos by other users. Prices for subscription services range from$1.99 per month to $4.99 per month and a limited version of the service isoffered free of charge.

**Account Metrics**

At June 30,2006, we had approximately 5.0 million pay accounts and approximately 20.7million active accounts. A pay account represents a unique billing relationshipwith a customer who subscribes to one or more of our pay services. “Active”accounts include total pay accounts as well as free users who have logged ontoour access, social-networking, email or VoIP services during the preceding31 days. Active accounts also include those free hosted Web sites thathave received at least one visit during the preceding 90 days; the numberof free photo-sharing users that logged on to the service at least once withinthe preceding 90 days; and the number of MyPoints’ members who earned or spentpoints within the preceding 90 days. The following table sets forth (inthousands), for the periods presented, an analysis of our pay accounts.

| ** **                 | ** ** | **June 30,  2006** | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** | **September 30,  2005** | ** ** | **June 30,  2005** | ** ** |
|----------------------------|------------|-------------------------|------------|--------------------------|------------|-----------------------------|------------|------------------------------|------------|-------------------------|------------|
| Communications:            |       |                    |       |                     |       |                        |       |                         |       |                    |       |   |   |   |   |   |   |   |   |   |   |
| Access                     |       |                    | 2,556      |                     |       |                        | 2,751      |                         |       |                    | 2,855      |   |   |   | 2,980 |   |   |   | 3,078 |   |   |
| Other                      |       |                    | 330        |                     |       |                        | 321        |                         |       |                    | 313        |   |   |   | 301 |   |   |   | 286 |   |   |
| Total                      |       |                    | 2,886      |                     |       |                        | 3,072      |                         |       |                    | 3,168      |   |   |   | 3,281 |   |   |   | 3,364 |   |   |
| Content &  Media: |       |                    |       |                     |       |                        |       |                         |       |                    |       |   |   |   |   |   |   |   |   |   |   |
| Social networking          |       |                    | 2,029      |                     |       |                        | 1,945      |                         |       |                    | 1,766      |   |   |   | 1,686 |   |   |   | 1,599 |   |   |
| Other                      |       |                    | 81         |                     |       |                        | 76         |                         |       |                    | 75         |   |   |   | 73 |   |   |   | 70 |   |   |
| Total                      |       |                    | 2,110      |                     |       |                        | 2,021      |                         |       |                    | 1,841      |   |   |   | 1,759 |   |   |   | 1,669 |   |   |
| Total pay accounts         |       |                    | 4,996      |                     |       |                        | 5,093      |                         |       |                    | 5,009      |   |   |   | 5,040 |   |   |   | 5,033 |   |   |

 

In general, we count andtrack pay accounts and free accounts by unique member identifiers. Users havethe ability to register for separate services under separate brands and memberidentifiers independently. We do not track whether a pay account has purchasedmore than one of our services unless the account uses the same memberidentifier. As a result, total active free accounts may not represent 

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uniquefree users. In addition, a free Web-hosting account is determined to be activeif there was a visit to the site during the preceding 90 days, and it maybe that the creator of the site no longer maintains or updates the site. Assuch, a free Web-hosting account may not represent an ongoing relationship withthe person who set up the account. At any point in time, our pay account baseincludes a number of accounts receiving a free period of service as either apromotion or retention tool, a number of accounts that have notified us thatthey are terminating their service but whose service is still in effect and mayalso include a few thousand internal test accounts.

**Results ofOperations**

Thefollowing tables set forth (with dollars in thousands), for the periodspresented, selected historical statements of operations data. The informationcontained in the tables below should be read in conjunction with Liquidity andCapital Resources and Financial Commitments included in this Item 2 aswell as the consolidated financial statements and notes thereto included elsewherein this Quarterly Report on Form 10-Q.

| ** **                                            | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                            | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Billable services                                     |       | $                                     | 108,858    |                                          | $          | 117,490 |   | $ | 220,014 |   | $ | 233,719 |   |
| Advertising                                           |       | 26,042                                |       | 14,030                                        |       | 42,218 |   | 28,332 |   |
| Total revenues                                        |       | 134,900                               |       | 131,520                                       |       | 262,232 |   | 262,051 |   |
| Operating  expenses:                                  |       |                                  |       |                                          |       |   |   |   |   |
| Cost of revenues                                      |       | 31,146                                |       | 27,419                                        |       | 61,036 |   | 55,198 |   |
| Sales and marketing                                   |       | 46,137                                |       | 53,803                                        |       | 89,556 |   | 107,886 |   |
| Product development                                   |       | 13,385                                |       | 9,558                                         |       | 26,201 |   | 18,664 |   |
| General and administrative                            |       | 17,422                                |       | 14,227                                        |       | 33,668 |   | 26,827 |   |
| Amortization of intangible assets                     |       | 4,552                                 |       | 5,654                                         |       | 8,941 |   | 11,632 |   |
| Total operating expenses                              |       | 112,642                               |       | 110,661                                       |       | 219,402 |   | 220,207 |   |
| Operating income                                      |       | 22,258                                |       | 20,859                                        |       | 42,830 |   | 41,844 |   |
| Interest and  other income, net                       |       | 1,354                                 |       | 1,592                                         |       | 3,070 |   | 3,009 |   |
| Interest expense                                      |       | (411                                  | )          | (1,355                                        | )          | (2,127 | ) | (3,357 | ) |
| Income before  income taxes                           |       | 23,201                                |       | 21,096                                        |       | 43,773 |   | 41,496 |   |
| Provision for  income taxes                           |       | 11,616                                |       | 10,424                                        |       | 20,537 |   | 19,337 |   |
| Income before  cumulative effect of accounting change |       | 11,585                                |       | 10,672                                        |       | 23,236 |   | 22,159 |   |
| Cumulative effect  of accounting change, net of tax   |       | —                                |       | —                                        |       | 1,041 |   | — |   |
| Net income                                            |       | $                                     | 11,585     |                                          | $          | 10,672 |   | $ | 24,277 |   | $ | 22,159 |   |

 

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Informationfor our two key segments is as follows:

| ** **                      | ** ** | **Communications**                    | ** ** | **Content & Media**     | ** ** |
|---------------------------------|------------|---------------------------------------|------------|---------------------------------------|------------|
| ** **                      | ** ** | **Quarter Ended  June 30,** | ** ** | **Quarter Ended  June 30,** | ** ** |
| ** **                      | ** ** | **2006**                              | ** ** | **2005**                              | ** ** | **2006** | ** ** | **2005** | ** ** |
| Billable services               |       | $                                     | 87,161     |                                  | $          | 100,847 |   | $ | 21,697 |   | $ | 16,643 |   |
| Advertising                     |       | 9,087                                 |       | 8,673                                 |       | 16,955 |   | 5,357 |   |
| Total revenues                  |       | 96,248                                |       | 109,520                               |       | 38,652 |   | 22,000 |   |
| Operating expenses:             |       |                                  |       |                                  |       |   |   |   |   |
| Cost of revenues                |       | 20,887                                |       | 21,957                                |       | 7,555 |   | 3,326 |   |
| Sales and marketing             |       | 28,166                                |       | 39,559                                |       | 16,838 |   | 13,961 |   |
| Product development             |       | 7,303                                 |       | 6,358                                 |       | 3,199 |   | 1,986 |   |
| General and administrative      |       | 4,318                                 |       | 4,345                                 |       | 3,703 |   | 2,674 |   |
| Total operating expenses        |       | 60,674                                |       | 72,219                                |       | 31,295 |   | 21,947 |   |
| Segment income  from operations |       | $                                     | 35,574     |                                  | $          | 37,301 |   | $ | 7,357 |   | $ | 53 |   |

 

| ** **                      | ** ** | **Communications**                            | ** ** | **Content & Media**             | ** ** |
|---------------------------------|------------|-----------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                      | ** ** | **Six Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
| ** **                      | ** ** | **2006**                                      | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Billable services               |       | $                                             | 177,820    |                                          | $          | 202,003 |   | $ | 42,194 |   | $ | 31,715 |   |
| Advertising                     |       | 18,770                                        |       | 17,532                                        |       | 23,448 |   | 10,801 |   |
| Total revenues                  |       | 196,590                                       |       | 219,535                                       |       | 65,642 |   | 42,516 |   |
| Operating expenses:             |       |                                          |       |                                          |       |   |   |   |   |
| Cost of revenues                |       | 44,950                                        |       | 44,551                                        |       | 10,708 |   | 6,422 |   |
| Sales and marketing             |       | 58,451                                        |       | 83,415                                        |       | 28,969 |   | 24,039 |   |
| Product development             |       | 15,221                                        |       | 13,386                                        |       | 5,612 |   | 3,435 |   |
| General and administrative      |       | 8,926                                         |       | 8,061                                         |       | 6,702 |   | 5,372 |   |
| Total operating expenses        |       | 127,548                                       |       | 149,413                                       |       | 51,991 |   | 39,268 |   |
| Segment income  from operations |       | $                                             | 69,042     |                                          | $          | 70,122 |   | $ | 13,651 |   | $ | 3,248 |   |

 

Areconciliation of segment income from operations (which excludes corporateexpenses, depreciation, amortization of intangible assets and stock-basedcompensation) to consolidated operating income, is as follows for each periodpresented (in thousands):

| ** **                            | ** ** | **Quarter Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|
| ** **                            | ** ** | **2006**                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| Segment income  from operations:      |       |                                  |       |                                          |       |   |   |   |   |
| Communications                        |       | $                                     | 35,574     |                                          | $          | 37,301 |   | $ | 69,042 |   | $ | 70,122 |   |
| Content & Media              |       | 7,357                                 |       | 53                                            |       | 13,651 |   | 3,248 |   |
| Total segment  income from operations |       | 42,931                                |       | 37,354                                        |       | 82,693 |   | 73,370 |   |
| Corporate expenses                    |       | (4,912                                | )          | (4,137                                        | )          | (10,037 | ) | (8,641 | ) |
| Depreciation                          |       | (5,345                                | )          | (3,784                                        | )          | (10,052 | ) | (7,258 | ) |
| Amortization of intangible assets     |       | (4,552                                | )          | (5,654                                        | )          | (8,941 | ) | (11,632 | ) |
| Stock-based compensation              |       | (5,864                                | )          | (2,920                                        | )          | (10,833 | ) | (3,995 | ) |
| Consolidated operating  income        |       | $                                     | 22,258     |                                          | $          | 20,859 |   | $ | 42,830 |   | $ | 41,844 |   |

 

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**Revenues**

*Billable ServicesRevenues*

Billable services revenues consist of fees charged topay accounts for our pay services and for technical support. Our billableservices revenues are primarily dependent on two factors: the average number ofpay accounts for a period and the average monthly revenue per pay account (“ARPU”)for a period. The average number of pay accounts is a simple average calculatedbased on the number of pay accounts at the beginning and end of a period. ARPUis calculated by dividing billable services revenues for a period by theaverage number of pay accounts for that period. ARPU may fluctuate from periodto period as a result of a variety of factors including changes in the mix ofpay subscriptions and their related pricing plans; the use of promotions, suchas one or more free months of service, and discounted pricing plans to obtainor retain subscribers; increases or decreases in the price of our services; thenumber of services subscribed to by each pay account; pricing and success ofnew pay services and the penetration of these types of services as a percentageof total pay accounts; and the timing of pay accounts being added or removedduring a period.

*ConsolidatedBillable Services Revenues.*   Consolidatedbillable services revenues decreased by $8.6 million, or 7%, to $108.9 millionfor the quarter ended June 30, 2006, compared to $117.5 million for thequarter ended June 30, 2005. Consolidated billable services revenuesdecreased by $13.7 million, or 6%, to $220.0 million for the six months ended June 30,2006, compared to $233.7 million for the six months ended June 30, 2005.The decrease in billable services revenues was due to a decrease in billableservices revenues from our Communications segment, partially offset by anincrease in revenues from our Content & Media segment. Billableservices revenues from our Communications segment and from our Content &Media segment constituted 80.1% and 19.9%, respectively, of our consolidatedbillable services revenues for the quarter ended June 30, 2006, comparedto 85.8% and 14.2%, respectively, for the quarter ended June 30, 2005.Billable services revenues from our Communications segment and from our Content &Media segment constituted 80.8% and 19.2%, respectively, of our consolidatedbillable services revenues for the six months ended June 30, 2006,compared to 86.4% and 13.6%, respectively, for the six months ended June 30,2005. We anticipate that the decline in our billable services revenues willcontinue as a result of expected continued declines in Communications billableservices revenues while, at least for the September 30, 2006 quarter, weexpect Content and Media billable services revenues to grow modestly.

*CommunicationsBillable Services Revenues.***  **Communicationsbillable services revenues consist of fees charged to pay accounts for access,email, Internet security, antivirus and VoIP services, with substantially allfrom access. Communications billable services revenues decreased by $13.7million, or 13.6%, to $87.2 million for the quarter ended June 30,2006, compared to $100.8 million for the quarter ended June 30, 2005.Communications billable services revenues decreased by $24.2 million, or 12.0%,to $177.8 million for the six months ended June 30, 2006, compared to$202.0 million for the six months ended June 30, 2005. The decrease inbillable services revenues was due to a 12% decrease in our average number ofpay accounts from 3,376,000 for the quarter ended June 30, 2005 to2,979,000 for the quarter ended June 30, 2006 and a 9% decrease in ouraverage number of pay accounts from 3,334,000 for the six months ended June 30,2005 to 3,027,000 for the six months ended June 30, 2006. The decreasesare attributable to a decreased number of pay access accounts. Additionally,Communications billable services revenues decreased due to a 2% decrease inARPU from $9.96 for the quarter ended June 30, 2005 to $9.75 for thequarter ended June 30, 2006 and a 3% decrease in ARPU from $10.10 for thesix months ended June 30, 2005 to $9.79 for the six months ended June 30,2006. The decrease in ARPU is primarily attributable to a decline in ARPU forour access services due to increased use of free months of service andpromotional pricing to obtain or retain pay access accounts. We anticipate thatthe average number of Communications pay accounts will continue to decline dueto decreases in pay access accounts. We also may experience further declines inARPU primarily as a result of discounted prices for extended servicecommitments on our access services, including providing our $14.95 acceleratedaccess services at $9.95 for 

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a one-year commitment. Asa result of these factors, the rate of decline in Communications billableservices revenues has been increasing and may continue to increase, at least inthe near term.

*Content & MediaBillable Services Revenues.***  **Content &Media billable services revenues consist of fees charged to pay accounts forsocial-networking, Web-hosting and online photo-sharing services, with the vastmajority related to social-networking accounts. Content & Mediabillable services revenues increased by $5.1 million, or 30.4%, to$21.7 million for the quarter ended June 30, 2006, compared to$16.6 million for the quarter ended June 30, 2005. Content &Media billable services revenues increased by $10.5 million, or 33.0%, to$42.2 million for the six months ended June 30, 2006, compared to$31.7 million for the six months ended June 30, 2005. The increase inContent & Media billable services revenues was due to a 28% increasein our average number of pay accounts from 1,616,000 for the quarter ended June 30,2005 to 2,066,000 for the quarter ended June 30, 2006 and a 24% increasein our average number of pay accounts from 1,595,000 for the six months ended June 30,2005 to 1,975,000 for the six months ended June 30, 2006. Substantiallyall of this increase was associated with growth in our social-networking payaccounts primarily as a result of organic growth and, to a lesser extent, theacquisition of pay accounts associated with the Names Database business in March 2006,which had approximately 58,000 pay accounts at the time of the acquisition.Billable services revenues from other Content & Media servicesdecreased slightly for the quarter and six months ended June 30, 2006compared to the quarter and six months ended June 30, 2005. Additionally,Content & Media billable services revenues increased due to a 2%increase in ARPU from $3.43 for the quarter ended June 30, 2005 to $3.50for the quarter ended June 30, 2006 and a 7% increase in ARPU from $3.31for the six months ended June 30, 2005 to $3.56 for the six months ended June 30,2006. The increases in ARPU are primarily attributable to increases in ARPU forour social-networking services due to a greater percentage of those payaccounts represented by higher-priced, shorter-term pay service plans. Weanticipate that Content & Media billable services revenues, as well asContent & Media pay accounts, will be slightly up in the September 2006quarter when compared to the June 2006 quarter.

*AdvertisingRevenues*

We connect advertisers to consumers through a varietyof online marketing initiatives integrated throughout our services and Webproperties, including advertising and search placements, email campaigns anduser registration placements. In addition, we offer advertisers sophisticatedmarket research capabilities. Factors impacting our advertising revenuesgenerally include changes in orders from significant customers, the performanceof our online marketing initiatives, the state of the online search andadvertising markets, seasonality, increases or decreases in our activeaccounts, and increases or decreases in advertising inventory available forsale.

*ConsolidatedAdvertising Revenues.*   Consolidated advertisingrevenues increased by $12.0 million, or 86%, to $26.0 million for the quarterended June 30, 2006, compared to $14.0 million for the quarter ended June 30,2005. Consolidated advertising revenues increased by $13.9 million, or 49%, to$42.2 million for the six months ended June 30, 2006, compared to $28.3million for the six months ended June 30, 2005. The increase was primarilyattributable to increases in advertising revenues in our Content &Media segment and, to a lesser extent, our Communications segment. Advertisingrevenues from our Communications segment and from our Content & Mediasegment constituted 34.9% and 65.1%, respectively, of our consolidatedadvertising revenues for the quarter ended June 30, 2006, compared to61.8% and 38.2%, respectively, for the quarter ended June 30, 2005.Advertising revenues from our Communications segment and from our Content &Media segment constituted 44.5% and 55.5%, respectively, of our consolidatedadvertising revenues for the six months ended June 30, 2006, compared to61.9% and 38.1%, respectively, for the six months ended June 30, 2005. Weanticipate that our consolidated advertising revenues will remain relativelyflat to slightly up in the September 2006 quarter 

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when compared to the June 2006quarter as it is anticipated that increases in Communications advertisingrevenues will more than offset decreases in Content & Mediaadvertising revenues.

*CommunicationsAdvertising Revenues.*   Communications advertisingrevenues increased by $0.4 million, or 4.8%, to $9.1 million for thequarter ended June 30, 2006, from $8.7 million for the quarter endedJune 30, 2005. Communications advertising revenues increased by $1.2 million,or 7.1%, to $18.8 million for the six months ended June 30, 2006,compared to $17.5 million for the six months ended June 30, 2005. Theincreases were primarily attributable to increases in advertising sales anddata revenue, partially offset by decreases in revenue-related search queriesdue to a decline in our active access accounts.

*Content &Media Advertising Revenues.***  **Content &Media advertising revenues increased by $11.6 million to $17.0 millionfor the quarter ended June 30, 2006, compared to $5.4 million for thequarter ended June 30, 2005. The increase was due to increased advertisingrevenues as a result of revenues generated from our loyalty marketing serviceswhich was acquired in April 2006, partially offset by a small decline inadvertising revenues generated from our social-networking services.

Content & Mediaadvertising revenues increased by $12.6 million to $23.4 million forthe six months ended June 30, 2006, compared to $10.8 million for thesix months ended June 30, 2005. The increase was related to the revenuesassociated with our loyalty marketing services which was acquired inApril 2006 and, to a lesser extent, an increase in advertising revenuesgenerated from our social-networking services as a result of improved pricingfor our advertising inventory and increased inventory primarily due to growthin our active accounts, offset partially by a decrease in advertising revenuesgenerated from our Web-hosting services. It is anticipated thatContent & Media advertising revenues will decrease in theSeptember 2006 quarter as a result of decreases in advertising inventoryon our social-networking services as well as seasonality associated with ourloyalty marketing business.

**Cost of Revenues**

Cost of revenues includes telecommunications and datacenter costs; personnel and overhead-related costs associated with operatingour networks and data centers; depreciation of network computers and equipment;email technical support and license fees; costs related to providing telephonetechnical support; customer billing and billing support to our pay accounts;domain name registration fees; and costs of providing awards to members of ourloyalty marketing programs. The majority of the costs that comprise ourCommunications cost of revenues are variable. As such, our Communications costof revenues as a percentage of revenues is highly dependent on our ARPU, our averagehourly telecommunications cost and usage, and our average customer billing andsupport costs per pay account. Although the costs that comprise ourContent & Media cost of revenues were relatively fixed in the past, asa result of the acquisition of MyPoints, these costs have become more variableand have increased significantly as a percentage of revenues.

*ConsolidatedCost of Revenues.*   Consolidated cost of revenuesincreased by $3.7 million, or 14%, to $31.1 million for the quarterended June 30, 2006, compared to $27.4 million for the quarter endedJune 30, 2005. The increase was primarily due to increased costsassociated with our Content & Media segment as well as a $0.4 millionincrease in depreciation and a $0.2 million increase in stock-based compensationin connection with the adoption of Statement of Financial Accounting Standards(“SFAS”) No. 123R in the March 2006 quarter. Cost of revenues for ourCommunications segment and for our Content & Media segment constituted73.4% and 26.6%, respectively, of our total segment cost of revenues for thequarter ended June 30, 2006, compared to 86.8% and 13.2%, respectively,for the quarter ended June 30, 2005.

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Consolidated cost of revenues increased by $5.8 million,or 11%, to $61.0 million for the six months ended June 30, 2006,compared to $55.2 million for the six months ended June 30, 2005. Theincrease was primarily due to increased costs associated with our Content &Media segment and, to a lesser extent, increased costs associated with ourCommunications segment as well as a $0.7 million increase in depreciationand a $0.4 million increase in stock-based compensation in connection withthe adoption of SFAS No. 123R in the March 2006 quarter. Cost ofrevenues for our Communications segment and for our Content & Mediasegment constituted 80.8% and 19.2%, respectively, of our total segment cost ofrevenues for the six months ended June 30, 2006, compared to 87.4% and12.6%, respectively, for the six months ended June 30, 2005.

*CommunicationsCost of Revenues.*   Communications cost ofrevenues decreased by $1.1 million, or 4.9%, to $20.9 million for thequarter ended June 30, 2006, compared to $22.0 million for thequarter ended June 30, 2005. The decrease was primarily due to a $1.6 milliondecrease in telecommunications costs and a $1.1 million decrease incustomer support and billing-related costs as a result of a decrease in thenumber of pay accounts. These decreases were partially offset by $1.0 millionin costs associated with our VoIP service and a $0.6 million increase innetwork personnel and overhead-related costs. As a percentage of Communicationsrevenues, Communications cost of revenues increased to 21.7% in the quarterended June 30, 2006, compared to 20.0% in the quarter ended June 30,2005, primarily as a result of decreases in ARPU for our access servicescombined with the increased costs discussed above.

Communications cost of revenues increased by $0.4 million,or 0.9%, to $45.0 million for the six months ended June 30, 2006,compared to $44.6 million for the six months ended June 30, 2005. Theincrease was primarily due to $2.7 million in costs associated with ourVoIP service and a $1.6 million increase in network personnel andoverhead-related costs. These increases were partially offset by a $2.4 milliondecrease in telecommunications costs and a $1.5 million decrease incustomer support and billing-related costs as a result of a decrease in thenumber of pay accounts. Telecommunications costs decreased as a result of adecrease in the average number of pay accounts, offset by an increase inaverage monthly usage per pay access account and a slight increase in averagehourly telecommunications costs. As a percentage of Communications revenues,Communications cost of revenues increased to 22.9% in the six months ended June 30,2006, compared to 20.3% in the six months ended June 30, 2005, primarilyas a result of decreases in ARPU for our access services combined with the increasedcosts discussed above. We anticipate that Communications cost of revenues as apercentage of Communications revenues may remain relatively flat in the nearterm.

*Content &Media Cost of Revenues.***  **Content &Media cost of revenues increased by $4.2 million to $7.6 million forthe quarter ended June 30, 2006, compared to $3.3 million for thequarter ended June 30, 2005. Content & Media cost of revenuesincreased by $4.3 million, or 67%, to $10.7 million for the sixmonths ended June 30, 2006, compared to $6.4 million for the sixmonths ended June 30, 2005. The increase was primarily related to costsassociated with our loyalty marketing service which was acquired in April 2006,and to a lesser extent, increased costs associated with our social-networkingservices. As a percentage of Content & Media revenues, Content &Media cost of revenues increased to 19.5% in the quarter ended June 30,2006, compared to 15.1% in the quarter ended June 30, 2005. As apercentage of Content & Media revenues, Content & Media costof revenues increased to 16.3% in the six months ended June 30, 2006,compared to 15.1% in the six months ended June 30, 2005.

We anticipate that Content &Media cost of revenues as a percentage of Content & Media revenueswill increase as a result of the loyalty marketing acquisition and may varysignificantly from quarter-to-quarter depending on increases or decreases inadvertising revenue, which can be impacted by seasonality.

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**Sales and Marketing**

Sales and marketing expenses include advertising andpromotion expenses, performance fees paid to distribution partners to acquirenew accounts, personnel-related expenses for sales and marketing personnel andtelemarketing costs incurred to acquire and retain pay accounts and up-sell payaccounts to additional services. Marketing and advertising costs to promote ourproducts and services are expensed in the period incurred. Advertising andpromotion expenses include media, agency and promotion expenses. Mediaproduction costs are expensed the first time the advertisement is run. Mediaand agency fees are expensed over the period the advertising runs. Salesexpenses are expensed in the period incurred or, in the case of commissionspaid to sales personnel, when the associated advertising revenue is recognized.

*ConsolidatedSales and Marketing Expenses.*   Consolidated salesand marketing expenses decreased by $7.7 million, or 14%, to $46.1 millionfor the quarter ended June 30, 2006, compared to $53.8 million forthe quarter ended June 30, 2005. The decrease is primarily attributable toa significant reduction in marketing expenses related to our Communicationssegment, partially offset by an increase in marketing expenses related to ourContent & Media segment and a $0.8 million increase instock-based compensation in connection with the adoption of SFAS No. 123Rin the March 2006 quarter. Sales and marketing expenses related to ourCommunications segment and our Content & Media segment constituted62.6% and 37.4%, respectively, of total segment sales and marketing expensesfor the quarter ended June 30, 2006 versus 73.9% and 26.1%, respectively,for the quarter ended June 30, 2005.

Consolidated sales and marketing expenses decreased by$18.3 million, or 17%, to $89.6 million for the six months ended June 30,2006, compared to $107.9 million for the six months ended June 30,2005. The decrease is primarily attributable to a significant reduction inmarketing expenses related to our Communications segment, partially offset byan increase in marketing expenses related to our Content & Mediasegment and a $1.7 million increase in stock-based compensation inconnection with the adoption of SFAS No. 123R in the March 2006quarter. Sales and marketing expenses related to our Communications segment andour Content & Media segment constituted 66.9% and 33.1%, respectively,of total segment sales and marketing expenses for the six months ended June 30,2006 versus 77.6% and 22.4%, respectively, for the six months ended June 30,2005.

*CommunicationsSales and Marketing Expenses.*   Communicationssales and marketing expenses decreased by $11.4 million, or 28.8%, to$28.2 million for the quarter ended June 30, 2006, compared to $39.6 millionfor the quarter ended June 30, 2005. This decrease is attributable to a$17.9 million decline in advertising, promotion and distribution costsrelated to our access services, the majority of which was due to reductions inmedia and other advertising costs. These decreases were partially offset by a$5.7 million increase in VoIP marketing expenses and a $0.8 millionincrease in Communications personnel and overhead-related expenses. VoIPmarketing expenses included the launch of PrivatePhone and the expensing ofproduction costs for a VoIP television commercial, and it is not expected thatVoIP marketing expenses will remain at that level in the near term. Sales andmarketing expenses as a percentage of Communications revenues declined to 29.3%in the quarter ended June 30, 2006 from 36.1% in the quarter ended June 30,2005.

Communications sales and marketing expenses decreasedby $25.0 million, or 29.9%, to $58.5 million for the six months endedJune 30, 2006, compared to $83.4 million for the six months ended June 30,2005. This decrease is attributable to a $32.7 million decline inadvertising, promotion and distribution costs related to our access services,the majority of which was due to reductions in media and other advertisingcosts. These decreases were partially offset by a $6.5 million increase inVoIP marketing expenses and a $1.3 million increase in Communicationspersonnel and overhead-related expenses. Sales and marketing expenses as apercentage of Communications revenues declined to 29.7% in the six months endedJune 30, 2006 from 38.0% in the six months ended June 30, 2005.

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While our advertising and media costs continue torepresent the majority of our segment marketing expenses, decreases in mediaand advertising costs have increased our reliance on distribution arrangementswhich are relatively more difficult to change or replace and which we believeare currently the most efficient means to acquire new pay accounts. As such,our flexibility to manage our marketing expenses without significantlyimpacting our ability to obtain new pay accounts may be adversely impactedgoing forward. We believe decreased marketing expenses for access services haveadversely affected the number of our pay access accounts. We may implementfurther reductions in access marketing expenses going forward, particularlyaccess media and advertising expenses, which will likely adversely affect ournumber of our pay access accounts. In addition, we may increase our marketingexpenses, which could adversely impact our profitability.

*Content &Media Sales and Marketing Expenses.*   Content &Media sales and marketing expenses increased by $2.9 million, or 20.6%, to$16.8 million for the quarter ended June 30, 2006, compared to $14.0 millionfor the quarter ended June 30, 2005. The increase was the result of anincrease in costs associated with our loyalty marketing service which wasacquired in April 2006 and a $1.0 million increase in personnel and overhead-relatedexpenses. These increases were partially offset by a $2.0 million decreasein marketing, promotion and distribution costs related to acquiring andretaining accounts, particularly social-networking accounts. The vast majorityof non-personnel Content & Media marketing expenses are associatedwith performance-based distribution arrangements. As a result of the rate ofgrowth in Content & Media revenues, sales and marketing expenses as apercentage of Content & Media revenues declined to 43.6% in thequarter ended June 30, 2006 from 63.5% in the quarter ended June 30,2005.

Content & Media sales and marketing expensesincreased by $4.9 million, or 20.5%, to $29.0 million for the sixmonths ended June 30, 2006, compared to $24.0 million for the sixmonths ended June 30, 2005. The increase was the result of an increase incosts associated with the acquisition of our loyalty marketing service and a $2.2 millionincrease in personnel and overhead-related expenses. These increases werepartially offset by a $1.1 million decrease in marketing, promotion anddistribution costs related to acquiring and retaining accounts, particularlyWeb hosting accounts. The vast majority of non-personnel Content &Media marketing expenses is associated with performance-based distributionarrangements. As a result of the rate of growth in Content & Mediarevenues, sales and marketing expenses as a percentage of Content &Media revenues declined to 44.1% in the six months ended June 30, 2006from 56.5% in the six months ended June 30, 2005.

We anticipate furtherincreases in segment sales and marketing expenses in the future, primarilyassociated with our Content & Media segment due to anticipatedincreases in sales and marketing expenses for our social-networking businessand our loyalty marketing business.

**Product Development**

Product development expenses include expenses for themaintenance of existing software and technology and the development of new orimproved software and technology, including personnel-related expenses for thesoftware engineering department and the costs associated with operating ourfacility in India. Costs incurred by us to manage, monitor and operate ourservices are generally expensed as incurred, except for certain costs relatingto the acquisition and development of internal-use software, which arecapitalized and depreciated over their estimated useful lives, generally threeyears or less.

*ConsolidatedProduct Development Expenses.*   Consolidatedproduct development expenses increased by $3.8 million, or 40%, to $13.4 millionfor the quarter ended June 30, 2006, compared to $9.6 million for thequarter ended June 30, 2005. The increase was attributable to increases inexpenses in the Communications and Content & Media segments, a $1.3 millionincrease in stock-based compensation in connection with the adoption of SFAS No. 123Rin the March 2006 quarter and a $0.4 million increase in 

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depreciation. Productdevelopment expenses related to our Communications segment and our Content &Media segment constituted 69.5% and 30.5%, respectively, of total segmentproduct development expenses for the quarter ended June 30, 2006, comparedto 76.2% and 23.8%, respectively, for the quarter ended June 30, 2005.

Consolidated product development expenses increased by$7.5 million, or 40%, to $26.2 million for the six months ended June 30,2006, compared to $18.7 million for the six months ended June 30,2005. The increase was attributable to increases in expenses in theCommunications and Content & Media segments, a $2.7 millionincrease in stock-based compensation in connection with the adoption of SFAS No. 123Rin the March 2006 quarter and a $0.8 million increase indepreciation. Product development expenses related to our Communicationssegment and our Content & Media segment constituted 73.1% and 26.9%,respectively, of total segment product development expenses for the six monthsended June 30, 2006, compared to 79.6% and 20.4%, respectively, for thesix months ended June 30, 2005.

*CommunicationsProduct Development Expenses.***  **Communicationsproduct development expenses increased by $0.9 million, or 14.9%, to $7.3 millionfor the quarter ended June 30, 2006, compared to $6.4 million for thequarter ended June 30, 2005. The increase was the result of a $0.6 millionincrease in compensation costs and a $0.3 million increase inoverhead-related costs. Capitalized compensation costs were $2.2 millionand $1.3 million in the quarters ended June 30, 2006 and 2005, respectively.The increase in capitalized compensation costs is due to projects associatedwith an upgrade to our customer billing system and the preparation of oursoftware for the anticipated release of Microsoft’s newest operating system.The increase was partially offset by capitalized compensation costs in the quarterended June 30, 2005 related to our enhanced accelerator service.

Communications product development expenses increasedby $1.8 million, or 13.7%, to $15.2 million for the six months ended June 30,2006, compared to $13.4 million for the six months ended June 30,2005. The increase was the result of a $1.3 million increase incompensation costs and a $0.5 million increase in overhead-related costs.Capitalized compensation costs were $3.9 million and $2.1 million inthe six months ended June 30, 2006 and 2005, respectively. The increase incapitalized compensation costs is due to an increase in projects associatedwith an upgrade to our customer billing system; the preparation of our softwarefor the anticipated release of Microsoft’s newest operating system; andprojects adding new features and functionality to our VoIP products. Theincrease was partially offset by capitalized compensation costs in the sixmonths ended June 30, 2005 related to our enhanced accelerator service.

*Content &Media Product Development Expenses.***  **Content & Media product development expensesincreased by $1.2 million, or 61.1%, to $3.2 million for the quarterended June 30, 2006, compared to $2.0 million for the quarter ended June 30,2005. The increase was primarily due to a $1.3 million increase inpersonnel-related expenses due to increased headcount related to oursocial-networking service and increased headcount associated with theacquisition, in April 2006, of our loyalty marketing service.

Content & Mediaproduct development expenses increased by $2.2 million, or 63.4%, to $5.6 millionfor the six months ended June 30, 2006, compared to $3.4 million forthe six months ended June 30, 2005. The increase was primarily due to a$2.1 million increase in personnel-related expenses due to increasedheadcount related to our social-networking and loyalty marketing services.

**General andAdministrative**

General and administrative expenses includepersonnel-related expenses for executive, finance, legal, human resources andinternal customer support personnel. In addition, general and administrativeexpenses include fees for professional legal, accounting and financialservices, office relocation costs, non-income taxes, insurance, andoccupancy and other overhead-related costs, as well as the expensesincurred and credits received as a result of certain legal settlements.

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*ConsolidatedGeneral and Administrative Expenses.***  **Consolidated general and administrative expensesincreased by $3.2 million, or 22%, to $17.4 million for the quarterended June 30, 2006, compared to $14.2 million for the quarter ended June 30,2005. The increase was due to increases in the Content & Media segmentand unallocated corporate expenses, a $0.8 million increase indepreciation and a $0.6 million increase in stock-based compensation inconnection with the adoption of SFAS No. 123R in the March 2006quarter. General and administrative expenses related to our Communicationssegment and our Content & Media segment constituted 53.8% and 46.2%,respectively, of total segment general and administrative expenses for thequarter ended June 30, 2006, compared to 61.9% and 38.1%, respectively,for the quarter ended June 30, 2005.

Consolidated general and administrative expensesincreased by $6.8 million, or 26%, to $33.7 million for the sixmonths ended June 30, 2006, compared to $26.8 million for the sixmonths ended June 30, 2005. The increase was due to increases in theCommunications and Content & Media segments and unallocated corporateexpenses, a $2.0 million increase in stock-based compensation inconnection with the adoption of SFAS No. 123R in the March 2006quarter and a $1.2 million increase in depreciation. General andadministrative expenses related to our Communications segment and our Content &Media segment constituted 57.1% and 42.9%, respectively, of total segmentgeneral and administrative expenses for the six months ended June 30,2006, compared to 60.0% and 40.0%, respectively, for the six months ended June 30,2005.

*CommunicationsGeneral and Administrative Expenses.*   Communicationsgeneral and administrative expenses were $4.3 million and remainedrelatively flat for the quarter ended June 30, 2006 compared to thequarter ended June 30, 2005. These expenses included a $0.6 millionincrease in compensation costs and a $0.2 million increase in facilitiesand other overhead-related expenses, offset by a $0.6 million decrease inconsulting fees and a $0.3 million decrease in recruiting and relocationexpenses.

Communications general and administrative expensesincreased by $0.9 million, or 10.7%, to $8.9 million for the sixmonths ended June 30, 2006, compared to $8.1 million for the sixmonths ended June 30, 2005. The increase was due to a $1.1 millionincrease in compensation costs and a $0.3 million increase in facilitiesand other overhead-related costs, offset partially by a $0.3 milliondecrease in consulting fees and a $0.2 million decrease in recruiting andrelocation expenses.

*Content &Media General and Administrative Expenses.***  **Content & Media general and administrativeexpenses increased by $1.0 million, or 38.5%, to $3.7 million for thequarter ended June 30, 2006, compared to $2.7 million for the quarterended June 30, 2005. The increase was due to a $0.4 million increasein compensation costs related to our loyalty marketing service which wasacquired in April 2006, partially offset by a decrease in compensationcosts associated with our social-networking service; a $0.4 millionincrease in facilities and other overhead-related costs primarily related toour loyalty marketing service; and a $0.3 million increase in consultingfees.

Content & Media general and administrativeexpenses increased by $1.3 million, or 24.8%, to $6.7 million for thesix months ended June 30, 2006, compared to $5.4 million for the sixmonths ended June 30, 2005. The increase was due to a $0.7 millionincrease in facilities and other overhead-related costs; a $0.4 millionincrease in compensation costs primarily related to our loyalty marketingservice which was acquired in April 2006, partially offset by a decreasein compensation costs associated with our social-networking service; and a $0.3 millionincrease in consulting fees.

*UnallocatedCorporate Expenses.***  **Excludingstock-based compensation and depreciation,****unallocatedcorporate general and administrative expenses increased by $0.8 million,or 19%, to $4.9 million for the quarter ended June 30, 2006, comparedto $4.1 million for the quarter ended June 30, 2005. The increase wasprimarily due to an increase in legal reserves and increased consulting fees, offset partially by a decrease incompensation costs.

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Unallocated corporategeneral and administrative expenses increased by $1.4 million, or 16%, to$10.0 million for the six months ended June 30, 2006, compared to$8.6 million for the six months ended June 30, 2005. The increase wasprimarily due to an increase in legal reserves, increased compensation costsand increased consulting fees.

**Amortization ofIntangible Assets**

Amortization of intangible assets includesamortization of acquired pay accounts and free accounts, acquired trademarksand trade names, purchased technologies and other identifiable intangibleassets. In accordance with the provisions set forth in SFAS No. 142, *Goodwill and Other Intangible Assets*, goodwill is not beingamortized but is tested for impairment at a reporting unit level on an annualbasis and between annual tests if an event occurs or circumstances change thatwould more likely than not reduce the fair value of a reporting unit below itscarrying value amount.

Consolidated amortizationof intangible assets decreased by $1.1 million, or 19%, to $4.6 millionfor the quarter ended June 30, 2006, compared to $5.7 million for thequarter ended June 30, 2005. Consolidated amortization of intangible assetsdecreased by $2.7 million, or 23%, to $8.9 million for the six monthsended June 30, 2006, compared to $11.6 million for the six monthsended June 30, 2005. The decreases were primarily attributable to theaccelerated amortization of certain intangible assets in the March 2005quarter, partially offset by increased amortization related to intangibleassets acquired in connection with the acquisitions of The Names Database inthe March 2006 quarter and MyPoints in the June 2006 quarter.

**Interest and Other Income,Net**

Interest income consists of earnings on our cash, cashequivalents and short-term investments. Other income and expense, net consistsof realized gains and losses recognized in connection with the sale ofshort-term investments.

Interest and other income, net decreased by $0.2 million,or 15%, to $1.4 million for the quarter ended June 30, 2006, comparedto $1.6 million for the quarter ended June 30, 2005 as a result oflower average balances on our cash and cash equivalents and short-term investments,partially offset by higher yields in our investment portfolio. Net realizedgains on our short-term investments were not significant for the quarters endedJune 30, 2006 and 2005.

Interest and other income,net increased by $0.1 million, or 2%, to $3.1 million for the sixmonths ended June 30, 2006, compared to $3.0 million for the sixmonths ended June 30, 2005 as a result of lower average balances on ourcash and cash equivalents and short-term investments, partially offset byhigher yields in our investment portfolio. Net realized gains on our short-terminvestments were not significant for the six months ended June 30, 2006and 2005.

**Interest Expense**

Interest expense consists of interest expense on ourterm loan, capital leases, the amortization of premiums on certain of ourshort-term investments and imputed interest on the acquired member retentionliability.

Interest expense decreased by $0.9 million, or70%, to $0.4 million for the quarter ended June 30, 2006, compared to$1.4 million for the quarter ended June 30, 2005. The decrease wasprimarily the result of decreases in interest expense and amortized deferredfinancing costs related to the term loan, which was outstanding during the June 2005quarter. The decrease was partially offset by a $0.2 million increase in imputedinterest on the acquired member retention liability.

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Interest expense decreasedby $1.2 million, or 37%, to $2.1 million for the six months ended June 30,2006, compared to $3.4 million for the six months ended June 30, 2005.The decrease was primarily the result of decreases in interest expense andamortized deferred financing costs related to the term loan, which wasoutstanding during the six months ended June 30, 2005. In January 2006,we repaid the remaining balance of $54.2 million on the term loan andexpensed the remaining $1.5 million in deferred financing costs. Thedecrease was partially offset by a $0.2 million increase in imputedinterest on the acquired member retention liability.

**Provision forIncome Taxes**

For the quarter and sixmonths ended June 30, 2006, we recorded a tax provision of $11.6 millionand $20.5 million, respectively, on pre-tax income of $23.2 millionand $43.8 million, respectively, resulting in a year-to-date effective taxrate of 46.9%. For the quarter and six months ended June 30, 2005, werecorded a tax provision of $10.4 million and $19.3 million,respectively, on pre-tax income of $21.1 million and $41.5 million,respectively, resulting in a year-to-date effective tax rate of 46.6%. Theeffective tax rates differ from the statutory rate primarily due tocompensation, including (1) stock-based compensation that was limitedunder Section 162(m) of the Internal Revenue Code, (2) foreignlosses, the benefit of which is not currently recognizable due to uncertaintyregarding realization and (3) the re-measurement of certain deferred taxassets in New York. Additionally, in 2006, the annualized effective rate wasincreased due to Employee Stock Purchase Plan compensation, the benefit ofwhich is not currently recognized under SFAS No. 123R. This increase wascompletely offset by the benefit of federal exempt interest income.

**Cumulative Effectof Accounting Change, Net of Tax**

In the six months ended June 30,2006, we recorded a $1.1 million pretax benefit ($1.0 million, net oftax), as the cumulative effect of a change in accounting principle upon theadoption of SFAS No. 123R to recognize the effect of estimating the numberof awards granted prior to January 1, 2006 that are not ultimately expectedto vest.

**Liquidity andCapital Resources**

Ourtotal cash, cash equivalent and short-term investment balances decreased by$94.1 million, or 39%, to $150.2 million at June 30, 2006compared to $244.4 million at December 31, 2005. Our summary cashflows for the six months ended June 30, 2006 and 2005 were as follows (inthousands):

| ** **                                 | ** ** | **Six Months Ended  June 30,** | ** ** |
|--------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                 | ** ** | **2006**                                      | ** ** | **2005** | ** ** |
| Net cash provided  by operating activities |       | $                                             | 52,888     |   | $ | 72,411 |   |
| Net cash used for  investing activities    |       | (56,978                                       | )          | (29,769 | ) |
| Net cash used for  financing activities    |       | (71,969                                       | )          | (58,380 | ) |
|                                            |            |                                               |            |  |  |  |  |

 

Net cash providedby operating activities decreased by $19.5 million, or 27%, for the sixmonths ended June 30, 2006 compared to the six months ended June 30,2005. The decrease was primarily the result of the following:

·       a$22.1 million net decrease in working capital accounts, including $18.2 millionrelated to accounts payable and accrued liabilities primarily related topayments for employee bonuses, income taxes and media and promotion expensesand the payment of approximately $6.0 million of MyPointsacquisition-related liabilities. Additionally, working capital accounts wereaffected by a $5.6 million decrease in deferred revenue as a result ofdecreases in pay access accounts, including multi-month access accounts, offsetpartially by an increase in multi-month social-networking accounts; and

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·       a$7.0 million decrease in tax benefits from stock-based compensation, ofwhich $2.6 million was related to the adoption of SFAS No. 123R,which requires a portion of the tax benefits from stock-based compensation tobe presented in financing activities versus its historical presentation inoperating activities.

These decreaseswere partially offset by:

·       a$6.8 million increase in stock-based compensation primarily due to theadoption of SFAS 123R in the March 2006 quarter;

·       a$1.1 million increase in net income, net of a $1.0 million cumulativeeffect of a change in accounting principle in connection with the adoption ofSFAS No. 123R; and

·       a$0.8 million increase in amortization of deferred financing feesassociated with the repayment of the term loan in January 2006.

Net cash used forinvesting activities increased by $27.2 million, or 91%, for the sixmonths ended June 30, 2006 compared to the six months ended June 30,2005. The increase was primarily the result of the following:

·       a$51.9 million increase in cash paid for acquisitions. We acquired MyPointsin April 2006 for $49.5 million, net of cash acquired; The NamesDatabase for $9.5 million, net of cash acquired; and paid the remaining$1.5 million due in connection with the PhotoSite acquisition in March 2006compared to the initial payment of $8.6 million for PhotoSite in March 2005;and

·       a$5.5 million increase in capital equipment purchases and capitalizedsoftware costs in connection with the development of new services and theongoing operations of our business.

These increases inuses of cash were partially offset by:

·       a$25.1 million net increase in proceeds from maturities and sales ofshort-term investments; and

·       a$5.0 million decrease in purchases of rights, patents and trademarks,primarily related to the purchase of proprietary rights associated with theNetZero trademark for $6.0 million, $5.5 million of which was paid inthe March 2005 quarter. The remaining $0.5 million was paid in January 2006.

We have invested significantly in our networkinfrastructure, software licenses, leasehold improvements, and computerequipment and we will need to make further significant investments in thefuture. Capital expenditures for the six months ended June 30, 2006 were$14.0 million. We anticipate that our total capital expenditures for theremainder of 2006 will be in the range of $11 million to $14 million,including anticipated capital expenditures related to the MyPoints businessacquired in April 2006. The actual amount of future capital expendituresmay fluctuate due to a number of factors including, without limitation,potential future acquisitions and new business initiatives, which are difficultto predict and could change significantly over time. Additionally,technological advances may require us to make capital expenditures to developor acquire new equipment or technology in order to replace aging ortechnologically obsolete equipment.

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Net cash used forfinancing activities increased by $13.6 million, or 23%, for the sixmonths ended June 30, 2006 compared to the six months ended June 30,2005. The increase was primarily the result of the following:

·       a$17.5 million increase in payments on the term loan. In January 2006,we paid, in full, the outstanding balance of the term loan of approximately$54.2 million; and

·       a$13.7 million increase in dividend payments in the six months endedJune 30, 2006 compared to the six months ended June 30, 2005.

The increases inuses of cash were offset by:

·       a$12.2 million decrease in repurchases of common stock;

·       a$2.6 million increase in excess tax benefits from stock-based compensationas a result of the adoption of SFAS No. 123R, which requires a portion ofthe tax benefits from stock-based compensation to be presented in financingactivities versus its historical presentation in operating activities; and

·       a$2.5 million increase in proceeds from exercises of stock options and theemployee stock purchase plan.

The payment of dividends will negatively impact cashflows from financing activities. In February 2006 and May 2006, ourBoard of Directors declared quarterly cash dividends of $0.20 per share ofcommon stock, which were paid on February 28, 2006 and May 31, 2006and totaled $12.9 million and $13.4 million, respectively. InJuly 2006, our Board of Directors declared a quarterly cash dividend of$0.20 per share of common stock. The record date for the dividend isAugust 11, 2006, and the dividend is payable on August 31, 2006. Thepayment of future dividends is discretionary and will be subject todetermination by the Board of Directors each quarter following its review ofour financial performance.

Future cash flows from financing activities may alsobe affected by repurchases of common stock. Our Board of Directors authorized acommon stock repurchase program that allows us to repurchase shares of ourcommon stock through open market or privately negotiated transactions based onprevailing market conditions and other factors through December 31, 2006.At June 30, 2006, we had repurchased $139.2 million of our commonstock under the program, and the remaining available under the program was$60.8 million.

Cash flows from financing activities may also benegatively impacted by the withholding of a portion of shares underlying therestricted stock units we award to employees. Upon vesting, we currentlyanticipate that we will not collect the applicable withholding taxes forrestricted stock units from employees. Instead, we will automatically withhold,from the restricted stock units that vest, the portion of those shares with afair market value equal to the amount of the withholding taxes due. We willthen pay the applicable withholding taxes in cash. Similar to repurchases ofcommon stock, the net effect of such withholding will adversely impact our cashflows. The amount remitted in the six months ended June 30, 2006 was $2.0million for which we withheld approximately 155,000 shares of common stock thatwere underlying the restricted stock units. The amount we pay in futurequarters will vary based on our stock price and the number of restricted stockunits vesting during the quarter.

Based on our currentprojections, we expect to continue to generate positive cash flows fromoperations, at least in the near term. We intend to use our existing cashbalances and future cash generated from operations to fund dividend payments,if declared by the Board; to develop and acquire complementary services, businessesor technologies; to repurchase shares of our common stock if we believe marketconditions to be favorable; to repurchase the common stock underlyingrestricted stock units and pay the withholding taxes due on vested restrictedstock units; and to fund future capital expenditures. We currently anticipatethat our future cash flows from operations and existing cash, cash 

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equivalentand short-term investment balances will be sufficient to fund our operationsover the next year, and in the near term we do not anticipate the need foradditional financing to fund our operations. However, we may raise additionaldebt or equity capital for a variety of reasons including, without limitation,developing new or enhancing existing services or products, repurchasing ourcommon stock, acquiring complementary services, businesses or technologies orfunding significant capital expenditures. If we need to raise additionalcapital through public or private debt or equity financings, strategicrelationships or other arrangements, it might not be available to us in atimely manner, on acceptable terms, or at all. Our failure to raise sufficientcapital when needed could have a material adverse effect on our business,financial position, results of operations and cash flows, and could impair ourability to pay dividends. If additional funds were raised through the issuanceof equity securities, the percentage of stock owned by the then-currentstockholders would be reduced. Furthermore, such equity securities might have rights,preferences or privileges senior to holders of our common stock.

**FinancialCommitments**

Ourfinancial commitments are as follows at June 30, 2006 (in thousands):

| ** **                        | ** ** | ** ** | ** ** | **Jul-Dec** | ** ** | **Year Ending December 31,** | ** ** |
|-----------------------------------|------------|------------|------------|-------------|------------|---------------------------------------------|------------|
| **Contractual Obligations:** | ** ** | ** ** | ** ** | **Total**   | ** ** | **2006**                                    | ** ** | **2007** | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **Thereafter** | ** ** |
| Capital leases(1)                 |       | $          | 573        |        | $          | 208                                         |       | $ | 351 |   | $ | 14 |   | $ | — |   | $ | — |   | $ | — |   |   | $ | — |   |   |
| Operating leases                  |       | 42,081     |       | 3,659       |       | 6,733                                       |       | 6,617 |   | 5,819 |   | 4,453 |   | 3,815 |   |   | 10,985 |   |   |
| Telecommunications  purchases     |       | 13,631     |       | 4,983       |       | 8,648                                       |       | — |   | — |   | — |   | — |   |   | — |   |   |
| Media purchases                   |       | 3,327      |       | 3,327       |       | —                                      |       | — |   | — |   | — |   | — |   |   | — |   |   |
| Total                             |       | $          | 59,612     |        | $          | 12,177                                      |       | $ | 15,732 |   | $ | 6,631 |   | $ | 5,819 |   | $ | 4,453 |   | $ | 3,815 |   |   | $ | 10,985 |   |   |
|                                   |            |            |            |             |            |                                             |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

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(1)          Includes$22,000 of imputed interest.

**Off-Balance SheetArrangements**

At June 30, 2006, wehad no off-balance sheet arrangements that have, or are reasonably likely tohave, a current or future material effect on our consolidated financialcondition, results of operations, liquidity, capital expenditures or capitalresources.

**Recent AccountingPronouncements**

*Accounting Changesand Errors*

In June 2005, theFASB issued SFAS No. 154, *Accounting Changes andError Corrections—a replacement of APB Opinion No. 20 and FASB Statement No. 3*.SFAS No. 154 changes the requirements for the accounting for and reportingof a change in accounting principle and applies to all voluntary changes inaccounting principle. APB Opinion No. 20 previously required that mostvoluntary changes in accounting principle be recognized by including in netincome of the period of change the cumulative effect of changing to the newaccounting principle. SFAS No. 154 requires retrospective application toprior periods’ financial statements of changes in accounting principle, unlessit is impracticable to determine either the period-specific effects or thecumulative effect of the change. When it is impracticable to determine theperiod-specific effects of an accounting change on one or more individual priorperiods presented, SFAS No. 154 requires that the new accounting principlebe applied to the balances of assets and liabilities as of the beginning of theearliest period for which retrospective application is practicable and that acorresponding adjustment be made to the opening balance of retained earningsfor that period rather than being reported in an income statement. When it isimpracticable to determine the cumulative effect of applying a change inaccounting principle to all prior periods, SFAS No. 154 requires that thenew accounting principle be applied as if it were adopted prospectively fromthe earliest date practicable. In addition, SFAS No. 154 makes adistinction between retrospective application of an accounting principle 

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and therestatement of financial statements to reflect the correction of an error. SFASNo. 154 is effective for accounting changes and corrections of errors madebeginning in the March 2006 quarter. The implementation of SFAS No. 154did not have a material impact on our financial position, results of operationsor cash flows.

*Accounting forUncertainty in Income Taxes*

In July 2006, theFASB issued FASB Interpretation (“FIN”) No. 48, *Accountingfor Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109*,which clarifies the accounting for uncertainty in income tax positions. ThisInterpretation requires that we recognize in the consolidated financialstatements the impact of a tax position that is more likely than not to besustained upon examination based on the technical merits of the position. Theprovisions of FIN No. 48 will be effective for us beginning in the March 2007quarter, with the cumulative effect of the change in accounting principlerecorded as an adjustment to opening retained earnings. We are currentlyevaluating the impact of adopting FIN No. 48.

**Inflation**

Inflation did not have a material impact during thequarters and six months ended June 30, 2006 and 2005, and we do notcurrently anticipate that inflation will have a material impact on our resultsof operations going forward.

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**ITEM 3.   QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

We are exposed to certainmarket risks arising from transactions in the normal course of business,principally risk associated with interest rate and foreign currencyfluctuations.

*Interest Rate Risk*

We have interest rate risk primarily related to ourinvestment portfolio.

We maintain a short-term investment portfolioconsisting of U.S. commercial paper, U.S. Government or U.S. Government Agencyobligations, municipal obligations, auction rate securities and money marketfunds. Our primary objective is the preservation of principal and liquiditywhile maximizing yield. The minimum long-term rating is A, and if along-term rating is not available, we require a short-term credit ratingof A1 and P1. The value of these investments may fluctuate with changes ininterest rates. However, we believe this risk is immaterial due to therelatively short-term nature of the investments.

We were exposed tointerest rate risk on a portion of the outstanding balance of our term loanthrough the date we repaid the outstanding balance in full, which was January 3,2006.

*Foreign CurrencyRisk*

We transact business in different foreign currenciesand may be exposed to financial market risk resulting from fluctuations inforeign currency exchange rates, particularly the Indian Rupee (INR) and theEuro, which may result in a gain or loss of earnings to us. The volatility ofthe INR and the Euro (and all other applicable currencies) are monitoredthroughout the year. We face two risks related to foreign currency exchange:translation risk and transaction risk. Amounts invested in our foreignoperations are translated into U.S. dollars using period-end exchange rates.The resulting translation adjustments are recorded as a component ofaccumulated other comprehensive income (loss) in stockholders’ equity. Ourforeign subsidiaries generally collect revenues and pay expenses in currenciesother than the U.S. dollar. Since the functional currencies of our foreignoperations are denominated in the local currency of our subsidiaries, theforeign currency translation adjustments are reflected as a component ofstockholders’ equity and do not impact operating results. Revenues and expensesin foreign currencies translate into higher or lower revenues and expenses inU.S. dollars as the U.S. dollar weakens or strengthens against othercurrencies. Therefore, changes in exchange rates may negatively affect ourconsolidated revenues and expenses (as expressed in U.S. dollars) from foreignoperations. Currency transaction gains or losses arising from transactions incurrencies other than the functional currency are included in operatingexpenses. While we have not engaged in foreign currency hedging, we may in thefuture use hedging programs, currency forward contracts, currency optionsand/or other derivative financial instruments commonly utilized to reducefinancial market risks if it is determined that such hedging activities areappropriate to reduce risk.

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**ITEM 4.   CONTROLSAND PROCEDURES**

*Disclosure Controlsand Procedures*

Our management, with theparticipation of our Chief Executive Officer and Chief Financial Officer, hasevaluated the effectiveness of the Company’s disclosure controls and procedures(as such term is defined in Rules 13a-15(e) and 15d-15(e) underthe Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of theend of the period covered by this report. Based on such evaluation, our ChiefExecutive Officer and Chief Financial Officer have concluded that, as of theend of such period, the Company’s disclosure controls and procedures areeffective in recording, processing, summarizing and reporting, on a timelybasis, information required to be disclosed by the Company in the reports thatit files or submits under the Exchange Act and are effective in ensuring thatinformation required to be disclosed by the Company in the reports that itfiles or submits under the Exchange Act is accumulated and communicated to theCompany’s management, including the Company’s Chief Executive Officer and ChiefFinancial Officer, as appropriate to allow timely decisions regarding requireddisclosure.

*Changes in InternalControls Over Financial Reporting*

On April 10, 2006, we completed the acquisitionof MyPoints.com, Inc. We are in the process of integrating MyPoints andwill be conducting an evaluation of internal controls pursuant to theSarbanes-Oxley Act of 2002. Excluding the MyPoints acquisition, there have notbeen any changes in the Company’s internal controls over financial reporting(as such term is defined in Rules 13a-15(f) and 15d-15(f) underthe Exchange Act) during our most recent fiscal quarter that have materiallyaffected, or are reasonably likely to materially affect, the Company’s internalcontrols over financial reporting.

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**PART II—OTHERINFORMATION**

**ITEM 1. LEGALPROCEEDINGS**

On April 20, 2001, Jodi Bernstein, on behalf ofhimself and all others similarly situated, filed a lawsuit in the United StatesDistrict Court for the Southern District of New York against NetZero, certainofficers and directors of NetZero and the underwriters of NetZero’s initialpublic offering, Goldman Sachs Group, Inc., BancBoston Robertson Stephens, Inc.and Salomon Smith Barney, Inc. The complaint alleges that the prospectusthrough which NetZero conducted its initial public offering in September 1999was materially false and misleading because it failed to disclose, among otherthings, that (i) the underwriters had solicited and received excessive andundisclosed commissions from certain investors in exchange for which theunderwriters allocated to those investors material portions of the restrictednumber of NetZero shares issued in connection with the offering; and (ii) theunderwriters had entered into agreements with customers whereby the underwritersagreed to allocate NetZero shares to those customers in the offering inexchange for which the customers agreed to purchase additional NetZero sharesin the aftermarket at pre-determined prices. Plaintiffs are seeking injunctiverelief and damages. Additional lawsuits setting forth substantially similarallegations were also served against NetZero on behalf of additional plaintiffsin April and May 2001. The case against NetZero was consolidated withapproximately 300 other suits filed against more than 300 issuers thatconducted their initial public offerings between 1998 and 2000, theirunderwriters and an unspecified number of their individual corporate officersand directors. In a court order dated February 15, 2005, the DistrictCourt granted preliminary approval of the issuer defendants’ proposedsettlement. On June 30, 2005, the United States Court of Appeals for theSecond Circuit granted the underwriter defendants’ petition for permission toappeal the District Court’s order granting plaintiffs’ motion for classcertification. A hearing on the settlement was held on April 24, 2006, andthe parties are awaiting the court’s ruling on the motion for final approval ofthe settlement.

On August 21, 2001, Juno commenced an adversaryproceeding in U.S. Bankruptcy Court in the Southern District of New Yorkagainst Smart World Technologies, LLC, dba “Freewwweb” (the “Debtor”), aprovider of free Internet access that had elected to cease operations and hadsought the protection of Chapter 11 of the Bankruptcy Code. The adversaryproceeding arose out of a subscriber referral agreement between Juno and theDebtor. In response to the commencement of the adversary proceeding, the Debtorand its principals filed a pleading with the Bankruptcy Court asserting thatJuno is obligated to pay compensation in an amount in excess of$80 million as a result of Juno’s conduct in connection with thesubscriber referral agreement. In addition, a dispute arose between Juno andUUNET Technologies, Inc., an affiliate of MCI WorldCom Network Services, Inc.,regarding the value of services provided by UUNET, with UUNET claiming inexcess of $1.0 million and Juno claiming less than $0.3 million. On April 25,2003, Juno, the Committee of Unsecured Creditors, WorldCom and UUNET (allegedlythe largest secured creditor) entered into a Stipulation of Settlement, whichprovided for the payment by Juno of $5.5 million in final settlement ofall claims against Juno, and we have reserved $5.5 million in connectionwith this proceeding. On September 11, 2003, the court issued an orderapproving the Stipulation of Settlement. On September 12, 2005, the SecondCircuit Court of Appeals vacated the judgment of the bankruptcy court andremanded the case to the bankruptcy court. Discovery in the adversaryproceeding in the bankruptcy court has commenced. No trial date has been set.On August 4, 2006, we entered into a settlement agreement with theCommittee of Unsecured Creditors providing for the settlement of all claimsagainst Juno pursuant to a proposed plan of liquidation of Debtor. If thesettlement and plan of liquidation are approved by the bankruptcy court,subject to certain conditions, Juno has agreed to pay $6.25 million. If thesettlement and plan of liquidation are approved by the bankruptcy court and notappealed, Juno has agreed to pay an additional $.25 million. As a result ofthese developments, we have increased our reserve for this matter to $6.25million.

On April 27, 2004, plaintiff MyMail Ltd.filed a lawsuit in the United States District Court for the Eastern District ofTexas against NetZero, Juno, NetBrands, America Online, Inc., AT&T, 

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EarthLink, Inc., SBCCommunications, Inc., and Verizon Communications, Inc. alleginginfringement of plaintiff’s patent which purports to cover user access to acomputer network. On October 28, 2005, the court issued an order grantingdefendants’ motions for summary judgment of non-infringement of the patent.MyMail has filed a notice of appeal of the trial court’s ruling. The hearingdate for the appeal has not been set.

On March 6, 2006, plaintiff Anthony Piercy fileda purported consumer class action lawsuit in the Superior Court of the State ofCalifornia, County of Los Angeles, against NetZero claiming that NetZerocontinues to charge consumers fees after they cancel their Internet accessaccount. NetZero has filed a response to the lawsuit denying the materialallegations of the complaint.

On July 27, 2006, plaintiff Donald E. Ewart fileda purported consumer class action lawsuit in the Superior Court of the State ofCalifornia, County of Los Angeles, against NetZero claiming that NetZerocontinues to charge consumers fees after they cancel their Internet accessaccount. NetZero has not yet filed or served its formal response to thecomplaint.

The pending lawsuits involve complex questions of factand law and may require the expenditure of significant funds and the diversionof other resources to defend. Although we do not believe the outcome of theabove outstanding legal proceedings, claims and litigation will have a materialadverse effect on our business, financial condition, results of operations orcash flows, the results of litigation are inherently uncertain and we cannotassure you that we will not be materially and adversely impacted by the resultsof such proceedings. We have established a reserve for the Freewwweb matterdiscussed above and such reserve is reflected in our consolidated financialstatements. We cannot assure you, however, that this reserve will be sufficientto cover the possible losses from such litigation. We have not establishedreserves for any other matters.

We are subject to various other legal proceedings andclaims that arise in the ordinary course of business. We believe the amount,and ultimate liability, if any, with respect to these actions will notmaterially affect our business, financial condition, results of operations orcash flows. We cannot assure you, however, that such actions will not bematerial and will not adversely affect our business, financial condition,results of operations or cash flows.

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**ITEM 1A.**        RISKFACTORS

*Before deciding to invest in our company or tomaintain or increase your investment, you should carefully consider the risksdescribed below as well as the other information in this report and our otherfilings with the SEC. The risks and uncertainties described below are not theonly ones facing our company. Additional risks and uncertainties not presentlyknown to us or that we currently deem immaterial may also affect us. If any ofthese risks actually materialize, our business, financial position, results ofoperations and cash flows could be adversely impacted. In that event, themarket price of our common stock could decline and you may lose all or part ofyour investment.*

**Our business willsuffer if we are unable to compete effectively.**

*Internet AccessCompetition*

Competition in the Internet access market is intense.We compete with established online service and content providers such as AOL,AOL’s Netscape subsidiary and MSN; independent national ISPs such as EarthLinkand its PeoplePC subsidiary; companies combining their resources to offerInternet access in conjunction with other services such as Yahoo! and AT&TInternet Services, Yahoo! and Verizon, and AOL and Walmart.com; nationalcommunications companies and local exchange carriers such as AT&T WorldNet,Qwest Communications International, Inc. and Verizon; cable companies suchas Comcast Corporation, Cox Communications, Inc., Charter Communications, Inc.and Adelphia Communications Corporation; local telephone companies; andregional and local commercial ISPs. Also, a number of municipalities haveannounced their intention to make available wireless broadband access servicesto their communities free of charge or for discounted fees, and significantcompanies, including Google, are bidding to provide some or all of theseservices. While this form of competition is new and its potential impactunknown, the availability of free or inexpensive wireless broadband services inmajor metropolitan markets could have a significant impact upon the industryand our Communications segment.

The number of U.S. households using broadband hasgrown significantly and the rate of broadband adoption has been increasing andmay continue to increase. Broadband access, which includes cable, DSL, satelliteand wireless, generally offers users faster connection and download speeds thandial-up access for monthly fees currently ranging from approximately $13 to $55per month, although offers for promotional periods have been as low as $10 permonth. Pricing for broadband services, particularly for introductorypromotional periods, services bundled with cable and telephone services, andservices with slower speeds, has been declining and the pricing gap betweenbroadband and dial-up access services has been narrowing with, in some cases,premium and value dial-up access services priced at or above pricing forcertain broadband services. For example, Verizon Yahoo! currently offers DSL at$14.95 per month to new customers who agree to a one-year commitment, andAT&T Yahoo! currently offers DSL at $12.99 per month to new customers whoagree to a one-year commitment. As a result of broadband adoption, the totalnumber of dial-up accounts in the U.S. has declined at an increasing rate andindustry analysts predict that it will continue to decline at an increasingrate. The decline in the size of the dial-up market will likely continue toaccelerate as broadband services become more widely available at lower pricesand consumer adoption of broadband applications, such as online video,telephony and music downloads, which depend upon connections that providesignificant bandwidth, increases. We are currently reviewing the possibility ofoffering broadband services by purchasing and reselling broadband services acquiredthrough third party providers. It is currently anticipated that such anoffering, if we choose to offer it at all, would be primarily to our existingbase of subscribers. There can be no assurance that we will offer a broadbandservice or, even if we do, that it would be profitable or commerciallysuccessful. If we do choose to offer broadband services, it may adverselyimpact our profitability. If we do not offer broadband services, it willcontinue to adversely impact our ability to compete for new subscribers and toretain existing subscribers.

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The success of our Communications segment historicallyhas been based on offering dial-up Internet access services at prices below thestandard monthly pricing of the premium dial-up services of most of our majorcompetitors. Competition from broadband providers and value-pricedproviders such as United Online has resulted in significant declines in thenumber of subscribers to premium priced dial-up services. In response to thiscompetition, many competitors have engaged, and will likely continue to engage,in more aggressive pricing of their dial-up services under their premium-pricedbrands to obtain and retain users, such as offering discounted pricing orextended periods of free service such as six months free. In August 2006,AOL announced a $9.95 pricing plan for new subscribers which includes unlimiteddial-up access, accelerator services and a number of other features.Additionally, AOL, through its Netscape subsidiary, EarthLink, through itsPeoplePC subsidiary, and a number of small providers now offer value-pricedservices at prices similar to our prices and which are, in some cases, pricedbelow the prices of our services. Partially in response to this competition, wehave become more aggressive in offering discounted services and one or morefree months of services in order to obtain and retain pay access accounts.Despite these measures, our pay access base has declined and the rate ofdecline has been increasing. We experienced a net decline of approximately195,000 pay access accounts in the June 2006 quarter and the rate ofdecline could accelerate in future periods. We believe increased competition,including pricing competition from broadband providers, has adversely impactedour ability to obtain new pay access accounts and to retain our existingaccounts, will adversely impact our ability to minimize the decline in our payaccess account base in the future and has made it more difficult to maintainthe current pricing of our services.

Price competition is particularly relevant to ourability to maintain our $14.95 standard monthly pricing for our pay accessaccounts bundled with our accelerator services. Maintaining this price point iscritical to the profitability of our Communications segment. When we beganoffering this service in early 2003, many of our competitors either did notoffer a similar accelerator service or charged substantially more than wecharge for a similar service. Accelerator services are now widely available inthe market and many dial-up competitors, including AOL, now offer theiraccelerator services at prices equal to or lower than our standard monthlypricing. In addition, several broadband providers offer promotional pricing forDSL at prices equal to or lower than our standard monthly pricing foraccelerator services. It is likely that pricing competition from broadband anddial-up providers will continue to increase. We have been offering our NetZeroand Juno dial-up services bundled with accelerator service at a $9.95 pricepoint with a 12-month commitment. We are also offering additionalfeatures or services without additional charge as part of our accelerateddial-up service, including enhanced email features, antivirus protection, and aVoIP account with 100 free computer-to-telephone domestic long distance minutesper month, and we may incorporate additional features or services in thefuture. Adding additional features increases our cost of providing the servicewhich makes the service less profitable, although there is no assurance thatadditional features will make the service more attractive to consumers or willenable us to maintain its $14.95 standard monthly price. The number of userspaying us the standard monthly price for our accelerated services and the numberof subscribers to these services have been decreasing and it is likely that wewill experience decreases in the average price paid for these bundled servicesand continued decreases in the number of subscribers to these services in thefuture, all of which could adversely impact our revenues and profits.

Premium-priced Internet access services, ingeneral, include a much wider variety of features than are included in value-pricedservices, and providers of premium-priced services continue to enhance thefeatures of their offerings in response to competition from broadband and value-pricedproviders. In particular, many premium-priced services include at noadditional charge telephone technical support, proprietary content, parentalcontrols, multiple accounts and email addresses, increased email storage, virusprotection, firewalls, spyware protection and accelerated dial-upfunctionality. Some providers of value-priced offerings are alsoincorporating certain of these features into their offerings either at nocharge or for an incremental fee. In addition, certain providers ofpremium-priced services occasionally 

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offer promotional pricingthat is similar to the pricing of value-priced offerings. For example,EarthLink currently offers its premium-priced services at $9.95 per month foran introductory period of six months. AOL’s new $9.95 offering, while notoffering all of the features of its premium priced $25.90 offering, contains asignificant number of features that are not always included in value-pricedservices, and this development is likely to make the value-priced servicesmarket more competitive, both from a feature and a pricing standpoint. While weoffer some additional features to users at no charge or for an incremental fee,we do not offer the range of features included in premium-priced servicesand, in some cases including the AOL $9.95 offering, included in value-pricedservices. In particular, we do not offer our own proprietary content. Inaddition, the incremental fees that we charge for certain features are, in somecases, higher than the incremental fee, if any, charged by other value-pricedproviders for comparable features. Our decision not to offer a broader varietyof features and our charges for additional services or features, particularlyaccelerated functionality, virus protection and telephone technical support,may adversely impact our ability to compete and undermine our position as avalue-priced provider.

Many of our competitors have significantly greaterbrand recognition than we do and spend significantly more on marketing theirservices than we spend. As a result, we have not participated as extensively asour major competitors in a variety of large distribution channels, such asbeing pre-bundled on branded computers or being offered at retail outlets ofmany different major franchises. To the extent our competitors spendsignificantly more than we do in these and other channels, we are at acompetitive disadvantage. In addition, we have significantly decreased our marketingexpenditures for our access services, primarily with respect to advertising andmedia, and intend to further decrease these expenditures in the future.Decreased marketing of our access services has adversely impacted, and willcontinue to adversely impact, our pay access account base. While we have notdecreased the marketing expenditures on distribution arrangements as much as wehave on advertising and media, the decreased advertising and media expendituresmay also adversely impact the efficacy of our distribution arrangements, whichcould cause our pay access account base to decrease at a faster rate than wecurrently anticipate. Even if we decide to increase such advertising andmarketing expenditures, there are no assurances that such increase will have apositive impact on our pay access account base. We cannot assure you that themarketing resources we allocate to our access services will be sufficient forus to compete effectively with our major competitors, and we believe our baseof access accounts will continue to decline.

We expect competition forpay access accounts to continue to intensify and cannot assure you that we willbe able to compete successfully. Our inability to compete effectively couldrequire us to make significant revisions to our services and pricingstrategies, which could result in increased costs, decreased revenues and theloss of pay access accounts, all of which could materially and adversely impactour financial condition, results of operations and cash flows.

*Competition in theOnline Relationships Market*

Competition for subscribers in the onlinerelationships market is intense and rapidly evolving. Our social-networkingservices compete directly against a small number of companies, includingReunion.com and Monster.com’s Military.com service, offering similar onlinesocial-networking services based on work, school and military communities. Oursocial-networking services also compete directly with many schools, employers,Web sites, and associations that maintain their own Internet-based alumniinformation services. In addition to this direct competition, we compete forsubscribers with companies offering a wide variety of social-networkingservices including Web portals such as Yahoo!, MSN and AOL that maintain chat roomsand are developing new Web community services such as Yahoo! 360, MSN Spacesand AOL People Connection, and other community-based Web sites andpersonal-networking communities such as MySpace, Facebook and Friendster. Someof these social-networking services also have school-based communities orschool-related search capabilities as well as more sophisticated features thanours, such as personalized Web pages, instant messaging and blogs. In addition,many of these companies offer a wide 

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variety of services inaddition to their social-networking services, which provides them with anadditional competitive advantage in obtaining and retaining subscribers. Oursocial-networking services are used primarily to locate and contactacquaintances from school, work or military affiliations, and our subscribers,in general, do not spend a significant amount of time on the site for otherpurposes. Our strategy is to expand the features and functionality of oursocial-networking services, but there can be no assurance we will becommercially successful in doing so.

Many consumers maintain simultaneous relationshipswith multiple communities, including Internet alumni networks and offlineassociations, and can easily shift their interest or their spending from one onlineor offline provider to another. Competitors may be able to launch newbusinesses serving various communities at relatively low cost. Competitors maybe able to hold themselves out as specialists in single communities, makingthem more appealing to consumers or giving them a perceived competitiveadvantage. In addition, many social-networking services are free or onlyrequire payment if certain additional functionality is desired by the user. Thecontinued prevalence of free services could adversely impact our ability tomarket both our free and pay social-networking services, maintain our currentprice levels, or maintain or grow our pay account base at current price levels,or at all.

Many competitors in thismarket have longer operating histories, larger customer bases, greater brandrecognition and significantly greater financial, marketing and other resourcesthan we do. In addition, we have relied extensively on Internet advertisingthrough portals and other Internet service providers, including AOL, MSN andYahoo!, to grow our free and pay accounts. A number of these companies arecompetitors of United Online with respect to Internet access and otherservices, and they may not be willing to retain the same advertisingrelationship going forward. To the extent we are not able to maintainadvertising relationships with these companies, our ability to obtain newsocial-networking pay and free accounts would be adversely impacted.

*Competition in theVoIP Market*

VoIP services are arelatively new and emerging application and it is uncertain whether VoIPservices, particularly the type we offer, will receive wide-spread consumeradoption. We have attracted only a modest number of users to these services.Competitors for our VoIP services include established telecommunications andcable companies, certain of our current competitors for Internet accessservices including AOL, MSN and EarthLink, leading Internet companies includingYahoo!, Google and eBay through its Skype subsidiary, and a number of other companiesthat offer VoIP-based services as their primary business such as Vonage. Mostof our major competitors in the VoIP market have longer operating histories,larger customer bases, greater brand recognition and significantly greaterfinancial, marketing and other resources than we do. Some of our competitors,such as Vonage, spend a significant amount of resources on marketing theirservices and participate in large, retail distribution channels. In addition,many competitors offer services designed to serve as replacements for hometelephone services, and our VoIP offerings are not designed as home phonereplacement services and also lack a number of other features being offered bycertain competitors. We currently do not intend to expend significant marketingresources on our VoIP services. If we do choose to expend significant marketingresources on our VoIP services, there is no assurance that such efforts will becommercially successful. We cannot assure you that our marketing efforts willbe effective, that our VoIP services will achieve significant consumer adoptionor, even if such services do achieve consumer adoption, that our VoIP serviceswill generate growth in pay accounts, revenues or profitability.

*Competition inOnline Loyalty Marketing Business*

Our online loyaltymarketing business faces intense competition from both traditional and onlineadvertising and direct marketing businesses. We expect competition to increasedue to the lack of significant barriers to entry for online businesses generally.As we expand the scope of our product and 

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serviceofferings, we may compete with a greater number of media companies across awide range of advertising and direct marketing services. Our ability togenerate significant revenue from advertisers and loyalty partners will dependon our ability to differentiate ourselves through the services we provide andto obtain adequate participation from consumers in our online direct marketingand rewards programs. Currently, several companies offer competitive onlineproducts or services, such as Coolsavings, Coupons.com and Eversave.com. In thefuture, we may also face competition from larger offline loyalty pointprograms, such as those operated by credit card companies or airlines, if theyfocus on developing a stronger online presence. We have limited experience inthis market and cannot assure you that we will be able to compete effectively.

*Competition inAdditional Service Markets*

In addition to Internet access and VoIP services, ourCommunications segment also includes standalone premium email services and aprepackaged Family Pack offering. In addition to social-networking services andloyalty marketing, our Content & Media segment also includesWeb-hosting and domain registration services and digital photo-sharing services.While these additional services do not generate a significant portion of therevenues for the applicable segment, we are actively investing resources incertain of these services. Competition for users of premium email services isintense. The companies we compete with for Internet access accounts alsocompete with us for premium email accounts. In addition, a number of companies,including Yahoo!, MSN, AOL and Google, offer premium email services, in certaincases, for free. The market for premium email services is evolving at a rapidpace and we cannot assure you that our offerings will be competitive orcommercially viable. While the personal Web-hosting business is fragmented, anumber of significant companies, including Yahoo!, currently compete activelyfor these users. In addition, the personal Web-hosting industry is veryapplication specific, with many of the competitors focusing on specificapplications, such as photo sharing, to generate additional users. We have notexpended significant resources marketing our digital photo sharing services,although we may allocate additional resources to improving and promoting theseservices going forward. Digital photo sharing is an extremely competitive marketand there is no assurance our services will be able to compete effectively. Wecannot assure you that any of these additional services will be competitive orwill generate growth in pay accounts or revenues.

In addition, we haveevaluated, and expect to continue to evaluate, the development or acquisitionof new services. New services may subject us to competition from companies thathave more experience with such services, more established brands, and greaterfinancial, marketing and other resources to devote to such services. We cannotassure you that our new services, if any, will be competitive or will generategrowth in pay accounts or revenues.

*Competition forAdvertising Customers*

We are dependent uponadvertising revenues for a significant portion of our revenues and profits. Wecompete for advertising revenues with major ISPs, content providers, large Webpublishers, Web search engine and portal companies, Internet advertisingproviders, content aggregation companies, social-networking Web sites, directmarketing businesses, and various other companies that facilitate Internetadvertising. Many of our competitors have longer operating histories, greatername recognition, larger user bases and significantly greater financial,technical and sales and marketing resources than we do. This may allow them todevote greater resources to the development, promotion and sale of theirproducts and services. These competitors may also engage in more extensiveresearch and development, offer more sophisticated products and services,undertake more far-reaching marketing campaigns and adopt more aggressivepricing policies. We also compete with television, radio, cable and print mediafor a share of advertisers’ total advertising budgets. In certain instances, wegenerate advertising revenues from companies who are also our competitors. Inparticular, our Communications segment generates significant 

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advertisingrevenues from Yahoo! Search. We compete directly with Yahoo! for Internetaccess, email, Web-hosting and online photo-sharing subscribers and indirectlyfor subscribers to our social-networking services. To the extent competitorswho are also sources of significant advertising revenue cease to do businesswith us, our revenues and profits could suffer.

**We expect ourrevenues and profitability to decrease in the near term, and our revenues and profitabilitymay continue to decrease.**

We anticipate our Communications revenues willcontinue to decrease. We anticipate that Content & Media revenues willdecrease in the September 2006 quarter when compared to the June 2006quarter. We also anticipate that our profitability in the September 2006quarter will be less than our profitability in the June 2006 quarter.Decreases in our Communications revenues have been greater than the organicincreases in our Content & Media revenues and this trend may continueand our overall revenues may continue to decrease. Continued decreases in ourrevenues may result in decreased profitability, and there can be no assurancethat we will not experience declines in profitability in the future.

Our ability to increase, or to minimize decreases in,our revenues is, other than through acquisitions, primarily dependent upon ourability to minimize decreases in our Communications revenues while increasingour Content & Media revenues. While we anticipate continued growth inour Content & Media revenues following the September 2006quarter, these revenues may not grow as anticipated. In the September 2006quarter, we expect that the growth in Content & Media pay accounts, ifany, will be less than what we experienced in prior periods. We also anticipatea decline in Content & Media advertising revenues in the September 2006quarter as a result of seasonality and other factors. We cannot assure you thatthese trends will not continue beyond the September quarter and thatfuture growth, if any, in our Content & Media revenues will besufficient to offset the anticipated continuing decline in our Communicationsrevenues. We currently anticipate that our pay access accounts will continue todecline, although the rate of decline is likely to fluctuate from quarter toquarter depending on seasonality and other factors. We currently anticipatethat the decline in pay access accounts in the September 2006 quarter willbe less than the decline we experienced in the June 2006 quarter. Ouraverage monthly revenue per pay account (“ARPU”) for our access services,including our accelerated access services, has also declined over time althoughthe ARPU for access services increased in the June 2006 quarter whencompared to the March 2006 quarter. While we anticipate that advertisingrevenues from our Communications segment will remain relatively flat orincrease in the near term due to favorable advertising rates and other factors,over the long term these revenues will likely decline as a result of decreasedinventory due to decreases in our pay access accounts. If we are unable to growour Content & Media pay accounts, if we experience declines in ARPUfor our services, if we do not increase our advertising revenues or if our payaccess base continues to decline at a significant rate, we may not be able toincrease, or minimize decreases in, our revenues, and our profitability couldbe materially and adversely impacted.

Our ability to generaterevenues is also dependent on our success in commercializing new services thatwe either acquire or develop. To the extent we are unable to successfullymarket our existing services to new users, successfully cross-market ourservices to existing users or successfully acquire or develop and commercializenew services, our pay accounts could continue to decline.

**We may be unable tomaintain or grow our advertising revenues, particularly if we lose key advertising relationships.Reduced advertising revenues may reduce our profits.**

Advertising and commerce revenues are an increasinglyimportant component of our revenues and profitability. Our revenues fromadvertising have in the past fluctuated, and may in the future fluctuate, dueto a variety of factors including, without limitation, changes in the onlineadvertising market, decreases in capital available to Internet and othercompanies, changes in our advertising inventory, changes in usage 

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and the effect of keyadvertising relationships. A significant portion of our advertising revenuesare derived from our access services and decreases in our access account basewill, over time, likely result in decreased inventory and advertising revenues.The Internet advertising industry continues to evolve and competitors arecontinually enhancing their technology and advertising techniques. We could berequired to expend significant resources to enhance our advertising services,although there can be no assurance that our efforts will be successful. We haveundertaken initiatives that we believed would increase our advertising revenuesbut have resulted in decreased advertising revenues, and there can be noassurance our advertising initiatives will be effective. As discussed above,competition for advertising dollars is intense and our advertising revenues maydecline in future periods.

A small number ofcustomers have accounted for, and may in the future account for, a significantportion of our advertising and commerce revenues. In the past, we haveexperienced a number of situations where significant advertising arrangementswere terminated early, were not renewed, were renewed at significantly lowerrates or were renegotiated during the term of the arrangement. We derivedapproximately 33% of our Communications advertising and commerce revenues, andapproximately 12% of our total advertising and commerce revenues, during the June 2006quarter from Internet search fees provided through our agreement with Yahoo!Search. Our agreement with Yahoo! Search expires in March 2007, althoughwe have the right to extend the term for one additional year. The competitionamong search services is increasing. If there were a significant decrease insearch fees from our agreement with Yahoo! Search due to users usingcompetitive services or other factors, such decrease would adversely impact ourresults of operations. Our business, financial position, results of operationsand cash flows may be materially and adversely affected if we are unable eitherto maintain or renew our significant agreements or to replace such agreementswith similar agreements with new customers.

**Our business issubject to fluctuations.**

Our results of operationsand changes in the number and mix of pay accounts from period to period havevaried in the past and may fluctuate significantly in the future due to avariety of factors, many of which are outside of our control and difficult topredict. A number of factors that may impact us are discussed in greater detailin this Form 10-Q, and these factors may affect us from period toperiod and may affect our long-term performance. As a result, you should notrely on period-to-period comparisons as an indication of future or long-termperformance. In addition, these factors create difficulties with respect to ourability to forecast our financial performance accurately. We believe that thesedifficulties in forecasting present even greater challenges for financialanalysts who publish their own estimates of our future financial results andaccount metrics. We cannot assure you that we will achieve the expectations orfinancial projections made by our management or by the financial analysts. Inthe event we do not achieve such expectations or projections, the price of ourcommon stock could be adversely affected.

**Our marketingactivities may not be successful.**

Our marketing activities may not be effective. We willbe required to continue to incur significant marketing expenses to maintain ordevelop our brands. We have significantly decreased marketing expenditures forour access services and anticipate further reducing marketing expenditures forthese services in the future, which we believe has negatively impacted, andwill continue to negatively impact, our pay access base. While we currentlyanticipate increasing marketing expenditures in our Content & Mediasegment, we cannot assure you that any such increase will be effective inincreasing pay or active accounts or our revenues for these services. Weanticipate, in the near term, that the decreases in pay accounts for our accessservices will not be offset by increases, if any, in other pay accounts. Wehave increased the number of brands under which our services are marketed andincreased the number of services we offer. We may not have adequate resourcesto maintain all of our brands or promote all of our services. Our VoIPservices, in particular, may require significant marketing resources and we maynot allocate 

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significant resources tomarket these services. Even if we choose to allocate significant marketingresources to these services, there is no assurance that our marketingactivities will be successful. We have increased our profitability, in part, bydecreasing our marketing expenditures. Future decreases in our marketingexpenditures could adversely impact our business. Future increases in ourmarketing expenditures could adversely impact our profitability and there canbe no assurance that our marketing activities will be successful in growing ourbusinesses.

We obtain a significantnumber of new pay access accounts through our offline distribution channels,primarily Best Buy. The number of new pay accounts we acquire through Best Buyis subject to fluctuations, and it has decreased from time to time as comparedto prior periods as a result of competitive offers, seasonality or for otherreasons. If the number of new pay accounts acquired through Best Buy were tocontinue to decrease for an extended period, such decreases could negativelyimpact the number of pay access accounts and our Communications revenues andprofitability could be negatively impacted.

**If we are unable toretain users, our business and financial results will suffer.**

Historically, we have lost an average of four to fivepercent of our pay accounts each month, which we refer to as churn, with churnin recent periods approximating five percent. Our churn percentage iscalculated based on the average number of pay accounts for a period. Theaverage number of pay accounts is a simple average calculated based on thenumber of pay accounts at the beginning and end of a period. We make certainnormalizing adjustments to the calculation of our churn percentage for periodsin which we add a significant number of pay accounts due to acquisitions. We donot include in our churn calculation those accounts cancelled during the firstthirty days of service unless the accounts have upgraded from free accounts,although a number of such accounts will be included in our account totals atany given measurement date. Subscribers who cancel one pay service butsubscribe to another pay service are not considered to have cancelled a payaccount and, as such, our overall churn rate is not necessarily indicative ofthe percentage of subscribers canceling any particular service. We haveexperienced, and will likely continue to experience, a higher percentage ofsubscribers canceling our accelerated access and social-networking servicesthan is indicated by our churn rate, and the percentage of subscriberscanceling our social-networking services has fluctuated significantly fromquarter to quarter due to seasonality and the timing of termination of multi-monthprograms. Our churn may be higher in future periods and will fluctuate fromperiod to period and from service to service. If we continue to experience ahigh percentage of pay accounts canceling our services, it will make it moredifficult to grow, maintain or minimize decreases in the number of pay accountsfor those services. If we experience an increased percentage of cancellations,our revenues and profitability may be adversely affected.

In addition, the number ofactive free accounts has a significant impact on our ability to attractadvertisers, on the number of advertising impressions we have available tosell, and on how many pay accounts we can potentially acquire through marketingour pay services to our active free accounts. Each month, a significant numberof free accounts become inactive and we may experience continued declines inthe number of active free accounts. In addition, a user may have more than oneaccount on more than one of our services, and we are not able to determine inmost cases the number of accounts held by an individual. As such, the actualnumber of unique individuals using our services may be much lower than ourtotal number of accounts.

**If we cannotidentify and complete acquisitions, we may not be able to grow and achieve ourstrategic objectives.**

One of our strategic objectives is to acquirebusinesses, product lines or technologies which will provide us with anopportunity to leverage our assets and core competencies, or which otherwisewill be complementary to our existing businesses. We may not succeed in growingor maintaining our revenues unless we are able to successfully completeacquisitions. The merger and acquisition market for companies 

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offering Internet servicesis extremely competitive, particularly for companies who have demonstrated aprofitable business model with long-term growth potential. Recently, the publicequity markets have been very receptive to companies with thesecharacteristics. As a result, in many cases, companies with thesecharacteristics trade publicly or are privately valued at multiples ofearnings, revenues, operating income and other metrics significantly higherthan the multiples at which we are currently valued. Acquisitions may requireus to obtain additional debt or equity financing, which may not be available tous on reasonable terms, or at all. These and other factors may make itdifficult for us to acquire additional businesses, product lines ortechnologies at affordable prices, or at all, and there is no assurance that wewill be successful in completing additional acquisitions.

**We cannot assureyou that we will be able to successfully manage, integrate or grow our acquiredbusinesses.**

In April 2004, weacquired the assets of About, Inc.’s Web-hosting business; inNovember 2004, we acquired Classmates; in March 2005, we acquired theassets of Homestead Technologies, Inc.’s online digital photo-sharingbusiness; in March 2006, we acquired The Names Database; and in April 2006,we acquired MyPoints.com, Inc. We do not have prior experience in most ofthese lines of business and may not be able to compete successfully in them. Tothe extent we attempt to integrate various aspects of these businesses, we maynot be successful. There may be unanticipated risks, liabilities and costsassociated with these businesses, and we cannot assure you that thesebusinesses will have a positive impact on our results of operations. Inaddition, we cannot assure you that we will be successful in maintaining or growingtheir pay or free accounts.

**Even if we aresuccessful at acquiring additional businesses, product lines or technologies, acquisitions may notimprove our results of operations and may adversely impact our business andfinancial condition.**

We have evaluated,and expect to continue to evaluate, a wide variety of potential strategictransactions that we believe may complement our current or future businessactivities. We routinely engage in discussions regarding potential acquisitionsand any of these transactions could be material to our financial condition andresults of operations. However, we cannot assure you that the anticipatedbenefits of an acquisition will materialize. Acquiring a business, product lineor technology involves many risks, including:

·       disruptionof our ongoing business and diversion of resources and management time;

·       unforeseenobligations or liabilities;

·       difficultyassimilating the acquired customer bases, technologies and operations;

·       difficultyassimilating and retaining employees from the acquired business;

·       risksof entering markets in which we have little or no direct prior experience;

·       lackof controls, policies and procedures appropriate for a public company, and thetime and cost related to the remediation of such controls, policies andprocedures;

·       potentialimpairment of relationships with employees, users or vendors as a result ofchanges in management; and

·       potentialdilutive issuances of equity, large write-offs either at the time of theacquisition or in the future, the incurrence of restructuring charges, theincurrence of debt, the amortization of identifiable intangible assets, and theimpairment of amounts capitalized as intangible assets if we should fail tosuccessfully further develop acquired technology.

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Classmates has asubsidiary operating in Germany and we may seek to expand our internationalbusiness through acquisitions. Acquisitions of foreign businesses involve risksin addition to those mentioned above, including risks associated withpotentially unfamiliar economic, political and regulatory environments andintegration difficulties due to language, cultural and geographic differences.We cannot assure you that any further acquisitions we make will be successful.

**Our loyaltymarketing business depends on our ability to maintain and expand an active membership base.**

The success of our loyaltymarketing business largely depends on our ability to maintain and expand anactive membership base. Our revenues are primarily driven by fees paid byadvertisers and direct marketers based on specific actions taken by ourmembers. If we are unable to induce existing and new members to activelyparticipate in our programs, our business may be harmed. The attractiveness ofour program to current and potential members, advertisers and loyalty partnersdepends in large part on the attractiveness of the rewards and point redemptionopportunities that we offer. If the perceived value of our points decreases, wemay be required to offer more points to generate the same revenue, which couldadversely affect our results of operations relating to these services. Asignificant portion of the revenues from loyalty marketing are generated fromthe activity of a small percentage of our members, and we cannot assure youthat the number of active members will increase. Data security and privacyconcerns may cause consumers not to sign up for our program or cause ourmembers to stop using the service or resist providing the personal datanecessary to support our program’s profiling capability. In addition, weacquire a significant number of our new members through a few acquisitionchannels, and the loss of any of these channels or a decrease in the number ofnew members acquired through these channels could have an adverse effect on ourbusiness. Although membership has grown in prior periods, there are noassurances that our membership growth will continue or increase in the future.

**We may notsuccessfully develop and market new services in a timely or cost-effectivemanner; consumers oradvertisers may not accept our new products.**

We may not be able to compete effectively if we arenot able to adapt to changes in technology and industry standards or develop oracquire and successfully commercialize new and enhanced services. New servicesmay be dependent on our obtaining needed technology or services from thirdparties, which we may not be able to obtain in a timely manner upon termsacceptable to us, or at all. Our ability to compete successfully will also dependupon the continued compatibility of our services with products offered byvarious vendors, which we may not be able to achieve.

We have expended, and mayin the future expend, significant resources enhancing our existing services,such as our enhanced accelerator service, and developing, acquiring andimplementing new services, such as our VoIP services. Product developmentinvolves a number of uncertainties, including unanticipated delays andexpenses. New or enhanced services may have technological problems or may notbe accepted by our consumers or advertisers. We cannot assure you that we willbe successful in developing, acquiring or implementing new or enhancedservices, or that new or enhanced services will be commercially successful.

**Our VoIP servicesmay not be commercially successful.**

Only a limited number ofusers have signed up for our VoIP services, and we have experienced losses inconnection with these services due to fraud and the costs of developing,marketing and operating them. It is likely we will continue to expendsignificant resources developing, enhancing, operating and marketing theseservices. We expect these services to continue to adversely impact ourprofitability, at least in the near term. If our VoIP services are notcommercially successful, we will continue to incur operating losses 

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inconnection with these services, which would negatively impact our financialcondition and results of operations.

**Seasonal trends inInternet usage and advertising sales may cause fluctuations in our results of operations.**

Seasonal trends couldaffect revenues, operating expenses and the rate at which users sign up for ourservices. Decreased usage during seasonal periods could decrease advertisinginventory and search activity and adversely impact advertising revenue.Increased usage due to seasonality may result in increased telecommunicationscosts for such period. We have experienced lower usage of our access servicesin the summer months and this trend may continue. We also have experienced alower rate of people signing up for our access services during the spring andsummer months when compared to the fall and winter months, and this trend maycontinue. While we have only operated our loyalty marketing business for ashort period of time, historically their revenues have decreased in the September quarterwhen compared to the June quarter and this trend may continue. Seasonalitymay result in significant fluctuations in our results of operations and thenumber of users signing up for, or accessing, our services.

**If our accessaccounts usage increases or our telecommunications costs increase, our businessmay suffer.**

Other than sales andmarketing, our telecommunications costs are our largest Communications expense.If the average monthly usage of our access users increases, or if our averagehourly telecommunications cost increases, the profitability of ourCommunications segment may be adversely impacted.

**Our access businessis dependent on a small number of telecommunications carriers. Our inability tomaintain agreements atattractive rates with these carriers may negatively impact our business.**

Our access business substantially depends on thecapacity, affordability, reliability and security of our telecommunicationsnetworks. Only a small number of telecommunications providers offer the networkand data services we require, and most of our telecommunications services arecurrently purchased from Level 3 Communications, Verizon Pac-West, Qwest, O1Communications and StarNet. Furthermore, in the past, several vendors haveceased operations or ceased offering the services we require, causing us toswitch vendors. Vendors may experience significant financial difficulties andbe unable to perform satisfactorily or to continue to offer their services.Verizon, Level 3 Communications, Pac-West and Qwest have significant amounts ofdebt obligations. The loss of vendors has resulted, and may in the futureresult, in increased costs, decreased service quality and the loss of users. Inparticular, the failure of Level 3 Communications, Verizon, Pac-West, Qwest, O1Communications or StarNet to continue to provide the scope, quality and pricingof services currently provided could materially and adversely affect ourbusiness and results of operations. Some of our telecommunications services areprovided pursuant to short-term agreements that the providers can terminate orelect not to renew. In addition, each of our telecommunications carriersprovides network access to some of our competitors and could choose to grantthose competitors preferential network access or pricing. Certain of ourtelecommunications providers compete with us in the market to provide consumerInternet access. As a result, any or all of our current telecommunicationsservice providers could discontinue providing us with service at ratesacceptable to us, or at all, which could materially and adversely affect ourbusiness, financial position, results of operations and cash flows.

Market rates fortelecommunications services used in our business have declined significantly inrecent years. General market forces, the failure of providers, regulatoryissues and other factors could result in increased rates. Any increase inmarket rates would increase the cost of providing our services and, ifsignificant, could have a material adverse effect on our business, financialposition, results of operations and cash flows.

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**If we fail tomanage our telecommunications or our internal network capacities, our accessservice levels maysuffer or we may experience increased per-account costs.**

We will have to accurately anticipate our futuretelecommunications capacity needs within lead-time requirements. If we fail toprocure sufficient quantities of telecommunications services, we may be unableto provide our users with acceptable service levels. Conversely, if we purchaseexcessive amounts of telecommunications services we will have increased costs,which could decrease our profitability. We have experienced such overcapacityin the past, and we may experience overcapacity in the future. Our failure toeffectively manage telecommunications costs could adversely affect ourreputation as a quality provider of Internet services or could adversely affectour profitability.

In addition, we may fromtime to time experience increases in our telecommunications usage that exceedour then-available telecommunications capacity and the capacity of our internalservers. As a result, users may be unable to register or log on to ourservices, may experience a general slow-down in their Internet access or may bedisconnected from their sessions. Excessive user demand could also result insystem failures of our internal server networks, which would prevent us fromgenerating advertising revenues. Inaccessibility, interruptions or otherlimitations on the ability to access our services due to excessive user demand,or any failure of our servers to handle user traffic, could adversely effectour reputation, lead to subscriber cancellations and could adversely affect ourrevenues.

**Our business willsuffer if the scope or quality of service from our telecommunications carriersis inadequate.**

If our telecommunicationsservice providers deliver unacceptable service, the quality of our Internetaccess service would suffer. In this event, we would likely lose users who aredissatisfied with our service. Since we do not have direct control over ourtelecommunications carriers’ network reliability and the quality of theirservice, we cannot assure you that we will be able to provide consistentlyreliable Internet access for our users.

**Our business ishighly dependent on our billing and customer support systems, which are basedon a combination ofthird-party software and internally developed software.**

The software that operatesmost of our billing and customer support systems for our access service islicensed from Portal Software, Inc., a subsidiary of Oracle, and Remedy, aBMC Software company, and we use a combination of Portal, Remedy and otherthird-party and internally developed software applications for suchcustomer billing and support. The billing system for Classmates relies on acombination of software licensed from Art Technology Group Inc. (“ATG”),other third-party software applications as well as internally developedsoftware applications. Customer billing and support is a highly complexprocess, and our systems must efficiently interface with other third parties’systems such as the systems of credit card processing companies and othercompanies to whom we outsource billing and support functions. Our ability toaccurately and efficiently bill and support our users is dependent on thesuccessful operation of our billing and support systems and third parties’systems upon which we rely. In addition, our ability to offer new pay servicesor alternative payment plans is dependent on our ability to customize ourbilling and support systems. Issues associated with these systems could cause avariety of problems including the failure to bill and collect from users on atimely basis, over-charging or under-charging users, inaccurate financialand customer data, excessive credit card chargebacks or refunds, delays in newproduct or payment plan introductions and other billing-related errors.Such problems could lead to inaccurate reporting from time to time, which couldadversely affect our business, financial position, results of operations andcash flows. We have experienced billing and support problems from time to timeand may experience additional problems in the future. The failure of oursoftware vendors to provide software upgrades and technical support, thefailure of the Portal, Remedy, ATG or internally developed software to operateaccurately, problems with our credit card processor or other billing and 

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supportvendors and any other failures or errors in our billing and support systemscould materially and adversely affect our business, financial position, resultsof operations and cash flows.

**We are dependent onthird parties for technical support and customer service and our business may suffer if they are unableto provide these services, cannot expand to meet our needs or terminate theirrelationships with us.**

Our business and financial results depend, in part, onthe availability and quality of our customer support services. We currentlyoutsource a majority of the live technical and billing support functions toClientLogic Corporation. As a result, we maintain only a small number ofinternal customer service personnel. We are not equipped to provide thenecessary range of customer service functions in the event that ClientLogicbecomes unable or unwilling to offer these services to us. At times, usersseeking live customer support have experienced lengthy waiting periods to reachsupport personnel who are trained to provide the technical or billing supportthey require. ClientLogic has also experienced outages and other issues in thepast which resulted in inadequate service quality and support which adverselyimpacted our business. Maintaining desired customer support levels may requiresignificantly more support personnel than are currently available to us, orsignificantly greater expense than we choose to incur. If ClientLogic does notprovide us with quality services, or if our relationship with ClientLogicterminates and we are unable to transition such services in-house or to areplacement vendor in an orderly, cost-effective and timely manner, ourreputation, business and results of operations would suffer. In addition, weprepay significant amounts in advance to ClientLogic under our agreement withthem, and any failure by them to perform the services for which we have prepaidwould negatively impact our financial position.

In August 2006, wewill begin transitioning some of the customer support services currentlyhandled by ClientLogic to a new vendor, Sutherland Global Services. By theconclusion of the transition, approximately half of the customer supportservices currently handled by ClientLogic will be handled by Sutherland. Wehave had limited experience with Sutherland, there are risks involved intransitioning these services, and there are risks involved in dividing theseservices between two vendors. During the transition period and potentially fora period of time thereafter, customers may experience lengthier waiting periodsto reach support personnel or inadequate service quality and support. There areno assurances that the transition of these services will be successful, and ourreputation, business and results of operations could be adversely affected bysuch transition.

**If our software orhardware contains errors or fails, if we fail to operate our serviceseffectively or if weencounter difficulties integrating our systems and technologies, our businesscould be seriously harmed.**

Our services, andthe hardware and software systems underlying our services, are complex. Oursystems may contain undetected errors or failures and are susceptible to humanerror. We have in the past encountered, and may in the future encounter,software and hardware errors, system design errors and errors in the operationof our systems. This has resulted in, and may in the future result in, a numberof adverse consequences, which have included or may include:

·       usersbeing disconnected from our services or being unable to access our services;

·       lossof data or revenue;

·       injuryto reputation; and

·       diversionof development resources.

We have experienced technical and customer supportissues associated with our services and software releases. These issues haveresulted in users discontinuing their service and have adversely impacted ourrevenues. A number of our material technologies and systems are based ondifferent platforms. To the extent we attempt to integrate these technologiesand systems, we may experience a number of difficulties, 

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errors, failures andunanticipated costs. In addition, our business relies on third-partysoftware including, without limitation, software licensed from Oracle for ourinternal operations, software licensed from Portal, an Oracle subsidiary, andRemedy for billing and customer support, software licensed from SlipStreamData Inc. for our accelerated services, software licensed from certainthird parties for our VoIP services, and software licensed from certain thirdparties for our advertising products and services. Any significant failure ofthis software could materially and adversely affect our business, financialposition, results of operations and cash flows. Our services also rely on theircompatibility with other third-party systems, particularly operatingsystems. Incompatibility with future changes to third-party software uponwhich our systems rely could materially affect our ability to deliver ourservices. We cannot assure you that we will not experience significanttechnical problems with our services in the future.

Our VoIP services aredependent upon internally developed software, licensed software and third partytelecommunications services, all of which are relatively new. Our VoIP serviceshave not yet been operated on a significant scale. There will be bugs and otherissues associated with these services. If we experience any materialdifficulties operating these services on a significant scale, or if the bugs orother issues we encounter with these services are material, our ability toobtain and maintain users will be adversely impacted.

**A security breachor inappropriate use of our network or services could expose us to claims or aloss of revenue.**

The success of ourbusiness depends on the security of our networks and, in part, on the securityof the network infrastructures of our third-party telecommunicationsservice providers, providers of customer support services and other vendors.Unauthorized or inappropriate access to, or use of, our networks, computersystems and services could potentially jeopardize the security of confidentialinformation, including credit card information, of our users and of thirdparties. Third parties have in the past used our networks, services and brandnames to perpetrate crimes, such as identity theft or credit card theft, andmay do so in the future. Users or third parties may assert claims of liabilityagainst us as a result of any failure by us to prevent security breaches, unauthorizeddisclosure of user information or other such activities. Although we usesecurity measures that we believe to be effective by industry standards, wecannot assure you that the measures we take will be successfully implemented orwill be effective in preventing these types of activities. We also cannotassure you that the security measures of our third-party networkproviders, providers of customer and billing support services or other vendorswill be adequate. In addition to potential legal liability, these activitiesmay adversely impact our reputation or our revenues and may interfere with ourability to provide our services, all of which could adversely impact ourbusiness.

**Harmful softwareprograms such as viruses could disrupt our business.**

Our business is dependenton the continued acceptance of the Internet as an effective medium. Damagingsoftware programs, such as computer viruses, worms and Trojan horses, have fromtime to time been disseminated through the Internet and have caused significantdisruption to Internet users. Certain of these programs have disabled theability of computers to access the Internet, requiring users to obtaintechnical support in order to gain access to the Internet. Other programs havehad the potential to damage or delete computer programs. The development andwidespread dissemination of harmful programs has the potential to seriouslydisrupt Internet usage. If Internet usage is significantly disrupted for anextended period of time, or if the prevalence of these programs results indecreased residential Internet usage, our business could be materially andadversely impacted. In addition, actions taken by us or our telecommunicationsproviders to attempt to minimize the spread of harmful programs could adverselyimpact our users’ ability to utilize our services.

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**Our failure toprotect our proprietary rights could harm our business.**

Our trademarks, patents, copyrights, domain names andtrade secrets are important to the success of our business. We principally relyupon patent, trademark, copyright, trade secret and contract laws to protectour proprietary technology. We cannot be certain that we have taken adequatesteps to prevent misappropriation of our rights. Our failure to adequatelyprotect our proprietary rights could adversely affect our brands.

Governmental agencies andtheir designees generally regulate the acquisition and maintenance of domainnames. The regulation of domain names in the United States and in foreigncountries is in flux and may change. As a result, we may be unable to acquireor maintain relevant domain names in the countries that we conduct, or plan toconduct, business. Furthermore, the relationship between regulations governingdomain names and laws protecting trademarks and similar proprietary rights isunclear. Therefore, we may be unable to prevent third parties from acquiringdomain names that are similar to, infringe upon, dilute or otherwise decreasethe value of our trademarks and other proprietary rights.

**Legal actions,particularly those associated with proprietary rights, could subject us tosubstantial liabilityand expense and require us to change our business practices.**

We are currently, and have been in the past, party tovarious legal actions in the ordinary course of our business. These actionsinclude, without limitation, claims that we infringe third party patents,claims and investigations by governmental agencies and private parties inconnection with consumer protection and other laws, claims in connection withemployment practices, securities laws claims, breach of contract claims andother business related claims. The nature of our business could subject us toadditional claims for similar matters, as well as a wide variety of otherclaims including, without limitation, claims for defamation, negligence,trademark infringement, copyright infringement, and privacy matters.

Defending against lawsuitsinvolves significant expense and diversion of management’s attention andresources from other matters. We may not prevail in existing actions or actionsthat may be brought in the future. The failure to successfully defend againstcertain types of claims, including claims based on infringement of proprietaryrights, could require us to change our business practices or obtain licensesfrom third parties, which licenses may not be available on acceptable terms, ifat all. Lawsuits also involve the risk of significant settlements or judgmentsagainst us. Both the cost of defending claims, as well as the effect ofsettlements and judgments, could cause our results of operations to fluctuatesignificantly from period to period and could materially and adversely affectour business, financial position, results of operations and cash flows.

**We may not realizethe benefits associated with our intangible assets and may be required torecord a significantcharge to earnings if we are required to impair our goodwill or identifiableintangible assets.**

We are required, under accounting principles generallyaccepted in the United States, to review our intangible assets for impairmentwhen events occur or circumstances change that would more likely than notreduce the fair value of a reporting unit below its carrying value amount.Goodwill is required to be tested for impairment at least annually. We haveexperienced impairment losses in the past and we cannot assure you that we willnot experience impairment losses in the future. Any such loss could adverselyand materially impact our financial condition and results of operations.

Our VoIP services and ourdigital photo-sharing services are relatively new and have not generatedsignificant revenues. We have capitalized certain proprietary rights related toour VoIP services as well as certain costs incurred by us in connection withthe development of our VoIP services. We have also capitalized goodwill andintangible assets in connection with the acquisitions of MyPoints, The NamesDatabase and PhotoSite. If these services are not commercially successful, wewould likely be required to impair these assets which would negatively impactour financial condition and results of operations.

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**Our ability tooperate our business could be seriously harmed if we lose members of our seniormanagement team or otherkey employees.**

Our business is largelydependent on the efforts and abilities of our senior management, particularlyMark Goldston, our chairman and chief executive officer, and other keypersonnel. Any of our officers or employees can terminate his or her employmentrelationship at any time. The loss of these key employees or our inability toattract or retain other qualified employees could seriously harm our businessand prospects. We do not carry key person life insurance on any of ouremployees.

**Governmentregulation or taxation of the provision of Internet access, VoIP services andother services coulddecrease our revenues and increase our costs.**

Changes in the regulatory environment regarding theInternet could decrease our revenues and increase our costs. Currently, ISPsare considered “information service” providers rather than “telecommunications”providers, and regulations that apply to telephone companies and othertelecommunications common carriers currently do not apply to our Internetaccess services. However, our Internet access services could become subject toFederal Communications Commission (“FCC”) and state regulation as Internetaccess services and telecommunications services converge. If the regulatorystatus of ISPs changes, our business may be adversely affected.

Laws, regulations and legal liability issues regardingVoIP services are evolving at a rapid pace. Measures under consideration by theFCC, Congress, the courts and/or other federal and state agencies include,without limitation, new laws and regulations, or the interpretation of existinglaws and regulations, regarding access to telephone numbers, taxes,contributions to the Universal Service Fund, consumer protection rules,intercarrier compensation arrangements, consumer privacy, assistance to lawenforcement, and the provision of E-911 services. Some or all of thesemeasures, if adopted and determined to be applicable to our VoIP services,could make it significantly more expensive to operate some or all of our VoIPservices and could cause us to cease operating or enhancing some or all of ourVoIP services. For example, we do not believe we are required to offer E-911services with our existing VoIP services nor do we believe we must comply withthe Communications Assistance for Law Enforcement Act (CALEA), and we do notcurrently have the ability to offer E-911 services nor can we comply withCALEA. If the regulatory status of our VoIP service offerings changes or if weoffer new VoIP services that subject us to additional laws and regulations, ourVoIP services may be materially and adversely affected. In addition, while weare considering developing and implementing an international strategy for ourVoIP services, foreign laws and regulations regarding the provision of VoIPservices could adversely impact our ability to implement this strategy.

The Internet Tax Freedom Act, which placed amoratorium on new state and local taxes on Internet commerce, has been extendedthrough November 2007. However, future laws imposing taxes or otherregulations on the provision of goods and services over the Internet could makeit substantially more expensive to operate our business.

Our business is also subject to a variety of otherU.S. and foreign laws and regulations that could subject us to liabilities,claims or other remedies, such as laws relating to bulk email or “spam,” accessto various types of content by minors, anti-spyware initiatives, encryption,data protection, security breaches and consumer protection. Compliance withthese laws and regulations is complex and may impose significant additionalcosts on us. Certain of our services, particularly our social-networking and loyaltymarketing services, are dependent on the ability send a significant volume ofemails to members through third parties’ email systems. Additional governmentregulation regarding sending bulk email, as well as voluntary actions by thirdparties to restrict the delivery of emails through their email systems, couldadversely impact our business. For example, AOL and Yahoo! recently announced theirplans to reduce 

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the amount of bulk emailsent through their email services by charging bulk email senders to guaranteethe delivery of their messages.

In addition, theregulatory framework relating to Internet services is evolving and both thefederal government and states from time to time pass legislation that impactsour business. There are a number of legislative proposals before the UnitedStates Congress and various state legislative bodies that may relate to ourbusiness. It is likely that additional laws and regulations will be adoptedthat would affect our business. The adoption of additional laws and regulationsthat affect our competitors, for example, network neutrality proposals, couldalso have an effect our business. We cannot predict the impact that futureregulatory changes or developments may have on our business, financialcondition, results of operations or cash flows. The enactment of any additionallaws or regulations, increased enforcement activity of existing laws andregulations, or claims by individuals could significantly impact our costs orthe manner in which we conduct business, all of which could adversely impactour results of operations and cause our business to suffer.

**Changes in, orinterpretations of, laws regarding consumer protection could subject us toliability or cause us tochange our practices.**

Consumer protection laws and enforcement actionsregarding advertising and user privacy, especially relating to children, arebecoming more prevalent. The FTC has conducted investigations into the privacypractices of companies that collect information about individuals on theInternet. The FTC has also investigated us and other ISPs in connection withmarketing, billing, customer retention, cancellation and disclosure practices.Juno and the FTC entered into a consent agreement, which was approved by theFTC on June 29, 2001, that provides for redress payments and specificdisclosures or notices regarding, among other things, the cost of its Internetaccess services, its cancellation terms and local versus long-distance charges,as well as the requirement to provide adequate customer support to processcancellations. We received an inquiry regarding our compliance with the consentagreement on October 14, 2005, and we submitted a response on December 14,2005. We subsequently received a request for additional information and are inthe process of providing the requested information.

Various state agencies aswell as individuals have also asserted claims against, or instituted inquiriesinto, ISPs, including Juno and NetZero, in connection with marketing, billing,customer retention, cancellation, refund and disclosure practices. We cannotassure you that our services and business practices, or changes to our servicesand business practices, will not subject us to claims and liability by privateparties, the FTC or other governmental agencies.

**Oursocial-networking and loyalty marketing businesses rely heavily on emailcampaigns, and anyrestrictions on the sending of emails could materially and adversely affect ourbusiness.**

Our social-networking and loyaltymarketing businesses deliver a significant number of emails to our members.Yahoo! and AOL recently announced that they will phase out their IP-basedwhitelists and implement a pay-per-email program. In addition, from time totime, Internet Service Providers block bulk email transmissions or otherwiseexperience technical difficulties which result in the inability to transmitemails to our members. Our social-networking and loyalty marketing businessesrely heavily on email campaigns and restrictions on the sending of emails couldmaterially and adversely affect our business and results of operations.

**Our business couldbe shut down or severely impacted by a catastrophic event.**

Our computer equipment andthe telecommunications infrastructure of our third-party networkproviders are vulnerable to damage from fire, earthquakes, power loss,telecommunications failures, terrorism and similar events. We have experiencedsituations where power loss and telecommunications 

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failureshave adversely impacted our services, although to date such failures have notbeen material to our operations. A significant portion of our computerequipment, including critical equipment dedicated to our Internet accessservices, is located at our headquarters in Woodland Hills, California and atfacilities in and around Los Angeles, California; San Francisco, California;San Jose, California; Ashburn, Virginia; Renton, Washington and New York, NewYork. In the past, areas in California have experienced repeated episodes ofdiminished electrical power supply, or “rolling blackouts.” A natural disaster,terrorism, power blackout or other unanticipated problem at our headquarters orat a network hub, or within a third-party network provider’s network,could cause interruptions in the services that we provide. Our systems are notfully redundant. Any prolonged disruption of our services due to systemfailures could result in user turnover and decreased revenues.

**Our business couldbe severely impacted due to political instability or other factors in India.**

We have a significantnumber of employees located in our India office. Our operations in Indiaprimarily handle email customer support, product development and qualityassurance. A portion of our outsourced customer support is also based in India.Our product development, customer support and quality assurance operationswould be severely disrupted if telecommunications issues, political instabilityor other factors adversely impacted these operations or our ability tocommunicate with these operations. Any disruption that continued for anextended period of time would likely have a material adverse effect on ourability to service our customers and develop our products since it would take asignificant period of time to transition these operations internally or to anoutside vendor. If we were to cease our operations in India and transfer theseoperations to another geographic area, such change could result in increasedoverhead costs which could materially and adversely impact our results ofoperations.

**We cannot predictour future capital needs and we may not be able to secure additional financing.**

We may need to raiseadditional funds in the future to fund our operations, for acquisitions ofbusinesses or technologies or for other purposes. Additional financing may notbe available on terms favorable to us, or at all. If adequate funds are notavailable or not available when required in sufficient amounts or on acceptableterms, we may not be able to devote sufficient cash resources to continue toprovide our services in their current form, acquire additional users, enhanceor expand our services, respond to competitive pressures or take advantage ofperceived opportunities, and our business and its future prospects may suffer.

**We may stop payingquarterly cash dividends on our common stock.**

Commencing with the secondquarter of 2005, we have declared and paid a quarterly cash dividend of $0.20per share of common stock. The payment of future dividends is discretionary andwill be subject to determination by our board of directors each quarterfollowing its review of our financial performance. Our future cash flows willsignificantly decline from what we experienced in 2005 due to the payment ofincome taxes and other factors, and our cash balances will decline if we useour cash to acquire businesses, repurchase stock or for other purposes. Wecannot assure you that we will continue to pay quarterly cash dividends, and ifwe do not, our stock price could be negatively impacted.

**We haveanti-takeover provisions that may make it difficult for a third party to acquireus.**

Provisions of ourcertificate of incorporation, our bylaws and Delaware law could make itdifficult for a third party to acquire us, even if doing so might be beneficialto our stockholders because of a premium price offered by a potential acquirer.In addition, our board of directors adopted a stockholder rights plan, which isan anti-takeover measure that will cause substantial dilution to a person whoattempts to acquire our company on terms not approved by our board ofdirectors.

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**Our stock price hasbeen highly volatile and may continue to be volatile.**

The market price of our common stock has fluctuatedsignificantly since our stock began trading on the Nasdaq National Market in September 2001and it is likely to continue to be volatile with extreme volume fluctuations.In addition, the Nasdaq National Market, where most publicly held Internetcompanies are traded, has experienced substantial price and volumefluctuations. These broad market and industry factors may harm the market priceof our common stock, regardless of our actual operating performance, and forthis or other reasons we could suffer significant declines in the market priceof our common stock.

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**ITEM 2.   UNREGISTEREDSALES OF EQUITY SECURITIES AND USE OF PROCEEDS**

**Common Stock Repurchases**

OurBoard of Directors authorized a common stock repurchase program that allows usto repurchase shares of our common stock through open market or privatelynegotiated transactions based on prevailing market conditions and otherfactors. From time to time, the Board of Directors has increased the amountauthorized for repurchase under this program. On April 22, 2004, the Boardof Directors authorized us to purchase up to an additional $100 million ofour common stock through May 31, 2005 under the program, bringing thetotal amount authorized under the program to $200 million. On April 29,2005, the Board of Directors extended the program through December 31,2006. At June 30, 2006, we had repurchased $139.2 million of ourcommon stock under the program, leaving $60.8 million remaining under theprogram.

Shareswithheld from restricted stock units (“RSUs”) awarded to employees upon vestingto pay applicable withholding taxes on their behalf are considered common stockrepurchases, but are not part of the Board approved repurchase program. Uponvesting, the Company currently does not collect the applicable withholdingtaxes for RSUs from employees. Instead, the Company automatically withholds,from the RSUs that vest, the portion of those shares with a fair market valueequal to the amount of the withholding taxes due. The Company then pays theapplicable withholding taxes in cash, which is accounted for as a repurchase ofcommon stock.

Commonstock repurchases at June 30, 2006 were as follows (in thousands, exceptper share amounts):

| **Period**         | ** ** | ** ** | ** ** | **Total Number of  Shares Purchased** | ** ** | **Average Price  Paid per Share** | ** ** | **Total Number of  Shares Purchased as  Part of a Publicly  Announced Program** | ** ** | **Maximum Approximate  Dollar Value that May  Yet be Purchased Under  the Program** | ** ** |
|--------------------|------------|------------|------------|------------------------------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------|------------|
| August 2001   |       |       | 138        |                                                 |       |                                             | $          | 1.67                                                                                                                    |       |                                                                                                                        |       | 138 |   |   |   | $ | 9,770 |   |   |
| November 2001 |       |       | 469        |                                                 |       |                                             | 1.77       |                                                                                                                    |       |                                                                                                                        | 469        |   |   |   | 8,940 |   |   |
| February 2002 |       |       | 727        |                                                 |       |                                             | 3.38       |                                                                                                                    |       |                                                                                                                        | 727        |   |   |   | 6,485 |   |   |
| August 2002   |       |       | 288        |                                                 |       |                                             | 7.51       |                                                                                                                    |       |                                                                                                                        | 288        |   |   |   | 27,820 |   |   |
| February 2003 |       |       | 193        |                                                 |       |                                             | 9.43       |                                                                                                                    |       |                                                                                                                        | 193        |   |   |   | 26,005 |   |   |
| May 2003      |       |       | 281        |                                                 |       |                                             | 13.51      |                                                                                                                    |       |                                                                                                                        | 281        |   |   |   | 22,207 |   |   |
| November 2003 |       |       | 2,024      |                                                 |       |                                             | 19.76      |                                                                                                                    |       |                                                                                                                        | 2,024      |   |   |   | 48,706 |   |   |
| February 2004 |       |       | 2,887      |                                                 |       |                                             | 16.86      |                                                                                                                    |       |                                                                                                                        | 2,887      |   |   |   | — |   |   |
| May 2004      |       |       | —     |                                                 |       |                                             | —     |                                                                                                                    |       |                                                                                                                        | —     |   |   |   | 100,000 |   |   |
| August 2004   |       |       | 2,657      |                                                 |       |                                             | 9.41       |                                                                                                                    |       |                                                                                                                        | 2,657      |   |   |   | 74,989 |   |   |
| February 2005 |       |       | 1,268      |                                                 |       |                                             | 11.20      |                                                                                                                    |       |                                                                                                                        | 1,268      |   |   |   | 60,782 |   |   |
| February 2006 |       |       | 129        |                                                 |       |                                             | 12.77      |                                                                                                                    |       |                                                                                                                        | —     |   |   |   | 60,782 |   |   |
| May 2006      |       |       | 26         |                                                 |       |                                             | 11.87      |                                                                                                                    |       |                                                                                                                        | —     |   |   |   | 60,782 |   |   |
| Total              |       |       | 11,087     |                                                 |       |                                             | $          | 12.73                                                                                                                   |       |                                                                                                                        |       | 10,932 |   |   |   |   |   |   |

 

 

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**ITEM 4.**                SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS

The annual meeting of our stockholders was held on May 9,2006. Two nominees to the Board of Directors, James T. Armstrong and DennisHolt, were elected to serve for terms expiring at the third annual meetingfollowing their election or until their successors are duly elected andqualified. The appointment of PricewaterhouseCoopers LLP as our independentauditors for the fiscal year ending December 31, 2006 was also ratified atthe meeting.

The results of voting for the election of Mr. Armstrongwere as follows: 55,353,420 votes for and 1,193,422 votes withheld. The resultsof voting for the election of Mr. Holt were as follows: 54,310,333 votesfor and 2,236,509 votes withheld. The remaining members of the Board ofDirectors who continued in office after the meeting are Mark R. Goldston,Robert Berglass, Kenneth L. Coleman and Carol A. Scott. The terms of Mr. Berglassand Mr. Coleman will expire at our next annual stockholders meeting andthe terms of Mr. Goldston and Ms. Scott will expire at the nextannual stockholders meeting thereafter.

The results of voting for the ratification of theappointment of PricewaterhouseCoopers LLP as our independent auditors were asfollows: 56,390,008 votes for, 135,157 votes against and 21,677 abstentions.

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**ITEM 6.   EXHIBITS**

|         | ** ** | ** **                                                                                                                                                                                                                                                                                                  | ** ** | **Filed  with this** | ** ** | **Incorporated by Reference to** |
|---------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------|------------|-------------------------------------------------|
| **No.** | ** ** | **Exhibit Description**                                                                                                                                                                                                                                                                                | ** ** | **Form 10-Q**        | ** ** | **Form**                                        | ** ** | **File No.** | ** ** | **Date Filed** |
| 2.1     |       | Stock Purchase Agreement, dated as of April 9,  2006, by and between United Online, Inc. and UAL Corporation                                                                                                                                                                                      |       |                      |       | 8-K                                             |   | 000-33367 |   | 4/13/2006 |
| 3.1     |       | Amended and Restated Certificate of Incorporation                                                                                                                                                                                                                                                           |       |                      |       | 8-K                                             |   | 000-33367 |   | 10/1/2001 |
| 3.2     |       | Amended and Restated Bylaws                                                                                                                                                                                                                                                                                 |       |                      |       | 8-K                                             |   | 000-33367 |   | 10/1/2001 |
| 3.3     |       | Certificate of Designation for Series A Junior  Participating Preferred Stock (included in exhibit 4.1 below)                                                                                                                                                                                     |       |                      |       | 8-K                                             |   | 000-33367 |   | 11/23/2001 |
| 4.1     |       | Rights Agreement, dated as of November 15,  2001, between the Company and U.S. Stock Transfer Corporation, which includes  the form of Certificate of Designation for the Series A junior  participating preferred stock as Exhibit A, and the form of Rights  Certificate as Exhibit B |       |                      |       | 8-K                                             |   | 000-33367 |   | 11/23/2001 |
| 4.2     |       | Amendment No. 1 to Rights Agreement, dated as  of April 29, 2003, between the Registrant and U.S. Stock Transfer Corporation                                                                                                                                                                      |       |                      |       | 10-Q                                            |   | 000-33367 |   | 5/1/2003 |
| 10.1    |       | 2001 Amended and Restated Employee Stock Purchase  Plan                                                                                                                                                                                                                                                     |       |                      |       | 10-Q                                            |   | 000-33367 |   | 5/3/2004 |
| 10.2    |       | 2001 Stock Incentive Plan                                                                                                                                                                                                                                                                                   |       |                      |       | 10-Q                                            |   | 000-33367 |   | 11/14/2001 |
| 10.3    |       | Form of Option Agreement for 2001 Stock  Incentive Plan                                                                                                                                                                                                                                                |       |                      |       | 10-Q                                            |   | 000-33367 |   | 10/27/2004 |
| 10.4    |       | Form of Restricted Stock Unit Issuance  Agreement for 2001 Stock Incentive Plan                                                                                                                                                                                                                        |       |                      |       | 10-Q                                            |   | 000-33367 |   | 8/8/2005 |
| 10.5    |       | 2001 Supplemental Stock Incentive Plan                                                                                                                                                                                                                                                                      |       |                      |       | 10-Q                                            |   | 000-33367 |   | 11/14/2001 |
| 10.6    |       | Form of Option Agreement for 2001 Supplemental  Stock Incentive Plan                                                                                                                                                                                                                                   |       |                      |       | 10-Q                                            |   | 000-33367 |   | 10/27/2004 |
| 10.7    |       | Classmates Online, Inc. Amended and Restated  1999 Stock Plan                                                                                                                                                                                                                                          |       |                      |       | S-8                                             |   | 333-121217 |   | 2/11/2005 |
| 10.8    |       | Classmates Online, Inc. 2004 Stock Plan                                                                                                                                                                                                                                                                |       |                      |       | 10-Q                                            |   | 000-33367 |   | 5/10/2005 |
| 10.9    |       | Form of Option Agreement for Classmates  Online, Inc. 2004 Stock Plan                                                                                                                                                                                                                             |       |                      |       | 10-Q                                            |   | 000-33367 |   | 5/10/2005 |
| 10.10   |       | United Online, Inc. 2006 Management Bonus Plan                                                                                                                                                                                                                                                         |       |                      |       | 8-K                                             |   | 000-33367 |   | 3/30/2006 |
| 10.11   |       | Amended and Restated Employment Agreement between  the Registrant and Mark R. Goldston                                                                                                                                                                                                                 |       |                      |       | 10-KT                                           |   | 000-33367 |   | 2/5/2004 |
| 10.12   |       | Amended and Restated Employment Agreement between  the Registrant and Charles S. Hilliard                                                                                                                                                                                                              |       |                      |       | 10-KT                                           |   | 000-33367 |   | 2/5/2004 |

 

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|         | ** ** | ** **                                                                                                   | ** ** | **Filed  with this** | ** ** | **Incorporated by Reference to** |
|---------|------------|--------------------------------------------------------------------------------------------------------------|------------|---------------------------|------------|-------------------------------------------------|
| **No.** | ** ** | **Exhibit Description**                                                                                 | ** ** | **Form 10-Q**        | ** ** | **Form**                                        | ** ** | **File No.** | ** ** | **Date Filed** |
| 10.13   |       | Amended and Restated Employment Agreement between  the Registrant and Frederic A. Randall, Jr.     |       |                      |       | 10-KT                                           |   | 000-33367 |   | 2/5/2004 |
| 10.14   |       | Employment Agreement between the Registrant and Matt  Wisk                                                   |       |                      |       | 10-Q                                            |   | 000-33367 |   | 8/8/2005 |
| 10.15   |       | Employment Agreement between the Registrant and Ted  Cahall                                                  |       |                      |       | 10-Q                                            |   | 000-33367 |   | 8/8/2005 |
| 10.16   |       | Employment Agreement between the Registrant and  Gerald Popek                                                |       |                      |       | 10-Q                                            |   | 000-33367 |   | 8/8/2005 |
| 10.17   |       | Employment Agreement between the Registrant and  Robert Taragan                                              |       |                      |       | 10-Q                                            |   | 000-33367 |   | 8/8/2005 |
| 10.18   |       | Employment  Agreement between the Registrant and Jeremy Helfand                                              |       | X                         |       | 10-Q                                            |   | 000-33367 |   | 8/9/2006 |
| 10.19   |       | Office Lease between LNR Warner Center, LLC and  NetZero, Inc.                                          |       |                      |       | 10-Q                                            |   | 000-33367 |   | 5/3/2004 |
| 31.1    |       | Certification of the Chief Executive Officer  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |       | X                         |       |                                            |   | 000-33367 |   | 8/9/2006 |
| 31.2    |       | Certification of the Chief Financial Officer  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |       | X                         |       |                                            |   | 000-33367 |   | 8/9/2006 |
| 32.1    |       | Certification of the Chief Executive Officer  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |       | X                         |       |                                            |   | 000-33367 |   | 8/9/2006 |
| 32.2    |       | Certification of the Chief Financial Officer  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |       | X                         |       |                                            |   | 000-33367 |   | 8/9/2006 |

 

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**SIGNATURES**

Pursuantto the requirements of Section 13 of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized on August 9, 2006.
|          | UNITED ONLINE, INC. |
|----------|--------------------------|
|     | By:                      | /s/  CHARLES S. HILLIARD |
|     |                     | Charles S.  Hilliard |
| * * | * *                 | *President  and Chief Financial Officer* |
|     | By:                      | /s/  NEIL P. EDWARDS |
| * * |                     | Neil P. Edwards |
| * * | * *                 | *Senior  Vice President, Finance, Treasurer and  Chief Accounting Officer* |

 

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|         | ** ** | ** **                                                                                                                                                                                                                                                                                                  | ** ** | **Filed   with this** | ** ** | **Incorporated by Reference to** | ** ** |
|---------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------|------------|-------------------------------------------------|------------|
| **No.** | ** ** | **Exhibit Description**                                                                                                                                                                                                                                                                                | ** ** | **Form 10-Q**         | ** ** | **Form**                                        | ** ** | **File No.** | ** ** | **Date Filed** | ** ** |
| 2.1     |       | Stock Purchase  Agreement, dated as of April 9, 2006, by and between United  Online, Inc. and UAL Corporation                                                                                                                                                                                     |       |                       |       |                                            |       | 8-K |   | 000-33367 |   | 4/13/2006 |   |
| 3.1     |       | Amended and Restated  Certificate of Incorporation                                                                                                                                                                                                                                                          |       |                       |       |                                            |       | 8-K |   | 000-33367 |   | 10/1/2001 |   |
| 3.2     |       | Amended and Restated  Bylaws                                                                                                                                                                                                                                                                                |       |                       |       |                                            |       | 8-K |   | 000-33367 |   | 10/1/2001 |   |
| 3.3     |       | Certificate of  Designation for Series A Junior Participating Preferred Stock (included  in exhibit 4.1 below)                                                                                                                                                                                    |       |                       |       |                                            |       | 8-K |   | 000-33367 |   | 11/23/2001 |   |
| 4.1     |       | Rights Agreement, dated  as of November 15, 2001, between the Company and U.S. Stock Transfer  Corporation, which includes the form of Certificate of Designation for the  Series A junior participating preferred stock as Exhibit A, and the  form of Rights Certificate as Exhibit B |       |                       |       |                                            |       | 8-K |   | 000-33367 |   | 11/23/2001 |   |
| 4.2     |       | Amendment No. 1 to  Rights Agreement, dated as of April 29, 2003, between the Registrant and  U.S. Stock Transfer Corporation                                                                                                                                                                     |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 5/1/2003 |   |
| 10.1    |       | 2001 Amended and  Restated Employee Stock Purchase Plan                                                                                                                                                                                                                                                     |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 5/3/2004 |   |
| 10.2    |       | 2001 Stock Incentive  Plan                                                                                                                                                                                                                                                                                  |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 11/14/2001 |   |
| 10.3    |       | Form of Option  Agreement for 2001 Stock Incentive Plan                                                                                                                                                                                                                                                |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 10/27/2004 |   |
| 10.4    |       | Form of Restricted  Stock Unit Issuance Agreement for 2001 Stock Incentive Plan                                                                                                                                                                                                                        |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 8/8/2005 |   |
| 10.5    |       | 2001 Supplemental Stock  Incentive Plan                                                                                                                                                                                                                                                                     |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 11/14/2001 |   |
| 10.6    |       | Form of Option  Agreement for 2001 Supplemental Stock Incentive Plan                                                                                                                                                                                                                                   |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 10/27/2004 |   |
| 10.7    |       | Classmates  Online, Inc. Amended and Restated 1999 Stock Plan                                                                                                                                                                                                                                          |       |                       |       |                                            |       | S-8 |   | 333-121217 |   | 2/11/2005 |   |
| 10.8    |       | Classmates  Online, Inc. 2004 Stock Plan                                                                                                                                                                                                                                                               |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 5/10/2005 |   |
| 10.9    |       | Form of Option  Agreement for Classmates Online, Inc. 2004 Stock Plan                                                                                                                                                                                                                             |       |                       |       |                                            |       | 10-Q |   | 000-33367 |   | 5/10/2005 |   |
| 10.10   |       | United Online, Inc.  2006 Management Bonus Plan                                                                                                                                                                                                                                                        |       |                       |       |                                            |       | 8-K |   | 000-33367 |   | 3/30/2006 |   |
| 10.11   |       | Amended and Restated  Employment Agreement between the Registrant and Mark R. Goldston                                                                                                                                                                                                                 |       |                       |       |                                            |       | 10-KT |   | 000-33367 |   | 2/5/2004 |   |
| 10.12   |       | Amended and Restated  Employment Agreement between the Registrant and Charles S. Hilliard                                                                                                                                                                                                              |       |                       |       |                                            |       | 10-KT |   | 000-33367 |   | 2/5/2004 |   |
| 10.13   |       | Amended and Restated  Employment Agreement between the Registrant and Frederic A.  Randall, Jr.                                                                                                                                                                                                   |       |                       |       |                                            |       | 10-KT |   | 000-33367 |   | 2/5/2004 |   |

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| 10.14 |   | Employment Agreement  between the Registrant and Matt Wisk                                                    |   |   |   |   |   | 10-Q   |   | 000-33367 |   | 8/8/2005 |   |
|-------|--------|---------------------------------------------------------------------------------------------------------------|--------|--------|--------|--------|--------|--------|--------|-----------|--------|----------|--------|
| 10.15 |   | Employment Agreement  between the Registrant and Ted Cahall                                                   |   |   |   |   |   | 10-Q   |   | 000-33367 |   | 8/8/2005 |   |
| 10.16 |   | Employment Agreement  between the Registrant and Gerald Popek                                                 |   |   |   |   |   | 10-Q   |   | 000-33367 |   | 8/8/2005 |   |
| 10.17 |   | Employment Agreement  between the Registrant and Robert Taragan                                               |   |   |   |   |   | 10-Q   |   | 000-33367 |   | 8/8/2005 |   |
| 10.18 |   | Employment  Agreement between the Registrant and Jeremy Helfand                                               |   |   | X      |   |   | 10-Q   |   | 000-33367 |   | 8/9/2006 |   |
| 10.19 |   | Office Lease between LNR  Warner Center, LLC and NetZero, Inc.                                           |   |   |   |   |   | 10-Q   |   | 000-33367 |   | 5/3/2004 |   |
| 31.1  |   | Certification of the  Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002 |   |   | X      |   |   |   |   | 000-33367 |   | 8/9/2006 |   |
| 31.2  |   | Certification of the  Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002 |   |   | X      |   |   |   |   | 000-33367 |   | 8/9/2006 |   |
| 32.1  |   | Certification of the  Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley  Act of 2002 |   |   | X      |   |   |   |   | 000-33367 |   | 8/9/2006 |   |
| 32.2  |   | Certification of the  Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley  Act of 2002 |   |   | X      |   |   |   |   | 000-33367 |   | 8/9/2006 |   |

 

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