##### Table of Contents

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



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FORM 10-Q



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|x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ---------------------------------------------------------------------------------------



FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2004



OR



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ----------------------------------------------------------------------------------------



FOR THE TRANSITION PERIOD FROM  TO



COMMISSION FILE NUMBER 0-30961



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Sohu.com Inc.

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)



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|                                                               |  |                                        
|-------------------------------------------------------------- |  | ---------------------------------------
|Delaware                                                       |  | 98-0204667                             
|(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) |  | (I.R.S. EMPLOYER IDENTIFICATION NUMBER)



Suite 1519, Tower 2

Bright China Chang An Building

7 Jianguomen Nei Avenue

Beijing 100005

Peoples Republic of China

86-10-6510-2160

(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,

OF REGISTRANTS PRINCIPAL EXECUTIVE OFFICES)



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



Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Exchange Act).    Yes  x    No ̈



The number of shares outstanding of each of the issuers classes of
common stock, as of the latest practicable date:



|                              |  |                             
|----------------------------- |  | ----------------------------
|Class                         |  | Outstanding at July 31, 2004
|Common stock, $.001 par value |  | 36,365,529                  



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##### Table of Contents

SOHU.COM INC

Table of Contents



|        |  |                                                                                                                       |  |     
|------- |  | --------------------------------------------------------------------------------------------------------------------- |  | ----
|        |  |                                                                                                                       |  | PAGE
|PART I  |  | FINANCIAL INFORMATION                                                                                                 |  |     
|        |  |                                                                                                                      
|Item 1  |  | Condensed Consolidated Financial Statements (unaudited)                                                               |  | 3   
|        |  |                                                                                                                      
|        |  | Condensed Consolidated Balance Sheets as of June 30, 2004 (unaudited) and December 31, 2003                           |  | 3   
|        |  |                                                                                                                      
|        |  | Condensed Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2004 and 2003 (unaudited) |  | 4   
|        |  |                                                                                                                      
|        |  | Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2004 and 2003 (unaudited)           |  | 5   
|        |  |                                                                                                                      
|        |  | Condensed Consolidated Statement of Shareholders Equity for the Six Months Ended June 30, 2004 and 2003 (unaudited)  |  | 6   
|        |  |                                                                                                                      
|        |  | Notes to Condensed Consolidated Financial Statements                                                                  |  | 7   
|        |  |                                                                                                                      
|Item 2  |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                                 |  | 11  
|        |  |                                                                                                                      
|Item 3  |  | Quantitative and Qualitative Disclosure About Market Risk                                                             |  | 34  
|        |  |                                                                                                                      
|Item 4  |  | Controls and Procedures                                                                                               |  | 35  
|        |  |                                                                                                                      
|PART II |  | OTHER INFORMATION                                                                                                     |  |     
|        |  |                                                                                                                      
|Item 1  |  | Legal Proceedings                                                                                                     |  | 35  
|        |  |                                                                                                                      
|Item 2  |  | Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities                                      |  | 35  
|        |  |                                                                                                                      
|Item 3  |  | Defaults Upon Senior Securities                                                                                       |  | 36  
|        |  |                                                                                                                      
|Item 4  |  | Submission of Matters to a Vote of Security Holders                                                                   |  | 36  
|        |  |                                                                                                                      
|Item 5  |  | Other Information                                                                                                     |  | 36  
|        |  |                                                                                                                      
|Item 6  |  | Exhibits and Reports on Form 8-K                                                                                      |  | 36  
|        |  |                                                                                                                      
|        |  | SIGNATURES                                                                                                            |  | 37  
|        |  |                                                                                                                      
|        |  | Exhibit Index                                                                                                         |  | 38  



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##### Table of Contents

PART I - FINANCIAL INFORMATION



Item 1. Condensed Consolidated Financial Statements



SOHU.COM INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands)



|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|---------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------- | ------- | - | ---------------- | - | ------- | -
|                                                                                                                                                     |  | June 30, 2004 |         |   | December 31,2003 |  
|                                                                                                                                                     |  | (Unaudited)   |         |   |                  |  
|ASSETS                                                                                                                                               |  |               |         |   |                  |   |         |  
|Current assets:                                                                                                                                      |  |               |         |   |                  |   |         |  
|Cash and cash equivalents                                                                                                                            |  | $             | 94,583  |   |                  | $ | 99,109  |  
|Accounts receivable, net                                                                                                                             |  |               | 19,528  |   |                  |   | 12,381  |  
|Prepaid and other current assets                                                                                                                     |  |               | 4,344   |   |                  |   | 4,050   |  
|Current portion of long-term investments in marketable debt securities                                                                               |  |               | 9,999   |   |                  |   | 29,245  |  
|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|Total current assets                                                                                                                                 |  |               | 128,454 |   |                  |   | 144,785 |  
|Long-term investments in marketable debt securities                                                                                                  |  |               | 25,474  |   |                  |   | 14,216  |  
|Fixed assets, net                                                                                                                                    |  |               | 9,223   |   |                  |   | 6,846   |  
|Goodwill                                                                                                                                             |  |               | 39,453  |   |                  |   | 31,664  |  
|Intangible assets, net                                                                                                                               |  |               | 12,543  |   |                  |   | 4,082   |  
|Other assets, net                                                                                                                                    |  |               | 3,178   |   |                  |   | 3,462   |  
|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|                                                                                                                                                     |  | $             | 218,325 |   |                  | $ | 205,055 |  
|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                 |  |               |         |   |                  |   |         |  
|Current liabilities:                                                                                                                                 |  |               |         |   |                  |   |         |  
|Accounts payable                                                                                                                                     |  | $             | 1,571   |   |                  | $ | 1,101   |  
|Accrued liabilities                                                                                                                                  |  |               | 30,069  |   |                  |   | 22,315  |  
|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|Total current liabilities                                                                                                                            |  |               | 31,640  |   |                  |   | 23,416  |  
|                                                                                                                                                     |  |              
|Zero coupon convertible senior notes                                                                                                                 |  |               | 90,000  |   |                  |   | 90,000  |  
|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|Total liabilities                                                                                                                                    |  |               | 121,640 |   |                  |   | 113,416 |  
|Commitments and contingencies (Note 8)                                                                                                               |  |               |         |   |                  |   |         |  
|                                                                                                                                                     |  |              
|Shareholders equity:                                                                                                                                |  |               |         |   |                  |   |         |  
|Common Stock: $0.001 par value per share (75,400 authorized, 36,326 and 36,101 shares issued and outstanding at June 30, 2004 and December 31,
2003) |  |               | 36      |   |                  |   | 36      |  
|Additional paid-in capital                                                                                                                           |  |               | 142,911 |   |                  |   | 140,218 |  
|Treasury Stock                                                                                                                                       |  |               | (19,724 | ) |                  |   | (2,003  | )
|Deferred compensation                                                                                                                                |  |               | (1      | ) |                  |   | (14     | )
|Accumulated other comprehensive income/(loss)                                                                                                        |  |               | (516    | ) |                  |   | 232     |  
|Accumulated deficit                                                                                                                                  |  |               | (26,021 | ) |                  |   | (46,830 | )
|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|Total shareholders equity                                                                                                                           |  |               | 96,685  |   |                  |   | 91,639  |  
|                                                                                                                                                     |  |               |         |   |                  |   |         |  
|                                                                                                                                                     |  | $             | 218,325 |   |                  | $ | 205,055 |  
|                                                                                                                                                     |  |               |         |   |                  |   |         |  



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



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##### Table of Contents

SOHU.COM INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited, in thousands except per share data)



|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|----------------------------------------------------------------------------------- |  | ------------------ | ------ | - | ---------------- | - | ------ | ------------ |  | - | ------------ | - |  | - | ------ | -
|                                                                                    |  | Three Months Ended |        |   | Six Months Ended |  
|                                                                                    |  | Jun. 30,2004       |        |   | Jun. 30, 2003    |   |        | Jun. 30,2004 |  |   | Jun. 30,2003 |  
|Revenues:                                                                           |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Advertising (including $121, $0, $245 and $0 from related parties, respectively)    |  | $                  | 13,382 |   |                  | $ | 6,801  |              |  | $ | 24,396       |   |  | $ | 11,277 |  
|Non-advertising:                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Wireless (including $0, $10,967, $0 and $19,455 from related parties, respectively) |  |                    | 11,316 |   |                  |   | 10,979 |              |  |   | 23,561       |   |  |   | 19,467 |  
|E-commerce (including $0, $984, $0, and $2,159 from related parties, respectively)  |  |                    | 1,370  |   |                  |   | 984    |              |  |   | 2,689        |   |  |   | 2,159  |  
|Other (including $0, $268, $0 and $334 from related parties, respectively)          |  |                    | 1,199  |   |                  |   | 585    |              |  |   | 2,556        |   |  |   | 857    |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Subtotal of non-advertising revenues                                                |  |                    | 13,885 |   |                  |   | 12,548 |              |  |   | 28,806       |   |  |   | 22,483 |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Total revenues                                                                      |  |                    | 27,267 |   |                  |   | 19,349 |              |  |   | 53,202       |   |  |   | 33,760 |  
|                                                                                    |  |                    |        |  
|Cost of revenues:                                                                   |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Advertising (including $0, $36, $0 and $72 from related parties, respectively)      |  |                    | 3,372  |   |                  |   | 1,750  |              |  |   | 6,160        |   |  |   | 3,352  |  
|Non-advertising:                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Wireless (including $0, $3,266, $0 and $5,767 from related parties, respectively)   |  |                    | 4,132  |   |                  |   | 3,266  |              |  |   | 8,313        |   |  |   | 5,767  |  
|E-commerce (including $31, $891, $66 and $1,899 from related parties, respectively) |  |                    | 1,346  |   |                  |   | 891    |              |  |   | 2,632        |   |  |   | 1,899  |  
|Other (including $0, $282, $0 and $427 from related parties, respectively)          |  |                    | 386    |   |                  |   | 364    |              |  |   | 754          |   |  |   | 509    |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Subtotal of non-advertising cost of revenues                                        |  |                    | 5,864  |   |                  |   | 4,521  |              |  |   | 11,699       |   |  |   | 8,175  |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Total cost of revenues                                                              |  |                    | 9,236  |   |                  |   | 6,271  |              |  |   | 17,859       |   |  |   | 11,527 |  
|                                                                                    |  |                    |        |  
|Gross profit                                                                        |  |                    | 18,031 |   |                  |   | 13,078 |              |  |   | 35,343       |   |  |   | 22,233 |  
|                                                                                    |  |                    |        |  
|Operating expenses:                                                                 |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Product development                                                                 |  |                    | 2,091  |   |                  |   | 1,926  |              |  |   | 3,971        |   |  |   | 3,674  |  
|Sales and marketing                                                                 |  |                    | 4,261  |   |                  |   | 2,528  |              |  |   | 7,382        |   |  |   | 4,527  |  
|General and administrative                                                          |  |                    | 1,752  |   |                  |   | 1,312  |              |  |   | 3,324        |   |  |   | 2,394  |  
|Amortization of intangibles                                                         |  |                    | 360    |   |                  |   |       |              |  |   | 537          |   |  |   |       |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Total operating expenses                                                            |  |                    | 8,464  |   |                  |   | 5,766  |              |  |   | 15,214       |   |  |   | 10,595 |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Operating profit                                                                    |  |                    | 9,567  |   |                  |   | 7,312  |              |  |   | 20,129       |   |  |   | 11,638 |  
|Other expense                                                                       |  |                    | (196   | ) |                  |   | (129   | )            |  |   | (404         | ) |  |   | (191   | )
|Interest income                                                                     |  |                    | 578    |   |                  |   | 343    |              |  |   | 1,208        |   |  |   | 670    |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Net income before taxes                                                             |  |                    | 9,949  |   |                  |   | 7,526  |              |  |   | 20,933       |   |  |   | 12,117 |  
|                                                                                    |  |                    |        |  
|Income tax expense                                                                  |  |                    | 70     |   |                  |   |       |              |  |   | 124          |   |  |   |       |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Net income                                                                          |  |                    | 9,879  |   |                  |   | 7,526  |              |  |   | 20,809       |   |  |   | 12,117 |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Basic net income per share                                                          |  | $                  | 0.27   |   |                  | $ | 0.21   |              |  | $ | 0.57         |   |  | $ | 0.35   |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Shares used in computing basic net income per share                                 |  |                    | 36,349 |   |                  |   | 35,286 |              |  |   | 36,302       |   |  |   | 35,020 |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Diluted net income per share                                                        |  | $                  | 0.25   |   |                  | $ | 0.19   |              |  | $ | 0.52         |   |  | $ | 0.31   |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  
|Shares used in computing diluted net income per share                               |  |                    | 40,893 |   |                  |   | 40,036 |              |  |   | 40,939       |   |  |   | 39,405 |  
|                                                                                    |  |                    |        |   |                  |   |        |              |  |   |              |   |  |   |        |  



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



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##### Table of Contents

SOHU.COM INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, in thousands)



|                                                                                  |  |                  |         |   |              |   |        |  
|--------------------------------------------------------------------------------- |  | ---------------- | ------- | - | ------------ | - | ------ | -
|                                                                                  |  | Six Months Ended |        
|                                                                                  |  | June 30, 2004    |         |   | June 30,2003 |  
|Cash flows from operating activities:                                             |  |                  |         |   |              |   |        |  
|Net income                                                                        |  | $                | 20,809  |   |              | $ | 12,117 |  
|Adjustments to reconcile net income to net cash provided by operating activities: |  |                  |         |   |              |   |        |  
|Depreciation and amortization of other assets                                     |  |                  | 2,758   |   |              |   | 2,410  |  
|Amortization of intangible assets                                                 |  |                  | 537     |   |              |   |       |  
|Other                                                                             |  |                  | 415     |   |              |   | 125    |  
|Changes in assets and liabilities:                                                |  |                  |         |   |              |   |        |  
|Accounts receivable                                                               |  |                  | (6,958  | ) |              |   | (2,115 | )
|Accounts receivable from a related party                                          |  |                  |        |   |              |   | (6,006 | )
|Prepaid and other current assets                                                  |  |                  | (542    | ) |              |   | (470   | )
|Accounts payable                                                                  |  |                  | 272     |   |              |   | 223    |  
|Payable to related parties                                                        |  |                  |        |   |              |   | (721   | )
|Accrued liabilities                                                               |  |                  | 6,780   |   |              |   | 7,402  |  
|                                                                                  |  |                  |         |   |              |   |        |  
|Net cash provided by operating activities                                         |  |                  | 24,071  |   |              |   | 12,965 |  
|Cash flows from investing activities:                                             |  |                  |         |   |              |   |        |  
|Acquisition, net of cash acquired                                                 |  |                  | (16,920 | ) |              |   |       |  
|Long term investments in marketable debt securities                               |  |                  | 7,242   |   |              |   | 1,120  |  
|Acquisition of fixed assets                                                       |  |                  | (3,458  | ) |              |   | (1,423 | )
|Acquisition of other assets                                                       |  |                  | (304    | ) |              |   | (1,418 | )
|                                                                                  |  |                  |         |   |              |   |        |  
|Net cash used in investing activities                                             |  |                  | (13,440 | ) |              |   | (1,721 | )
|Cash flows from financing activities:                                             |  |                  |         |   |              |   |        |  
|Repurchase of common stock                                                        |  |                  | (17,721 | ) |              |   |       |  
|Issuance of common stock                                                          |  |                  | 2,564   |   |              |   | 1,075  |  
|                                                                                  |  |                  |         |   |              |   |        |  
|Net cash provided by/(used in) financing activities                               |  |                  | (15,157 | ) |              |   | 1,075  |  
|Net increase/(decrease) in cash and cash equivalents                              |  |                  | (4,526  | ) |              |   | 12,319 |  
|Cash and cash equivalents at beginning of period                                  |  |                  | 99,109  |   |              |   | 18,929 |  
|                                                                                  |  |                  |         |   |              |   |        |  
|Cash and cash equivalents at end of period                                        |  | $                | 94,583  |   |              | $ | 31,248 |  
|                                                                                  |  |                  |         |   |              |   |        |  



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



-5-



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##### Table of Contents

SOHU.COM INC.

CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS EQUITY

(Unaudited, in thousands)



|                                                            |  |                  |         |   |               |   |         |  
|----------------------------------------------------------- |  | ---------------- | ------- | - | ------------- | - | ------- | -
|                                                            |  | Six Months Ended |        
|                                                            |  | June 30, 2004    |         |   | June 30, 2003 |  
|Common stock                                                |  |                  |         |   |               |   |         |  
|Balance, beginning of period                                |  | $                | 36      |   |               | $ | 35      |  
|Issuance of common stock                                    |  |                  |        |   |               |   | 1       |  
|                                                            |  |                  |         |   |               |   |         |  
|Balance, end of period                                      |  |                  | 36      |   |               |   | 36      |  
|                                                            |  |                  |         |   |               |   |         |  
|Additional paid-in capital                                  |  |                  |         |   |               |   |         |  
|Balance, beginning of period                                |  |                  | 140,218 |   |               |   | 129,881 |  
|Issuance of common stock                                    |  |                  | 2,570   |   |               |   | 1,143   |  
|Tax benefit from stock options                              |  |                  | 124     |   |               |   |        |  
|Compensatory stock options                                  |  |                  | (1      | ) |               |   | (30     | )
|                                                            |  |                  |         |   |               |   |         |  
|Balance, end of period                                      |  |                  | 142,911 |   |               |   | 130,994 |  
|                                                            |  |                  |         |   |               |   |         |  
|Treasury stock                                              |  |                  |         |   |               |   |         |  
|Balance, beginning of period                                |  |                  | (2,003  | ) |               |   | (2,003  | )
|Repurchase of common stock                                  |  |                  | (17,721 | ) |               |   |        |  
|                                                            |  |                  |         |   |               |   |         |  
|Balance, end of period                                      |  |                  | (19,724 | ) |               |   | (2,003  | )
|                                                            |  |                  |         |   |               |   |         |  
|Accumulated deficit                                         |  |                  |         |   |               |   |         |  
|Balance, beginning of period                                |  |                  | (46,830 | ) |               |   | (73,187 | )
|Net income                                                  |  |                  | 20,809  |   |               |   | 12,117  |  
|                                                            |  |                  |         |   |               |   |         |  
|Balance, end of period                                      |  |                  | (26,021 | ) |               |   | (61,070 | )
|                                                            |  |                  |         |   |               |   |         |  
|Accumulated other comprehensive income/(loss)               |  |                  |         |   |               |   |         |  
|Balance, beginning of period                                |  |                  | 232     |   |               |   | 547     |  
|Net unrealized gains/(losses) on marketable debt securities |  |                  | (750    | ) |               |   | 12      |  
|Foreign currency translation adjustment                     |  |                  | 2       |   |               |   | (2      | )
|                                                            |  |                  |         |   |               |   |         |  
|Balance, end of period                                      |  |                  | (516    | ) |               |   | 557     |  
|                                                            |  |                  |         |   |               |   |         |  
|Deferred Compensation                                       |  |                  |         |   |               |   |         |  
|Balance, beginning of period                                |  |                  | (14     | ) |               |   | (42     | )
|Compensatory stock options                                  |  |                  | 13      |   |               |   | 17      |  
|                                                            |  |                  |         |   |               |   |         |  
|Balance, end of period                                      |  |                  | (1      | ) |               |   | (25     | )
|                                                            |  |                  |         |   |               |   |         |  
|Total stockholders equity                                  |  | $                | 96,685  |   |               | $ | 68,489  |  
|                                                            |  |                  |         |   |               |   |         |  
|Comprehensive Income:                                       |  |                  |         |   |               |   |         |  
|Net Income                                                  |  |                  | 20,809  |   |               |   | 12,117  |  
|Other comprehensive income/(loss):                          |  |                  |         |   |               |   |         |  
|Net unrealized gains/(losses) on marketable debt securities |  |                  | (750    | ) |               |   | 12      |  
|Foreign currency translation adjustment                     |  |                  | 2       |   |               |   | (2      | )
|                                                            |  |                  |         |   |               |   |         |  
|Total comprehensive income                                  |  |                  | 20,061  |   |               |   | 12,127  |  
|                                                            |  |                  |         |   |               |   |         |  
|                                                            | 
|                                                            |  | Number of Shares |        
|Common stock                                                |  |                  |         |   |               |   |         |  
|Balance, beginning of period                                |  |                  | 36,101  |   |               |   | 34,611  |  
|Issuance of common stock                                    |  |                  | 1,225   |   |               |   | 1,009   |  
|Repurchase of common stock                                  |  |                  | (1,000  | ) |               |   |        |  
|                                                            |  |                  |         |   |               |   |         |  
|Balance, end of period                                      |  |                  | 36,326  |   |               |   | 35,620  |  
|                                                            |  |                  |         |   |               |   |         |  



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



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##### Table of Contents

SOHU.COM INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)



1. THE COMPANY AND BASIS OF PRESENTATION



Sohu.com Inc., (the Company) is a leading provider of comprehensive online products and services to consumers and businesses in the Peoples Republic of
China (the PRC or China). The Company, a Delaware corporation, commenced operations in 1996.



The accompanying unaudited consolidated interim financial statements reflect all normal recurring adjustments which, in the opinion of management, are necessary for a
fair statement of the results for the interim periods presented. Results for the three and six months ended June 30, 2004 are not necessarily indicative of the results expected for the full fiscal year or for any future period.



These financial statements have been prepared in accordance with generally accepted
accounting principles in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements.



These
financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Companys Annual Report on Form 10-K for the year ended December 31, 2003.



2. SEGMENT INFORMATION



During the three months ended June 30, 2004, the Company revised its segment reporting and has reclassified results from e-subscription
services other than wireless services to other non-advertising operations and reports wireless as its own segment. The Company mainly operates in three principal segments: advertising, wireless and e-commerce. The amounts for prior periods have been
reclassified to conform to current period presentation.



The Company does not
allocate any operating costs, including Web site operating costs, or assets to its wireless and e-commerce segments as management does not use this information to measure the performance of the operating segments. The segment information has been
included in the condensed consolidated statements of operations (unaudited) for the three and six months ended June 30, 2004 and 2003, respectively.



3. REPURCHSE OF SHARES



In April 2004, the Board of Directors of the Company approved a stock repurchase program pursuant to which the Company plans to purchase from time to time up to $30,000,000 worth of outstanding shares of its common
stock in the open market. During the three months ended June 30, 2004, the Company repurchased one million shares of its common stock at an average price of $17.72. The one million shares are no longer outstanding and are being held as treasury
stock. Treasury stock is accounted for under the cost method.



4.
ACQUISITION



On May 31, 2004, the Company, through Sohu.com Limited and
its variable interest entities, Beijing Century High Tech Co. Ltd. and Beijing Sohu Internet Information Service Co., Ltd., completed the acquisition of all of the outstanding capital stock of Beijing Goodfeel Information Technology Co., Ltd., a
company incorporated in the PRC, and Marvel Hero Limited, a company incorporated in Hong Kong (collectively Goodfeel) for total consideration of $18,153,000 consisting of the purchase price of $18,000,000 in cash and estimated other
acquisition costs of $153,000. Goodfeel engages in web application protocol services, consisting mainly of ring tone downloads, to mobile phone users in the PRC. The acquisition has been accounted for as a purchase business combination and the
results of operations from the acquisition date have been included in the Companys consolidated financial statements.



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The allocation of the purchase price is as follows (in thousands):



|                               |  |   |        |  
|------------------------------ |  | - | ------ | -
|Tangible assets acquired       |  | $ | 2,176  |  
|Identifiable intangible assets |  |   | 8,742  |  
|Goodwill                       |  |   | 7,681  |  
|                               |  |   |        |  
|Liabilities assumed            |  |   | (446   | )
|                               |  |   |        |  
|Total                          |  | $ | 18,153 |  
|                               |  |   |        |  



The excess of purchase price over
tangible and identifiable intangible assets acquired and liabilities assumed was recorded as goodwill. Identifiable intangible assets associated with the acquisition are amortized over their expected useful lives. The allocation of the purchase
price is based on preliminary valuation amounts which are expected to be finalized in the third quarter of 2004.



The goodwill and intangible assets associated with the acquisition are related to the wireless segment.



5. NET INCOME PER SHARE



Basic net income per share is computed using the weighted average number of common shares outstanding during the period. Diluted net income per share is computed using
the weighted average number of common shares and, if dilutive, potential common shares outstanding during the period. Potential common shares consist of shares issuable upon the exercise of stock options (using the treasury stock method) and zero
coupon convertible senior notes.



The following table presents the calculation
of basic and diluted net income per share (in thousands, except per share data):



|                                                                            |  |                             |        |                           |   |        |  |      |        |  |   |       
|--------------------------------------------------------------------------- |  | --------------------------- | ------ | ------------------------- | - | ------ |  | ---- | ------ |  | - | ------
|                                                                            |  | Three Months Ended June 30, |        | Six Months Ended June 30,
|                                                                            |  | 2004                        |        | 2003                      |   | 2004   |  | 2003
|Numerator:                                                                  |  |                             |        |                           |   |        |  |      |        |  |   |       
|Net income                                                                  |  | $                           | 9,879  |                           | $ | 7,526  |  | $    | 20,809 |  | $ | 12,117
|Effect of dilutive securities:                                              |  |                             |        |                           |   |        |  |      |        |  |   |       
|Liquidated damages                                                          |  |                             | 107    |                           |   |       |  |      | 157    |  |   |      
|Amortization of offering costs for the zero coupon convertible senior notes |  |                             | 202    |                           |   |       |  |      | 400    |  |   |      
|                                                                            |  |                             |        |                           |   |        |  |      |        |  |   |       
|Net income adjusted for dilutive securities                                 |  | $                           | 10,188 |                           | $ | 7,526  |  | $    | 21,366 |  | $ | 12,117
|                                                                            |  |                             |        |                           |   |        |  |      |        |  |   |       
|Denominator:                                                                |  |                             |        |                           |   |        |  |      |        |  |   |       
|Weighted average basic common shares outstanding                            |  |                             | 36,349 |                           |   | 35,286 |  |      | 36,302 |  |   | 35,020
|Effect of dilutive securities:                                              |  |                             |        |                           |   |        |  |      |        |  |   |       
|Stock options                                                               |  |                             | 2,533  |                           |   | 4,750  |  |      | 2,626  |  |   | 4,385 
|Zero coupon convertible senior notes                                        |  |                             | 2,011  |                           |   |       |  |      | 2,011  |  |   |      
|                                                                            |  |                             |        |                           |   |        |  |      |        |  |   |       
|Weighted average diluted common shares outstanding                          |  |                             | 40,893 |                           |   | 40,036 |  |      | 40,939 |  |   | 39,405
|                                                                            |  |                             |        |                           |   |        |  |      |        |  |   |       
|Basic net income per share                                                  |  | $                           | 0.27   |                           | $ | 0.21   |  | $    | 0.57   |  | $ | 0.35  
|                                                                            |  |                             |        |                           |   |        |  |      |        |  |   |       
|Diluted net income per share                                                |  | $                           | 0.25   |                           | $ | 0.19   |  | $    | 0.52   |  | $ | 0.31  
|                                                                            |  |                             |        |                           |   |        |  |      |        |  |   |       



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##### Table of Contents

6. STOCK BASED COMPENSATION



The following table illustrates the effect on net income and income per share if the Company had applied the fair value recognition
provisions of SFAS No. 123 Accounting for Stock-Based Compensation to stock-based employee compensation for the three and six months ended June 30, 2004 and 2003 (in thousands except per share data):



|                                                                                  |  |                    |        |   |                  |   |       |              |  |   |               |   |  |   |        |  
|--------------------------------------------------------------------------------- |  | ------------------ | ------ | - | ---------------- | - | ----- | ------------ |  | - | ------------- | - |  | - | ------ | -
|                                                                                  |  | Three Months Ended |        |   | Six Months Ended |  
|                                                                                  |  | Jun. 30,2004       |        |   | Jun. 30, 2003    |   |       | Jun. 30,2004 |  |   | Jun. 30, 2003 |  
|Net income as reported:                                                           |  | $                  | 9,879  |   |                  | $ | 7,526 |              |  | $ | 20,809        |   |  | $ | 12,117 |  
|Add: Stock-based compensation expense included in reported net income             |  |                    | 7      |   |                  |   | 6     |              |  |   | 12            |   |  |   | (12    | )
|Deduct: Stock-based compensation expense determined under fair value based method |  |                    | (1,478 | ) |                  |   | (665  | )            |  |   | (2,947        | ) |  |   | (1,378 | )
|                                                                                  |  |                    |        |   |                  |   |       |              |  |   |               |   |  |   |        |  
|Pro forma net income attributable to common shareholders                          |  | $                  | 8,408  |   |                  | $ | 6,867 |              |  | $ | 17,874        |   |  | $ | 10,727 |  
|                                                                                  |  |                    |        |   |                  |   |       |              |  |   |               |   |  |   |        |  
|Basic net income per share:                                                       |  |                    |        |   |                  |   |       |              |  |   |               |   |  |   |        |  
|As reported                                                                       |  | $                  | 0.27   |   |                  | $ | 0.21  |              |  | $ | 0.57          |   |  | $ | 0.35   |  
|Pro forma                                                                         |  | $                  | 0.23   |   |                  | $ | 0.19  |              |  | $ | 0.49          |   |  | $ | 0.31   |  
|Diluted net income per share:                                                     |  |                    |        |   |                  |   |       |              |  |   |               |   |  |   |        |  
|As reported                                                                       |  | $                  | 0.25   |   |                  | $ | 0.19  |              |  | $ | 0.52          |   |  | $ | 0.31   |  
|Pro forma                                                                         |  | $                  | 0.21   |   |                  | $ | 0.17  |              |  | $ | 0.44          |   |  | $ | 0.27   |  



7. VARIABLE INTEREST ENTITIES
(VIEs) AND RELATED PARTY TRANSACTIONS



(1) VIEs



The Company has adopted FASB Interpretation No. 46 Consolidation
of Variable Interest Entities(FIN46). FIN 46 requires a VIE to be consolidated by a company if that company is the primary beneficiary of that VIE.



To satisfy PRC laws and regulations, the Company conducts its Internet information, wireless, Internet access, e-commerce and certain other
businesses in the PRC via its VIEs. These VIEs are directly or indirectly owned by Dr. Charles Zhang (Dr. Zhang), the Companys Chairman, Chief Executive Officer and a major Sohu shareholder, and certain employees of the Company.
Capital for the VIEs is funded by the Company through loans provided to Dr. Zhang and the employees, and is initially recorded as loans to related parties. These loans are eliminated for accounting purposes with the capital of VIEs during
consolidation.



Under contractual agreements with the Company, Dr. Zhang and
other Sohu employees who are shareholders of the VIEs are required to transfer their ownership in these entities to the Company, if permitted by PRC laws and regulations, or, if not so permitted, to designees of the Company at any time to repay the
loans outstanding. All voting rights of the VIEs are assigned to the Company, and the Company has the right to designate all directors and senior management personnel of the VIEs. Dr. Zhang and the other Sohu employees who are shareholders of the
VIEs have pledged their shares in the VIEs as collateral for the loans. As of June 30, 2004, the amount of these loans amounted to $5.2 million.



The following is a summary of the VIEs of the Company:



| | a) | Beijing Sohu Online Information Service Co., Ltd. (Beijing Sohu)
| | -- | ------------------------------------------------------------------

Beijing Sohu was incorporated in the PRC in 2000 and engages in Internet information, wireless and e-commerce services in the PRC on behalf of the Company. The registered capital of Beijing Sohu is $242,000. Dr. Zhang
and He Jinmei, another employee of the Company, hold 80% and 20% interests in Beijing Sohu, respectively.



| | b) | Beijing Century High Tech Investment Co., Ltd. (High Century)
| | -- | ---------------------------------------------------------------

High Century was incorporated in the PRC in 2001 and engages in investment holding in the PRC on behalf of the Company. The registered capital of High Century is $4,595,000. Dr. Zhang and Li Wei, another employee of
the Company, hold 80% and 20% interests in High Century, respectively.



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##### Table of Contents

| | c) | Beijing Hengda Yitong Internet Technology Development Co., Ltd. (Hengda)
| | -- | --------------------------------------------------------------------------

Hengda was incorporated in the PRC in 2002 and engages in Internet access and wireless services in the PRC on behalf of the Company. The registered capital of Hengda is $1,210,000. High Century and He Jinmei hold 80%
and 20% interests in Hengda, respectively.



| | d) | Beijing Sohu Internet Information Service Co., Ltd. (Sohu Internet)
| | -- | ---------------------------------------------------------------------

Sohu Internet was incorporated in the PRC in 2003 and engages in Internet information and wireless services in the PRC on behalf of the Company. The original registered capital was $605,000 and High Century and Li Wei
held 80% and 20% interests in Sohu Internet, respectively. Hengda made a $605,000 investment in Sohu Internet in December 2003, and, as a result, the registered capital is now $1,210,000, with Hengda, High Century and Li Wei holding 50%, 40% and 10%
interests, respectively.



| | e) | Beijing Goodfeel Information Technology Co., Ltd. (Goodfeel)
| | -- | --------------------------------------------------------------

Goodfeel was incorporated in the PRC in 2001 and engages in value added wireless services in the PRC. The registered capital of Goodfeel is $121,000. In May 2004, High Century and Sohu Internet acquired 73% and 27%
interests in Goodfeel, respectively.



Pursuant to FIN 46, Beijing Sohu, High
Century, Hengda, Sohu Internet, and Goodfeel are VIEs and the Company is the primary beneficiary. Accordingly, effective July 1, 2003, the VIEs have been consolidated in the Companys financial statements.



As of June 30, 2004, the aggregate accumulated losses of the above VIEs were approximately
$635,000 and have been reflected in the consolidated financial statements.



(2) Related party transactions



Effective July 1, 2003, the
VIEs have been consolidated in the Companys financial statements. The Company has not restated earlier periods for the adoption of FIN 46. Thus, prior to July 1, 2003, the VIEs were not consolidated in the Companys financial statements
and transactions with and balances related to the VIEs have been disclosed as related party transactions.



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The following table summarized related party transactions during the three and six months ended June 30,
2004 and 2003, respectively: (in thousands)



|                                                                                                     |  |                                     |  |                    |    |                  |   |              |  |   |     |  |   |       
|---------------------------------------------------------------------------------------------------- |  | ----------------------------------- |  | ------------------ | -- | ---------------- | - | ------------ |  | - | --- |  | - | ------
|Name or description of Related party                                                                 |  | Description of transactions         |  | Three Months Ended |    | Six Months Ended
|                                                                                                     |  | Jun. 30,2004                        |  | Jun. 30,2003       |    | Jun. 30, 2004    |   | Jun. 30,2003
|Beijing Sohu                                                                                         |  | Wireless revenues                   |  | $                  |   |                  | $ | 10,967       |  | $ |    |  | $ | 19,455
|Beijing Sohu                                                                                         |  | Wireless cost of revenues           |  |                    |   |                  |   | 3,266        |  |   |    |  |   | 5,767 
|Beijing Sohu                                                                                         |  | Ecommerce revenues                  |  |                    |    |                  |   | 984          |  |   |    |  |   | 2,159 
|Beijing Sohu                                                                                         |  | Ecommerce cost of revenues          |  |                    |   |                  |   | 857          |  |   |    |  |   | 1,834 
|Beijing Sohu                                                                                         |  | Service provided by Beijing Sohu    |  |                    |   |                  |   | 36           |  |   |    |  |   | 72    
|Hengda                                                                                               |  | Other revenues from a related party |  |                    |   |                  |   | 268          |  |   |    |  |   | 334   
|Hengda                                                                                               |  | Cost of other revenues              |  |                    |   |                  |   | 282          |  |   |    |  |   | 427   
|Qinfan, a company controlled by Dr. Zhangs brother                                                  |  | Delivery service provided by Qinfan |  |                    | 31 |                  |   | 34           |  |   | 66  |  |   | 65    
|An investee of one of the Companys shareholders                                                     |  | Advertising revenues                |  |                    | 97 |                  |   |             |  |   | 215 |  |   |      
|A company whose founder, Chief Executive Officer and Chairman is one of the directors of the Company |  | Advertising revenues                |  |                    | 24 |                  |   |             |  |   | 30  |  |   |      



8. COMMITMENTS AND CONTINGENCIES



The Chinese market in which the Company operates poses certain
macro-economic and regulatory risks and uncertainties. These uncertainties extend to the ability of the Company to operate an Internet and wireless business and to offer content, advertising, and wireless services in China. Though China has, since
1978, implemented a wide range of market-oriented economic reforms, continued reforms and progress towards a full market-oriented economy are uncertain. In addition, the telecommunication, information, and media industries remain highly regulated.
Restrictions are currently in place or are unclear regarding in what specific segments of these industries foreign owned entities, like the Company, may operate. The Companys legal structure and scope of operations in China could be subjected
to restrictions which could result in severe limits to the Companys ability to conduct business in China.



During the three months ended June 30, 2004, the Company recorded expenses of $ 697,000 related to notices of penalties and complaints from one of its mobile network
operators based on allegations of the breach of certain provisions of the agreements with the mobile network operator. The actual penalties may differ from the amount recorded. However, management does not expect the difference, if any, to have a
material impact on the Companys financial position, results of operations or cash flows.



On June 17, 2004, the Company, as a result of an unintentional technical error, breached its provisions of an agreement with one of its mobile network operators. The technical error was rectified soon after it was
detected by the Company. On August 3, 2004, the Company was first informed by the operator about the operators knowledge of the breach. The Company has subsequently commenced discussion with the operator regarding measures to be taken to
ensure future compliance with the agreement, and potentially a penalty or some other punitive actions to be taken as a result of the breach. As the discussions are still ongoing, the Company can not assess the likely amount of any potential penalty,
if any, or the nature of any other punitive actions. Hence, no provision was made for the breach during the three and six months ended June 30, 2004.



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



As used in this report, references to us, we, our, our company, Sohu and Sohu.com are to
Sohu.com Inc., and, except where the context requires otherwise, our subsidiaries ChinaRen Inc. (or ChinaRen), Sohu.com (Hong Kong) Limited (or Sohu Hong Kong), Sohu.com Limited, Kylie Enterprises Limited, All Honest International Limited, Sohu ITC
Information Technology (Beijing) Co., Ltd. (or Beijing ITC), Beijing Sohu New Era Information Technology Co., Ltd. (or Sohu Era), and Beijing Sohu Interactive Software Co., Ltd. (or Sohu Software), and our VIEs Beijing Sohu Online Network
Information Services, Ltd. (or Beijing Sohu), Beijing Century High Tech Investment Co., Ltd. (or High Century), Beijing Hengda Yitong Internet Technology Development Co., Ltd. (or Hengda), Beijing Sohu Internet Information Service Co., Ltd. (or Sohu
Internet), and Beijing Goodfeel Information Technology Co., Ltd. (or Goodfeel) and these references should be interpreted accordingly. Unless otherwise specified, references to China or PRC refer to the Peoples Republic
of



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China and do not include the Hong Kong Special Administrative Region, the Macau Special Administrative Region or Taiwan. This report contains
forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including, without limitation, statements regarding our expectations, beliefs, intentions or future
strategies that are signified by the words expect, anticipate, intend, believe, or similar language. All forward-looking statements included in this document are based on information available to us on
the date hereof, and we assume no obligation to update any such forward-looking statements. Our business and financial performance are subject to substantial risks and uncertainties. Actual results could differ materially from those projected in the
forward-looking statements. In evaluating our business, you should carefully consider the information set forth below under the caption Risk Factors. Readers are cautioned not to place undue reliance on these forward-looking statements.



OVERVIEW



We are a leading provider of comprehensive online products and services to consumers and
businesses in China, through our comprehensive matrixes of web properties, consisting of the mass portal and leading online media destination www.sohu.com; the online alumni club www.chinaren.com; the games portal www.17173.com; one of the top real
estate websites www.focus.cn; and wireless services provider www.goodfeel.com.cn. We offer our user community very broad choices regarding information, entertainment, communication, wireless and e-commerce. We derive revenues principally from
advertising, wireless and e-commerce services.



We were incorporated in August
1996 as Internet Technologies China Incorporated, and launched our original Web site, itc.com.cn, in January 1997. During 1997, we developed Sohu online directory, search engine and related technology infrastructure, and also focused on recruiting
personnel, raising capital and aggregating content to attract and retain users. In February 1998 we re-launched our Web site under the domain name sohu.com and in September 1999 we re-named our company Sohu.com Inc. Our business operations are
conducted primarily through our indirect wholly owned subsidiaries, Beijing ITC and Sohu Era, and our variable interest entities Sohu Internet and Beijing Sohu.



CRITICAL ACCOUNTING POLICIES AND MANAGEMENT ESTIMATES



Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses,
and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of
which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe
accounting for advertising revenue, accounting for wireless revenues and cost of revenues, e-commerce, gross versus net basis of revenue recognition, allowance for doubtful accounts, valuation allowance against deferred tax assets and assessment of
impairment for goodwill and other intangible assets represent critical accounting policies that reflect more significant judgments and estimates used in the preparation of our consolidated financial statements.



We generate advertising revenue from standard, sponsorship and retail contracts, most of
which are one year or less in duration. Such contracts establish the fixed price and advertising services to be provided. Pursuant to advertising contracts, we provide advertisement placements on various Web site channels and in different formats,
including but not limited to banners, links, logos, buttons, content integration and email marketing. Revenue is recognized ratably over the period the advertising is provided and, as such, we consider the services to have been delivered. We treat
all elements of advertising contracts as a single unit of accounting for revenue recognition purposes. Based upon our credit assessments of our customers prior to entering into contracts, we determine if collectibility is reasonably assured. In
situations where collectibility is not deemed to be reasonably assured, we recognize revenue upon payment from the customer.



Sponsorship contracts may include services similar to those in our standard advertising contracts, are generally for larger dollar amounts and for a longer period of
time, may allow advertisers to sponsor a particular area on our Web site, may include brand affiliation services and/or a larger volume of services, and may require some exclusivity or premier placements. Sponsorship advertisement revenues are
normally recognized on a straight line basis over the contract period and when collection of the resulting receivable is reasonably assured provided we are meeting our obligations under the contract. Pursuant to retail advertising contracts, which
are normally for lower dollar amounts and are with small and medium size enterprises, we provide services which include listings in our search directory or our classified advertisements section, normally for a fixed annual fee, and priority
placements on search results for a fixed fee or variable pricing based on bidding by different competitors. For retail advertising contracts, revenue is recognized as the service is provided, which is normally on a straight line basis over the term
of the contract, and collection of the resulting receivable is reasonably assured. Material differences could result in the amount and timing of our revenue for any period if management made different judgments or utilized different estimates.



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Wireless revenues and corresponding cost of revenues are included within non-advertising revenues and cost of revenues.
Wireless revenues are derived from providing short messaging services (SMS), multimedia messaging services (MMS), web application protocol services (WAP) and interactive voice response services (IVR),
mainly consisting of alumni club, GGMM, and other community products, e-mail, ring tone and logo downloads, news, and various other mobile related products, to mobile phone users. Wireless service fees are charged on a monthly or per message basis.
Wireless revenues and cost of revenues are recognized in the month in which the service is performed, provided no significant Sohu obligations remain. We rely on a number of mobile network operators in China to bill mobile phone users for wireless
service fees. In order to meet ownership requirements under PRC law which restrict or prohibit wholly foreign owned enterprises from providing Internet information and value added telecommunication services such as wireless, we rely on Beijing Sohu
and Sohu Internet to contract with the mobile operators. Generally, (i) within 15 to 90 days after the end of each month, Beijing Sohu or Sohu Internet receives a statement from each of the operators confirming the amount of wireless service charges
billed to that operators mobile phone users and (ii) within 30 to 120 days after delivering a monthly statement to Beijing Sohu or Sohu Internet each operator remits the wireless service fees, net of its service fees, for the month to Beijing
Sohu or Sohu Internet, which then transfers the funds to our subsidiary Sohu Era. In order to recognize revenue and get paid for services provided, we rely on billing confirmations from the mobile network operators as to the actual amount of
services they have billed to their mobile customers. We do not collect wireless services fees from an operator in certain circumstances due to technical issues with the operators network. This is referred to as the failure rate,
which can vary from operator to operator. At the end of each reporting period, where an operator has not provided Beijing Sohu or Sohu Internet with the monthly statement for any month confirming the amount of wireless service charges billed to that
operators mobile phone users for the month, Sohu, using information generated from its own internal system and historical data, makes estimates of the failure rate and collectable wireless service fees and accrues revenue accordingly. The
quarterly historical differences in our estimated revenue which was recorded in the financial statements compared to the actual revenue have ranged from an underestimation of $400,000 (gross margin underestimate of $300,000) to an overestimation of
$160,000 (gross margin overestimate of $120,000) since 2002 when wireless revenues represented a significant portion of our total revenues. We believe we have the ability to make a reasonable estimate. However, material differences could result in
the amount and timing of our revenue and non advertising cost of revenue for any period because of differences between the actual failure rate per an operators statement and our internal records. For the three months ended June 30, 2004, 91%
of our wireless revenues had been confirmed by the monthly statements received from the mobile operators.



E-commerce revenues are earned from direct sales of consumer products through Sohus Web site. We rely on Beijing Sohu to conduct our e-commerce business to meet ownership requirements under PRC law which
restrict or prohibit wholly foreign owned enterprises from providing e-commerce services. In 2001, we established store.sohu.com, where we undertake fulfillment e-commerce activities and conduct e-commerce transactions. Our e-commerce products
consist of over 4,000 consumer products such as books, health care products, cosmetics, videos, music and computer equipment. We purchase products from suppliers, stock the goods in our warehouse and, upon receiving the orders from our Web site,
arrange for delivery to our customers, most of whom are individuals in Beijing, Shanghai and Guangzhou. Fulfillment is provided by delivery companies or through postal services. Substantially all sales are done on a cash on delivery basis. Product
sales include the right of return within 10 days after the goods have been received if the products have quality problems and the buyer has retained the original order form. We record product sales net of the estimated amount of returns. We estimate
an amount of product returns that is not significant.



Our management must
determine whether to record revenue for our wireless and e-commerce business lines using the gross or net method of reporting. Determining whether revenue should be reported gross or net is based on an assessment of various factors, principally
whether Sohu is acting as the principal in offering services to the customer or whether Sohu is acting as an agent in the transaction. To the extent Sohu is acting as a principal in a transaction Sohu reports as revenue the payments received on a
gross basis and reports as costs of revenue the amounts attributable to goods and services provided by third party operators and other vendors. To the extent Sohu is acting as an agent in a transaction Sohu reports as revenue the payments received
less commissions and other payments to third parties, i.e., on a net basis. The determination of whether Sohu is serving as principal or agent in a transaction is judgmental in nature and based on an evaluation of the terms of an arrangement. Based
on our assessment, our wireless revenues are recorded on a gross basis. We have primary responsibility for fulfillment and acceptability of the wireless services. The content and nature of the wireless services are designed and developed by us
(either independently or with third parties) and originate from our Web sites, our links located on third parties Web sites, or one of our dedicated phone numbers. The mobile operators that we contract with to deliver these services to the end
customers are not involved in the design or development of the services that are provided by us. The end customer purchases the wireless content, community access or value added services, such as our online dating, mobile email and mobile alumni
club that Sohu provides. The end customer receives identical services from us regardless of which third party mobile



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operator is used to deliver the message. In addition, when customers register on Sohus Web sites to use wireless services, they execute an online
contract with us that sets forth our obligations to the customer and the terms of the service that will be provided. Sohu has determined that in addition to the indicators of gross reporting, there are also certain indicators of net reporting,
including the fact that the mobile operators set maximum prices that Sohu can charge and that the contracts call for the assumption of credit risk by the mobile operators after a certain fixed percentage is paid by Sohu as an estimated bad debt
expense. This is part of the overall fees paid to the operators. The mobile operators also have the right to set regulations and procedures associated with using their platform. However, Sohu has determined that the gross revenue reporting
indicators are stronger, because Sohu is the primary obligor, adds value to the products, has inventory risk related to content and products, and has reasonable pricing latitude.



The majority of our e-commerce revenues are recorded on a gross basis where Sohu is the primary obligor but, depending on the terms of
particular contracts with our suppliers, the net basis is also used. Sohu considers itself the primary obligor in situations where Sohu has general and physical inventory risk and where we can set prices without any involvement from the suppliers.
Transactions related to certain technology products, such as cameras, computers and memory cards, are recorded on a net basis when the suppliers set minimum prices, Sohu does not have inventory risk, Sohu does not maintain inventory to meet
estimated customer demand and Sohu orders goods from suppliers only after receiving orders from customers.



To the extent revenues are recorded gross, any commissions or other payments to third parties are recorded as expenses so that the net amount (gross revenues, less expenses) flows through operating income.
Accordingly, the impact on operating income is the same whether Sohu records the revenue on a gross or net basis.



Our management must make estimates of the uncollectability of our accounts receivables. Management specifically analyzes accounts receivable, historical bad debts,
customer credit-worthiness, current economic trends and changes in our customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. Our accounts receivable balance was $19.5 million net of allowance for doubtful
accounts of $0.6 million as of June 30, 2004. If the financial condition of Sohus customers or telecom operators were to deteriorate, resulting in their inability to make payments, additional allowance might be required.



As of June 30, 2004, substantially all of our deferred tax assets are related to United
States net operating losses. Because substantially all of our income is earned in China, and we do not intend in the foreseeable future to repatriate this income to the United States where it would be taxable, we have recorded a full valuation
allowance against our gross deferred tax assets in order to reduce our deferred tax assets to the amount that is more likely than not to be realized. If events were to occur in the future that would allow us to realize more of our deferred tax
assets than the presently recorded net amount, an adjustment would be made to the deferred tax assets that would increase income for the period when those events occurred.



Our long-lived assets include goodwill and other intangible assets. We test goodwill for impairment at the reporting unit level (operating
segment or one level below an operating segment) on an annual basis, and between annual tests when an event occurs or circumstances change that could more likely than not reduce the fair value of goodwill below its carrying value. Application of a
goodwill impairment test requires judgment, including the identification of reporting units, assigning assets and liabilities to reporting units, assigning goodwill to reporting units, and determining the fair value of each reporting unit.
Significant judgments required to estimate the fair value of reporting units include estimating future cash flows, determining appropriate discount rates and making other assumptions. Changes in these estimates and assumptions could materially
affect the determination of fair value for each reporting unit. Any impairment losses recorded in the future could have a material adverse impact on our financial condition and results of operations.



As of June 30, 2004, we did not believe that any event or change of circumstances had
occurred that would result in material impairment losses in goodwill.



In
respect of our intangible assets, which mainly comprise domain names and marks and customer lists, we amortize the costs over their expected future economic lives. Management judgment is required in the assessment of the economic lives. Based on the
existence of one or more indicators of impairment, we measure any impairment of intangibles based on a projected discounted cash flow method using a discount rate determined by our management to be commensurate with the risk inherent in our business
model. An impairment charge would be recorded if we determine that the carrying value of intangible assets may not be recoverable. Our estimates of future cash flows require significant judgment based on our historical results and anticipated
results and are subject to many factors.



As of June 30, 2004, we were not
aware of any indication of impairment of our intangible assets.



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RESULTS OF OPERATIONS

FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2004 AND 2003



REVENUES



Total revenues were $27.3 million and $53.2 million
for the three and six months ended June 30, 2004, respectively, as compared to $19.3 million and $33.8 million for the corresponding periods in 2003.



Advertising Revenues



Advertising revenues increased by $6.6 million to $13.4 million for the three months ended June 30, 2004 and increased by $13.1 million to $24.4 million for the six months ended June 30, 2004 as compared to the
corresponding periods in 2003. The increase of $6.6 million for the three months ended June 30, 2004 from the corresponding period in 2003 consisted of: (i) $7.8 million from new advertisers, as more companies used the Internet as an advertising
medium; (ii) a $1.4 million increase in revenues from the advertisers who advertised with us in the three months ended June 30, 2003 and who continued to do so in the three months ended June 30, 2004; and (iii) a $1.2 million increase in fees we
receive for listing companies in our search directory, offset by a reduction of $3.8 million in revenues from some of our 2003 advertisers not advertising on our Web site in the three months ended June 30, 2004. The increase of $13.1 million for the
six months ended June 30, 2004 from the corresponding period in 2003 consisted of: (i) $13.7 million from new advertisers, as more companies used the Internet as an advertising medium; (ii) a $2.5 million increase in revenues from the advertisers
who advertised with us in the six months ended June 30, 2003 and who continued to do so in the six months ended June 30, 2004; and (iii) a $2.2 million increase in fees we receive for listing companies in our search directory, offset by a reduction
of $5.3 million in revenues from some of our 2003 advertisers not advertising on our Web site in the six months ended June 30, 2004. No single customer accounted for more than 10% of total advertising revenues for each of the three and six months
ended June 30, 2004 and 2003. We have not recorded any revenue from advertising barter transactions. As of June 30, 2004 and 2003, we had $4.1 million and $2.7 million of deferred revenues, respectively.



We expect advertising revenues to increase further in the third quarter of 2004 as compared
to the second quarter of 2004.



Non-advertising Revenues



Non-advertising revenues are derived principally from monetizing our users (i.e. consumers)
via wireless and e-commerce services.



Non-advertising revenues increased by
$1.3 million to $13.9 million for the three months ended June 30, 2004 and increased by $6.3 million to $28.8 million for the six months ended June 30, 2004 as compared to the corresponding periods in 2003. Non-advertising revenues for the three and
six months ended June 30, 2004 included non-advertising revenues from Beijing Sohu and Sohu Internet of $12.7 million and $26.3 million, respectively, as compared to $12.0 million and $21.6 million for the corresponding periods in 2003. Because of
restrictions on foreign owned companies engaging in the PRC wireless and e-commerce industries, we have used Beijing Sohu and Sohu Internet to contract on our behalf with PRC mobile network operators who provide the gateway for our wireless services
and collect our wireless service fees. Beijing Sohu and Sohu Internet collect the fees from the operators and then transfer them to our subsidiaries. There was no material impact on our revenues or margins from our reliance on these related party
arrangements. On July 1, 2003, we prospectively adopted FIN 46, which resulted in the consolidation of our variable interest entities, including Beijing Sohu and Sohu Internet. Thus, wireless and e-commerce revenues earned by Beijing Sohu and Sohu
Internet after this date are not disclosed as revenue from related parties.



Wireless. Wireless revenues increased by $337,000 to $11.3 million for the three months ended June 30, 2004 and increased by $4.1 million to $23.6 million for the six months ended June 30, 2004 as compared to the corresponding
periods in 2003. The increase for the three months ended June 30, 2004 from the corresponding period in 2003 was primarily due to: (i) an increase of $1.8 million in revenues from multimedia message services (MMS) and web application
protocol (WAP); and (ii) revenues of $0.5 million as a result of the acquisition of Goodfeel, offset by a decrease of $2.0 million in revenues from short messaging services (SMS). The increase for the six months ended June
30, 2004 from the corresponding period in 2003 was primarily due to: (i) an increase of $2.5 million in revenues from MMS and WAP; (ii) an increase of $1.1 million in revenues from SMS and (iii) revenues of $0.5 million as a result of the
acquisition of Goodfeel.



As a result of tightened controls over new billing
procedures and practices by China Mobile Cooperation Corporation (CMCC) and China Unicom Co., Ltd. (Unicom), and the high churn rate in some existing SMS products, we expect revenues from SMS to continue to decrease in the
third quarter of 2004 as compared to the second quarter of 2004. We expect revenues from WAP and MMS to increase further in the quarter. We expect our overall wireless revenues to decrease in the third quarter of 2004 as compared to the second
quarter of 2004. There could be further decreases in the future.



E-commerce. E-commerce revenues are earned primarily from sales of consumer products through Sohus Web site. In 2001, we established store.sohu.com, where we undertake fulfillment e-commerce activities and conduct e-commerce
transactions. Our e-commerce products consist of over 4,000 consumer products, such as books, health care products, videos, music and computer equipment. We purchase products from suppliers, stock the



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goods in our warehouse and, upon receiving the orders, arrange for delivery to our customers. Fulfillment is provided by delivery companies or through postal
services. Substantially all sales are done on a cash on delivery basis. E-commerce revenues increased by $386,000 to $1.4 million for the three months ended June 30, 2004 and increased by $530,000 to $2.7 million for the six months ended June 30,
2004 as compared to the corresponding periods in 2003.



Other services mainly
include online games, Internet access, and our design of Web sites and provision of Internet software to third parties.



COSTS AND EXPENSES



Cost of Revenues



Total cost of
revenues was $9.2 million and $17.9 million for the three and six months ended June 30, 2004, respectively, as compared to $6.3 million and $11.5 million for the corresponding periods in 2003.



Advertising Cost of Revenues



Advertising cost of revenues increased by $1.6 million to $3.4 million for the three months
ended June 30, 2004 and increased by $2.8 million to $6.2 million for the six months ended June 30, 2004 as compared to the corresponding periods in 2003. Advertising cost of revenues includes personnel costs and personnel overhead, content
purchases, depreciation and bandwidth. The increase for the three months ended June 30, 2004 from the corresponding period in 2003 was primarily due to a $550,000 increase in office and depreciation expense, a $448,000 increase in personnel expense,
a $252,000 increase in content and license fees, a $196,000 increase in retail revenues sharing with partners, a $95,000 increase in traveling and entertainment expenses and a $59,000 increase in other items including training expense and
professional fees. The increase for the six months ended June 30, 2004 from the corresponding period in 2003 was primarily due to a $965,000 increase in office and depreciation expense, a $738,000 increase in personnel expense, a $497,000 increase
in content and license fees, a $325,000 increase in retail revenues sharing with partners, a $151,000 increase in traveling and entertainment expenses, a $132,000 increase in other items including training expense and professional fees. Our
advertising gross margin for each of the three and six months ended June 30, 2004 was 75% as compared to 74% and 70% for the corresponding periods in 2003. Our gross margins improved because of the fixed nature of the advertising costs of revenues,
which have not increased at the same rate as revenues.



Non-advertising Cost
of Revenues



Non-advertising cost of revenues increased by $1.3 million to
$5.9 million for the three months ended June 30, 2004 and increased by $3.5 million to $11.7 million for the six months ended June 30, 2004, as compared to the corresponding periods in 2003. The increases are consistent with revenue growth.



Wireless. Wireless cost of revenues increased by $0.9 million to $4.1
million for the three months ended June 30, 2004 and increased by $2.5 million to $8.3 million for the six months ended June 30, 2004, as compared to the corresponding periods in 2003. Wireless cost of revenues consists mainly of collection and
wireless transmission charges paid to third party network operators, expenses related to notices of penalties and complaints from CMCC subsidiaries based on allegations of the breach of certain provisions of the agreements with the mobile network
operators, and fees or royalties paid to third party content providers for services and content associated with our wireless services. The expenses related to notices of penalties and complaints from CMCC subsidiaries were $697,000 and $977,000 for
the three and six months ended June 30, 2004, as compared to $0 for the three and six months ended June 30, 2003. The fees paid to third party providers vary between third party operators and include a gateway fee of $0.006 to $0.0151 per message,
depending on the volume of the monthly total wireless messages, and a collection fee of 15% to 30% of total fees collected by the third party operators from mobile phone users and paid to us. As the operator fees are charged on a per message basis
and as a percentage of revenue, the increase in wireless cost of revenues is consistent with our increase in wireless revenues. Content costs are also included in wireless cost of revenues but are immaterial as compared to collection and
transmission charges. Wireless cost of revenues does not include allocations for Web site operating costs. Our wireless gross margin was 63% and 65% for the three and six months ended June 30, 2004, respectively, as compared to 70% for each of the
three and six months ended June 30, 2003. Wireless gross margin decreased because wireless cost of revenues increased at a higher rate than revenues. We expect wireless gross margins to decrease by a few points in the coming two quarters, after
which gross margins are expected to stabilize.



On June 17, 2004, Sohu, as a
result of an unintentional technical error, breached its provisions of an agreement with one of its mobile network operators. The technical error was rectified soon after it was detected by the company. On August 3, 2004, Sohu was first informed by
the operator about the operators knowledge of the breach. Sohu has subsequently commenced discussion with the operator regarding measures to be taken to ensure future compliance with the agreement, and potentially a penalty or some other
punitive actions to be taken as a result of the breach. As the discussions are still ongoing, Sohu can not assess the likely amount of any potential penalty, if any, or the nature of any other punitive actions. Hence, no provision was made for the
breach during the three and six months ended June 30, 2004.



E-commerce.
E-commerce cost of revenues was $1.3 million and $2.6 million for the three and six months ended June 30, 2004, as compared to $0.9 million and $1.9 million for the three and six months ended June 30, 2003, respectively. E-commerce cost of revenues
consists mainly of the purchase price of consumer products sold and inbound and outbound shipping charges. E-commerce cost of revenues does not include allocations for Web site operating costs. The change in e-commerce cost of revenues from the
comparative period in 2003 is attributable to the change in sales volume. Our e-commerce gross margin was 2% for each of the three and six months ended June 30, 2004, respectively, as compared to 9% and 12% for the three and six months ended June
30, 2003. For the three months ended June 30, 2004, approximately six percentage points of the reduction in gross margin were attributable to our providing free delivery for orders greater than $6 and approximately one percentage point of the
reduction was attributable to our lowering sales prices of our products, both of which we instituted in response to product pricing pressures from our competitors in e-commerce, including Joyo, Bertelsmann Online and Dang Dang, and our initiative to
gain market share among consumers in Beijing. For



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the six months ended June 30, 2004, approximately six percentage points of the reduction in gross margin were attributable to our providing free delivery for
orders greater than $6 and approximately four percentage points of the reduction were attributable to our lowering sales prices of our products.



Product Development Expenses



Product development expenses increased $165,000 to $2.1 million for the three months ended June 30, 2004 and increased $297,000 to $4.0 million for the six months ended
June 30, 2004, as compared to the corresponding periods in 2003. The increase for the three months ended June 30, 2004 from the corresponding period in 2003 was primarily due to a $242,000 increase in personnel expense for additional employees to
support our increased investment in our products and online games development and a $57,000 increase in other items of including traveling and entertainment expenses, professional fees and communications, offset by a $134,000 decrease in office and
deprecation expense. The increase for the six months ended June 30, 2004 from the corresponding period in 2003 was primarily due to a $544,000 increase in personnel expense for additional employees and a $100,000 increase in other items including
traveling and entertainment expenses, professional fees and communications, offset by a $347,000 decrease in office and deprecation expenses.



Sales and Marketing Expenses



Sales and marketing expenses increased $1.7 million to $4.3 million for the three months ended June 30, 2004 and increased $2.9 million to $7.4 million for the six months
ended June 30, 2004, as compared to the corresponding periods in 2003. The increase for the three months ended June 30, 2004 from the corresponding period in 2003 was primarily due to a $643,000 increase in advertising and promotion expense to
support our marketing strategy, a $436,000 increase in personnel expenses, primarily the result of increased bonuses and commissions from increased advertising revenues, a $283,000 increase in bad debt expense, a $215,000 increase in traveling and
entertainment expenses, and a $156,000 increase in other items including office and depreciation expense and professional fees. The increase for the six months ended June 30, 2004 from the corresponding period in 2003 was primarily due to a $1.3
million increase in advertising and promotion expense, a $731,000 increase in personnel expenses, primarily the result of increased bonuses and commissions, a $336,000 increase in bad debt expense, a $328,000 increase in traveling and entertainment
expenses, and a $160,000 increase in other items including office and depreciation expense and professional fees.



General and Administrative Expenses



General and administrative expenses increased by $440,000 to $1.8 million for the three months ended June 30, 2004 and increased by $930,000 to $3.3 million for the six
months ended June 30, 2004, as compared to the corresponding periods in 2003. The increase for the three months ended June 30, 2004 was primarily due to a $270,000 increase in personnel expenses, a $67,000 increase in traveling and entertainment
expenses, a $103,000 increase in other items including office, depreciation and training expenses. The increase for the six months ended June 30, 2004 was primarily due to a $472,000 increase in personnel expenses, a $177,000 increase in
professional fees, a $85,000 increase in franchise taxes and stamp duties, and a $196,000 increase in other items including office, depreciation and training expenses.



Amortization of Intangibles



Amortization of intangibles of $360,000 and $537,000 for the three and six months ended June 30, 2004, respectively, was related to the acquisitions of the Focus.cn and
17173.com Web sites in the fourth quarter of 2003 and of Goodfeel in the second quarter of 2004. There was no amortization of intangibles recorded during the three and six months ended June 30, 2003.



Operating Profit



As a result of the foregoing, we had an operating profit of $9.6 million and $20.1 million for the three and six months ended June 30, 2004
as compared to $7.3 million and $11.6 million for the three and six months ended June 30, 2003. The operating profit for the three and six months ended June 30, 2004 included $7,000 and $12,000 for stock-based compensation expense recorded on the
grant of certain stock options, which amounts are being amortized over the vesting period of the options, ranging from one to four years. The operating profit for the three and six months ended June 30, 2003 included $6,000 and negative $12,000,
respectively, for stock-based compensation expense recorded on the grant or cancellation of certain stock options.



Other Expense



For the three and six months ended June 30, 2004, other expense of $196,000 and $404,000, respectively, consisted mainly of amortization of the offering costs of our zero coupon convertible senior notes. For the three
and six months ended June 30, 2003, other expense of $129,000 and $191,000, respectively, consisted mainly of valuation allowances for long-term loans to related parties.



Interest Income



For the three and six months ended June 30, 2004, interest income was $578,000 and $1.2 million, as compared to $343,000 and $670,000 for the three and six months ended
June 30, 2003. The increases were mainly due to our increased cash balance and marketable securities as a result of our private placement of zero coupon convertible senior notes in July 2003 and an increase in our profits.



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Income Tax Expense



Income tax expense was $70,000 and $124,000 for the three and six months ended June 30, 2004 due to tax benefits from stock options and there was no income tax expense
recorded for the corresponding periods in 2003.



Net Income



As a result of the foregoing, we had net income of $9.9 million and $20.8 million for the
three and six months ended June 30, 2004, as compared to a net income of $7.5 million and $12.1 million for the corresponding periods in 2003.



SEGMENT INFORMATION



During the three months ended June 30, 2004, the Company revised its segment reporting and has reclassified results from e-subscription services other than wireless services to other non-advertising operations and
reports wireless as its own segment. The Company mainly operates in three principal segments: advertising, wireless and e-commerce. The amounts for prior periods have been reclassified to conform to current period presentation.



LIQUIDITY AND CAPITAL RESOURCES



We have financed our operations principally through private sales of equity securities and
convertible notes, and cash provided by operations. From inception through June 30, 2004, we have raised net proceeds of $39.2 million through the sale of preferred stock in private placements, $52.4 million from the sale of common stock in our
initial public offering and $87.4 million through the sale of zero coupon convertible senior notes, as described below. Sohu invests its excess cash in marketable debt securities of high quality investment grade. As of June 30, 2004, we had cash,
cash equivalents, and investments in marketable debt securities totaling approximately $130.1 million as compared to $142.6 million as of December 31, 2003.



We completed a private placement on July 14, 2003 of $90.0 million principal amount of zero coupon convertible senior notes due July 2023, which resulted in net proceeds
to Sohu of approximately $87.4 million after deduction of the initial purchasers discount and our offering expenses. The notes do not pay any interest, have a zero yield to maturity, and are convertible into Sohus common stock at a
conversion price of $44.76 per share, subject to adjustment. Each $1,000 principal of the notes is initially convertible into 22.3414 shares of Sohus common stock. Each holder of the notes will have the right, at the holders option, to
require Sohu to repurchase all or any portion of the principal amount of the holders notes on July 14 in 2007, 2013 and 2018 at a price equal to 100% of the outstanding principal amount. Sohu may also redeem all or a portion of the notes for
cash at any time on or after July 14, 2008 at 100% of the principal amount of the notes if the closing price of Sohus common stock for each of the 30 consecutive trading days prior to such time was at least 130% of the conversion price or at
such time at least 90% of the initial aggregate principal amount of the notes have been converted, repurchased or redeemed. In addition, upon a change of control event, each holder of the notes may require Sohu to repurchase some or all of its notes
at a repurchase price equal to 100% of the principal amount of the notes plus accrued and unpaid interest. We have filed a registration statement with the Securities and Exchange Commission to register for resale the notes and the common stock
issuable upon conversion of the notes, which registration statement was declared effective by the Securities and Exchange Commission on July 8, 2004. Because the registration statement was not declared effective by January 10, 2004, we have been and
will be required to pay liquidated damages beginning January 11, 2004, consisting of interest on the outstanding principal of the notes at the initial annual rate of 0.25% for the first 90 days after January 10, 2004 and thereafter until July 8,
2004 at the annual rate of 0.50%.



In April 2004, our Board of Directors
approved a stock repurchase program pursuant to which we plan to purchase from time to time up to $30,000,000 worth of outstanding shares of our common stock in the open market. In May 2004, we repurchased one million shares of our common stock at
an average price of $17.752 including brokerage commissions. Under the program, we may purchase up to an additional $12.2 million worth of outstanding shares of our common stock in the open market. Any such purchases will depend upon market
conditions. Management does not believe the Repurchases will have a material effect on Sohus liquidity.



Net cash provided by operating activities was approximately $24.1 million for the six months ended June 30, 2004, and was primarily attributable to our net income of
$20.8 million, depreciation and amortization of $3.3 million and $415,000 of other adjustments for non-cash activities, offset by $448,000 of cash used as working capital. Net cash provided by operating activities was $13.0 million for the six
months ended June 30, 2003, primarily due to $12.1 million of our net income, $2.4 million of depreciation and amortization and $125,000 of other adjustments for non-cash activities, offset by $1.7 million of cash used as working capital.



Net cash used in investing activities was $13.4 million for the
six months ended June 30, 2004, and was primarily attributable to 16.9 million used in the acquisition of Goodfeel, the purchase of fixed assets of $3.4 million and addition of other assets of $0.3 million, offset by cash received from matured
marketable debts of $7.2 million. Net cash used in investing activities was $1.7 million for the six months ended June 30, 2003, primarily due to $1.4 million of purchase of fixed assets and $1.4 million of addition of other assets, offset by cash
received from matured marketable debts of $1.1 million.



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Net cash used in financing activities was $15.2 million for the six months ended June 30, 2004 and was attributable to
$17.8 million of repurchases of one million shares of our common stock offset by $2.6 million of proceeds from the issuance of common stock pursuant to our stock incentive plan. Net cash provided by financing activities for the six months ended June
30, 2003 was $1.1 million of proceeds from the issuance of common stock pursuant to our stock incentive plan.



We believe that current cash and cash equivalents will be sufficient to meet anticipated working capital (net cash used in operating activities), commitments and capital expenditures for at least the next twelve
months. We may, however, require additional cash resources due to changed business conditions or other future developments, including any investments or acquisitions we may decide to pursue.



At June 30, 2004, we have an unused credit facility whereby we can borrow up to $15.0 million
by providing marketable securities on deposit with the financial institution as collateral.



Risk Factors



We incurred net
losses from inception through the second quarter of 2002, and losses could recur in the future.



We incurred significant net losses from our inception in August 1996 through the quarter ended June 30, 2002. We had an accumulated deficit of
approximately $26.0 million at June 30, 2004. We may incur substantial net losses in the future due to the relative high risk associated with our revenue and the high level of planned operating and capital expenditures, including sales and marketing
costs, personnel hires, and product development. Although we recorded net profits from the quarter ended September 30, 2002 through the quarter ended June 30, 2004, we may not sustain profitability or our profitability could decrease.



We have a limited operating history, which may make it difficult for investors to
evaluate our business.



We began offering products and
services under the www.Sohu.com Web site in February 1998. Accordingly, we have a limited operating history upon which investors can evaluate our business. In addition, our senior management and employees have worked together at our company for only
a relatively short period of time. As an early stage company in the new and rapidly evolving PRC Internet market, we face numerous risks and uncertainties. Some of these risks relate to our ability to:



| |  | increase our online advertising and wireless revenues;
| | - | ------------------------------------------------------



| |  | build our online game and e-commerce businesses successfully;
| | - | -------------------------------------------------------------



| |  | continue to attract a larger audience to our portal by expanding the type and technical sophistication of the content and services we offer; and
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------



| |  | maintain our current, and develop new, strategic relationships to increase our revenue streams as well as product and service offerings.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------



Our operating results are likely to fluctuate significantly and may differ from market
expectations.



Our annual and quarterly operating
results have varied significantly in the past, and may vary significantly in the future, due to a number of factors which could have an adverse impact on our business, such as our reliance on mobile operators for our wireless revenue, the fact that
the Chinese Internet industry is in an early stage of development and we are unsure if it will continue to grow or at what rate it will grow, and the fact that we are subject to government regulations that may change at any time or without notice.
We rely on mobile operators for, among other things, billing of and collection of wireless service fees from mobile phone users. If our arrangements with the operators were to be terminated, altered or not renewed, or if the operators did not
provide continuous or adequate service, our revenues could be reduced significantly.



As a result, we believe that year-to-year and quarter-to-quarter comparisons of our operating results are not a good indication of our future performance. In addition, we have experienced very high growth rates in the
recent past and there may be expectations that these growth rates will continue. It is likely that in some future quarter, our operating results will be below the expectations of public market analysts and investors. In this event, the trading price
of our common stock may fall.



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We face intense competition which could reduce our market share and adversely affect our financial performance.



The PRC Internet market is characterized by an
increasing number of entrants because, among other reasons, the barriers to entry are relatively low. The market for Internet services and products, particularly wireless, online advertising, e-commerce and Internet search and retrieval services, is
intensely competitive. In addition, the Internet industry is relatively new and constantly evolving and, as a result, our competitors may better position themselves to compete in this market as it matures.



There are many companies that provide or may provide Web sites and online
destinations targeted at Internet users in China. Our major competitors in China include (i) U.S. listed companies, such as Sina Corporation, Netease, Tom Online, Kongzhong, Shanda, and Linktone; (ii) Hong Kong listed companies such as Tencent; and
(iii) major United States Internet companies, such as Yahoo! Inc and its newly-acquired 3721.com. These competitors may also improve or enhance their positions in the PRC Internet market through mergers and acquisitions. In addition, we may face
competition from existing or new domestic PRC Internet companies that are either affiliated with large corporations such as Legend Computer, America Online and Softbank Corporation, or controlled or sponsored by PRC government entities. These
competitors may have certain advantages over us, including:



| |  | substantially greater financial and technical resources;
| | - | --------------------------------------------------------



| |  | more extensive and well developed marketing and sales networks;
| | - | ---------------------------------------------------------------



| |  | better access to original content;
| | - | ----------------------------------



| |  | greater global brand recognition among consumers; and
| | - | -----------------------------------------------------



| |  | larger customer bases.
| | - | ----------------------



With these advantages, our competitors may be better able to:



| |  | develop, market and sell their products and services;
| | - | -----------------------------------------------------



| |  | adapt more quickly to new and changing technologies; and
| | - | --------------------------------------------------------



| |  | more easily obtain new customers.
| | - | ---------------------------------



We may not be able to compete successfully against our current or future competitors.



We depend on online advertising for a significant portion of our revenues.



We derive a significant portion of our revenues, and expect to derive a
significant portion of our revenues for the foreseeable future, from the sale of advertising on our Web sites. Advertising revenues represented approximately 46% and 33% of our total revenues for the six months ended June 30, 2004 and 2003,
respectively.



Our ability to generate and maintain significant online
advertising revenues in China will depend, among other things, on the development of a large base of users possessing demographic characteristics attractive to advertisers. Accordingly, we may not be successful in generating significant future
online advertising revenues.



Our ability to generate and
maintain significant online advertising revenues may also be subject to downward pressure on online advertising prices and limitations on inventory.



Our ability to generate and maintain significant online advertising revenues will also depend upon acceptance by advertisers that online advertising is effective.
The online advertising market is new and rapidly evolving, particularly in China, and the Internet has not been proven as a widely accepted medium for advertising.

The online advertising market is new and rapidly evolving, particularly in China. As a result, many of our current and potential advertising clients have limited experience using the Internet for advertising purposes
and historically have not devoted a significant portion of their advertising budget to Internet-based advertising. Moreover, advertising clients that have invested substantial resources in other methods of conducting business may be reluctant to
adopt a new strategy that may limit or compete with their existing efforts. The failure to successfully address these risks or execute our business strategy would significantly reduce our profitability.



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The acceptance of the Internet as a medium for advertising depends on the development of a measurement
standard. No standards have been widely accepted for the measurement of the effectiveness of online advertising.



Industry-wide standards may not develop sufficiently to support the Internet as an effective advertising medium. If these standards do not develop,
advertisers may choose not to advertise on the Internet in general or through our portals or search engines.



Our ability to generate and maintain significant online advertising revenues will also depend upon the effectiveness of our advertising delivery, tracking and
reporting systems.



The expansion of Internet advertisement
blocking software may result in a decrease of advertising revenues.



The development of Web software that blocks Internet advertisements before they appear on a users screen may hinder the growth of online advertising. The expansion of advertisement blocking on the Internet may
decrease our revenues because when an advertisement is blocked, it is not downloaded from our advertisement server. As a result, such advertisements will not be tracked as a delivered advertisement. In addition, advertisers may choose not to
advertise on the Internet or on our portal because of the use by third parties of Internet advertisement blocking software.



We rely on wireless services for a significant portion of our revenues. Wireless revenues decreased in the first and second quarters of 2004 and may decrease
further in the future.



We derive a significant portion of our
revenues from wireless services. We derive our wireless revenue from providing short messaging services (SMS), multimedia messaging services (MMS), web application protocol services (WAP) and interactive voice
response services (IVR), mainly consisting of alumni club and other community products, e-mail, ringtone and logo downloads and news, to mobile phone users. For the six months ended June 30, 2004 and 2003, wireless revenues represented
approximately 44% and 58%, respectively, of our total revenues. Wireless revenues decreased in the first and second quarters of 2004. Wireless revenues may decrease further in the future due to the possibilities that:



| |  | Our consumers may not understand our services or the fees they are being charged, may not be satisfied with our services and/or may not use our services on a regular basis;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Consumers may cancel their services at any time without notice;
| | - | ---------------------------------------------------------------



| |  | Currently over 83% of our wireless revenue is from consumers who subscribe for individual services for which we charge a monthly fee ranging from approximately $0.36 to $3.60.
During the quarter ended June 30, 2004, we continued to churn out of our old community products such as GGMM, which led to a downward trend of our wireless revenues from SMS services.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | We rely on revenue growth from new wireless services such as MMS, WAP and IVR to drive a significant portion of wireless revenue growth or offset the decrease in revenues from SMS
services. However, the current market size is relatively small and adoption rates are still relatively low for these services comparing to SMS services. We are not certain that revenues from these services will become a significant portion of our
total wireless revenues.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | We face intense competition from a number of companies who may launch competing or better products than us at any time. In addition, there are limited barriers to entry in this
area; and
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | Changes in government policy could restrict or curtail the services which we provide.
| | - | -------------------------------------------------------------------------------------



As a result of tightened controls over new billing procedures and practices by CMCC and Unicom, and the high churn rate in
some existing SMS products, we expect revenues from SMS to continue to decrease in the third quarter of 2004 as compared to the second quarter of 2004. We expect revenues from WAP and MMS to increase further in the quarter. We expect our overall
wireless revenues to decrease in the third quarter of 2004 as compared to the second quarter of 2004. There could be further decreases in the future.



We rely on contracts with our mobile network operators in a number of ways with respect to our wireless services, including for billing of, and collection from,
mobile phone users of wireless service fees. If our arrangements with mobile network operators were to be terminated, altered or not renewed, or if such operators did not provide continuous or adequate service, our revenues could be reduced
significantly.





Our wireless services depend mainly on the cooperation of CMCC and its subsidiaries and to a lesser extent Unicom and its subsidiaries. We rely on CMCC
and Unicom in the following ways:



| |  | we provide wireless services through CMCCs and Unicoms network and gateway;
| | - | -----------------------------------------------------------------------------



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| |  | we utilize and rely on CMCC and Unicoms billing systems to charge our subscribers through the subscribers mobile phone bill;
| | - | ------------------------------------------------------------------------------------------------------------------------------



| |  | we rely on their collection proxy services to collect payments from subscribers; and
| | - | ------------------------------------------------------------------------------------



| |  | we rely on their infrastructure to further develop our wireless services.
| | - | -------------------------------------------------------------------------



We have established cooperation arrangements with CMCC and Unicom and their subsidiaries. The contracts are typically renewed on an annual basis. Under
the agreements with CMCC and its subsidiaries, CMCC generally retains 15% of the fees we charge for wireless services provided to our users via their platform. In addition, CMCC deducts gateway fees from our portion of the wireless service fees. The
amount of such gateway fee is charged on a per message basis, varies for different products and is dependent upon message volume or our ranking among all wireless service providers using the same operators. Under the agreements with Unicom, Unicom
typically retains 10-40% (depending on the volume of messages) of the fees we charge for wireless services provided to our users via their platform. Unicom also deducts gateway fees, the amount of which is normally charged on a per message basis.
Under the agreements with CMCC and Unicom we have the right to set fees for our wireless services at a maximum of $0.25 per message or $3.62 per month.



We face significant risks with respect to our arrangements with CMCC and Unicom, such as the following, which could adversely affect our wireless
revenues:



| |  | We provide wireless services through our Web site and record the delivery of the service in our internal systems. However, in order to recognize revenue and get paid for services
provided, we rely on billing confirmations from CMCC and Unicom as to the actual amount of services they have billed to their mobile customers. We do not collect wireless service fees from an operator in certain circumstances due to technical issues
with the operators network. We refer to these failures as an operators failure rate, which can vary from operator to operator. An operators failure rate can vary from month to month, ranging from 0% to 80% and may
change at any time without notice. If an operator encounters technical problems, increases in the failure rate for that operator could occur.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | CMCC and its subsidiaries are currently in the process of establishing a new billing platform and may require us to switch to this platform in the near future. The new platform may
result in higher failure rates or lower revenues associated with changes in the billing procedures. Changes in failure rates may result in significant reductions or fluctuations in our wireless revenues.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | The service fees we pay for using an operators infrastructure are set based on the negotiation of annual contracts. Our contract with Unicom has been extended and will expire
in March 2005. Our contracts with CMCC expire at various times from November 2004 to May 2006. Our negotiating power is limited and if an operator increases its service fees, or does not comply with the terms of our contract, our gross margin and
profitability could be materially reduced.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | We rely on the operators to pay us the wireless service fees which they have billed to their mobile customers. If an operator refuses to pay us or limits the amount of wirelesss
service fees which can be billed in a month, our revenues could be adversely affected.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | An operator could launch competing services at any time.
| | - | --------------------------------------------------------



| |  | The refusal of an operator to allow us to supply certain services or its refusal to allow us to charge our desired prices for our services could disrupt our wireless services.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | If CMCC or Unicom were unwilling to cooperate with us, we would not be able to find substitute partners.
| | - | --------------------------------------------------------------------------------------------------------



| |  | Pursuant to the regulations of CMCC and Unicom, Sohu has the right to charge consumers who have registered to be billed on a monthly basis even if they do not use our services in
any month or on a regular basis. If CMCC and Unicom were to disallow us from billing consumers who do not actively use our services, our wireless revenue, generally, and our GGMM revenue, specifically, would be adversely affected.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | CMCC and Unicom have both recently changed their operating regulations and may make any further changes at any time. Such recent or any such future changes could result in our being
required to pay penalties for breaching or being alleged to have breached certain provisions of our agreement with CMCC or Unicom under new billing rules or revised operation procedures, or having our service discontinued without notice. Changes in
these operating regulations could also have a material impact
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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on our revenue. For example, in July 2003, CMCC disallowed us from using third party Web sites which do
not have Internet content provider licenses, or Web site union, to promote our e-subscriptions products. In addition, during the three months ended June 30, 2004 we recorded expenses of $697,000 related to notices of penalties and complaints from
subsidiaries of CMCC based on allegations of the breach of certain provisions of the agreements with the mobile network operators as a result of recent changes in CMCC operating regulations.



Many of our current and potential wireless customers have only limited experience using
the Internet for subscription purposes, and may not be willing to fully embrace the products and services we offer, which would adversely affect our future revenues and business expansion.



The wireless market is new and rapidly evolving in China. Many of our
current and potential wireless customers have limited experience using the Internet for subscription services. Our wireless revenue growth depends upon user acceptance of our existing and new services, such as our wireless dating, email, news,
sports and jokes content, mobile alumni club and other products. Because these services are new and untested, we do not have a clear understanding of consumer behavior, making it difficult to predict future growth or usage. Customers may not be
willing to fully embrace the products and services we offer.



Our investment in online games and e-commerce may not be successful.



We have invested and intend to invest further in our online game and e-commerce (online shopping) businesses. Online games are currently one of the fastest growing online services in the PRC, but remain unproven. The
online shopping marketing is small and unproven in the PRC. Some of our competitors have entered these markets ahead of us and have achieved significant market positions. We cannot assure you that we will succeed in these markets despite our
investments of time and funds. If we fail to achieve a significant position in these markets, we will fail to realize our intended returns in these investments. Moreover, our competitors who succeed may enjoy increased revenues and profit, and our
results and share price could suffer as a result.



Our strategy
of acquiring complementary assets, technologies and businesses may fail and may result in equity or earnings dilution.



As a component of our growth strategy, we have acquired and intend to actively identify and acquire assets, technologies and businesses that are
complementary to our existing portal business. Our acquisitions could result in the use of substantial amounts of cash, potentially dilutive issuances of equity securities, significant impairment losses related to goodwill or amortization expenses
related to intangible assets and exposure to undisclosed or potential liabilities of acquired companies. Moreover, the resources expended in identifying and consummating acquisitions may be significant. Furthermore, any acquisitions we decide to
pursue may be subject to the approval of the relevant PRC governmental authorities, as well as any applicable PRC rules and regulations.



The acquisitions and integration of 17173.com, Focus.cn and Goodfeel create certain risks and uncertainties.



We completed the acquisitions of 17173.com and Focus.cn in November 2003 and
the acquisition of Goodfeel in May 2004. As a result of the acquisitions, we continue to spend considerable time and effort in integrating into our company the employees, organization, customers and operations of 17173.com, Focus.cn and Goodfeel.
Also, there can be no assurance that we will succeed in realizing the anticipated economic benefits of the acquisitions, including increased advertising revenues.



We may be required to record a significant charge to earnings if we must reassess our goodwill or amortizable intangible assets
arising from acquisitions.



We are required under
generally accepted accounting principles to review our amortizable intangible assets for impairment when events or changes in circumstances indicate the carrying value may not be recoverable. Goodwill is required to be tested for impairment at least
annually. Factors that may be considered a change in circumstances indicating that the carrying value of our amortizable intangible assets may not be recoverable include a decline in stock price and market capitalization, and slower growth rates in
our industry. We may be required to record a significant charge to earnings in our financial statements during the period in which any impairment of our goodwill or amortizable intangible assets is determined. At June 30, 2004, our goodwill and
amortizable intangible assets arising from acquisitions were $52.0 million.



We will not be able to attract visitors, advertisers, wireless and e-commerce customers if we do not maintain and develop the Sohu brand.



Maintaining and further developing our brand is critical to our ability to expand our user base and our revenues. We believe
that the importance of brand recognition will increase as the number of Internet users in



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China grows. In order to attract and retain Internet users, advertisers, and wireless and e-commerce customers, we may
need to substantially increase our expenditures for creating and maintaining brand loyalty. If our revenues do not increase proportionately, our results of operations and liquidity will suffer.



Our success in promoting and enhancing our brand, as well as our ability to
remain competitive, will also depend on our success in offering high quality content, features and functionality. If we fail to promote our brand successfully or if visitors to our portal or advertisers do not perceive our content and services to be
of high quality, we may not be able to continue growing our business and attracting visitors, advertisers, and wireless and e-commerce customers.



If we fail to establish and maintain relationships with content and technology providers and mobile network operators, we may not be able to attract and retain
users.



We rely on a number of third party
relationships to attract traffic and provide content in order to make our portal more attractive to users and advertisers. Some content providers have increased the fees they charge us for their content. This trend could increase our operating
expenses and could adversely affect our ability to obtain content at an economically acceptable cost. Most of our arrangements with content providers are short-term and may be terminated at the convenience of the other party. In addition, much of
the third party content provided to our portal is also available from other sources or may be provided to other Internet companies. If other Internet companies present the same or similar content in a superior manner, it would adversely affect our
visitor traffic.



Our wireless revenues depend on mobile
network operators for message delivery and payment collection. If we were unable to continue this arrangement, our wireless services would be severely disrupted.



Our business also depends significantly on relationships with leading technology and infrastructure providers and the
licenses that the technology providers have granted to us. Our competitors may seek to establish the same relationships as we have, which may adversely affect us. We may not be able to maintain these relationships or replace them on commercially
attractive terms.



We depend on key personnel and our business may be
severely disrupted if we lose the services of our key executives and employees.



Our future success is heavily dependent upon the continued service of our key executives, particularly Dr. Zhang, who is the founder, chief executive officer and a major shareholder of our company and the president of
Beijing Sohu, High Century, and Hengda. We rely on his expertise in our business operations and on his personal relationships with some of our principal shareholders, the relevant regulatory authorities, our customers and suppliers, Beijing Sohu,
High Century, and Hengda. If one or more of our key executives and employees are unable or unwilling to continue in their present positions, we may not be able to easily replace them and our business may be severely disrupted. In addition, if any of
these key executives or employees joins a competitor or forms a competing company, we may lose customers and suppliers and incur additional expenses to recruit and train personnel. Each of our executive officers has entered into an employment
agreement and a confidentiality, non-competition and non-solicitation agreement with us. However, the degree of protection afforded to an employer pursuant to confidentiality and non-competition undertakings governed by PRC law may be more limited
when compared to the degree of protection afforded under the laws of other jurisdictions. We do not maintain key-man life insurance for any of our key executives.



We also rely on a number of key technology staff for the operation of Sohu. Given the competitive nature of the industry,
the risk of key technology staff leaving Sohu is high and could have a disruptive impact on our operations.



Rapid growth and a rapidly changing operating environment strain our limited resources.



We have limited operational, administrative and financial resources, which may be inadequate to sustain the growth we want to achieve. As our audience and
their Internet use increase, as the demands of our audience and the needs of our customers change and as the volume of online advertising, wireless and e-commerce activities increases, we will need to increase our investment in our network
infrastructure, facilities and other areas of operations. If we are unable to manage our growth and expansion effectively, the quality of our services could deteriorate and our business may suffer. Our future success will depend on, among other
things, our ability to:



| |  | adapt our services and maintain and improve the quality of our services;
| | - | ------------------------------------------------------------------------



| |  | protect our Web site from hackers and unauthorized access;
| | - | ----------------------------------------------------------



| |  | continue training, motivating and retaining our existing employees and attract and integrate new employees; and
| | - | ---------------------------------------------------------------------------------------------------------------



| |  | develop and improve our operational, financial, accounting and other internal systems and controls.
| | - | ---------------------------------------------------------------------------------------------------



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To the extent we are unable to scale our systems to meet the increasing PRC Internet population, we will be unable
to expand our user base and increase our attractiveness to advertisers and merchants.



As Web page volume and traffic increase in China, we may not be able to scale our systems proportionately. To the extent we do not successfully address our capacity constraints, our operations may be severely
disrupted, and we may not be able to expand our user base and increase our attractiveness to advertisers and merchants.



If our current ownership structure is found to be in violation of current or future PRC laws, rules or regulations regarding the legality of foreign investment in
the PRC Internet sector, we could be subject to severe penalties.



We conduct our Internet and value added telecommunication operations solely in the PRC through our indirect wholly owned subsidiaries, Beijing ITC and Sohu Era, and variable interest entities Sohu Internet and Beijing
Sohu. We are a Delaware corporation, Sohu Hong Kong, our indirect wholly owned subsidiary and the parent company of Beijing ITC and Sohu Era, is a Hong Kong corporation and a foreign person under PRC law. Accordingly, Beijing ITC and Sohu Era are
wholly foreign owned enterprises, or WFOEs, under PRC law and our Internet and value added telecommunication business is 100% foreign-owned. In order to meet ownership requirements under PRC law which restrict or prohibit WFOEs from operating in
certain industries such as Internet information, wireless, Internet access, e-commerce and certain other industries, we have established Beijing Sohu, High Century, Hengda and Sohu Internet, which are companies incorporated in the PRC and owned by
Dr. Zhang and certain other employees of Sohu. As of June 30, 2004, Sohu had invested $5.2 million in Beijing Sohu, High Century, Hengda and Sohu Internet through loans to officers and employees. In 2000, we extended loans of $242,000 to Dr. Zhang
and a Sohu employee to set up Beijing Sohu. Pursuant to a restructuring in May 2000, we transferred certain of our assets and operations to Beijing Sohu, a PRC company that is 80% owned by Dr. Zhang. In 2001 and 2002, we made loans totaling $4.6
million to Dr. Zhang and an employee of the company to establish High Century for the purposes of undertaking additional investments in the PRC where foreign ownership is prohibited or restricted. In 2002, we loaned $242,000 to an employee of the
company for the purpose of funding an investment in Hengda, a company incorporated in the PRC which engages in Internet access services in the PRC on behalf of Sohu. The $242,000 investment represents a 20% interest in Hengda, with High Century
holding the remaining 80% interest. In June 2003, we loaned $121,000 to an employee of the company for the purpose of funding an investment in Sohu Internet, a company incorporated in the PRC which engages in Internet information services in the PRC
on behalf of Sohu. The $121,000 investment represents a 10% interest in Sohu Internet with High Century and Hengda holding 40% and 50% interests, respectively. In May 2004, High Century and Sohu Internet acquired 73% and 27% interests, respectively,
in Goodfeel. We do not have any direct ownership interest in Beijing Sohu, High Century, Hengda, Sohu Internet or Goodfeel.



The PRC began several years ago to regulate its Internet sector by making pronouncements or enacting regulations regarding the legality of foreign
investment in the PRC Internet sector and the existence and enforcement of content restrictions on the Internet. We believe that our current ownership structure complies with all existing PRC laws, rules and regulations. There are, however,
substantial uncertainties regarding the interpretation of current PRC Internet laws and regulations. In addition, new PRC Internet laws and regulations were recently adopted. Accordingly, it is possible that the PRC government will ultimately take a
view contrary to ours.



In addition, under the agreement
reached in November 1999 between the PRC and the United States concerning the United States support of Chinas entry into the World Trade Organization, or WTO, foreign investment in PRC Internet services are to be liberalized to allow for
30% foreign ownership in key telecommunication services, including PRC Internet ventures, for the first year after Chinas entry into the WTO, 49% in the second year and 50% thereafter. China officially entered the WTO on December 11, 2001.
However, the implementation of Chinas WTO accession agreements is still subject to various conditions.



Accordingly, it is possible that the relevant PRC authorities could, at any time, assert that any portion or all of our, Beijing ITCs, Sohu
Eras, Beijing Sohus, Hengdas, High Centurys, Sohu Internets or Goodfeels existing or future ownership structure and businesses violate existing or future PRC laws, regulations or policies. It is also possible that
the new laws or regulations governing the PRC Internet sector that have been adopted or may be adopted in the future will prohibit or restrict foreign investment in, or other aspects of, any of our, Beijing ITCs, Sohu Eras, Beijing
Sohus, Hengdas, High Centurys, Sohu Internets and Goodfeels current or proposed businesses and operations. In addition, any such new laws and regulations may be retroactively applied to us, Beijing ITC, Sohu Era, High
Century, Hengda, Beijing Sohu, Sohu Internet or Goodfeel.



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If we, Beijing ITC, Sohu Era, High Century, Beijing Sohu, Hengda, Sohu Internet and Goodfeel were found
to be in violation of any existing or future PRC laws or regulations, the relevant PRC authorities would have broad discretion in dealing with such violation, including, without limitation, the following:



| |  | levying fines;
| | - | --------------



| |  | confiscating our, Beijing ITCs, Sohu Eras, High Centurys, Hengdas, Beijing Sohus, Sohu Internets or Goodfeels income;
| | - | ----------------------------------------------------------------------------------------------------------------------------



| |  | revoking our, Beijing ITCs, Sohu Eras, High Centurys, Hengdas, Beijing Sohus, Sohu Internets or Goodfeels business licenses;
| | - | -----------------------------------------------------------------------------------------------------------------------------------



| |  | shutting down our, Beijing ITCs, Sohu Eras, Beijing Sohus, Sohu Internets or Goodfeels servers and/or blocking our Web sites;
| | - | ----------------------------------------------------------------------------------------------------------------------------------



| |  | requiring us, Beijing ITC, Sohu Era, High Century, Hengda, Beijing Sohu, Sohu Internet or Goodfeel to restructure its ownership structure or operations; and
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | requiring us, Beijing ITC, Sohu Era, High Century, Hengda, Beijing Sohu, Sohu Internet or Goodfeel to discontinue any portion or all of its Internet and value added
telecommunication businesses.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We may be unable to collect
long-term loans to officers and employees or exercise management influence associated with Beijing Sohu, High Century, Hengda, Sohu Internet, or Goodfeel.



At June 30, 2004, Sohu had provided long-term loans of $5.2 million to Dr. Zhang, Sohus chief executive officer and a
major Sohu shareholder, and certain of our employees. The long-term loans are used to finance investments in Beijing Sohu and High Century, which are owned 80% by Dr. Zhang and 20% by certain of our employees, Hengda, which is owned 80% by High
Century and 20% by an employee, and Sohu Internet, which is owned 50% by Hengda, 40% by High Century and 20% by an employee. Beijing Sohu, High Century, Hengda and Sohu Internet are used to facilitate our participation in telecommunications,
Internet content and certain other businesses in China where foreign ownership is either prohibited or restricted. In addition, in May 2004, High Century and Sohu Internet acquired 73% and 27% interests, respectively, in Goodfeel.



The agreements contain provisions that, subject to PRC law, (i) the loans can
only be repaid to us by transferring the shares of High Century, Hengda, Sohu Internet or Beijing Sohu to us, (ii) the shares of High Century, Hengda, Sohu Internet or Beijing Sohu cannot be transferred without our approval, and (iii) we have the
right to appoint all directors and senior management personnel of High Century, Hengda, Sohu Internet and Beijing Sohu. Dr. Zhang and the other employee borrowers have pledged all of their shares in High Century, Hengda, Sohu Internet and Beijing
Sohu as collateral for the loans and the loans bear no interest and are due on demand after November 2003, in the case of High Century, the earlier of a demand or 2010, in the case of Beijing Sohu, after January 2003, in the case of Hengda, and
after June 2004, in the case of Sohu Internet, or, in any case, at such time as Dr. Zhang or the other employee borrowers, as the case may be, is not an employee of Sohu. Sohu does not intend to request repayment of the loans as long as PRC
regulations prohibit it from directly investing in businesses being undertaken by High Century, Hengda, Sohu Internet and Beijing Sohu.



Because these loans can only be repaid by the borrowers transferring the shares of the various entities, our ability to ultimately realize the
effective return of the amounts advanced under these loans will depend on the profitability of Beijing Sohu, Hengda, Sohu Internet and High Century, which is uncertain. Furthermore, because of uncertainty associated with PRC law, ultimate
enforcement of the loan agreements is uncertain. Accordingly, we may never be able to collect these loans or exercise influence over High Century, Hengda, Sohu Internet, Beijing Sohu and Goodfeel.



We depend upon contractual arrangements with Beijing Sohu, Hengda, High Century, Sohu
Internet and Goodfeel for the success of our business and these arrangements may not be as effective in providing operational control as direct ownership of these businesses and may be difficult to enforce.



Because we conduct our Internet operations only in the PRC, and because we
are restricted or prohibited by the PRC government from owning Internet content or telecommunication operations in the PRC, we are dependent on Beijing Sohu, Hengda, High Century, Sohu Internet and Goodfeel in which we have no direct ownership
interest, to provide those services through contractual agreements between the parties. These arrangements may not be as effective in providing control over our Internet content or telecommunications operations as direct ownership of these
businesses. For example, Beijing Sohu and Sohu Internet could fail to take actions required for our business, such as entering into content development contracts with potential content suppliers or failing to maintain the necessary permit for the
content servers. If Beijing Sohu, Hengda, High Century, Sohu Internet and Goodfeel fail to perform its obligations under these agreements, we may have to rely on legal remedies under PRC law, which we cannot assure you would be effective or
sufficient.



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Dr. Zhang, our chief executive officer and a major shareholder of our company, is also the direct and
indirectly majority shareholder of Beijing Sohu, Hengda, High Century, Sohu Internet and Goodfeel. As a result, our contractual relationships with those companies could be viewed as entrenching his management position or transferring certain value
to him, especially if any conflict arises with him.



If we are found to
be in violation of current or future PRC laws, rules or regulations regarding Internet-related services and telecom-related activities, we could be subject to severe penalties.



The PRC recently enacted regulations applying to Internet-related services and telecom-related activities. While many
aspects of these regulations remain unclear, they purport to limit and require licensing of various aspects of the provision of Internet information and value added telecommunication services. If these regulations are interpreted to be inconsistent
with our ownership structure and business operations, our business will be severely impaired and we could be subject to severe penalties as discussed above.



Activities of Internet content providers are or will be subject to additional PRC regulations, which have not yet been put into effect. Our operations may not be
consistent with these new regulations when put into effect, and, as a result, we could be subject to severe penalties.



The Ministry of Information Industry, or MII, has stated that the activities of Internet content providers are subject to regulations by various PRC
government authorities, depending on the specific activities conducted by the Internet content provider. Various government authorities have stated publicly that they are in the process of preparing new laws and regulations that will govern these
activities. The areas of regulations currently include online advertising, online news reporting, online publishing, online securities trading and the provision of industry-specific (e.g., drug-related) information over the Internet. Other aspects
of our online operations may be subject to regulations in the future.



Our operations may not be consistent with these new regulations when put into effect and, as a result, we could be subject to severe penalties as discussed above.



Even if we are in compliance with PRC governmental regulations relating to licensing and foreign investment prohibitions, the PRC
government may prevent us from distributing, and we may be subject to liability for, content that it believes is inappropriate.



The PRC has enacted regulations governing Internet access and the distribution of news and other information. In the past, the PRC government has stopped
the distribution of information over the Internet that it believes to violate PRC law, including content that is obscene, incites violence, endangers national security, is contrary to the national interest or is defamatory. In addition, we may not
publish certain news items, such as news relating to national security, without permission from the PRC government. Furthermore, the Ministry of Public Security has the authority to cause any local Internet service provider to block any Web site
maintained outside the PRC at its sole discretion. Even if we comply with PRC governmental regulations relating to licensing and foreign investment prohibitions, if the PRC government were to take any action to limit or prohibit the distribution of
information through our network or to limit or regulate any current or future content or services available to users on our network, our business would be harmed.



We are also subject to potential liability for content on our Web sites that is deemed inappropriate and for any unlawful
actions of our subscribers and other users of our systems under regulations promulgated by the MII.



Furthermore, we are required to delete content that clearly violates the laws of the PRC and report content that we suspect may violate PRC law. It is
difficult to determine the type of content that may result in liability for us, and if we are wrong, we may be prevented from operating our Web sites.



Regulation and censorship of information distribution in China may adversely affect our business.



China has enacted regulations governing Internet access and the distribution
of news and other information. Furthermore, the Propaganda Department of the Chinese Communist Party has been given the responsibility to censor news published in China to ensure, supervise and control a particular political ideology. In addition,
the MII has published implementing regulations that subject online information providers to potential liability for content included on their portals and the actions of subscribers and others using their systems, including liability for violation of
PRC laws prohibiting the distribution of content deemed to be socially destabilizing. Because many PRC laws, regulations and legal requirements with regard to the Internet are relatively new and untested, their interpretation and enforcement may
involve significant uncertainty. In addition, the PRC legal system is a civil law system in which decided legal cases have limited binding force as legal precedents. As a result, in many cases it is difficult to determine the type of content that
may result in liability for a Web site operator.



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Periodically, the Ministry of Public Security has stopped the distribution over the Internet of
information which it believes to be socially destabilizing. The Ministry of Public Security has the authority to cause any local Internet service provider to block any Web site maintained outside China at its sole discretion. If the PRC government
were to take action to limit or eliminate the distribution of information through our portal or to limit or regulate current or future applications available to users of our portal, our business would be affected.



The State Secrecy Bureau, which is directly responsible for the protection of
state secrets of all PRC government and Chinese Communist Party organizations, is authorized to block any Web site it deems to be leaking state secrets or failing to meet the relevant regulations relating to the protection of state secrets in the
distribution of online information. Under the applicable regulations, we may be held liable for any content transmitted on our portal. Furthermore, where the transmitted content clearly violates the laws of the PRC, we will be required to delete it.
Moreover, where the transmitted content is considered suspicious, we are required to report such content. We must also undergo computer security inspections, and if we fail to implement the relevant safeguards against security breaches, we may be
shut down. In addition, under recently adopted regulations, Internet companies which provide bulletin board systems, chat rooms or similar services, such as our company, must apply for the approval of the State Secrecy Bureau. As the implementing
rules of these new regulations have not been issued, however, we do not know how or when we will be expected to comply, or how our business will be affected by the application of these regulations.



We may not be able to collect payments of our wireless service fees if the PRC
government determines that our existing ownership structure does not comply with PRC laws, rules or regulations.



As discussed above, the PRC began several years ago to regulate its Internet sector by making pronouncements or enacting regulations regarding the legality of foreign
investment in the PRC Internet sector. We believe that our current ownership structure complies with all existing PRC laws, rules and regulations. There are, however, substantial uncertainties regarding the interpretation of current PRC Internet
laws and regulations. In addition, new PRC Internet laws and regulations were recently adopted. Accordingly, it is possible that the PRC government will ultimately take a view contrary to ours. If the PRC government were to take a contrary view, we
may not be able to collect payments of our wireless fees, which we receive from Beijing Sohu and Sohu Internet, which in turn collect the fees from mobile network operators.



We may not have exclusive rights over the marks that are crucial to our business, including but not limited to Sohu.com,
focus.cn, 17173, Goodfeel and Sogou



We have applied for the registration of our key marks, including but not limited to Sohu.com, focus.cn, 17173, Goodfeel, and Sogou, so as to establish and protect our exclusive rights to the marks. However, we have
only succeeded in registering the mark Sohu.com in the PRC. The applications for the registration of the other marks are still under examination by the Trademark Office of PRC. Completion of the registrations is subject to a
determination that there are no prior rights in the PRC. Any rejection of these applications could adversely affect our rights to these marks.



Unauthorized use of our intellectual property by third parties, and the expenses incurred in protecting our intellectual property rights, may adversely affect our
business.



We regard our copyrights, service marks,
trademarks, trade secrets and other intellectual property as critical to our success. Unauthorized use of our intellectual property by third parties may adversely affect our business and reputation. We rely on trademark and copyright law, trade
secret protection and confidentiality agreements with our employees, customers, business partners and others to protect our intellectual property rights. Despite our precautions, it may be possible for third parties to obtain and use our
intellectual property without authorization. Furthermore, the validity, enforceability and scope of protection of intellectual property in Internet-related industries is uncertain and still evolving. In particular, the laws of the PRC and certain
other countries are uncertain or do not protect intellectual property rights to the same extent as do the laws of the United States. Moreover, litigation may be necessary in the future to enforce our intellectual property rights, to protect our
trade secrets or to determine the validity and scope of the proprietary rights of others. Future litigation could result in substantial costs and diversion of resources.



We may be subject to intellectual property infringement claims, which may force us to incur substantial legal expenses and, if
determined adversely against us, materially disrupt our business.



We cannot be certain that our products and services do not or will not infringe valid patents, copyrights or other intellectual property rights held by third parties. We have in the past been, are currently, and may
in the future be, subject to claims and legal proceedings relating to the intellectual property of others in the ordinary course of our business. In particular, if we are found to have violated the intellectual property rights of others, we may be
enjoined from using such intellectual property, may be ordered to pay a fine and we may incur licensing fees or be forced to develop alternatives. We may incur substantial expenses in defending against these third party infringement claims,
regardless of their merit. Successful infringement claims against us may result in substantial monetary liability or may materially disrupt the conduct of our business by restricting or prohibiting our use of the intellectual property in question.



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We may be subject to, and may expend significant resources in defending against claims based on the content and
services we provide over our portal.



As our services
may be used to download and distribute information to others, there is a risk that claims may be made against us for defamation, negligence, copyright or trademark infringement or other claims based on the nature and content of such information.
Furthermore, we could be subject to claims for the online activities of our visitors and incur significant costs in their defense. In the past, claims based on the nature and content of information that was posted online by visitors have been made
in the United States against companies that provide online services. We do not carry any liability insurance against such risks.



We could be exposed to liability for the selection of listings that may be accessible through our portal or through content and materials that our
visitors may post in classifieds, message boards, chat rooms or other interactive services. If any information provided through our services contains errors, third parties may make claims against us for losses incurred in reliance on the
information. We also offer Web-based e-mail and subscription services, which expose us to potential liabilities or claims resulting from:



| |  | unsolicited e-mail;
| | - | -------------------



| |  | lost or misdirected messages;
| | - | -----------------------------



| |  | illegal or fraudulent use of e-mail; or
| | - | ---------------------------------------



| |  | interruptions or delays in e-mail service.
| | - | ------------------------------------------



Investigating and defending any such claims may be expensive, even if they do not result in liability.



The telecommunications infrastructure in China, which is not as well developed as in
the United States, may limit our growth.



The
telecommunications infrastructure in China is not well developed. Our growth will depend on the PRC government and state-owned enterprises establishing and maintaining a reliable Internet and telecommunications infrastructure to reach a broader base
of Internet users in China. The Internet infrastructure, standards, protocols and complementary products, services and facilities necessary to support the demands associated with continued growth may not be developed on a timely basis or at all by
the PRC government and state-owned enterprises.



We depend on ChinaNet,
China Netcom, China Telecom and the Beijing Telecom Administration for telecommunications services, and any interruption in these services may result in severe disruptions to our business.



Although private Internet service providers exist in China, almost all
access to the Internet is maintained through ChinaNet, currently owned by China Netcom and China Telecom, under the administrative control and regulatory supervision of the MII. In addition, local networks connect to the Internet through a
government-owned international gateway. This international gateway is the only channel through which a domestic Chinese user can connect to the international Internet network. We rely on this infrastructure and China Netcom and China Telecom to
provide data communications capacity primarily through local telecommunications lines. Although the government has announced aggressive plans to develop the national information infrastructure, this infrastructure may not be developed and the
Internet infrastructure in China may not be able to support the continued growth of Internet usage. In addition, we will have no access to alternative networks and services, on a timely basis if at all, in the event of any infrastructure disruption
or failure.



We may not be able to lease additional bandwidth
from the Beijing Telecom Administration on acceptable terms, on a timely basis or at all. In addition, we will have no means of getting access to alternative networks and services on a timely basis, if at all, in the event of any disruption or
failure of the network.



The high cost of Internet access may limit the
growth of the Internet in China and impede our growth.



Access to the Internet in China remains relatively expensive, and may make it less likely for users to access and transact business over the Internet. Unfavorable rate developments could further decrease our visitor traffic and our ability
to derive revenues from transactions over the Internet.



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Unexpected network interruptions caused by system failures may result in reduced visitor traffic, reduced revenue
and harm to our reputation.



Our portal operations are
dependent upon Web browsers, Internet service providers, content providers and other Web site operators in China, which have experienced significant system failures and system outages in the past. Our users have in the past experienced difficulties
due to system failures unrelated to our systems and services. Any system failure or inadequacy that causes interruptions in the availability of our services, or increases the response time of our services, as a result of increased traffic or
otherwise, could reduce our user satisfaction, future traffic and our attractiveness to users and advertisers.



Our operations are vulnerable to natural disasters and other events, as we only have limited backup systems and do not maintain any backup servers outside of China.



We have limited backup systems and have experienced system failures and
electrical outages from time to time in the past, which have disrupted our operations. All of our servers and routers are currently hosted in a single location within the premises of Beijing Telecom Administration. We do not maintain any back up
servers outside Beijing. We do not have a disaster recovery plan in the event of damage from fire, floods, typhoons, earthquakes, power loss, telecommunications failures, break-ins and similar events. If any of the foregoing occurs, we may
experience a complete system shutdown. We do not carry any business interruption insurance. To improve the performance and to prevent disruption of our services, we may have to make substantial investments to deploy additional servers or one or more
copies of our Web sites to mirror our online resources. Although we carry property insurance with low coverage limits, our coverage may not be adequate to compensate us for all losses, particularly with respect to loss of business and reputation,
that may occur.



Our network operations may be vulnerable to hacking,
viruses and other disruptions, which may make our products and services less attractive and reliable.



Internet usage could decline if any well-publicized compromise of security occurs. Hacking involves efforts to gain unauthorized access to
information or systems or to cause intentional malfunctions or loss or corruption of data, software, hardware or other computer equipment. Hackers, if successful, could misappropriate proprietary information or cause disruptions in our service. We
may be required to expend capital and other resources to protect our Web site against hackers. We cannot assure you that any measures we may take will be effective. In addition, the inadvertent transmission of computer viruses could expose us to a
material risk of loss or litigation and possible liability, as well as materially damage our reputation and decrease our user traffic.



Political and economic policies of the PRC government could affect our business.



All of our business, assets and operations are located in China and all of our revenues are derived from our operations in
China. Accordingly, our business could be adversely affected by changes in political, economic or social conditions in China, adjustments in PRC government policies or changes in laws and regulations.



The economy of China differs from the economies of most countries belonging
to the Organization for Economic Cooperation and Development in a number of respects, including:



| |  | structure;
| | - | ----------



| |  | level of government involvement;
| | - | --------------------------------



| |  | level of development;
| | - | ---------------------



| |  | level of capital reinvestment;
| | - | ------------------------------



| |  | growth rate;
| | - | ------------



| |  | control of foreign exchange; and
| | - | --------------------------------



| |  | methods of allocating resources.
| | - | --------------------------------



Since 1949, China has been primarily a planned economy subject to a system of macroeconomic management. Although the Chinese government still owns a
significant portion of the productive assets in China, economic reform policies since the late 1970s have emphasized decentralization, autonomous enterprises and the utilization of market mechanisms. We cannot predict what effects the economic
reform and macroeconomic measures adopted by the Chinese government may have on our business or results of operations.



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The PRC legal system embodies uncertainties which could limit the legal protections available to us and you.



The PRC legal system is a civil law system based on
written statutes. Unlike common law systems, it is a system in which decided legal cases have little precedential value. In 1979, the PRC government began to promulgate a comprehensive system of laws and regulations governing economic matters in
general. Our PRC operating subsidiary, Beijing ITC, is a wholly-foreign owned enterprise, or a WFOE, which is an enterprise incorporated in mainland China and wholly-owned by our indirect subsidiary, Sohu Hong Kong. Beijing ITC is subject to laws
and regulations applicable to foreign investment in mainland China. However, these laws, regulations and legal requirements are relatively recent, and their interpretation and enforcement involve uncertainties. These uncertainties could limit the
legal protections available to us and other foreign investors, including you. In addition, we cannot predict the effect of future developments in the PRC legal system, particularly with regard to the Internet, including the promulgation of new laws,
changes to existing laws or the interpretation or enforcement thereof, or the preemption of local regulations by national laws.



It may be difficult to enforce any civil judgments against us or our board of directors or officers, because a significant portion of our assets are located outside
of the United States.



Although we are incorporated in
the State of Delaware, a significant portion of our assets are located in the PRC. As a result, it may be difficult for investors to enforce outside the United States in any actions brought against us in the United States, including actions
predicated upon the civil liability provisions of the federal securities laws of the United States or of the securities laws of any state of the United States. In addition, certain of our directors and officers (principally in the PRC) and all or a
significant portion of their assets may be located outside the United States. As a result, it may not be possible for investors to effect service of process within the United States upon those directors and officers, or to enforce against them or us
judgments obtained in United States courts, including judgments predicated upon the civil liability provisions of the federal securities laws of the United States or of the securities laws of any state of the United States. We have been advised by
our PRC counsel that, in their opinion, there is doubt as to the enforceability in the PRC, in original actions or in actions for enforcement of judgments of United States courts, of civil liabilities predicated solely upon the federal securities
laws of the United States or the securities laws of any state of the United States.



We may rely on dividends and other distributions on equity paid by Sohu.com Limited, our wholly-owned subsidiary, to fund any cash requirements we may have. We may not be able to obtain cash from distributions to the extent such
distributions are restricted by PRC law or future debt covenants.



We are a holding company with no operating assets other than investments in Chinese operating entities, including Beijing ITC, Sohu Era, and Sohu Software, through an intermediate holding company, Sohu.com Limited,
our wholly-owned subsidiary in the Cayman Islands, and our variable interest entities, Beijing Sohu, High Century, Hengda, Sohu Internet and Goodfeel. We may need to rely on dividends and other distributions on equity paid by Sohu.com Limited for
our cash requirements in excess of any cash raised from investors and retained by us. If Beijing ITC, Sohu Era, and Sohu Software incur debt on their own behalf in the future, the instruments governing the debt may restrict Beijing ITCs, Sohu
Eras and Sohu Softwares ability to pay dividends or make other distributions to us. In addition, PRC legal restrictions permit payment of dividends by Beijing ITC, Sohu Era, and Sohu Software only out of their net income, if any,
determined in accordance with PRC accounting standards and regulations. Under PRC law, Beijing ITC, Sohu Era and Sohu Software are also required to set aside 10% of their net income each year to fund certain reserve funds until these reserves equal
50% of the amount of paid-in capital. These reserves are not distributable as cash dividends. Furthermore, dividends received by Sohu.com Inc. would be subject to taxation at United States tax rates of 34% or 35%. We do not expect any dividends or
other distributions on equity from Sohu.com Limited in the foreseeable future.



If tax benefits presently available to certain of our subsidiaries and variable interest entities located in China were not available, the income tax rate on most of our profits in China could increase from 0%
to 33%.



Our China-based subsidiaries Sohu Era and
Sohu Software and our variable interest entity Sohu Internet enjoy tax benefits which are available to new technology enterprises. Presently, PRC law requires that a company, in order to be considered a new technology
enterprise: (i) operate in the high-tech industry (which includes the Internet industry), (ii) be incorporated and operating in High and New Technology Development Zones, including Beijing Zhongguancun Science Park, (iii) receive 60% of its
revenue from high-tech products or services, and (iv) have at least 20% of its employees involved in technology development. Each year new technology enterprises are subject to annual inspection to determine whether they continue to meet these
requirements.



Subject to the approval of the relevant tax
authorities, the effective income tax rate for new technology enterprises registered and operating in Beijing Zhongguancun Science Park is 15%, while the local income tax will be exempted as long as the enterprise holds the new technology enterprise
status. New technology enterprises are exempted from Chinese state corporate income tax for three years, beginning with their first year of operations, and are entitled to a 50% tax reduction at the rate of 7.5% for the subsequent three years. Sohu
Era, Sohu Software and Sohu Internet were incorporated in 2003 and, providing there is no change in their status as a new technology enterprise or a change in the relevant regulations, will be subject to an effective income tax rate of 0% in 2004
and 2005, 7.5% in 2006, 2007 and 2008 and 15% thereafter. Sohu Era, Sohu Software and Sohu Internet obtained approval from the relevant tax authorities for these tax benefits.



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We currently expect most of our income to be earned from Sohu Era. In addition to the office in Beijing
Zhongguancun Science Park, Sohu Era also has offices outside Beijing Zhongguancun Science Park where portions of its operations are located. We believe that substantially all of Sohu Eras services are ultimately delivered in Beijing
Zhongguancun Science Park. However, the relevant tax authorities could challenge whether Sohu Era is operating outside Beijing Zhongguancun Science Park, which could result in a withdrawal of the approval of the tax benefits by the tax authorities.



For these tax benefits to no longer be available, there would
need to be a change in governmental policy or the governmental regulations concerning requirements necessary to be deemed a new technology enterprise, or we would have to be unable to meet the existing new technology enterprise requirements. If Sohu
Era, Sohu Software and Sohu Internet did not meet the requirements of a new technology enterprise, we could be subject to enterprise income tax in China at rates up to 33%, which could cause a significant reduction in our after-tax income.



Restrictions on currency exchange may limit our ability to utilize our
revenues effectively.



Substantially all of our
revenues and operating expenses are denominated in Renminbi. The Renminbi is currently freely convertible under the current account, which includes dividends, trade and service related foreign exchange transactions, but not under the
capital account, which includes foreign direct investment.



Currently, Beijing ITC may purchase foreign exchange for settlement of current account transactions, including payment of dividends, without the approval of the State Administration for Foreign Exchange, or SAFE. Beijing ITC may
also retain foreign exchange in its current account (subject to a ceiling approved by the SAFE) to satisfy foreign exchange liabilities or to pay dividends. However, the relevant PRC governmental authorities may limit or eliminate our ability to
purchase and retain foreign currencies in the future.



Since a
significant amount of our future revenues will be in the form of Renminbi, the existing and any future restrictions on currency exchange may limit our ability to utilize revenue generated in Renminbi to fund our business activities outside China, if
any, or expenditures denominated in foreign currencies.



Foreign exchange transactions under the capital account are still subject to limitations and require approvals from the SAFE. This could affect Beijing ITCs ability to obtain foreign exchange through debt or equity financing,
including by means of loans or capital contributions from us.



We may
suffer currency exchange losses if the Renminbi depreciates relative to the U.S. Dollar.



Our reporting currency is the U.S. Dollar. However, substantially all of revenues are denominated in Renminbi. Our revenues as expressed in our U.S.
Dollar financial statements will decline in value if the Renminbi depreciates relative to the U.S. Dollar. Very limited hedging transactions are available in China to reduce our exposure to exchange rate fluctuations. To date, we have not entered
into any hedging transactions in an effort to reduce our exposure to foreign currency exchange risk. While we may decide to enter into hedging transactions in the future, the availability and effectiveness of these hedges may be limited and we may
not be able to successfully hedge our exposure, if at all. In addition, our currency exchange losses may be magnified by PRC exchange control regulations that restrict our ability to convert Renminbi into U.S. Dollars.



The market price of our common stock has been and will likely continue to be volatile.
The price of our common stock may fluctuate significantly, which may make it difficult for stockholders to sell shares of our common stock when desired or at attractive prices.



The market price of our common stock has been volatile and is likely to continue to be so. The initial public offering price
of our common stock in July 2000 was $13.00 per share. The trading price of our common stock subsequently dropped to a low of $0.52 per share on April 9, 2001. On July 15, 2004, the trading price of our common stock reached a record high of $43.40.
During the six months ended June 30, 2004, the trading price of our common stock ranged from a low of $15.00 per share to a high of $40.15. On July 30, 2004, the closing price of our common stock was $20.72 per share.



In addition, the Nasdaq Stock Markets National Market has from time to
time experienced significant price and volume fluctuations that have affected the market prices for the securities of technology companies, and particularly Internet-related companies.



The price for our common stock may fluctuate in response to a number of events and factors, such as quarterly variations in
operating results, announcements of technological innovations or new products and media properties by us or our competitors, changes in financial estimates and recommendations by securities analysts, the operating and stock price performance of
other companies that investors may deem comparable to



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us, and news reports relating to trends in our markets or general economic conditions. Additionally, volatility or a lack
of positive performance in our stock price may adversely affect our ability to retain key employees, all of whom have been granted stock options or other stock awards.



Sales of a significant number of shares of our common stock in the public market, or the perception of such sales, could reduce our
share price and impair our ability to raise funds in new share offerings.



There were 36,326,156 shares of our common stock outstanding as of June 30, 2004, as well as options to purchase an additional 3,556,253 shares of our common stock. Of the outstanding shares, 25,424,216 were issued
prior to the initial public offering of our common stock. These shares are either freely tradable without restriction under Rule 144(k) under the Securities Act of 1933 or are tradable subject to the notice, volume and manner of sale restrictions of
Rule 144 under the Securities Act.



Sohu issued 4,600,000
shares of common stock in connection with the initial public offering. All of these shares are freely tradable without restriction unless they are held by our affiliates as that term is defined in Rule 144 under the Securities Act.



On October 18, 2000, we issued an aggregate of 4,401,500
shares of our common stock to the former stockholders of ChinaRen in connection with our acquisition of that company. All of these shares are currently freely tradable without restriction.



On November 25, 2003, we issued an aggregate of 65,852 shares of common stock
to Asia B2B Online Inc., the seller of the Focus.cn Web site, and to certain individuals in connection with our acquisition, through our wholly-owned subsidiary Sohu.com Limited, of All Honest International Limited, the owner of the Focus.cn Web
site. Pursuant to a certain employee incentive plan which we assumed in connection with our purchase of All Honest International, we issued to certain individuals on May 25, 2004 an additional 2,499 shares of our common stock and we anticipate
issuing to such individuals on or about November 25, 2004 an additional 23,198 shares of our common stock. Commencing one year after the applicable issue dates, we expect that these shares will be eligible for resale subject to the notice, volume
and manner of sale restrictions of Rule 144 under the Securities Act.



The individuals referred to above are parties to an agreement with us that require us to register under the Securities Act for resale by them the shares of our common stock they received in connection with the acquisition and received or
will receive pursuant to the employee incentive and retention plan. Pursuant to that agreement, we filed a Registration Statement on Form S-3 (SEC File No. 333-111495) to register the shares, which registration statement was declared effective by
the SEC on July 8, 2004. The registration permits the sale of those shares without regard to the restrictions of Rule 144, so long as the stockholders comply with the prospectus delivery requirements of the Securities Act.



We issued $90.0 million of zero coupon convertible senior notes due July 2023 which we
may not be able to repay in cash and could result in dilution of our earnings per share.



In July 2003, we issued $90.0 million aggregate principal amount of zero coupon convertible senior notes due July 2003. The notes are convertible into our
common stock at a conversion price of $44.76 per share, subject to adjustment upon the occurrence of specified events, which would result in the issuance of an aggregate of approximately two million shares. Therefore, each $1,000 principal amount of
the notes will initially be convertible into 22.3414 shares of our common stock. Each holder of the notes will have the right, at the holders option, to require Sohu to repurchase all or any portion of the principal amount of the holders
notes on July 14 in 2007, 2013 and 2018 at a price equal to 100% of the outstanding principal amount. We may also be required to repurchase all of the notes following a fundamental change of Sohu, such as a change of control, prior to maturity. We
may not have enough cash on hand or have the ability to access cash to pay the notes if presented for redemption on a fundamental change, on a redemption date referred to above or at maturity. In addition, the redemption or purchase of our notes
with shares of our common stock or the conversion of the notes into our common stock could result in dilution of our earnings per share.



We are controlled by a small group of our existing stockholders, whose interests may differ from other stockholders.



Our chief executive officer, Dr. Zhang, beneficially owns approximately 26%
of the outstanding shares of our common stock and is our largest stockholder. Our second largest stockholder, together with our chief executive officer, our other executive officers and members of our Board of Directors, beneficially own
approximately 40% of the outstanding shares of our common stock. Accordingly these stockholders acting together will have significant influence in determining the outcome of any corporate transaction or other matter submitted to the stockholders for
approval, including mergers, consolidations, the sale of all or substantially all of our assets, election of directors and other significant corporate actions. They will also have significant influence in preventing or causing a change in control.
In addition, without the consent of these stockholders, we could be prevented from entering into transactions that could be beneficial to us. The interests of these stockholders may differ from the interests of the other stockholders.



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Holders of a significant percentage of the outstanding shares of our common stock are parties to an
agreement under which they have agreed to vote together in favor of a nominee of one of our stockholders to our board of directors. As a result of their voting power, they will have significant influence in causing that nominee to be elected.



Anti-takeover provisions of the Delaware General Corporation Law, our
certificate of incorporation and Sohus Stockholder Rights Plan could delay or deter a change in control.



Some provisions of our certificate of incorporation and bylaws, as well as various provisions of the Delaware General Corporation Law, may make it more
difficult to acquire our company or effect a change in control of our company, even if an acquisition or change in control would be in the interest of our stockholders or if an acquisition or change in control would provide our stockholders with a
premium for their shares over then current market prices. For example, our certificate of incorporation provides for the division of the board of directors into two classes with staggered two-year terms and provides that stockholders have no right
to take action by written consent and may not call special meetings of stockholders, each of which may make it more difficult for a third party to gain control of our board in connection with, or obtain any necessary stockholder approval for, a
proposed acquisition or change in control.



In addition, we
have adopted a stockholder rights plan under the terms of which, in general, if a person or group acquires more than 20% of the outstanding shares of common stock, all other Sohu stockholders would have the right to purchase securities from Sohu at
a substantial discount to those securities fair market value, thus causing substantial dilution to the holdings of the person or group which acquires more than 20%. The stockholder rights plan may inhibit a change in control and, therefore,
could adversely affect the stockholders ability to realize a premium over the then-prevailing market price for the common stock in connection with such a transaction.



The power of our Board of Directors to designate and issue shares of preferred stock could have an adverse effect on holders of our
common stock.



Our certificate of incorporation authorizes our board
of directors to designate and issue one or more series of preferred stock, having rights and preferences as the board may determine, and any such designations and issuances could have an adverse effect on the rights of holders of common stock.



ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK



FOREIGN CURRENCY EXCHANGE RATE RISK



While our reporting currency is the U.S. dollar, to date virtually all of our revenues and costs are denominated in Renminbi and a significant portion of our assets and liabilities are denominated in Renminbi. As a result, we are exposed to
foreign exchange risk as our revenues and results of operations may be impacted by fluctuations in the exchange rate between U.S. Dollars and Renminbi. If the Renminbi depreciates against the U.S. Dollar, the value of our Renminbi revenues and
assets as expressed in our U.S. Dollar financial statements will decline. We do not hold any derivative or other financial instruments that expose us to substantial market risk. See Risk FactorsWe may suffer currency exchange losses if
the Renminbi depreciates relative to the U.S. Dollar.



The Renminbi is
currently freely convertible under the current account, which includes dividends, trade and service-related foreign exchange transactions, but not under the capital account, which includes foreign direct investment. To date,
we have not entered into any hedging transactions in an effort to reduce our exposure to foreign currency exchange risk. While we may decide to enter into hedging transactions in the future, the effectiveness of these hedges may be limited and we
may not be able to successfully hedge our exposure at all. Accordingly, we may incur economic losses in the future due to foreign exchange rate fluctuations, which could have a negative impact on our financial condition and results of operations.



INVESTMENT RISK



Sohu invests in marketable debt securities to preserve principal while at the same time
maximizing yields without significantly increasing risk. These marketable debt securities are classified as available-for-sale because we may dispose of the securities prior to maturity and they are thus reported at the market value as of the end of
the period. As of June 30, 2004, unrealized losses of $516,000 were recorded as accumulated other comprehensive income in shareholders equity.



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INTEREST RATE RISK



Our investment policy limits our investments of excess cash in high-quality corporate securities and limits the amount of credit exposure to any one issuer. We protect
and preserve our invested funds by limiting default, market and reinvestment risk.



Investments in both fixed rate debt securities and callable range accrual notes carry a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to a rise in interest rates, while callable
range accrual notes may not produce any income if interest rates increase and exceed certain levels. Due in part to these factors, our future interest income may fall short of expectations due to changes in interest rates or we may suffer losses in
principal if forced to sell securities, which have declined in market value due to changes in interest rates.



ITEM 4. CONTROLS AND PROCEDURES



Our chief
executive officer and chief financial officer, after evaluating the effectiveness of our disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) and 15d-15(e)) as of the end of the period
covered by this quarterly report (the Evaluation Date), have concluded that as of the Evaluation Date our disclosure controls and procedures were effective and designed to ensure that material information relating to Sohu would be made
known to them by others within the company. During the period covered by this quarterly report, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting.



PART II OTHER INFORMATION



ITEM 1. LEGAL PROCEEDINGS



There are no material
legal proceedings pending or, to our knowledge, threatened against us. From time to time we become subject to legal proceedings and claims in the ordinary course of our business. Such legal proceedings or claims, even if not meritorious, could
result in the expenditure of significant financial and management resources.



ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY SECURITIES



On July 17, 2000, we completed an underwritten initial public offering of our common stock pursuant to a Registration Statement on Form S-1 (SEC file No. 333-96137),
which became effective on July 10, 2000. Public trading of the common stock offered in the initial public offering commenced on July 12, 2000. We sold an aggregate of 4,600,000 shares of common stock in the offering at a price to the public of $13
per share, resulting in gross proceeds of $59.8 million. Our net proceeds, after deduction of the underwriting discount of $4.2 million and other offering expenses of $3.2 million, were approximately $52.4 million. All shares sold in the offering
were sold by us.



During the three months ended June 30, 2004, we did not use
any proceeds from the offering. The remaining net proceeds from the offering have been invested in cash, cash equivalents, and marketable debt securities. The use of the proceeds from the offering does not represent a material change in the use of
proceeds described in the prospectus contained in the Registration Statement on Form S-1 described above.



In April 2004, the Board of Directors of the Company approved a stock repurchase program pursuant to which the Company plans to purchase from time to time up to $30,000,000 worth of outstanding shares of its common
stock in the open market. During the three months ended June 30, 2004, the Company repurchased one million shares of its common stock at an average price of $17.752 including brokerage commissions.



The following summarizes the purchases during the three months ended June 30, 2004:



|                          |  |                                   |  |                               |        |                                                                         |           |                                                                                         |   |           
|------------------------- |  | --------------------------------- |  | ----------------------------- | ------ | ----------------------------------------------------------------------- | --------- | --------------------------------------------------------------------------------------- | - | ----------
|Period                    |  | (a) TotalNumber ofSharesPurchased |  | (b)AveragePrice Paidper Share |        | (c) TotalNumber ofSharesPurchased asPart ofPubliclyAnnouncedProgram (1) |           | (d) MaximumApproximateDollar Value ofShares that MayYet BePurchasedUnder theProgram (1)
|April 1 to April 30, 2004 |  |                                  |  |                               |       |                                                                         |          |                                                                                         | $ | 30,000,000
|May 1 to May 31, 2004     |  | 1,000,000                         |  | $                             | 17.752 |                                                                         | 1,000,000 |                                                                                         | $ | 12,248,000
|June 1 to June 30, 2004   |  |                                  |  |                               |       |                                                                         |          |                                                                                         | $ | 12,248,000
|                          |  |                                   |  |                               |        |                                                                         |           |                                                                                         |   |           
|Total                     |  | 1,000,000                         |  | $                             | 17.752 |                                                                         | 1,000,000 |                                                                                         |   |           
|                          |  |                                   |  |                               |        |                                                                         |           |                                                                                         |   |           

---

|(1) | Program, for up to $30,000,000, was announced in April 2004. The program will continue for not less than six months from inception.
|--- | -----------------------------------------------------------------------------------------------------------------------------------



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ITEM 3. DEFAULTS UPON SENIOR SECURITIES



None.



ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS



On May 14, 2004, Sohu held its Annual Meeting of Stockholders. At the meeting, the stockholders elected as directors Edward B. Roberts (with 31,378,787 affirmative votes and 274,204 votes withheld), Thomas Gurnee
(with 28,894,461 affirmative votes and 2,758,530 votes withheld) and Mary Ma (with 31,186,745 affirmative votes and 466,246 votes withheld).



The stockholders also approved an amendment to Sohus 2000 Stock Incentive Plan to increase the number of shares of common stock authorized for issuance under the
plan from 7,000,000 to 8,000,000 (with 13,602,246 shares voting for, 6,996,132 against, 29,420 abstaining and 11,025,193 broker non-votes).



The stockholders also ratified the appointment of PricewaterhouseCoopers as Sohus independent accountants for the fiscal year ending December 31, 2004 (with
31,448,495 shares voting for, 189,996 against, and 14,500 abstaining).



ITEM 5. OTHER INFORMATION



None.



ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



(a)
Exhibits



Please see the Exhibit Index attached hereto.



(b) Reports on Form 8-K.



On April 22, 2004, Sohu filed with the Securities and Exchange Commission an amendment to its Current Report on Form 8-K initially filed on
December 5, 2003 amending and restating the financial statements of the 17173.com Web site.



On April 22, 2004, Sohu filed with the Securities and Exchange Commission an amendment to its Current Report on Form 8-K initially filed on December 5, 2003 amending and restating the financial statements of the
Focus.cn Web site.



On May 3, 2004, Sohu filed with the Securities and Exchange
Commission a Current Report on Form 8-K announcing a stock repurchase program and its earnings results for the quarter ended March 31, 2004.



On May 18, 2004, Sohu filed with the Securities and Exchange Commission a Current Report on Form 8-K announcing its signing of a definitive agreement to acquire Beijing
Good Feel Technology Co., Ltd.



On June 2, 2004, Sohu filed with the Securities
and Exchange Commission a Current Report on Form 8-K in connection with its stock repurchase program and completion of the acquisition of Beijing Good Feel Technology Co., Ltd.



On June 23, 2004, Sohu filed with the Securities and Exchange Commission an amendment to its Current Report on Form 8-K initially filed on
December 5, 2003 amending and restating the financial statements of the Focus.cn and 17173.com Web sites.



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SIGNATURES



Pursuant to the requirements of the
Securities Exchange Act of 1934, the Registrant has caused this report to be signed on its behalf by the undersigned thereunto duly authorized.



|                      |  |               |  |                                   
|--------------------- |  | ------------- |  | ----------------------------------
|                      |  | SOHU.COM INC.
|Dated: August 9, 2004 |  |              
|                      |  | By:           |  | /s/ Carol Yu                      
|                      |  |               |  | Chief Financial Officer (Principal
|                      |  |               |  | Financial Officer)                



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Sohu.com Inc.

Quarterly Report on Form 10-Q For Quarter Ended June 30, 2004



EXHIBITS INDEX



|     |  |                                                                                                                                                                                                                                            
|---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|10.1 |  | Stock Purchase Agreement among Sohu.com Limited, Marvel Hero Limited, the two Shareholders of Marvel (Kim Dong Gu, Kim Zhi Huan), and the two founders of Beijing Goodfeel Information
Technology Co., Ltd. ( Li Mingzhe and Yang Xianghua)
|     | 
|31.1 |  | Rule 13a-14(a)/15d-14(a) Certification of Charles Zhang                                                                                                                                                                                    
|     | 
|31.2 |  | Rule 13a-14(a)/15d-14(a) Certification of Carol Yu                                                                                                                                                                                         
|     | 
|32.1 |  | Section 1350 Certification of Charles Zhang                                                                                                                                                                                                
|     | 
|32.2 |  | Section 1350 Certification of Carol Yu                                                                                                                                                                                                     



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