UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 WASHINGTON,
D.C. 20549
 
 FORM
10-Q
 
 x QUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(D) OF THE
 SECURITIES
EXCHANGE ACT OF 1934
 
 FOR THE
QUARTERLY PERIOD ENDED DECEMBER 31, 2010
 
 OR
 
 o TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
 SECURITIES
ACT OF 1934
 
 FOR THE
TRANSITION PERIOD FROM _________ TO _____
 
 COMMISSION
FILE NUMBER   000-25147
 
 INTERNET
AMERICA, INC.
 (Exact
name of registrant as specified in its charter)
 
 TEXAS
              86-0778979(State
      or other jurisdiction of
              (I.R.S.
      Employerincorporation
      or organization)
              Identification
      Number)10930
      W. Sam Houston Pkwy., N., Suite 200
              77064(Address
      of principal executive offices)
              (Zip
      Code)
 
 (713)
968-2500
 (Registrant's
telephone number, including area code)
 
 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 has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files).
 Yes  ̈               No
 ̈
 
 Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.
 
 Large
      accelerated filer   ̈
                
                Accelerated
      filer   ̈Non-accelerated
      filer   ̈
                (Do
      not check if a smaller reporting company)
                Smaller
      reporting company  x
 
 Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
 Yes  ̈               No
x
 
 As of
February 7, 2011, registrant had 16,729,562 shares of Common Stock at $0.01 par
value, outstanding.
  
  INTERNET
AMERICA, INC.
 
 TABLE OF
CONTENTS
 
 FORM
10-Q
 
 QUARTERLY
PERIOD ENDED DECEMBER 31, 2010
 
 PagePART
      I - FINANCIAL INFORMATIONItem
      1.
                Financial
      Statements
                3Item
      2.
                Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                10Item
      3.
                Quantitative
      and Qualitative Disclosures About Market Risk
                20Item
      4.
                Controls
      and Procedures
                20PART
      II - OTHER INFORMATION .Item 1.
                Legal
      Proceedings
                21Item
      1A.
                Risk
      Factors
                21Item
      2.
                Unregistered
      Sales of Equity Securitites and Use of Proceeds
                21Item
      3.
                Defaults
      Upon Senior Securities
                21Item
      4.
                (Removed
      and reserved)
                21Item
      5.
                Other
      Information
                21Item
      6.
                Exhibits
                21
  2
 
 PART
I - FINANCIAL INFORMATION
 
 ITEM
1 - FINANCIAL STATEMENTS
 
 INTERNET
AMERICA, INC. AND SUBSIDIARIES
 CONDENSED CONSOLIDATED BALANCE
SHEETS
 
 December 31,
                  
                  
                  June 30,2010
                  
                  
                  2010(unaudited)
                  
                  
                  (audited)ASSETSCURRENT
      ASSETS:Cash
      and cash equivalents
                  
                  $
                  1,438,370
                  
                  
                  $
                  1,209,915Restricted
      cash
                  
                  
                  6,432
                  
                  
                  
                  6,432Accounts
      receivable, net of allowance for uncollectible accounts of $4,347 and
      $4,438 as of December 31, 2010 and June 30, 2010,
    respectively
                  
                  
                  50,125
                  
                  
                  
                  113,936Inventory
                  
                  
                  263,039
                  
                  
                  
                  274,954Prepaid
      expenses and other current assets
                  
                  
                  335,232
                  
                  
                  
                  411,510Total
      current assets
                  
                  
                  2,093,198
                  
                  
                  
                  2,016,747Property
      and equipment—net
                  
                  
                  1,600,331
                  
                  
                  
                  1,791,459Goodwill—net
                  
                  
                  2,413,127
                  
                  
                  
                  2,413,127Subscriber
      acquisition costs—net
                  
                  
                  163,895
                  
                  
                  
                  327,435Other
      assets
                  
                  
                  27,432
                  
                  
                  
                  37,879TOTAL
      ASSETS
                  
                  $
                  6,297,983
                  
                  
                  $
                  6,586,647LIABILITIES
      AND SHAREHOLDERS' EQUITYCURRENT
      LIABILITIES:Trade
      accounts payable
                  
                  $
                  216,418
                  
                  
                  $
                  175,505Accrued
      liabilities
                  
                  
                  278,062
                  
                  
                  
                  409,911Deferred
      revenue
                  
                  
                  772,768
                  
                  
                  
                  855,675Current
      portion of long-term debt
                  
                  
                  440,501
                  
                  
                  
                  425,971Current
      portion of capital lease obligations
                  
                  
                  17,054
                  
                  
                  
                  28,315Total
      current liabilities
                  
                  
                  1,724,803
                  
                  
                  
                  1,895,377Long-term
      debt, net of current portion
                  
                  
                  677,101
                  
                  
                  
                  884,052Long-term
      capital lease obligations, net of current portion
                  
                  
                  -
                  
                  
                  
                  2,250Total
      Liabilities
                  
                  
                  2,401,904
                  
                  
                  
                  2,781,679COMMITMENTS
      AND CONTINGENCIES
                  
                  
                  -
                  
                  
                  
                  -SHAREHOLDERS'
      EQUITY:Preferred
      stock, $0.01 par value: 5,000,000 shares authorized, 2,718,428 and
      2,889,076 issued and outstanding as of December 31, 2010 and June 30,
      2010, respectively
                  
                  
                  27,185
                  
                  
                  
                  28,891Common
      stock, $0.01 par value: 40,000,000 shares authorized,16,729,562 and
      16,558,914 issued and outstanding as of December 31, 2010 and June 30,
      2010, respectively
                  
                  
                  167,296
                  
                  
                  
                  165,590Additional
      paid-in capital
                  
                  
                  62,993,348
                  
                  
                  
                  62,989,094Accumulated
      deficit
                  
                  
                  (59,291,750
                  )
                  
                  
                  (59,377,806
                  )Total
      Internet America, Inc. shareholders' equity
                  
                  
                  3,896,079
                  
                  
                  
                  3,805,769Noncontrolling
      interest in subsidiary
                  
                  
                  -
                  
                  
                  
                  (801
                  )Total
      shareholders' equity
                  
                  
                  3,896,079
                  
                  
                  
                  3,804,968TOTAL
      LIABILITIES AND SHAREHOLDERS' EQUITY
                  
                  $
                  6,297,983
                  
                  
                  $
                  6,586,647
 
 See
accompanying notes to condensed consolidated financial
statements.
  3
 
 INTERNET
AMERICA, INC. AND SUBSIDIARIES
 CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS
 (Unaudited)
 
 Three Months Ended
                  
                  
                  Six Months EndedDecember 31,
                  
                  
                  December 31,2010
                  
                  
                  2009
                  
                  
                  2010
                  
                  
                  2009REVENUES:Internet
      services
                  
                  $
                  1,722,104
                  
                  
                  $
                  1,793,020
                  
                  
                  $
                  3,500,880
                  
                  
                  $
                  3,591,437Other
                  
                  
                  -
                  
                  
                  
                  42,629
                  
                  
                  
                  -
                  
                  
                  
                  81,035TOTAL
      REVENUES
                  
                  
                  1,722,104
                  
                  
                  
                  1,835,649
                  
                  
                  
                  3,500,880
                  
                  
                  
                  3,672,472OPERATING
      EXPENSES:Connectivity
      and operations
                  
                  
                  1,049,748
                  
                  
                  
                  1,223,064
                  
                  
                  
                  2,144,702
                  
                  
                  
                  2,542,685Sales
      and marketing
                  
                  
                  45,554
                  
                  
                  
                  69,287
                  
                  
                  
                  101,366
                  
                  
                  
                  147,746General
      and administrative
                  
                  
                  298,826
                  
                  
                  
                  527,320
                  
                  
                  
                  613,489
                  
                  
                  
                  1,228,004Provision
      for (recovery of) bad debt
                  
                  
                  711
                  
                  
                  
                  843
                  
                  
                  
                  (91
                  )
                  
                  
                  (1,815
                  )Depreciation
      and amortization
                  
                  
                  253,822
                  
                  
                  
                  256,679
                  
                  
                  
                  502,797
                  
                  
                  
                  504,100Loss
      on transfer of assets
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  26,004
                  
                  
                  
                  -TOTAL
      OPERATING EXPENSES
                  
                  
                  1,648,661
                  
                  
                  
                  2,077,193
                  
                  
                  
                  3,388,267
                  
                  
                  
                  4,420,720INCOME
      (LOSS) FROM OPERATIONS
                  
                  
                  73,443
                  
                  
                  
                  (241,544
                  )
                  
                  
                  112,613
                  
                  
                  
                  (748,248
                  )INTEREST
      INCOME
                  
                  
                  (1,755
                  )
                  
                  
                  (2,625
                  )
                  
                  
                  (3,415
                  )
                  
                  
                  (6,621
                  )INTEREST
      EXPENSE
                  
                  
                  14,208
                  
                  
                  
                  26,210
                  
                  
                  
                  29,972
                  
                  
                  
                  45,536NET
      INCOME (LOSS)
                  
                  
                  60,990
                  
                  
                  
                  (265,129
                  )
                  
                  
                  86,056
                  
                  
                  
                  (787,163
                  )LESS:
      NET LOSS ATTRIBUTABLE TO NONCONTROLLING INTEREST
                  
                  
                  -
                  
                  
                  
                  (177
                  )
                  
                  
                  -
                  
                  
                  
                  (533
                  )NET
      INCOME (LOSS) ATTRIBUTABLE TO INTERNET AMERICA, INC.
                  
                  $
                  60,990
                  
                  
                  $
                  (264,952
                  )
                  
                  $
                  86,056
                  
                  
                  $
                  (786,630
                  )NET
      INCOME (LOSS) PER COMMON SHARE:BASIC
                  
                  $
                  0.00
                  
                  
                  $
                  (0.02
                  )
                  
                  $
                  0.01
                  
                  
                  $
                  (0.05
                  )DILUTED
                  
                  $
                  0.00
                  
                  
                  $
                  (0.02
                  )
                  
                  $
                  0.00
                  
                  
                  $
                  (0.05
                  )WEIGHTED
      AVERAGE COMMON SHARES OUTSTANDING:BASIC
                  
                  
                  16,718,433
                  
                  
                  
                  16,558,914
                  
                  
                  
                  16,638,673
                  
                  
                  
                  16,602,659DILUTED
                  
                  
                  19,447,990
                  
                  
                  
                  16,558,914
                  
                  
                  
                  19,447,990
                  
                  
                  
                  16,602,659
 
 See
accompanying notes to condensed consolidated financial
statements.
  4
 
 INTERNET
AMERICA, INC. AND SUBSIDIARIES
 CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
 (Unaudited)
 
 Six Months EndedDecember 31,2010
                  
                  
                  2009OPERATING
      ACTIVITIES:Net
      income (loss)
                  
                  $
                  86,056
                  
                  
                  $
                  (787,163
                  )Adjustments
      to reconcile net income (loss) to net cash provided by (used in) operating
      activities:Depreciation
      and amortization
                  
                  
                  502,797
                  
                  
                  
                  504,100Loss
      on transfer of assets
                  
                  
                  26,004
                  
                  
                  
                  -Loss
      on disposal of fixed assets
                  
                  
                  (1,548
                  )
                  
                  
                  12,895Recovery
      of bad debt
                  
                  
                  (91
                  )
                  
                  
                  (1,815
                  )Non-cash
      stock compensation expense
                  
                  
                  4,254
                  
                  
                  
                  41,307Changes
      in operating assets and liabilities:Accounts
      receivable
                  
                  
                  29,769
                  
                  
                  
                  38,047Inventory
                  
                  
                  11,915
                  
                  
                  
                  (13,896
                  )Prepaid
      expenses and other current assets
                  
                  
                  76,278
                  
                  
                  
                  71,828Other
      assets
                  
                  
                  10,447
                  
                  
                  
                  6,007Accounts
      payable and accrued liabilities
                  
                  
                  (82,006
                  )
                  
                  
                  (190,254
                  )Deferred
      revenue
                  
                  
                  (82,907
                  )
                  
                  
                  (126,612
                  )Net
      cash provided by (used in) operating activities
                  
                  
                  580,968
                  
                  
                  
                  (445,556
                  )INVESTING
      ACTIVITIES:Purchases
      of property and equipment
                  
                  
                  (150,481
                  )
                  
                  
                  (161,913
                  )Proceeds
      from sale of property and equipment
                  
                  
                  3,900
                  
                  
                  
                  5,520Net
      cash used in investing activities
                  
                  
                  (146,581
                  )
                  
                  
                  (156,393
                  )FINANCING
      ACTIVITIES:Principal
      payments of long-term debt
                  
                  
                  (192,421
                  )
                  
                  
                  (329,325
                  )Principal
      payments of capital leases
                  
                  
                  (13,511
                  )
                  
                  
                  (10,832
                  )Net
      cash used in financing activities
                  
                  
                  (205,932
                  )
                  
                  
                  (340,157
                  )NET
      INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
                  
                  
                  228,455
                  
                  
                  
                  (942,106
                  )CASH
      AND CASH EQUIVALENTS, BEGINNING OF PERIOD
                  
                  
                  1,209,915
                  
                  
                  
                  2,421,264CASH
      AND CASH EQUIVALENTS, END OF PERIOD
                  
                  $
                  1,438,370
                  
                  
                  $
                  1,479,158SUPPLEMENTAL
      INFORMATION:Cash
      paid for interest
                  
                  $
                  30,178
                  
                  
                  $
                  41,494NON-CASH
      INVESTING AND FINANCING ACTIVITIES:Cancellation
      of common stock shares for long term debt in connection with
      acquisition
                  
                  $
                  -
                  
                  
                  $
                  745,943Debt
      issued in connection with canceled common stock, net
                  
                  $
                  -
                  
                  
                  $
                  685,773Non
      cash adjustment to intangible assets related to imputed interest on long
      term debt issued for cancellation of common stock
                  
                  $
                  -
                  
                  
                  $
                  60,170
 
 See
accompanying notes to condensed consolidated financial
statements.
  5
 
 INTERNET
AMERICA, INC. AND SUBSIDIARIES
 NOTES
TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 
 1.
                Basis
      of Presentation
 
 Certain
information and footnote disclosures normally included in consolidated financial
statements prepared in accordance with U.S. generally accepted accounting
principles have been condensed or omitted pursuant to Article 8 of Regulation
S-X of the Securities and Exchange Commission (“SEC”).  The
accompanying unaudited condensed consolidated financial statements reflect, in
the opinion of management, all adjustments necessary to achieve a fair
presentation of Internet America, Inc.’s (“the Company’s”) consolidated
financial position and results of operations for the interim periods
presented.  All such adjustments are of a normal and recurring
nature.  These condensed financial statements should be read in
conjunction with the consolidated financial statements included in the Company’s
Annual Report on Form 10-K for its fiscal year ended June 30, 2010.
 
 2.
                Liquidity
  The
Company is subject to risks including the risks associated with its recurring
losses and negative cash flow, among others. Although the Company recognized net
income and positive cash flows from operations during the three and six months
ended December 31, 2010, the Company is dependent on continuing to reverse the
trend of declining revenues and/or reduce expenses to support its operations and
for any capital expenditures. If efforts to increase operating profits do not
continue to be successful or other negative factors arise, this could adversely
affect future profits and the Company’s ability to achieve intended business
objectives.
  3.
                Basic
      and Diluted Net Income (Loss) Per
Share
 
 For the
three and six months ended December 31, 2010, 2,809,317 and 2,729,557,
respectively, shares of common stock equivalents have been added to the diluted
weighted average common shares outstanding assuming the shares of preferred
stock were converted into shares of common stock as of October 1, and July 1,
2010, for the purpose of computing dilute earnings per share
(“EPS”).
 
 There are
no adjustments required to be made to net income (loss) for the purpose of
computing basic and diluted EPS for the three and six months ended December 31,
2009.
 
 During
the three and six months ended December 31, 2010 and 2009, options to purchase
1,023,444 and 662,778 shares of the Company’s common stock, par value $0.01 per
share (“Common Stock”), respectively, and warrants to acquire 394,922 and
394,922 shares of Common Stock, respectively, were not included in the
computation of diluted EPS because the options and warrants were not “in the
money” during the three and six months ended December 31, 2010 and 2009,
respectively.  There were no options exercised to purchase shares of
common stock during the three and six months ended December 31, 2010 or
2009.
 
 4.
              Use
      of Estimates
 
 The
preparation of consolidated financial statements in conformity with U.S.
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and disclosure of
contingent assets and liabilities at the date of the consolidated financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ significantly from these
estimates.
  6
 
 5.
              Goodwill
      and Subscriber Acquisition Costs
 
 Pursuant
to Financial Accounting Standards Board (“FASB”) guidance on goodwill and other
intangibles, the Company performs an impairment test annually during the fourth
quarter of its fiscal year or when events and circumstances indicate goodwill
might be permanently impaired.  During the year ended June 30, 2010,
the Company recorded no impairment of goodwill related to potential reduction in
future cash flows.  No circumstances arose during the six months ended
December 31, 2010 that would indicate goodwill might be permanently
impaired.
 
 The
Company allocates the purchase price for acquisitions to acquired subscriber
bases and goodwill based on fair value at the time of
acquisition.  Subscriber acquisition costs, net of amortization,
totaled $163,895 and $327,435, as of December 31, 2010 and June 30, 2010,
respectively.  The weighted average amortization period for subscriber
acquisition costs is 48 months for both dial-up and wireless broadband Internet
customers.  Amortization expense for the three and six months ended
December 31, 2010 was $81,770 and $163,540, respectively.  As of
December 31, 2010, amortization expense for the fiscal years ended June 30, 2011
and 2012 is expected to be approximately $323,000 and $4,000,
respectively.
 
 6.
              Long-Term
      Debt
 
 As of
December 31, 2010 and June 30, 2010, the Company’s long-term debt consisted
of:
 December 31,
                  
                  
                  June 30,2010
                  
                  
                  2010Note
      payable due July 19, 2010, payable in quarterly payments of $7,751
      with interest imputed at 9% (net of unamortized discount of $0 and $234,
      respectively)
                  
                  $
                  -
                  
                  
                  $
                  7,517Note
      payable due January 23, 2011 payable in bi-annual installments of
      $13,917 with interest imputed at 8% (net of unamortized discount of $86
      and $601, respectively)
                  
                  
                  12,886
                  
                  
                  
                  12,886Note
      payable due August 08, 2010, payable in monthly installments of $1,033
      beginning October 08, 2008 with interest imputed at 5% (net of unamortized
      discount of $0 and $13, respectively)
                  
                  
                  -
                  
                  
                  
                  2,054Note
      payable due June 20, 2012, payable in monthly installments of $2,088 with
      interest imputed at 9% (net of unamortized discount of $2,549 and $4,407,
      respectively)
                  
                  
                  35,032
                  
                  
                  
                  45,701Note
      payable due July 20, 2010, payable in monthly installments of $1,818 with
      interest imputed at 6.5% (net of unamortized discount of $0 and $10,
      respectively)
                  
                  
                  -
                  
                  
                  
                  1,808Note
      payable due July 20, 2010, payable in monthly installments of $1,409 with
      interest imputed at 6.5% (net of unamortized discount of $0 and $8,
      respectively)
                  
                  
                  -
                  
                  
                  
                  1,401Note
      payable due  February 15, 2015, payable in monthly payments of
      $4,346 with fixed interest at 4.5%
                  
                  
                  197,817
                  
                  
                  
                  219,162Note
      payable due  February 15, 2015, payable in monthly payments of
      $11,189.14 with interest imputed at 3.25% (net of unamortized discount of
      $36,887 and $45,931, respectively)
                  
                  
                  522,570
                  
                  
                  
                  580,661Loan
      and Security Agreement with United States Department of Agriculture Rural
      Utilities Service
                  
                  
                  349,297
                  
                  
                  
                  438,8331,117,602
                  
                  
                  
                  1,310,023Less
      current portion
                  
                  
                  (440,501
                  )
                  
                  
                  (425,971
                  )Total
      long-term debt, less current portion
                  
                  $
                  677,101
                  
                  
                  $
                  884,052
 
 As of
December 31, 2010, the Company’s long-term debt which is secured by certain
inventory, equipment and certificates of deposit totaled approximately
$384,000.
  7
 
 7.
              Noncontrolling
      Interest and Transfer of Assets
 
 During
July 2009, Mark and Cynthia Ocker (the “Owners”) surrendered 298,119 escrowed
shares of Common Stock in exchange for a promissory note issued by the Company
(the “Exchange Note”).  In March 2010, the Company modified the terms
of the Exchange Note and the original promissory note issued to the Owners in
connection with the Company’s acquisition of TeleShare.  In
consideration for such note modifications, the Company granted the Owners an
option to exchange their noncontrolling interest in TeleShare, then a majority
owned subsidiary of the Company, for certain assets and customer lists owned by
TeleShare.
  During
July 2010, the Owners exercised this option and exchanged their noncontrolling
interest in TeleShare for certain assets of TeleShare and the assumption of
certain liabilities of TeleShare, with a net book value of $25,203. The Company
recognized a loss of $26,004 on the transfer of these assets.  As a
result of this transaction, TeleShare became a wholly owned subsidiary of the
Company.  The surrender of the noncontrolling interest resulted in an
increase to additional paid in capital and elimination of the noncontrolling
interest.
  8.
              Shareholders’
      Equity
  On
October 6, 2010, a holder of the Company’s Series A preferred stock, par value
$0.01 per share (“Preferred Stock”), elected to convert 170,648 shares of
Preferred Stock with a book value of $100,000 into 170,648 shares of Common
Stock.
 
 On
September 7, 2010, the Company granted to certain employees of the Company a
total of 190,000 stock options to purchase shares of Common Stock at an exercise
price of $.30 per share.  These options will vest on the later to occur of
(i) six months following the date of grant and (ii) the date that the closing
price of the Common Stock for a period of 30 consecutive trading days averages
$1.00 per share or more, and will expire ten years after date of grant, pursuant
to the terms set forth in the written option agreements executed and delivered
to the recipients of such options.  The Company valued these options at
$0.05 per stock option.  As of December 31, 2010, 976,556 stock options
were available for future issuance under the Company’s current stock option
plan.
 
 9.
              Income
      Taxes
 
 During
the three and six months ended December 31, 2010, the Company
generated  net income of $60,990 and $86,056,
respectively.  During the three and six months ended December 31,
2009, the Company generated a net loss of $264,952 and $786,630,
respectively.  As of December 31, 2010, the Company continues to
maintain a full valuation allowance for its net deferred tax
assets.  Given its limited history of generating net income, the
Company has concluded that it is not more likely than not that the net deferred
tax assets will be realized.
 
 On July
1, 2007, the Company adopted FASB guidance on accounting for uncertainty in
income taxes.  As a result of the implementation of the guidance,
management assessed its various income tax positions, and this assessment
resulted in no adjustment. The preparation of various tax returns requires the
use of estimates for federal and state income tax purposes.  Those
estimates may be subject to review by respective taxing
authorities.  A revision, if any, to an estimate may result in
assessment of additional taxes, penalties and interest.  At this time,
a range in which our estimates may change is not quantifiable and a change, if
any, is not expected to be material.  The Company will account for
interest and penalties related to uncertain tax positions in the current period
income statement, as necessary.  The 2006, 2007, 2008 and 2009 tax
periods remain subject to examination by various federal and state tax
jurisdictions.
 
 10.
              Related
      Parties
 
 The
following table shows amounts paid to four non-employee directors for serving on
the Company’s board of directors and payments made to Cynthia Ocker, former
owner of TeleShare, for contract services during the three and six months ended
December 31, 2010 and 2009.
  8
 
 Three Months EndedDecember 31,2010
                        
                        
                        2009Troy
      LeMaile Stovall
                        
                        $
                        3,875
                        
                        
                        $
                        4,000Justin
      McClure
                        
                        
                        3,875
                        
                        
                        
                        4,000John
      Palmer
                        
                        
                        3,375
                        
                        
                        
                        3,500Steven
      Mihaylo
                        
                        
                        3,875
                        
                        
                        
                        4,000Cindy
      Ocker
                        
                        
                        -
                        
                        
                        
                        33,254$
                        15,000
                        
                        
                        $
                        48,754
 :
 Six Months EndedDecember 31,2010
                      
                      
                      2009Troy
      LeMaile Stovall
                      
                      $
                      8,250
                      
                      
                      $
                      7,750Justin
      McClure
                      
                      
                      8,250
                      
                      
                      
                      7,750John
      Palmer
                      
                      
                      6,750
                      
                      
                      
                      7,750Steven
      Mihaylo
                      
                      
                      7,750
                      
                      
                      
                      8,250Cindy
      Ocker
                      
                      
                      5,090
                      
                      
                      
                      68,495$
                      36,090
                      
                      
                      $
                      99,995
 
 On
September 14, 2009, the Company issued a warrant to purchase 197,461 shares of
Common Stock to each of Mr. Mihaylo and Ambassador Palmer, both directors of the
Company. The warrants are exercisable at $0.38 per share and expire five years
after the date of grant.
  On
October 23, 2009, the Company issued options to purchase 50,000 shares of Common
Stock exercisable at $.50 per share to each of the Company’s directors. In
addition, on October 27, 2009, Internet America issued options to purchase
30,000 shares of Common Stock exercisable at $.50 per share to Messrs.
LeMaile-Stovall and McClure, both directors of the Company.   All
of these options expire ten years after the date of grant.
  11.
              Recent
      Accounting Pronouncements
 
 The
Company has review recently issued accounting standards, none of which are
expected to have a material impact on the Company’s financial position or
results of operations.
  9
  ITEM
2 MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
 
 Certain
statements contained in this Form 10-Q constitute "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.  These statements, identified
by words such as "anticipate," "believe," "estimate," "should," "expect" and
similar expressions include our expectations and objectives regarding our future
financial position, operating results and business strategy.  These
statements reflect the current views of management with respect to future events
and are subject to risks, uncertainties and other factors that may cause our
actual results, performance or achievements, or industry results, to be
materially different from those described in the forward-looking
statements.  We do not intend to update the forward-looking
information to reflect actual results or changes in the factors affecting such
forward-looking information.  Our Annual Report on Form 10-K for the
fiscal year ended June 30, 2010 and other publicly filed reports discuss some
additional important factors that could cause our actual results to differ
materially from those in any forward-looking statements. Some of these factors
are also discussed in this Report under the heading “Safe Harbor Statement and
Risk Factors” later in this Item 2.
 
 Overview
 
 In the
quarter ended December 31, 2010, we continued to work on developing a flatter
and more efficient organization.  During the quarter, the board elected our
current controller to Vice President of Accounting.  In calendar 2011, we
will continue to focus on profitability, flattening our management organization
and improving processes.  We intend to remain highly selective when
using any of our excess cash flow for strategic acquisitions and improvements in
the current network and infrastructure.  We expect continuing improvement
in near and medium term profits as we focus on sales and expense
management.  At the same time, by focusing on obtaining greater bandwidth
and making it available to customers on the edge of the network, we will be able
to provide faster and more reliable service at the same or lower cost to
customers.
  10
  Statement
of Operations
  Internet
services revenue is derived from dial-up Internet access, including analog and
ISDN access, DSL access, dedicated connectivity, wireless access, bulk dial-up
access, web hosting services, and value-added services, such as multiple e-mail
boxes, personalized e-mail addresses and Fax-2-Email
services.   In addition to miscellaneous revenue, other revenue
includes telex messaging service revenues.  However, effective July 1,
2010, the telex messaging business was transferred to the former TeleShare
owners.
 
 A brief description of each element of
our operating expenses follows:
 
 Connectivity
and operations expenses consist primarily of setup costs for new subscribers,
telecommunication costs, merchant processing fees and wages of network
operations and customer support personnel. Connectivity costs include (i) fees
paid to telephone companies for subscribers' dial-up connections to our network;
(ii) fees paid to backbone providers for connections from our network to the
Internet; and (iii) equipment and tower lease costs for our new wireless
networks.
 
 Sales and
marketing expenses consist primarily of creative and production costs, costs of
media placement, management salaries and call center wages. Advertising costs
are expensed as incurred.
 
 General
and administrative expenses consist primarily of administrative salaries,
professional services, rent and other general office and business
expenses.
 
 Bad debt
expense (recoveries) consists primarily of customer accounts that have been
deemed uncollectible and will potentially be written off in future periods, net
of recoveries.  Historically, the expense has been based on the aging
of customer accounts whereby all customer accounts that are 90 days or older
have been provided for as a bad debt expense.
 
 Depreciation
expense is computed using the straight-line or double declining method over the
estimated useful lives of the assets or the capital lease term, as
appropriate.  Data communications equipment, computers, data servers
and office equipment are depreciated over five years. We depreciate furniture,
fixtures and leasehold improvements over the shorter of five years or the lease
term.  Buildings are depreciated over fifteen years. Amortization
expense consists of the amortization of subscriber acquisition costs, which are
amortized over four years.
 
 Our business is not subject to any
significant seasonal influences.
  11
  Results
of Operations
 
 Three
Months Ended December 31, 2010 Compared to Three Months Ended December 31,
2009
 
 The following table sets forth
certain unaudited financial data for the three months ended December 31, 2010
and 2009.  Operating results for any period are not indicative of
results for any future period.  Amounts are shown in thousands (except
share, per share and subscriber count data).
 
 Three Months Ended December 31,2010
                          
                          
                          % of
                            Revenues
                          
                          
                          2009
                          
                          
                          % of
                            RevenuesSTATEMENT
      OF OPERATIONS DATA:REVENUES:Internet
      services
                          
                          $
                          1,722
                          
                          
                          
                          100.0
                          %
                          
                          $
                          1,793
                          
                          
                          
                          97.7
                          %Other
                          
                          
                          -
                          
                          
                          
                          0.0
                          %
                          
                          
                          43
                          
                          
                          
                          2.3
                          %TOTAL
      REVENUES
                          
                          
                          1,722
                          
                          
                          
                          100.0
                          %
                          
                          
                          1,836
                          
                          
                          
                          100.0
                          %OPERATING
      EXPENSES:Connectivity
      and operations
                          
                          
                          1,050
                          
                          
                          
                          61.0
                          %
                          
                          
                          1,223
                          
                          
                          
                          66.6
                          %Sales
      and marketing
                          
                          
                          45
                          
                          
                          
                          2.6
                          %
                          
                          
                          69
                          
                          
                          
                          3.7
                          %General
      and administrative
                          
                          
                          299
                          
                          
                          
                          17.4
                          %
                          
                          
                          528
                          
                          
                          
                          28.7
                          %Provision
      for bad debt expense
                          
                          
                          1
                          
                          
                          
                          0.1
                          %
                          
                          
                          1
                          
                          
                          
                          0.1
                          %Depreciation
      and amortization
                          
                          
                          254
                          
                          
                          
                          14.7
                          %
                          
                          
                          257
                          
                          
                          
                          14.0
                          %TOTAL
      OPERATING EXPENSES
                          
                          
                          1,649
                          
                          
                          
                          95.8
                          %
                          
                          
                          2,078
                          
                          
                          
                          113.1
                          %OPERATING
      INCOME (LOSS)
                          
                          
                          73
                          
                          
                          
                          4.2
                          %
                          
                          
                          (242
                          )
                          
                          
                          (13.1
                          )%INTEREST
      INCOME
                          
                          
                          (2
                          )
                          
                          
                          (0.1
                          )%
                          
                          
                          (3
                          )
                          
                          
                          (0.1
                          )%INTEREST
      EXPENSE
                          
                          
                          14
                          
                          
                          
                          0.8
                          %
                          
                          
                          26
                          
                          
                          
                          (1.4
                          )%NET
      INCOME (LOSS)
                          
                          
                          61
                          
                          
                          
                          3.5
                          %
                          
                          
                          (265
                          )
                          
                          
                          (14.4
                          )%LESS:
      NET LOSS ATTRIBUTABLE TO NONCONTROLLING INTEREST
                          
                          
                          -
                          
                          
                          
                          0.0
                          %
                          
                          
                          -
                          
                          
                          
                          (0.0
                          )%NET
      INCOME (LOSS) ATTRIBUTABLE TO INTERNET AMERICA, INC.
                          
                          $
                          61
                          
                          
                          
                          3.5
                          %
                          
                          $
                          (265
                          )
                          
                          
                          (14.4
                          )%NET
      INCOME (LOSS) PER COMMON SHARE:BASIC
      AND DILUTED
                          
                          $
                          0.00
                          
                          
                          
                          
                          
                          
                          $
                          (0.02
                          )WEIGHTED
      AVERAGE COMMONSHARES
      OUTSTANDING:BASIC
                          
                          
                          16,718,433
                          
                          
                          
                          
                          
                          
                          
                          16,558,914DILUTED
                          
                          
                          19,447,990
                          
                          
                          
                          
                          
                          
                          
                          16,558,914OTHER
      DATA:Subscribers
      at end of period (1)
                          
                          
                          25,100
                          
                          
                          
                          
                          
                          
                          
                          26,400Adjusted
      EBITDA(2)
                          
                          $
                          330
                          
                          
                          
                          
                          
                          
                          $
                          35Adjusted
      EBITDA margin(3)
                          
                          
                          19.2
                          %
                          
                          
                          
                          
                          
                          
                          1.9
                          %Reconciliation
      of net  income (loss) to Adjusted EBITDA:Net
      Income (Loss)
                          
                          $
                          61
                          
                          
                          
                          
                          
                          
                          $
                          (265
                          )Add:Depreciation
      and amortization
                          
                          
                          254
                          
                          
                          
                          
                          
                          
                          
                          257Stock
      compensation
                          
                          
                          3
                          
                          
                          
                          
                          
                          
                          
                          20Interest
      expense
                          
                          
                          14
                          
                          
                          
                          
                          
                          
                          
                          26Less:  
      Interest income
                          
                          
                          (2
                          )
                          
                          
                          
                          
                          
                          
                          (3
                          )Adjusted
      EBITDA (2)
                          
                          $
                          330
                          
                          
                          
                          
                          
                          
                          $
                          35
 
 (1)      A
subscriber represents an active, billed service.  One customer account
may represent multiple subscribers depending on the number of active and billed
services for that customer.
 (2)      Adjusted
EBITDA, which as used herein means earnings before the effect of interest,
taxes, depreciation, amortization , stock based compensation and transfer of
assets, is not a measurement of financial performance under generally accepted
accounting principles (GAAP) and should not be considered an alternative to net
income as a measure of performance.  Management has consistently used
adjusted EBITDA on a historical basis as a measurement of the Company’s current
operating cash income.
 (3)      Adjusted
EBITDA margin represents Adjusted EBITDA as a percentage of total
revenue.
  12
 
 Total
revenue.Total revenue decreased by $114,000, or 6.2%, to
$1,722,000 for the three months ended December 31, 2010, from $1,836,000 for the
three months ended December 31, 2009.  The Company’s total subscriber
count decreased by 1,300, or 4.9%, to 25,100 as of December 31, 2010 compared to
26,400 as of December 31, 2009.  The Company’s wireless broadband
Internet subscriber count decreased slightly to 8,000 as of December 31, 2010,
compared to 8,200 as of December 31, 2009. Wireless broadband Internet revenue
increased by $16,000 to $1,181,000 as of December 31, 2010 compared to
$1,165,000 as of December 31, 2009.  The slight increase in wireless
broadband Internet revenue was offset by the decrease in dial-up Internet
subscriber counts and related revenue of $87,000, which is attributed to the
loss of dial-up customers moving to other providers’ broadband service.
Effective July 1, 2010, Internet America transferred its messaging business
assets to Cynthia and Mark Ocker and management believes that the loss of the
messaging revenue, which totaled $43,000 during the three months ended December
31, 2009, will not have a significant impact on the operations of the
Company.
 
 Connectivity and operations.Connectivity and operations expense decreased by $173,000, or 14.1%, to
$1,050,000 for the three months ended December 31, 2010, from $1,223,000 for the
three months ended December 31, 2009.  Salaries, wages and related
personnel expense decreased by approximately $109,000 to $468,000 for the three
months ended December 31, 2010 compared to $577,000 for the three months ended
December 31, 2009, which is attributed mainly to the reduction in headcount to
streamline our efficiencies gained from quality process initiatives. Data and
telecommunications expense decreased by $54,000 to $321,000 for the three months
ended December 31, 2010 compared to $375,000 for the three months ended December
31, 2009 due to decreased call volume made by improvements in our systems and
renegotiating more favorable terms with telecommunications service
providers.  Expensed assets decreased by $12,000 to $81,000 for the
three months ended December 31, 2010 compared to $93,000 for the three months
ended December 31, 2009 due to a decrease in supplies, installation and
repairs.   The remaining decrease in connectivity and operations
expense is related to a reduction in merchant fees of $2,000.  The
decreases in the previously discussed expenses were partially offset by slight
increases  in travel by $3,000 and rents/utilities and tower lease by
$1,000 due to improvements in the Company's wireless broadband infrastructure
and increases in tower rental rates
 
 Sales and marketing.Sales
and marketing expense decreased by $24,000, or 34.8%, to $45,000 for the three
months ended December 31, 2010 compared to $69,000 for the three months ended
December 31, 2009.  Salaries, wages and related personnel costs
decreased by approximately $19,000 to $33,000 for the three months ended
December 31, 2010 compared to $52,000 for the three months ended December 31,
2009, which is attributed mainly to the reduction in headcount to streamline our
efficiencies gained from quality process initiatives. Advertising expense
decreased by $5,000 to $6,000 for the three months ended December 31, 2010
compared to $11,000 for the three months ended December 31, 2009 primarily due
to the Company bringing all direct advertising related expenses in house to
streamline cost and focus on all improved or enhanced network
areas.   Facilities expense remained consistent at $6,000 for the
three months ended December 31, 2010 as compared to the three months ended
December 31, 2009.
 
 General and
administrative.General and administrative expense decreased
by $229,000, or 43.4%, to $299,000 for the three months ended December 31, 2010,
from $528,000 for the three months ended December 31, 2009.  Personnel
costs decreased by $120,000 to $89,000 for the three months ended December 31,
2010 compared to $209,000 for the three months ended December 31, 2009 due to a
reduction in the number of employees, including consolidation of the roles and
functions of the COO, CFO and the Vice President of Marketing and
Sales.  Professional and consulting fees decreased by $64,000 to
$32,000 for the three months ended December 31, 2010 compared to $96,000 for the
three months ended December 31, 2009 primarily due to the disposal of the telex
messaging services business and the reduction of outside contract/consulting
labor.  Facilities costs decreased by $18,000 for the three months
ended December 31, 2010 to $45,000 from $63,000 for the three months ended
December 31, 2009 due to the renegotiation of our phone system lease contract
and the closing of storage facilities.  Stock compensation expense and
directors’ fees decreased by $18,000 to $18,000 for the three months ended
December 31, 2010 as compared to $36,000 for the three months ended December 31,
2009 due to the continued vesting of stock options and termination of employment
of some grantees.  Telecommunications expense decreased by $7,000 to
$45,000 for the three months ended December 31, 2010 as compared to $52,000 for
the three months ended December 31, 2009 due to cancelling the Company’s cell
phone plan and providing a monthly allowance to our employees.  There
was an additional $3,000 decrease in other expenses.  These decreases
were slightly offset by a $1,000 increase in travel and mileage.
  13
  Provision for bad debt
expense.Provision for bad debt expense remained constant at
$1,000 for the three months ended December 31, 2010 and 2009,
respectively.  As of December 31, 2010, we are fully reserved for all
customer accounts that are at least 90 days old.
 
 Depreciation and
amortization.  Depreciation and amortization decreased slightly
by $3,000, or 1.2%, to $254,000 for the three months ended December 31, 2010,
from $257,000 for the three months ended December 31, 2009.  This
decrease is due to a $12,000 decrease in amortization expense relating to
acquired subscriber costs resulting from the Company’s prior wireless
acquisitions in fiscal 2005 and 2006 becoming fully amortized partially offset
by a $9,000 increase in depreciation relating to the improvements in existing
wireless broadband Internet infrastructure.
 
 Interest income and expense.Interest expense decreased by $12,000, or 46.2%, to $14,000 for the three
months ended December 31, 2010 from $26,000 for the three months ended December
31, 2009, which is related to acquisition debt and the RUS loan
outstanding.  Interest income for the three months ended December 31,
2010 decreased by $1,000, or 33.3%, to $2,000 as compared to the three months
ended December 31, 2009 due to changes in cash on hand and declining
interest rates.
  14
  Six
Months Ended December 31, 2010 Compared to Six Months Ended December 31,
2009
 
 The following table sets forth
certain unaudited financial data for the six months ended December 31, 2010 and
2009.  Operating results for any period are not indicative of results
for any future period.  Amounts are shown in thousands (except share,
per share and subscriber count data).
 
 Six Months Ended December 31,2010
                    
                    
                    % of
                      Revenues
                    
                    
                    2009
                    
                    
                    % of
                      RevenuesSTATEMENT
      OF OPERATIONS DATA:REVENUES:Internet
      services
                    
                    $
                    3,501
                    
                    
                    
                    100.0
                    %
                    
                    $
                    3,591
                    
                    
                    
                    97.8
                    %Other
                    
                    
                    -
                    
                    
                    
                    0.0
                    %
                    
                    
                    81
                    
                    
                    
                    2.2
                    %TOTAL
      REVENUES
                    
                    
                    3,501
                    
                    
                    
                    100.0
                    %
                    
                    
                    3,672
                    
                    
                    
                    100.0
                    %OPERATING
      EXPENSES:Connectivity
      and operations
                    
                    
                    2,145
                    
                    
                    
                    61.3
                    %
                    
                    
                    2,543
                    
                    
                    
                    69.2
                    %Sales
      and marketing
                    
                    
                    101
                    
                    
                    
                    2.9
                    %
                    
                    
                    148
                    
                    
                    
                    4.0
                    %General
      and administrative
                    
                    
                    613
                    
                    
                    
                    17.5
                    %
                    
                    
                    1,228
                    
                    
                    
                    33.3
                    %Recovery
      of bad debt expense
                    
                    
                    -
                    
                    
                    
                    0.0
                    %
                    
                    
                    (2
                    )
                    
                    
                    (0.1
                    )%Depreciation
      and amortization
                    
                    
                    503
                    
                    
                    
                    14.4
                    %
                    
                    
                    504
                    
                    
                    
                    13.7
                    %Loss
      from transfer of assets
                    
                    
                    26
                    
                    
                    
                    0.8
                    %
                    
                    
                    -
                    
                    
                    
                    0.0
                    %TOTAL
      OPERATING EXPENSES
                    
                    
                    3,388
                    
                    
                    
                    96.8
                    %
                    
                    
                    4,421
                    
                    
                    
                    120.3
                    %OPERATING
      INCOME (LOSS)
                    
                    
                    113
                    
                    
                    
                    3.2
                    %
                    
                    
                    (749
                    )
                    
                    
                    (20.3
                    )%INTEREST
      INCOME
                    
                    
                    (3
                    )
                    
                    
                    (0.1
                    )%
                    
                    
                    (7
                    )
                    
                    
                    (0.2
                    )%INTEREST
      EXPENSE
                    
                    
                    30
                    
                    
                    
                    0.9
                    %
                    
                    
                    46
                    
                    
                    
                    (1.2
                    )%NET
      INCOME (LOSS)
                    
                    
                    86
                    
                    
                    
                    2.4
                    %
                    
                    
                    (788
                    )
                    
                    
                    (21.7
                    )%LESS:
      NET LOSS ATTRIBUTABLE TO NONCONTROLLING INTEREST
                    
                    
                    -
                    
                    
                    
                    0.0
                    %
                    
                    
                    (1
                    )
                    
                    
                    0.0
                    %NET
      INCOME (LOSS) ATTRIBUTABLE TO INTERNET AMERICA, INC.
                    
                    $
                    86
                    
                    
                    
                    2.4
                    %
                    
                    $
                    (787
                    )
                    
                    
                    (21.7
                    )%NET
      INCOME (LOSS) PER COMMON SHARE:BASIC
                    
                    $
                    0.01
                    
                    
                    
                    
                    
                    
                    $
                    (0.05
                    )DILUTED
                    
                    $
                    0.00
                    
                    
                    
                    
                    
                    
                    $
                    (0.05
                    )WEIGHTED
      AVERAGE COMMONSHARES
      OUTSTANDING:BASIC
                    
                    
                    16,638,673
                    
                    
                    
                    
                    
                    
                    
                    16,602,659DILUTED
                    
                    
                    19,447,990
                    
                    
                    
                    
                    
                    
                    
                    16,602,659OTHER
      DATA:Subscribers
      at end of period (1)
                    
                    
                    25,100
                    
                    
                    
                    
                    
                    
                    
                    26,400Adjusted
      EBITDA(loss)(2)
                    
                    $
                    646
                    
                    
                    
                    
                    
                    
                    $
                    (203
                    )Adjusted
      EBITDA margin(3)
                    
                    
                    18.5
                    %
                    
                    
                    
                    
                    
                    
                    (5.5
                    )%CASH
      FLOW DATA:Cash
      flow provided by (used in) operations
                    
                    $
                    581
                    
                    
                    
                    
                    
                    
                    $
                    (446
                    )Cash
      flow used in investing activities
                    
                    
                    (147
                    )
                    
                    
                    
                    
                    
                    
                    (156
                    )Cash
      flow used in financing activities
                    
                    
                    (206
                    )
                    
                    
                    
                    
                    
                    
                    (340
                    )Reconciliation
      of net income (loss) to Adjusted EBITDA (loss):Net
      Income (loss)
                    
                    $
                    86
                    
                    
                    
                    
                    
                    
                    $
                    (787
                    )Add:Depreciation
      and amortization
                    
                    
                    503
                    
                    
                    
                    
                    
                    
                    
                    504Stock
      compensation
                    
                    
                    4
                    
                    
                    
                    
                    
                    
                    
                    41Interest
      expense
                    
                    
                    30
                    
                    
                    
                    
                    
                    
                    
                    46Loss
      from transfer of assets
                    
                    
                    26
                    
                    
                    
                    
                    
                    
                    
                    -Less:  
      Interest income
                    
                    
                    (3
                    )
                    
                    
                    
                    
                    
                    
                    (7
                    )Adjusted
      EBITDA (loss)(2)
                    
                    $
                    646
                    
                    
                    
                    
                    
                    
                    $
                    (203
                    )
  15
  (1)      A
subscriber represents an active, billed service.  One customer account
may represent multiple subscribers depending on the number of active and billed
services for that customer.
 
 (2)      Adjusted
EBITDA, which as used herein means earnings before the effect of interest,
taxes, depreciation, amortization , stock based compensation and transfer of
assets, is not a measurement of financial performance under generally accepted
accounting principles (GAAP) and should not be considered an alternative to net
income as a measure of performance.  Management has consistently used
adjusted EBITDA on a historical basis as a measurement of the Company’s current
operating cash income.
 
 (3)      Adjusted
EBITDA margin represents Adjusted EBITDA as a percentage of total
revenue.
  16
  Total
revenue.Total revenue decreased by $171,000, or 4.7%, to
$3,501,000 for the six months ended December 31, 2010, from $3,672,000 for the
six months ended December 31, 2009.  The Company’s total subscriber
count decreased by 1,300, or 4.9%, to 25,100 as of December 31, 2010 compared to
26,400 as of December 31, 2009.  The Company’s wireless broadband
Internet subscriber count decreased slightly to 8,000 as of December 31, 2010,
compared to 8,200 as of December 31, 2009.  Wireless broadband
Internet revenue increased by $118,000 to $2,399,000 for the six months ended
December 31, 2010 compared to $2,281,000 for the six months ended December 31,
2009.  This increase was primarily due to the stability of the
subscriber base and customers migrating to upgraded service levels and
purchasing additional services during the quarter ended December 31,
2010.  Presently stable revenues derived from wireless broadband
Internet subscribers were offset by the decrease in other types of Internet
service revenues of $208,000. This is attributed to the expected decline of
dial-up customers moving to other providers’ broadband
service.  Effective July 1, 2010, Internet America transferred its
messaging business assets to Cynthia and Mark Ocker and management believes that
the loss of the messaging revenue, which totaled $81,000 during the six months
ended December 31, 2009, will not have a significant impact on the operations of
the Company.
 
 Connectivity and operations.Connectivity and operations expense decreased by $398,000, or 15.7%, to
$2,145,000 for the six months ended December 31, 2010, from $2,543,000 for the
six months ended December 31, 2009.  Salaries, wages and related
personnel expense decreased by $201,000 to $959,000 for the six months ended
December 31, 2010 compared to $1,160,000 for the six months ended December 31,
2009, which is attributed mainly to the reduction in headcount to streamline our
efficiencies gained from quality process initiatives. Data and
telecommunications expense decreased by $87,000 to $658,000 for the six months
ended December 31, 2010 compared to $745,000 for the six months ended December
31, 2009 due to decreased call volume made by improvements in our systems and
renegotiating more favorable terms with telecommunications service
providers.  Expensed assets decreased by $79,000 to $162,000 for the
six months ended December 31, 2010 compared to $241,000 for the six months ended
December 31, 2009 due to a decrease in supplies, installation and
repairs.  Other expenses decreased by $33,000 due to a one time
conversion cost related to transferring email services to a hosted outsource
service provider in the quarter ended September 30, 2009.  The
remaining decrease in expense primarily relates to a decrease in merchant fees
of $3,000.  The decreases in previously discussed expenses were offset
slightly by increases in travel by $1,000 and in tower leases by $4,000 due to
improvements in the Company's wireless broadband infrastructure and increases in
tower rental rates.
 
 Sales and marketing.Sales
and marketing expense decreased by $47,000, or 31.8%, to $101,000 for the six
months ended December 31, 2010, compared to $148,000 for the six months ended
December 31, 2009.  Salaries, wages and related personnel costs
decreased by approximately $33,000 to $77,000 for the six months ended December
31, 2010 compared to $110,000 for the six months ended December 31, 2009, which
is attributed mainly to the reduction in headcount to streamline our
efficiencies gained from quality process initiatives. Advertising expense
decreased by $14,000 to $12,000 for the six months ended December 31, 2010
compared to $26,000 for the six months ended December 31, 2009 primarily due to
the Company bringing all direct advertising related expenses in house to
streamline cost and focus on all improved or enhanced network
areas.
 
 General and
administrative.General and administrative expense decreased
by $615,000, or 50.1%, to $613,000 for the six months ended December 31, 2010
from $1,228,000 for the six months ended December 31, 2009.  Personnel
costs decreased by $273,000 to $163,000 for the six months ended December 31,
2010 compared to $436,000 for the six months ended December 31, 2009 due to a
reduction in the number of employees, including consolidation of the roles and
functions of the COO, CFO and the Vice President of Marketing and Sales, and due
to a non-recurring expense in the September 2009 quarter totaling $120,000 in
connection with our application for a grant under the ARRA to expand access to
broadband into areas in Southeast Texas adjacent to existing
operations. Professional and consulting fees decreased by $91,000 to
$92,000 for the six months ended December 31, 2010 compared to $183,000 for the
six months ended December 31, 2009 primarily due to the disposal of the telex
messaging services business.  Other general and administrative costs
decreased by $42,000 to $91,000 for the six months ended December 31, 2010
compared to $133,000 for the six months ended December 31, 2009 primarily due to
decreased contract labor costs, bank fees and miscellaneous office
expenses.  The expense related to the issuance of stock options and
directors’ fees decreased by $38,000 to $35,000 for the six months ended
December 31, 2010 compared to $73,000 for the six months ended December 31, 2009
due to the termination of employment of some grantees. Facilities costs
decreased by $35,000 as of December 31, 2010, to $94,000 for the six months
ended December 31, 2010 from $129,000 for the six months ended December 31, 2009
due to the renegotiation of our phone system lease contract and the closing of
storage facilities.  Telecommunications expense decreased by $16,000
to $91,000 for the six months ended December 31, 2010 from $107,000 for the six
months ended December 31, 2009 due to cancelling the Company’s cell phone plan
and providing a monthly allowance to our employees.  Travel expenses
decreased slightly by $2,000 to $5,000 for the six months ended December 31,
2010 as compared to $7,000 for the six months ended December 31, 2009.The decreases
in previously discussed expenses were offset slightly by an increase in
insurance expenses by $2,000 for a one month extension on the Company’s previous
policy.
  17
  Recovery of bad debt expense.Bad debt expense increased by $2,000 for the six months ended December
31, 2010 compared to the six months ended December 31, 2009 due to decreased
recoveries.  As of December 31, 2010, we are fully reserved for all
customer accounts that are at least 90 days old.
 
 Depreciation and
amortization.  Depreciation and amortization decreased slightly
by $1,000, or 0.2%, to $503,000 for the six months ended December 31, 2010, from
$504,000 for the six months ended December 31, 2009.  This decrease is
due to a $26,000 decrease in amortization expense relating to acquired
subscriber costs resulting from the Company’s prior wireless acquisitions in
fiscal 2005 and 2006 becoming fully amortized partially offset by a $25,000
increase in depreciation relating to the improvements in existing wireless
broadband Internet infrastructure.
 
 Loss from transfer of
assets.During July 2010, former owners of TeleShare
surrendered their noncontrolling interest in exchange for $25,000 of certain
assets and liabilities of TeleShare. The Company recognized a loss of $26,000 on
the transfer of these assets.
  Interest income and expense.For the six months ended December 31, 2010 and 2009, the Company recorded
interest expense of $30,000 and $46,000, respectively.  The $16,000
decrease in interest expense is related to a decrease in the acquisition debt
and the RUS loan outstanding.    For the six months ended
December 31, 2010 and 2009, the Company recorded interest income of $3,000 and
$7,000, respectively.  The $4,000 decrease in interest income is due
to changes in cash on hand and declining interest
rates.
  18
  Liquidity
and Capital Resources
 
 We have
financed our operations to date primarily through (i) cash flows from
operations, (ii) public and private sales of equity securities and (iii) loans
from shareholders and third parties.
 
 Cash
provided by (used in) operating activities is net income or loss adjusted for
certain non-cash items and changes in operating assets and
liabilities.  For the six months ended December 31, 2010, cash
provided by operations was $581,000 compared to cash used in operations of
$446,000 for the six months ended December 31, 2009. For the six months ended
December 31, 2010, net income plus non-cash items provided cash of
$617,000.  Changes in operating assets and liabilities resulted in a
$37,000 net use of cash for the six months ended December 31, 2010 due to a
$165,000 decrease in operating liabilities partially offset by decreases in
operating assets.  Decreases in liabilities were related to expense
reductions and decreased deferred revenue while decreases in assets were
primarily related to decrease in accounts receivable of $30,000 primarily due to
the transfer of certain TeleShare assets, and decreased prepaid expenses and
other assets of $76,000 primarily due to decreased deferred
costs.  For the six months ended December 31, 2009, net loss plus
non-cash items used cash of $231,000 and changes in operating assets and
liabilities resulted in a $215,000 use of cash, primarily derived from decreases
in operating liabilities of $317,000 partially offset by a net decrease in
operating assets of $102,000.
 
 Cash used
in investing activities totaled $147,000 for the six months ended December 31,
2010, which relates primarily to $150,000 in cash used to purchase new wireless
broadband Internet infrastructure.  Cash used in investing activities
totaled $156,000 for the six months ended December 31, 2009, which relates
primarily to $162,000 in cash used to purchase new wireless broadband Internet
infrastructure.
 
 Cash used in financing activities,
which totaled $206,000 for the six months ended December 31, 2010, consisted of
principal payments on long term debt including notes related to acquisitions,
the RUS loan and capital leases. Cash used in financing activities, which
totaled $340,000 for the six months ended December 31, 2009, consisted of
principal payments on long term debt including notes related to acquisitions,
the RUS loan and capital leases.
 
 Cash on
hand increased by $228,000 during the six months ended December 31,
2010.  At December 31, 2010, cash on hand was $1,438,000 compared to
$1,210,000 at June 30, 2010.  Anticipated cash flow from operations in
the near future is expected to be sufficient to meet our working capital needs
in fiscal 2011 for continuing operations.
 
 The Company will continue to focus on
sales and expense management to provide financing to support its operations and
for any capital expenditure in both existing and new markets. Management
believes that the Company will be able to meet the service obligations related
to the deferred revenue. Decreases in revenues and subscriber count may
adversely affect the liquidity of the Company.  We can provide no
assurance that we will be successful in achieving any or all of our initiatives,
or that the achievement or existence of such initiatives will continue to result
in positive cash flow.  Additional capital financing arrangements,
including public or private sales of debt or equity securities, or additional
borrowings from commercial banks, shareholders and third parties, may be
insufficient or unavailable.
 
 Off
Balance Sheet Arrangements
 
 None.
  19
  “Safe
Harbor” Statement and Risk Factors
 
 The
following "Safe Harbor" Statement is made pursuant to the Private Securities
Litigation Reform Act of 1995.  Certain of the statements contained in
the body of this Report are forward-looking statements (rather than historical
facts) that are subject to risks and uncertainties that could cause actual
results to differ materially from those described in the forward-looking
statements. With respect to such forward-looking statements, we seek the
protections afforded by the Private Securities Litigation Reform Act of
1995.  These risks include, without limitation, that (1) we will not
be able to increase our rural customer base at the expected rate, (2) we will
not improve EBITDA, profitability or product margins, (3) Internet revenue in
high-speed broadband will continue to increase at a slower pace than the
decrease in other Internet services resulting in greater operating losses in
future periods,  (4) financing will not be available to us if and as
needed, (5) we will not be competitive with existing or new competitors, (6) we
will not keep up with industry pricing or technological developments impacting
the Internet, (7) we will be adversely affected by dependence on network
infrastructure, telecommunications providers and other vendors or by regulatory
changes, (8) service interruptions or impediments could harm our business, (9)
we may be accused of infringing upon the  intellectual property rights
of third parties, which is costly to defend and could limit our ability to use
certain technologies in the future, (10) government regulations could force us
to change our business practices, (11) we may be unable to hire and retain
qualified personnel, including our key executive officers, (12) future
acquisitions of wireless broadband Internet customers and infrastructure may not
be available on attractive terms and if available we may not successfully
integrate those acquisitions into our operations, (13) provisions in our
certificate of incorporation, bylaws and shareholder rights plan could limit our
share price and delay a change of management and (14) our stock price has been
volatile historically and may continue to be volatile.  This list is
intended to identify certain of the principal factors that could cause actual
results to differ materially from those described in the forward-looking
statements included elsewhere herein.  These factors are not intended
to represent a complete list of all risks and uncertainties inherent in our
business, and should be read in conjunction with the more detailed risk factors
included in our other publicly filed reports.
 
 ITEM
3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
 Not applicable
 
 ITEM
4.  CONTROLS AND PROCEDURES
 
 (a) Evaluation of disclosure controls
and procedures.We maintain disclosure controls and procedures that are
designed to ensure that information required to be disclosed in our reports
pursuant to the Securities Exchange Act of 1934, as amended, or the Exchange
Act, is recorded, processed, summarized and reported within the time periods
specified in the rules and forms, and that such information is accumulated and
communicated to us, including our Chief Executive Officer, who also performs the
functions of the principal financial officer, as appropriate, to allow timely
decisions regarding required disclosure.
 
 As
required by Rules 13a-15(b) and 15d-15(b) of the Exchange Act, an
evaluation as of December 31, 2010 was conducted under the supervision and
with the participation of our management, including our Chief Executive Officer,
who also serves as our principal financial officer, of the effectiveness of our
disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Exchange Act). Based on this evaluation, our Chief Executive
Officer, also performing function of the principal financial officer, concluded
that, as of December 31, 2010, our disclosure controls and procedures were
effective.
 
 (b) Changes in internal control over
financial reporting.There were no changes in our internal control over
financial reporting that occurred during the fiscal quarter ended December 31,
2010 that have materially affected, or are reasonably likely to materially
affect, our internal control over financial reporting.
 
 20
  PART II - OTHER INFORMATION
 
 ITEM 1.
              LEGAL
      PROCEEDINGS
 
 None.
 
 ITEM 1A.
              RISK
    FACTORS
 
 Not applicable.
 
 ITEM 2.
              UNREGISTERED SALES OF EQUITY
      SECURITIES AND USE OF
PROCEEDS
 
 On
October 6, 2010, a holder of the Company’s Series A preferred stock, par value
$0.01 per share (“Preferred Stock”), elected to convert 170,648 shares of
Preferred Stock into 170,648 shares of Common Stock (the “Exchange
Shares”).  The Exchange Shares were issued under certain exemptions
from registration, including the exemption provided under Section 3(a)(9) of the
Securities Act of 1933, as amended, in that the Exchange Shares were issued to
existing security holders exclusively in a transaction where no commission or
other remuneration was paid or given directly or indirectly for soliciting the
exchange.
 
 ITEM 3.
              DEFAULTS UPON SENIOR
      SECURITIES
 
 None.
  ITEM
      4.
              (REMOVED
      AND RESERVED)
 
 ITEM 5.
              OTHER
      INFORMATION
 
 None.
 ITEM
      6.
                  EXHIBITS
 Exhibit
                    
                    Description31.1*
                    
                    Rule
      13a-14(a)/15d-14(a) Certification of William E. Ladin,
  Jr.31.2*
                    
                    Rule
      13a-14(a)/15d-14(a) Certification of William E. Ladin,
  Jr.32.1*
                    
                    Section
      1350 Certification of William E. Ladin,
Jr.
 
 *Filed
herewith.
  21
 
 SIGNATURES
 
 Pursuant to the requirements of the
Securities Exchange Act of 1934, the registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly
authorized.
 
 INTERNET
AMERICA, INC.
 (Registrant)
 
 Date: 
      February 10, 2011By: 
      /s/ William E. Ladin, Jr.William
      E. Ladin, Jr.Chairman
      and Chief Executive
Officer
 
 Date:  February 10, 2011By: 
      /s/ William E. Ladin, Jr.William E. Ladin, Jr.Acting
      Chief Financial and Chief Accounting
Officer
  22