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eBay Reports Rising Profits, Settles With AT&T

International online trading post eBay posted another record quarter, according to financial statements released Wednesday.

The company said it has also settled the patent dispute with AT&T that began last November. AT&T sued eBay and PayPal for infringing its patent for a payment processing system. AT&T claims its patent covers the method of using a trusted third party to complete a transaction over a communication system, such as the Internet. Terms of the settlement are secret, but eBay said it shouldn't affect its financial results or cash flows.

In its second-quarter 2004 financial statement, the San Jose, Calif.-based digital flea market posted profits of $773.4 million, up 52 percent over the previous year. It had sales of $756.2 million, a 59 percent increase year over year.

The company reported GAAP diluted earnings per share of $0.30 and pro forma diluted EPS of $0.31. It had operating income of $253.9 million, up 108 percent year over year, and pro forma operating income of $275.6 million, up 99 percent from the preceding year.

Operating income was 33 percent of net revenues, and consolidated net income for the quarter was $190.4 million, or $0.28 per diluted share. These results exceeded the company's guidance of $760 million for net revenues, $0.24 for earnings per diluted share and $0.26 for pro forma earnings per diluted share.

In a conference call, the company again raised guidance on its GAAP earnings per diluted share, telling analysts they might be as high as $1.10 for the full year, $0.04 higher than the most recent guidance. Estimated GAAP earnings per diluted share could be as high as $0.24 in Q3-04 and $0.30 in Q4-04; its Q3-04 target was unchanged, whileQ4-04 was raised by $.01. The company now expects that consolidated net revenues for 2004 could be as high as $3.185 billion, $35 million higher than the company's most recent guidance.

But the quarter-over-quarter picture wasn't as flattering. In Q1 2004, ending March 31, the company reported GAAP diluted earnings per share of $0.30 and pro forma diluted EPS of $0.31 on sales of $756.2 million. Operating income was $266.7 million, and pro forma operating income was $286.4 million. EBay expects consolidate net revenue of $770 million in Q3-04, in other words, flat from Q2-04. The holiday shopping season could boost net revenue to $886 million for the final quarter of the year.

CFO Rajiv Dutta said this pattern, which they called "amplified seasonality," is typical for the company, and would continue. The executives promised a kick-ass fourth quarter would make up for the lackluster third.

"We're looking forward to a really strong holiday season," CEO Meg Whitman added, with a new advertising campaign in the U.S., "we have a really positive outlook for the holiday season."

But the market reacted negatively, sending shares down 4.19 percent to $76.60 at close of trading.

The online marketplace has twelve categories that deliver $1 billion or more in worldwide annualized gross merchandise volume (GMV): eBay Motors at $9.8 billion; Consumer Electronics at $2.5 billion; Computers at $2.4 billion; Clothing and Accessories at $2.2 billion; Books/Movies/Music at $2.1 billion; Sports at $2.0 billion; Home & Garden at $1.6 billion; Collectibles at $1.4 billion; Toys at $1.3 billion; Jewelry & Watches at $1.2 billion; Cameras & Photo at $1.1 billion; and Business & Industrial at $1.1 billion.

"Our business is being built by our users, one transaction at a time," Whitman told analysts and reporters on a conference call, adding that some 140,000 people making most or all of their living on eBay. The site hosts approximately 181,000 stores worldwide, with some 121,000 stores on the U.S. site.

EBay's do-it-yourself set-up helped keep its overhead low. Some 8,000 independent developers in the company's partner program contribute applications that extend the platform. Independent third-party "auction drop" facilities act as access points for buyers and sellers who don't use a computer.

eBay spent just 24 percent of net revenue in sales and marketing, and only 8 percent on product development. The latter doesn't include capitalized site and product development efforts.

"We think we're among the industry's best in optimizing our marketing spend," Whitman said. "Most new users come through word of mouth, and we are increasingly bookmarked by our users. So we gained some efficiencies through optimizing our Internet marketing spending."

The company upped its estimate of the year's capital expenditures to $315 million; it spent $65.7 this quarter. The $65 million increase from last quarter's guidance is mostly due to the construction of a new data center.

"This is not a capital intensive business," Dutta said. He said while the timing of certain things, such as the data centers, might affect a particular quarter, he expects capital expenditures as a percentage of revenue to be in the single digit range for the rest of the year.

The company plans to continue its intense investment in China, where EachNet, the auction site eBay purchased in 2002, grew GMV by 28 percent, to $63 million.

"China was our single largest international investment, and we intend to spend at that same rate next year," Whitman said. The company is planning for very significant investment in all of Asia. It will continue to advance its efforts in Germany, the U.K. and Taiwan.

"Cross-border trade has grown quite a bit," Whitman said, pointing out that PayPal is accepted in 38 countries. "We make inefficient markets efficient," she said. "Global trade is fundamentally inefficient, so we think it's a bigger opportunity for us in the longer term."