Earthlink 2002 Annual Report Download - page 52

determining the service specifications, and the party performing the service. When management determines that the telecommunications
partner has assumed many of these responsibilities, EarthLink records revenue associated with the related subscribers on a net basis, netting the
cost of revenue associated with the service against the gross amount billed the customer and recording the net amount as revenue. When
EarthLink has satisfied the majority of the criteria listed above, EarthLink records the revenue at the amount billed the subscriber.
Content, commerce and advertising revenues include amounts derived from (i) selling other companies' products and/or services to
EarthLink subscribers, (ii) subscribers using and/or buying other vendors' products and/or services, and (iii) allowing companies to advertise to
EarthLink's subscribers,
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among other activities. Content, commerce and advertising revenues are recorded based on (i) the per unit contractual rate and (ii) the number
of units sold, number of subscriber impressions, or number of subscriber purchases or actions.
Cost of Revenues
Telecommunications service and equipment costs include telecommunications fees and network operations costs incurred to provide the
Company's Internet access services. Telecommunications service and equipment costs also include fees paid to content providers for
information provided on the Company's online properties, including the Company's Personal Start Page™. EarthLink provides Internet access
service through both its managed network and third-party network points of presence ("POPs").
Telecommunications service and equipment costs also include the costs of equipment sold to customers for use with the Company's
narrowband and broadband Internet access services, including personal computers, handheld devices and consumer premise equipment, among
others, as well as the costs of shipping and handling the equipment. Telecommunications service and equipment costs also include activation
and deactivation fees paid to the Company's network providers for the provisioning and disconnection of services.
Sales incentives include the cost of promotional products and services provided to potential subscribers as introductory offers, including
free Internet access on a trial basis; free cameras, modems and other hardware; and starter kits. Effective January 1, 2002, EarthLink adopted
the provisions of Emerging Issues Task Force ("EITF") Issue No. 00-14, "Accounting for Certain Sales Incentives." EITF Issue No. 00-14 has
been superceded by EITF Issue No. 01-09, "Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the
Vendor's Products)." EITF Issue No. 01-09 requires the costs of these sales incentives to be classified as cost of revenues. Prior to the adoption
of EITF Issue No. 00-14, EarthLink classified the costs of these sales incentives as sales and marketing expenses. As required by EITF Issue
No. 01
-09, the costs of sales incentives in prior periods have been reclassified to cost of revenues to conform to the current year presentation.
Regulatory Risk
EarthLink purchases broadband access from incumbent local exchange carriers, competitive local exchange carriers and cable providers.
Please refer to "Regulatory Environment" in the Business section of this 10-K for a discussion of the regulatory environment as well as a
discussion regarding the Company's contracts with broadband access providers.
Advertising
Advertising costs are included in sales and marketing. Advertising expense includes a variety of programs and strategies including
(i) broadcast campaigns in television and radio, (ii) direct mail, (iii) co-marketing and bundling agreements, (iv) print publications, and
(v) other more innovative means, such as extensive online promotion and co-branding with a wide variety of interactive services partners.
Direct mail advertising consists of production, printing, mailing and postage related to disks and coupons distributed through the mail and as
promotional inserts in packages, periodicals and newspapers. Such costs are expensed as incurred. Advertising expenses were $182.0 million,
$157.2 million and $145.8 million during the years ended December 31, 2000, 2001 and 2002, respectively.
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Software Development Costs
Earthlink accounts for research and development costs in accordance with several accounting pronouncements, including Statement of
Financial Accounting Standards ("SFAS") No. 2, "Accounting for Research and Development Costs," and SFAS No. 86, "Accounting for the
Costs of Computer Software to be Sold, Leased, or Otherwise Marketed." SFAS No. 86 specifies that costs incurred internally in creating a
computer software product should be charged to expense when incurred as research and development until technological feasibility has been
established for the product. Once technological feasibility is established, all software costs should be capitalized until the product is available
for general release to customers. Judgement is required in determining when the technological feasibility of a product is established. The