Earthlink 2004 Annual Report Download - page 68

EARTHLINK, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
include national branding campaigns comprised of television and radio and print and outdoor advertising. Marketing and advertising costs to
promote the Company’
s products and services are expensed in the period incurred. The Company also uses direct mail advertising consisting of
production, printing, mailing and postage related to disks distributed through the mail or as promotional inserts in various print media. Media
and direct mail production costs are expensed the first time the advertisement is run. Media and agency costs are expensed over the period the
advertising runs. Advertising expenses were $145.8 million, $173.0 million and $224.4 million during the years ended December 31, 2002,
2003 and 2004, respectively. Prepaid advertising expenses were $1.2 million and $3.0 million as of December 31, 2003 and 2004, respectively.
During the years ended December 31, 2002, 2003 and 2004, EarthLink incurred various shipping charges in connection with providing
welcome kits to new customers and shipping equipment. The Company classifies shipping and handling charges associated with welcome kits
as sales and marketing expenses, which amounted to $6.1 million, $2.6 million and $1.8 million during the years ended December 31, 2002,
2003 and 2004, respectively, because the Company does not invoice the customer for the welcome kits or the associated shipping. All other
shipping and handling costs are included in cost of revenues.
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. Judgment is required in determining when the technological feasibility of a product is established. The
Company has determined that technological feasibility for its products is reached very shortly before the products are released. Costs incurred
after technological feasibility is established are not material, and, accordingly, the Company expenses research and development costs when
incurred.
Income Taxes
The Company recognizes deferred tax assets and liabilities for operating loss carryforwards, tax credit carryforwards and the estimated
future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their
respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which the temporary
differences are expected to be recovered or settled. A valuation allowance is recorded to reduce the carrying amounts of net deferred tax assets
if there is uncertainty regarding their realization.
Net Income (Loss) per Share
Net income (loss) per share has been computed according to SFAS No. 128, “Earnings per Share,” which requires a dual presentation of
basic and diluted earnings (loss) per share (“EPS”). Basic EPS represents net income (loss) attributable to common stockholders divided by the
weighted average number of common shares outstanding during a reported period. Diluted EPS reflects the potential dilution that
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