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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended: June 30, 2003

Commission File Number: 000-31181

AMERICA ONLINE LATIN AMERICA, INC.

6600 N. Andrews Avenue
Suite 400
Fort Lauderdale, FL 33309
(Address of principal executive offices and zip code)

Registrant’s telephone number, including area code:    (954) 689-3000

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

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

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AMERICA ONLINE LATIN AMERICA, INC.

FORM 10-Q

INDEX

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      PART I. FINANCIAL INFORMATION

      MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Introduction

      Management’s discussion and analysis of results of operations and financial condition (“MD&A”) is provided as a supplement to the accompanying consolidated financial statements and related footnotes to help provide an understanding of the financial condition, changes in financial condition and results of operations of America Online Latin America, Inc. (“AOLA” or the “Company”). The MD&A is organized as follows:

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Overview. This section provides a general description of AOLA’s businesses, as well as recent developments that we believe are important in understanding our results of operations and future trends in our operations.

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Results of operations. This section provides an analysis of AOLA’s results of operations for the three and six months ended June 30, 2003 relative to the comparable periods in 2002. This analysis is presented on a consolidated basis, but also discusses relevant segment basis figures and results.

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Financial condition and liquidity. This section provides an analysis of AOLA’s financial condition as of June 30, 2003 and cash flows for the three and six months ended June 30, 2003.

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Critical accounting policies. This section provides a review of our accounting policies and estimates considered most important to our reported financial condition and results.

•

Forward-looking statements. This section discusses how certain forward-looking statements made by AOLA throughout MD&A and in the consolidated financial statements are based on management’s current expectations about future events and are inherently susceptible to uncertainty and changes in circumstances.

      This MD&A may not be indicative of the results for the full year and should be read in conjunction with the sections of our audited financial statements and notes thereto as well as our MD&A that are included in our Annual Report on Form 10-K/A for the fiscal year ended December 31, 2002.

      Overview

      AOLA is one of the leading interactive service providers in Latin America. Our goal is to become Latin America’s leader in the development of the global interactive medium that is changing the way people communicate, stay informed, are entertained, learn, shop and conduct business. We derive our revenues primarily from member subscriptions to our AOLA country services and the AOL-branded service in Puerto Rico. We also generate additional revenues from advertising and other revenue sources. Our comprehensive online services, which are available to subscribing members, are tailored to local interests.

      The AOLA country services and the AOL-branded service in Puerto Rico provide our members with easy and reliable access to local, regional and global online communities, content and localized versions of certain of America Online, Inc.’s (“America Online”) interactive products. Our AOLA country services and the AOL-branded service in Puerto Rico seamlessly integrate the Internet, enabling members to access and explore the Internet. We believe the AOLA country services encourage members to participate in interactive communities through tools such as Spanish and Portuguese versions of AOL Instant Messenger, Buddy Lists, e-mail, public bulletin boards, online meeting rooms, conversations, chat and auditorium events.

      Our markets in Latin America are Brazil, Mexico, Argentina and Puerto Rico. In November 1999, we launched our first AOLA country service, America Online Brazil. As of July 15, 2003, we offered our America Online Brazil service in 274 cities in Brazil. In July 2000, we launched our country service in Mexico, America Online Mexico. As of July 15, 2003, we offered our America Online Mexico service in 58 cities in Mexico. In August 2000, we launched our country service in Argentina, America Online Argentina. As of July 15, 2003, we offered our America Online Argentina service in 22 cities in Argentina. As part of the ongoing development of our service territory, in December 2000 we expanded into Puerto Rico under an agreement with America Online under which America Online transferred its economic interest in its existing subscriber base to us. We receive the economic benefit associated with subscribers to the AOL-branded service in Puerto Rico and include these subscribers in our member totals. Subscribers in Puerto Rico are provided with both English and Spanish-language content through the AOL-branded service. As of July 15, 2003, service in Puerto Rico was offered island-wide.

      In June 2000, we entered into a ten-year strategic alliance with Banco Itaú, one of the largest banks in Latin America. We launched a co-branded, customized version of our America Online Brazil service that Banco Itaú began marketing to its customers in December 2000. Banco Itaú is obligated to promote the co-branded service as the principal means of accessing Banco Itaú’s interactive financial services. We believe that this relationship is important to our Internet presence in Brazil because it allows us to gain access to Banco Itaú’s online as well as offline customer base.

     In January 2003, we entered into an agreement with McDonald’s in Brazil to market our service via kiosks in hundreds of McDonald’s restaurants in Brazil. As part of the agreement, we will pay McDonald’s an initial fee and an annual fee in the aggregate amount of up to $7,000,000 over the term of the agreement, as well as a fee for each new member who becomes a paying member of our AOLA country service in Brazil through this promotion. We have not yet implemented this agreement, but expect to begin to do so in the third quarter of 2003. Our membership level will be significantly influenced by the timing and success of the revised marketing agreement with Banco Itaú, as well as by the marketing agreement with McDonald’s in Brazil.

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      The Banco Itaú co-branded service is substantially the same as our AOLA country service in terms of technology and content, except that we offer a co-branded welcome screen for Banco Itaú customers, a Banco Itaú toolbar icon, a special version of our finance channel and links that directly connect Banco Itaú’s customers to its online financial services. Subscribers to the co-branded service have access to our full line of features as provided to our general customers, including e-mail with multiple AOL screen names, instant messaging, Internet access, interaction with our worldwide online community and our 24-hour customer service.

      On December 14, 2002, we amended our strategic marketing alliance with Banco Itaú. Under the terms of the revised agreement, we now oversee, in large part, the marketing activities for the co-branded service. Banco Itaú is obligated to establish kiosks and point-of-sale displays in hundreds of its bank branches for the promotion of the co-branded service, which are staffed by promoters trained by AOL Brazil. The number of promoters varies depending on the success of the marketing efforts, which are reviewed every three months. If the marketing efforts do not meet specified goals, the number of promoters will be decreased, subject to a floor on the number of promoters. Conversely, if the marketing efforts exceed specified levels, the number of promoters will be increased, subject to a maximum number of promoters. Recently, as a result of lower than expected productivity, we began reducing the number of promoters and kiosks in Banco Itaú branches. As discussed below in “—Results of Operations — Recent Developments and Outlook,” Banco Itaú will be required to make certain payments as a result of this reduction. These payments are expected to gradually decrease over time as per the terms of the revised marketing agreement. We have the right to redeploy or reinstate some of the promoters in the branches in the future, in which case we would forego such payments from Banco Itaú.

      Potential subscribers are able to sample the co-branded service and register in the bank branches. Banco Itaú is also required to distribute, at our direction, CD-ROMs containing the software for the co-branded service via in-branch promotions and direct mail. Banco Itaú must also produce and broadcast a certain number of television commercials promoting the co-branded service and provide exclusive online banking benefits to subscribers to the co-branded service. Banco Itaú is responsible for the cost of these marketing efforts. The modified marketing arrangements will remain in effect through March 2006, although the ten-year term of the agreement did not change. For further discussion of the revised marketing agreement with Banco Itaú, please see “Item 1 – Business – Strategic Alliance with Banco Itaú in our Annual Report on Form 10-K/A for the year ended December 31, 2002.”

      Banco Itaú’s customers who register for the co-branded service after December 14, 2002 are entitled to a one-month free trial period, the length of which may be changed in the future and, if they subscribe to the monthly unlimited-use plan, are entitled to a 20% discount off the standard price. Prior to the revised agreement, Banco Itaú was required to offer its subscribers at least one hour of subsidized usage per month following the expiration of their trial period, although Banco Itaú was responsible to us only for actual usage by the subscriber. Banco Itaú is no longer required to subsidize usage for new subscribers to the co-branded service who register after December 14, 2002; however, Banco Itaú, at its option, may subsidize hours for certain customers who were subscribers to the co-branded service prior to December 14, 2002. In addition, during a transition period expected to end in the third quarter of 2003, Banco Itaú is required to pay us a nominal amount for subscribers who were customers prior to December 14, 2002, but who have not used the service during the previous month and are no longer in their free trial period.

      Under the terms of our original agreement with Banco Itaú, Banco Itaú and we established subscriber targets for the co-branded service of 250,000 verified subscribers at December 10, 2001 and 500,000 at December 10, 2002 (subsequently moved to April 30, 2003) and a secondary target of a total of 1,000,000 verified subscribers at December 10, 2002 (subsequently moved to April 30, 2003). In addition, Banco Itaú and we had established the following additional targets: (i) for the 12-month period ending December 10, 2003, revenues generated from subscribers to the co-branded service would account for at least 39% of our aggregate revenues in Brazil, (ii) on December 10, 2004, there would be at least 2,000,000 verified subscribers, and for the twelve months ended on that date revenues generated from subscribers to the co-branded service would account for at least 46% of our aggregate revenues in Brazil, and (iii) for the 12-month period ending December 10, 2005, revenues generated from subscribers to the co-branded service would account for at least 56% of our aggregate revenues in Brazil. Verified subscribers are those subscribers who have used the co-branded service in any two of the three months preceding the applicable measurement date or who have first accessed the co-branded service in the month prior to the applicable measurement date. Under the original agreement, if the verified subscriber level and revenue targets were not met, Banco Itaú was required to make a reference payment to us. Banco Itaú met the subscriber target for the co-branded service of 250,000 verified subscribers at the December 10, 2001 measurement date.

      Under the terms of the revised agreement, Banco Itaú and we eliminated the subscriber targets for the period ending April 30, 2003 (which is the second measurement period under the agreement) and replaced the targets for the remaining three years with targets based on a combination of minimum revenue levels (in the same percentages as described above for each of the next three years) and the fulfillment of the marketing commitments described above. If these new targets are not met, Banco Itaú is required to make reference payments to us. The dates for measuring performance with these new targets were moved to March 24, 2004, 2005 and 2006. The aggregate amount that Banco Itaú will be required to pay us if the marketing or revenue targets are not met (which are subject to annual ceilings) has been reduced from an aggregate of approximately $135.4 million to approximately $60.0 million for the balance of the initial five-year marketing period. In addition, the aggregate amount that Banco Itaú would be obligated to pay us in the event of a termination of the agreement prior to March 24, 2006 has been reduced from approximately $158.0 million to approximately $70.0 million.

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      In addition to attracting subscribers by offering broad geographical coverage of our country services, we make our country services accessible to a broader audience of potential subscribers by offering multiple mechanisms through which our members can pay us, including credit cards, debit cards, cash payment methods and direct debit from bank accounts. The AOLA country services were initially launched with credit cards as the primary subscriber payment method, although Brazil concurrently offered a cash payment method known as the “boleto.” The boleto is a customary form of payment in Brazil under which Brazilian banks that we designate act as conduits for collecting the related payments. In addition, customers of certain banks in Brazil, including customers of our Banco Itaú co-branded service, have the option of permitting direct debits from their accounts for purposes of paying subscriber fees. In May 2001, we began to offer cash payment options in Mexico and Argentina. Members in Puerto Rico may pay their subscription fees either through credit cards or direct debit to their bank accounts. The majority of current members in Puerto Rico have selected credit cards as their payment vehicle, although the majority of recent registrations have been selecting direct debit.

     Since their introduction, these cash payment alternatives have accounted for a substantial majority of all new member registrations in Brazil, Mexico and Argentina. As of June 30, 2003, cash payment mechanisms were selected by approximately 38% of our subscribers in Brazil (other than those to the Banco Itaú co-branded service), 17% of our members in Mexico and 47% of our members in Argentina (or 26% of our total subscriber base, excluding subscribers to the Banco Itaú co-branded service). Although we have not experienced any significant difficulties collecting subscription fees from members using credit cards and direct debit mechanisms, collection rates from members opting for the cash payment mechanisms have historically been lower and less timely. As a result, we continue to encourage conversion of these subscribers to non-cash payment options, primarily by offering discounts to subscribers to our AOLA country services who choose credit card and other non-cash payment options. We have also eliminated free trial periods for subscribers choosing the cash payment option in Mexico.

     Moreover, in Brazil, Mexico and Argentina, as part of our efforts to target higher-value members, we are focusing on improved validation of registration data provided by cash payment subscribers by requiring these subscribers to call our customer service centers to finalize their registration and by terminating members who do not pay on a timely basis. In Mexico, we are also emphasizing prepaid subscription plans whereby subscribers pay in advance for service periods ranging up to one year. In Mexico, prepaid plans are growing in importance and currently account for about 32% of current AOL Mexico members; however, they are not currently actively marketed in Brazil, Argentina and Puerto Rico. In combination with our termination of members who do not pay on a timely basis, results to date indicate these efforts have resulted in a reduction of the overall percentage of members who have selected the cash method as their payment option, although a majority of new member registrations continue to select cash payment.

      We consider countries in which we have launched our AOLA country services as operational segments and internally report our operations on a country-by-country basis. Although amounts for Argentina are not currently material and are not expected to be material in future reporting periods, we have decided not to consolidate Argentina with our corporate and other segment in order to facilitate historical segment comparisons. Each of our operating segments derives its revenues through the provision of interactive services from subscription revenues and from advertising and other revenues. We are currently testing new web-based services complementary to our AOLA country services. Revenue from such complementary services would be included under the current operating segments. For further discussion of our new complementary services, see “ — Results of Operations: Recent Developments and Outlook.”

Results of Operations

      Recent Developments and Outlook. In 2002, we implemented measures designed to better target higher-value members by focusing on targeted groups that have a greater likelihood of becoming members who pay on a timely basis and remain subscribers to our services for an extended period of time. This allowed us to increase the cost efficiency of our member acquisition marketing efforts, primarily through the elimination of the mass mailing of CDs containing our software. Instead, we have focused on more targeted activities such as the use of kiosks in high traffic retail and bank locations and distribution of our software through original equipment manufacturers and direct customer interaction channels. We are also relying to a greater extent on joint marketing arrangements where our partners are responsible for significant portions of the overall cost of the marketing effort. We also took steps to block access to our network and terminate members who were delinquent in the payment of their fees to us. This allowed us to reduce our costs of revenues and achieve significant improvements in our operating cost structure as the scope of our network and call center support operations was made proportional to the resulting reduced membership base and lower peak demand. We have continued focusing on these initiatives in 2003.

      In December 2002, we also renegotiated our marketing agreement with Banco Itaú, giving us more control over the marketing effort and activities of the co-branded service to customers of Banco Itaú. This resulted in the establishment of staffed, interactive kiosks in hundreds of Banco Itaú branches by the end of the first quarter of 2003. Furthermore, as a result of our increased focus on direct marketing channels for member acquisition, in the first quarter of 2003 we entered into a marketing agreement with McDonald’s in Brazil, under which we will establish interactive kiosks in hundreds of McDonald’s restaurants in Brazil. We expect the marketing agreements with Banco Itaú and McDonald’s to be our primary member acquisition vehicles during the remainder of 2003.

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      During the quarter ended June 30, 2003, our rate of member acquisition was negatively affected by the delay in the implementation of the McDonald’s marketing agreement. In addition, the rate of new member registrations at a significant number of Banco Itaú branch kiosks has not met expectations, resulting in a lower than expected number of new member additions from this channel. Strong price competition from providers of free and paid Internet services in Brazil also continues to negatively impact member acquisition and retention in Brazil. These factors have resulted in a lower overall rate of new member additions, which has not been sufficient to offset the termination of members who are delinquent in their payment of fees to us, the termination of members to the Banco Itaú co-branded service who are being terminated because they have failed to choose a paid subscription plan and members who cancel their service. As a result, during the quarter ended June 30, 2003, we experienced a reduction in our ending membership base to 625,000 members, down from 795,000 ending members at March 31, 2003. The reduction in membership was attributable to the termination of approximately 90,000 members of the Banco Itaú co-branded service who did not choose a paid plan, as well as the termination of members who were not paying on a timely basis. This reduction in overall ending members did not have a material impact on our subscriber revenues for the quarter ended June 30, 2003, although we experienced slight reductions in local currency revenues on a sequential basis during the first two quarters of 2003.

      As a result of lower than expected productivity, we have reduced by a substantial majority the number of Banco Itaú branches with on-site kiosks and the number of promoters. As per the terms of the revised marketing agreement, we estimate Banco Itaú will be required to pay us approximately $0.8 million during the third quarter of 2003 in exchange for advertising on our service, since they have reduced marketing expenses as a result of the reduction in the number of promoters. The amount of this payment is expected to gradually decrease over time as per the terms of the revised marketing agreement. Such payments from Banco Itaú will be treated as a reduction of future marketing expense. We have the right to choose to redeploy or reinstate some of the promoters in Banco Itaú branches in the future, in which case we would forego such payments from Banco Itaú.

      We expect our membership base to decrease by approximately an additional 75,000 to 125,000 members in the balance of 2003. The actual size of the decrease and change in membership will be significantly influenced by the timing and success of the extent of the success of the revised marketing agreement with Banco Itaú, by the marketing agreement with McDonald’s in Brazil, by the continued termination of members to the Banco Itaú co-branded service who do not choose a paid subscription plan and by the current levels of membership turnover being experienced by our AOL country services. Terminations associated with Banco Itaú members who do not choose a paid plan, which are expected to amount to 60,000 members, do not materially impact our revenues or costs. As of June 30, 2003, approximately 30% of our total ending membership base was comprised of members of the Banco Itaú co-branded service. We also expect that over the near term a significant percentage of our total subscribers will continue to be in free trial periods or member retention programs. As a consequence of the overall reduction in our membership base, the proportion of paying members in our total membership base has improved during the first half of 2003.

      We are currently planning to launch new web-based interactive services which will be complementary to our AOLA country services. Our objective is to target a broader population than is currently available with our current client and product offering. We will be primarily responsible for the hosting, technical support, development and billing for these services. These interactive services will allow subscribers to access our email, chat and content offerings through a web browser and will not require the use of our software client. We expect this new service to better allow us to compete on the basis of price and to allow consumers to choose the features they need. Total out-of-pocket costs associated with the development and launch of this initiative have not been finalized, but we currently expect them to approximate $4.0 million, and to be incurred through the first quarter of 2004.

Consolidated Results

      Table 1 shows the consolidated results from operations for the three- and six-month periods ended June 30, 2003 and 2002.

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Revenues

      Total revenues. As shown on Table 2, our total revenues consist principally of subscription revenues as well as revenues generated from advertising and other revenue sources.