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United States
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

(Mark one)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended January 31, 2004

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 000-26763

NET2PHONE, INC.
(Exact Name of Registrant as Specified in Its Charter)

DELAWARE   22-3559037
(State or Other Jurisdiction of Incorporation or Organization)   (I.R.S. Employer Identification No.)
     
520 Broad Street, Newark, New Jersey   07102
(Address of Principal Executive Offices)   (Zip Code)
     
(973) 438-3111
(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 is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act)

Yes No

As of March 5, 2004, the registrant had outstanding 46,653,166 shares of common stock, $.01 par value and 28,913,250 shares of Class A stock, $.01 par value.

(The number of shares of Class A stock does not include 6.9 million shares to be issued the date a definitive agreement is executed between Net2Phone, Inc. and IDT Corporation as described in more detail in Note 5 to the Condensed Consolidated Financial Statements included herein.)

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NET2PHONE, INC.
TABLE OF CONTENTS

  Page No.
PART I. FINANCIAL INFORMATION
  
Item 1.     Financial Statements:
  
3
4
5
6
7
16
26
26
PART II.     OTHER INFORMATION
  
26
27
27
27
27
27
Signatures
 29

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PART I—FINANCIAL INFORMATION

Item 1. Financial Statements

NET2PHONE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS

    January 31,
2004		   July 31,
2003		  
    (unaudited)   (note 1)  
   
 
 
    (In thousands)  
ASSETS:
              
Current assets:
              
Cash and cash equivalents
   $ 20,088   $ 9,350  
Restricted cash — short term
     684     719  
Marketable securities — current
     92,840     60,554  
Notes receivable from employees — current
     —     910  
Assets held for sale
     573     320  
Other current assets
     10,167     11,662  
   
 
 
Total current assets
     124,352     83,515  
Property and equipment, net
     21,133     24,172  
Restricted cash, cash equivalents and marketable securities — long term
     25,191     23,488  
Notes receivable from employees — long term
     1,400     4,990  
Deferred compensation
     —     3,763  
Other assets
     4,696     4,718  
   
 
 
Total assets
   $ 176,772   $ 144,646  
   
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY:
              
Current liabilities:
              
Accounts payable
   $ 804   $ 2,502  
Accrued expenses
     7,980     15,438  
Capital lease obligations — short term
     793     3,079  
Due to IDT
     786     1,057  
Other current liabilities
     6,580     7,527  
   
 
 
Total current liabilities
     16,943     29,603  
Other liabilities
     1,568     1,825  
Capital lease obligations — long term
     —     708  
Long-term obligations
     15,508     16,170  
   
 
 
Total liabilities
     34,019     48,306  
Minority interests
     —     20,011  
Stockholders’ equity:
              
Common stock, $.01 par value; 200,000 shares authorized including redeemable shares; 50,022 and 34,632 shares issued
     500     346  
Class A stock, $.01 par value; 37,924 shares authorized; 29,269 and 28,921 shares issued
     293     289  
Additional paid-in capital
     944,195     874,077  
Accumulated deficit
     (765,762 )   (760,486 )
Accumulated other comprehensive income
     (33 )   226  
Deferred compensation
     (91 )   (456 )
Loans to stockholders
     (1,331 )   (1,394 )
Treasury stock, at cost; 3,404 and 3,476 shares
     (35,018 )   (36,273 )
   
 
 
Total stockholders’ equity
     142,753     76,329  
   
 
 
Total liabilities and stockholders’ equity
   $ 176,772   $ 144,646  
   
 
 

The accompanying notes are an integral part of these condensed consolidated financial statements.

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NET2PHONE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)

    Six months ended
January 31,
  Three months ended
January 31,
 
    2004   2003   2004   2003  
   
 
 
 
 
    (In thousands, except per share data)  
Revenue
   $ 40,216   $ 46,999   $ 19,812   $ 23,051  
Costs and expenses:
                          
Direct cost of revenue (exclusive of depreciation and amortization)
     22,190     26,228     11,243     12,286  
Selling, general and administrative
     24,163     28,223     11,590     14,563  
Depreciation and amortization
     5,147     4,856     2,659     2,375  
Restructuring, severance, impairment and other items
     1,028     5,876     833     703  
Settlement of Cisco litigation
     —     (58,034 )   —     395  
Non-cash compensation (attributable to selling, general and administrative)
     3,996     4,349     2,155     2,693  
Non-cash services provided by IDT
     2,254     —     2,254     —  
   
 
 
 
 
Total costs and expenses
     58,778     11,498     30,734     33,015  
   
 
 
 
 
Income (loss) from operations
     (18,562 )   35,501     (10,922 )   (9,964 )
Interest income, net
     875     1,399     660     599  
Other income, net
     13,263     6     740     (10 )
   
 
 
 
 
Income (loss) before minority interests
   $ (4,424 )   36,906     (9,522 )   (9,375 )
Minority interests
     —     24     —     (134 )
   
 
 
 
 
Net income (loss) available to common stockholders
   $ (4,424 ) $ 36,882     (9,522 ) $ (9,241 )
   
 
 
 
 
Net income (loss) per common share-basic & diluted
   $ (0.07 ) $ 0.62   $ (0.13 ) $ (0.15 )
   
 
 
 
 
Weighted average number of common shares used in the calculation of basic net income (loss) per common share:
     65,647     59,574     71,059     59,804  
   
 
 
 
 
Weighted average number of common shares used in the calculation of dilutive net income (loss) per common share:
     65,647     59,643     71,059     59,804  
   
 
 
 
 

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Net2Phone, Inc.
Condensed Consolidated Statement of Stockholders’ Equity
Six months ended January 31, 2004

(in thousands)                                                                    
                                                                     
                          Additional
Paid-In
Capital		     Accumulated
(Deficit)		     Accumulated
Other
Comprehensive
Income (Loss)		     Deferred
Compensation		     Loans to
Stockholders		               Total
Stockholders’
Equity (Deficit)		  
    Common Stock   Class A Stock                       Treasury Stock      
   
 
                     
     
    Shares     Amount   Shares     Amount                       Shares     Amount      
   
 
 
 
 
 
 
 
 
 
 
 
 
Balance at July 31, 2003
   34,632   $ 346   28,921   $ 289   $ 874,077   $ (760,486 ) $ 226   $ (456 ) $ (1,394 ) 3,476   $ (36,273 ) $ 76,329  
Net income for the six months ended January 31, 2004
                               (4,424 )                               (4,424 )
Foreign currency translation
                                     (51 )                         (51 )
Unrealized loss on equity securities, net
                                     (208 )                         (208 )
                                                               
 
Comprehensive income
                                                                 (4,683 )
Issuance of Common Stock in follow-on public offering
   14,000     140               58,554                                       58,694  
Treasury share funding of 401K Plan
                               (852 )                   (72 )   1,255     403  
Conversion of Class A stock to common stock
   8     —   (8 )   —                                             —  
Exercise of stock options
   1,234     12               5,286                                       5,298  
Issuance of Common Stock
  148     2               1,031                                       1,033  
Vested shares per IDT Telecommunications agreement
             356     4     2,251                                       2,255  
Repayment of loans to stockholders
                                                 63               63  
Repricing of stock options
                         2,996                 (2,996 )                   —  
Amortization of deferred compensation
                                           3,361                     3,361  
   
 
 
 
 
 
 
 
 
 
 
 
 
Balance at January 31, 2004
   50,022   $ 500   29,269   $ 293   $ 944,195   $ (765,762 ) $ (33 ) $ (91 ) $ (1,331 ) 3,404   $ (35,018 ) $ 142,753  
   
 
 
 
 
 
 
 
 
 
 
 
 

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NET2PHONE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)

    Six Months Ended
January 31,
 
    2004   2003  
   
 
 
    (In thousands)  
Operating activities:
              
Net (loss) income
   $ (4,424 ) $ 36,882  
Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:
              
Depreciation and amortization
     5,147     4,856  
Non-cash compensation
     3,996     4,349  
Non-cash services
     2,254     —  
Gain on buyout of minority interests
     (12,182 )   —  
Restructuring, severance, impairment, and other non-cash items
     1,322     6,