SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2001
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to __________
Commission File Number 0-25581
PRICELINE.COM INCORPORATED
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(Exact name of Registrant as specified in its charter)
Delaware 06-152849
------------------------------- ----------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
800 Connecticut Avenue
Norwalk, Connecticut 06854
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(address of principal executive offices)
(203) 299-8000
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(Registrant's telephone number, including area code)
N/A
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(Former name, former address and former fiscal year,
if changed, since last report)
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 |_|.
Number of shares of Common Stock outstanding at November 12, 2001:
Common Stock, par value $0.008 per share 224,669,210
------------------------------------------- -----------------------
(Class) (Number of Shares)
priceline.com Incorporated
Form 10-Q
For the Quarter Ended September 30, 2001
PART I - UNAUDITED FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets at September 30, 2001 and December 31, 2000........3
Consolidated Statements of Operations For the Three and Nine Months
Ended September 30, 2001 and 2000............................................4
Consolidated Statement of Changes in Stockholders' Equity For the
Nine Months Ended September 30, 2001.........................................5
Consolidated Statements of Cash Flows For the Nine Months Ended
September 30, 2001 and 2000..................................................6
Notes to Unaudited Consolidated Financial Statements...........................7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.............................................14
Item 3. Quantitative and Qualitative Disclosures About Market Risk............32
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.....................................................32
Item 6. Exhibits and Reports on Form 8-K......................................32
SIGNATURES....................................................................33
2
PART I - UNAUDITED FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
PRICELINE.COM INCORPORATED
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
SEPTEMBER 30, DECEMBER 31,
2001 2000
---- ----
ASSETS (UNAUDITED)
Current assets:
Cash and cash equivalents .............................................. $ 99,013 $ 77,024
Restricted cash ........................................................ 7,013 13,568
Short-term investments ................................................. 45,498 10,952
Accounts receivable, net of allowance for doubtful accounts of
$3,034 and $2,372 ................................................... 15,021 13,889
Note receivable from priceline.com europe Ltd. ......................... 10,000 --
Prepaid expenses and other current assets .............................. 9,431 15,790
----------- -----------
Total current assets ................................................ 185,976 131,223
Property and equipment, net ................................................. 33,137 37,083
Related party receivable .................................................... 11 3,503
Warrants to purchase common stock of licensee ............................... 3,250 3,250
Other assets ................................................................ 19,311 20,019
----------- -----------
Total assets ........................................................ $ 241,685 $ 195,078
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ....................................................... $ 34,931 $ 40,691
Accrued expenses ....................................................... 30,484 33,172
Other current liabilities .............................................. 4,943 5,434
----------- -----------
Total current liabilities ........................................... 70,358 79,297
----------- -----------
Accrued expenses ............................................................ 3,367 5,108
----------- -----------
Total liabilities ................................................... 73,725 84,405
----------- -----------
MANDATORILY REDEEMABLE CONVERTIBLE SERIES A PREFERRED STOCK ................. -- 359,580
MANDATORILY REDEEMABLE SERIES B PREFERRED STOCK ............................. 25,345 --
Stockholders' equity (deficiency):
Common stock, $0.008 par value, authorized 1,000,000,000
shares; issued 229,032,633 and 181,798,204 shares, respectively ..... 1,832 1,454
Treasury stock, 5,450,236 shares ....................................... (326,633) (326,633)
Additional paid-in capital ............................................. 2,013,974 1,618,956
Deferred compensation .................................................. (3,539) (13,053)
Accumulated other comprehensive loss ................................... -- (1,156)
Accumulated deficit .................................................... (1,543,019) (1,528,475)
----------- -----------
Total stockholders' equity (deficiency) ............................. 142,615 (248,907)
----------- -----------
Total liabilities and stockholders' equity .................................. $ 241,685 $ 195,078
=========== ===========
See notes to consolidated financial statements.
3
PRICELINE.COM INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2001 2000 2001 2000
---- ---- ---- ----
Travel revenues .............................. $ 299,793 $ 335,699 $ 929,305 $ 994,128
Other revenues ............................... 2,196 5,635 7,144 13,099
------------------------ --------------------------
Total revenues ........................... 301,989 341,334 936,449 1,007,227
Cost of travel revenues ...................... 250,952 285,753 780,427 846,809
Cost of other revenues ....................... 605 1,146 2,369 1,780
Supplier warrant costs ....................... -- 381 -- 1,143
------------------------ --------------------------
Total costs of revenues .............. 251,557 287,280 782,796 849,732
Gross profit ................................. 50,432 54,054 153,653 157,495
------------------------ --------------------------
Operating expenses:
Write off of WebHouse warrant ............ -- 189,000 -- 189,000
Sales and marketing ...................... 30,010 35,569 93,451 113,635
General and administrative ............... 6,069 11,934 22,950 39,860
Payroll tax expense on employee stock
options .............................. 297 349 687 8,763
Stock based compensation ................. 1,015 -- 9,312 --
Systems and business development ......... 10,160 11,420 31,164 23,983
Restructuring charge ..................... -- -- 1,400 --
Severance charge ......................... -- -- 5,412 --
------------------------ --------------------------
Total operating expenses ............. 47,551 248,272 164,376 375,241
Operating income (loss) ...................... 2,881 (194,218) (10,723) (217,746)
Other income:
Gain (loss) on sale of equity investment . -- 32 (946) 32
Equity in net income of
pricelinemortgage .................... 34 -- 34 --
Interest income .......................... 2,062 2,264 5,654 7,704
------------------------ --------------------------
Total other income ................... 2,096 2,296 4,742 7,736
Net income (loss) ............................ 4,977 (191,922) (5,981) (210,010)
Preferred stock dividend ..................... (8,563) (7,191) (8,563) (14,382)
------------------------ --------------------------
Net loss applicable to common stockholders ... $ (3,586) $(199,113) $ (14,544) $ (224,392)
======================== ==========================
Net loss applicable to common stockholders
per basic and diluted common share ....... $ (0.02) $ (1.19) $ (0.07) $ (1.35)
======================== ==========================
Weighted average shares used to compute
basic and diluted net loss per share
applicable to common shares .............. 216,132 167,059 198,921 166,389
======================== ==========================
See notes to consolidated financial statements.
4
PRICELINE.COM INCORPORATED
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001
(UNAUDITED)
(IN THOUSANDS)
ACCUMULATED
OTHER
COMMON STOCK ADDITIONAL COMPRE- TREASURY STOCK DEFERRED
--------------- PAID-IN ACCUMULATED HENSIVE ----------------- COMPEN-
SHARES AMOUNT CAPITAL DEFICIT INCOME SHARES AMOUNT SATION TOTAL
------ ------ ------- ----------- -------- ------ ------ --------- ---------
Balance, January 1, 2001 .... 181,798 $1,454 $1,618,956 $(1,528,475) $(1,156) (5,450) $(326,633) $(13,053) $(248,907)
Net loss applicable to common
stockholders ................ -- -- -- (14,544) -- -- -- -- (14,544)
Sale of equity investments .. -- -- -- -- 1,156 -- -- -- 1,156
Exchange of preferred stock . -- -- 279,530 -- -- -- -- -- 279,530
Issuance of common stock
under deferred compensation
plans ....................... 170 1 525 -- -- -- -- (526) --
Cancellation of common stock
under deferred compensation
plans ....................... (500) (4) (762) -- -- -- -- 766 --
Amortization of deferred
compensation ................ -- -- -- -- -- -- -- 9,274 9,274
Shares reacquired for
withholding taxes ........... (782) (6) (4,431) -- -- -- -- -- (4,437)
Issuance of preferred stock
dividend .................... 987 8 8,555 -- -- -- -- -- 8,563
Sale of common stock ........ 23,810 191 49,318 -- -- -- -- -- 49,509
Exercise of stock options
and warrants ................ 23,550 188 62,283 -- -- -- -- -- 62,471
------- ------ ---------- ----------- ------- ------ --------- ------- --------
Balance, September 30, 2001 . 229,033 $1,832 $2,013,974 $(1,543,019) $ -- (5,450) $(326,633) $(3,539) $142,615
======= ====== ========== =========== ======= ====== ========= ======= ========
See notes to consolidated financial statements.
5
PRICELINE.COM INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
NINE MONTHS ENDED
SEPTEMBER 30,
2001 2000
---- ----
OPERATING ACTIVITIES:
Net loss ........................................................... $(5,981) $(210,010)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Depreciation and amortization ................................ 12,341 10,711
Provision for uncollectible accounts ......................... 14,168 2,018
Warrant costs ................................................ -- 1,143
Write off of WebHouse warrant ................................ -- 189,000
Net loss on sale of equity investments ....................... 946 --
Acceleration of stock options ................................ 61 --
Non-cash severance ........................................... 3,076 --
Amortization of deferred compensation ........................ 9,274 --
Changes in assets and liabilities:
Accounts receivable .......................................... (14,904) (16,203)
Prepaid expenses and other current assets .................... 860 (3,898)
Accounts payable and accrued expenses ........................ (10,680) 38,774
Issuance of short-term note receivable ....................... (4,501) --
Other ........................................................ 541 1,486
-------- ---------
Net cash provided by operating activities .......................... 5,201 13,021
-------- ---------
INVESTING ACTIVITIES:
Additions to property and equipment .......................... (8,194) (28,962)
Purchase of convertible notes and warrants of licensees ...... (33) (34,304)
Purchase of equity investments ............................... -- (5,000)
Proceeds from sales of investments ........................... 770 347
Release/(funding) of restricted cash and bank certificate
of deposits .................................................. 6,555 (2,961)
(Purchase)/sale of marketable securities ..................... (35,106) 12,649
-------- ---------
Net cash used in investing activities .............................. (36,008) (58,231)
-------- ---------
FINANCING ACTIVITIES:
Payment of capital lease obligations ......................... -- (21)
Shares reacquired for withholding taxes ...................... (4,431) --
Proceeds from sale of common stock/purchase of warrants, net . 49,459 --
Proceeds from exercise of stock options ...................... 7,768 13,599
-------- ---------
Net cash provided by financing activities .......................... 52,796 13,578
-------- ---------
Net increase (decrease) in cash and cash equivalents ............... 21,989 (31,632)
Cash and cash equivalents, beginning of period ..................... 77,024 124,383
-------- ---------
Cash and cash equivalents, end of period ........................... $99,013 $92,751
======== =========
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the period for interest ..................... $0 $33
======== =========
See notes to consolidated financial statements.
6
PRICELINE.COM INCORPORATED
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The Company is responsible for the unaudited financial statements included
in this document. The financial statements have been prepared in accordance with
generally accepted accounting principles ("GAAP") and include all normal and
recurring adjustments that management of the Company considers necessary for a
fair presentation of its financial position and operating results. The Company
prepared the condensed financial statements following the requirements of the
Securities and Exchange Commission for interim reporting. As permitted under
those rules, the Company condensed or omitted certain footnotes or other
financial information that are normally required by GAAP for annual financial
statements. As these are condensed financials, one should also read the
financial statements in the Company's December 31, 2000, Form 10-K.
Revenues, expenses, assets and liabilities can vary during each quarter of
the year. Therefore, the results and trends in these interim financial
statements may not be the same as those for the full year.
Certain amounts in prior years' financial statements have been
reclassified to conform to the current year presentation.
2. NET LOSS PER SHARE
The Company computes basic and diluted earnings per share in accordance
with Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings
per Share". SFAS 128 requires the Company to report both basic earnings per
share, which is based on the weighted average number of common shares
outstanding, and diluted earnings per share, which is based on the weighted
average number of common shares outstanding and all dilutive potential common
shares outstanding. Since the Company incurred losses applicable to common
stockholders for all periods presented, the inclusion of options and warrants in
the calculation of weighted average common shares is anti-dilutive and
therefore, there is no difference between basic and diluted earnings per share.
3. RECENT ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 141 ("SFAS 141"), "Business
Combinations." SFAS 141 requires the purchase method of accounting for business
combinations initiated after June 30, 2001 and eliminates the
pooling-of-interests method. The Company does not believe that the adoption of
SFAS 141 will have a significant impact on its financial statements.
In July 2001, the FASB issued Statement of Financial Accounting Standards
No. 142 ("SFAS 142"), "Goodwill and Other Intangible Assets", which is effective
January 1, 2002. SFAS 142 requires, among other things, the discontinuance of
goodwill amortization. In addition, the standard includes provisions for the
reclassification of certain existing recognized intangibles as goodwill,
reassessment of the useful lives of existing recognized intangibles,
reclassification of certain intangibles out of previously reported goodwill and
the identification of reporting units for purposes of assessing potential future
impairments of goodwill. SFAS 142 also requires the Company to complete a
transitional goodwill impairment test six months from the date of adoption. The
Company is currently assessing but has not yet determined the impact of SFAS 142
on its financial position and results of operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This statement addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
This statement supersedes FASB Statement No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," and the
accounting and reporting provisions of APB Opinion No. 30, "Reporting the
Results of Operations - Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions." This Statement also amends ARB No.
7
51, "Consolidated Financial Statements," to eliminate the exception to
consolidation for a subsidiary for which control is likely to be temporary. This
Statement requires that one accounting model be used for long-lived assets to be
disposed of by sale, whether previously held and used or newly acquired. This
Statement also broadens the presentation of discontinued operations to include
more disposal transactions. The provisions of this Statement are required to be
adopted by the Company at the beginning of fiscal 2002. The Company has not
determined the impact, if any, the adoption of this statement will have on its
financial position or results of operations.
4. RESTRUCTURING, SPECIAL AND SEVERANCE CHARGES
In the second quarter of 2001, the Company's Board of Directors announced
that Richard S. Braddock had been reappointed as Chief Executive Officer. Mr.
Braddock replaced Daniel H. Schulman, the Company's prior President and Chief
Executive Officer. In connection with Mr. Schulman's separation from the
Company, the Company recorded a severance charge of $5.4 million in the second
quarter of 2001. This severance charge resulted from the forgiveness of
outstanding loans to Mr. Schulman and the payment of severance, all of which was
required by the terms of Mr. Schulman's employment agreement. The Company also
accelerated, pursuant to the terms of Mr. Schulman's employment agreement, the
vesting of 2,000,000 shares of restricted common stock and 1,000,000 shares
underlying stock options granted to Mr. Schulman.
In the first quarter of 2001, the Company recorded a restructuring charge
of approximately $1.4 million. This restructuring charge related primarily to
the Company's reduction of its workforce in February 2001. The charge relates
primarily to severance payments and the Company believes that the entire amount
of the charge will be disbursed during 2001.
During the year ended December 31, 2000, the Company recorded
restructuring charges of approximately $32.0 million and a special charge of
approximately $34.8 million. The following are the changes in the related
liability (included in accounts payable and long-term accrued expenses) during
2001 (in thousands):
RESTRUCTURING SPECIAL SEVERANCE TOTAL
------------- ------- --------- -----
Accrued at December 31, 2000 $13,470 $11,093 -- $24,563
2001 restructuring charge ... 1,400 -- -- 1,400
2001 severance charge ....... -- -- 5,412 5,412
Disbursed during 2001 ....... (7,069) (7,247) (354) (14,670)
Acceleration of vesting and
loan forgiveness (non-cash) . -- -- (4,325) (4,325)
-------- -------- ------- --------
Accrued at September 30, 2001 $7,801 $3,846 $733 $12,380
======== ======== ======= ========
At September 30, 2001:
Current portion .... $4,434 $3,846 $733 $9,013
Long-term portion .. 3,367 -- -- 3,367
8
5. OTHER ASSETS AND WARRANTS TO PURCHASE COMMON STOCK OF LICENSEE
Other assets consists of the following as of September 30, 2001 (in
thousands):
Convertible loans and other advances - Hutchison-Priceline Limited $11,110
Convertible loans and other advances - MyPrice ................... 1,840
Investment in pricelinemortgage .................................. 4,650
Other ............................................................ 1,711
-------
Total ............................................................ $19,311
=======
"Convertible loans and other advances-Hutchison-Priceline Limited"
represents a convertible note and receivables for reimbursable expenses from a
licensee. "Convertible loans and other advances-MyPrice" represents the
estimated net realizable value of the amounts due to the Company from its
Australian licensee. Pricelinemortgage represents the Company's 49% equity
investment in pricelinemortgage. In September 2001, the Company converted a debt
instrument into a 49% equity interest in pricelinemortgage and, accordingly, has
recognized its pro rata share of pricelinemortgage's net income since
conversion.
At September 30, 2001, the warrants to purchase shares of priceline.com
Europe Ltd. are carried at cost, $3.2 million, which the Company believes
approximates the fair value. The Company purchased these warrants for cash in
2000. The underlying shares are not publicly traded.
On June 28, 2001 and August 10, 2001, priceline.com europe Ltd issued to
the Company an $8.5 million promissory note and a $1.5 million promissory note,
respectively, in exchange for an aggregate of $10.0 million.
6. STOCKHOLDERS' EQUITY
During the first quarter 2001, the Company sold approximately 23.8 million
shares of its Common Stock to Hutchison Whampoa Limited and Cheung Kong
(Holdings) Limited in a private placement. The net proceeds were approximately
$49.5 million. Hutchison Whampoa Limited also received a seat on the Company's
Board of Directors. At the same time, Hutchison purchased $9.5 million worth of
Hutchison-Priceline Limited convertible notes. In connection with the sale,
Hutchison received the right, for a period of six months, to negotiate with the
Company for the establishment of a potential business in Japan. In June 2000,
the Company entered into definitive agreements with subsidiaries of Hutchison
Whampoa Limited to introduce the Company's services to several Asian markets.
Under the terms of the agreements, the Company licenses its business model and
provides expertise in technology, marketing and operations.
During the first quarter 2001, the Company issued 120,000 shares of
restricted stock to employees. The accrual for the shares issued was recorded at
the market value on the date of grant ($2.2187) and the related compensation
expense is being amortized over the vesting period.
During the second quarter 2001, the Company issued 50,000 shares of
restricted stock to employees. The accrual for the shares issued was recorded at
the market value on the date of grant ($5.19) and the related compensation
expense is being amortized over the vesting period.
During the second quarter 2001, the Company repurchased shares of its
common stock, at fair market value upon employee option exercise or share
vesting, to meet such employees' minimum tax statutory withholding.
7. DELTA AIR LINES
During the first quarter 2001, Delta Air Lines, Inc. ("Delta") and the
Company agreed to restructure Delta's investment in the Company. Delta exchanged
6,000,000 shares of Series A Convertible Redeemable PIK Preferred Stock for
80,000 shares of a newly created Series B Redeemable Preferred Stock ("Series B
Preferred Stock") and a warrant to purchase approximately 27 million shares of
the Company's common stock at an exercise price of $2.96875 per share.
9
Pursuant to the terms of the certificate of designations relating to the
Series B Preferred Stock, the Series B Preferred Stock bears a dividend that is
payable through the issuance of approximately 3.0 million shares of the
Company's common stock each year, subject to adjustment, as defined. The Series
B Preferred Stock has a liquidation preference of $1,000 per share, is subject
to mandatory redemption on February 6, 2007 or is subject to redemption at the
option of Delta or the Company prior to February 6, 2007 in the event the
Company consummates any of certain business combination transactions. In the
event that any of the business combination transactions occurs before November
16, 2002, Delta would be entitled to a premium payment of $625 per share.
The warrant provides that at any time the closing sales price of the
Company's Common Stock has exceeded $8.90625 (subject to adjustment) for 20
consecutive trading days, the warrant will automatically be exercised.
During the second quarter 2001, as the result of the exercise of
approximately 8.4 million warrants, the liquidation preference of the Series B
preferred stock was reduced from $80 million to approximately $55 million.
On July 27, 2001, Delta exercised warrants to purchase 10 million shares
of the Company's common stock. As a result, the liquidation preference of the
Company's outstanding Series B Redeemable Preferred Stock has been reduced to
$25.3 million. In accordance with the terms of the Series B Preferred Stock, the
Company delivered 986,491 shares of the Company's common stock to Delta on
August 6, 2001 as a dividend payment and, as a result, the Company recorded a
non-cash dividend of $8.6 million in the third quarter of 2001. As a result of
Delta's warrant exercises, the Company's future semi-annual dividend has been
reduced to 454,323 shares of common stock.
8. COMMITMENTS AND CONTINGENCIES
On January 6, 1999, the Company received notice that a third party patent
applicant and patent attorney, Thomas G. Woolston, purportedly had filed in
December 1998 with the United States Patent and Trademark Office a request to
declare an interference between a patent application filed by Woolston and our
U.S. Patent 5,794,207. The Company is currently awaiting information from the
Patent Office regarding whether it will initiate an interference proceeding.
On January 19, 1999, Marketel International Inc. ("Marketel"), a
California corporation, filed a lawsuit against priceline.com, among others. On
February 22, 1999, Marketel filed an amended and supplemental complaint. On
March 15, 1999, Marketel filed a second amended complaint. On May 9, 2000,
Marketel filed a third amended complaint against priceline.com and Priceline
Travel, Inc. The third amended complaint alleged causes of action for
misappropriation of trade secrets, conversion, false advertising and for
correction of inventorship of U.S. Patent 5,794,207. In its third amended
complaint, Marketel alleged, among other things, that the defendants conspired
to misappropriate Marketel's business model, which allegedly was provided in
confidence approximately ten years ago. The third amended complaint also alleged
that four former Marketel employees are the actual sole inventors or
co-inventors of U.S. Patent 5,794,207, which was issued on August 11, 1998 and
had been assigned to priceline.com. Marketel asked that the patent's
inventorship be corrected accordingly.
On February 5, February 10 and March 31, 1999, the Company filed answers
respectively, to the complaint, amended complaint and second amended complaint,
in which priceline.com denied the material allegations of liability. On May 19,
2000, the Company filed a motion to dismiss the third amended complaint for
failure to state a claim upon which relief could be granted. The Company
strongly disputed the material legal and factual allegations contained in
Marketel's third amended complaint and believes that the amended complaint is
without merit. In addition, on July 13, 2000, the Company filed a motion for
summary judgment alleging that Marketel had not identified legally protectable
trade secrets and is not entitled to correction of inventorship of U.S. Patent
5,794,207.
On December 5, 2000, the United States District Court for the Northern
District of California granted priceline.com's motion for summary judgment with
respect to Marketel's theft of trade secret and patent inventorship claims, and
ruled that there were triable issues of fact as to Marketel's false advertising
claims, although Judge Legge
10
volunteered that it was unlikely that Marketel could establish damages and
suggested that these claims should be voluntarily dismissed. The false
advertising claims were subsequently dismissed by stipulation, and on February
1, 2001, Judge Legge clarified his inventorship ruling in favor of priceline.com
and entered final judgment in favor of priceline.com. On March 13, 2001,
Marketel filed a Notice of Appeal to the United States Court of Appeals for the
Federal Circuit. On October 9, 2001, Marketel filed the brief in the appeal and
the parties await the Federal Circuit's decision. The Company intends to
continue defending vigorously against the action. Pursuant to the
indemnification obligations contained in the Purchase and Intercompany Services
Agreement with Walker Digital, Walker Digital has agreed to indemnify, defend
and hold priceline.com harmless for damages, liabilities and legal expenses
incurred in connection with the Marketel litigation. However, Walker Digital
currently is experiencing financial difficulties and is not honoring its
indemnification obligation. We are paying for the defense of this action and
recognizing the expense, subject to a reservation of all rights to recover these
amounts from Walker Digital.
Subsequent to the Company's announcement on September 27, 2000 that
revenues for the third quarter 2000 would not meet expectations, the Company was
served with the following putative class action complaints:
o Weingarten v. priceline.com Incorporated
and Jay S. Walker
300 CV 1901 (District of Connecticut).
o Twardy v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1884 (District of Connecticut).
o Berdakina v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1902 (District of Connecticut).
o Mazzo v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1924 (District of Connecticut).
o Fialkov v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1954 (District of Connecticut).
o Licht v. priceline.com Incorporated and
Jay S. Walker 300 CV 2049 (District of Connecticut).
o Ayach v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2062 (District of Connecticut).
o Zia v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1968 (District of Connecticut).
o Mazzo v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1980 (District of Connecticut).
o Bazag v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2122 (District of Connecticut).
o Breier v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2146 (District of Connecticut).
o Farzam et al. v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2176 (District of Connecticut).
o Caswell v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2169 (District of Connecticut).
11
o Howard Gunty Profit Sharing Plan v. priceline.com Inc.
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1917 (District of Connecticut).
o Cerelli v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1918 (District of Connecticut)
o Mayer v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1923 (District of Connecticut)
o Anish v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1948 (District of Connecticut)
o Atkin v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 1994 (District of Connecticut).
o Lyon v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2066 (District of Connecticut).
o Kwan v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2069 (District of Connecticut).
o Krim v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2083 (District of Connecticut).
o Karas v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2232 (District of Connecticut).
o Michols v. priceline.com Inc.,
Richard S. Braddock, Daniel H. Schulman and Jay S. Walker
300 CV 2280 (District of Connecticut).
All of these cases have been transferred to Judge Dominick J. Squatrito.
On September 12, 2001, Judge Squatrito Ordered that these cases be consolidated
under the Master File No. 3:00cv1884 (DJS), and he designated lead plaintiffs
and lead plaintiffs' counsel. On October 29, 2001, plaintiffs served a
Consolidated Amended Complaint, and the Company has forty-five days to respond
to it. The Company intends to defend vigorously against these actions.
In addition, the Company has been served with a complaint that purports to
be a shareholder derivative action against the Company's Board of Directors and
certain of its current executive officers, as well as priceline.com (as a
nominal defendant). The complaint alleges breach of fiduciary duty and waste of
corporate assets. The action is captioned Mark Zimmerman v. Richard Braddock, J.
Walker, D. Schulman, P. Allaire, R. Bahna, P. Blackney, W. Ford, M. Loeb, N.
Nicholas, N. Peretsman, and priceline.com Incorporated 18473-NC (Court of
Chancery of Delaware, County of New Castle, State of Delaware). On February 6,
2001, all defendants moved to dismiss the complaint for failure to make a demand
upon the Board of Directors and failure to state a cause of action upon which
relief can be granted. Pursuant to a stipulation by the parties, an amended
complaint was filed on June 21, 2001. Defendants renewed their motion to dismiss
on August 20, 2001, and plaintiff served his opposition to that motion on
October 26, 2001. Defendants reply brief is due on January 7, 2002. The Company
intends to defend vigorously against this action.
On March 16, March 26, April 27, and June 5, 2001, respectively, four
putative class action complaints were filed in the U.S. District Court for the
Southern District of New York naming priceline.com, Inc., Richard S. Braddock,
Jay Walker, Paul Francis, Morgan Stanley Dean Witter & Co., Merrill Lynch,
Pierce, Fenner & Smith, Inc., BancBoston Robertson Stephens, Inc. and Salomon
Smith Barney, Inc. as defendants (01 Civ. 2262, 01 Civ. 2576, 01 Civ. 3590 and
01 Civ. 4956). SHIVES ET AL. V. BANK OF AMERICA SECURITIES LLC ET AL., 01 Civ.
4956, also names other defendants and states claims unrelated to the Company.
The complaints allege, among other things, that priceline.com and the individual
defendants named in the complaints violated the federal securities laws by
issuing
12
and selling priceline.com common stock in priceline.com's March 1999 initial
public offering without disclosing to investors that some of the underwriters in
the offering, including the lead underwriters, had allegedly solicited and
received excessive and undisclosed commissions from certain investors. By Orders
of Judge Mukasey and Judge Scheindlin dated August 8, 2001, these cases were
consolidated for pre-trial purposes with hundreds of other cases, which contain
allegations concerning the allocation of shares in the initial public offerings
of companies other than priceline.com, Inc. By Order of Judge Scheindlin dated
August 14, 2001, the following cases were consolidated for all purposes: 01 Civ.
2262; 01 Civ. 2576; and 01 Civ. 3590. The Company intends to defend vigorously
against these actions.
The Company has been informed that a sub-committee of the board of
directors of Myprice pty. Ltd. has been formed to evaluate whether a lawsuit
should be instituted against priceline.com in connection with its investment in
Myprice. If necessary, the Company will defend against any such suit vigorously.
From time to time, the Company has been and expects to continue to be
subject to legal proceedings and claims in the ordinary course of business,
including claims of alleged infringement of third party intellectual property
rights by it. Such claims, even if not meritorious, could result in the
expenditure of significant financial and managerial resources and could
adversely effect priceline.com's results of operations and business.
9. SUBSEQUENT EVENTS
On October 2, 2001, the Company announced that it intended to acquire a
majority interest in the equity of priceline.com europe Ltd., which holds the
rights to develop the priceline.com business in Europe. To the extent that the
acquisition is consummated, the Company will consolidate priceline.com europe's
results in the fourth quarter 2001.
On October 24, 2001, the Company's Board of Directors increased the number
of directors constituting the Board to 12 and elected Jeffery H. Boyd, the
Company's President and Chief Operating Officer, as a Director. In addition, on
November 1, 2001, the Company accelerated the vesting of restricted stock held
by certain employees of priceline.com, based on the anticipated achievement of
earnings performance targets established at the time of grant. As a result of
the acceleration of the vesting of the restricted stock, the Company expects to
record a charge of approximately $7.0 million in the fourth quarter 2001.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH OUR FINANCIAL
STATEMENTS, INCLUDING THE NOTES TO THOSE STATEMENTS, INCLUDED ELSEWHERE IN THIS
FORM 10-Q, AND THE SECTION ENTITLED "SPECIAL NOTE REGARDING FORWARD LOOKING
STATEMENTS" IN THIS FORM 10-Q. AS DISCUSSED IN MORE DETAIL IN THE SECTION
ENTITLED "SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS," THIS DISCUSSION
CONTAINS FORWARD-LOOKING STATEMENTS WHICH INVOLVE RISKS AND UNCERTAINTIES. OUR
ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THE RESULTS DISCUSSED IN THE
FORWARD-LOOKING STATEMENTS. FACTORS THAT MIGHT CAUSE THOSE DIFFERENCES INCLUDE,
BUT ARE NOT LIMITED TO, THOSE DISCUSSED IN "FACTORS THAT MAY AFFECT FUTURE
RESULTS."
OVERVIEW
We have pioneered a unique e-commerce pricing system known as a "demand
collection system" that enables consumers to use the Internet to save money on a
wide range of products and services while enabling sellers to generate
incremental revenue. Using a simple and compelling consumer proposition - Name
Your Own Price(SM) - we collect consumer demand, in the form of individual
customer offers, for a particular product or service at a price set by the
customer. We then communicate that demand directly to participating sellers or
access a proprietary database of inventory available to us for purchase and,
based upon the customer's offer price, elect whether or not to accept that
customer's offer. Consumers agree to hold their offers open for a specified
period of time and, once fulfilled, offers generally cannot be canceled. We
benefit consumers by enabling them to save money, while at the same time
benefiting sellers by providing them with an effective revenue management tool
capable of identifying and capturing incremental revenues. By requiring
consumers to be flexible with respect to brands, sellers and product features,
we enable sellers to generate incremental revenue without disrupting their
existing distribution channels or retail pricing structures.
Our business model and brand are currently, through us or independent
licensees, supporting several products and service offerings, including the
following:
o leisure airline tickets, provided by 10 domestic and 24
international airline participants, and travel insurance;
o hotel rooms, in substantially all major United States markets with
more than 50 national hotel chains as participants and in a limited
number of markets outside the United States;
o rental cars, in substantially all major United States airport
markets with five leading rental car chains as participants;
o new automobiles, in substantially all major United States markets;
o home financing services, in substantially all major United States
markets, which includes home mortgage services, home equity loans
and refinancing services; and
o long distance telephone calling, provided by three carriers, in
substantially all United States markets.
In certain instances, we have licensed the priceline.com name and demand
collection system to third parties to offer a particular product or service
(HOME FINANCING) or to offer a number of products or services in a distinct
international region (EUROPE and ASIA). Pursuant to these licensee transactions,
we generally receive a royalty under the license and may also receive fees for
services and reimbursement of certain expenses. See "RECENT DEVELOPMENTS."
On June 5, 2001, Cheung Kong (Holdings) Limited and Hutchison Whampoa
Limited announced that they had entered into an agreement to increase their
stake in priceline.com by purchasing an aggregate of 25,028,023 shares of
priceline.com common stock from priceline.com's founder Jay S. Walker and his
trust. The purchase closed on July 6, 2001. In connection with the transaction,
Cheung Kong and Hutchison received a total of two additional seats on our Board
of Directors, bringing their total representation on our Board of Directors to
three members.
14
On July 27, 2001, Delta Air Lines, Inc. exercised warrants to purchase 10
million shares of our common stock. As a result, the liquidation preference of
our outstanding Series B Redeemable Preferred Stock has been reduced to $25.3
million. In accordance with the terms of the Series B Preferred Stock, we
delivered 986,491 shares of our common stock to Delta on August 6, 2001 as a
dividend payment and, as a result, we recorded a non-cash dividend of $8.6
million in the third quarter 2001. As a result of Delta's warrant exercises, our
future semi-annual dividend has been reduced to 454,323 shares of common stock.
On September 1, 2001, we converted a debt instrument and, as a result,
acquired a 49% equity interest in pricelinemortgage, a broker and/or lender of
residential mortgage loans that utilizes our business model. Accordingly, we
recognized 49% of pricelinemortgage's net income for the month of September and
will recognize our pro rata share of pricelinemortgage's net income in future
quarters. Pricelinemortgage is controlled by First Alliance bank, a federally
chartered savings association supervised by the Office of Thrift Supervision and
a wholly owned subsidiary of Alliance Partners L.P.
On September 20, 2001, Cheung Kong and Hutchison announced that they had
withdrawn a previous request for us to file and maintain the effectiveness of a
shelf registration statement with respect to shares of our common stock held by
certain affiliates of Cheung Kong and Hutchison. Our Board of Directors approved
a Cheung Kong/Hutchison request giving the companies the ability to raise their
ownership stake in priceline.com to 37.5%, subject to certain limitations. As of
September 30, 2001, Cheung Kong and Hutchison owned approximately 30% of
priceline.com's outstanding common stock, based on public filings made with the
Securities and Exchange Commission.
As described in more detail in RESULTS OF OPERATIONS below, our business,
like most in the travel industry, was directly and adversely impacted by the
terrorist attacks on September 11, 2001. Not only did we experience an immediate
and substantial decline in demand for our travel products in the days following
the attacks, we also experienced a significant increase in customer service
costs and ticket refunds and cancellations. While we believe that demand for
airline tickets has substantially recovered in the weeks following September
11th, ticket sales have lagged behind due to, among other things, lower average
offer prices. In addition, our airline suppliers are facing significant
financial difficulties and some have even discussed the possibility of impending
bankruptcy. As a result, we are operating in an uncertain competitive
environment that makes near-term forecasting very challenging. We believe that
this uncertainty will extend into the fourth quarter and perhaps beyond. Further
terrorist attacks or the bankruptcy or insolvency of a major domestic airline,
would adversely affect our business and results of operations.
For the three-months ended September 30, 2001, we had net income, before
payment of a preferred stock dividend, of approximately $5.0 million. We believe
that our success will depend in large part on our ability to sustain
profitability, primarily from our travel business, and to continue to promote
the priceline.com brand. We intend to continue to invest in marketing and
promotion, technology and personnel within parameters consistent with attempts
to improve operating results and sustain profitability. Our limited operating
history and the challenges faced by the travel sector makes the prediction of
future results of operations difficult, and accordingly, we cannot assure you
that we will sustain revenue growth or profitability.
RECENT DEVELOPMENTS
On October 2, 2001, we announced that we intend to acquire a majority
interest in the equity of priceline.com europe Ltd., which holds the rights to
develop the priceline.com business in Europe. To the extent that the acquisition
is consummated, we will consolidate priceline.com Europe's results in the fourth
quarter 2001. We currently expect that the acquisition will reduce quarterly
operating income by approximately $0.01 per share for the next several quarters.
Please see "FACTORS THAT MAY AFFECT FUTURE RESULTS - THERE ARE RISKS ASSOCIATED
WITH OUR INVESTMENT IN PRICELINE.COM EUROPE LTD."
On October 24, 2001, our Board of Directors increased the number of
directors constituting the Board to 12 and elected Jeffery H. Boyd, our
President and Chief Operating Officer, as a Director. In addition, on November
1, 2001, we accelerated the vesting of restricted stock held by certain
employees of priceline.com, based on the anticipated achievement of earnings
performance targets established at the time of grant. As a result of the
acceleration of the vesting of the restricted stock, we expect to record a
charge of approximately $7.0 million in the
15
fourth quarter 2001.
RESULTS OF OPERATIONS
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED TO THREE AND NINE MONTHS
ENDED SEPTEMBER 30, 2000:
REVENUES
THREE MONTHS ENDED % NINE MONTHS ENDED %
SEPTEMBER 30, CHANGE SEPTEMBER 30, CHANGE
------------- ------ ------------- ------
($000) ($000)
2001 2000 2001 2000
---- ---- ---- ----
TRAVEL REVENUES $299,793 $335,699 (10.7)% $929,305 $994,128 (6.5)%
OTHER REVENUES 2,196 5,635 (61.0)% 7,144 13,099 (45.5)%
-------------------- ----------------------
TOTAL REVENUES $301,989 $341,334 (11.5)% $936,449 $1,007,227 (7.0)%
TRAVEL REVENUES
Travel revenues for the three and nine months ended September 30, 2001
consisted primarily of: (1) transaction revenues representing the selling price
of airline tickets, hotel rooms and rental cars; and (2) ancillary fees we
earned in connection with the sale of our travel products, including Worldspan
reservation booking fees and customer processing fees. In addition to the above,
travel revenues for the three and nine months ended September 30, 2000 included
fee income from marketing programs offered in connection with the sale of
airline tickets, hotel rooms and rental cars.
During the three and nine months ended September 30, 2001, we sold
approximately 1.2 million, 879,900 and 895,600 and 3.7 million, 2.0 million and
2.4 million airline tickets, hotel room nights and rental car days,
respectively. During the three and nine months ended September 30, 2000, we sold
approximately 1.3 million, 526,500 and 579,900 and 3.8 million, 1.4 million and
1.2 million airline tickets, hotel room nights and rental car days,
respectively. We believe that the approximately 8% decrease in the number of
airline tickets sold in the third quarter 2001 over the third quarter 2000 was
due primarily to the significant decline in the demand for airline tickets
following the September 11th terrorist attacks. The demand for airline tickets
recovered in the weeks following the September 11th attacks. However, that
recovery was slowed, in part, by disruptions in the availability of inventory
related to anticipated schedule changes by the airline industry.
Our "bind rate" is the percentage of unique offers that we ultimately
fulfill. Since April 1999, each initial offer and any resubmitted offers are
treated as a single offer - a unique offer - for purposes of measuring our total
offer volume and our offer fulfillment rates. Previously, each had been counted
as a separate offer. Therefore, comparisons with prior periods may not be
meaningful. Our "bind rate" for all unique airline ticket, hotel room and rental
car offers were as follows:
UNIQUE OFFERS FOR
-----------------
AIRLINE HOTEL RENTAL
TICKETS ROOMS CARS
------- ----- ----
THREE MONTHS ENDED SEPTEMBER 30, 2001 53.9% 61.0% 51.2%
THREE MONTHS ENDED SEPTEMBER 30, 2000 50.5% 47.8% 49.2%
NINE MONTHS ENDED SEPTEMBER 30, 2001 54.2% 59.0% 49.4%
NINE MONTHS ENDED SEPTEMBER 30, 2000 48.0% 46.8% 44.4%
16
We believe that our overall bind rate for the three and nine months ended
September 30, 2001 increased compared to the same period a year ago primarily
due to our access to better travel product inventory. We believe that we had
better access to travel product inventory -- in particular airline ticket
inventory -- as a result of a deterioration in the retail environment for the
sale of travel products which contributed to our travel suppliers selling their
products through discounted channels.
Travel revenues for the three and nine months ended September 30, 2001
decreased approximately 10.7% to $299.8 million from approximately $335.7
million for the three months ended September 30, 2000, and decreased
approximately 6.5% to $929.3 million from approximately $994.1 million for the
nine months ended September 30, 2000. We added approximately 927,300 and 2.8
million new unique customers during the three and nine months ended September
30, 2001 compared to approximately 1.3 million and 4.4 million new unique
customers (a unique customer is defined as someone who has made a guaranteed
offer for at least one of our products) during the three and nine months ended
September 30, 2000. In addition, we generated approximately 1.6 million and 4.4
million repeat customer offers during the three and nine months ended September
30, 2001 compared to approximately 1.4 million and 3.2 million repeat customer
offers during the three and nine months ended September 30, 2000. We believe
that the declines in travel revenues for the three and nine month periods ended
September 30, 2001 compared to the same periods in the previous year and the
decline in the number of new unique customer offers in the three and nine month
periods ended September 30, 2001 compared to the same periods a year ago were
primarily the result of the effects of the September 11th terrorist attacks
described above, our concerted effort to obtain a higher travel gross margin per
transaction and, to a lesser extent, a higher repeat rate. As a result of the
events of September 11th, not only did we experience a decline in travel
revenues as fewer customers booked tickets in the days after the terrorist
attacks, we also processed approximately $10 million of customer refunds during
the month of September as a result of the temporary suspension of our non-refund
policy primarily for customers who purchased itineraries for travel during the
last three weeks of September.
The average revenue per total booked travel offer decreased approximately
10.7% and 15.4%, respectively, to $225 in the third quarter 2001 from $252 in
the second quarter 2001, and from $266 in the first quarter 2001. We believe
that this erosion in the average revenue per total booked travel offer was
primarily driven by a change in the mix of our travel services sold.
Specifically, revenues from our hotel and rental car businesses grew as a
percentage of total travel revenue in the third quarter 2001 as compared to the
second and first quarters of 2001. However, the average price of an airline
ticket booked on priceline.com decreased compared to the second quarter 2001 and
third quarter 2000 primarily as a result of a drop in average offer prices
caused by a decline in consumer expectations for the cost of travel as a result
of retail fare wars and the events of September 11th.
Seasonal variations in our travel business, where the third and fourth
quarters are typically weaker than the first two quarters, have historically and
are expected to continue to impact our travel revenues. Travel products,
particularly airline tickets, continue to account for the majority of our
revenue.
OTHER REVENUES
Other revenues during the three and nine months ended September 30, 2001
consisted primarily of: (1) transaction revenues and fees from our long distance
phone service and (2) commissions and fees from our home financing and
automobile services, and license fees from our international licensees. Other
revenues during the three and nine months ended September 30, 2000 consisted
primarily of: (1) transaction revenues and fees from long distance phone
services and (2) commissions and fees from our home financing and automobile
services and WebHouse Club licensee.
Other revenues for the three and nine months ended September 30, 2001
decreased approximately 61% and 45.5%, respectively, from the same periods a
year ago, primarily as a result of the decrease in fees from our licensees and
long distance phone service.
17
COST OF REVENUES AND GROSS PROFIT
THREE MONTHS ENDED % NINE MONTHS ENDED %
SEPTEMBER 30, CHANGE SEPTEMBER 30, CHANGE
------------- ------ ------------- ------
($000) ($000)
2001 2000 2001 2000
---- ---- ---- ----
TOTAL COST OF TRAVEL REVENUES.. $250,952 $286,134 (12.3)% $780,427 $847,952 (8.0)%
% OF TRAVEL REVENUES ........ 83.7% 85.2% 84.0% 85.3%
COST OF OTHER REVENUES ........ $605 $1,146 (47.2)% $2,369 $1,780 33.1%
% OF OTHER REVENUES ......... 27.6% 20.3% 33.2% 13.6%
-------- -------- -------- --------
TOTAL COST OF REVENUES ........ $251,557 $287,280 (12.4)% $782,796 $849,732 (7.9)%
% OF REVENUES ............... 83.3% 84.2% 83.6% 84.4%
COST OF REVENUES
COST OF TRAVEL REVENUES. Cost of travel revenues consist of product costs
and, in 2000, supplier warrant costs. For the three and nine months ended
September 30, 2001 and 2000, product costs consisted of: (1) the cost of airline
tickets from our suppliers, net of the federal air transportation tax, segment
fees and passenger facility charges imposed in connection with the sale of
airline tickets; (2) the cost of hotel rooms from our suppliers, net of hotel
tax; and (3) the cost of rental cars from our suppliers, net of applicable
taxes.
COST OF OTHER REVENUES. For the three and nine months ended September 30,
2001 and the three and nine months ended September 30, 2000, cost of other
revenues consisted primarily of the cost of long distance telephone service.
GROSS PROFIT
THREE MONTHS ENDED % NINE MONTHS ENDED %
SEPTEMBER 30, CHANGE SEPTEMBER 30, CHANGE
------------- ------ ------------- ------
($000) ($000)
2001 2000 2001 2000
---- ---- ---- ----
TRAVEL GROSS PROFIT .... $48,841 $49,565 (1.5)% $148,878 $146,176 1.8%
TRAVEL GROSS MARGIN... 16.3% 14.8% 16.0% 14.7%
OTHER GROSS PROFIT ..... $1,591 $4,489 (64.6)% $4,775 $11,319 (57.8)%
TRAVEL GROSS MARGIN... 72.4% 79.7% 66.8% 86.4%
TOTAL GROSS PROFIT ..... $50,432 $54,054 (6.7)% $153,653 $157,495 (2.4)%
TOTAL GROSS MARGIN.... 16.7% 15.8% 16.4% 15.6%
TRAVEL GROSS PROFIT. Travel gross profit consists of travel revenues less
the cost of travel revenues. For the nine months ended September 30, 2001,
travel gross profit and related travel gross margin increased over the same
18
periods in 2000 primarily as a result of increased transactional sales volume
and an increase in the average margins on air tickets, hotel rooms and rental
cars. The fee portion of the travel transactions are an integral component in
pricing acceptance decisions we make.
OPERATING EXPENSES
SALES AND MARKETING
THREE MONTHS ENDED % NINE MONTHS ENDED %
SEPTEMBER 30, CHANGE SEPTEMBER 30, CHANGE
------------- ------ ------------- ------
($000) ($000)
2001 2000 2001 2000
---- ---- ---- ----
ADVERTISING ........... $9,600 $14,175 (32.3)% $39,490 $48,340 (18.3)%
OTHER SALES & MARKETING 20,410 21,394 (4.6)% 53,961 65,295 (17.4)%
------- ------- ------- --------
TOTAL ................. $30,010 $35,569 (15.6)% $93,451 $113,635 (17.8)%
% OF REVENUES ......... 9.9% 10.4% 10.0% 11.3%
Sales and marketing consists of advertising expenses and other sales and
marketing expenses. Advertising expenses consist primarily of: (1) television
and radio advertising; (2) agency fees and production costs for television and
radio commercials; and (3) on-line and print advertisements. For the three and
nine months ended September 30, 2001, advertising expenses decreased over the
same periods in 2000 primarily due to an overall decline in the cost of
advertising and an effort to reduce our advertising spending. The Company also
decided to suspend its marketing campaign after the September 11th attacks. We
intend to continue to pursue an advertising and branding campaign at lower
spending levels than we achieved in 2000. We intend to decrease significantly
our advertising expense in the last quarter of 2001 from levels in the fourth
quarter of 2000 and place greater reliance on tactical radio and direct
marketing programs and campaigns targeting our large customer base. There can be
no assurance that we will be successful in achieving revenue targets as
advertising spending is reduced.
Other sales and marketing expenses consist primarily of: (1) provisions
for customer credit card charge-backs; (2) credit card processing fees; (3) fees
paid to third-party service providers that operate our call centers; and (4)
compensation for our sales and marketing personnel. For the three and nine
months ended September 30, 2001, other sales and marketing expenses decreased
over the same period in 2000 due to reductions in the average credit card and
customer service transaction costs. Other sales and marketing costs were 6.8% of
third quarter revenues, compared to 5.2% in second quarter 2001. The increase
was attributable to an increase in customer charge-backs in the immediate wake
of the terrorist attacks of September 11th and charge-backs associated with
complaints of credit card fraud. We have launched a company-wide
cross-functional charge-back prevention program to address credit card fraud
complaints. However, we believe our allowance for charge-backs at September 30,
2001 is adequate and that our charge-back levels will continue to run at
historically high levels in the fourth quarter 2001 as we finish deploying
internally developed software designed to combat credit card fraud and we
address potential liabilities associated with post-September 11th charge-back
activity.
19
GENERAL AND ADMINISTRATIVE
THREE MONTHS ENDED % NINE MONTHS ENDED %
SEPTEMBER 30, CHANGE SEPTEMBER 30, CHANGE
------------- ------ ------------- ------
($000) ($000)
2001 2000 2001 2000
---- ---- ---- ----
GENERAL AND ADMINISTRATIVE $6,069 $11,934 (49.1)% $22,950 $39,860 (42.4)%
PAYROLL TAX EXPENSE ON
EMPLOYEE STOCK OPTIONS . 297 349 (14.9)% 687 8,763 (92.2)%
STOCK BASED COMPENSATION . 1,015 -- -- 9,312 -- --
------ ------- ------- -------
TOTAL .................... $7,381 $12,283 (39.9)% $32,949 $48,623 (32.2)%
% OF REVENUES ............ 2.4% 3.6% 3.5% 4.8%
General and administrative expenses consist primarily of: (1) compensation
for personnel; (2) fees for outside professionals; (3) telecommunications costs;
and (4) occupancy expenses. General and administrative expenses decreased during
the three and nine months ended September 30, 2001 over the same periods in 2000
as a result of decreased headcount and resulting payroll and overhead costs
associated with the shift in focus to our core travel products and the
indefinite postponement of other product initiatives, all of which was part of
our turn-around and restructuring plan implemented in the fourth quarter of
2000.
SYSTEMS AND BUSINESS DEVELOPMENT
THREE MONTHS ENDED % NINE MONTHS ENDED %
SEPTEMBER 30, CHANGE SEPTEMBER 30, CHANGE
------------- ------ ------------- ------
($000) ($000)
2001 2000 2001 2000
---- ---- ---- ----
SYSTEMS & BUSINESS
DEVELOPMENT .... $10,160 $11,420 (11.0)% $31,164 $23,983 29.9%
% OF REVENUES .... 3.4% 3.3% 3.3% 2.4%
Systems and business development expenses consist primarily of: (1)
depreciation and amortization on computer hardware and software, (2) payments to
outside contractors, (3) compensation to our information technology and product
development staff, and (4) data communications and other expenses associated
with operating our Internet site. For the three months ended September 30, 2001,
systems and business development expenses decreased over the same period in the
prior year primarily as a result of the decrease in consultant costs. As part of
our turn-around plan implemented in the fourth quarter of 2000, the Company
reduced the number of consultants. For the nine months ended September 30, 2001,
systems and business development expenses increased over the same period in 2000
due to a decrease in the amounts reimbursed by licensees and costs associated
with expanding the redundancy capabilities of our data centers.
20
INTEREST INCOME, NET
THREE MONTHS ENDED % NINE MONTHS ENDED %
SEPTEMBER 30, CHANGE SEPTEMBER 30, CHANGE
------------- ------ ------------- ------
($000) ($000)
2001 2000 2001 2000
---- ---- ---- ----
INTEREST INCOME,
NET.............. $2,062 $2,264 (8.9)% $5,654 $7,704 (26.6)%
For the three and nine months ending September 30, 2001, interest income
on cash and marketable securities decreased over the same periods in 2000
primarily due to lower interest rates.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 2001, we had approximately $151.5 million in cash,
cash equivalents, restricted cash and short-term investments. Approximately $7.0
million is restricted cash collateralizing certain letters of credit issued in
favor of certain suppliers and landlords. We generally invest excess cash, cash
equivalents and short-term investments predominantly in debt instruments that
are highly liquid, of high-quality investment grade, and predominantly have
maturities of less than one year with the intent to make such funds readily
available for operating purposes.
Net cash provided by operating activities was $5.2 million for the nine
months ended September 30, 2001. Net cash provided by operating activities
during 2001 was attributable to operations and changes in working capital,
primarily accounts payable. Net cash provided by operating activities was $13.0
million for the nine months ended September 30, 2000. Net cash provided by
operating activities during 2000 was primarily attributable to expanding gross
margin on increasing revenues, which was partially offset by increasing
operating expenses.
The $14.2 million decrease in cash, cash equivalents, restricted cash and
short-term investments during the 3rd quarter 2001 was primarily attributable to
a change in our accounts payable. We believe that the decrease in cash
represents a temporary working capital swing directly related to the significant
decrease in the sales of airline tickets after September 11th.
Net cash used in investing activities was $36.0 million and $58.2 million
for the nine months ended September 30, 2001 and 2000, respectively. Net cash
used in investing activities for 2001 was primarily related to the purchase of
short-term marketable securities and additions to property and equipment. Net
cash used in investing activities for the nine months ended September 30, 2000,
was primarily related to purchases of property and equipment, to purchase
convertible notes and warrants in certain licensees and to purchase certain
equity investments.
We have certain commitments for capital expenditures as part of our
ongoing business cycle. None of these commitments are material to our financial
position either individually or in the aggregate. Capital expenditures for the
fourth quarter of 2001 is expected to be approximately $3.0 million to $5.0
million, and will be primarily focused on computer equipment, software and
internally developed software. In connection with the accelerated vesting of
shares of restricted common stock in the 4th quarter 2001, we withheld from
delivery to certain employees shares of stock having a value equal to the amount
of tax to be withheld and, as a result, we will make a $4.3 million cash tax
payment.
Net cash provided by financing activities was $52.8 million for the nine
months ended September 30, 2001, primarily as a result of the sale of 23.8
million shares of common stock at a price of $2.10 per share to
Hutchison-Whampoa Limited and Cheung Kong (Holdings) Limited in February 2001.
Net cash provided by financing activities was $13.6 million for the nine months
ended September 30, 2000, primarily as a result of the cash inflow related to
the exercise of stock options by employees.
We believe that our existing cash balances and liquid resources will be
sufficient to fund our operating
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activities, capital expenditures and other obligations through at least the next
twelve months. However, if during that period or thereafter, we are not
successful in generating sufficient cash flow from operations or in raising
additional capital when required in sufficient amounts and on terms acceptable
to us, we may be required to reduce our planned capital expenditures and scale
back the scope of our business plan, either of which could have a material
adverse effect on our projected financial condition or results of operation. We
cannot assure you that we will generate sufficient cash flow from operations in
the future, that anticipated revenue growth will be realized or that future
borrowings or equity contributions will be available in amounts sufficient to
make anticipated capital expenditures or finance our business plan.
FACTORS THAT MAY AFFECT FUTURE RESULTS
THE FOLLOWING RISK FACTORS AND OTHER INFORMATION INCLUDED IN THIS FORM
10-Q SHOULD BE CAREFULLY CONSIDERED. THE RISKS AND UNCERTAINTIES DESCRIBED BELOW
ARE NOT THE ONLY ONES WE FACE. ADDITIONAL RISKS AND UNCERTAINTIES NOT PRESENTLY
KNOWN TO US OR THAT WE CURRENTLY DEEM IMMATERIAL MAY ALSO IMPAIR OUR BUSINESS
OPERATIONS. IF ANY OF THE FOLLOWING RISKS OCCUR, OUR BUSINESS, FINANCIAL
CONDITION, OPERATING RESULTS AND CASH FLOWS COULD BE MATERIALLY ADVERSELY
AFFECTED.
WE MAY CONTINUE TO INCUR LOSSES
As of September 30, 2001, we had an accumulated deficit of $1.5 billion.
While we achieved net income before the non-cash preferred stock dividend for
the three-month period ending September 30, 2001, we may incur losses and may
not be profitable in future quarters. A substantial portion of our revenues
to-date has been derived from travel products. Over time, we may introduce new
products and services. With respect to current product and service offerings, we
may not have decreased our operating expenses in connection with our recent
restructuring on an on-going basis sufficiently to sustain profitability. With
respect to possible future product and service offerings, we may have to
increase our operating expenses. For us to make a profit in future quarters, our
revenues and gross profit margins will need to increase sufficiently to cover
these and other possible future costs. Otherwise, we may not be able to sustain
profitability.
POTENTIAL FLUCTUATIONS IN OUR FINANCIAL RESULTS MAKE FINANCIAL FORECASTING
DIFFICULT
Our revenues and operating results have varied significantly from quarter
to quarter and our revenues and operating results may continue to vary
significantly from quarter to quarter. As a result, quarter to quarter
comparisons of our revenues and operating results may not be meaningful. In
addition, due to our limited operating history and a business model that is,
especially when compared to "brick and mortar" companies, still relatively new
and unproven, it may be difficult to predict our future revenues or results of
operations accurately. Our operating results have recently fallen below the
expectations of securities analysts and investors and may, in one or more future
quarters, fall below such expectations again. If this happens, the trading price
of our common stock would almost certainly be materially and adversely affected.
Our business has almost no backlog and almost all of our revenues for a
particular quarter are derived from transactions that are both initiated and
completed during that quarter. Our current and future expense levels are based
largely on our investment plans and estimates of future revenues and are, to a
large extent, fixed. Despite our recent restructurings, we may be unable to
further adjust spending in a timely manner to compensate for any unexpected
revenue shortfall, including any shortfall resulting from unexpected fare sales
by the airlines or a decrease in demand in our travel products due to terrorist
attacks or other hostilities. Any significant shortfall in revenues relative to
our planned expenditures could have an immediate adverse effect on our business
and results of operations.
Our business is subject to seasonal fluctuations, reflecting a combination
of seasonality trends for the products and services offered by us and
seasonality patterns affecting Internet use. For example, with regard to our
travel products, demand for leisure travel may increase over summer vacations
and holiday periods, while Internet usage may decline during the summer months.
We believe that our results are affected by seasonal fluctuations in the
inventory made available to the priceline.com service by participating sellers,
especially airlines. Airlines, for example, typically enjoy high demand for
tickets through traditional distribution channels for travel during Thanksgiving
and the year-end holiday period. As a result, during those periods, less excess
airline ticket inventory
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would be available to us. Our business also may be subject to cyclical
variations for the products and services offered; for example, leisure travel
and home mortgage financing tend to decrease in economic downturns. These
factors could have an adverse effect on our business and results of operations.
FURTHER TERRORIST ATTACKS COULD HAVE A NEGATIVE IMPACT ON OUR COMPANY
Our business, like most in the travel industry, was directly and adversely
impacted by the terrorist attacks of September 11, 2001. We experienced an
immediate and substantial decline in demand for our travel products in the days
following the attacks. In addition, we experienced a significant increase in
customer service costs and ticket refunds and cancellations. Further terrorist
attacks or hostilities within the United States or abroad (whether or not such
attacks involve commercial aircraft) or continued or increased hostilities in
the Middle East or elsewhere, are likely to contribute to a general reluctance
by the public to travel by air and, as a result, materially and adversely affect
our business and results of operations.
WE ARE DEPENDENT ON THE AIRLINE INDUSTRY AND CERTAIN AIRLINES
Our financial prospects are significantly dependent upon our sale of
leisure airline tickets. Sales of leisure airline tickets represented a
substantial majority of total revenue for the three and nine months ended
September 30, 2001. Leisure travel, including the sale of leisure airline
tickets, is dependent on personal discretionary spending levels. As a result,
sales of leisure airline tickets and other leisure travel products tend to
decline during general economic downturns and recessions. In addition,
unforeseen events, such as terrorist attacks, political instability, regional
hostilities, increases in fuel prices, imposition of taxes or surcharges by
regulatory authorities, travel-related accidents and unusual weather patterns
also may adversely affect the leisure travel industry. As a result, our business
also is likely to be affected by those events. Further, work stoppages or labor
unrest at any of the major airlines could materially and adversely affect the
airline industry and, as a consequence, our business.
Sales of airline tickets from our seven largest airline suppliers
accounted for approximately 91.7% of airline ticket revenue for both the nine
months ended September 30, 2001 and 2000. As a result, currently we are
substantially dependent upon the continued participation of these airlines in
the priceline.com service in order to maintain and continue to grow our total
airline ticket revenues and, as a consequence, our overall revenues.
We currently have 34 participating airlines. However, our airline
participation agreements:
o do not require the airlines to make tickets available for any
particular routes;
o do not require the airlines to provide any specific quantity
of airline tickets;
o do not require the airlines to provide particular prices or
levels of discount;
o do not require the airlines to deal exclusively with us in the
public sale of discounted airline tickets; and
o generally, can be terminated upon relatively short notice.
These agreements also outline the terms and conditions under which ticket
inventory provided by the airlines may be sold.
Due to our dependence on the airline industry, we could be severely
affected by changes in that industry, and, in many cases, we will have no
control over such changes or their timing. For example, in the aftermath of the
September 11 terrorist attacks, several major U.S. airlines are struggling
financially and have discussed publicly the risks of bankruptcy. If any of the
major U.S. airlines that participates in our system were to seek the protection
of the bankruptcy laws, our business, results of operations and financial
condition would be materially and adversely affected. To the extent one of the
major U.S. Airlines that participates in our system declared bankruptcy and was
unable or unwilling to honor tickets sold for its flights, because we are the
merchant-of-record on sales of airline tickets to our customers, we could
experience a significant increase in demands for refunds or credit card
charge-
23
backs from customers which would materially and adversely affect our business.
In addition, because our customers do not choose the airlines on which they are
to fly, the specter of a major U.S. airline declaring bankruptcy could
discourage customers from booking airline tickets through us.
In addition, given the concentration of the airline industry, particularly
in the domestic market, major airlines that are not participating in the
priceline.com service, or our competitors, could exert pressure on other
airlines not to supply us with tickets. Moreover, the airlines may attempt to
establish their own buyer-driven commerce service or participate or invest in
other similar services, like Hotwire, a Web site that offers discounted fares on
opaque inventory, or Orbitz, that compete directly with us. We also could be
materially adversely affected by the bankruptcy, consolidation, insolvency or
other material adverse change in the business or financial condition of one or
more of our airline participants.
OUR BUSINESS IS EXPOSED TO RISKS ASSOCIATED WITH CREDIT CARD FRAUD AND
CHARGE-BACKS
To date, our results have been impacted by purchases made using fraudulent
credit cards. Because we act as the merchant-of-record, we are held liable for
fraudulent credit card transactions on our website as well as other payment
disputes with our customers. Accordingly, we calculate and record an allowance
for the resulting credit card charge-backs. During the latter part of the third
quarter of 2001, we launched a company-wide, cross-functional credit card
charge-back reduction project aimed at preventing fraud. The effectiveness of
this project is not currently known and if this program is not successful in
reducing the amount of credit card fraud on our website, our business could be
adversely affected.
THERE ARE RISKS ASSOCIATED WITH OUR INVESTMENT IN PRICELINE.COM EUROPE
LTD.
On October 2, 2001, we announced that we intend to acquire a majority
interest in the equity of priceline.com europe Ltd., which holds the rights to
develop the priceline.com business in Europe. As a result of the acquisition,
which we anticipate will close in November 2001, we will consolidate
priceline.com Europe's financial results with ours in the fourth quarter 2001
and beyond and will incur losses. There can be no assurances that the
acquisition of priceline.com Europe Ltd. will be consummated. As part of the
consolidation, we intend to restructure priceline.com europe's operations. While
we currently believe that our investment in priceline.com europe would not be
impaired if we restructured priceline.com europe's operations, we can give no
assurance that over the long term our investment would not be impaired and that
any such consolidation and restructuring would not have a material adverse
effect on our business, results of operations and financial conditions.
WE MAY NOT BE ABLE TO INTRODUCE NEW PRODUCTS AND SERVICES
Should we decide to introduce additional products, we may incur
substantial expenses and use significant resources. However, we may not be able
to attract sellers, other participants and licensees to provide such products
and services or consumers to purchase such products and services through the
priceline.com service. In addition, if we or our licensees launch new products
or services that are not favorably received by consumers, our reputation and the
value of the priceline.com brand could be damaged.
The great majority of our experience to date is in the travel industry.
The travel industry is characterized by "expiring" inventories. For example, if
not used by a specific date, an airline ticket, hotel room reservation or rental
car reservation has no value. The expiring nature of the inventory creates
incentives for airlines, hotels and rental car companies to sell seats, hotel
room reservations or rental car reservations at reduced rates. Because we have
only limited experience in selling "non-expiring" inventories on the
priceline.com service, such as new cars or financial services, we cannot predict
whether the priceline.com business model can be successfully applied to such
products and services.
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IF WE LOSE OUR KEY PERSONNEL OR CANNOT RECRUIT ADDITIONAL PERSONNEL, OUR
BUSINESS MAY SUFFER
Competition for personnel with experience in Internet commerce is intense.
We depend on the continued services and performance of our executive officers
and other key personnel. We do not have "key person" life insurance policies. If
we do not succeed in attracting new employees or retaining and motivating
current and future employees or executive officers, our business could suffer
significantly. Our ability to retain key employees could be materially adversely
affected by recent developments concerning priceline.com and the decline in the
market price of our common stock and by limitations on our ability to pay cash
compensation that is equivalent to cash paid by traditional businesses and
limitations imposed by our employee benefit plans to issue additional equity
incentives.
TWO LARGE STOCKHOLDERS BENEFICIALLY OWN APPROXIMATELY 30% OF OUR STOCK.
Hutchison Whampoa Limited and its 49.94% shareholder, Cheung Kong
(Holdings) Limited, beneficially owned approximately 30% of our outstanding
common stock as of September 30, 2001, based on public filings with the
Securities and Exchange Commission. Together, Cheung Kong (Holdings) Limited and
Hutchison Whampoa Limited have the right to appoint three of the twelve members
of our Board of Directors. As a result of its ownership and positions, Cheung
Kong (Holdings) Limited and Hutchison Whampoa Limited collectively are able to
significantly influence all matters requiring stockholder approval, including
the election of directors and approval of significant corporate transactions.
Such concentration of ownership may also have the effect of delaying or
preventing a change in control of our company. In addition, both Cheung Kong
(Holdings) Limited and Hutchison Whampoa Limited have registration rights with
respect to their shares held in priceline.com. On September 20, 2001, Cheung
Kong (Holdings) Limited and Hutchison Whampoa Limited withdrew their request for
the filing of a shelf registration statement to sell shares and obtained rights
to purchase up to a 37.5% stake in priceline.com, subject to certain
limitations. There can be no assurance that Cheung Kong (Holdings) Limited,
Hutchison Whampoa Limited, or both, will not make a request for registration and
dispose of all or substantially all of our common stock held by them at any time
after the effectiveness of such a shelf registration statement. Sales of
significant amounts of shares held by Cheung Kong (Holdings) Limited or
Hutchison Whampoa Limited, or the prospect of these sales, could adversely
affect the market price of our common stock.
WE RELY ON THIRD-PARTY SYSTEMS
We rely on certain third-party computer systems and third-party service
providers, including the computerized central reservation systems of the airline
and hotel industries to satisfy demand for airline tickets and hotel room
reservations. In particular, our travel business is substantially dependent upon
the computerized reservation system of Worldspan, an operator of a database for
the travel industry. Any interruption in these third-party services systems,
including Worldspan's, or deterioration in their performance could prevent us
from booking airline, hotel and rental car reservations and have a material
adverse effect on our business. Our agreements with third-party service
providers are terminable upon short notice and often do not provide recourse for
service interruptions. In the event our arrangement with any of such third
parties is terminated, we may not be able to find an alternative source of
systems support on a timely basis or on commercially reasonable terms and, as a
result, our business and results of operations could be materially and adversely
affected.
Substantially all of our computer hardware for operating our services is
currently located at Exodus Communications, Inc. in New Jersey. On September 26,
2001, Exodus filed a petition for Chapter 11 bankruptcy protection. If Exodus is
unable to provide uninterrupted service while in bankruptcy our results will
suffer. Also, if Exodus is unable to emerge successfully from bankruptcy and
forced to liquidate its assets, we would need to activate our secondary site at
AT&T which would be a substantial burden to us and adversely affect our results.
INTENSE COMPETITION COULD REDUCE OUR MARKET SHARE AND HARM OUR FINANCIAL
PERFORMANCE
We compete with both online and traditional sellers of the products and
services offered on priceline.com. Current and new competitors can launch new
sites at a relatively low cost. In addition, the traditional retail industry for
the products and services we offer is intensely competitive.
25
We currently or potentially compete with a variety of companies with
respect to each product or service we offer. With respect to travel products,
these competitors include:
o Internet travel services such as Expedia, Travelocity.com,
Orbitz and Hotwire, a Web site that offers discounted fares on
opaque inventory;
o traditional travel agencies;
o consolidators and wholesalers of airline tickets and other
travel products, including consolidators such as
Cheaptickets.com and Hotel Reservation Network;
o individual or groups of airlines, hotels, rental car
companies, cruise operators and other travel service
providers; and
o operators of travel industry reservation databases such as
Worldspan and Sabre.
A number of airlines have invested in and offer discount airfares and
travel services through the Orbitz internet travel service, and a number of
airlines, including a number that participate in our system, participate in and
have received an equity stake from Hotwire. Similar steps may be under
consideration by certain hotel companies and travel service providers.
Competition from these and other sources could have a material adverse effect on
our business, results of operations and financial condition.
Our current or potential competitors with respect to the arrangement and
sale of new automobiles in the online marketplace include, among others,
Auto-by-Tel, Carsdirect.com, Autoweb.com and Microsoft's CarPoint. To some
extent, we compete for new car shoppers' attention with retail new car dealers,
many of which offer online shopping capabilities.
With respect to financial service products, our competitors include:
o banks and other financial institutions;
o online and traditional banks and brokers, including Quicken
Mortgage and E-Loan; and
o insurance companies.
With respect to long distance services, our current or potential
competitors include long distance providers, local exchange providers that may
be entering the long distance market and Internet Protocol telephone services.
We potentially face competition from a number of large Internet companies
and services that have expertise in developing online commerce and in
facilitating Internet traffic, including Amazon.com, America Online and Yahoo!,
who could choose to compete with us either directly or indirectly through
affiliations with other e-commerce or off-line companies. Other large companies
with strong brand recognition, technical expertise and experience in Internet
commerce could also seek to compete with us. Competition from these and other
sources could have a material adverse effect on our business, results of
operations and financial condition.
Many of our current and potential competitors, including Internet
directories and search engines and large traditional retailers, have longer
operating histories, larger customer bases, greater brand recognition and
significantly greater financial, marketing, technical and other resources than
we have. Some of these competitors may be able to secure products and services
on more favorable terms than we can. In addition, many of these competitors may
be able to devote significantly greater resources to: (1) marketing and
promotional campaigns, (2) attracting traffic to their Web sites, (3) attracting
and retaining key employees, (4) securing vendors and inventory and (5) Web site
and systems development.
26
Increased competition could result in reduced operating margins and loss
of market share and could damage our brand. There can be no assurance that we
will be able to compete successfully against current and future competitors or
that competition will not have a material adverse effect on our business,
results of operations and financial condition.
OUR SUCCESS DEPENDS ON OUR ABILITY TO PROTECT OUR INTELLECTUAL PROPERTY
We regard our intellectual property as critical to our success, and we
rely on trademark, copyright and patent law, trade secret protection and
confidentiality and/or license agreements with our employees, customers,
partners and others to protect our proprietary rights. If we are not successful
in protecting our intellectual property, there could be a material adverse
effect on our business.
While we believe that our issued patents and pending patent applications
help to protect our business, there can be no assurance that:
o any patent can be successfully defended against challenges by
third parties;
o pending patent applications will result in the issuance of
patents;
o competitors or potential competitors of priceline.com will not
devise new methods of competing with us that are not covered
by our patents or patent applications;
o because of variations in the application of our business model
to each of our products and services, our patents will be
effective in preventing one or more third parties from
utilizing a copycat business model to offer the same product
or service in one or more categories;
o new prior art will not be discovered which may diminish the
value of or invalidate an issued patent; or
o a third party will not have or obtain one or more patents that
prevent us from practicing features of our business or will
require us to pay for a license to use those features.
There has been recent discussion in the press regarding the examination
and issuance of so called "business-method" patents. As a result, the United
States Patent and Trademark Office has indicated that it intends to intensify
the review process applicable to such patent applications. The new procedures
are not expected to have a direct effect on patents already granted. We cannot
anticipate what effect, if any, the new process will have on our pending patent
applications.
We pursue the registration of our trademarks and service marks in the U.S.
and internationally. However, effective trademark, service mark, copyright and
trade secret protection may not be available in every country in which our
services are made available online. We have licensed in the past, and expect to
license in the future, certain of our proprietary rights, such as trademarks or
copyrighted material, to third parties. These licensees may take actions that
might diminish the value of our proprietary rights or harm our reputation.
LEGAL PROCEEDINGS
We are a party to the legal proceedings described in Item 1 of Part II of
this Form 10-Q - "Commitments and Contingencies." The defense of the actions
described in Item 1 may increase our expenses and an adverse outcome in any of
such actions could have a material adverse effect on our business and results of
operations.
27
THE SUCCESS OF OUR BUSINESS WILL DEPEND ON CONTINUED GROWTH OF INTERNET
COMMERCE
The market for the purchase of products and services over the Internet is
a relatively new and emerging market. As an Internet commerce business, our
future revenues and profits are substantially dependent upon the widespread
acceptance and use of the Internet and other online services as a medium for
commerce by consumers and sellers. If widespread acceptance and growth of
Internet use does not occur, our business and financial performance will suffer.
Rapid growth in the use of and interest in the Internet and other online
services is a recent phenomenon. This growth may not continue. A sufficiently
broad base of consumers may not adopt, or continue to use, the Internet as a
medium of commerce. Demand for and market acceptance of recently introduced
products and services over the Internet are subject to a high level of
uncertainty, and there are few proven products and services. For us to grow,
consumers who historically have purchased through traditional means of commerce,
such as a travel agent for airline tickets or a branch of a bank for home
financings, will need to elect to purchase online products and services. Sellers
of products and services will need to adopt or expand use of the Internet as a
channel of distribution.
The Internet has experienced significant growth in the number of users and
amount of traffic over the recent past. Our success will depend upon the
development and maintenance of the Internet's infrastructure to cope with this
increased traffic. This will require a reliable network backbone with the
necessary speed, data capacity and security, and the timely development of
complementary products, such as high-speed modems, for providing reliable
Internet access and services.
The Internet has experienced a variety of outages and other delays as a
result of damage to portions of its infrastructure and could face such outages
and delays in the future. Outages and delays are likely to affect the level of
Internet usage generally, as well as the processing of transactions on the
priceline.com Web site. It is unlikely that the level of orders lost in those
circumstances could be made up by increased phone orders. In addition, the
Internet could lose its viability due to delays in the development or adoption
of new standards to handle increased levels of activity or due to increased
government regulation. The adoption of new standards or government regulation
may, however, require us to incur substantial compliance costs and could have a
material adverse effect upon our business and results of operations.
CAPACITY CONSTRAINTS AND SYSTEM FAILURES COULD HARM OUR BUSINESS
If our systems cannot be expanded to cope with increased demand or fails
to perform, we could experience:
o unanticipated disruptions in service;
o slower response times;
o decreased customer service and customer satisfaction; or
o delays in the introduction of new products and services;
any of which could impair our reputation, damage the priceline.com brand
and materially and adversely affect our revenues. Publicity about a service
disruption also could cause a material decline in our stock price.
Like many online businesses, we have experienced system failures from time
to time. For example, in May 2001, our primary website was interrupted for a
period of 12 hours. In addition to placing increased burdens on our engineering
staff, these outages create a flood of user questions and complaints that need
to be addressed by our customer support personnel. Any unscheduled interruption
in our service could result in an immediate loss of revenues that can be
substantial and may cause some users to switch to our competitors. If we
experience frequent or persistent system failures, our reputation and brand
could be permanently harmed. We have been taking steps to increase the
reliability and redundancy of our system. These steps are expensive, may reduce
our margins and may not be successful in reducing the frequency or duration of
unscheduled downtime.
Substantially all of our computer hardware for operating our services
currently is located at the facilities of Exodus Communications, Inc. in New
Jersey. These systems and operations are vulnerable to damage or
28
interruption from human error, floods, fires, power loss, telecommunication
failures and similar events. They are also subject to break-ins, sabotage,
intentional acts of vandalism and similar misconduct. In addition, we could
experience interruptions as a result of Exodus' bankruptcy, including cessation
of service if Exodus is unable to successfully emerge from bankruptcy. We do not
maintain fully redundant systems or hosting services, and we do not carry
business interruption insurance sufficient to compensate us for losses that may
occur. Despite any precautions we may take, the occurrence of a natural disaster
or other unanticipated problems at the Exodus facility could result in lengthy
interruptions in our services. In addition, the failure by Exodus to provide our
required data communications capacity could result in interruptions in our
service. Any system failure that causes an interruption in service or decreases
the responsiveness of the priceline.com service could impair our reputation,
damage our brand name and materially adversely affect our business and results
of operations.
We use internally developed systems to operate the priceline.com service,
including transaction processing and order management systems that were designed
to be scaleable. However, if the number of users of the priceline.com service
increases substantially, we will need to significantly expand and upgrade our
technology, transaction processing systems and network infrastructure. We do not
know whether we will be able to accurately project the rate or timing of any
such increases, or expand and upgrade our systems and infrastructure to
accommodate such increases in a timely manner.
WE MAY NOT BE ABLE TO KEEP UP WITH RAPID TECHNOLOGICAL AND OTHER CHANGES
The markets in which we compete are characterized by rapidly changing
technology, evolving industry standards, frequent new service and product
announcements, introductions and enhancements and changing consumer demands. We
may not be able to keep up with these rapid changes. In addition, these market
characteristics are heightened by the emerging nature of the Internet and the
apparent need of companies from many industries to offer Internet-based products
and services. As a result, our future success will depend on our ability to
adapt to rapidly changing technologies, to adapt our services to evolving
industry standards and to continually improve the performance, features and
reliability of our service in response to competitive service and product
offerings and the evolving demands of the marketplace. In addition, the
widespread adoption of new Internet, networking or telecommunications
technologies or other technological changes could require us to incur
substantial expenditures to modify or adapt our services or infrastructure.
ONLINE SECURITY BREACHES COULD HARM OUR BUSINESS
The secure transmission of confidential information over the Internet is
essential in maintaining consumer and supplier confidence in the priceline.com
service. Substantial or ongoing security breaches -- whether instigated
internally or externally -- on our system or other Internet-based systems could
significantly harm our business. We currently require buyers to guarantee their
offers with their credit card, either online or through our toll-free telephone
service. We rely on licensed encryption and authentication technology to effect
secure transmission of confidential information, including credit card numbers.
It is possible that advances in computer capabilities, new discoveries or other
developments could result in a compromise or breach of the technology used by us
to protect customer transaction data.
We incur substantial expense to protect against and remedy security
breaches and their consequences. However, we cannot guarantee that our security
measures will prevent security breaches. A party that is able to circumvent our
security systems could steal proprietary information or cause significant
interruptions in our operations. For instance, several major Web sites have
experienced significant interruptions as a result of improper direction of
excess traffic to those sites, and computer viruses have substantially disrupted
e-mail and other functionality in a number of countries, including the United
States. Security breaches also could damage our reputation and expose us to a
risk of loss or litigation and possible liability. Our insurance policies carry
low coverage limits, which may not be adequate to reimburse us for losses caused
by security breaches.
We also face risks associated with security breaches affecting third
parties conducting business over the Internet. Consumers generally are concerned
with security and privacy on the Internet and any publicized security
29
problems could inhibit the growth of the Internet and, therefore, the
priceline.com service as a means of conducting commercial transactions.
NEW BUSINESSES WE MAY ENTER OR OUR EXISTING LICENSEES MAY NOT BE
SUCCESSFUL
We have entered into, and may enter into in the future, licensing or other
arrangements with third parties in connection with expansion of the
priceline.com service. For example, we licensed our name and business model to
Alliance Capital Partners in connection with our home financing services and to
other third parties in connection with the development of our business model
abroad, including priceline.com europe Ltd. These new businesses typically incur
start-up costs and operating losses and may not be successful. If these new
businesses are not favorably received by consumers or are unsuccessful, the
association of our brand name and business model with these new entities may
adversely affect our business and reputation and may dilute the value of our
brand name. Further, to the extent that these new businesses are not successful,
we may not be able to recover or be reimbursed for our ongoing costs associated
with their development, which could have a material adverse effect on our
business and results of operations.
OUR STOCK PRICE IS HIGHLY VOLATILE
The market price of our common stock is highly volatile and is likely to
continue to be subject to wide fluctuations in response to factors such as the
following, some of which are beyond our control:
o quarterly variations in our operating results;
o operating results that vary from the expectations of
securities analysts and investors;
o changes in expectations as to our future financial
performance, including financial estimates by securities
analysts and investors;
o changes in our capital structure;
o changes in market valuations of other Internet or online
service companies;
o announcements of technological innovations or new services by
us or our competitors;
o announcements by us or our competitors of significant
contracts, acquisitions, strategic partnerships, joint
ventures or capital commitments;
o loss of a major seller participant, such as an airline or
hotel chain;
o changes in the status of our intellectual property rights;
o lack of success in the expansion of our business model
horizontally or geographically;
o adverse publicity surrounding recent announcements concerning
priceline.com;
o announcements by third parties of significant claims or
proceedings against us or adverse developments in pending
proceedings;
o additions or departures of key personnel; and
o stock market price and volume fluctuations.
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Sales of a substantial number of shares of our common stock could
adversely affect the market price of our common stock by introducing a large
number of sellers to the market. Given the volatility that exists for our
shares, such sales could cause the market price of our common stock to decline.
In addition, the trading prices of Internet stocks in general, including
ours, have experienced extreme price and volume fluctuations. To the extent that
the public's perception of the prospects of Internet or e-commerce companies is
negative, our stock price could decline further regardless of our results. Other
broad market and industry factors may decrease the market price of our common
stock, regardless of our operating performance. Market fluctuations, as well as
general political and economic conditions, such as a recession or interest rate
or currency rate fluctuations, also may decrease the market price of our common
stock. The market value of e-commerce stocks has declined dramatically over
recent months based on profitability and other concerns. The recent declines in
the value of our common stock and market conditions could adversely affect our
ability to raise additional capital.
We are currently the subject of a number of securities class action
litigations. In the past, securities class action litigation often has been
brought against a company following periods of volatility in the market price of
their securities. To the extent our stock price declines or is volatile, we may
in the future be the target of additional litigation. Securities and other
litigation could result in substantial costs and divert management's attention
and resources.
UNCERTAINTY REGARDING STATE TAXES
We file tax returns in such states as required by law based on principles
applicable to traditional businesses. In addition, we do not collect sales or
other similar taxes in respect of transactions conducted through the
priceline.com service (other than the federal air transportation tax). However,
one or more states could seek to impose additional income tax obligations or
sales tax collection obligations on out-of-state companies, such as ours, which
engage in or facilitate online commerce. A number of proposals have been made at
state and local levels that could impose such taxes on the sale of products and
services through the Internet or the income derived from such sales. Such
proposals, if adopted, could substantially impair the growth of e-commerce and
adversely affect our opportunity to become profitable.
Legislation limiting the ability of the states to impose taxes on
Internet-based transactions has been enacted by the United States Congress.
However, this legislation, known as the Internet Tax Freedom Act, imposes only a
three-year moratorium, which commenced October 1, 1998 and ends on October 21,
2001, on state and local taxes on (1) electronic commerce where such taxes are
discriminatory and (2) Internet access unless such taxes were generally imposed
and actually enforced prior to October 1, 1998. It is possible that the tax
moratorium could fail to be renewed prior to October 21, 2001. Failure to renew
this legislation would allow various states to impose taxes on Internet-based
commerce. The imposition of such taxes could adversely affect our ability to
sustain profitability.
REGULATORY AND LEGAL UNCERTAINTIES COULD HARM OUR BUSINESS
The products and services we offer through the priceline.com service are
regulated by federal and state governments. Our ability to provide such products
and services is and will continue to be affected by such regulations. The
implementation of unfavorable regulations or unfavorable interpretations of
existing regulations by courts or regulatory bodies could require us to incur
significant compliance costs, cause the development of the affected markets to
become impractical and otherwise adversely affect our financial performance.
SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
Sections of this Form 10-Q contain forward-looking statements. These
forward-looking statements are not guarantees of future performance and are
subject to certain risks, uncertainties and assumptions that are difficult to
predict; therefore, actual results may differ materially from those expressed,
implied or forecasted in any such forward-looking statements.
Expressions of future goals and similar expressions including, without
limitation, "may," "will," "should,"
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"could," "expects," "does not currently expect," "plans," "anticipates,"
"believes," "estimates," "predicts," "potential," "targets," or "continue,"
reflecting something other than historical fact are intended to identify
forward-looking statements. The following factors, among others, could cause our
actual results to differ materially from those described in the forward-looking
statements: adverse changes in general market conditions for leisure and other
travel products as the result of recent terrorist attacks, hostilities or other
similar or related events; adverse changes in our relationships with airlines
and other product and service providers; the bankruptcy or insolvency of a major
domestic airline; systems-related failures and/or security breaches; the effects
of increased competition; our ability to protect our intellectual property
rights; losses by us and our licensees; any adverse impact from negative
publicity as a result of recent events and negative customer reaction to such
publicity; legal and regulatory risks and the ability to attract and retain
qualified personnel. These factors and others are described in more detail above
in the section entitled "Factors That May Affect Future Results." Unless
required by law, we undertake no obligation to update publicly any
forward-looking statements, whether as a result of new information, future
events or otherwise. However, readers should carefully review the reports and
documents we file from time to time with the Securities and Exchange Commission,
particularly the Quarterly Reports on Form 10-Q and any Current Reports on Form
8-K.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Priceline.com currently has no floating rate indebtedness, holds no
derivative instruments other than through investments in licensees and does not
earn significant foreign-sourced income. Accordingly, changes in interest rates
or currency exchange rates do not generally have a direct effect on
priceline.com's financial position. However, changes in currency exchange rates
may affect the cost of international airline tickets and international hotel
reservations offered through the priceline.com service, and so indirectly affect
consumer demand for such products and priceline.com's revenue. In addition, to
the extent that changes in interest rates and currency exchange rates affect
general economic conditions, priceline.com would also be affected by such
changes.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Please see Note 8 to the Notes to Unaudited Consolidated Financial
Statements included in this Form 10-Q and Part I, Item 3 of priceline.com's
Annual Report on Form 10-K for the year ended December 31, 2000.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
REPORTS ON FORM 8-K
On August 1, 2001, we furnished a report on Form 8-K in connection with
our second quarter earnings release. On September 21, 2001, we filed a report on
Form 8-K in connection with the announcement that Cheung Kong (Holdings) Limited
and Hutchison Whampoa Limited had withdrawn their request for filing of a shelf
registration to sell shares and obtained rights to purchase up to a 37.5% stake
in the Company. In the same Form 8-K, the Company re-estimated it's 3rd quarter
earnings in light of the September 11, 2001 terrorist attacks.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PRICELINE.COM INCORPORATED
(Registrant)
Date: November 14, 2001 By: /s/ Robert Mylod
-------------------------------------
Name: Robert Mylod
Title: Chief Financial Officer
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