Exhibit 99.3
POINTS INTERNATIONAL LTD.
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2004 ANNUAL REPORT
www.points.com
(POINTS.COM LOGO)
GET MORE REWARDS, FASTER(TM)
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Points International Ltd. is the owner and operator of Points.com, the world's
leading reward program management portal. At Points.com consumers can earn, buy,
and swap miles and points between reward programs so that they can Get More
Rewards, Faster(TM). Points.com has attracted over 45 of the world's leading
reward programs including American Airlines AAdvantage(R) program, Delta
SkyMiles(R), eBay Anything Points, Membership Rewards(R) program by American
Express, Cendant's TripRewards(R), Priority Club(R) Rewards, Asia Miles(R), and
S&H greenpoints.
MORE ABOUT POINTS INTERNATIONAL LTD. AND POINTS SOLUTIONS
Core Business - Points Solutions
Points International Ltd. ("Points International or the "Corporation") has
developed a proprietary technology platform that allows it to offer a portfolio
of solutions, referred to as the Points Solutions, to the loyalty program
industry. The technology platform was designed to create value for consumers and
loyalty programs alike. The Points Solutions are comprised of Points.com
(referred to as the Points Exchange in past disclosures) and a suite of
Points.com Business Solutions (referred to as the Private Branded Solutions in
past disclosures) available to loyalty program operators. The Corporation's
business is principally conducted over the Internet (other than functions such
as customer support), allowing its two primary categories of customers (loyalty
program operators and loyalty program consumers) to be virtually anywhere in the
world.
Points Solutions accounted for 97% ($7.56 million) of the Corporation's
revenues. The remaining 3% is attributed to interest income.
Points.com
The Corporation's cornerstone product is the proprietary Points.com Web site.
Points.com is an online service allowing consumers who are members of
participating loyalty programs to swap their loyalty program points and/or miles
between other participating loyalty programs.
As at December 31, 2004, Points.com had attracted 45 loyalty program
participants (as at the date hereof, one additional partner is under contract
but not yet launched and three partners have been launched), including the
loyalty programs of leading airlines, hotels, online and retail businesses, and
gift certificate programs.
For more information on the development of new technology for Points.com, see
page 2 "General Development of the Business - Three-Year History" of the Annual
Information Form ("AIF").
Points.com Business Solutions
At December 31, 2004, the Corporation had 55 Points.com Business Solutions
products in the marketplace. This suite of technologies includes:
BUY and GIFT - facilitates the online sale and gift of miles, points and
other loyalty program currencies.
CORPORATE - facilitates the sale of loyalty program currencies to corporate
customers.
TRANSFER - facilitates the amalgamation or transfer of loyalty program
currencies among multiple accounts.
INTEGRATE - functions as a common platform to process transactions between
third-party loyalty programs, to simplify and automate a complex and
resource-intensive process with a single integration.
ELITE - facilitates the online sale of tier status to members of loyalty
programs.
SYSTEMS DESIGN - custom applications developed for select large loyalty
program partners. See page 6 "Status of New Products" of the AIF for an
example of the redeemAAmiles program, an application built for a loyalty
partner.
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TABLE OF CONTENTS
MESSAGE FROM THE CHAIRMAN 5
MESSAGE FROM THE CHIEF EXECUTIVE OFFICER 6
BUSINESS HIGHLIGHTS 8
MANAGEMENT TEAM 11
MANAGEMENT'S DISCUSSION AND ANALYSIS 12
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING 40
FINANCIAL STATEMENT AND NOTES 41
AUDITOR'S REPORT 42
CORPORATE INFORMATION 66
MESSAGE FROM THE CHAIRMAN
To Our Shareholders:
I am pleased to report on the progress of our company as we emerge from a
pivotal year in our history. It was a year in which we achieved several key
milestones on the journey toward sustained success in our segment of the loyalty
industry.
The sector as a whole continues to proliferate. In an article dated May 2, 2002,
The Economist estimated that one in three American adults and over 100 million
people worldwide participate in frequent-flyer programs. According to a January
2005 update article published in The Economist, almost 14 trillion
frequent-flyer miles had been accumulated worldwide as of the end of 2004 and
the outstanding balances were still growing by almost 20% annually over the last
decade. Calculations by the publication suggest that the global stock of
frequent-flyer miles is now worth over US$700 billion, more than all the dollar
notes and coins in circulation around the globe.
Research conducted by our company indicates that almost 70% of frequent-flyer
program members belong to five or more programs and that, on a global basis,
consumers today are served by close to 100 frequent-flyer and guest plans,
hundreds of credit-card-based points programs, and thousands of retailers'
loyalty programs - not to mention many new options such as financial services
programs.
Capitalizing on the burgeoning opportunity created by such an expanding array of
loyalty programs, Points International Ltd. has seen a significant increase in
our total number of partnerships in recent years - from 16 in 2001 to 45 and
growing as of the end of 2004 (four additional partners have been contracted in
the first quarter of 2005). Today, we have an extremely broad base of
relationships spanning major airlines throughout the world, as well as hotels,
online and retail businesses, and gift certificate programs.
As documented in our "Business Highlights" section of this report, we had many
noteworthy highlights in 2004 regarding our partnerships, including expanding
our relationships with British Airways, American Airlines and eBay through their
adoption of new Points.com Business Solutions; Frontier Airlines, Hawaiian
Airlines, Starbucks, S&H greenpoints, and the Gold Points Reward Network each
joining Points.com; and our acquisition of MilePoint, Inc., which also brought
new partners on board and significantly strengthened our industry leadership.
The steps we took in 2004, and continue in 2005, move us further down the path
toward profitability. Driven by our robust partnership growth, we experienced
solid year-over-year improvement in our revenues, which rose in 2004 by more
than 35% compared to 2003, reaching $7.8 million to set a new standard for our
company.
Another key milestone we reached in 2004 was our graduation from the TSX Venture
Exchange to a listing on the TSX. This is not only symbolic of how we have grown
as an organization, but it strengthens our future prospects with a higher
profile, a larger pool of potential investors and improved access to capital.
As a TSX-listed company, we appreciate how great the need is for all our
stakeholders to have confidence that we adhere to only the highest standards of
ethical business behavior. In that vein, I wish to assure our shareholders that
we are dedicated to a culture of corporate governance. We are proud to have a
well-balanced board of directors comprised of proactive individuals who bring to
our company a wealth of experience, a broad range of knowledge and skills, and a
firm commitment to performing their duties with the utmost of integrity.
On behalf of our board of directors, I would like to thank the many people at
Points International Ltd. who are responsible for our outstanding achievements
in 2004. We are fortunate to possess a great team of talented employees who
display tremendous focus and determination on a daily basis.
I would also like to thank our customers and partners, without whose support our
success would not have been possible, and I want to thank our shareholders as
well for their ongoing belief in our company.
The year ahead will see many challenges as our management team and all our
employees work extremely hard to take Points.com to new heights. As an
innovative company fast becoming a leading player in its space, we are pleased
to have a strong foundation in place as we look forward to the continued growth
of our business in 2005 and beyond.
/s/ Douglas Carty
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Douglas Carty
Chairman of the Board
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MESSAGE FROM THE CHIEF EXECUTIVE OFFICER
To Our Shareholders:
As the Chairman noted, 2004 was a great year for our business, enabling us to
begin this year with solid momentum and a strong sense of optimism.
Now that we are well into 2005, I'd like to use this letter to outline our plans
for the year, which to a large extent focus on our efforts to significantly
enhance Points.com, our consumer Web site. In fact, I am writing this letter at
a particularly exciting time for us. Not long after this Annual Report is
printed and mailed, we will be launching the new site. This is a critically
important initiative that will drive our company's success for years to come.
In recent years, we have placed our greatest strategic emphasis on growing our
partnership base. We are continuing to strengthen that base in 2005,
demonstrated convincingly by our recent announcement that American Express, with
its Membership Rewards(R) program, has become our first financial-services
partner. This is a very exciting development for our company.
While success on the partnership front has certainly given us the underpinning
we need to be a powerful player in this industry - and we know we will always
need to grow and enhance our partnership pool on an ongoing basis - the time has
come for us to focus more forcefully on enabling consumers to take full
advantage of the compelling services offered through Points.com. This represents
a key evolution for us in 2005, and the Web site functionality improvements are
a catalyst for driving that transition.
In 2001, we launched our proprietary Points.com Web site. The main objective for
this cornerstone product was to provide a unique online service allowing
consumers who are members of participating loyalty programs to swap their
loyalty program points and/or miles between participating loyalty programs.
While our Web site has long been the only tool consumers can utilize to swap
miles and points between reward programs, this form of Points.com has until now
represented only a small part of our company's opportunity to service consumers'
total reward program experience. The new Points.com Web site represents a major
step forward in our relationship with both reward program partners and the
consumer.
With the new site, each consumer will be presented with a personalized view of
their reward program universe. As a result, we will be able to help consumers
release more value from their favourite programs, so they can Get More Rewards,
Faster(TM). This has been accomplished by adding new mile and point management
tools, such as methods to purchase and earn more miles or points in their
favourite programs.
In addition, the system will be driven by the ATG Marketing Enterprise System
that uses the consumer's unique program and point balance mix to suggest ways
people can earn, buy and swap rewards like never before. In short, we are
evolving Points.com into a "reward management portal" that provides an extremely
comprehensive and engaging consumer experience.
With the Web site's launch, users will immediately notice a new look and feel
that reflects a highly consumer-focused approach. Moreover, we will gradually
incorporate various functionality elements through upcoming monthly releases
well into 2006 that, over time, will enhance the site's capabilities to an even
greater extent. It's also important to note that we have aggressive plans in
place for the second half of 2005 designed to leverage the changes and drive
significant consumer traffic to the new Points.com. We look forward to
dramatically increasing consumer awareness of our company.
Tightly linked to this, and a vitally important goal for 2005, is the creation
of new revenue streams. The new Web site provides us with an opportunity to
achieve that - most notably through subscription membership becoming more of a
core element of our business model. But to maximize that potential, we must be
flawless in our execution, both in terms of the Web site and our associated
marketing efforts.
6
I would also like to address one other important strategic thrust for us this
year - the continued evolution of our suite of Points.com Business Solutions.
This represents a very sizeable opportunity, and to date we have introduced
several innovative solutions that are greatly valued by a number of our
partners. In 2005, our objective in this area is to drive significant efficiency
improvements, in terms of faster development time and lower development costs.
In other words, we need to take the evolution of this key stream of business to
the next level of maturation.
Finally, let me echo Doug's comments about our exceptional team of employees and
thank all our people for everything they have done to move this company forward
and ensure our ongoing success. Through their efforts, I can confidently assure
our shareholders that Points International Ltd. and Points.com are resolutely
focused on seizing the exciting opportunities that await us.
/s/ Robert MacLean
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Robert MacLean
Chief Executive Officer
7
BUSINESS HIGHLIGHTS
FIRST QUARTER 2005 (Inclusive to March 15, 2005)
MEMBERSHIP REWARDS(R) PROGRAM FROM AMERICAN EXPRESS JOINS POINTS.COM
On March 4th, 2005, Points International entered into an agreement with
American Express Travel Related Services Company Inc. The agreement enables
the Membership Rewards program from American Express to participate in the
Points.com portal. Additionally, the Membership Rewards program will use
Points.com's Business Solutions to offer real-time point transfers for
select partners. Public launch is expected during the second quarter of the
year.
CENDANT JOINS POINTS.COM AND ALSO ADOPTS POINTS.COM BUSINESS SOLUTIONS
PRODUCTS
The Cendant Hotel Group, a subsidiary of Cendant Corporation, entered into
an agreement to join Points.com. The TripRewards(R) program, with its large
membership base and its diversified offering, is a significant addition to
Points.com. In addition to the consumer offering, TripRewards will also be
utilizing a number of Points.com Business Solutions products to enhance the
program and its operations.
STARBUCKS CARD DUETTO(TM) VISA(R) JOINS POINTS.COM
The original partnership that allowed Points.com members to exchange
loyalty currencies into Starbucks Stored Value Cards was expanded so that
Starbucks members can also exchange Points.com partner currencies into
dollars on their Duetto(TM) Card. The Duetto(TM) Card is a multi-functional
credit card that combines a re-loadable stored value card with a Visa
credit card. Loyalty currencies exchanged into either Starbucks Stored
Value Cards or Duetto(TM) Card dollars can now be redeemed at over 4,000
Starbucks retail locations in Canada and the United States for products and
merchandise.
INTRAWEST TEAMS UP WITH POINTS.COM
Points.com members now have the opportunity to exchange points and miles
from their favourite programs into gift certificates that can be used at
many Intrawest owned and/or operated ski and golf resorts. This agreement
also gives Points.com the ability to reach Intrawest's members through
resort publications and other communication channels.
FOURTH QUARTER 2004
NEXT VERSION OF POINTS.COM CONSUMER SITE ANNOUNCED
The new Web site will include broader consumer offerings and present each
consumer with a comprehensive personalized view of their entire reward
program universe. New management tools, such as Join, Earn and Buy, will
help consumers realize more value from their favorite reward programs, to
help them Get More Rewards, Faster(TM). These tools will also add
additional revenue streams for the Corporation. The system will use the
consumer's unique reward program, reward goals and point balance mix to
suggest ways to use the Join, Earn, Buy and Swap tools most effectively.
DELTA AIR LINES EXPANDS RELATIONSHIP WITH POINTS.COM
The Delta Air Lines SkyMiles(R) program has hired Points.com to power the
online transfer of miles between SkyMiles program accounts. This Transfer
product is the fifth product in the suite of Points Solutions purchased by
Delta Air Lines. The relationship highlights the opportunity for Points.com
to sell additional products to the MilePoint business solutions partners.
VOIPMDU INC. JOINS POINTS.COM
The agreement will allow Points.com members to redeem certain points and
miles for 'Voice over Internet Protocol' telephone services. Under the
agreement, VoIP must enroll a certain number of its customers with
Points.com to maintain a limited industry exclusivity.
THIRD QUARTER 2004
EXPANSION OF POINTS.COM CONTINUES WITH ADDITION OF HAWAIIANMILES
As of September 2004, members of HawaiianMiles, the loyalty program of
Hawaiian Airlines, have been able to consolidate their other loyalty
currencies into HawaiianMiles or exchange their HawaiianMiles for the
currencies of other loyalty programs through Points.com. HawaiianMiles are
earned by shopping at various stores, eating at restaurants throughout
Hawaii, and flying with Hawaiian Airlines, as well as through the carrier's
partners. Some of these include America West and Alaska Airlines, each of
which is a Points.com partner. Hawaiian Airlines joining Points.com is
another example of the Corporation's ability to sell additional products to
MilePoint business solutions partners.
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BRITISH AIRWAYS CHOOSES POINTS.COM BUSINESS SOLUTIONS
British Airways (BA) launched its Buy Points.com Business Solutions in July
of 2004. Members of the British Airways Executive Club program in over 190
countries are now buying BA Miles online at www.ba.com, enabling them to
reach reward redemption levels faster.
SECOND QUARTER 2004
SENIOR MARKETING EXECUTIVES BOLSTER MANAGEMENT TEAM
Grad Conn joins as Chief Marketing Officer. Grad's background includes nine
years in the CPG industry at Procter & Gamble, ten years running his own
direct + interactive agency, and seven years running and angeling
venture-funded software companies in the peer-to-peer and social networking
spaces, including OpenCola Inc., which was declared by Fortune magazine to
be "one of the 25 coolest technology companies of 2001". Prior to joining
Points International, Grad was VP and Managing Director at Grey Direct +
Interactive.
Joining Grad are Mike Glass, Vice President, Product Development and Jason
Sikora, Vice President, Marketing.
Mike Glass joined Points International in the third quarter. He started his
career at Compaq computer, and moved to Microsoft in 1989. While at
Microsoft, Mike led the design and development of USB and he was the
Software Development Manager for Windows 98. In fact, Mike has been awarded
several patents related to OS/2 and Windows operating system design.
Jason Sikora joined Points International in the fourth quarter as Vice
President, Marketing and is responsible for consumer marketing and growing
the business through customer acquisition and activation on Points.com.
Jason has over 10 years of international marketing communications
experience with proven success in building customer acquisition and
retention strategies for companies such as Procter & Gamble, Masterfoods
USA & Europe and Amazon.com, among many others.
AGREEMENT WITH ACCENT TRAINING TO JOIN POINTS.COM
In June 2004, Points.com signed a three-year agreement with ACCENT
Training, a company that specializes in online training. The partnership
creates new opportunities for My Smart Rewards, ACCENT Training's rewards
program. Since September, ACCENT Training has been an official partner,
allowing My Smart Rewards members to exchange their My Smart Rewards points
for redemption opportunities with Points.com.
FRONTIER AIRLINES BECOMES THE FIRST LOW-COST AIRLINE TO JOIN POINTS.COM
EarlyReturns(R), the award-winning loyalty program of Frontier Airlines,
had its potential value significantly increase following a five-year
agreement. EarlyReturns became a tradable loyalty currency on the
Points.com Web site as of August 2004. Frontier Airlines is also using
Points.com Business Solutions to support the airline's loyalty program, as
well as enable partner and third-party organizations to purchase
frequent-flyer miles.
NEW RELATIONSHIP WITH KNOWLEDGEFLOW INC.
Points.com was strengthened with the addition of KnowledgeFlow Inc., which
operates assistant(TM), the next generation of direct marketing systems for
loyalty program operators. assistant(TM) is the only Web-based service that
proactively matches an online shopper's buying intent with opportunities to
earn loyalty points. By joining Points.com in June 2004, users are now
collecting points and swapping them for their favourite currency or
shopping experience.
INNOVATIVE STARBUCKS AGREEMENT OPENS NEW AVENUE
Starbucks Coffee Company, the leading retailer, roaster and brand of
specialty coffee in the world, joined Points.com in May 2004. Points.com
customers can use their loyalty currencies to reload their existing
Starbucks Stored Value Cards or to order new Starbucks Cards. Customers can
use their cards at over 4,000 Starbucks location in North America to
purchase beverages and other products.
POINTS.COM WELCOMES FIRST TIMESHARE PARTNER: INTERVAL INTERNATIONAL
In April 2004, Interval International, a leading global vacation exchange
company, signed a multi-year exclusive agreement. Points.com expands
services to Interval's consumer members by providing unlimited exchanges on
the Points.com Web site. A membership with Points.com is now included in
Interval's basic U.S., Caribbean, and Canadian membership packages.
Interval International is a wholly owned affiliate of InterActiveCorp.
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BUSINESS HIGHLIGHTS
POINTS.COM BROADENS BASE THROUGH DEAL WITH S&H GREENPOINTS
Points.com has joined forces with the operator of the world's
longest-running loyalty program, The Sperry & Hutchinson (S&H) Company. The
S&H greenpoints reward program, the digital reinvention of S&H's Green
Stamps that originated in 1896, is now a Points.com partner. As a result,
Points.com members can swap miles or points from airlines, hotels and other
retailers into greenpoints, gaining access to S&H greenpoints' extensive
rewards catalog, while S&H greenpoints' members can trade their own
accumulated values at Points.com.
FIRST QUARTER 2004
ACQUISITION OF MILEPOINT STRENGTHENS INDUSTRY LEADERSHIP
In March 2004, Points International Ltd. acquired substantially all the
assets of MilePoint, Inc., a loyalty program technology provider and
operator. The acquisition added to Points.com's impressive partner base and
the potential of both the Points.com Web site and the company's portfolio
of Points.com Business Solutions. MilePoint's current clients include
Northwest Airlines, Delta Air Lines, Continental Airlines and Starwood
Hotels and Resorts. There are also significant benefits related to
economies of scales that are being realized by this transaction.
LANDMARK AGREEMENT WITH EBAY ENHANCED AND EXTENDED
As of March 2004, Points.com became the primary vehicle for all airline,
hotel, and major online loyalty program partners wanting to trade with the
eBay Anything Points program. This is one in a series of recent agreements
between the Corporation and eBay. In November 2003, Points.com developed
the eBay Offer Manager Tool, a custom technology application that allows
eBay sellers to issue eBay Anything Points to buyers who purchase their
items on eBay.
US AIRWAYS(R) JOINS WITH POINTS.COM
The Points.com Website was bolstered by the addition of US Airways in March
of 2004. Since then, US Airways Dividend Miles(R) members have been able to
visit the site to register for a free Points.com membership, view their
account balances in participating loyalty programs and, after purchasing a
PointsPlus membership, swap miles/points from other programs into their
Dividend Miles account.
TORONTO STOCK EXCHANGE LISTING
On February 24, 2004, Points International Common Shares were listed for
trading on the Toronto Stock Exchange under the symbol "PTS". The
Corporation's Common Shares ceased to trade on the TSX Venture Exchange at
the close of trading on February 23, 2004.
SCANDINAVIAN AIRLINES SYSTEMS (SAS) PARTNERS WITH POINTS.COM TO OFFER
POINTS.COM BUSINESS SOLUTIONS TO EUROBONUS MEMBERS
SAS, the seventh largest airline in Europe, is constantly looking for ways
to add value to its customers. In January 2004, SAS began offering the
Points.com Business Solutions' Buy product to their customers so that
EuroBonus members can purchase miles, top up their accounts and book reward
flights sooner.
10
MANAGEMENT TEAM
ROB MACLEAN, CHIEF EXECUTIVE OFFICER: Rob has served as Chief Executive Officer
of Points International Ltd. since February 2002, and is a member of the
Corporation's board of directors. A founder of the organization, Rob champions
the vision for this revolutionary business, and directs an exceptional team of
senior managers delivering impressive results. Previously, Rob held a variety of
positions with major airlines in Canada over a 12-year period, most recently as
Vice President, Sales with Canadian Airlines, with responsibility for the
Canadian Plus loyalty program.
CHRISTOPHER BARNARD, PRESIDENT: Christopher serves as President of Points
International Ltd., and has been an officer of the Corporation since co-founding
its predecessor, Exclamation, in 1998. In this role, Christopher leads financing
and investment initiatives for the company, and plays a key role in guiding
business strategy and the development of new partnerships.
DARLENE HIGBEE CLARKIN, CHIEF TECHNOLOGY OFFICER & Vice President, INFORMATION
TECHNOLOGY: Darlene leads the ongoing development of the Points.com Web
application and partner integration and is responsible for Points.com technology
planning. Darlene directs a highly skilled group of IT professionals to
integrate new partnerships, support the Points Solutions Web applications and to
research and implement future development. Darlene brings over 19 years of
loyalty program and information technology experience to Points.com.
GRAD CONN, CHIEF MARKETING OFFICER: Grad's background includes nine years in the
CPG industry at Procter & Gamble, ten years running his own direct + interactive
agency, and seven years running and angeling venture-funded software companies
in the peer-to-peer and social networking spaces, including OpenCola Inc., which
was declared by Fortune magazine to be "one of the 25 coolest technology
companies of 2001." Prior to joining Points International Ltd., Grad was VP and
Managing Director at Grey Direct + Interactive.
SACHA DIAB, VICE PRESIDENT, PARTNERS: Sacha joined Points.com in August 2000 and
holds the position of Vice President, Partners. Sacha's focus is on managing the
Partner Relationship Group and adding high profile clients to our ever-growing
partnership base. Before joining Points International Ltd., Sacha was Vice
President at Triad Communication in New York, a communication enabler that
assists its clients with communicating more effectively with employees, partners
and customers through the use of technology.
MIKE GLASS, VICE PRESIDENT, PRODUCT DEVELOPMENT: Mike started his career at
Compaq computer, and moved to Microsoft in 1989. While at Microsoft, Mike led
the design and development of USB, and he was the Software Development Manager
for Windows 98. In fact, Mike has been awarded several patents related to OS/2
and Windows operating system design. Prior to joining Points International Ltd.,
Mike was the Senior Director for the .NET Platform Strategy Group, where he
identified and developed strategic business opportunities by leveraging
Microsoft .NET technology at Volkswagen, Robert Bosch, Kinko's, McGraw-Hill and
Merck.
PETER LOCKHARD, VICE PRESIDENT, POINTS.COM BUSINESS SOLUTIONS: Peter joined
Points International Ltd. in January 2005 as Vice President, Points.com Business
Solutions and is responsible for determining and implementing strategies to
successfully grow Points.com Business Solutions. Peter has extensive senior and
general management experience, including professional services, operations,
sales and sales management, business and corporate development, marketing and
client services. In addition, Peter has successfully worked in start-up and
early-stage environments that have seen significant growth.
JERRY PHILIP, VICE PRESIDENT, BUSINESS DEVELOPMENT: Jerry joined Points.com in
March 2000, and holds the position of Vice President, Business Development. A
15-year veteran of the airline industry, Jerry supports business development for
Points International Ltd. and plays a key role in acquiring and managing partner
relationships. Before joining Points International Ltd., Jerry spent more than
10 years with Canadian Airlines, most recently in the position of Manager,
Incentive Programs.
JASON SIKORA, VICE PRESIDENT, MARKETING: Jason joined Points International Ltd.
in December of 2004 as Vice President, Marketing and is responsible for consumer
marketing and growing the business through customer acquisition and activation
on Points.com. Jason has over 10 years of international marketing communications
experience with proven success in building customer acquisition and retention
strategies for companies such as Procter & Gamble, Masterfoods USA & Europe and
Amazon.com among many others.
BILL THOMPSON, SENIOR VICE PRESIDENT, PARTNERS: Bill joined Points.com in August
2000. Based in Dallas, Texas, he leads the Business Development team and is
responsible for developing and managing loyalty program relationships for all
Points International Ltd. partners. Bill brings the depth of more than 30 years
of industry experience, and was previously a Managing Director with American
Airlines.
STEPHEN YUZPE, CHIEF FINANCIAL OFFICER AND CORPORATE SECRETARY: Steve joined the
Corporation's predecessor, Exclamation, in February 1999. As CFO, Steve is
responsible for managing the company's financial well-being and guiding the
growth of the business. He plays a critical leadership role overseeing
accounting, legal, regulatory affairs, investor relations and operations for the
organization, and in this capacity manages relationships with a number of
outside professional firms, including auditors and external legal counsel.
11
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MANAGEMENT'S DISCUSSION & ANALYSIS
The following management's discussion and analysis ("MD&A") of the performance,
financial condition and future prospects of Points International Ltd. (which is
also referred to herein as "Points International" or the "Corporation") should
be read in conjunction with the Corporation's audited consolidated financial
statements (including the notes thereon) for the year ended December 31, 2004
and with the Corporation's 2003 audited consolidated financial statements.
Further information, including Points International Annual Information Form
("AIF") for the year ended December 31, 2004, may be accessed at www.sedar.com.
All financial data herein has been prepared in accordance with Canadian
generally accepted accounting principles ("GAAP") and all dollar amounts herein
are in Canadian dollars unless otherwise specified. This MD&A is dated as of
March 8, 2005.
FORWARD-LOOKING STATEMENTS
Some of the statements contained or incorporated by reference in this MD&A,
including those relating to Points International strategies and other statements
that are predictive in nature, that depend upon or refer to future events or
conditions, or that include words such as "expect", "anticipate", "intend",
"plan", "believe", "estimate" or similar expressions, are forward-looking
statements within the meaning of Canadian securities laws. Forward-looking
statements include, without limitation, the information concerning possible or
assumed future results of operations of Points International as set forth
herein. These statements are not historical facts but instead represent only the
Corporation's expectations, estimates and projections regarding future events.
The forward-looking statements contained or incorporated by reference in this
MD&A are not guarantees of future performance and involve certain risks and
uncertainties that are difficult to predict. The future results and shareholder
value of Points International may differ materially from those expressed in the
forward-looking statements contained or incorporated by reference in this MD&A
due to, among other factors, the risks and uncertainties discussed herein, the
matters set forth under "Risk Factors" contained in the AIF filed with Canadian
securities regulators and the factors detailed in the Corporation's other
filings with Canadian securities regulators, including the factors detailed in
the Corporation's annual and interim financial statements and the notes thereto.
Points International does not undertake any obligation to update or release any
revisions to these forward-looking statements to reflect events or circumstances
after the date of this MD&A or to reflect the occurrence of unanticipated
events, except as required by law.
RESPONSIBILITY OF MANAGEMENT
The preparation of the financial statements, including the accompanying notes,
is the responsibility of management. Management has the responsibility of
selecting the accounting policies used in preparing the financial statements. In
addition, management's judgement is required in preparing estimates contained in
the financial statements.
Management acknowledges its responsibility in its letter of representation to
the Corporation's auditors, and this responsibility is referred to in the audit
opinion.
OVERVIEW OF POINTS INTERNATIONAL BUSINESS
Core Business - Points Solutions
Points International has developed a proprietary technology platform that allows
it to offer a portfolio of solutions, referred to as the Points Solutions, to
the loyalty program industry. The Points.com. technology platform was designed
to create value for consumers and loyalty programs alike. The Points Solutions
are comprised of Points.com (referred to as the Points Exchange in past
disclosures) and a suite of Points.com Business Solutions (referred to as the
Private Branded Solutions in past disclosures) available to loyalty program
operators. The Corporation's business is primarily conducted over the Internet
(other than
13
MANAGEMENT'S DISCUSSION & ANALYSIS
functions such as customer support) allowing its two primary customers (loyalty
program operators and loyalty programs' consumers) to be virtually anywhere in
the world.
Points.com
The Corporation's cornerstone product is the proprietary Points.com Web site.
Points.com is an online service allowing consumers who are members of
participating loyalty programs to swap their loyalty program points and/or miles
between the participating loyalty programs.
As at December 31, 2004, Points.com had attracted 45 loyalty program
participants (as at the date hereof one additional partner is under contract but
not yet launched and three partners have been launched), including the loyalty
programs of leading airlines, hotels, online and retail businesses, and gift
certificate programs.
Development Initiated for Points.com Version 3.0
At the beginning of the second quarter of 2005, the Corporation will begin
making some important changes to the Points.com consumer Web site.
Currently, the Points.com Web site is a transactional Web site that allows
consumers to swap miles and points between over 45 reward programs. While
established as the world's only service of its kind, Points.com, in its current
form, represents only a small part of the Corporation's opportunity to service
consumers' total reward program experience.
The new Points.com Web site, referred to as "Points.com version 3.0", represents
a major enhancement in the relationship with both reward program partners as
well as the consumer. Today, the consumer interacts with a Web site that centres
on a single feature, swap ("Swap"). Points.com version 3.0 will broaden the Web
site's offerings, and present each consumer with a personalized view of its
reward program universe.
Because of this personalized view of the consumer's reward program universe,
Points.com will be able to help consumers release more value from their
favourite programs and Get More Rewards, Faster(TM). This is accomplished by
adding new mile and point management tools such as ways to purchase ("Buy") and
earn ("Earn") more miles or points in their favourite programs. In addition, the
system will be driven by the ATG Marketing Enterprise System that will use the
consumer's unique program, reward goals and point mix to suggest ("Suggestion")
ways to use the Join, Earn, Buy and Swap tools most effectively.
As a result of these changes, Points.com will become a "reward management
portal," providing a more comprehensive and engaging consumer experience.
This functionality is expected to add new revenue streams to the Points.com
business model. Most significantly, the loyalty management utility of the Web
site is expected to allow Points.com to focus more on a subscription membership
model as a core aspect of the business.
Management expects that Points.com version 3.0 will be phased in over the course
of 2005, with monthly releases beginning in the second quarter. In April 2005,
Points.com users will immediately notice a new look and feel that will reflect
the more consumer-focused approach. Over the course of the spring and summer,
Points.com will add or expand its Buy, Earn and Suggestion functionality.
In the second half of 2005, management will begin driving consumer traffic to
the new Points.com Web site to leverage the Web site's ongoing evolution.
In accordance with Generally Accepted Accounting Principles ("GAAP") and
Canadian Institute of Chartered Accountants
14
MANAGEMENT'S DISCUSSION & ANALYSIS
("CICA") handbook Sections 3061 and 3062, Web site development costs incurred in
the Web site application and infrastructure development associated with
Points.com version 3.0 will be capitalized. For additional information, see
"General and Administrative Expenses" page 23, "Property, Plant and Equipment"
page 30 and "Planned Capital Expenditures" page 36 of this MD&A.
Points.com Business Solutions
At December 31, 2004, the Corporation had 55 Points.com Business Solutions
products in the marketplace. This suite of technologies includes:
BUY AND GIFT - facilitates the online sale and gift of miles, points and
other loyalty program currencies.
CORPORATE - facilitates the sale of loyalty program currencies to corporate
customers.
TRANSFER - facilitates the amalgamation or transfer of loyalty program
currencies among multiple accounts.
INTEGRATE - functions as a common platform to process transactions between
third-party loyalty programs, to simplify and automate a complex and
resource-intensive process with a single integration.
ELITE - facilitates the online sale of tier status to members of loyalty
programs.
SYSTEMS DESIGN - custom applications developed for select large loyalty
program partners. See page 6 "Status of New Products'" of the AIF for an
example of the redeemAAmiles program, an application built for the American
Airlines AAdvantage(R) program.
SIGNIFICANT BUSINESS DEVELOPMENTS IN 2004 AND TO THE DATE HEREOF
1. CENDANT JOINS POINTS.COM AND ALSO ADOPTS POINTS.COM BUSINESS SOLUTIONS
PRODUCTS
The Cendant Hotel Group, a subsidiary of Cendant Corporation, entered into an
agreement to join Points.com. The TripRewards(R) program with its large
membership base and its diversified offering, is a significant addition to
Points.com. In addition to the consumer offering, TripRewards will also be
utilizing a number of Points.com Business Solutions products to enhance the
program and its operations.
2. MEMBERSHIP REWARDS(R) PROGRAM FROM AMERICAN EXPRESS JOINS POINTS.COM
On March 4th, 2005, Points International entered into an agreement with American
Express Travel Related Services Company Inc. The agreement enables the
Membership Rewards program from American Express to participate in the
Points.com portal. Additionally, the Membership Rewards program will use
Points.com's Business Solutions to offer real-time point transfers for select
partners. Public launch is expected during the second quarter of the year.
3. AMERICAN AIRLINES RE-LAUNCHES ELITE PROGRAM
Effective January 27, 2005, American Airlines began offering a special
opportunity for certain members that did not requalify for their 2005 elite
status. Eligible AAdvantage members will have the opportunity to participate in
this offer provided they have flown at least one elite qualifying segment during
2004. The program is expected to run until April 2005.
4. DELTA AIR LINES EXPANDS RELATIONSHIP WITH POINTS.COM
The Delta Air Lines SkyMiles(R) program has hired Points.com to power the online
transfer of miles between SkyMiles program accounts. This Transfer product is
the fifth product in the suite of Points Solutions purchased by Delta Air Lines.
The relationship highlights the opportunity for Points.com to sell additional
products to the MilePoint business solutions partners.
15
MANAGEMENT'S DISCUSSION & ANALYSIS
5. AMERICAN AIRLINES LAUNCHES A PRIVATE BRANDED EXCHANGE (SYSTEMS DESIGN
SOLUTION)
With the September 17, 2004 launch of the redemption platform for American
Airlines, AAdvantage(R) members may now redeem their miles online for hotel
stays and hotel and other program points. Participating companies to date
include Marriott, Diners Club, InterContinental Hotels Group and Hilton. The
participant list will be expanded in 2005 to include other partner options. The
redeemAAmiles program adds value to the AAdvantage(R) Program and its members by
increasing the utility of miles earned, and facilitating an online process that
reduces transaction processing time from weeks to days.
6. FRONTIER AIRLINES BECOMES THE FIRST LOW-COST AIRLINE TO JOIN POINTS.COM
EarlyReturns(R), the award-winning loyalty program of Frontier Airlines, had its
potential value significantly increase following a five-year agreement.
EarlyReturns became a tradable loyalty currency on the Points.com Web site as of
August 2004. Frontier Airlines is also using Points.com Business Solutions to
support the airline's loyalty program, as well as enable partner and third-party
organizations to purchase frequent-flyer miles.
7. ACQUISITION OF MILEPOINT STRENGTHENS INDUSTRY LEADERSHIP
In March 2004, Points International Ltd. acquired substantially all the assets
of MilePoint, Inc., a loyalty program technology provider and operator. The
acquisition added to Points.com's impressive partner base and the potential of
both the Points.com Web site and the company's portfolio of Points.com Business
Solutions. MilePoint's current clients include Northwest Airlines, Delta Air
Lines, Continental Airlines and Starwood Hotels and Resorts. There are also
significant benefits related to economies of scales that are being realized by
this transaction.
8. STRATEGIC RELATIONSHIP WITH EBAY
In 2003, Points International developed a significant relationship with online
leader eBay Inc. ("eBay") Under this relationship, the eBay Anything Points
("EAP") program became an anchor Points.com partner, and Points International
implemented a number of Points Solutions to power core elements of the EAP
program, including Integrate. In addition, in August 2003, eBay selected Points
International to develop and operate a Systems Design product, the "Offer
Manager", for its EAP program. The Offer Manager allows eBay sellers to issue
EAPs to buyers who purchase their goods and services on eBay.
In March 2004, Points International and eBay agreed to continue eBay's
participation on Points.com through at least December 2005 and eBay made
Points.com the exclusive swap vehicle for all airline, hotel, car rental and
major online loyalty programs participating with eBay's EAP program.
9. TORONTO STOCK EXCHANGE LISTING
On February 24, 2004, Points International's Common Shares were listed for
trading on the Toronto Stock Exchange under the symbol "PTS". The Corporation's
Common Shares ceased to trade on the TSX Venture Exchange at the close of
trading on February 23, 2004.
REVENUE RECOGNITION POLICIES
The revenue recognition policies for the suite of Points Solutions are as
follows:
Points.com:
- - Swap commissions are a percentage of the exchanged value and are recognized
as the services provided under the terms of related contracts.
- - Membership dues received in advance for services are recognized over the
term of service. Membership dues are $29.95 annually for a PointsPlus
membership. The annual membership increased from $19.95 on September 30,
2004.
16
MANAGEMENT'S DISCUSSION & ANALYSIS
- - One-time trading fees ($9.95 per trade) are recognized at the time of the
trade (for non-PointsPlus members). The one time trading fee increased from
$5.95 on September 30, 2004.
- - Non-refundable partner sign-up fees, for which the Corporation is under no
further obligations, are recognized when the program becomes available as
an swap partner on the Points.com Web site.
Points.com Business Solutions:
- - Revenues from the sale of loyalty program points are recorded net of costs.
- - Hosting and management fees are recognized in the period of service.
- - Non-refundable partner sign-up fees with no fixed term, and for which the
Corporation is under no further obligations, are recognized as revenue when
received.
- - Technology design, development and maintenance revenues are recorded on a
"percentage-of-completion" basis.
KEY BUSINESS DRIVERS
Revenue growth has historically been, and will continue to be, generated by
growth of membership in and use of the suite of Points Solutions (i.e.,
Points.com and Points.com Business Solutions).
Growth in the number of individual members using Points.com is driven by three
factors that contribute to increased Web site traffic and the ease with which a
consumer can join Points.com to conduct swap transactions. These factors are Web
site usability and enhancements, marketing (awareness and brand) and partner
activity. For additional information, see "Points.com Growth" on page 19 hereof.
Growth in Points.com Business Solutions will occur from growth of existing
partner relationships, supplemented with new business relationships established
throughout the year. For additional information, see "Points.com Business
Solutions Growth" on page 19 hereof.
While the Corporation has no control over the growth of the loyalty program
industry, management considers it an important factor in the Corporation's
growth prospects. For additional information, see "Growth of Loyalty Program
Industry" on page 22 hereof.
RESULTS OF OPERATIONS - REVENUES
Overview
Revenue for the year ended December 31, 2004 was $7,791,591 representing a
year-over-year increase of 33%. The provision of Points Solutions accounted for
approximately 97% of the revenue (interest income accounted for the remaining
3%). Revenues from operations increased by 37% over 2003 due to growth in Points
Solutions, the MilePoint Acquisition and offset by a weakening U.S. dollar. For
additional information see "Revenue Growth" on page 18. Revenues from interest
and other revenue declined by 35% due to a decrease in interest earned. See
"Other Factors Contributing to Revenue Growth -Interest Income," on page 21 for
additional information.
REVENUES 2004 2003 2002
- -------- ---------- ---------- ----------
Points International Operations $7,560,012 $5,502,744 $2,308,846
Interest and other revenue 231,579 355,960 59,446
---------- ---------- ----------
TOTAL REVENUE $7,791,591 $5,858,704 $2,368,292
========== ========== ==========
17
MANAGEMENT'S DISCUSSION & ANALYSIS
A substantial portion of the Corporation's revenue is generated through the
provision of Points.com Business Solutions for loyalty programs by way of fees
for technology services and transaction fees or commissions paid to Points
International by the operators of the loyalty programs.
The Corporation earns revenue from Points.com in three principal ways. First,
Points International charges a commission on all swaps, based on a value of the
loyalty currency tendered for swap by the loyalty program member. Through the
Swap model, the participating loyalty program sets a value on the currency
tendered for "sale". Based on this valuation, a percentage is remitted to Points
International and the remaining balance is used to purchase the currency of
another participating loyalty program. Second, loyalty program members pay
Points International either a fee for each Swap transaction at Points.com or an
annual fee for a membership that includes unlimited Swap transactions. Finally,
the Corporation may earn a non-refundable partner sign-up fee when a partner
joins Points.com.
Approximately 54% of the Corporation's revenues are from its three largest
customers (the two largest customers represented 43% of revenues). In 2003, two
customers represented 61% of the Corporation's revenues. In addition, 61% (2003
- - 58%) of the Corporation's deposits are due to these three customers. As
additional partner relationships are established and revenues grow, management
expects the economic dependence on any specific customer to be reduced.
In 2004, approximately 95% of the Corporation's revenues were recurring revenues
(e.g., revenues from monthly management fees, membership fees and transaction
fees) and 5% were from non-recurring sources (e.g., one-time Web development and
integration fees). In 2004, recurring revenues grew by 58% year-over-year, and
non-recurring revenues shrank by 67%. Management of the Corporation believes
that, in the long term, focusing on growing recurring revenues, which generate
revenues for both the partners and Points.com, is in the best interests of the
Corporation.
REVENUES 2004 2003 2002
- -------- ---------- ---------- ----------
Recurring revenues $7,400,243 $4,686,614 $1,868,631
Non-recurring revenues 391,348 1,172,090 499,661
---------- ---------- ----------
TOTAL REVENUE $7,791,591 $5,858,704 $2,368,292
========== ========== ==========
Management recognizes that the Corporation must eventually achieve profitability
through revenue growth and cost management. As significant resources have and
will be allocated to the launch of Points.com version 3.0, management now
expects that Points International's revenues will exceed its general and
administrative costs in 2006.
Revenue Growth
Revenue growth has historically been, and will continue to be, generated by
growth of membership in and use of the suite of Points Solutions products.
Growth in product usage will occur from the growth of existing relationships,
supplemented with new business relationships established throughout the year.
Management expects the existing contracts to continue to generate growing
revenues and, based on continuing business development efforts, is optimistic
about new revenue sources in future quarters.
Growth in Use of the Points Solutions
The suite of Points Solutions experiences revenue growth based on the number of
loyalty program partners and consumer members who participate in the various
programs.
18
MANAGEMENT'S DISCUSSION & ANALYSIS
Partner Summary - Total Number of Partners (1)
NUMBER OF PARTNERS AS AT 2004 2003 2002
- ------------------------ ----- ----- ----
Points.com 45 35 25
Points.com Business Solutions (2) 21 12 6
Cumulative Points Transacted (000,000's) 7,944 3,027 873
NOTES: (1) Partners may be included in both Points.com Business Solutions and
Points.com.
(2) Includes seven additional partners acquired in the MilePoint
Acquisition as at March 31, 2004.
Points.com Growth
The current Points.com business model is dependent on the number of consumer
members paying for a Points.com PointsPlus membership and/or completing a Swap
transaction. The number of consumers that will conduct a transaction is driven
by three factors: Web site usability and enhancements; marketing (awareness and
brand); and partner activity. As the Corporation is preparing to launch the
updated version of the Web site, Points.com version 3.0, there have been only
moderate changes in the usability and marketing of the existing Web site in the
past two quarters. However, progress has continued in expanding and improving
Points.com's partner mix. The number of loyalty program partners added and their
industry mix are two important elements in the growth of Points.com because they
directly impact the consumer's value proposition. Said differently, the more
loyalty programs that a consumer participates in that are also Points.com
partners, the greater the opportunity for that consumer to maximize the value of
his or her collective loyalty programs. The number of loyalty programs
participating on Points.com has increased by 29% since December 31, 2003 and 80%
since December 31, 2002. See page 18, "Growth in Use of Points Solutions" for a
summary of growth in the number of partners. Management expects to continue to
round out the partner industry mix and add new partners in 2005.
Management believes that the development and launch of Points.com version 3.0
will add a number of new features and improved functionality to the Web site.
This functionality will incorporate new revenue streams into the Points.com
business model by improving consumers' ability to manage and derive value from
their loyalty program universe. The launch of Points.com version 3.0 is also an
opportunity for the Corporation to begin to market and merchandise to its
consumer base. Marketing programs are expected to begin testing in the second
quarter of 2005 and ramp up during the course of the third and fourth quarters.
Points.com Business Solutions Growth
The Points.com Business Solutions have been designed with each partner's look
and branding. As a result, the Corporation has little impact on driving traffic
and transactions through its partners' Web sites. However, Points International
has seen continuous growth in the products since each launch. Management expects
this trend to continue for new and existing Points.com Business Solutions.
POINTS.COM BUSINESS SOLUTIONS
METRICS AS AT 2004 2003 2002
- ----------------------------- ---- ---- ----
Total Unique Partners (1) 21 12 6
Total Points.com Business
Solutions (2) 55 30 17
NOTES: (1) Includes seven additional partners acquired in the MilePoint
Acquisition as at March 31, 2004.
(2) Includes 17 additional products acquired in the MilePoint Acquisition
as at March 31, 2004.
19
MANAGEMENT'S DISCUSSION & ANALYSIS
POINTS.COM BUSINESS SOLUTIONS (1)(2)
NUMBER OF PRODUCTS AS AT 2004 2003 2002
- ------------------------------------ ---- ---- ----
Buy 16 9 6
Gift 16 8 6
Transfer 5 2 1
Corporate 8 4 2
Elite 2 2 1
Systems Design 4 2 0
Integrate (3)(4) 4 3 1
--- --- ---
TOTAL POINTS.COM BUSINESS SOLUTIONS 55 30 17
=== === ===
NOTES: (1) Includes products sold to new and existing customers.
(2) Includes 17 additional products acquired in the MilePoint Acquisition
as at March 31, 2004.
(3) Each Integrate partner will have third parties integrated into its
technology platform.
(4) There are 24 existing partner integration add-ons among the four
Integrate partners as at Dec. 31, 2004.
Sources of Revenue Growth
Approximately 97% of the Corporation's revenue in 2004 (94% in 2003) is
generated through its Points Solutions, which have two primary sources for
growth: growth and increased use of existing contracted Points Solutions; and
the development of new contracted Points Solutions. The remaining 3% of revenues
is interest income.
PERCENTAGE OF REVENUES BY SOURCE 2004 2003 2002
- -------------------------------- ---- ---- ----
Existing Points Solutions
(including growth of existing
solutions) 70% 66% 63%
New contracted Points Solutions
with new and existing partners (1) 30% 34% 37%
NOTE: (1) Includes 17 additional products acquired in the MilePoint Acquisition
as at March 31, 2004.
Existing Points Solutions
The large majority of existing products that Points International operates,
including those on behalf of partner loyalty programs, continue to grow through
increased consumer awareness, consumer adoption and loyalty program growth. As
Points International earns transaction fees or commissions on the majority of
these products and as the products continue to grow, the Corporation expects to
continue to derive significant revenues from its existing products.
Revenues from existing Points Solutions grew by 45% from $3.63 million in 2003
to $5.26 million in 2004 (i.e., 70% of the total Points Solutions revenue).
Management expects this trend to continue as the base of existing products
continues to grow.
New Contracted Points Solutions
Selling additional Points Solutions is an important source of new revenue. New
Points Solutions sold to loyalty program partners grow the base of products
being managed and therefore the existing revenue base and, in the case of sales
to new loyalty program partners, provide an opportunity to place additional
Points Solutions with the same partner. Revenues from new Points Solutions
during the year grew from $1.87 million in 2003 to $2.30 million in 2004.
Points International has grown the number of products placed with partners from
30 to 55 as at December 31, 2004 from December 31, 2003. In addition, 24
third-party integrations have been implemented with four Integrate partners.
Management believes that the suite of Points Solutions is applicable to all
large loyalty program partners and will continue
20
MANAGEMENT'S DISCUSSION & ANALYSIS
to focus business development resources on both the sale of new products to
current partners and on sales to new partners. Management is continuing to focus
on expanding the Points.com partnership base in 2005 across various loyalty
markets. In particular, Points International will continue to focus on new
partnerships in the financial services, airline, hotel, retail, car rental, and
online categories throughout 2005.
Projected revenues for 2005 attributed to the deployment of new Points Solutions
are more difficult to project than growth in existing Points Solutions. Future
revenue growth is still substantially dependent on generating new contracts for
the suite of Points Solutions products. While management expects continued
business development success, there is no certainty that Points.com will
continue with its past success of acquiring new contracts with new or existing
partners.
Other Factors Contributing to Revenue Growth
In addition to the sources of revenue and growth described above, three other
factors contribute to the Corporation's financial performance: interest income,
fluctuations in foreign exchange rates and the growth of the loyalty program
industry.
Interest Income
The Corporation earned interest income of $231,579 for the 2004 fiscal year,
compared with $355,960 in 2003. The decrease in interest income year over year
is largely a function of reduced cash reserves, the strengthening U.S./Canadian
foreign exchange rate, the shorter duration of the investment portfolio and the
subsequently lower average yield of the investments. Management expects the
interest income to continue to decline in the short term as cash reserves are
reduced as a consequence of the MilePoint Acquisition and growth of its
operations. Interest income is a function of the Corporation's cash balances and
the prevailing interest rates. Canadian cash reserves are invested in a
combination of short-term liquid assets and short-term bonds. The bond and money
market portfolio has a duration of less than two years. Foreign currency
continues to be invested in short-term and money market instruments. Points
International cash and short-term investments are valued quarterly at the lower
of cost and market value. In the long term, as Points International business
continues to grow, cash reserves and related interest income are also expected
to increase, although this growth is not expected to be a material portion of
the Corporation's revenue going forward. Interest rates will continue to
influence interest earnings. The Corporation's bond portfolio is exposed to
financial risk that arises from the credit quality of the underlying bond
issuers. The Corporation seeks to mitigate the credit risk by diversifying its
bond holdings and only investing in securities with a credit rating of "A" or
higher. A summary of the Corporation's investments is as follows:
AS AT DEC. 31,2004 YIELD % (2) CREDIT RATING C$ TOTAL US$ DENOMINATED OTHER DENOMINATED
- ----------------------- ----------- ------------- ----------- --------------- -----------------
Cash held at bank (1) 1. 01 n/a $13,209,873 $8,534,329 E1,113,558
GBP 318,990
CHF 12,029
Money market securities 2. 28 R1-High 544,945 n/a n/a
Bonds (3) 3. 11 A-AAA n/a n/a
TOTAL $13,754,818 $8,534,329
NOTES: (1) C$ Total represents total cash held at bank inclusive of all
denominations; US$ Denominated and Other Denominated currencies are
a subset of the C$ Total and are represented in their local currency
amount.
(2) Yield as at December 31, 2004.
(3) Bond yield is calculated as the simple average of the portfolio's
semi-annual yield to maturity.
21
MANAGEMENT'S DISCUSSION & ANALYSIS
Foreign Exchange Rates
The translation of the Corporation's revenues and expenses is, and will continue
to be, sensitive to changes in the U.S./Canadian foreign exchange rates ("FX
Rates"). Changes to FX Rates will have greater impact on the Corporation's
revenues than on its expenses as approximately 92% of the Corporation's revenues
are in U.S. dollars and the remaining 8% are split between Canadian dollars,
Euros, British Pounds and Swiss Francs. Management expects that the percentage
of U.S. dollar-based revenues will not decrease significantly in 2005.
Approximately 69% of the Corporation's general and administrative expenses were
in Canadian dollars, 28% were U.S. dollar-based and 3% were based in other
foreign currencies. The Corporation does not have material foreign exchange risk
with its cash expenses as it has sufficient foreign currency reserves to meet
its foreign obligations.
The average FX Rate (the 12-month average rate) with which revenues and expenses
are translated into Canadian dollars has declined relative to the fiscal year
2003. The FX rate differential was negative and resulted in 11% lower revenue
growth, or approximately $905,500, offset by a 3.5% decrease in expense growth,
or approximately $426,000.
U.S./CANADIAN FX RATES 2004 2003 2002
- ---------------------- ----- ----- -----
Period Start 1,297 1.573 1.592
Period End 1,205 1.295 1.577
Twelve Month Average 1,299 1.460 1.570
Growth of Loyalty Program Industry
The Economist reported on the growing importance of loyalty programs in an
article from its May 2, 2002 issue, entitled "Fly me to the moon", noting that
on an annual basis, airlines sold "roughly US$10 billion worth of miles to
partners, such as credit card firms". In another article (entitled
"Frequent-flyer economics", from the same issue), The Economist reported that
"frequent-flyer miles started as a marketing gimmick, but they have become a
lucrative business", and that "roughly half of all miles are now earned on the
ground, not in the air". In an updated article, dated January 6, 2005, and
titled "In Terminal Decline, The dollar has already been toppled as the world's
leading currency", The Economist reported that by the end of 2004, "the
world-wide stock of unredeemed frequent-flyer miles is almost 14 trillion miles
.... and the total global stock of frequent-flyer miles is worth over US$700
billion".
Management understands that members of loyalty programs are much more likely to
utilize Points.com and the other products from the suite of Points Solutions
when they are close to a level at which they can redeem an award. The redemption
level for an award varies by type of award (for example, a business-class flight
takes more miles than an economy-class flight) and by program type (the "cost"
of a flight typically starts between 15,000 and 25,000 miles whereas a night in
a hotel starts at 10,000 points). Therefore, growth in consumer loyalty program
account balances will create demand for Points Solutions. Growth in program
balances is a function of growth in the number of programs, the number of
participating consumers and the number of consumers moving through a loyalty
redemption (for example, receiving an award of some type).
Several respected periodicals estimate strong growth in the popularity of and
participation in loyalty programs. For example, in addition to The Economist,
cited above, according to the "frequent-flyer facts" section of the Web site of
InsideFlyer magazine (www.webflyer.com), a leading publication for members of
frequent traveler programs:
loyalty programs grow at a rate of 11% per annum, with over 120 million
members worldwide. While there are about 92 frequent-flyer/guest programs
in the world, American AAdvantage, the largest frequent-flyer program in
the world, began with 283,000 members in 1981 and has grown to more than 45
million members. [sic]
22
MANAGEMENT'S DISCUSSION & ANALYSIS
RESULTS OF OPERATIONS - GENERAL AND ADMINISTRATIVE EXPENSES
General and Administrative Expenses
General and administrative expenses increased by 52% relative to 2003. Material
changes in expenses will be described in each section below.
GENERAL AND ADMINISTRATIVE EXPENSES 2004 2003 2002
- ----------------------------------- ----------- ---------- ----------
Employment Costs (1) $ 7,119,165 $5,186,899 $4,004,093
Technology Services (2) 931,804 803,222 1,042,427
Marketing and Communications 1,503,381 386,512 120,861
Sales Commission and Related Expenses 418,508 238,730 59,138
Other (3) 2,257,795 1,414,108 1,714,550
TOTAL $12,230,652 $8,029,471 $6,941,069
NOTES: (1) Wages and employment costs include salaries, employee stock option
expense, contract labour charges, recruiting, benefits and
government charges (CPP and EI).
(2) Technology expenses include online hosting and managed services,
equipment rental, software licenses and capital lease expenses.
(3) Other expenses include foreign exchange losses (or gains), travel
expenses, professional fees, insurance, office rent and expenses and
regulatory expenses.
As the Corporation is still in the process of increasing loyalty program
participation in and sales of the Points Solutions, significant resources
continue to be required. While management has made controlling costs a priority,
costs and/or capital expenditures will continue to increase in 2005. Management
expects the general and administrative expenses in 2005 to be higher than in
2004. The Corporation will continue to scale its infrastructure, add new
partners to its suite of products and move from trial/test marketing to a more
comprehensive marketing and branding program.
The Corporation still expects that a series of significant marketing and
branding programs will begin in mid 2005 to support the launch of Points.com
version 3.0. The actual expense incurred will be a function of the types of
marketing media employed and incentives offered, as well as the timing of the
programs' launch dates. If actual revenue growth projected from the marketing
plan does not meet expectations, the expenditures can either be reduced or
reallocated to more successful programs.
Employment Costs
Employment costs increased by 37% in 2004 versus 2003. A large portion of the
increase in 2004 (19%) is from a change in accounting policy resulting in
$362,343 of expenses relating to employee stock options. Effective January 1,
2004, the CICA handbook, Section 3870 "Stock-Based Compensation and Other
Stock-Based Payments" was amended to require expense treatment of all
stock-based compensation and payments for options granted beginning on or after
January 1, 2002. For stock-based compensation issued to employees, the
Corporation recognizes an expense. The Corporation accounts for its grants in
accordance with the fair value based method of accounting for stock-based
compensation. As permitted by this standard, this change in accounting policy
has been applied retroactively without restatement of the prior years' financial
statements; amounts charged to opening retained earnings for costs relating to
2002 and 2003 are $63,148 and $126,206, respectively.
2004 2003 2002
-------- -------- -------
Employee Stock Option Expense $362,343 $126,206(1) $63,148(1)
NOTE: (1) 2002 and 2003 Employee Stock Option Expense represents the pro-forma
impact to the general and administrative expenses.
23
MANAGEMENT'S DISCUSSION & ANALYSIS
As at December 31, 2004, the Corporation had 79 full-time employees (including
three contractors replacing employees on temporary leaves of absence) and three
short-term contractors.
HEADCOUNT(1) BY DEPARTMENT AS AT 2004 2003 2002
- -------------------------------- ---- ---- ----
Technology 43 41 26
Finance and Administration 13 10 2
Business Development 8 8 7
Marketing and Customer Service 15 5 2
--- --- ---
TOTAL (2) 79 64 37
=== === ===
NOTES: (1) Headcount includes active employees and contractors covering a
leave of absence for full-time positions within the departments.
(2) In addition to the full-time positions employed, the Corporation
had three short-term contractors on staff at December 31, 2004.
During 2004, 15 employees joined the Corporation. Twelve of the 15 new hires,
and several existing employees, are directly dedicated to the Points.com version
3.0 technology development and ongoing maintenance. Employment costs increased
as a result of a 42% increase in average number of employees in 2004 (72 versus
51 in 2003).
Total employment costs in 2005 will grow as the Corporation maintains its
existing employee base throughout the year. The Corporation expects there will
be minimal growth in headcount throughout 2005.
Technology Services
Technology Services expenses increase in increments based on business growth and
product performance. As Technology Services costs are a function of the number
of partners and Points Solutions products, these costs grow as revenue grows. In
general, as loyalty program partners and products are added to the
infrastructure and transactional volume increases, additional servers,
processors, bandwidth, memory, etc., are required to provide a secure and robust
production environment. The year 2004 saw an increase of $128,581 (16%) as
additional services were required for new products associated with the MilePoint
Acquisition and the expansion of other Points Solutions. Management expects
these costs to grow marginally in 2005 with the continued expansion of Points
Solutions. Products launched and loyalty program partners acquired are the key
drivers of Technology Services expenses.
Marketing and Communications
Marketing costs increased by $1,116,869 (289%) relative to 2003 as more
promotions were in the market during the year. New marketing initiatives were
launched in the latter half of the second quarter and ramped up in the third and
fourth quarters to begin testing and refining the sensitivities of customer
click-through rates, the cost to acquire registered users and the cost to
convert registered users to paid members at Points.com. The major drivers of
this increase are an increase in the use of promotional and bonus miles for paid
memberships, promotional miles to generate transactional activity, public
relations expenditures, and increased partner marketing initiatives to test and
measure marketing responsiveness.
The Corporation expects to increase its marketing expenditures at the beginning
of the second quarter in 2005, to support the launch of Points.com version 3.0.
The marketing and branding foundation built in 2004 has made it possible to
expand audience reach and effectively execute large-scale, multi-channel
promotions. Advertising expenditures will continue to be focused on partner
media, as well as online media. This approach dovetails with business
development strategies and is the most cost-effective means of reaching the
Corporation's target audience. It is anticipated that marketing and
communication expenses could increase substantially if the programs are
successful at customer acquisition and retention. If the programs do not meet
management's expectations in driving revenue growth, marketing expenses can be
eliminated or reallocated in the short term.
24
MANAGEMENT'S DISCUSSION & ANALYSIS
Management expects that the results of the carefully planned marketing strategy
will accelerate Points.com activity.
Sales Commissions and Expenses
Sales commissions and expenses have increased by $179,778 (75%) over 2003. Sales
commissions will continue to vary according to partners contracted and the
growth of existing products. The increase in 2004 relates primarily to the
additional products acquired through the MilePoint Acquisition and growth in
existing Points Solutions.
Other Operating Expenses
Other operating expenses include office overhead, travel expenses, professional
fees and foreign exchange gain and/or loss. Other operating expenses increased
by $843,687 (60%) in 2004 relative to 2003. Approximately 5% of the increase
relates to the foreign exchange loss from re-valuing certain balance sheet
accounts (e.g., U.S. dollar-denominated cash and U.S. dollar-denominated
deposits). Each quarter, certain balance sheet accounts are re-valued in
accordance with the period-ending FX Rate. To the extent that the foreign
denominated assets and liabilities are not equal, the net effect after
translating the balance sheet accounts at the period-ending FX Rate is accounted
for as a foreign exchange gain or loss on the income statement. Management has
no control over the foreign exchange gain or loss from one period to the next.
Excluding the foreign exchange gain and loss, other operating expenses increased
by almost $750,000 compared to 2003. The following items represent the major
variances: relocation to larger facilities resulted in $255,000 in additional
rent and other related expenses; legal and securities fees associated with the
move from the TSX Venture Exchange to the TSX amounted to approximately $150,000
in additional expenses; legal fees associated with international contracts
amounted to $150,000; and other expenses related to an increase in employees
were $165,000 of the increase. Management expects other operating expenses
(excluding foreign exchange gain and loss) to remain stable in 2005.
OTHER OPERATING EXPENSES 2004 2003 2002
- ------------------------ ---------- ---------- ----------
Foreign Exchange Gain/Loss (1) $ 74,901 $ 30,216 $ 25,450
Other Operating Expenses 2,182,894 1,383,892 1,689,100
---------- ---------- ----------
TOTAL $2,257,795 $1,414,108 $1,714,550
========== ========== ==========
NOTE: (1) See definition on page 25, "Other Operating Expenses."
RESULTS OF OPERATIONS - NON-CASH EXPENSES
Forward-looking statements contained in this section with respect to future
expenses of the Corporation are not guarantees of such future expenses and
involve certain risks and uncertainties that are difficult to predict. Any
changes in the Corporation's amortizing assets will subsequently change the
Corporation's amortizing expenses.
Amortization Expenses
The Corporation recorded amortization expenses of $2,322,749 in 2004 compared to
$2,877,321 for the year ending December 31, 2003. The decrease was attributed to
the charges outlined in the following table:
AMORTIZATION EXPENSES 2004 2003 2002
- --------------------- ---------- ---------- ----------
Deferred Costs $ 601,319 $ 531,914 $ 328,760
Intangible Assets 1,408,813 756,201 567,150
Property, Plant and Equipment 312,617 1,589,206 1,512,890
---------- ---------- ----------
TOTAL $2,322,749 $2,877,321 $2,408,800
========== ========== ==========
25
MANAGEMENT'S DISCUSSION & ANALYSIS
Amortization of Deferred Costs
DEFERRED COSTS 2004 2003 2002
- -------------- -------- -------- --------
Amortization $601,319 $531,914 $328,760
Charges incurred in respect of certain financings are deferred and charged to
income on a straight-line basis over an applicable time period. Deferred finance
charges represent legal, accounting and other related fees incurred to obtain
the financings. Points International has incurred deferred costs in connection
with the following financial transactions:
a. In prior quarters, Points International reported deferred financing charges
in connection with the 11% $6,000,000 senior secured convertible debenture
(the "Debenture") issued to CIBC Capital Partners. The first quarter of
2004 was the final amortization period for the deferred costs associated
with the Debenture.
b. The Corporation reports deferred financing charges in connection with the
Series Two Preferred Share issued pursuant to the IAC Investment, as this
financial instrument is also classified as debt. The Series Two Preferred
Share has 33 amortization quarters remaining.
c. In consideration of the value to the Corporation of the Alignment Agreement
with American Airlines, the Corporation issued 2,196,635 Common Shares to
American Airlines valued at $2,240,568. The Common Shares have been
classified as deferred costs and will be amortized over a five-year period.
There are 15 amortization quarters remaining.
d. Selected Points.com Business Solutions technology costs incurred ($123,390)
have been deferred over the expected lifetime of certain partner
relationships. The two relationships have eight and nine amortization
quarters remaining.
Amortization of Intangible Assets
The excess of the cost over the value attributed to the underlying net assets of
the shares of Points.com acquired in 2002 is amortized on a straight-line basis
over a period of three years. The increase in the amortization expense of
intangible assets which started in the second quarter is related to the
intangible assets (i.e., partner contracts) acquired through the MilePoint
Acquisition (see "Commitments Related to MilePoint Acquisition" on page 34 for
additional information). Goodwill related to the acquisition will not be
amortized. If the assets are deemed to have become impaired, the goodwill will
be written off in the appropriate period.
INTANGIBLE ASSETS 2004 2003 2002
- ----------------- ---------- -------- --------
Amortization $1,408,813 $756,201 $567,150
Amortization of Property, Plant and Equipment
The decrease in the amortization expenses in 2004 reflects the fact that certain
assets have been amortized to a zero cost base.
PROPERTY, PLANT AND EQUIPMENT 2004 2003 2002
- ----------------------------- -------- ---------- ----------
Amortization $312,617 $1,589,206 $1,512,890
26
MANAGEMENT'S DISCUSSION & ANALYSIS
Other Non-Cash Expenses
Interest on Convertible Debenture
Accrued interest on any principal amount of the Debenture that is converted into
Common Shares ceases to be payable. In addition, in the event that an exercise
of the Warrants (as defined in "IAC Investment" on page 28 herein) results in a
change of control of Points International, accrued interest on the Debenture
will be waived and the principal amount of the Debenture will be repayable
within 30 days. See "Commitments Related to the Terms of Certain Financing
Arrangements" on page 32 herein.
INTEREST ON CONVERTIBLE DEBENTURE 2008 2007 2006 2005 2004 2003 2002 2001
- --------------------------------- ------ ------ ------ ----- ----- ----- ----- -----
Accrued Interest ($000's) 257 1,209 1,089 981 884 854 660 522
Debenture Value ($000's) 12,456 12,200 10,990 9,902 8,920 8,036 7,183 6,522
Interest on the outstanding principal amount of the Debenture accrues at a rate
of 11% per annum. Interest compounds on an annual basis on the day immediately
prior to each anniversary of the original issue date, being March 15, 2001.
Thereafter, interest accrues on such compounds at the rate of 11% per annum.
Interest on the Series Two Preferred Share
INTEREST ON SERIES TWO
PREFERRED SHARE 2013 2012 2011 2010 2009 2008 2007 2006 2005 2004 2003
- ---------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Accrued Interest ($000's) 244 868 868 868 868 868 868 868 868 868 624
Series Two Preferred Share
Value ($000,000's) 21.1 20.8 19.9 19.1 18.2 17.3 16.5 15.6 14.7 13.9 13.0
RESULTS OF OPERATIONS - EARNINGS AND SHAREHOLDER EQUITY
Loss
The Corporation reported a net loss of $8,808,284 for the fiscal year 2004,
compared with a net loss of $6,536,191 for the fiscal year 2003.
Shareholder Equity
The deficit in shareholder equity increased from $5,222,809 at December 31, 2003
to $8,935,826 at December 31, 2004. The increase was a result of the net loss
for the period of $8,808,284, offset by an increase in capital stock issued
during 2004.
Loss Per Share
The Corporation's loss per share is calculated on the basis of the weighted
average number of outstanding Common Shares for the period, which amounted to
67,744,345 shares at December 31, 2004, compared with 58,823,652 shares at
December 31, 2003.
The Corporation reported a net loss of $0.13 per share for the year ending
December 31, 2004, compared with a net loss of $0.11 per share for the year
ending December 31, 2003. For 2004 and 2003, the impact on the loss per share of
the fully diluted shares outstanding has not been computed as the effect would
be anti-dilutive (meaning that the loss per share would decrease on a fully
diluted basis). Therefore, in accordance with GAAP, fully diluted loss per share
is not provided. The fully diluted calculation for both 2004 and 2003 would have
otherwise included Common Shares underlying outstanding securities, such as
options, warrants and preferred shares convertible or exercisable to acquire
Common Shares.
27
MANAGEMENT'S DISCUSSION & ANALYSIS
LIQUIDITY
Overview of Liquidity
Management views liquidity as the Corporation's ability to generate sufficient
cash (or cash equivalents) to meet its obligations as they become due. Balance
sheet liquidity indicators provide management with a test of the Corporation's
current liquidity. Balance sheet indicators of liquidity include cash, accounts
receivable and accounts payable. Earnings (loss) before interest, amortization
and other deductions ("EBITDA") are the key indicators of the change in the
liquidity of Points International operations over a defined period of time. As
the Corporation continues to add contracts to its portfolio of Points.com
Business Solutions and to Points.com, revenues are expected to grow, resulting
in increased liquidity.
EBITDA
Management believes that EBITDA is an important internal measure and financial
benchmark for its shareholders because it is a recognizable and understandable
measure of the Corporation's cash burn or growth, and is a standard often
scrutinized by investors in small to mid-capitalization companies. For example,
the Corporation has incurred large non-cash expenses (depreciation and
amortization) over the past several fiscal years that distort the financial and
strategic gains the Corporation has made. Primarily as a result of the
Points.com version 3.0 related expenditures, including those costs that are not
capitalized, management expects that the Corporation's revenues will exceed its
general and administrative costs in 2006.
For the year ending December 31, 2004, the Corporation's EBITDA was
($4,439,061). This compares with EBITDA of ($2,170,767) for the year ending
December 31, 2003.
IAC Investment
The following is a general summary of the terms of the IAC Investment. More
comprehensive disclosure of the IAC Investment is contained in Points
International's Material Change Report dated March 21, 2003, which is
incorporated by reference herein. See also "Commitments Related to the Terms of
Certain Financing Arrangements" on page 32 below.
Under the IAC Investment, Points International issued one convertible preferred
share (the "Series Two Preferred Share") and Common Share purchase warrants (the
"Warrants") for aggregate cash consideration of $12.4 million and $2.7 million,
respectively. Based on the Corporation's capitalization as at the date hereof,
the Series Two Preferred Share is convertible, for no additional consideration,
into 19,999,105 Common Shares. The Warrants are exercisable for three years from
their date of issue (April 11, 2003) to acquire up to 55% of the Common Shares
of Points International (calculated on an adjusted fully diluted basis) less the
number of Common Shares issued or issuable on conversion of the Series Two
Preferred Share. As at the date hereof and based on the Corporation's current
capitalization, the Warrants are exercisable to acquire 83,532,599 Common Shares
at an effective price per Common Share of $1.03 between April 11, 2004 and April
10, 2005 and $1.15 between April 11, 2005 and April 10, 2006 (resulting in an
additional investment by IAC in Points International, if exercised in full and
depending on the year of exercise, of up to approximately $86.2 million or $95.7
million). Each of the Series Two Preferred Share and the Warrants contain
anti-dilution protection provisions.
Cash and Current Assets
The Corporation had consolidated cash and cash equivalents of $13,754,818 at
December 31, 2004, compared to $20,274,836 at December 31, 2003, and $7,341,700
at December 31, 2002.
AS AT DEC. 31, 2004 DEC. 31, 2003 DEC. 31, 2002
- ----- ------------- ------------- -------------
Cash and Cash Equivalents $13,754,818 $20,274,836 $7,341,700
Accounts Receivable 2,024,342 1,004,370 267,632
Prepaids and Sundry Assets 1,229,091 825,221 657,367
----------- ----------- ----------
TOTAL CURRENT ASSETS $17,008,251 $22,104,427 $8,266,699
=========== =========== ==========
28
MANAGEMENT'S DISCUSSION & ANALYSIS
Cash and cash equivalents decreased by $6,520,019 from December 31, 2003. The
primary reasons for the decrease in cash relative to 2003 were related to the
operating loss for the year, expenditures on capitalized costs directly
attributable to Points.com version 3.0, expenditures on capital assets and the
MilePoint Acquisition.
Cash from Exercise of Certain Warrants and Options
Certain "in-the-money" warrants and options are due to expire within 12 months.
Assuming that the market price of the Common Shares remains above the exercise
price of these securities, management expects the securities to be exercised. If
exercised in full, the proceeds from the exercise of these securities would
increase cash by approximately $1.1 million. Assuming the exercise in full of
these securities, issued and outstanding Common Shares would increase by over
8.6 million shares.
Securities with Near-Term Expiry Dates - Outstanding Amounts as at December 31,
2004
SECURITY TYPE EXPIRY DATE NUMBER STRIKE PRICE PROCEEDS
- ------------- ----------- --------- ------------------ ----------
Warrants 7/18/2005 166,667 $0.25 $ 41,667
Points International Ltd. Options 2/14/2005 1,752,000 0.50 876,000
Points International Ltd. Options 3/14/2005 201,400 0.50 100,700
Points International Ltd. Options 8/22/2005 25,000 0.69 17,250
Options in subsidiary with liquidity put 2/17/2005 627,479 Fair Market Value 13,783
Options in subsidiary with liquidity put 3/31/2005 4,500,321 Fair Market Value 72,272
Options in subsidiary with liquidity put (1) 7/9/2005 802,433 Fair Market Value 8,892
Options in subsidiary with liquidity put (1) 8/13/2005 355,803 Fair Market Value 7,816
Options in subsidiary with liquidity put (1) 8/20/2005 200,312 Fair Market Value 4,400
--------- ----------
TOTAL 8,606,415 $1,130,280
========= ==========
NOTE: (1) The Corporation currently intends to seek regulatory and shareholder
approval for a two-year extension of the expiry date of certain
options held in the subsidiary with a liquidity put right.
Subsequent to quarter end, and as at March 8, 2005, the following securities
have been exercised or expired:
SECURITY TYPE EXPIRY DATE NUMBER STRIKE PRICE PROCEEDS
- ------------- ----------- --------- ------------ --------
Points International Ltd. Options - expired 2/14/2005 25,000 $0.50 $ --
Points International Ltd. Options - exercised 2/14/2005 1,727,000 0.50 863,500
Points International Ltd. Options - exercised 3/14/2006 25,000 0.50 12,500
Points International Ltd. Options - exercised 5/7/2006 13,750 0.56 7,700
Points International Ltd. Options - exercised 2/8/2007 3,000 0.27 810
Points International Ltd. Options - exercised 6/26/2007 80,000 0.25 20,000
Options in subsidiary with liquidity put-
exercised (1) 2/17/2005 439,686 0.02 30,283
Points International Ltd. Options -
exercised 3/31/2005 751,170 0.02 16,500
--------- --------
TOTAL 3,064,606 $951,293
========= ========
NOTE: (1) Excludes a conditional exercise of 1,050,684 options to acquire shares
in Points.com Inc. which have been conditionally exchanged for
2,630,808 shares of the Corporation. The exercise is conditional on
the Corporation not receiving shareholder and regulatory approval to
extend the expiry dates of the options (see "PCI Option Resolution",
in the Corporation's Management Information Circular for additional
information).
29
MANAGEMENT'S DISCUSSION & ANALYSIS
Accounts Receivable
The Corporation expects accounts receivable to grow proportionately with growth
in revenues; however there is some variability in this trend. Management deems
the risk of bad debts to be minimal based on the structure and nature of the
Corporation's cash flows.
Ability to Fund Future Growth
In 2004, the Corporation had cash flows used in operating activities of
($2,352,995) after changes in non-cash balances related to operations.
Management is confident that the Corporation's cash position is adequate to
cover operating expenses in the short term, even if revenue growth is slower
than planned, and expects that the revenue from Points Solutions will generate
sufficient cash to maintain capacity in the short term and grow capacity and
resources in the long term. However, the Corporation is currently not generating
an operating profit (revenues minus general and administrative expenses) and
cannot be assured that revenue growth will be sufficient to meet its current
liabilities, including the repayment of the Debenture, as they come due.
See also "Maturity of the CIBC Capital Partners' Debenture" on page 33 for
additional information.
Long-Term Investment
The Corporation's investment in ThinApse Corporation was written off in 2004,
resulting in an expense of $161,629. For more information, refer to Note 5 of
the Corporation's Audited Consolidated Financial Statements for the year ended
December 31, 2004.
Property, Plant and Equipment
The Corporation reported an increase in property, plant and equipment in 2004
due to the capitalized costs of Points.com version 3.0 and an increase in office
computer equipment and leasehold improvements related to the corporate move to
new facilities. Refer to "Planned Capital Expenditures" on page 36 for
additional information. Existing technology costs under capital lease are
depreciated on a straight-line basis over three years. Management continues to
make controlling the Corporation's technology costs a priority and has initiated
a number of prudent cost containment initiatives in 2004.
Additional leasehold improvements at the Corporation's new facility will
increase property, plant and equipment and the corresponding amortization in
2004 and beyond.
AS AT DEC. 31, 2004 DEC. 31, 2003 DEC. 31, 2002
- ----- ------------- ------------- -------------
Furniture and equipment $ 294,615 $124,868 $ 139,523
Computer equipment 308,003 206,494 98,013
Software 70,612 105,762 134,300
Technology costs 10,164 23,782 1,307,260
Points.com Version 3.0 Direct Development Costs 860,286 -- --
Leasehold improvements 515,602 52,817 85,104
---------- -------- ----------
TOTAL PLANT, PROPERTY AND EQUIPMENT $2,056,282 $513,723 $1,764,188
========== ======== ==========
Goodwill and Intangible Assets
The MilePoint Acquisition resulted in $3,740,000 allocated to amortizing
intangible assets and $3,910,000 ($3,710,000 from goodwill and $200,000 for
other costs and deductions) to goodwill. In accordance with CICA handbook,
Section 3062, goodwill will not be expensed unless it is deemed to have become
impaired. In accordance with GAAP, management has
30
MANAGEMENT'S DISCUSSION & ANALYSIS
selected March 31, 2005, as the anniversary date of the transaction and will
therefore test the acquisition goodwill for impairment at that time.
In the year 2004, $584,585 of charges relating to incremental transition
services and additional direct costs related to the MilePoint Acquisition were
incurred and charged to goodwill.
Current Liabilities
Current liabilities at December 31, 2004 were $24,775,900, compared with
$11,643,244 at December 31, 2003. The increase was primarily related to the
reclassification of the Debenture from long-term liabilities to current
liabilities, the increase in deposits and accounts payable related to the growth
in the operations, and the liability relating to the MilePoint Acquisition. See
page 33, "Maturity of the CIBC Capital Partners' Debenture" for additional
information regarding the solvency risks associated with repayment.
Through arrangements with partner loyalty programs such as those for Buy and
Corporate products, the Corporation processes transactions involving the online
sale of loyalty currencies and collects the funds on behalf of the loyalty
program partner. Gross proceeds received on the sale of loyalty program points,
net of the commissions earned, are included in deposits and deferred revenue in
the attached consolidated balance sheets until ultimately remitted. The level of
deposits is influenced by partner activity and trends in the overall loyalty
industry. As activity increases, the Corporation's deposits increase. The
Corporation expects deposits to increase as it experiences growth with existing
partners, establishes new partner relationships and integrates the assets from
the MilePoint Acquisition. The three key customers, measured by revenue,
represented approximately 61% (December 31, 2003 - 58%) of the Corporation's
deposits.
CURRENT LIABILITIES AS AT DEC. 31, 2004 DEC. 31, 2003 DEC. 31, 2002
- ------------------------- ------------- ------------- -------------
Accounts payable and accrued liabilities $ 1,894,599 $ 1,187,598 $ 1,017,955
Deposits 13,153,623 10,455,646 8,946,631
Current portion of obligation under capital lease 407,128
Current portion of loan payable 29,860
Current portion of acquisition loan payable 777,443
Debenture 8,920,373
----------- ----------- -----------
TOTAL CURRENT LIABILITIES $24,755,900 $11,643,244 $10,371,715
=========== =========== ===========
The December 31, 2004 accounts payable and accrued liabilities include 2004
employee bonus accruals to be paid in March 2005, and other accrued charges. The
Corporation has sufficient foreign currency reserves to meet its foreign
currency obligations and, as such, does not utilize any hedging or other
strategies involving interest rate or currency derivatives.
Working Capital
Working capital (defined as current assets minus current liabilities) has
declined from $10,461,182 in 2003 to ($7,767,648). See pages 28 through 31 for
additional information regarding the Corporation's current assets and current
liabilities. As the Corporation increases the rate of expenditures to
successfully launch Points.com version 3.0, it is highly likely that working
capital will remain negative in 2005. The Corporation believes that it can fund
its operations while it is in a negative working capital position in 2005.
Management expects that, through growth of its products, working capital will
improve in 2006. See page 8 "Risk Factors" of the Corporation's AIF, for
additional information.
31
MANAGEMENT'S DISCUSSION & ANALYSIS
Long-Term Liabilities and Commitments
PAYMENTS DUE BY PERIOD
(AGGREGATE AMOUNT FOR MULTI-PERIODS)
----------------------------------------------------
FUTURE OBLIGATIONS (000,000'S) TOTAL (1) 2009+ 2008 2007 2006 2005
- ------------------------------ --------- ------ ------ ----- ----- ------
Long-Term Debt (2)
(non-cash until repayment) $ 9.41 $ -- $ -- $ -- $ -- $ 9.41
Series Two Preferred Share
(non-cash until repayment) 21.08 16.12 0.87 0.87 0.87 0.87
Loan Payable 0.11 -- 0.01 0.03 0.03 0.03
Operating Leases (3) 1.61 0.01 0.10 0.36 0.39 0.75
Partner Purchase Commitments (4) 4.16 0.33 0.43 1.36 1.08 0.96
MilePoint Acquisition (5) 1.48 -- -- -- 0.40 1.08
------ ------ ----- ----- ----- ------
TOTAL CONTRACTUAL OBLIGATIONS $37.85 $16.46 $1.40 $2.62 $2.77 $13.10
====== ====== ===== ===== ===== ======
NOTES: (1) Represents the aggregate amount for the full duration of the
contractual obligations (including years post 2009 and prior to
2005).
(2) The Debenture is due on July 4, 2005. The holder of the Debenture
has the right to extend the term, in increments, to March 15, 2008.
See page 27 "Interest on Convertible Debenture" for a summary of
payments to be made with respect to the Debenture.
(3) Includes technology services commitments and hardware and software
operating leases.
(4) Includes mileage purchase and co-marketing commitments, see page 34
"Partner Purchase Commitments."
(5) Cash commitments related to the MilePoint Acquisition include the
payments relating to the acquisition and anticipated transition
costs of $285,000.
Elements of the foregoing table are explained in more detail in the following
sections.
Commitments Related to the Terms of Certain Financing Arrangements
Background
On March 15, 2001, Points International issued to CIBC Capital Partners, a
division of Canadian Imperial Bank of Commerce ("CIBC Capital Partners"), the
11% $6,000,000 Debenture, which was amended and restated on February 8, 2002 and
April 11, 2003 and further amended on December 9, 2004. The full principal
amount of the Debenture was set to mature on March 15, 2004. However, in
December 2004, CIBC Capital Partners exercised its right to extend the maturity
date until July 4, 2005. CIBC Capital Partners has the option, exercisable by
March 31, 2005, to extend the maturity date through March 15, 2006 and
thereafter, has the right to extend the maturity of the Debenture for up to two
additional one-year periods. Accrued interest on the Debenture as of December
31, 2004 is $2,920,373 and is included with the Debenture as a current liability
in the consolidated balance sheet.
In certain circumstances, the $6,000,000 principal amount of the Debenture is
convertible at the option of CIBC Capital Partners into up to 18,908,070 Common
Shares. Accrued interest on any principal amount as converted ceases to be
payable. The Debenture will also automatically convert in full into Common
Shares immediately preceding certain liquidity events. The Debenture contains
certain negative covenants in favour of CIBC Capital Partners.
As part of the reorganization of Points International completed on February 8,
2002, the Corporation issued to CIBC Capital Partners one preference share (the
"Series One Preferred Share"). The holder of the Series One Preference Share is
entitled to a dividend (the "Dividend") in the event that, prior to an automatic
conversion of the Debenture, (i) there is a merger or consolidation of Points
International (or a subsidiary of Points International which owns all or
substantially all of the assets of Points International) with another
corporation where, following such event, the shareholders of Points
International will not hold at least a majority of the voting power of the
surviving/acquiring corporation, (ii) any person (other than CIBC Capital
Partners) or persons acting jointly or in concert acquire 50% voting control or
50% of the equity of Points International
32
MANAGEMENT'S DISCUSSION & ANALYSIS
(a "Change of Control"), or (iii) there is a sale of all or substantially all of
the assets of Points International. The Dividend is approximately equal to
$4,000,000 plus an amount calculated on the basis of a notional dissolution of
the Corporation where the holder of the Series One Preference Share is entitled
to share pro-rata (on the basis that the Series One Preference Share represents
that number of Common Shares into which the Debenture is then convertible) with
the holders of all other participating shares in distributions from the assets
of Points International and assuming, for this purpose, that the value of the
assets of Points International available for distribution on this notional
dissolution is the value attributable to the equity of Points International
implied by the transaction giving rise to the dividend event, as adjusted for
the value of non-Common Share equity not valued in the transaction giving rise
to the Dividend. In no event may the Dividend exceed $24,000,000. Where an event
occurs giving rise to the Dividend, CIBC Capital Partners is entitled to
accelerate all amounts owing under the Debenture.
In connection with the IAC Investment, the Debenture was amended such that (i)
the Debenture is repayable (without accrued interest, the repayment of which is
waived) by Points International within 30 days of a Change of Control of Points
International resulting from the exercise of the Warrants and (ii) the Debenture
is not convertible for so long as the Warrants are outstanding and will not be
convertible after the Warrants are exercised if the Debenture is repaid within
30 days of the Change in Control resulting from the exercise of the Warrants.
Points International and CIBC Capital Partners also acknowledged, in connection
with the IAC Investment, that in the event of the exercise of the Warrants
resulting in a Change of Control, the application of the terms of the Series One
Preference Share in that situation results in the Dividend equalling the lesser
of (i) $24,000,000 and (ii) $4,000,000 plus the number of Common Shares into
which the Debenture is then convertible, multiplied by the exercise price paid
per Common Share on the exercise of the Warrants. Points International has
agreed that, within 30 days of the exercise of the Warrants in full, it will pay
all amounts owing under the Debenture and the Series One Preference Share.
Except in connection with the exercise of the Warrants by IAC, Points
International is not entitled to pre-pay the Debenture.
Subsequent to year end, on January 31, 2005, CIBC Capital Partners waived the
prohibitions on prepayment of the Debenture and acknowledged that Points
International may at any time prepay the principal amount together with all
accrued and unpaid interest and other amounts payable under the Debenture.
Pursuant to this waiver, any prepayment would consist of an amount of cash equal
in value to the unpaid principal amount and an amount in common shares of the
Corporation equal in value to the amount of accrued but unpaid interest. This
waiver is in effect until March 31, 2005.
Maturity of the CIBC Capital Partners' Debenture
When the Debenture matures on July 4, 2005, the Corporation will be required to
repay $6,000,000 of principal and $3,413,118 of accrued interest to CIBC Capital
Partners. The repayment of $9,413,118 of principal and accrued interest will
cause the Corporation to be in a negative working capital position, may
materially threaten its solvency and/or may severely restrict the ability to
grow its business. There is no certainty that the Corporation would have
sufficient cash at such time to make the repayment. However, CIBC Capital
Partners has the option, exercisable prior to March 31, 2005, to extend the
maturity date to March 15, 2006 and thereafter the right to extend the maturity
of the Debenture for up to two additional one-year periods.
Exercise of IAC Warrants
If the Warrants are exercised resulting in a Change of Control prior to the
maturity of the Debenture, as at the date hereof and based on the Corporation's
current share capitalization, the Corporation would receive between $86.2
million and $95.7 million, depending on the year of exercise. On the exercise of
the Warrants resulting in a Change of Control, the Corporation would be required
to repay the $6,000,000 principal amount of the Debenture and pay the Dividend,
which would then be payable on the Series One Preference Share (up to a maximum
of $24,000,000). In this situation, management expects that the Corporation
would have sufficient cash to make such payments.
33
MANAGEMENT'S DISCUSSION & Analysis
Redemption Rights of Series Two Preferred Share Holder
Unless the Series Two Preferred Share has been converted at the option of the
holder, Points International will be required to redeem the Series Two Preferred
Share upon the earlier of (i) March 31, 2013, and (ii) a person (other than the
holder of the Series Two Preferred Share) acquiring shares of Points
International sufficient to elect a majority of the board of directors of Points
International (a "Series Two Share Change of Control").
In the event of redemption of the Series Two Preferred Share on a Series Two
Share Change of Control, the redemption amount payable will be equal to the
greater of (i) 125% of the amount equal to (A) the subscription price of the
Series Two Preferred Share plus (B) a return on that subscription price equal to
7% per annum, calculated from the date of issue of the Series Two Preferred
Share to the date on which the Series Two Preferred Share is redeemed and (ii)
the greater of (A) the value of the Common Shares into which the Series Two
Preferred Share then could be converted on the day immediately prior to public
announcement of the Series Two Share Change of Control and (B) the product of
the Common Shares into which the Series Two Preferred Share then could be
converted and the fair market value of the consideration paid per Common Share
in the transaction resulting in the Series Two Share Change of Control.
Other Change of Control Event
Upon the occurrence of an event that is a Change of Control and a Series Two
Share Change of Control, and is unrelated to the exercise of the Warrants by
IAC, Points International may not have sufficient cash to pay the Dividend, the
amounts due under the Debenture and/or the redemption amount on the Series Two
Preferred Share. As such, it is unlikely that management would consider a
transaction that triggered the above payments unless the transaction provided
for payment of the outstanding obligations.
Partner Purchase Commitments
ASSET RELATED TO MILEAGE PURCHASES AS AT DEC. 31, 2004 DEC. 31, 2003 DEC. 31, 2002
- ---------------------------------------- ------------- ------------- -------------
Prepaid Mileage $ 639,644 $516,651 $313,454
Sundry assets and other prepaid expenses 589,447 308,570 343,913
TOTAL $1,229,091 $825,221 $657,367
As part of the contractual requirements of certain commercial agreements, Points
International has committed to purchase miles and points from partners at
predetermined rates. When purchased, the points are recorded as an asset (i.e.,
prepaid expense) until expensed as marketing expenditures in the period of use.
A large portion of the current prepaids and sundry assets of the Corporation
include prepaid mileage commitments purchased from the Corporation's partners.
While prepaid points may remain the same or lower as an overall percentage of
prepaids and sundry assets, management expects the prepaid points account to
increase as a result of the mileage purchase commitments from various partners.
Commitments Related to MilePoint Acquisition
On March 31, 2004, Points International completed the MilePoint Acquisition. The
purchase price for the assets of MilePoint was $7.5 million and was satisfied
through a combination of $3.5 million in cash ("Acquisition Payable") and four
million Common Shares (worth approximately $4 million at the time of the
transaction). An initial $1.9 million was paid in cash on closing, with the
balance payable semi-annually over two years. The four million shares were
issued into escrow on closing and will be released to MilePoint in four unequal
tranches over two years. To date, professional fees of approximately $420,000
and payments for transition services of $365,515 have been incurred in the
transaction and have been capitalized and allocated to goodwill. A portion of
the Acquisition Payable (short-term and long-term) are interest-free and
discounted at the appropriate
34
MANAGEMENT'S DISCUSSION & Analysis
current market rate. The total discount of $50,000 will be charged to interest
expense over the life of the Acquisition Payable.
Points International business objective in acquiring the assets of MilePoint was
to increase its volume of business at minimal additional costs outside of the
purchase price and transition costs. Management expects that the acquisition
will continue to increase revenues and, including all amortizations, continue to
be accretive to net income through 2005. It is expected that the revenue/cash
flow from the acquired assets will be sufficient to pay the cash portion of the
purchase price over the 24-month period following the acquisition.
Management believes that the Corporation's established facilities and existing
employees, working in conjunction with MilePoint resources retained during the
transition period, will be sufficient to sustain the additional volume of
business from the acquired assets.
The impact of the acquisition to Points International balance sheet in 2004 was
an increase to intangible assets by $3,740,000 and goodwill by $3,910,000. The
amortization of the assets is based on the estimated life of the acquired assets
(i.e., the partner contracts).
The amortization and the balance of the purchased intangible assets are
approximately as follows:
Amount in ($000's) Dec. 31, 2004
- ---------------------------------- -------------
Accumulated Amortization $ 656
Intangible Asset - Closing Balance 3,092
Goodwill 4,495
In addition to the existing revenue streams acquired from MilePoint, offering
Points Solutions to the partners acquired from MilePoint represents a
potentially valuable stream of revenue.
As with any acquisition, the smooth transition into the Corporation's operations
poses challenges. Transition risks include difficulties in integrating
MilePoint's business into the Corporation and the possibility of human resources
capacity limits to launch additional new partners during the transition.
The payment of the purchase price under the terms of the MilePoint Acquisition
is as follows:
Months from Closing
---------------------------------------------------------------
Payout (000's) 0 4 6 12 18 24 Shares Cash
- --------------- ------ ------ ---- ---- ------ ---- ------ ------
Cash $1,900 $ -- $400 $400 $ 400 $400 $3,500
Shares 1,300 700 1,500 500 4,000 4,000
Share Value (1) 1,300 700 1,500 500 4,000 $7,500
TOTAL
Note: (1) Based on the simple 20-day weighted average Common Share price of
$1.00 per share at signing.
In 2004, the Corporation paid $1.9 million on April 1 and $400,000 on October 1
in cash in partial satisfaction of the purchase price for MilePoint's business.
In addition, MilePoint and the Corporation are party to a Transition Services
Agreement ("TSA") whereby MilePoint employees and resources continued to support
the products and partner relationships. Under the TSA, the Corporation has
agreed to reimburse MilePoint for expenses incurred in providing transition
services, to a maximum of US$417,000 (of which $312,819 or US$235,000 has been
paid to date). Points International has also
35
MANAGEMENT'S DISCUSSION & ANALYSIS
entered into a consulting agreement with MilePoint and one of its senior
business development principals. The consultant will be focused on supporting
existing relationships and selling Points Solutions to existing and new
partners.
Management of Points International continues to expect that the cash cost of the
MilePoint Acquisition will largely be recaptured through the new revenue
provided by the purchased assets over the 24-month period following March 31,
2004.
Commitments Related to Lease Financing Arrangements
While the Corporation has completed its capital lease obligations in 2003,
several operating leases for hardware and premises remain outstanding.
In the second quarter, the Corporation signed a 45-month sublease agreement in a
larger facility. In exchange for a 27-month lease extension, the landlord
advanced the Corporation $107,000 for leasehold improvements (see "Loan Payable"
in table below). The Loan Payable is to be repaid over the term of the original
sub-lease. Each payment is approximately $2,600 and there are 38 monthly payment
periods remaining. The Corporation's lease at its former premises expired in
February 2005.
In 2004, the Corporation paid approximately $226,000 for its former office
facilities (approximately 8,050 square feet) and $190,000 for its new office
facilities (approximately 18,000 square feet). Property lease costs are outlined
in the table below. Beginning June 1, 2004, the Corporation was able to complete
a sublet arrangement for a portion of the former premises. The sublet covered
approximately 25% of the cost of the premises and expired in February 2005.
The projected figures do not include leasehold improvement amounts for Points
International's new facilities. Leasehold improvements for the new facilities
are included in 2004 capital expenditures (see "Planned Capital Expenditures"
below). The operating leases primarily relate to specific office technology and
technology service commitments.
ANNUAL AMOUNTS IN ($000'S) 2009 2008 2007 2006 2005
- -------------------------- ---- ---- ---- ---- ----
OPERATING LEASES
Property lease $-- $88 $351 $355 $430
Technology services commitment 11 11 11 33 319
OPERATING LEASES TOTAL 11 $99 $363 $388 $749
LOAN PAYABLE $-- $ 5 $ 30 $ 30 $ 30
CAPITAL RESOURCES
Planned Capital Expenditures
In 2004, the Corporation incurred significant leasehold improvement costs in
connection with its move to new facilities (see table below). The project is
complete and management does not expect to incur any additional material
expenditures related to the leasehold improvements.
DEC. 31, DEC. 31, DEC. 31,
CAPITAL EXPENDITURES AS AT 2004 2003 2002
- -------------------------- ---------- -------- --------
Leasehold Improvements $ 554,843 $ 20,793 $ 1,973
Points.com Version 3.0 Technology 860,286
Computer Hardware, Software and Other 440,048 317,936 43,578
---------- -------- -------
TOTAL $1,855,177 $338,730 $45,551
========== ======== =======
36
MANAGEMENT'S DISCUSSION & ANALYSIS
The Corporation expects to increase its capital expenditures related to computer
software, hardware and other to approximately $1,000,000, with the majority of
the expenses relating to software in support of Points.com version 3.0 and
approximately $250,000 relating to protecting the Corporation's
intellectual/intangible property (filing of patents and trademarks, etc.).
Management believes that the hardware and software capital expenditures are
necessary to keep the development of the Corporation's primary technology assets
in line with industry standards.
The Corporation expects to incur significant capital expenditures related to the
development of Points.com version 3.0. In accordance with CICA handbook,
Sections 3061 and 3062, and GAAP, Web site development costs incurred in the Web
site application and infrastructure development will be capitalized and
subsequently amortized in accordance with the Corporation's accounting policies.
The Corporation will begin amortizing the capital asset when Points.com version
3.0 is launched (expected to be on or around April 2005). Direct new technology
developed subsequent to the launch of Points.com version 3.0 will be capitalized
in accordance with the Corporation's accounting policies. Costs to maintain
Points.com version 3.0 will be expensed in the period the costs are incurred.
Web site development costs incurred to date and capitalized to the Web site
under property, plant and equipment consist of employment related costs of
$728,122 and other direct costs of $132,163.
The capitalized costs in 2005 will likely be greater than the costs incurred in
2004. The expected increase in the capitalized costs will be affected by whether
management decides to contract any of the development to third-parties and by
annualizing the costs of employees hired during the third and fourth quarter.
Estimates are provided for the capitalized expenses for the fiscal year 2005 in
the table below.
WEB SITE DEVELOPMENT COSTS Q1 2005 Q2 2005 Q3 2005 Q4 2005
- -------------------------- -------- -------- -------- --------
Employment related costs $490,555 $309,980 $234,904 $102,306
Other direct costs 15,000 15,000 15,000 15,000
-------- -------- -------- --------
TOTAL $505,555 $324,980 $249,904 $117,306
======== ======== ======== ========
Management will continue to fund 2005 capital expenditures from its working
capital and/or cash flow from operations.
Unplanned Securities Issuances
Pursuant to the terms of the Debenture, the Investor's Rights Agreement dated
April 11, 2003 between IAC, Points International and an affiliate of IAC and the
terms of the Series Two Preferred Share, IAC and CIBC Capital Partners have
significant control over the Corporation's ability to raise capital whether by
way of an equity issuance or the incurrence of debt. However, in the event the
Corporation requires additional capital, it does not expect that any required
consents would be unreasonably withheld.
Outstanding Share Data
As at the date hereof, the Corporation has 74,072,456 Common Shares outstanding,
one Series One Preference Share and one Series Two Preferred Share. The Series
One Preference Share is convertible into one Common Share in certain
circumstances. Subject to anti-dilution adjustment, based on the Corporation's
current capitalization, the Series Two Preferred Share is convertible into
19,999,105 Common Shares.
The Corporation has outstanding options exercisable to acquire up to 4,445,808
Common Shares. The options have exercise prices ranging from $0.22 to $1.37 with
a weighted average exercise price of $0.80. The expiration dates of the options
range from March 14, 2005 to January 24, 2010.
The Corporation's subsidiary, Points.com, has outstanding options exercisable to
acquire up to 2,114,899 common shares of
37
MANAGEMENT'S DISCUSSION & ANALYSIS
Points.com. The holders of these options have been granted the right to put the
shares acquired on the exercise thereof to the Corporation in return for Common
Shares with a fair market value equal to the fair market value so put. The
Corporation has used a ratio of 2.5039 Common Shares to one Points.com share for
this purpose and has authorized the issuance of up to a maximum of 5,295,492
Common Shares in this regard. The Points.com options have exercise prices
ranging from $0.005 to $0.055 with a weighted average exercise price of $0.04.
The expiration dates of the options range from March 31, 2005 to August 20,
2005.
The Corporation has outstanding warrants exercisable to acquire up to 84,294,933
Common Shares. The warrants have exercise prices ranging from $0.25 to $1.03
with a weighted average exercise price of $1.03. The expiration dates of the
options range from July 18, 2005 to April 11, 2006.
The Corporation has outstanding an 11% $6,000,000 senior secured convertible
Debenture which is convertible into 18,908,070 Common Shares. The Debenture is
not convertible into Common Shares at the option of the holder as long as the
Warrants are outstanding. At the option of the Debenture holder, exercisable
prior to March 31, 2005, the maturity of the Debenture is extendible to March
15, 2006 and thereafter the holder has the right to extend the maturity of the
Debenture for up to two additional one-year periods.
SELECTED FINANCIAL RESULTS AND HIGHLIGHTS
INCOME STATEMENT FOR THE YEAR ENDED 2004 2003 2002
- ----------------------------------- ----------- ----------- -----------
Total Revenue $ 7,791,591 $ 5,858,704 $ 2,368,262
General and administrative expenses 12,230,652 8,029,471 6,941,069
Loss before interest,
amortization and other deductions (4,439,061) (2,170,767) (4,572,777)
Net income (loss) (8,808,284) (6,536,191) (7,807,378)
Net income (loss) per share (1)(2)
- basic ($0.13) ($0.11) ($0.15)
- fully diluted n/a n/a n/a
NOTES: (1) The fully diluted loss per share has not been computed, as the
effect would be anti-dilutive.
(2) In 2004, the Corporation's loss per share was increased by
approximately $0.01 as a result of the requirement to expense
stock options granted in 2004 (Section 3870, "Stock-Based
Compensation and Other Stock-Based Payments" of the CICA
handbook) combined with the write-down of the ThinApse
investment. See page 50 of the Corporation's Audited Consolidated
Financial Statements Note 3, for additional information on the
accounting policy change relating to stock options.
DEC. 31, DEC. 31, DEC. 31,
BALANCE SHEET AS AT 2004 2003 2002
- ------------------- ------------ ------------ ------------
Cash and cash equivalents $ 13,754,818 $ 20,274,836 $ 7,341,700
Total assets (1) 30,179,854 27,481,286 13,140,020
Total liabilities 14,339,782 21,060,850 7,182,500
CASH DIVIDENDS DECLARED PER SHARE
SHAREHOLDERS EQUITY
- warrants 2,610,992 2,785,737 425,588
- capital stock and contributed surplus 23,187,826 17,791,609 14,361,033
- deficit (34,734,644) (25,800,155) (19,200,816)
------------ ------------ ------------
TOTAL $ (8,935,827) $ (5,222,809) $ (4,414,195)
============ ============ ============
NOTE: (1) Financial results from minority holdings are not consolidated into the
Corporation's consolidated financial statements, as the Corporation
does not exercise control in these entities.
38
MANAGEMENT'S DISCUSSION & ANALYSIS
POINTS INTERNATIONAL LTD.
SUMMARY OF QUARTERLY RESULTS (UNAUDITED)
LOSS PER
QUARTER ENDED REVENUES NET LOSS SHARE (1)
- ------------- ---------- ------------ ---------
December 31, 2004 $2,162,948 ($2,751,857) ($0.04)
September 30, 2004 $1,978,942 ($2,001,764) ($0.03)
June 30, 2004 $2,032,136 ($2,153,069) ($0.03)
March 31, 2004 $1,617,565 ($1,901,594) ($0.03)
December 31, 2003 $1,449,378 ($2,605,974) ($0.04)
September 30, 2003 $1,647,566 ($1,628,391) ($0.03)
June 30,2003 $1,457,568 ($1,283,337) ($0.02)
March 31, 2003 $1,304,192 ($1,018,489) ($0.02)
NOTE: (1) The fully diluted loss per share has not been computed as the effect
would be anti-dilutive.
39
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING
Management has prepared the information contained in the financial statements
and in the Annual Report. Some numbers presented in the financial statements are
based on estimates and judgments; the integrity and fairness of this information
is the responsibility of management. The company has prepared the financial
statements according to Canadian generally accepted accounting principles. All
of the information throughout the Annual Report is consistent with the financial
statements.
The company maintains internal control, accounting and administrative procedures
to provide reasonable assurance that the financial information is relevant,
reliable, accurate and fairly presented.
The Board of Directors is responsible for governance and fair presentation of
the financial statements. The Board of Directors accepts this charge and carries
out this responsibility primarily through its audit committee.
The Board of Directors appoints the audit committee. All members of the audit
committee are outside directors. The committee met with management and auditors
before approving the financial statements. The audit committee reports its
findings to the Board of Directors and recommends approval of the financial
statements by the Board of Directors.
The company's external auditors, Mintz & Partners LLP, have conducted an
independent audit of the financial statements in accordance with Canadian
generally accepted auditing standards. The external auditors had full and
unrestricted access to the audit committee and management. Management
acknowledges its responsibility in its letter of representation to the
Corporation's Auditors and to the Corporation's board of directors. This
responsibility is referred to in the audit opinion.
/s/ Robert MacLean /s/ Stephen Yuzpe
- ------------------------------------- ----------------------------------------
Robert MacLean Stephen Yuzpe
Chief Executive Officer Chief Financial Officer
Points International Ltd.
40
(GRAPHIC)
FINANCIAL STATEMENTS
AUDITOR'S REPORT 42
CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS 43
CONSOLIDATED STATEMENTS OF OPERATIONS 45
CONSOLIDATED STATEMENTS OF RETAINED EARNINGS (DEFICIT) 45
CONSOLIDATED STATEMENTS OF CASH FLOWS 46
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 47
41
AUDITOR'S REPORT
To the Shareholders of Points International Ltd.
We have audited the consolidated balance sheets of Points International Ltd. as
at December 31, 2004 and 2003 and the consolidated statements of operations and
deficit and cash flows for the years then ended. These consolidated financial
statements are the responsibility of the corporation's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audits in accordance with Canadian generally accepted auditing
standards. Those standards require that we plan and perform an audit to obtain
reasonable assurance whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
In our opinion, these consolidated financial statements present fairly, in all
material respects, the financial position of the corporation as at December 31,
2004 and 2003 and the results of its operations and its cash flows for the years
then ended in accordance with Canadian generally accepted accounting principles.
(MINTZ & PARTNERS LLP)
Toronto, Ontario
February 16, 2005 CHARTERED ACCOUNTANTS
42
FINANCIAL STATEMENTS
POINTS INTERNATIONAL LTD.
CONSOLIDATED BALANCE SHEETS
AS AT DECEMBER 31 2004 2003
- ----------------- ----------- -----------
ASSETS
CURRENT
Cash and cash equivalents (Note 4) $13,754,818 $20,274,836
Accounts receivable 2,024,342 1,004,370
Prepaids and sundry assets 1,229,091 825,221
----------- -----------
17,008,251 22,104,427
PROPERTY, PLANT AND EQUIPMENT (Note 6) 2,056,282 513,723
GOODWILL AND INTANGIBLE ASSETS (Note 7) 8,282,453 1,320,692
DEFERRED COSTS (Note 23) 2,242,868 2,790,816
LONG-TERM INVESTMENTS (Note 5) -- 161,629
FUTURE INCOME TAXES RECOVERABLE 590,000 590,000
----------- -----------
13,171,603 5,376,859
$30,179,854 $27,481,286
=========== ===========
APPROVED ON BEHALF OF THE BOARD:
/s/ ROBERT MACLEAN
- -------------------------------------
ROBERT MACLEAN
Director
/s/ CHRISTOPHER BARNARD
- -------------------------------------
CHRISTOPHER BARNARD
Director
43
FINANCIAL STATEMENTS
POINTS INTERNATIONAL LTD.
CONSOLIDATED BALANCE SHEETS
AS AT DECEMBER 31 2004 2003
- ----------------- ------------ ------------
LIABILITIES
CURRENT
Accounts payable and accrued liabilities $ 1,894,599 $ 1,187,598
Deposits 13,153,623 10,455,646
Current portion of loan payable (Note 8) 29,860 --
Current portion of acquisition loan payment (Note 15) 777,443 --
Convertible debenture (Note 9) 8,920,373 --
------------ ------------
24,775,900 11,643,244
LOAN PAYABLE (Note 8) 67,186 --
ACQUISITION LOAN PAYABLE (Note 15) 380,118 --
CONVERTIBLE DEBENTURE (Note 9) -- 8,036,372
CONVERTIBLE PREFERRED SHARES (Note 10) 13,892,478 13,024,478
------------ ------------
39,115,681 32,704,094
SHAREHOLDERS' EQUITY
CAPITAL STOCK (Note 11) 22,705,734 17,728,461
CONTRIBUTED SURPLUS (Note 12 (b)) 482,092 63,148
WARRANTS (Note 12) 2,610,992 2,785,737
DEFICIT (34,734,645) (25,800,155)
------------ ------------
(8,935,827) (5,222,809)
------------ ------------
$ 30,179,854 $ 27,481,286
============ ============
44
FINANCIAL STATEMENTS
POINTS INTERNATIONAL LTD.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31 2004 2003
- ------------------------------- ----------- -----------
REVENUES
Points International operations $ 7,560,012 $ 5,502,744
Interest income 231,579 355,960
----------- -----------
7,791,591 5,858,704
GENERAL AND ADMINISTRATION EXPENSES 12,230,652 8,029,471
LOSS - Before interest, amortization and other items (4,439,061) (2,170,767)
Interest on Convertible Debenture (Note 9) 884,001 853,872
Interest on Series Two Preferred Share (Note 10) 868,000 624,478
Interest, loss on short-term investments and bank charges 132,843 9,753
Write-off of ThinApse Corporation (Note 5) 161,629 --
Amortization of property, plant and equipment, intangible
assests and Deferred Costs 2,322,749 2,877,321
----------- -----------
4,369,223 4,365,424
LOSS (8,808,284) (6,536,191)
----------- -----------
LOSS PER SHARE (Note 13) ($0.13) ($0.11)
=========== ===========
POINTS INTERNATIONAL LTD.
CONSOLIDATED STATEMENTS OF RETAINED EARNINGS (DEFICIT)
FOR THE YEARS ENDED DECEMBER 31 2004 2003
- ------------------------------- ------------ ------------
DEFICIT - BEGINNING OF YEAR
As previously reported ($25,800,155) ($19,200,816)
Change in accounting policy (Note 3) (126,206) (63,148)
As restated (25,926,361) (19,263,964)
------------ ------------
LOSS - FOR THE YEAR (8,808,284) (6,536,191)
------------ ------------
DEFICIT - END OF YEAR ($34,734,645) ($25,800,155)
============ ============
45
FINANCIAL STATEMENTS
POINTS INTERNATIONAL LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31 2004 2003
- ------------------------------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(8,808,284) $(6,536,191)
Items not affecting cash
Amortization of property, plant and equipment 312,617 1,589,206
Amortization of deferred costs 601,319 531,914
Amortization of intangible assets 1,408,813 756,201
Employee stock option expense 362,343 --
Writedown of long-term investment 161,629 --
Cancellation of warrants issued for services (1,179) --
Interest on Series Two Preferred Share 868,000 624,478
Interest accrued on convertible debenture 884,001 853,872
----------- -----------
(4,210,741) (2,180,520)
Changes in non-cash balances related to
operations (Note 14 (a)) 1,857,746 774,066
----------- -----------
CASH FLOWS USED IN OPERATING ACTIVITIES (2,352,995) (1,406,454)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property, plant and equipment, net of proceeds (1,855,177) (338,730)
Purchase of intangible assets (128,428) (130,353)
Payments for the acquisition of MilePoint, Inc. (Note 15) (2,300,000) --
Costs related to the acquisition of MilePoint, Inc. (Note 15) (728,534) --
----------- -----------
CASH FLOWS USED IN INVESTING ACTIVITIES (5,012,139) (469,083)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Issuance of Warrants -- 2,700,000
Issuance of Series Two Preferred Share -- 12,400,000
Loan payable, net of repayments (Note 8) 97,047 --
Deferred financing costs 13,967 (3,039,774)
Repayment of obligations under capital leases -- (407,128)
Issuance of capital stock, net of share issue costs 734,101 3,155,575
----------- -----------
CASH FLOWS PROVIDED BY FINANCING ACTIVITIES 845,115 14,808,673
----------- -----------
INCREASE(DECREASE) IN CASH (6,520,019) 12,933,136
----------- -----------
CASH AND CASH EQUIVALENTS - Beginning of period 20,274,836 7,341,700
----------- -----------
CASH AND CASH EQUIVALENTS - END OF PERIOD $13,754,818 $20,274,836
46
FINANCIAL STATEMENTS
POINTS INTERNATIONAL LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
1. BASIS OF PRESENTATION AND BUSINESS OF THE CORPORATION
The accompanying consolidated financial statements of Points International Ltd.
(the "Corporation") include the financial position, results of operations and
cash flows of the Corporation and its wholly-owned subsidiaries, Exclamation
Inc., Points International (US) Ltd., Points International (UK) Limited and its
indirect wholly-owned subsidiary, Points.com Inc.
The Corporation operates the Points.com Web site. Points.com is an online
service allowing consumers to swap points and miles from one participating
loyalty program to another to achieve the rewards they want faster than ever
before. Points.com also serves as a central resource to help individuals track
their account balances with a number of loyalty programs.
In addition, the Corporation develops technology solutions for the loyalty
program industry. The Corporation's portfolio of custom solutions facilitates
the online sale, transfer and exchange of miles, points and currencies for a
number of major loyalty programs.
Notwithstanding that the Company has a working capital deficiency, which is
cause by the CIBC Capital Partners Debenture (see Note 9) becoming classified as
a current liability; these consolidated financial statements are prepared
assuming that the Company will be successful in extending or refinancing the
CIBC Capital Partners Debenture.
2. SIGNIFICANT ACCOUNTING POLICIES
A) USE OF ESTIMATES
The preparation of these consolidated financial statements, in conformity
with Canadian generally accepted accounting principles ("GAAP"), has
required management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent
liabilities as at December 31, 2004 and 2003 and the revenues and expenses
reported for the years then ended. Actual results may differ from those
estimates.
B) REVENUE RECOGNITION
Revenues from transaction processing are recognized as the services are
provided under the terms of related contracts. Membership fees received in
advance for services to be provided over a future period are recorded as
deferred revenue and recognized as revenue evenly over the term of service.
Related direct costs are also recognized over the term of the membership.
Revenues from the sales of loyalty program points are recorded net of
costs, in accordance with Abstract 123 of the Emerging Issues Committee
("EIC") of the Canadian Institute of Chartered Accountants ("CICA"),
"Reporting Revenue Gross as a Principal Versus Net as an Agent," when the
collection of the sales proceeds is reasonably assured and other material
conditions of the swap are met. Gross proceeds received on the resale of
loyalty program points, net of the commissions earned, are included in
deposits in the attached consolidated balance sheet until remitted.
Non-refundable partner sign-up fees with no fixed term, and for which the
Corporation is under no further obligations, are recognized as revenue when
received.
Custom Web site design revenues are recorded on a percentage-of-completion
basis.
C) CASH AND CASH EQUIVALENTS
Cash and cash equivalents includes amounts on deposit at the Corporation's
bank and amounts held for the Corporation by a third-party credit card
processor. Such amounts represent a reserve in respect of purchases of
miles/points.
47
FINANCIAL STATEMENTS
Short-term investments are accounted for at the lower of cost and net
realizable value.
D) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are recorded at cost less accumulated
amortization. Rates and basis of amortization applied by the Corporation to
write off the cost of the property, plant and equipment over their
estimated useful lives are as follows:
Furniture and equipment 20% declining balance basis
Computer equipment 30% declining balance basis
Software 30% straight-line basis
Technology costs straight-line over 3 years
Web site development costs straight-line over 3 years (upon
launch of Web site)
Leasehold improvements straight-line over 5 years
E) GOODWILL AND INTANGIBLE ASSETS
The Corporation follows Section 3062 ("Goodwill and Other Intangible
Assets") of the CICA Handbook, in accounting for the value of its public
listing. Since the public listing has an indefinite life, no amortization
is recorded.
Patents will be amortized over the remaining life of the patent commencing
when the patents have been granted. The remaining life of the patent is
determined as 20 years less the time between the date of filing and the
patent grant date. Registered trademarks have an indefinite life and will
not be amortized unless it is determined that they have become impaired.
Acquired technology, representing the excess of the cost over the values
attributed to the underlying net assets of the acquired shares of
Points.com Inc., will be amortized on a straight-line basis over a period
of three years.
The MilePoint Acquisition represents the fair value of contracts acquired
by the company as described in Note 15. The carrying value of these
contracts is amortized on a straight-line basis over the life of the
contracts.
Goodwill represents the excess of the purchase price of acquired companies
over the estimated fair value of the tangible and intangible net assets
acquired. Goodwill is not amortized. The company currently compares the
carrying amount of the goodwill to the fair value, at least annually, and
recognizes in net income any impairment in value.
If the Corporation determines that there is permanent impairment in the
value of the unamortized portion of the intangible assets, as future
earnings will not be realized as projected, an appropriate amount of
unamortized balance of intangible assets will be charged to income as an
"impairment charge" at that time.
F) LONG-TERM INVESTMENTS
Investments in shares of companies over which the Corporation exercises
significant influence are accounted for using the equity method.
Investments in shares of companies over which the Corporation does not
exercise significant influence are accounted for using the cost basis.
The Corporation reviews all of its long-term investments regularly and
provides for any decline, other than a temporary decline, in the value of
the investment to the estimated net recoverable amount.
48
FINANCIAL STATEMENTS
G) DEFERRED FINANCE CHARGES
Charges incurred in respect of certain financings are deferred and charged
to income on a straight-line basis over three years. Deferred finance
charges represent legal and other related fees incurred to obtain the
financing described in Notes 9 and 10.
H) CAPITAL LEASES
Leases that transfer substantially all of the benefits and risks of
ownership of the property to the Corporation are treated as an acquisition
of an asset and an obligation.
I) COSTS OF RAISING CAPITAL
Incremental costs incurred in respect of raising capital are charged
against equity proceeds raised.
J) TRANSLATION OF FOREIGN CURRENCY
Assets and liabilities denominated in foreign currencies are translated
into Canadian dollars at exchange rates prevailing at the balance sheet
date for monetary items. Income and expenses are translated at average
exchange rates prevailing during the year. Realized and unrealized foreign
exchange gains and losses are accounted for in general and administrative
expenses and consequently included in net income.
The results of foreign operations, which are financially and operationally
integrated with the Corporation, are translated using the temporal method.
Under this method, monetary assets and liabilities denominated in foreign
currencies have been translated into Canadian dollars at the rate of
exchange prevailing at year-end. Fixed assets have been translated at the
rates prevailing at the dates of acquisition. Revenue and expense items are
translated at the average rate of exchange for the year. Exchange gains or
losses on translation are accounted for in general and administrative
expenses and consequently included in net income.
K) INCOME TAXES
The Corporation follows the asset and liability approach to accounting for
income taxes.
The income tax provision differs from that calculated by applying the
statutory rates to the changes in current or future income tax assets or
liabilities during the year.
Current income taxes payable differ from the total tax provisions as a
result of changes in taxable and deductible temporary differences between
the tax basis of assets and liabilities and their carrying amounts in the
balance sheet.
L) NON-MONETARY TRANSACTIONS
Transactions in which shares or other non-cash consideration are exchanged
for assets or services are valued at the fair value of the assets or
services involved in accordance with Section 3830, "Non-monetary
Transactions," of the CICA handbook.
M) EARNINGS PER SHARE
The Corporation uses Section 3500, "Earnings per Share," of the CICA
handbook, which directs that the treasury stock method be used to calculate
diluted earnings per share.
Diluted earnings per share considers the dilutive impact of the exercise of
outstanding stock options, warrants, conversion of preferred shares and the
convertible debenture, as if the events had occurred at the beginning of
the period or at a time of issuance, if later. Fully diluted loss per share
has not been presented, as the effect would be anti-dilutive.
49
FINANCIAL STATEMENTS
N) STOCK-BASED COMPENSATION
EMPLOYEES
For stock-based compensation issued to employees, the Corporation
recognizes an expense. The Corporation accounts for its grants in
accordance with the fair value-based method of accounting for stock-based
compensation.
NON-EMPLOYEES
For stock-based compensation issued to non-employees, the Corporation
recognizes an asset or expense based on the fair value of the equity
instrument issued.
3. CHANGES IN ACCOUNTING POLICIES
Effective January 1, 2004, the CICA handbook, Section 3870, "Stock-Based
Compensation and Other Stock-Based Payments" was amended to require expense
treatment of all stock-based compensation and payments for options granted
beginning on or after January 1, 2002. As permitted by this standard, this
change in accounting policy has been applied retroactively without restatement
of the prior years' financial statements. This change results in a reduction of
$63,148 to the 2003 opening retained earnings and an increase of $63,148 to 2003
contributed surplus. In 2004, this change resulted in a reduction of $126,206 to
the opening retained earning and an increase of $71,248 to the contributed
surplus and $54,958 to share capital. See also Note 12 (b).
4. CASH EQUIVALENTS
Cash equivalents includes cash held at the company's bank and currently invested
through an interest rate agreement earning prime rate less 225 basis points for
Canadian funds (approximately 2%) and 80% of the U.S. T-Bill rate for U.S. funds
(approximately 1%), and cash held by the third-party credit processor. Cash
equivalents also includes investments in short and mid-term bonds maturing on
various dates. The investments could be liquidated at any time at the option of
the Corporation with no loss in value.
5. LONG-TERM INVESTMENTS
The Corporations' original investment in ThinApse Corporation of $161,629 has
been written off in 2004. In October 2004, certain assets of ThinApse
Corporation were sold to Meridex Software Corporation in return for shares and
cash. As the value of the investment is deemed by management to be impaired,
management has chosen to write off the investment.
2004 2003
---- --------
(i) ThinApse Corporation
- 12% interest (fully diluted), cost basis
SHARES AT COST $-- $161,629
=== ========
50
FINANCIAL STATEMENTS
6. PROPERTY, PLANT AND EQUIPMENT
ACCUMULATED
2004 COST AMORTIZATION NET CARRYING
- ---- ---------- ------------ ------------
Furniture and equipment $ 468,355 $ 173,740 $ 294,615
Computer equipment 590,619 282,616 308,003
Software 443,340 372,728 70,612
Technology costs 3,992,264 3,982,100 10,164
Web site development costs 860,286 -- 860,286
Leasehold improvements $ 752,718 $ 240,116 $ 512,602
---------- ---------- ----------
$7,107,583 $5,051,300 $2,056,282
========== ========== ==========
ACCUMULATED
2003 COST AMORTIZATION NET CARRYING
- ---- ---------- ------------ ------------
Furniture and equipment $ 251,998 $ 127,130 $124,868
Computer equipment 398,316 191,822 206,494
Software 411,951 306,189 105,762
Technology costs 3,992,264 3,968,482 23,782
Leasehold improvements 197,875 145,059 52,817
---------- ---------- --------
$5,252,406 $4,738,683 $513,723
========== ========== ========
Web site development costs capitalized in 2004 will begin to amortize when
the Web site currently under development is launched. See Note 2 (d).
7. GOODWILL AND INTANGIBLE ASSETS
ACCUMULATED
2004 COST AMORTIZATION NET CARRYING
- ---- ----------- ------------ ------------
Public Status $ 150,000 $ 100,000 $ 50,000
MilePoint, Inc. Acquisition
(Note 15) 8,242,146 655,945 7,586,201
Patents and Trademarks 462,376 -- 462,376
Acquired Technology 2,258,603 2,074,727 183,876
----------- ---------- ----------
$11,113,125 $2,830,672 $8,282,453
=========== ========== ==========
ACCUMULATED
2003 COST AMORTIZATION NET CARRYING
- ---- ---------- ------------ ------------
Public Status $ 150,000 $ 100,000 $ 50,000
Patents and Trademarks 335,439 -- 335,439
Acquired Technology 2,258,603 1,323,351 935,253
---------- ---------- ----------
$2,744,042 $1,423,351 $1,320,692
========== ========== ==========
51
FINANCIAL STATEMENTS
8. LOAN PAYABLE
In August 2004, the Corporation entered into an agreement with the landlord,
whereby the landlord loaned the Corporation $107,000 in respect to amounts that
the Corporation had spent on leasehold improvements. The loan is repayable over
43 months and bears an interest rate of 10%.
9. CONVERTIBLE DEBENTURE
On March 15, 2001 the Corporation issued to CIBC Capital Partners, a division of
Canadian Imperial Bank of Commerce, an 11% $6,000,000 senior secured convertible
debenture (the "CIBC Debenture"), which debenture was amended and restated as of
February 8, 2002 in connection with the reorganization of the Corporation
effected on that date. The CIBC Debenture was subsequently amended on April 11,
2003 in connection with the issuance to Points Investments, Inc., an unrelated
entity, of the Series Two Preferred Share and a Common Share purchase warrant
(the "PII Warrant"). The CIBC Debenture is not convertible while the PII
Warrant, as described in Note 10, is outstanding.
On December 9, 2004, CIBC Capital Partners extended the CIBC Debenture's
maturity date to July 4, 2005. Accordingly, the Debenture is classified as a
current liability. An additional two one-year extensions at the option of CIBC
Capital Partners are available. The Corporation is not entitled to pre-pay the
CIBC Debenture other than in connection with a change in control of the
Corporation upon the exercise in full of the PII Warrant (in which circumstances
payment of accrued interest is waived). In the event that the PII Warrant ceases
to be held by InterActiveCorp or an affiliate thereof, the $6,000,000 principal
amount of the CIBC Debenture will be convertible at the option of CIBC Capital
Partners into 18,908,070 Common Shares and accrued interest on any principal
amount so converted ceases to be payable. The CIBC Debenture will automatically
convert into Common Shares immediately preceding any one of (i) the sale of all
outstanding Common Shares for a price per share of at least $1.26928, (ii) the
sale of all or substantially all of the assets of the Corporation yielding net
proceeds per Common Share (after giving effect to the conversion of the CIBC
Debenture) of at least $1.26928, and (iii) a public offering of Common Shares
raising at least $30,000,000 at an issue price per share of at least $1.26928
where the Corporation has a pre-offering equity value of at least $175,000,000
and the Common Shares are listed on the Toronto Stock Exchange.
Subsequent to year end, on January 31, 2005, CIBC Capital Partners waived the
prohibitions on prepayment of the Debenture and acknowledged that the
Corporation may at any time prepay the principal amount together with all
accrued and unpaid interest and other amounts payable under the Debenture. Under
the terms of this agreement, any prepayment would consist of an amount of cash
equal in value to the unpaid principal amount and an amount in common shares of
the Corporation equal in value to the amount of accrued but unpaid interest.
This waiver is in effect until March 31, 2005.
The CIBC Debenture contains negative covenants in favour of CIBC Capital
Partners such that CIBC Capital Partners' consent is required for, among other
things, (i) the sale by the Corporation of all or substantially all of its
assets, (ii) any transaction to reorganize the Corporation's capital structure
or merge with another person, (iii) certain sales of treasury stock at a price
per share of less than $0.40, (iv) the payment of dividends or distributions on
share capital or the purchase or redemption of outstanding securities, (v)
amendments to the articles or by-laws of the Corporation and (vi) material
changes to the business of the Corporation.
10. PREFERRED SHARES
A) SERIES ONE PREFERENCE SHARE
The Series One Preference Share was created by Articles of Amendment dated
December 20, 2001 and was issued on February 8, 2002.
52
FINANCIAL STATEMENTS
The Series One Preference Share is non-voting and not entitled to dividends
other than as set out below.
The Series One Preference Share will automatically convert into one Common
Share upon (i) conversion into Common Shares of greater than $2,000,000 of
the $6,000,000 principal amount of the CIBC Debenture, (ii) repayment in
full of the CIBC Debenture or (iii) payment of the Dividend (as defined
below) (each a "Conversion Event").
In the event of the liquidation, dissolution or winding-up of the
Corporation or other distribution of assets of the Corporation for the
purpose of winding-up its affairs prior to a Conversion Event, the holder
of the Series One Preference Share is entitled to (a) receive from the
assets of the Corporation a payment of $4,000,000 before any amounts shall
be paid to the holders of any Common Shares and (b) share pro-rata (on the
basis that the Series One Preference Share represents that number of Common
Shares into which the CIBC Debenture is then convertible) with the holders
of all other participating shares in further distributions from the assets
of the Corporation to an aggregate maximum of $20,000,000 in addition to
the sum specified in (a).
The holder of the Series One Preference Share is entitled to a dividend
(the "Dividend") in the event that, prior to a Conversion Event, (i) there
is a merger or consolidation of the Corporation (or a subsidiary of the
Corporation which owns all or substantially all of the assets of the
Corporation) with another corporation where, following such event, the
shareholders of the Corporation will not hold at least a majority of the
voting power of the surviving/acquiring corporation, (ii) any person (other
than the Canadian Imperial Bank of Commerce or any of its affiliates) or
any persons acting jointly or in concert beneficially own greater than 50%
of (A) the votes attached to the Corporation's securities entitled to vote
for the election of Corporation's Board of Directors, or (B) the equity, by
value, of the Corporation, or (iii) there is a sale of all or substantially
all of the assets of the Corporation. The Dividend is approximately equal
to the liquidation preference described above and, for this purpose, the
value of the assets of the Corporation available for distribution on this
notional dissolution is the value attributable to the equity of the
Corporation implied by the transaction giving rise to the dividend event,
as adjusted for the value of non-Common Share equity not valued in the
transaction giving rise to the Dividend. In no event may the Dividend
exceed $24,000,000.
The Series One Preference Share ranks equally with the Series Two Preferred
Share and Series Three Preferred Share and in priority to the Common
Shares.
On April 8, 2003 the terms were amended to delete a redundant ranking
provision. On June 27, 2003 the terms were amended to provide that a
dividend was payable upon any person owning greater than 50% of the votes
attached to the Corporation's securities entitled to vote for the election
of Corporation's Board of Directors; prior to this amendment the Dividend
was payable upon any person owning greater than 50% of the Common Shares.
B) SERIES TWO PREFERRED SHARE
The Series Two Preferred Share was created by Articles of Amendments dated
April 10, 2003 and was issued on April 11, 2003.
The Corporation is not entitled to declare or pay any dividend on the
Common Shares unless it concurrently declares and pays a dividend on the
Series Two Preferred Share in an amount equal to the product of the number
of Common Shares comprising the Underlying Shares (as defined below) and
the dividend declared or paid per Common Share. Any such dividend is to be
paid to the holder of the Series Two Preferred Share in the same form as it
is paid to the holders of the Common Shares.
53
FINANCIAL STATEMENTS
The holder of the Series Two Preferred Share has the right, exercisable at
any time prior to 5:00 p.m. (Eastern Standard Time) on March 31, 2013, to
convert the Series Two Preferred Share, for no additional consideration,
into 19,999,105 Common Shares (as at January 25, 2005) subject to
anti-dilution adjustment (the "Underlying Shares").
In addition to anti-dilution adjustments for stock splits, consolidations,
etc., the number of Common Shares issuable on the conversion of the Series
Two Preferred Shares is subject to adjustment in connection with any
issuance of Common Shares to extinguish rights to acquire securities in
Points International's subsidiaries and in connection with the conversion
of the CIBC Debenture, if convertible.
The Series Two Preferred Share will automatically convert into one Series
Three Preferred Share on the earlier of the date that (i) the Series Two
Preferred Share is directly or indirectly transferred to a person that is
not an affiliate of InterActiveCorp, and (ii) the holder of the Series Two
Preferred Share ceases to be an affiliate of InterActiveCorp.
Unless a notice of conversion has been delivered, the Corporation will
redeem the Series Two Preferred Share upon the earlier of (i) March 31,
2013 and (ii) the third business day following a "Change of Control" of the
Corporation. For this purpose, a "Change of Control" of the Corporation
will be deemed to have occurred if, before the expiry of the PII Warrant
(Note 9), any combination of a person (other than the holder of the Series
Two Preferred Share), its affiliates or associates and persons acting
jointly or in concert with any of them becomes the beneficial owner of
shares of the Corporation sufficient to elect a majority of the Board of
Directors. In the event of redemption on March 31, 2013, the amount payable
will equal the greater of (i) the subscription price of the Series Two
Preferred Share plus a return on that subscription price equal to 7% per
annum, calculated from the date of issue of the Series Two Preferred Share
to the date on which the Series Two Preferred Share is redeemed and (ii)
the market value of the Common Shares into which the Series Two Preferred
Share may then be converted. In the event of redemption on a Change of
Control, the amount payable on redemption will equal the greater of (i)
125% of the amount specified in clause (i) of the preceding sentence and
(ii) the greater of (A) the value of the Common Shares into which the
Series Two Preferred Share then could be converted on the day immediately
prior to public announcement of the Change of Control and (B) the product
of the Common Shares into which the Series Two Preferred Share then could
be converted and the fair market value of the consideration paid per Common
Share in the transaction resulting in the Change of Control.
In the event of the liquidation, dissolution or winding-up of the
Corporation or other distribution of assets of the Corporation among its
shareholders for the purpose of winding-up its affairs, the holder of the
Series Two Preferred Share will be entitled to receive from the assets of
the Corporation an amount equal to the greater of (i) the subscription
price of the Series Two Preferred Share plus a return on that subscription
price equal to 7% per annum, calculated on a daily basis from the date of
issue of the Series Two Preferred Share to the date on which the
liquidation event occurred and (ii) the product of the number of Underlying
Shares and the per share amount to be distributed to the holders of the
Common Shares upon the liquidation event after giving effect to any
payments to be paid on the Series Two Preferred Share and any other shares
(other than the Series Two Preferred Share) ranking prior to the Common
Shares upon the liquidation event.
The Series Two Preferred Share ranks equally with the Series One Preference
Share and Series Three Preferred Share and in priority to the Common
Shares.
C) SERIES THREE PREFERRED SHARE
The Series Three Preferred Share was created by Articles of Amendment dated
April 10, 2003 and has not been issued. The Series Three Preferred Share is
non-voting and not entitled to receive dividends.
54
FINANCIAL STATEMENTS
If issued, the Corporation will redeem the Series Three Preferred Share
upon the earlier of (i) March 31, 2013 and (ii) the third business day
following a "Change of Control" of the Corporation. For this purpose, a
"Change of Control" of the Corporation will be deemed to have occurred if,
before the expiry of the PII Warrant, any combination of a person (other
than the holder of the Series Two Preferred Share), its affiliates or
associates and persons acting jointly or in concert with any of them
becomes the beneficial owner of shares of the Corporation sufficient to
elect a majority of the Board of Directors.
In the event of redemption on March 31, 2013, the amount payable will equal
the subscription price of the Series Two Preferred Share plus a return on
that subscription price equal to 7% per annum, calculated from the date of
issue of the Series Two Preferred Share (April 11, 2003) to the date on
which the Series Three Preferred Share is redeemed. In the event of
redemption on a Change of Control, the amount payable on redemption will
equal an amount equal to 125% of the amount specified in the preceding
sentence.
In the event of the liquidation, dissolution or winding-up of the
Corporation or other distribution of assets of the Corporation among its
shareholders for the purpose of winding-up its affairs, whether voluntary
or involuntary, the holder of the Series Three Preferred Share will be
entitled to receive from the assets of the Corporation an amount equal to
the subscription price of the Series Two Preferred Share plus a return on
that subscription price equal to 7% per annum, calculated on a daily basis
from the date of issue of the Series Two Preferred Share to the date on
which the liquidation event occurred.
The Series Three Preferred Share ranks equally with the Series One
Preference Share and Series Two Preferred Share and in priority to the
Common Shares.
11. CAPITAL STOCK
AUTHORIZED
Unlimited Common Shares
- --------- -------------
1 Series One Preference Share, non-voting, convertible into one
common share
1 Series Two Preferred Share
1 Series Three Preferred Share
ISSUED
The balance of capital stock is summarized as follows:
2004 2003
----------- -----------
Common shares $22,705,732 $17,728,459
Series One preference share 1 1
Series Two Preferred share 1 1
----------- -----------
$22,705,734 $17,728,461
=========== ===========
55
FINANCIAL STATEMENTS
COMMON SHARES NUMBER AMOUNTS
- ------------- ---------- -----------
Balance January 1, 2003 54,496,317 $14,361,032
Issued on exercise of warrants (i) 3,139,943 1,001,869
Issued on exercise of stock options (ii) 446,773 122,975
Issued on exchange for property (shares in subsidiary) (iii) 2,329,954 13,961
Issued in exchange for property (iv) 2,196,635 2,240,568
---------- -----------
62,609,622 $17,739,405
Less: share issue costs -- $ 10,944
---------- -----------
Balance December 31, 2003 62,609,622 17,728,461
Issued on the acquisition of MilePoint, Inc. (v) 4,000,000 $4,000,000
Issued on exercise of warrants (vi) 2,318,006 753,068
Issued on exercise of stock options (vii) 816,789 248,966
Issued on exchange for property (shares in subsidiary)(viii) 1,313,433 10,463
---------- -----------
71,057,850 $22,740,958
Less: share issue costs -- 35,224
---------- -----------
BALANCE DECEMBER 31, 2004 71,057,850 $22,705,734
========== ===========
(i) 2,128,443 common share purchase warrants, issued in connection with
restructuring and acquisition of the interest in Points.com Inc. that the
Corporation did not already own, were exercised at $0.25 per share. In
addition, 922,000 broker warrants issued in respect of a financing in 2003
were exercised at $0.25 per share and 89,500 warrants issued in respect of
a consulting agreement with an independent consulting firm were exercised
at $0.28 per share.
(ii) 446,773 options previously issued to employees, directors, advisors and
consultants were exercised at prices ranging from $0.20 to $0.50 per share.
(iii) 930,529 options previously issued to Points.com Inc. founders, employees,
directors and advisors were exercised in Points.com Inc. and put to the
Corporation at fair market value for 2,329,954 of the Corporation's common
shares.
(iv) 2,196,635 shares were issued to a commercial partner for warrants to
acquire 1,055,328 common shares of subsidiary Points.com Inc., warrant
acquisition rights to acquire warrants exercisable to acquire 3,771,927
common shares of subsidiary Points.com Inc. and for a series of amendments
to commercial agreements, including a long-term extension to the contract
term, as described in Note 12 (e).
(v) 4,000,000 shares (valued at $4,000,000) of the Corporation were issued as
part consideration in the acquisition of MilePoint, Inc. (see Note 15).
(vi) 2,268,006 common share purchase warrants, issued in connection with
restructuring and acquisition of the interest in Points.com Inc. that the
Corporation did not already own, were exercised at $0.25 per share. In
addition, 50,000 warrants issued in respect of a financing engagement were
exercised at $0.25 per share.
(vii) 816,789 options previously issued to employees, directors, advisors and
consultants were exercised at prices ranging
56
FINANCIAL STATEMENTS
from $0.20 to $0.50 per share.
(viii) 524,554 options previously issued to Points.com Inc. founders, employees,
directors and advisors were exercised in Points.com Inc. and put to the
Corporation at fair market value for 1,313,433 of the Corporation's common
shares.
12. OPTIONS AND WARRANTS
A) STOCK OPTION PLAN
The Corporation has a stock option plan under which employees, directors
and consultants are periodically granted stock options to purchase common
shares at prices not less than the market price of the share on the day of
grant. The options vest over a three-year period and expire five years from
the grant date.
2004 2003
---------- ----------
Options Authorized by Shareholders 10,206,948 8,030,424
Less: Options Exercised (2,382,312) (1,565,523)
---------- ----------
Net Options Authorized 7,824,636 6,464,901
Less: Options Granted (6,184,558) (5,598,127)
---------- ----------
Options Available to Grant 1,640,078 866,774
========== ==========
B) STOCK OPTIONS
STOCK-BASED COMPENSATION PLAN
At December 31, 2004, the Corporation had one stock-based compensation
plan, which is described in Note 12 (a). The Corporation accounts for stock
options granted in this plan in accordance with the fair value based method
of accounting for stock-based compensation. The compensation cost that has
been charged against income for this plan is $362,343 for 2004. In respect
to the effect of the change in accounting policy see Note 3.
FAIR VALUE
The fair value of each option grant is estimated at the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions used for grants in 2002, 2003 and 2004, respectively: dividend
yield of nil for all three years; expected volatility of 65, 73 and 46
percent, risk-free interest rates of 5.2, 4.0 and 4.0 percent and expected
lives of 3.9, 3.1, and 3.0 years. A summary of the status of the company's
stock option plan as of December 31, 2003 and 2004, and changes during the
years ending on those dates is presented below.
57
FINANCIAL STATEMENTS
2004 2003
----------------------------- -----------------------------
NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
---------- ---------------- ---------- ----------------
Beginning of Year 5,598,127 $0.51 5,131,900 $0.43
Granted 1,639,407 1.17 1,322,000 0.88
Exercised (816,789) 0.22 (446,773) 0.28
Forfeited (236,187) 1.04 (409,000) 0.88
---------- ----- ---------- -----
End of year 6,184,558 $0.71 5,598,127 $0.51
========== ===== ========== =====
EXERCISABLE AT END OF YEAR 3,832,429 $0.50 3,937,228 $0.41
========== ===== ========== =====
WEIGHTED AVERAGE FAIR VALUE OF OPTIONS
GRANTED $ 0.41 $ 0.43
========== ==========
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------- --------------------------
WEIGHTED AVERAGE WEIGHTED WEIGHTED
NUMBER OF REMAINING CONTRACTUAL AVERAGE NUMBER OF AVERAGE
RANGE OF EXERCISE PRICE OPTIONS LIFE (YEARS) EXERCISE PRICE OPTIONS EXERCISE PRICE
- ----------------------- --------- --------------------- -------------- --------- --------------
$0.01 to $0.49 1,201,001 2.43 $0.25 924,207 $0.26
$0.50 to $0.99 2,922,150 0.86 $0.55 2,653,802 $0.52
$1.00 and over 2,061,407 4.26 $1.19 254,420 $1.11
Subsequent to year-end, as described in Note 22, 1,823,750 options were
exercised.
C) STOCK OPTIONS OF POINTS.COM INC.
In addition to the stock options described above, Points.com Inc., the
Corporation's indirect wholly-owned subsidiary has one stock compensation
plan. Under this plan, Points.com Inc. founders, employees, directors and
advisors were previously issued and, therefore, have outstanding stock
options. No options were granted in this plan in 2002, 2003 or 2004. The
options outstanding are as follows:
2004 2003
---------------------------- ----------------------------
NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
--------- ---------------- --------- ----------------
Beginning of Year 3,115,052 $0.04 4,077,781 $0.03
Granted -- -- -- --
Exercised (524,554) 0.02 (930,529) 0.02
Forfeited -- -- (32,200) 0.06
--------- ----- --------- -----
End of year 2,590,498 $0.04 3,115,052 $0.04
========= ===== ========= =====
EXERCISABLE AT END OF YEAR 2,590,498 $0.04 3,115,052 $0.04
========= ===== ========= =====
58
FINANCIAL STATEMENTS
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------- --------------------------
WEIGHTED AVERAGE WEIGHTED WEIGHTED
NUMBER OF REMAINING CONTRACTUAL AVERAGE NUMBER OF AVERAGE
RANGE OF EXERCISE PRICE OPTIONS LIFE (YEARS) EXERCISE PRICE OPTIONS EXERCISE PRICE
- ----------------------- --------- --------------------- -------------- --------- --------------
$0.01 to $0.49 2,590,498 0.31 $0.04 2,590,498 $0.04
The holders of 2,590,498 options (all with strike prices at or below $0.055
per share) have the right to put to the Corporation the common shares of
Points.com Inc. acquired on the exercise of such options for common shares
in the Corporation. The Corporation has used a ratio of 2.5039 common
shares per Points.com Inc. common share (equivalent to 6,486,347 common
shares) for this purpose. In 2004, 524,554 options were exercised for
1,313,433 common shares of the Corporation.
Subsequent to year end, as described in Note 22, 475,600 shares in
Points.com Inc., acquired from the exercise of options, were exchanged for
1,190,856 common shares of the Corporation. In addition, 1,050,684 options
of Points.com Inc. have been conditionally exercised for 2,630,808 common
shares of the Corporation.
D) WARRANTS
2004 2003
----------------------------- -----------------------------
NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE
WARRANTS EXERCISE PRICE WARRANTS EXERCISE PRICE
---------- ---------------- ---------- ----------------
Beginning of Year 79,431,399 $0.94 7,056,116 $0.25
Granted (1) nil n/a 72,247,692 0.97
Issued-Anti-Dilution Provision 7,049,596 1.03 4,100,867 0.97
Exercised (2,318,006) 0.25 (3,139,943) 0.25
Forfeited (2,500) 0.28 (833,333) 0.25
---------- ----- ---------- -----
End of year 84,160,489 $1.03 79,431,399 $0.94
========== ===== ========== =====
EXERCISABLE AT END OF YEAR 84,160,489 $1.03 79,428,899 $0.94
========== ===== ========== =====
NOTE: (1) The strike price of the PII Warrant (Note 9) will change in accordance
with its anti-dilution provisions. For example, as the number of
Common Shares that the PII Warrant is exercisable into increases, the
strike price will decrease proportionately.
WARRANTS OUTSTANDING WARRANTS EXERCISABLE
----------------------------------------------------- -----------------------------
WEIGHTED AVERAGE
NUMBER REMAINING CONTRACTUAL WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE
RANGE OF EXERCISE PRICE WARRANTS LIFE (YEARS) EXERCISE PRICE WARRANTS EXERCISE PRICE
- ----------------------- ---------- --------------------- ---------------- ---------- ----------------
$0.01 to $0.49 762,334 1.06 $0.25 762,334 $0.25
$0.50 to $0.99 -- -- -- -- --
$1.00 and over 83,398,155 1.28 $1.03 83,398,155 $1.03
E) WARRANTS OF POINTS.COM INC.
On September 5, 2003, the Corporation acquired warrants and warrant
acquisition rights exercisable to acquire 4,827,255 common shares in the
Corporation's indirect wholly-owned subsidiary, Points.com Inc., from an
airline partner, as described in Note 11 (iv).
In addition to the warrants and warrant acquisition rights acquired by the
Corporation, Points.com Inc., has issued or committed to issue an
additional 4,103,378 warrants to airline partners with expiry dates between
March 28, 2006 and
59
FINANCIAL STATEMENTS
April 1, 2007. Each warrant entitles the holder to acquire one common share
of Points.com Inc. with an exercise price of US$1.96. The exercise of these
warrants would dilute the Corporation's interest in Points.com Inc. by 11%.
F) FAIR VALUE
No warrants were granted during 2004. The weighted-average grant-date fair
value of warrants granted during 2003 has been estimated at $0.035 using
the Black-Scholes option-pricing model. The pricing model assumes a
weighted-average risk-free interest rate of 4.5%, weighted-average expected
dividend yields of nil, weighted-average expected common stock price
volatility of 12.88% and a weighted-average expected life of 3.5 years.
G) PRO-FORMA INFORMATION
In accordance with CICA handbook, Section 3870, "Stock-based compensation
and other stock-based payments," the Corporation is required to disclose
pro-forma information for stock-based employee compensation for fiscal year
2003. Estimating the fair values using the Black-Scholes option-pricing
model, the Corporation's pro-forma net loss under Canadian GAAP would be
increased by $126,206 for the year ended Dec. 31, 2003. Loss per share
figures would not have changed (see note 12 (b) for more infomation).
13. LOSS PER SHARE
A) LOSS PER SHARE
Loss per share is calculated on the basis of the weighted average number of
common shares outstanding for the year which amounted to 67,744,345 shares
(2003 - 58,823,652).
B) FULLY-DILUTED LOSS PER SHARE
The fully-diluted loss per share has not been computed, as the effect would
be anti-dilutive.
14. STATEMENT OF CASH FLOWS
A) CHANGES IN NON-CASH BALANCES RELATED TO OPERATIONS ARE AS FOLLOWS:
2004 2003
----------- -----------
(Increase) in accounts receivable $(1,019,972) $ (736,738)
(Increase) in prepaids and sundry assets (403,870) (167,854)
(Increase) in deferred costs (123,390) --
Increase in accounts payable and accrued liabilities 707,002 169,643
Increase in deposits 2,697,976 1,509,015
----------- ----------
$ 1,857,746 $ 774,066
=========== ==========
B) SUPPLEMENTAL INFORMATION
Interest, taxes and loss on short-term investments
Interest of $4,196 (2003 - $7,378) was paid during the year. In addition to
this, the Corporation incurred $70,264 in losses on short-term investments
and capital taxes of $24,644 were paid in 2004. Interest revenue of
$230,294 (2003 - $355,960) was received during the year.
NON-CASH TRANSACTIONS IN 2004 WERE AS FOLLOWS:
(i) 524,554 shares of Points.com Inc. were acquired in exchange for
1,313,433 shares of the Corporation (Note 11 (viii)).
60
FINANCIAL STATEMENTS
(ii) 4,000,000 shares (valued at $4,000,000) of the Corporation were issued
as part consideration in the acquisition of MilePoint, Inc. (see Notes
15 and 11 (v)).
(iii) $38,959 of revenue earned for hosting services provided was paid in
loyalty currency which was comprised of partner miles. The currency
was valued at the purchase price of the miles. The prepaid asset will
be charged to income as the currency is used.
(iv) $125,809 of revenue earned for membership fees provided was paid in
one-week accommodation certificates.
The certificates are valued at their average cost. The prepaid asset
will be charged to income as the accommodation certificates are used
(v) The Corporation received $136,416 of loyalty currency from a partner
as reimbursement of a portion of the partner's direct expenses for the
services provided by the Corporation.
(vi) The Corporation's long-term investment of $161,629 in ThinApse
Corporation was written off as the asset was determined to be
impaired.
(vii) Interest of $2,499 was accrued on the acquisition of MilePoint, Inc.
(viii) Interest of $884,001 was accrued on the convertible debenture (Note
9).
(ix) Interest on $868,000 was accrued on the Series Two Preferred Share
(Note 10 (b)).
(x) Deferred cost of $56,051 related to the MilePoint Acquisition in 2003
was re-allocated to goodwill in 2004 (Note 15).
NON-CASH TRANSACTIONS IN 2003 WERE AS FOLLOWS:
(xi) 930,529 shares of Points.com Inc. were acquired in exchange for
2,329,954 shares of the Corporation (Note 11 (iii)).
(xii) 2,196,635 shares were issued in connection with the acquisition of
warrants, warrant acquisition rights and amendment to the commercial
agreement (Note 11 (iv)).
(xiii) $42,030 of revenue earned for hosting services provided was paid in
loyalty currency. The currency was valued at the purchase price of the
miles. The expense will be recognized as the currency is used.
(xiv) The Corporation received $114,394 of loyalty currency from a partner
as reimbursement of a portion of the partner's direct expenses for the
services provided by the Corporation.
(xv) Interest of $853,872 was accrued on the convertible debenture (Note
9).
(xvi) Interest on $624,478 was accrued on the Series Two Preferred Share
(Note 10 (b)).
(xvii) The company issued share capital of $211,851 on the exercise of
warrants.
C) CASH AND SHORT-TERM INVESTMENTS CONSISTS OF:
2004 2003
----------- -----------
Cash (Note 4) $10,086,111 $ 9,046,701
Short-term investments (Note 4) 544,945 9,627,468
Cash held by credit card processor 3,123,762 1,600,667
----------- -----------
$13,754,818 $20,274,836
=========== ===========
61
FINANCIAL STATEMENTS
15. MILEPOINT, INC. ACQUISITION
MILEPOINT, INC. ACQUISITION
On March 31, 2004, Points International acquired substantially all of the assets
of MilePoint, Inc., a loyalty program technology provider and operator. The
purchase price of $7.5 million was satisfied through a combination of $3.5
million in cash payable, without interest, over two years and four million
common shares.
The cost of the acquisition and the fair values assigned are as follows:
Intangibles $ 225,000
Contracts with Partners 3,522,461
Goodwill 4,494,585
----------
$8,242,146
==========
Consideration:
Cost of Transaction $ 784,585
Capital Stock Issued 4,000,000
Acquisition Loan Payable 3,457,561
----------
$8,242,146
==========
The acquired contracts with partners will be amortized over the life of the
contracts. The goodwill and other intangibles will not be amortized; these will
be reviewed annually and any permanent impairment will be recorded and charged
to income in the year that the impairment has occurred.
The loan payable, which has a face value of $3,500,000, is discounted to its
fair value as it is non-interest bearing and due over two years.
MILEPOINT, INC. ACQUISITION PAYMENTS
Remaining payments under the terms of the acquisition loan payable are as
follows:
ACQUISITION LOAN PAYABLE: Current Portion $ 777,443
Long-Term Portion 380,118
Accretion of Interest 42,439
----------
TOTAL $1,200,000
==========
16. FINANCIAL INSTRUMENTS
The Corporation's significant financial assets and liabilities are cash,
short-term investments and convertible loans, which are substantially stated at
fair value. Interest rates, maturities and security affecting the currency,
interest and credit risk of the Corporation's financial assets and liabilities
have been disclosed in Notes 5 and 9.
The Corporation is not exposed to financial risk that arises from fluctuations
in interest rates as all of its interest-bearing obligations are fixed rate. As
well, the Corporation has sufficient foreign currency to satisfy its foreign
currency-based obligations.
62
FINANCIAL STATEMENTS
A) FAIR VALUE:
In accordance with the disclosure requirements of the CICA handbook,
Section 3860 (paragraphs 3860.78, .101), the Corporation is required to
disclose certain information concerning its "financial instruments,"
defined as a contractual right to receive or deliver cash or another
financial asset. The fair value of the majority of the Corporation's
financial assets and liabilities approximate their recorded values at
December 31, 2004. In these circumstances, the fair value of the assets or
liabilities is determined to be the lower of cost and market value.
Fair value estimates are made at a specific point in time, based on
relevant market information and information about the financial
instruments. These estimates are subjective in nature and involve
uncertainties and matters of significant judgment and therefore cannot be
determined with precision. Changes in assumptions could significantly
affect estimates.
B) SUMMARY OF SIGNIFICANT FINANCIAL INSTRUMENTS
The significant financial instruments of the Corporation, their carrying
values and exposure to U.S. dollar-denominated monetary assets and
liabilities, as of December 31, 2004 are as follows:
C$ TOTAL(1) US$ DENOMINATED (1) OTHER DENOMINATED(1)
----------- ------------------- --------------------
Cash and cash equivalents $13,754,818 US$8,534,329 E1,113,558
GBP 318,990
CHF 12,029
Accounts receivable 2,024,342 1,407,145 E37,050
Accounts payable and accrued liabilities 1,894,599 825,269 GBP 5,288
Deposits 13,153,623 8,749,441 E926,478
GBP318,181
NOTE: (1) C$ Total is inclusive of all denominations; US$ Denominated and Other
Denominated are a subset of the C$ Total and are represented in their
local currency amount.
17. INCOME TAXES
The total provision for income taxes differs from that amount which would be
computed by applying the Canadian federal income tax rate to the loss before
provision for income taxes. The reasons for these differences are as follows:
2004 2003
----------- -----------
Income tax recovery at statutory rate $(2,917,000) $(2,392,000)
Non-deductible items for which there is no tax effect 874,000 505,000
Losses for which no benefit has been recorded 2,043,000 1,887,000
----------- -----------
NET INCOME TAX RECOVERY $ -- $ --
=========== ===========
The Corporation has non-capital losses carry-forward for income tax purposes in
the amount of $26,052,000 which may be applied against future years'taxable
income. The losses may be used to reduce future years' taxable income and expire
approximately as follows:
2005 $ 400,000
2006 $ 890,000
2007 $2,759,000
2008 $6,976,000
2009 $5,868,000
2010 $3,147,000
2014 $6,012,000
63
FINANCIAL STATEMENTS
The nature and tax effects of the temporary differences that give rise to
significant portions of the future income tax assets and future income tax
liabilities are as follows:
FUTURE INCOME TAX ASSETS ARE COMPRISED OF: 2004 2003
- ------------------------------------------ ----------- -----------
Losses carried forward $ 8,629,000 $ 7,608,000
Property, plant and equipment 1,427,000 1,468,000
Share issue costs 77,000 499,000
----------- -----------
10,133,000 9,575,000
Valuation allowance (9,543,000) (8,985,000)
----------- -----------
NET FUTURE INCOME TAX ASSET $ 590,000 $ 590,000
18. RELATED PARTY TRANSACTIONS
The following are the transactions and balances with related parties:
a) Prepaids and sundry assets included a loan to a senior officer of the
Corporation of $25,000 in fiscal 2004 and accrued interest of $825. This
receivable was forgiven in 2004 and expensed to employment costs.
b) In fiscal 2004, certain officers and directors exercised stock options
in the Corporation and the Corporation's subsidiary Points.com Inc. (Note
11 (vii) and Note 11 (viii)).
19. COMMITMENTS
The Corporation is obligated under various operating leases for premises,
purchase commitments and equipment and service agreements for Web hosting
services expiring through 2009 to aggregate annual rentals as follows:
2005 $1,705,000
2006 $1,473,000
2007 $1,724,000
2008 $ 530,000
2009 $ 340,000
20. SEGMENTED INFORMATION
A) REPORTABLE SEGMENTS
The Corporation has only one operating segment, the portfolio of technology
solutions to the loyalty program industry (refer to the Management's
Discussion and Analysis for a description of Points Solutions), in each of
2004 and 2003, whose operating results were regularly reviewed by the
Corporation's chief operating decision maker and for which complete and
discrete financial information is available.
B) ENTERPRISE-WIDE DISCLOSURES - GEOGRAPHIC INFORMATION
$7,129,901 (2003 - $5,391,735) representing 92% of the Corporation's
revenues were generated in the U.S., $396,218 (2003 - $466,969)
representing 5%, were generated in Canada and the remaining revenues
generated outside North America.
At December 31, 2004 and 2003, substantially all of the Corporation's
assets were in Canada.
64
FINANCIAL STATEMENTS
21. ECONOMIC DEPENDENCE
Approximately 54% of the Corporation's revenues are from its three largest
customers (the two largest customers represented 43% of revenues). In 2003, two
customers represented 61% of the Corporation's revenues. In addition, 61% (2003
- - 58%) of the Corporation's deposits are due to these three customers.
22. SUBSEQUENT EVENTS
a) Subsequent to year-end, 1,823,750 options in the Corporation were
exercised at a weighted average exercise price of $0.49 per share (see Note
12(b)).
b) Also subsequent to year-end, 475,600 options in Points.com Inc. were
exercised at a weighted average exercise price of $0.055 per share and put
to the Corporation for 1,190,856 common shares. In addition, 1,050,684
options in Points.com Inc. were conditionally exercised and put to the
Corporation for 2,630,808 common shares (see Note 12(c)).
23. DEFERRED COSTS
Charges incurred in respect of certain financings are deferred and charged to
income on a straight-line basis over an applicable time period. Deferred finance
charges represent legal, accounting and other related fees incurred to obtain
the financings.
ACCUMULATED NET CARRYING
2004 COST AMORTIZATION AMOUNT
- ---- ---------- ------------ ------------
Convertible Debenture $ 986,289 $ 986,289 $ --
Series Two Preferred Share and Warrant 717,050 125,484 591,566
Technology Costs of Partner Relationships & Other 135,529 21,707 113,822
Share Issuance to Partner 2,112,568 575,088 1,537,480
---------- ---------- ----------
$3,951,436 $1,708,568 $2,242,868
========== ========== ==========
ACCUMULATED NET CARRYING
2003 COST AMORTIZATION AMOUNT
- ---- ---------- ------------ ------------
Convertible Debenture $ 986,289 $ 904,098 $ 82,191
Series Two Preferred Share and Warrant 717,050 53,779 663,271
MilePoint Acquisition & Other 82,158 -- 82,158
Share Issuance to Partner 2,112,568 149,372 1,963,196
---------- ---------- ----------
$3,898,065 $1,107,249 $2,790,816
========== ========== ==========
$123,390 of Points.com Business Solutions technology costs incurred have been
deferred over the expected lifetime of certain partner relationships. The
technology costs will be amortized over a 30-month period. Costs related to the
MilePoint Acquisition in 2003 were reallocated to goodwill in 2004.
24. COMPARATIVE FIGURES
Certain of the comparative figures have been reclassified in accordance with the
current year's presentation.
65
CORPORATE INFORMATION
DIRECTORS
DOUGLAS CARTY (Chairman)
Senior Vice President &
Chief Financial Officer, Laidlaw Inc.
MARC LAVINE (Vice-Chairman)
Chief Executive Officer, President and
Chief Financial Officer, Chrysalis
Capital Corporation
ROBERT MACLEAN
(Chief Executive Officer)
CHRISTOPHER BARNARD (President)
ROWLAND FLEMING
Director of a number of public and
private companies
Former President,
Toronto Stock Exchange
JIM KRANIAS
Consultant
ERIC KORMAN
Senior Vice President,
Mergers & Acquisitions, InterActiveCorp
DAN MARRIOTT
Senior Vice President, Interactive
Development, InterActiveCorp
GRANT MCCUTCHEON
Partner, Lawrence & Company
Incorporated
JOHN THOMPSON
Former Managing Director, Kensington
Capital Partners Limited
AUDIT COMMITTEE
Douglas Carty (Chair)
Eric Korman
Marc Lavine
John Thompson
HUMAN RESOURCES COMMITTEE
Rowland Fleming (Chair)
Eric Korman
Jim Kranias
Grant McCutcheon
OFFICERS
Christopher Barnard
President
Darlene Higbee Clarkin
Chief Technology Officer &
Vice President
Grad Conn
Chief Marketing Officer
Sacha Diab
Vice President, Partners
Mike Glass
Vice President, Product Development
Peter Lockhard
Vice President,
Points.com Business Solutions
Robert MacLean
Chief Executive Officer
Jerry Philip
Vice President,
Business Development
Jason Sikora
Vice President, Marketing
William Thompson
Senior Vice President, Partners
Stephen Yuzpe
Chief Financial Officer and Corporate
Secretary
INVESTOR RELATIONS
Stephen Yuzpe (416.596.6382)
steve.yuzpe@points.com
Robert MacLean (416.596.6390)
rob.maclean@points.com
PARTNER RELATIONS
Christopher Barnard (416.596.6381)
christopher.barnard@points.com
AUDITORS
Mintz & Partners LLP
EXTERNAL LEGAL COUNSEL
Davies Ward Phillips & Vineberg LLP
TRANSFER AGENT
Computershare Trust Company
of Canada
LISTING
Shares are listed on the Toronto Stock
Exchange (TSX) under symbol
PTS and on the Pink Sheets under
symbol PTSEF
ANNUAL MEETING
May 11, 2005 at 12:00 p.m.
Stock Market Place
The Exchange Tower
130 King Street West
Toronto, Ontario M5X 1J2
ADDRESS
Points International Ltd.
800 - 179 John Street
Toronto, Ontario M5T 1X4
Phone: 416.595.0000
Fax: 416.595.6444
www.points.com
66
POINTS INTERNATIONAL LTD.
800 - 179 John Street
Toronto, Ontario
M5T 1X4
Phone: 416 595 0000
Fax: 416 595 6444
www.points.com