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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ___ TO ___
--------------------
Commission File Number 0-22935
PEGASUS SYSTEMS, INC.
(Exact Name of Registrant as specified in its charter)
DELAWARE 75-2605174
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3811 TURTLE CREEK BOULEVARD, SUITE 1100, DALLAS, TEXAS 75219
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (214) 528-5656
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
The number of shares of the registrant's common stock outstanding as of November
10, 1998 was 10,509,793.
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PEGASUS SYSTEMS, INC.
FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements PAGE
----
a) Consolidated Balance Sheets
as of September 30, 1998 and December 31, 1997.............................3
b) Consolidated Statements of Operations
for the Three and Nine Months Ended September 30, 1998 and 1997............4
c) Consolidated Statements of Cash Flows
for the Nine Months Ended September 30, 1998 and 1997......................5
d) Notes to Consolidated Financial Statements ...................................6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ...........................................11
Item 3. Quantitative and Qualitative Disclosures about Market Risk........................17
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.................................................................18
Item 2. Changes in Securities and Use of Proceeds.........................................18
.
Item 3. Defaults Upon Senior Securities...................................................18
Item 4. Submission of Matters to a Vote of Security Holders...............................18
Item 5. Other Information.................................................................18
Item 6. Exhibits and Reports on Form 8-K..................................................18
SIGNATURES...........................................................................................19
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PEGASUS SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
SEPTEMBER 30, 1998 DECEMBER 31, 1997
------------------ -----------------
ASSETS
Cash and cash equivalents $ 27,758,691 $ 30,166,793
Restricted cash 2,026,791 1,286,032
Short-term investments 12,151,632 9,380,050
Accounts receivable, net of allowance for doubtful
accounts of $67,666 and $77,860, respectively 3,856,184 1,972,135
Other current assets 1,041,836 1,232,874
------------ ------------
Total current assets 46,835,134 44,037,884
Capitalized software, net 911,260 1,183,453
Property and equipment, net 2,667,084 2,712,091
Goodwill, net of accumulated amortization of
$448,341 and $303,815, respectively 4,468,930 1,560,900
Other noncurrent assets 2,270,642 428,981
------------ ------------
Total assets $ 57,153,050 $ 49,923,309
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable and accrued liabilities $ 5,113,216 $ 4,115,037
Unearned income 848,615 477,688
Current portion of capital lease obligations 740,209 1,048,179
------------ ------------
Total current liabilities 6,702,040 5,640,904
Capital lease obligations, net of current portion 118,853 661,049
Other noncurrent liabilities 151,278 143,612
Stockholders' equity:
Preferred stock, $.01 par value; 2,000,000 shares authorized;
zero shares issued and outstanding, -- --
Common stock, $.01 par value; 50,000,000 shares authorized;
10,626,277 and 10,297,529 shares issued, respectively 106,263 102,975
Additional paid-in capital 62,776,200 58,120,337
Unearned compensation (519,663) (738,533)
Accumulated deficit (12,155,583) (13,980,697)
Less treasury stock (116,484 shares, at cost) (26,338) (26,338)
------------ ------------
Total stockholders' equity 50,180,879 43,477,744
------------ ------------
Total liabilities and stockholders' equity $ 57,153,050 $ 49,923,309
============ ============
See accompanying notes to consolidated financial statements
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PEGASUS SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ ------------------------------
1998 1997 1998 1997
------------ ------------ ------------ ------------
Net revenues $ 7,802,819 $ 5,778,146 $ 20,751,479 $ 15,235,966
Cost of services 2,516,873 2,113,973 7,091,049 5,471,125
Research and development 741,272 585,834 1,966,738 1,818,074
Write-off of purchased in-process R & D 2,723,614 -- 2,723,614 --
General and administrative expenses 1,109,292 939,779 3,202,457 2,611,564
Marketing and promotion expenses 1,190,380 1,068,263 3,610,230 2,986,413
Depreciation and amortization 565,573 862,784 2,081,309 2,290,768
------------ ------------ ------------ ------------
Operating income (loss) (1,044,185) 207,513 76,082 58,022
Other income (expense):
Interest income 632,136 342,507 1,929,184 442,346
Interest expense (33,561) (128,398) (122,000) (543,832)
------------ ------------ ------------ ------------
Income (loss) before income taxes (445,610) 421,622 1,883,266 (43,464)
Income taxes 26,248 10,000 58,152 26,000
------------ ------------ ------------ ------------
Net income (loss) $ (471,858) $ 411,622 $ 1,825,114 $ (69,464)
============ ============ ============ ============
Net income (loss) per share:
Basic $ (0.04) $ 0.05 $ 0.17 $ (0.01)
============ ============ ============ ============
Diluted $ (0.04) $ 0.04 $ 0.16 $ (0.01)
============ ============ ============ ============
Weighted average shares outstanding:
Basic 10,508,023 8,173,482 10,441,834 6,196,251
============ ============ ============ ============
Diluted 10,508,023 9,379,501 11,168,105 6,196,251
============ ============ ============ ============
See accompanying notes to consolidated financial statements
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PEGASUS SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine Months Ended
September 30,
------------------------------
1998 1997
------------ ------------
Cash flows from operating activities:
Net income (loss) $ 1,825,114 $ (69,464)
Adjustments to reconcile net income (loss) to net cash from operating
activities:
Accrued interest reclassified to notes payable -- 58,049
Windfall tax benefit from employee exercise of non-qualified stock options 281,692 --
Depreciation and amortization 2,081,309 2,290,768
Write-off of purchased in-process R & D 2,723,614 --
Recognition of stock option compensation 203,942 122,342
Amortization of premiums on short-term investments 17,816 --
Net loss on sale of property and equipment 4,821 --
Changes in assets and liabilities:
Restricted cash (740,759) (531,471)
Accounts receivable (1,735,014) (1,238,358)
Other current and noncurrent assets (125,524) (662,300)
Accounts payable and accrued liabilities 845,233 1,143,030
Unearned income 176,108 254,156
Other noncurrent liabilities 17,928 17,928
------------ ------------
Net cash provided by operating activities 5,576,280 1,384,680
------------ ------------
Cash flows from investing activities:
Purchase of software, property and equipment (1,268,726) (818,661)
Purchase of marketable securities (22,553,383) (1,476,691)
Proceeds from maturity of marketable securities 19,763,985 4,181,767
Purchase of Driving Revenue LLC (5,998,366) --
Purchase of minority interests (1,500,000) --
Proceeds from sale of property and equipment 29,887 --
------------ ------------
Net cash provided by (used in) investing activities (11,526,603) 1,886,415
------------ ------------
Cash flows from financing activities:
Net proceeds from issuance of stock 4,392,387 40,493,500
Repayment of notes payable to affiliates -- (5,447,134)
Repayment of capital leases (850,166) (895,034)
Proceeds from capital leases -- 3,913
------------ ------------
Net cash provided by financing activities 3,542,221 34,155,245
------------ ------------
Net increase (decrease) in cash and cash equivalents (2,408,102) 37,426,340
Cash and cash equivalents, beginning of period 30,166,793 1,796,311
------------ ------------
Cash and cash equivalents, end of period $ 27,758,691 $ 39,222,651
============ ============
Supplemental disclosure of cash flow information:
Interest paid $ 124,257 $ 537,379
============ ============
Income taxes paid $ 191,288 $ --
============ ============
Supplemental schedule of noncash investing and financing activities:
Common stock warrants issued in exchange for customer contract asset $ -- $ 238,000
============ ============
Acquisition of equipment under capital leases $ -- $ 79,144
============ ============
See accompanying notes to consolidated financial statements
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PEGASUS SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
In July 1995, Pegasus Systems, Inc. (Pegasus or the Company) was formed
as a Delaware holding company to combine the operations of two existing
companies operating in the same industry, The Hotel Industry Switch
Company, Inc. (THISCO) and The Hotel Clearing Corporation (HCC). For
accounting purposes, the combination was recorded as a purchase of HCC.
The accompanying financial statements include the consolidated accounts
of Pegasus and its wholly owned subsidiaries, THISCO, HCC and Pegasus IQ.
THISCO is consolidated with its wholly owned subsidiary, TravelWeb, Inc.
(TravelWeb), and HCC is consolidated with its wholly owned subsidiary,
Pegasus Systems Inc. (UK) Limited (Pegasus UK, formerly The Hotel
Clearing Corporation (UK) Limited) (collectively, the Company). All
significant intercompany balances have been eliminated in consolidation.
THISCO was formed in September 1988 as a Delaware corporation. The
Company's THISCO service provides an electronic interface from hotel
central reservation systems to travel agencies through Global
Distribution Systems (GDSs), which are electronic travel information and
reservation systems such as SABRE.
HCC, acquired by the Company in July 1995, was formed in July 1991 as a
Delaware corporation. The Company's HCC service consolidates commissions
paid by participating hotels to a participating travel agency into a
single monthly payment and provides participants with comprehensive
transaction reports. Hotel properties and travel agencies worldwide
utilize the HCC service to increase the efficiency and reduce costs
associated with preparing, paying and reconciling the hotel room
reservation commissions.
Pegasus UK, a wholly owned subsidiary of HCC, was formed in September
1993 in England to market and provide services for travel agents and
hotel chains operating in Europe, Africa and Asia.
TravelWeb was formed in October 1995 as a Delaware corporation. The
Company's TravelWeb service provides individual travelers direct access
to online hotel information and the ability to make reservations
electronically at hotel properties. In addition, through its NetBooker
service, the Company offers TravelWeb's comprehensive hotel database and
Internet hotel reservation capabilities to third party web sites.
Pegasus IQ was formed in November 1997 as a Delaware corporation. Pegasus
IQ is expected to provide a wide array of hotel industry data, research
and reporting services for benchmark analysis and strategic planning
purposes.
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In August 1998, the Company acquired Driving Revenue LLC (Driving
Revenue), a hotel database marketing and consulting firm.
The financial information presented herein should be read in conjunction
with the Company's annual consolidated financial statements for the year
ended December 31, 1997 and the notes thereto, which have been filed with
the Securities and Exchange Commission on Form 10-K as of and for the
year ended December 31, 1997. The foregoing unaudited consolidated
financial statements as of September 30, 1998 and December 31, 1997 and
for the three and nine months ended September 30, 1998 and 1997 reflect
all adjustments (all of which are of a normal recurring nature) which
are, in the opinion of management, necessary for a fair presentation of
the results of the interim periods. The results for interim periods are
not necessarily indicative of results to be expected for the year.
2. SECONDARY PUBLIC OFFERING
The Company completed a secondary offering (Secondary) in February 1998.
The Company's Registration Statement on Form S-1 with respect to the
Secondary was declared effective on February 11, 1998. The Company sold
280,321 shares of common stock at a price of $17.50 per share. Net
proceeds to the Company, after deduction of the underwriting discount and
estimated offering expenses, were approximately $4.2 million. Selling
stockholders also sold 2,134,679 shares at a price of $17.50 per share.
The Company did not receive any proceeds from the sale of shares by the
selling stockholders.
3. ACQUISITION
In August 1998, the Company acquired all of the equity interest in
Driving Revenue for $6 million plus estimated expenses of less than
$100,000 (Acquisition). Driving Revenue is a hotel database marketing and
consulting firm based in Rockville, MD.
The Acquisition was recorded under the purchase method of accounting, and
accordingly, the results of operations of Driving Revenue for all periods
subsequent to the Acquisition date are included in the accompanying
consolidated financial statements. The purchase price has been allocated
to assets acquired and liabilities assumed based on estimated fair value
at the date of Acquisition. The approximate fair value of assets acquired
and liabilities assumed at the date of acquisition, after giving effect
to the write off of certain purchased research and development, is
summarized as follows:
Current assets (including approximately $2,000 cash) .... $ 176,000
Software ................................................ $ 344,000
Property and equipment .................................. $ 42,000
Goodwill ................................................ $ 3,053,000
Current liabilities ..................................... $ 338,000
Approximately $2,724,000,based on a valuation performed by a third party,
was allocated to in-process research and development projects that at the
time of the Acquisition had not
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reached technological feasibility and had no probable alternative future
use. Such amount of in-process research and development was charged to
expense at the date of acquisition. The balance of the purchase price
paid, approximately $3,053,000 was recorded as the excess of cost over
the fair value of net assets acquired (goodwill) and is being amortized
on a straight-line basis over a 10 year period ending August 2008.
4. EARNINGS PER SHARE
The following table sets forth the basic and diluted net income (loss)
per share (EPS) computation for the three and nine months ended September
30, 1998 and 1997:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------- --------------------------
1998 1997 1998 1997
----------- ----------- ----------- ----------
Net income (loss) ($471,858) $ 411,622 $ 1,825,114 ($69,464)
----------- ----------- ----------- ----------
Basic:
Weighted average number of shares outstanding 10,508,023 8,173,482 10,441,834 6,196,251
----------- ----------- ----------- ----------
Net income (loss) per share ($0.04) $ 0.05 $ 0.17 ($0.01)
----------- ----------- ----------- ----------
Diluted:
Weighted average number of shares outstanding 10,508,023 8,173,482 10,441,834 6,196,251
----------- ----------- ----------- ----------
Additional weighted average shares from assumed
exercise of dilutive stock options and warrants, net
of shares to be repurchased with exercise proceeds -- 1,206,019 726,271 --
----------- ----------- ----------- ----------
Weighted average number of shares outstanding used
in the diluted net income (loss) per share calculation 10,508,023 9,379,501 11,168,105 6,196,251
----------- ----------- ----------- ----------
Net income (loss) per share ($0.04) $ 0.04 $ 0.16 ($0.01)
----------- ----------- ----------- ----------
Outstanding options and warrants with strike prices below the average
fair market value of the Company's common stock for the three months
ended September 30, 1997 and the nine months ended September 30, 1998,
were included in the diluted EPS calculations for those periods. Options
for 54,000 shares of the Company's common stock at strike prices from
$19.44 to $22.74 were excluded from the diluted EPS calculation for the
nine months ended September 30, 1998 because they were antidilutive. The
excluded options expire from December 2005 to December 2006.
Options to purchase 1,236,266 shares of common stock and warrants to
purchase 345,723 shares of common stock granted from 1996 through
September 30, 1998 were excluded from the diluted EPS calculation for the
three months ended September 30, 1998. The strike prices of these options
ranged from $2.01 to $22.74 with expirations from December 2005 through
December 2006. The strike price of these warrants was $7.20 with an
expiration of May 1999.
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Options to purchase 1,084,070 shares of common stock and warrants to
purchase 345,723 shares of common stock granted from 1996 through
September 30, 1997 were excluded from the diluted EPS calculation for the
nine months ended September 30, 1997. The strike prices of these options
ranged from $2.01 to $15.30 with expirations from December 2005 through
December 2006. The strike price of these warrants was $7.20 with an
expiration of May 1999.
5. OTHER INVESTMENTS
An equity investment in Customer Analytics, Inc. of $500,000 for the
purchase of 250,000 preferred shares was completed in June 1998. Customer
Analytics, Inc. is a new database marketing applications and solutions
provider specializing in the area of customer relationship marketing. The
investment will be accounted for on the lower of cost or fair value.
In September 1998, the Company completed an equity investment in
Intermezzo Systems, Inc. The Company purchased 225,225 shares of Series B
Convertible Preferred Stock for $1,000,000. Intermezzo Systems, Inc. is a
developer of hotel reservation and property management systems and
software. The investment will be accounted for on the lower of cost or
fair value.
6. STOCKHOLDERS' EQUITY
In May 1998, the stockholders approved an amendment to the Company's
Second Amended and restated Certificate of Incorporation that decreased
the number of authorized shares of common stock, $.01 par value per
share, of the Company from 100 million to 50 million. The financial
statements have been retroactively adjusted to reflect the reduction in
authorized shares. The stockholders also approved amendments to the
Company's 1997 Stock Option Plan that increased the number of shares of
Common Stock reserved for issuance under the Plan and that provided for
grants of options to the Company's non-employee directors; and the
stockholders approved the adoption of the 1997 Employee Stock Purchase
Plan.
In September 1998, the Board of Directors authorized the repurchase of
shares of the Company's common stock from time to time in the aggregate
amount of up to $6 million. No shares have been acquired as of September
30, 1998.
Also, in September 1998, the Board of Directors declared a dividend
distribution of one preferred stock purchase right for each outstanding
share of the Company's common stock. Each right will entitle stockholders
to buy one one-thousandth of a share of the Company's Series A Preferred
Stock for each share of the Company's common stock held, at a price of
$90.00. The rights will be exercisable only if a person or group of
affiliated or associated persons acquires, or has announced the intent to
acquire, 20% or more of the Company's common stock.
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7. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
The Company has adopted Statement of Financial Accounting Standards No.
128, "Earnings per Share" (FAS 128). FAS 128 simplifies the standards for
computing EPS previously found in Accounting Principles Board No. 15,
"Earnings per Share" (APB 15), and makes them comparable to international
EPS standards by replacing the presentation of primary EPS with a
presentation of basic EPS. The provisions and disclosure requirements for
FAS 128 were required to be adopted for interim and annual periods ending
after December 15, 1997, with restatement of EPS for prior periods.
Accordingly, EPS data for all periods presented has been restated to
reflect the computation of EPS in accordance with the provisions of FAS
128.
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" (FAS 130) which was issued in June
1997. FAS 130 establishes standards for reporting and display of
comprehensive income and its components (revenues, expenses, gains, and
losses) in a full set of general-purpose financial statements. It
requires all items that are required to be recognized under accounting
standards as components of comprehensive income be reported in a
financial statement that is displayed with the same prominence as other
financial statements. FAS 130 is effective for fiscal years beginning
after December 15, 1997. Reclassification of financial statements for
earlier periods provided for comparative purposes is required upon
adoption. There were no items which qualified for treatment as components
of comprehensive income for the periods presented.
In June 1997, Statement of Financial Accounting Standards No. 131,
"Disclosure About Segments of an Enterprise and Related Information" (FAS
131) was issued. FAS 131 establishes standards for the way that public
business enterprises report information about operating segments in
annual financial statements and requires that those enterprises report
selected information about operating segments in interim financial
reports issued to stockholders. FAS 131 is effective for periods
beginning after December 15, 1997. The Company will adopt FAS 131 in its
financial statements for the year ending December 31, 1998.
On March 4, 1998, the Accounting Standards Executive Committee of the
American Institute of Certified Public Accountants issued Statement of
Position No. 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" (SOP 98-1). SOP 98-1 requires
computer software costs related to internal use software that are
incurred in the preliminary project stage should be expensed as services
consumed in developing or obtaining internal-use computer software;
payroll and payroll-related costs for employees who are directly
associated with and who devote time to the internal-use computer software
project (to the extent of the time spent directly on the project); and
interest costs incurred when developing computer software for internal
use should be capitalized. SOP 98-1 is effective for financial statements
for fiscal years beginning after December 15, 1998. Accordingly, the
Company will adopt SOP 98-1 in its financial
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statements for the year ending December 31, 1999. The Company does not
believe the adoption of SOP 98-1 will have a material effect on the
Company's results of operations or financial condition.
On June 15, 1998, Statement of Financial Accounting Standards No. 133,
"Accounting for Derivative Instruments and Hedging Activities" (FAS 133)
was issued. FAS 133 is effective for all fiscal quarters of all fiscal
years beginning after June 15, 1999 (January 1, 2000 for the Company).
FAS 133 requires that all derivative instruments be recorded on the
balance sheet at their fair value. Changes in the fair value of
derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designated as
part of a hedge transaction and, if it is the type of hedge transaction.
Management of the Company anticipates that, since it does not currently
use derivative instruments, the adoption of FAS 133 will have no effect
on the Company's results of operations or its financial position.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
Net revenues. The Company's revenues for the three months ended
September 30, 1998 increased to $7.8 million from $ 5.8 million for the three
months ended September 30, 1997, an increase of 35.0%. This increase in revenues
was primarily driven by higher transaction levels for the Company's Electronic
Reservations and Payment and Data Systems services.
Revenues contributed by the Electronic Reservations service increased by 24.4%
in the three months ended September 30, 1998 as compared to the three months
ended September 30, 1997. This increase resulted primarily from an increase in
the number of hotel reservations made through the Company's site on the Internet
(www.travelweb.com) as well as reservations made by other sites that use the
Company's NetBooker service. In addition, more hotel companies paid fees to be
listed in the Company's hotel database. Net reservations made through the
Company's THISCO service increased by 28.8%, but this increase was substantially
offset by a reduction in the average fee per reservation paid by hotel companies
to the Company. As a result, net revenues from the THISCO service for the three
months ended September 30, 1998 increased to $2.4 million from $2.3 million, an
increase of 3.0%
Revenues contributed by Payment and Data Systems increased by 44.1% as a result
of an increase in the value of transactions processed through the Company's HCC
service as well as the acquisition of Driving Revenue. Hotel commission
transactions processed during the three months ended September 30, 1998
increased by 20.8% as compared to the three months ended September 30, 1997, due
in part to the addition of hotel properties and travel agencies participating in
the HCC service. The value of commissions paid by the Company increased by 30.5%
in the three months ended September 30, 1998 as compared to the three months
ended September 30, 1997 because of an increase in the number of hotel
commission transactions
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processed by the Company combined with an increase in the average value of the
commission processed, due to rising overall hotel average daily rates and a
higher proportion of the Company's transactions generated by full-service and
luxury hotel chains.
Cost of services. Cost of services increased by $403,000, or 19.1%, to
$2.5 million in the three months ended September 30, 1998 from $2.1 million in
the three months ended September 30, 1997. Cost of services increased due to
additional staffing, higher rates of pay for technology personnel and the
increased number of transactions processed through the HCC service.
Research and development. Research and development expenses increased
$155,000, or 26.5%, to $741,000 in the three months ended September 30, 1998
from $586,000 in the three months ended September 30, 1997. This increase was
primarily due to an increased level of expenditures related to Pegasus IQ, a
data warehousing and data mining service focused on the hospitality industry.
Write-off of purchased in-process research and development. The Company
incurred a charge of $2.7 million attributable to the write-off of purchased
in-process research and development related to the Company's acquisition of
Driving Revenue in August 1998.
General and administrative expenses. General and administrative
expenses increased $170,000, or 18.0%, to $1.1 million in the three months ended
September 30, 1998 from $940,000 in the three months ended September 30, 1997.
This increase was primarily driven by higher legal, accounting, insurance,
printing and reporting costs associated with operating as a public company.
Marketing and promotion expenses. Marketing and promotion expenses
increased $122,000, or 11.4%, to $1.2 million in the three months ended
September 30, 1998 from $1.1 million in the three months ended September 30,
1997. Marketing and promotion expenses grew primarily due to the addition of
Sales and Marketing staff, the promotion of the TravelWeb service and
amortization of new customer contract incentives.
Depreciation and amortization. Depreciation and amortization expenses
decreased $297,000, or 34.5%, to $566,000 in the three months ended September
30, 1998 from $863,000 in the three months ended September 30, 1997. This
decrease was primarily due to the completion of the amortization of capitalized
software related to the Company's acquisition of 83.3% of the outstanding
capital stock of HCC in 1995.
Interest income. During the three months ended September 30, 1998, the
Company realized $632,000 in interest income as a result of short-term
investments of operating cash balances.
Interest expense. Interest expense decreased $95,000, or 73.9%, to
$34,000 in the three months ended September 30, 1998 from $128,000 in the three
months ended September 30, 1997. The expense reflects payments made under
capital equipment leases. The Company repaid all of its promissory notes payable
to certain stockholders of the Company on August 15, 1997
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using a portion of the proceeds from its Initial Public Offering of common stock
on August 6, 1997.
NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
Net revenues. The Company's revenues for the nine months ended
September 30, 1998 increased to $20.8 million from $15.2 million for the nine
months ended September 30, 1997, an increase of 36.2%. This increase in revenues
was primarily driven by higher transaction levels for the Company's Electronic
Reservations and Payment and Data Systems services.
Revenues contributed by the Electronic Reservations service increased by 20.5%
in the nine months ended September 30, 1998 as compared to the nine months ended
September 30, 1997. This increase resulted primarily from an increase in the
number of hotel reservations made through the Company's site on the Internet
(www.travelweb.com) as well as reservations made by other sites that use the
Company's NetBooker service. In addition, more hotel companies paid fees to be
listed in the Company's hotel database. Net reservations made through the
Company's THISCO service increased by 21.7%, but this increase was offset by a
reduction in the average fee per reservation paid by hotel companies to the
Company. As a result, net revenues from the THISCO service for the nine months
ended September 30, 1998 remained consistent with the prior year same period at
$6.6 million.
Payment and Data Systems revenues increased by 36.2% as a result of a 40.2%
increase in hotel commission transactions processed during the nine months ended
September 30, 1998 as compared to the nine months ended September 30, 1997, due
in part to the addition of hotel properties and travel agencies participating in
the HCC service. The value of commissions paid by the Company increased by 56.7%
in the nine months ended September 30, 1998 as compared to the nine months ended
September 30, 1997 because of an increase in the number of hotel commission
transactions processed by the Company combined with an increase in the average
value of the commission processed, due to rising overall hotel average daily
rates and a higher proportion of the Company's transactions generated by
full-service and luxury hotel chains. Net revenues arising from the increase in
commissions paid was somewhat offset by a reduction in the average fee received
by the Company from participating travel agencies for consolidating and
remitting hotel commission payments.
Cost of services. Cost of services increased by $1.6 million, or 29.6%,
to $7.1 million in the nine months ended September 30, 1998 from $5.5 million in
the nine months ended September 30, 1997. Cost of services increased due to
additional staffing, higher rates of pay for technology personnel and the
increased number of transactions processed through the HCC service.
Research and development. Research and development expenses increased
$149,000, or 8.2%, to $2.0 million in the nine months ended September 30, 1998
from $1.8 million in the nine months ended September 30, 1997. This increase was
primarily due to a higher level of
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expenditures relating to the development of the Company's new data warehousing
and data mining service.
Write-off of purchased in-process research and development. The Company
incurred a charge of $2.7 million attributable to the write-off of purchased
in-process research and development related to the Company's acquisition of
Driving Revenue in August 1998.
General and administrative expenses. General and administrative
expenses increased $591,000, or 22.6%, to $3.2 million in the nine months ended
September 30, 1998 from $2.6 million in the nine months ended September 30,
1997. This increase was primarily driven by higher legal, accounting, insurance,
printing and reporting costs associated with operating as a public company.
Marketing and promotion expenses. Marketing and promotion expenses
increased $624,000, or 20.9%, to $3.6 million in the nine months ended September
30, 1998 from $3.0 million in the nine months ended September 30, 1997.
Marketing and promotion expenses grew primarily due to the addition of Sales and
Marketing staff, the promotion of the TravelWeb service and amortization of new
customer contract incentives.
Depreciation and amortization. Depreciation and amortization expenses
decreased $209,000, or 9.1%, to $2.1 million in the nine months ended September
30, 1998 from $2.3 million in the nine months ended September 30, 1997. This
decrease was primarily due to the completion of the amortization of capitalized
software related to the Company's acquisition of 83.3% of the outstanding
capital stock of HCC in 1995, partially offset by the amortization of software
purchased from Wetherly International in December 1997.
Interest income. During the nine months ended September 30, 1998, the
Company realized $1.9 million in interest income as a result of short-term
investments of operating cash balances.
Interest expense. Interest expense decreased $422,000, or 77.6%, to
$122,000 in the nine months ended September 30, 1998 from $544,000 in the nine
months ended September 30, 1997. The expense reflects payments made under
capital equipment leases. The Company repaid all of its promissory notes payable
to certain stockholders of the Company on August 15, 1997 using a portion of the
proceeds from its Initial Public Offering of common stock on August 6, 1997.
LIQUIDITY AND CAPITAL RESOURCES
Cash provided by operating activities was $5.6 million for the nine months ended
September 30, 1998 compared to net cash provided of $1.4 million in the nine
months ended September 30, 1997.
Net cash used in investing activities for the purchase of software, furniture
and equipment amounted to $1.3 million in the nine months ended September 30,
1998 compared to $819,000
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in the nine months ended September 30, 1997. In addition, in the nine months
ended September 30, 1997 the Company acquired equipment under capital leases
with a principal value of $79,000.
In August 1998, the Company acquired all the equity interest in Driving Revenue
for $6 million plus estimated expenses of less than $100,000. Driving Revenue is
a hotel database marketing and consulting firm based in Rockville, MD.
The Company also purchased minority interests in two start-up ventures. The
Company purchased for $500,000 a minority interest in Customer Analytics, Inc.,
a new venture aimed at providing services to companies in the fields of data
warehousing and data mining. The Company purchased for $1.0 million a minority
interest in Intermezzo, Inc., a developer of hotel reservation and property
management systems and software.
The Company's principal sources of liquidity at September 30,1998 included cash
and cash equivalents of $27.8 million, short-term investments of $12.2 million
and restricted cash of $2.0 million which represents funds for travel agency
commission checks that have not cleared HCC's processing bank and are returned
to HCC. Any of such restricted cash amounts which are not remitted to travel
agents will be escheated to the appropriate state, as required.
The Company believes that its existing cash and liquidity position, combined
with expected operating cash flows, is sufficient to fund operating needs for
the foreseeable future.
YEAR 2000 COMPLIANCE.
The Year 2000 computer issue is primarily the result of Information Technology
(IT) or non-IT systems and programs with date sensitive devices, such as
embedded chips or code using a two digit format, as opposed to four digits, to
indicate the year. Such systems and programs may be unable to correctly
interpret dates beyond the year 1999, which could cause a system failure or
other errors, with the resultant disruption in the operation of such systems.
State of Readiness
Beginning in July 1997, the Company established internally staffed project teams
to address Year 2000 issues related to the Company's services to its customers
as well as any IT and non-IT internal systems supporting the Company's
operations.
The Company is currently in the process of testing and upgrading, if necessary,
its systems and processes to comply with the requirements of the Year 2000 date
transition. Company personnel are researching internal IT and non-IT hardware,
software and data issues related to dates and date range processing and each
product line is undergoing extensive internal and external testing. Any
non-compliant hardware or software discovered during testing will be upgraded or
replaced. This process includes contacting material third party suppliers and
customers to assess their Year 2000 readiness. The following is a table showing
the Company's state of Year 2000 readiness based on management's assessment:
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STATE OF READINESS
AS OF SEPTEMBER 30, 1998
INTERNAL IT AND NON-IT SYSTEMS AND EQUIPMENT
Phase Percent Estimated
----- Complete Completion Date
-------- ---------------
Awareness 100% Complete
Assessment of changes required 90% 4Q 98
Remediation or replacement 90% 2Q 99
Testing 75% 2Q 99
Contingency Planning 25% 2Q 99
SUPPLIERS, CUSTOMERS AND THIRD-PARTY PROVIDERS
Phase Percent Estimated
----- Complete Completion Date
-------- ---------------
Awareness 100% Complete
Assessment questionnaires 100% Complete
Detail assessment review with 3rd party 25% 2Q 99
providers
Contract review 50% 2Q 99
Contingency planning 25% 2Q 99
Testing as applicable 25% 2Q 99
Costs
During the nine months ended September 30, 1998 and the year ended 1997, the
Company expensed approximately $194,000 and $108,000, respectively, in labor
costs associated with its Year 2000 efforts. The Company anticipates incurring
additional labor costs of approximately $50,000 in the fourth quarter of 1998.
The Company anticipates incurring additional labor costs at levels comparable to
those incurred in 1997 in the year ending December 31, 1999. In October 1998,
the Company capitalized $48,000 related to computer equipment purchased. This
computer equipment was purchased to address the Year 2000 issue and upon the
completion of Year 2000 testing it is anticipated that such equipment will be
redeployed to support the growth of the current systems. The Company does not
anticipate incurring a material amount of additional costs related to the
purchase of IT or non-IT systems hardware for the purpose of addressing the Year
2000 issue. It is expected that all funds for these matters are being generated
from operations.
To date, no IT development projects have been delayed due to Year 2000
remediation efforts at the Company.
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Risks/Contingency Plans
Even though the Company is undertaking efforts to ensure that all its systems
and programs are Year 2000 compliant, the Company has no control over services,
functions and data provided by third party vendors and others which may result
in the inability to provide services. The Company has contacted and is working
with its material customers and vendors to verify their Year 2000 compliance.
The Company has requested end-to-end testing with those systems that interface
with the Company's systems. However, the Company has no control over third
parties and if they will be Year 2000 compliant. To date the Company has
received responses from substantially all of its material third parties. The
extent to which third party customers and vendors do not become Year 2000
compliant on a timely basis may have a material adverse effect on the Company's
cash flow and results of operations.
The Company derives nearly all of its revenues from processing electronic
reservations or consolidating hotel commissions electronically. The inability or
limitation of its ability to process electronic hotel reservations or
consolidate hotel commissions as a result of Year 2000 problems would have a
material impact on the Company's revenues and cash flow. Due to the electronic
medium used by the Company to conduct the majority of its business, any
interruption or outage of telecommunications, electricity or other basic utility
services may also adversely impact the Company's ability to do business. As
discussed above, efforts have begun to evaluate the readiness of these critical
suppliers.
The Company services the travel industry and is dependent on the continued
health of the industry. Any general disruption of travel due to Year 2000 issues
that adversely affects other travel vendors such as airlines, hotels and travel
agency systems would have a material adverse effect on the Company's cash flows
and results of operations.
The Company is in the early phase of developing contingency plans and
determining the extent of such plans.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK - Not
Applicable
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS - Not applicable
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS - The Securities and
Exchange Commission on August 6, 1997 declared effective the
Registration Statement on Form S-1 (File No. 333-28595)
relating to the initial public offering (IPO) of the
Company's Common Stock. The Company raised proceeds, net of
offering expenses, of $40.5 million from the IPO.
Approximately, $5.2 million of these proceeds were used to
repay notes payable to stockholders and repay certain lease
obligations. $400,000 was used to acquire the software assets
of a third-party company. $1,500,000 was used to acquire
minority interests in a database management consulting company
and a company which provides software services to the
hospitality industry. The Company also paid $6,000,000 to
acquire a hotel database marketing and consulting company. The
remainder of these proceeds has been placed in short-term
marketable securities.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES - Not applicable
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS - Not applicable
ITEM 5. OTHER INFORMATION - Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
EXHIBIT 10.1 - Citibank Global Payments Service Agreement dated
July 24, 1998 between the Hotel Clearing Corporation and
Citibank, N.A.
EXHIBIT 27 - FINANCIAL DATA SCHEDULE
(b) REPORTS ON FORM 8-K - Not applicable
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PEGASUS SYSTEMS, INC.
November 13, 1998 /s/ John F. Davis, III
----------------------
John F. Davis, III,
President and Chief
Executive Officer
November 13, 1998 /s/ Jerome L. Galant
--------------------
Jerome L. Galant
Chief Financial Officer
(principal financial officer)
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EXHIBIT INDEX
Exhibit
Number Description of Exhibits
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10.1 - Citibank Global Payments Service Agreement dated July 24, 1998
between the Hotel Clearing Corporation and Citibank, N.A.
27 - Financial Data Schedule