UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_______________
FORM 10-Q
(Mark one)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2003
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 SOLUTIONS, 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.)
CAMPBELL CENTRE I, 8350 NORTH CENTRAL EXPRESSWAY, SUITE 1900, DALLAS, TEXAS
75206
(Address of principal executive office)
(Zip Code)
Registrant's telephone number, including area code: (214) 234-4000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).
Yes X No
The number of shares of the registrant's common stock, par value $0.01 per
share, outstanding as of May 9, 2003 was 24,790,396.
1
PEGASUS SOLUTIONS, INC.
FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2003
INDEX
Page
----
Part I. Financial Information
Item 1. Financial Statements (Unaudited) 3
a) Condensed Consolidated Balance Sheets as of March 31, 2003
and December 31, 2002 3
b) Condensed Consolidated Statements of Operations and Comprehensive
Loss for the Three Months Ended March 31, 2003 and 2002 4
c) Condensed Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2003 and 2002 5
d) Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
Item 4. Controls and Procedures 15
Part II. Other Information
Item 1. Legal Proceeding 16
Item 6. Exhibits and Reports on Form 8-K 16
Signatures 17
2
Part I. Financial Information
Item 1. Financial Statements
PEGASUS SOLUTIONS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT FOR SHARE AMOUNTS)
(UNAUDITED)
ASSETS
MARCH 31, DECEMBER 31,
2003 2002
--------- ---------
Cash and cash equivalents $ 17,625 $ 19,893
Short-term investments 3,029 4,033
Accounts receivable, net 28,750 25,886
Other current assets 8,657 8,368
--------- ---------
Total current assets 58,061 58,180
Goodwill, net 139,533 139,533
Intangible assets, net 1,590 6,013
Property and equipment, net 70,052 71,442
Other noncurrent assets 14,681 12,927
--------- ---------
Total assets $283,917 $288,095
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable and accrued liabilities $ 24,723 $ 26,574
Unearned income 11,505 7,812
Other current liabilities 7,584 6,799
--------- ---------
Total current liabilities 43,812 41,185
Noncurrent uncleared commission checks 4,861 4,641
Other noncurrent liabilities 15,174 16,379
Commitments and contingencies
Stockholders' equity:
Preferred stock, $0.01 par value; 2,000,000 shares
authorized; zero shares issued and outstanding - -
Common stock, $0.01 par value; 50,000,000 shares
authorized; 24,761,712 and 24,747,165 shares
issued, respectively 248 247
Additional paid-in capital 287,795 287,676
Unearned compensation (237) (571)
Accumulated other comprehensive loss (1,702) (1,705)
Accumulated deficit (66,034) (59,757)
--------- ---------
Total stockholders' equity 220,070 225,890
--------- ---------
Total liabilities and stockholders' equity $283,917 $288,095
========= =========
<FN>
See accompanying notes to condensed consolidated financial statements.
3
PEGASUS SOLUTIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS AND COMPREHENSIVE LOSS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
2003 2002
--------- --------
Revenues:
Service revenues $ 38,390 $45,907
Customer reimbursements 2,523 2,803
--------- --------
Total revenues 40,913 48,710
Costs of services:
Cost of services 21,490 23,048
Customer reimbursements 2,523 2,803
--------- --------
Total costs of services 24,013 25,851
Research and development 1,513 2,010
General and administrative expenses 6,135 5,834
Marketing and promotion expenses 4,238 4,217
Depreciation and amortization 12,118 12,140
Restructure costs 3,193 -
--------- --------
Operating loss (10,297) (1,342)
Other income (expense):
Interest income, net 380 261
Other (34) (253)
--------- --------
Loss before income taxes (9,951) (1,334)
Income tax benefit 3,674 533
Net loss $ (6,277) $ (801)
========= ========
Other comprehensive income (loss):
Change in unrealized gain (loss), net of tax 3 (27)
--------- --------
Comprehensive loss $ (6,274) $ (828)
========= ========
Basic and diluted net loss per share $ (0.25) $ (0.03)
========= ========
Basic and diluted weighted average shares outstanding 24,651 24,732
========= ========
<FN>
See accompanying notes to condensed consolidated financial statements.
4
PEGASUS SOLUTIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
---------
2003 2002
-------- --------
Cash flows from operating activities:
Net loss $(6,277) $ (801)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization 12,118 12,140
Other 414 1,857
Changes in assets and liabilities:
Accounts receivable (2,864) (5,754)
Other assets (2,304) 1,398
Accounts payable and accrued liabilities (1,851) (5,987)
Unearned income 3,693 1,713
Other liabilities (144) 2,494
-------- --------
Net cash provided by operating activities 2,785 7,060
Cash flows from investing activities:
Purchase of marketable securities - (2,104)
Proceeds from maturity of marketable securities 1,000 6,970
Purchase of property and equipment (6,335) (5,518)
Proceeds from sale of property and equipment 19 -
Investment in Travelweb, LLC - (615)
Collections of note receivable 214 -
-------- --------
Net cash used in investing activities (5,102) (1,267)
Cash flows from financing activities:
Proceeds from issuance of common stock 97 403
Other (48) (16)
-------- --------
Net cash provided by financing activities 49 387
Net increase (decrease) in cash and cash equivalents (2,268) 6,180
Cash and cash equivalents, beginning of period 19,893 13,438
-------- --------
Cash and cash equivalents, end of period $17,625 $19,618
======== ========
<FN>
See accompanying notes to condensed consolidated financial statements.
5
PEGASUS SOLUTIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
Pegasus Solutions, Inc. is a leading provider of hotel room reservation
services, reservation technology systems and hotel representation services for
the global hospitality industry. The unaudited condensed consolidated financial
statements include the accounts of Pegasus Solutions, Inc. and its wholly owned
subsidiaries ("Pegasus" or "the Company"). All significant intercompany
balances have been eliminated in consolidation. Pegasus' common stock is traded
on the Nasdaq National Market under the symbol PEGS.
On February 4, 2003, the Company announced a strategic reorganization to
integrate its technology and hospitality segments into one operating unit. As a
result, the Company's operations have integrated support functions including
consolidated sales and marketing, product development, service delivery,
reservation and data management, information technology, finance and human
resources. Because the Company has changed its management approach,
organizational structure, operating performance assessment and reporting, and
operational decision making from a segment perspective (technology and
hospitality) to a view from one single company. Accordingly, the Company will
no longer report separate segment information.
Certain prior year amounts have been reclassified to conform to current year
presentation. In the opinion of management, the unaudited condensed
consolidated financial statements presented herein reflect all adjustments
necessary to fairly state the financial position, operating results, and cash
flows for the periods presented. Such adjustments are of a normal recurring
nature. The results for interim periods are not necessarily indicative of
results expected for the entire fiscal year. The accompanying unaudited
condensed consolidated financial statements and the notes thereto should be read
in conjunction with the consolidated financial statements and notes thereto
contained in the Company's Annual Report on Form 10-K for the year ended
December 31, 2002.
2. NET LOSS PER SHARE
Basic net loss per share is computed by dividing net loss available to common
stockholders by the weighted average number of common shares outstanding for the
reporting period. The effect of stock options is not included in the
calculation of diluted net loss per share for the three months ended March 31,
2003 and 2002, as the effect would be anti-dilutive. Shares issuable upon the
exercise of stock options that were excluded from the calculation were
5.0 million, and 3.7 million, as of March 31, 2003 and 2002, respectively. As
of March 31, 2003, the Company also has issued 98,400 shares of restricted
stock, which vest in June 2003 that have not been included in the calculation of
diluted net loss for the three months ended March 31, 2003, as the effect would
be anti-dilutive.
3. STOCK-BASED COMPENSATION
The Company accounts for stock-based compensation utilizing the intrinsic value
method in accordance with the provisions of Accounting Principles Board Opinion
No. 25 (APB 25), "Accounting for Stock Issued to Employees" and related
Interpretations. Accordingly, no compensation expense is recognized for fixed
option plans because the exercise prices of employee stock options equal or
exceed the market prices of the underlying stock on the dates of grant. The
Company maintains stock option, restricted stock and employee stock purchase
plans. Total compensation expense recorded for these plans was $334,000 and
$13,000 for the three months ended March 31, 2003 and 2002, respectively.
6
The following table represents the effect on net loss and net loss per share if
the Company had applied the fair value based method and recognition provisions
of Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation," to stock-based employee compensation (In thousands,
except per share amounts):
THREE MONTHS ENDED
MARCH 31,
2003 2002
---- ----
Net loss, as reported $ (6,277) $ (801)
Add: Stock-based employee compensation expense
included in reported loss, net of related tax
effects 203 8
Deduct: Total stock-based employee compensation
expense determined under fair value based methods
for all awards, net of related tax effects (1,518) (1,106)
--------- ---------
Pro forma net loss $ (7,592) $ (1,899)
Net loss per share, basic and diluted:
As reported $ (0.25) $ (0.03)
Pro forma $ (0.31) $ (0.08)
The pro forma disclosures provided may not be representative of the effects on
reported net income (loss) for future years due to future grants and the vesting
requirements of the Company's stock option plans. For purposes of pro forma
disclosures, the estimated fair value of stock-based compensation plans and
other options is amortized over the vesting period.
4. RESTRUCTURE COSTS
On February 4, 2003, the Company announced a strategic reorganization to
integrate its technology and hospitality divisions into one operating unit. The
integration plan, which includes the elimination of redundant positions and
consolidation of certain facilities, is expected to be substantially completed
during the first half of 2003. The elimination of redundant positions
represents approximately 10 percent of the Company's workforce, primarily due to
the integration of support functions. The Company estimates restructure costs
will total from $5 million to $6 million. During the quarter ended March 31,
2003, the Company recorded $3.2 million of restructure costs, comprised of
$833,000 of costs paid or otherwise settled and $2.4 million of costs incurred
and to be paid later, which are classified as accrued liabilities. These costs
represented one-time termination benefits.
5. CONTINGENCIES
Pegasus is subject to certain legal proceedings, claims and disputes that arise
in the ordinary course of our business. Although management cannot predict the
outcomes of these legal proceedings, we do not believe these actions will have a
material adverse effect on our financial position, results of operations or
liquidity.
7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the consolidated financial statements and notes thereto included
in our Annual Report on Form 10-K for the year ended December 31, 2002. This
discussion and analysis contains forward-looking statements including statements
using terminology such as "may," "will," "expects," "plans," "intends,"
"anticipates," "believes," "estimates," "potential," or "continue," or a similar
negative phrase or other comparable terminology regarding beliefs, hopes, plans,
expectations or intentions for the future. This discussion and analysis
contains forward-looking statements that involve various risks and
uncertainties, and the actual results and timing of certain events could differ
materially from our current expectations. Factors that could cause or
contribute to such a difference include, but are not limited to, changes in
general economic conditions, variation in demand for our products and services
and in the timing of our sales, changes in product and price competition for
existing and new competitors, changes in our level or operating expenditures,
delays in developing, marketing and deploying new products and services,
terrorist activities, action by U.S. or other military forces, global health
epidemics, changes in hotel room rates, capacity adjustments by airlines,
negative trends in the overall demand for travel, other adverse changes in
general market conditions for business and leisure travel, as well as other
risks and uncertainties described in Pegasus' filings with the Securities and
Exchange Commission, specifically including those appearing under the caption
Risk Factors in our 2002 Annual Report on Form 10-K.
DEPENDENCE ON THE HOTEL INDUSTRY AND IMPACT OF THE ECONOMIC CLIMATE AND OTHER
WORLD EVENTS
Our business is sensitive to changes in the demand for and average daily rates
associated with hotel rooms. The weak economic climate and other world events,
such as continuing terrorist threat alerts, the war in Iraq and continuing
geopolitical uncertainty, have adversely impacted the travel industry and our
business. These events were predicated by the terrorist attacks of September
11, 2001, which resulted in sharp declines in both the number of hotel room
reservations and the average daily rate charged for hotel rooms. The overall
long-term impact of these events on Pegasus and the travel industry is
uncertain.
Although the recovery in the number of reservations subsequent to September 11,
2001 was quicker than anticipated, transatlantic business travel and average
daily rates lagged behind the recovery in transaction volumes. Since our
electronic distribution and central reservation system, or CRS, revenues are
primarily transaction-based, revenues for these services, which had sharp
decreases immediately following September 11, 2001, recovered relatively quickly
and were close to the levels seen prior to September 11, 2001. However, the
recovery in transaction volumes stalled due to the weak economic environment,
continuing terrorist alerts and the war in Iraq. Further, since our hotel
representation and commission processing services are based in large part on a
combination of reservation volume and average daily rates, their recovery has
been somewhat slower. In addition, we have experienced a lengthening in the
sales cycle for some of our services, as new customers are hesitant to sign new
contracts given the uncertain economic environment.
The weak economic climate in the United States, the war in Iraq and ongoing
terrorist alerts have resulted in a decrease in the demand for hotel rooms and,
therefore, have negatively impacted our revenues. In addition, financial crises
in the airline industry and Severe Acute Respiratory Syndrome, or SARS, have
negatively impacted the hospitality industry in recent months. We expect these
negative business trends to continue into the second quarter and do not expect
hotel reservation volume and average daily room rates to increase measurably
until corporate earnings start to show improvement and accordingly the general
corporate confidence drives business travel back to normal levels. Additional
terrorist activities, escalation of hostilities in the Middle East or elsewhere,
the continued spread of SARS, or further delays in the economic recovery could
have a material adverse effect on our business, operating results and financial
condition.
OVERVIEW
Pegasus is a leading provider of hotel room reservation services, reservation
technology systems and hotel representation services for the global hospitality
industry. Our customers and distribution channels include:
8
- - Tens of thousands of travel agency locations around the world, including
the 10 largest U.S.-based travel agencies based on revenues;
- - More than 48,000 hotel properties around the globe, including the 50
largest hotel brands in the world based on total number of guest
rooms; and
- - Thousands of Web sites that have their hotel reservations "Powered by
Pegasus" TM.
On February 4, 2003, we announced a strategic reorganization to integrate our
technology and hospitality segments into one operating unit. The single
operating unit will have integrated support functions including consolidated
sales and marketing, product development, service delivery, reservation and data
management, information technology, finance and human resources. The
integration plan continues our existing strategy of better aligning our services
with our customers' needs, thus allowing for future revenue growth and the
realization of further synergies as one fully integrated company. This plan,
which is expected to take approximately six months to substantially complete,
includes the elimination of redundant positions and the consolidation of some
facilities. Beginning in 2004, the estimated annual cost savings from the
integration are expected to range from $9 million to $11 million. Because we
have changed our management approach, organizational structure, operating
performance assessment and reporting, and operational decision making from a
segment perspective (technology and hospitality) to a view from one single
company. Accordingly, we will no longer report separate segment information.
SERVICES
Through our comprehensive and integrated product offering we can provide one or
more of the following systems and services to the global hospitality industry:
CRS, electronic distribution, hotel representation services, travel agent
commission processing, and property management systems, or PMS
Reservation Services. We were formed in 1989 by 16 of the world's leading hotel
and travel-related companies to be the world's premier service provider of a
streamlined and automated hotel reservation process. Our UltraSwitch(R)
technology provides a seamless electronic connection between a hotel's CRS and
the global distribution systems, or GDSs, which travel agents use to book
airline reservations. This electronic distribution service supports a variety
of distribution channels including the following:
- - GDS connectivity - Our electronic distribution service is linked to all
major GDSs and therefore connects our hotel customers to travel agents
around the world.
- - Third-party Internet sites - We provide travel-related Internet sites
access to our hotel information database containing more than 45,000
properties and on-line hotel reservation capability. We provide this
service to several of the leading travel Internet sites such as
Expedia.com, HotWire.com, Lastminute.com, Amadeus' e-Travel,
Continental.com, Orbitz.com, Travelweb.com and our own Utell.com.
- - Hotel Internet sites - Our NetBookerTM service provides hotel companies
with a hotel information database and Internet-based reservation
capabilities. Hotel Internet sites that are "Powered by Pegasus"
offer brand-loyal Internet shoppers real-time rates, availability and
booking capabilities.
Our CRS is provided on an application service provider basis to approximately
8,000 hotel properties, representing more than 2.1 million hotel rooms
worldwide. Pegasus also provides CRS software licenses to an additional 20
hotel brands, representing approximately 13,000 properties.
Our CRS service provides hotel customers with a license for our RezViewTM CRS
software as well as the hardware and facilities necessary to process
reservations. Our CRS service also includes the following support and
outsourcing services:
- - System administration
- - Database administration
- - Electronic distribution channel management
- - Telecommunications management
- - Private-label voice reservation services
9
Hotel Representation Services. Hotel Representation Services, offered under the
Utell brand, include marketing programs, sales representation, a voice
reservation network with local language capabilities in 41 countries, and
distribution through all GDSs and a proprietary Internet booking site,
www.Utell.com, with thousands of linked third-party Internet sites. In order
to sell their rooms in the marketplace, many independent hotels and small hotel
chains associate themselves with our hotel representation service, offered under
the Utell brand, and use our systems and infrastructure to market and accept
reservations for their rooms. Hotels typically utilize our hotel representation
service for the following reasons:
- - To achieve a cost-effective presence in the primary electronic
distribution channels - GDSs and the Internet.
- - To obtain a global voice reservation capability through which travel
agents can book their rooms over the telephone via a local call with
local language capabilities.
- - To enhance the market image of the hotel by affiliation with a well-known
name in hotel distribution.
- - To benefit from worldwide sales and marketing support.
Utell is the oldest, largest and most diverse hotel representation service in
the world providing hotel sales, marketing, voice reservation and GDS and
Internet services for over 4,500 hotels in 147 countries. Utell uses Pegasus'
CRS, which offers advanced electronic distribution capabilities and provides
both a GDS and Internet presence for member hotels.
In addition, Utell has two financial service offerings, Paytell and TravelCom.
In some international markets, it is customary for travelers to prepay for hotel
rooms and other travel arrangements. Paytell is a service that allows travelers
to prepay for reservations, with Pegasus remitting amounts to hotels when the
guest stay occurs. TravelCom is an Internet-based proprietary system that
allows member hotels to expedite commission payments to travel agents.
Financial Services. Financial Services provides comprehensive commission
processing and payment solutions to hotels, other travel suppliers and travel
agencies in more than 200 countries. Key services include commission
processing, commission reconciliation and tracking for member agencies, global
commission solutions for participating hotels and PegsPay, our payment service
targeted at travel distributors that operate under the merchant model.
Each month, Pegasus consolidates, distributes, reconciles, tracks and reports
millions of dollars in commission payments to travel agency locations worldwide
on behalf of more than 35,000 participating hotel properties. Traditionally,
the process of reconciling and paying hotel commissions to travel agencies was
based on transaction-specific hotel data and consisted of a number of relatively
small payments to travel agencies, often including payments in multiple
currencies. Our value-added commission consolidation and reporting service
facilitates more efficient and effective operation for both hotel and travel
agency participants by providing a single, monthly commission payment to member
travel agencies from participating hotels in their choice of currency. Our
commission processing service processed over $110 million of hotel commissions
in the three months ended March 31, 2003.
Property Systems and Services. PegasusCentralTM is our Internet-based PMS
service. Traditionally, hotel CRSs and PMSs had separate databases that
communicated only intermittently, often resulting in unbalanced inventories.
With PegasusCentral, when a hotel reservation is made from a central
reservations office, via the Internet, or at the property, only one database is
accessed. This centralized inventory stores all pertinent information for both
the central reservation and property management functions and provides
consistent, real-time access to rates, availability and other detailed property
information. PegasusCentral benefits both hotel chains and independent
properties by assisting in the management and operation of many hotel functions,
including:
- - Enhanced property management
- - Multi-property central reservation
- - Customer relationship management
- - Sales and catering
- - Point-of-sale
- - Back-office modules such as receivables, payables and purchasing
10
In 2002, Six Continents Hotels named it as one of two preferred PMS standards
for its 2,500-plus Holiday Inn and Holiday Inn Express properties. Particularly
in today's economic climate, these and other hotel companies can realize the
benefits of PegasusCentral through the following:
- - Reduced capital equipment expenditures - Other PMS services typically
require significant capital expenditures. Because PegasusCentral is
Internet-based, hotel properties will incur only the cost of a
computer with Internet access to operate this system. Centrally
hosted hardware and data services are located at Pegasus' data center,
providing secure central storage for applications and data.
- - Reduced employee training costs - PegasusCentral's Internet-based
technology is easy to use, offering convenient pull-down menus,
substantially reducing the customer's learning curve. In addition,
users can take advantageof interactive online training modules.
- - Reduced IT staffing costs - PegasusCentral performs system upgrades from a
centralized facility resulting in instant product rollouts to all
locations. This reduces the need for on-site technical experts and
eliminates long rollout schedules and complex system upgrades.
- - Available per-transaction pricing - With available per-transaction
pricing, hotels pay transaction fees only as their rooms are occupied,
better aligning technology costs with room revenues.
In addition to PegasusCentral, we obtained two proprietary software solutions as
part of the acquisitions of REZ, Inc., or REZ, and Global Enterprise Technology
Solutions, LLC, or GETS. Revenues for the first three months of 2003 consisted
of maintenance and support fees related to these PMS software solutions, as well
as revenues from our PegasusCentral service.
REVENUES
The classification of service revenues and customer reimbursements has been
reflected in the financial statements to conform with current-year presentation
and to give effect to the 2002 adoption of the Emerging Issues Task Force, or
EITF, Issue 01-14. Under EITF 01-14, Pegasus' billings for out-of-pocket
expenses, such as third-party vendor GDS and telecommunication charges, are
classified as customer reimbursements, which is a component of total revenues,
and the related costs are classified as customer reimbursements, which is a
component of total costs of services. The adoption of EITF 01-14 had no effect
on our financial position, operating loss, cash flows or per-share results.
Revenues applicable to customer reimbursements are primarily related to GDS fees
that we pay on behalf of and subsequently bill our customers. In the future, if
our customers decide to pay their bills directly, our customer reimbursements
revenue and customer reimbursements cost of services will decrease accordingly.
Reservation Services. Reservation Services revenues consist of CRS and
electronic distribution revenues. CRS revenues consist of transaction fees as
well as license, maintenance and support fees related to our RezView software.
Electronic distribution revenues primarily consist of transaction fees,
commissions and monthly subscription or maintenance fees. In addition, new
hotel customers typically pay a one-time fee for establishing the connection
between the hotel's central reservation system and the electronic distribution
technology. New third-party Internet site customers typically pay a one-time
fee for establishing the connection between the third-party Internet site and
our electronic distribution technology, which is amortized over the related
contract period. Reservation Services revenues represented approximately 43
percent of service revenues for the three months ending March 31, 2003.
11
Hotel Representation Services. Hotel Representation Services revenues consist
of reservation processing fees, membership fees and fees for various marketing
services. In addition, the Paytell service allows international travelers, who
book rooms at hotels for which we provide representation services, to prepay for
their hotel rooms in the hotel's local currency. When a traveler arrives at the
hotel, Pegasus remits the amount to the hotel in the hotel's local currency.
Revenues for this service are derived from transaction fees and the difference
in the exchange rate between the date the traveler pays and the date the guest
stay occurs. Hotel Representation Services revenues represented approximately
34 percent of service revenues for the three months ending March 31, 2003.
Financial Services. Financial Services revenues consist of both travel agency
and hotel fees. Travel agency fees are based on a percentage of the value of
hotel commissions processed by Pegasus on behalf of participating travel
agencies. Revenues from travel agency fees can vary substantially from period
to period based on the demand for hotel rooms, the types of hotels (such as
upscale or economy) at which reservations are made and fluctuations in overall
room rates. In addition, participating hotels generally pay fees based on the
number of commissionable transactions that Pegasus processes for the hotel.
Financial Services revenues represented approximately 19 percent of service
revenues for the three months ending March 31, 2003.
Property Systems and Services. Property Systems and Services revenues primarily
consist of maintenance and support fees related to the REZ and GETS
acquisitions. In addition, Property Systems and Services revenues include fees
from our PegasusCentral product, which are recognized monthly. Property Systems
and Services represented approximately 4 percent of service revenues for the
three months ending March 31, 2003.
Other Services. Pegasus regularly seeks to develop new services to capitalize
on its existing technology and customer base and to provide additional
electronic hotel reservation capabilities and information services to its
existing customers and to other participants in the travel distribution process.
Pegasus has not received a material amount of revenue from these services, and
there can be no assurance that any of these services will produce a material
amount of revenue in the future.
COSTS
Pegasus' costs of services consists principally of personnel costs relating to
information technology, customer service and telemarketing, facilities and
equipment maintenance costs. Costs of services also includes the cost of
customer reimbursements. Research and development costs consist principally of
personnel costs, related overhead costs and fees paid to outside consultants.
General and administrative expenses are primarily personnel, legal and
accounting-related, and certain facilities costs. Marketing and promotion
expenses consist primarily of personnel costs, advertising, public relations and
participation in trade shows and other industry events. Depreciation and
amortization expense includes depreciation of computer equipment, office
furniture, office equipment and leasehold improvements as well as amortization
of software and intangible assets.
FLUCTUATION OF FOREIGN CURRENCIES
Pegasus derives a significant portion of its revenue from customers located
outside the United States. Particularly in Europe, fluctuations of foreign
currencies such as the Euro and the British Pound relative to the U.S. Dollar
result in Pegasus earning more or less revenue and expending more or less in
expenses than it otherwise might have earned if currency rates had remained
stable.
STRATEGIC INTEGRATION PLAN
On February 4, 2003, Pegasus announced a strategic reorganization to integrate
its technology and hospitality segments into one operating unit. The single
operating unit will have integrated customer-driven support functions including
consolidated sales and marketing, product development, service delivery,
reservation and data management, information technology, finance and human
resources.
The integration plan, which includes the elimination of redundant positions and
consolidation of certain facilities, is expected to be substantially completed
during the first half of 2003. Beginning in 2004, the estimated annual cost
savings are expected to range from $9 million to $11 million. As a result of
the plan, Pegasus expects to incur restructure costs ranging from $5 million to
$6 million, of which $3.2 million was recorded in the three months ended March
31, 2003. The remaining costs will be recorded over the next several quarters
in 2003. The elimination of redundant positions represents approximately 10
percent of the Company's workforce, primarily due to the integration of support
functions.
12
RESULTS OF OPERATIONS
Pegasus' service revenues are predominantly transaction-based. In addition to
these service revenues, Pegasus bills some customers for certain reimbursable
expenses, primarily GDS fees for those customers who do not pay these fees
directly. The classification of service revenues and customer reimbursements
has been adjusted to conform with the current-year presentation and to give
effect to the 2002 adoption of EITF 01-14.
Revenues. As reflected in the table below, total revenues for the three months
ended March 31, 2003 and 2002 were $40.9 million and $48.7 million,
respectively. Total service revenues decreased $7.5 million, or 16 percent to
$38.4 million for the three months ended March 31, 2003, compared to $45.9
million for the same period in 2002. Excluding a $3.5 million termination fee
received from a customer following the termination of its contract in March
2002, service revenues decreased $4.0 million. Overall, year-over-year revenue
comparisons are impacted by the economic climate in the United States and
internationally, the war with Iraq, financial crises in the airline industry and
the emergence of SARS, as well as the effect the September 11, 2001 events had
on the three months ended March 31, 2002.
Other changes in the business are described in the paragraphs that follow the
presentation of revenues below (In thousands):
Three months ended
March 31,
2003 2002
---- ----
Reservation Services $16,645 $22,684
Hotel Representation Services 13,033 14,593
Financial Services 7,234 6,948
Property Systems & Services 1,478 1,682
------ ------
Total service revenues 38,390 45,907
Customer reimbursements 2,523 2,803
------- -------
Total revenues $40,913 $48,710
======= =======
Total continuing operations,
excluding revenues for customer
reimbursements (1) $38,390 $42,373
======= =======
(1) Excludes a $3.5 million termination fee included in Reservation Services
in March 2002.
Reservation Services revenues decreased $6.0 million, or 27 percent, to $16.6
million for the three months ended March 31, 2003, compared to $22.7 million for
the same period in 2002. Excluding the impact of the $3.5 million termination
fee, noted above, reservation services revenues decreased $2.5 million, or 13
percent. The decrease was primarily due to the termination of two customer
contracts that provided $3.8 million of revenue in the three months ended March
31, 2002, offset by a $1.7 million increase in electronic distribution revenues
due to a 35 percent increase in Internet transactions.
Hotel Representation Services revenues decreased by $1.6 million, or 11 percent,
to $13.0 million for the three months ended March 31, 2003, compared to $14.6
million for the same period in 2002. The reduction in revenues was due to a
decrease in reservation fees, caused primarily by the global economic climate
and other world events, which led to a sharp decline in domestic and
transatlantic bookings for Utell hotels, as well as a decrease in the number of
hotels Utell represents as a result of a strategic initiative in 2002 to upgrade
Utell's hotel portfolio.
Financial Services revenues increased $286,000, or 4 percent, to $7.2 million
for the three months ended March 31, 2003, compared to $6.9 million for the same
period in 2002. The increased revenue was primarily attributable to our new
PegsPay service, the addition of new travel agencies, and the impact of
favorable foreign currency exchange rate fluctuations, offset by the impact of a
reduction in average daily rates charged by hotels.
13
Property Systems and Services revenues for the three months ended March 31, 2003
and 2002 were essentially flat.
Customer reimbursements decreased approximately $280,000 to $2.5 million in the
three months ended March 31, 2003, compared to $2.8 million in the same period
in 2002 due to a decrease in our customers' GDS transaction volume.
Cost of services. Cost of services, excluding customer reimbursements, was $21.5
million for the three months ended March 31, 2003, compared to $23.0 million for
the same period in 2002. The decrease was primarily due to a $1.0 million
reduction in bad debt expense due to an overall improvement in the
collectibility of the Company's accounts receivable as compared to the prior
year, which was partially caused by the uncertainty of the impact of the events
of September 11th on customer accounts, $700,000 of employee-related costs
incurred in 2002 but not in 2003, and reductions in volume-related costs of
services. These decreases were offset by approximately $900,000 of
non-recurring costs incurred in 2003, primarily related to the Company's move of
the Arizona office and data center and transition activities resulting from the
Company's strategic integration. Cost of services as a percentage of service
revenues was 56 percent and 50 percent for the three months ended March 31, 2003
and 2002, respectively.
Research and development. Research and development expenses were $1.5 million
for the three months ended March 31, 2003, compared to $2.0 million in the same
period in 2002. The decrease was primarily due to an increase in the
capitalization of payroll costs associated with software development efforts.
Research and development expenses as a percentage of service revenues were 4
percent for the three months ended March 31, 2003 and 2002.
General and administrative expenses. General and administrative expenses were
$6.1 million for the three months ended March 31, 2003, compared to $5.8 million
for the same period in 2002. The increase was primarily due to higher
employee-related and insurance costs. General and administrative expenses as a
percentage of service revenues were 16 percent and 13 percent for the three
months ended March 31, 2003 and 2002, respectively.
Marketing and promotion expenses. Marketing and promotion expenses were $4.2
million for the three months ended March 31, 2003 and 2002. Marketing and
promotion expenses as a percentage of service revenues were 11 percent and 9
percent for the three months ended March 31, 2003 and 2002, respectively.
Depreciation and amortization. Depreciation and amortization expenses were
$12.1 million for the three months ended March 31, 2003 and 2002.
Restructure costs. During the three months ended March 31, 2003, Pegasus
incurred $3.2 million of restructuring charges, primarily consisting of one-time
termination benefits related to reorganizing its operations from a business unit
structure into distinct functional areas. Restructuring included $833,000 of
costs paid or otherwise settled and $2.4 million of costs incurred and to be
paid later, which are classified as accrued liabilities.
Income tax benefit. Pegasus recorded income tax benefit of $3.7 million,
representing an effective tax rate of 37 percent, for the three months ended
March 31, 2003, compared to an income tax benefit of $533,000, representing an
effective tax rate of 40 percent, for the three months ended March 31, 2002.
The effective tax rate for the three months ended March 31, 2003 differed from
the statutory rate of 35 percent, primarily due to the benefit of lower foreign
tax rates, offset by nondeductible expenses.
LIQUIDITY AND CAPITAL RESOURCES
Pegasus' principal sources of liquidity at March 31, 2003 included cash and cash
equivalents of $17.6 million, short-term investments of $3.0 million and an
unused revolving credit facility of $30.0 million with Chase Bank of Texas,
Compass Bank and Wells Fargo Bank (Texas), which extends through March 31, 2004.
14
Pegasus has entered into two irrevocable standby letter of credit agreements
with JP Morgan Chase Bank totaling $2.6 million related to the leases for its
new Dallas and Scottsdale offices. On January 14, 2003, the $2.6 million
letters of credit were reduced to $2.1 million as a result of the annual
$450,000 decrease to one of the letters of credit. The amount available to
Pegasus under the $30 million credit facility is reduced by these letters of
credit.
Pegasus had working capital of $14.2 million at March 31, 2003, compared to a
working capital of $17.0 million at December 31, 2002. Working capital
decreased primarily as a result of capital expenditures, partially offset by
cash flows from operations. Net cash provided by operating activities decreased
to $2.8 million for the three months ending March 31, 2003, from $7.1 million
for the same period in 2002, primarily due to a reduction in service revenues
and the impact of restructure costs incurred in 2003.
Net cash used in investing activities rose to $5.1 million for the three months
ended March 31, 2003 compared to $1.3 million for the same period in 2002. This
increase was primarily the result of a decrease in net proceeds from marketable
securities, which contributed net cash of $4.9 million for the three months
ended March 31, 2002, compared to $1.0 million for the same period in 2003.
Additionally, capital expenditures increased slightly because of costs
associated with our new offices in Scottsdale and an increase in capitalized
software development.
Pegasus expects to continue to incur capital expenditures related to adding
capacity to existing systems and software development, which we estimate will
total from $18 million to $20 million for 2003. Operating leases continue to be
the only off-balance sheet financing arrangements in which Pegasus engages.
On June 5, 2002, the Board of Directors authorized the repurchase of up to 2.5
million shares of Pegasus' common stock. No shares were repurchased during the
three months ended March 31, 2003. Any future repurchases are at the discretion
of the Board of Directors' Stock Repurchase Committee and may be made on the
open market, in privately negotiated transactions or otherwise, depending on
market conditions, price, share availability and other factors.
We estimate total restructure costs to implement our strategic reorganization
will total from $5 million to $6 million. Beginning in 2004, the estimated
annual cost savings expected to result from the reorganization range from $9
million to $11 million.
Our future liquidity and capital requirements will depend on numerous factors,
including:
- - Our profitability
- - Operational cash requirements, including payments for severance and
redundant facilities related to our restructuring
- - Competitive pressures
- - Development of new services and applications
- - Acquisition of and investment in complementary businesses or technologies
- - Common stock repurchases
- - Response to unanticipated cash requirements
Pegasus believes its cash flows from operations, together with funds available
from debt financing will be sufficient to meet its foreseeable operating and
capital requirements through at least the next twelve months. Pegasus may
consider other financing alternatives to fund its requirements, including
possible public or private debt or equity offerings. However, there can be no
assurance that any financing alternatives sought by Pegasus will be available or
will be on terms that are attractive to Pegasus. Further, any debt financing
may involve restrictive covenants, and any equity financing may be dilutive to
stockholders.
ITEM 4. CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures designed to ensure that
it is able to collect the information it is required to disclose in the reports
it files with the SEC, and to process, summarize and disclose this information
within the time periods specified in the rules of the SEC. Within the 90 days
prior to the filing of this report, Pegasus carried out an evaluation, under the
15
supervision and with the participation of Pegasus' management, including its
Chief Executive Officer and Chief Financial Officer, of the effectiveness of
Pegasus' disclosure controls and procedures. Based upon that evaluation,
Pegasus' Chief Executive Officer and Chief Financial Officer concluded that
Pegasus' disclosure controls and procedures, as defined in Rules 13(a) -14(c)
and 15(d)-14(c) under the Securities Exchange Act of 1934, are effective in
timely alerting them to material information required to be included in Pegasus'
periodic SEC reports.
In designing and evaluating the disclosure controls and procedures, management
recognized that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving the desired control
objectives, and management necessarily was required to apply its judgment in
evaluating the cost-benefit relationship of possible controls and procedures.
The Company maintains a system of internal controls designed to provide
reasonable assurance that transactions are executed in accordance with
management's general or specific authorization and that transactions are
recorded as necessary:
- to permit preparation of financial statements in conformity with generally
accepted accounting principles, and
- to maintain accountability for assets.
Since the date of the most recent evaluation of the Company's internal controls
by the Chief Executive and Chief Financial Officers, there have been no
significant changes in such controls or in other factors that could have
significantly affected those controls, including any corrective actions with
regard to significant deficiencies and material weaknesses.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Pegasus is subject to certain legal proceedings, claims and disputes that arise
in the ordinary course of our business. Although management cannot predict the
outcomes of these legal proceedings, we do not believe these actions will have a
material adverse effect on our financial position, results of operations or
liquidity.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
Exhibit 10.1 - Employment agreement dated January 1, 2003 between the Company
and Joseph W. Nicholson.
Exhibit 99.1 - Certification of Chief Executive Officer, Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
Exhibit 99.2 - Certification of Chief Financial Officer, Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
Exhibit 99.3 - Certification of Chief Executive Officer, Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
Exhibit 99.4 - Certification of Chief Financial Officer, Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
b) Reports on Form 8-K filed
On February 5, 2003, Pegasus Solutions, Inc. filed a report on Form 8-K under
Item 5 - Other Events for its press release announcing its financial results for
the fourth quarter and year ended December 31, 2002, as well as its plans to
strategically integrate the Company.
16
On April 30, 2003 Pegasus Solutions, Inc. filed a report on Form 8-K under Item
9 - Regulation FD Disclosure for its press release announcing its financial
results for the first quarter ended March 31, 2003.
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 SOLUTIONS, INC.
May 14, 2003 /s/ JOHN F. DAVIS, III
John F. Davis, III,
--------------------------------
Chairman, Chief
Executive Officer and President
May 14, 2003 /s/ SUSAN K. COLE
Susan K. Cole,
--------------------------------
Executive Vice President
and Chief Financial Officer
(Principal Accounting Officer)
17
EXHIBIT INDEX
Exhibit Number Description
- --------------- -----------
10.1 Employment agreement dated January 1, 2003 between the Company and
Joseph W. Nicholson.
99.1 Certification of Chief Executive Officer, Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
99.2 Certification of Chief Financial Officer, Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
99.3 Certification of Chief Executive Officer, Pursuant to 18 U.S.C. Section
1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.
99.4 Certification of Chief Financial Officer, Pursuant to 18 U.S.C. Section
1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.