<PAGE> 1
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 JUNE 30, 1999
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
August 9, 1999 was 13,332,521.
<PAGE> 2
PEGASUS SYSTEMS, INC.
FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 1999
INDEX
PART I. FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Item 1. Financial Statements (unaudited) PAGE
----
<S> <C>
a) Consolidated Balance Sheets
as of June 30, 1999 and December 31, 1998.......... 3
b) Consolidated Statements of Operations
for the Three Months and Six Months
Ended June 30, 1999 and 1998....................... 4
c) Consolidated Statements of Cash Flows
for the Six Months Ended June 30, 1999 and 1998.... 5
d) Notes to Consolidated Financial Statements ............ 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations .................... 9
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds................... 16
Item 4. Submission of Matters to Vote of Security Holders........... 16
Item 6. Exhibits and Reports on Form 8-K............................ 17
SIGNATURES.................................................................... 18
</TABLE>
2
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PEGASUS SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
<TABLE>
<CAPTION>
JUNE 30, 1999 DECEMBER 31, 1998
------------- -----------------
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 115,787,038 $ 25,002,185
Restricted cash 2,257,869 2,106,676
Short-term investments 17,622,658 15,768,400
Accounts receivable, net 5,131,578 3,687,518
Other current assets 4,317,929 3,689,254
------------- -------------
Total current assets 145,117,072 50,254,033
Capitalized software, net 1,164,573 869,619
Property and equipment, net 3,035,002 2,635,068
Goodwill, net 4,016,868 4,238,071
Other noncurrent assets 1,221,546 2,323,620
------------- -------------
Total assets $ 154,555,061 $ 60,320,411
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable and accrued liabilities $ 6,164,121 $ 4,715,018
Unearned income 1,439,785 258,667
Customer deposits 367,346 347,422
Current portion of capital lease obligations 195,972 535,072
------------- -------------
Total current liabilities 8,167,224 5,856,179
Other noncurrent liabilities 124,584 142,380
Capital lease obligations, net of current portion -- 57,634
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;
13,433,570 and 10,653,371 shares issued, respectively 134,335 106,533
Additional paid-in capital 152,468,688 63,383,905
Unearned compensation (483,049) (615,636)
Accumulated deficit (5,830,383) (8,584,246)
Less treasury stock (116,484 shares, at cost) (26,338) (26,338)
------------- -------------
Total stockholders' equity 146,263,253 54,264,218
------------- -------------
Total liabilities and stockholders' equity $ 154,555,061 $ 60,320,411
============= =============
</TABLE>
See accompanying notes to consolidated financial statements
3
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PEGASUS SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
1999 1998 1999 1998
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Net revenues $ 9,188,530 $ 6,781,393 $ 17,561,026 $ 12,948,660
Cost of services 2,953,056 2,407,794 5,516,480 4,574,176
Research and development 618,159 624,985 1,229,603 1,225,467
General and administrative expenses 1,342,330 1,038,459 2,675,342 2,093,163
Marketing and promotion expenses 1,709,037 1,177,726 2,972,856 2,419,850
Depreciation and amortization 559,231 762,460 1,238,503 1,515,736
------------ ------------ ------------ ------------
Operating income 2,006,717 769,969 3,928,242 1,120,268
Other income (expense):
Interest income 1,133,531 653,173 1,662,241 1,297,048
Write-off of minority interest investment (1,100,110) -- (1,100,110) --
Interest expense (11,057) (40,958) (29,231) (88,440)
------------ ------------ ------------ ------------
Income before income taxes 2,029,081 1,382,184 4,461,142 2,328,876
Income taxes 776,529 25,004 1,707,279 31,904
------------ ------------ ------------ ------------
Net income $ 1,252,552 $ 1,357,180 $ 2,753,863 $ 2,296,972
============ ============ ============ ============
Net income per share:
Basic $ 0.10 $ 0.13 $ 0.24 $ 0.22
============ ============ ============ ============
Diluted $ 0.10 $ 0.12 $ 0.23 $ 0.21
============ ============ ============ ============
Weighted average shares outstanding:
Basic 12,076,584 10,490,936 11,329,832 10,408,191
============ ============ ============ ============
Diluted 12,908,368 11,269,257 12,226,000 11,154,474
============ ============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements
4
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PEGASUS SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
------------------------------
1999 1998
------------- -------------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 2,753,863 $ 2,296,972
Adjustments to reconcile net income to net cash from operating activities:
Windfall tax benefit from employee exercise of non-qualified stock options 1,415,624 271,383
Depreciation and amortization 1,238,503 1,515,736
Write-off of minority interest investment 1,100,110 --
Recognition of stock option compensation 164,421 141,384
Amortization of premiums on short-term investments 30,620 16,784
Gain on sales of property and equipment -- (838)
Changes in assets and liabilities:
Restricted cash (151,193) (570,545)
Accounts receivable (1,444,060) (1,708,952)
Other current and noncurrent assets (526,601) (47,116)
Accounts payable and accrued liabilities 1,469,027 782,745
Unearned income 1,181,118 701,376
Other noncurrent liabilities (17,796) 11,952
------------- -------------
Net cash provided by operating activities 7,213,636 3,410,881
------------- -------------
Cash flows from investing activities:
Purchase of software, property and equipment (1,712,188) (797,026)
Purchase of marketable securities (18,115,765) (14,906,516)
Proceeds from maturity of marketable securities 16,230,886 13,764,461
Investment in minority interest (100,110) (500,000)
Proceeds from sale of property and equipment -- 13,840
------------- -------------
Net cash used in investing activities (3,697,177) (2,425,241)
------------- -------------
Cash flows from financing activities:
Net proceeds from issuance of stock 87,665,128 4,380,563
Repayment of capital leases (396,734) (578,035)
------------- -------------
Net cash provided by financing activities 87,268,394 3,802,528
------------- -------------
Net increase in cash and cash equivalents 90,784,853 4,788,168
Cash and cash equivalents, beginning of period 25,002,185 30,166,793
------------- -------------
Cash and cash equivalents, end of period $ 115,787,038 $ 34,954,961
============= =============
Supplemental disclosure of cash flow information:
Interest paid $ 22,416 $ 95,119
============= =============
Income taxes paid $ 88,750 $ 102,998
============= =============
</TABLE>
See accompanying notes to consolidated financial statements
5
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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 (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, Pegasus IQ,
Inc. (Pegasus IQ) and Driving Revenue L.L.C. (Driving Revenue)
(collectively, Pegasus or the Company). 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). All significant intercompany balances have been
eliminated in consolidation.
In the opinion of management, the unaudited 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
consolidated financial statements and the notes thereto should be read in
conjunction with the consolidated financial statements and notes thereto
contained in our annual report for the year ended December 31, 1998 on
Form 10-K. Pegasus management believes that the disclosures are
sufficient for interim financial reporting purposes.
2. EARNINGS PER SHARE
Basic net income per share for the three and six months ended June 30,
1999 and 1998 has been computed in accordance with Statement of Financial
Accounting Standards No. 128, "Earnings per Share" (FAS 128) using the
weighted average number of common shares outstanding.
Diluted net income per share for the three and six months ended June 30,
1999 and 1998 gives effect to all dilutive potential common shares that
were outstanding during the respective periods. Outstanding options and
warrants with strike prices below the average fair market value of
Pegasus common stock for the three and six months ended June 30, 1999 and
1998 were included in the diluted earnings per share (EPS) calculations
for the respective periods. Options for 1,000 shares of Pegasus common
stock at a strike price of $40.88 were excluded from the diluted EPS
calculation for the three months ended March 31, 1999 because they were
antidilutive. Options for 6,000 shares of Pegasus common stock at strike
prices from $40.88 to $46.75 were excluded from the diluted EPS
calculation for the three months ended June 30, 1999 because they were
antidilutive. The excluded options expire December 2005. All outstanding
options and warrants were included in the diluted EPS calculation for the
three and six months ended June 30, 1998.
6
<PAGE> 7
The following table sets forth the basic and diluted EPS computation for
the three and six months ended June 30, 1999 and 1998:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
------------------------- -------------------------
1999 1998 1999 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net income $ 1,252,552 $ 1,357,180 $ 2,753,863 $ 2,296,972
=========== =========== =========== ===========
Basic:
Weighted average number of shares
outstanding 12,076,584 10,490,936 11,329,832 10,408,191
----------- ----------- ----------- -----------
Net income per share $ 0.10 $ 0.13 $ 0.24 $ 0.22
=========== =========== =========== ===========
Diluted:
Weighted average number of shares
outstanding 12,076,584 10,490,936 11,329,832 10,408,191
Additional weighted average shares
from assumed exercise of dilutive
stock options and warrants, net of
shares to be repurchased with exercise
proceeds 831,784 778,321 896,168 746,283
----------- ----------- ----------- -----------
Weighted average number of shares
outstanding used in the diluted net
income per share calculation 12,908,368 11,269,257 12,226,000 11,154,474
----------- ----------- ----------- -----------
Net income per share $ 0.10 $ 0.12 $ 0.23 $ 0.21
=========== =========== =========== ===========
</TABLE>
3. SEGMENT INFORMATION
In 1998, Pegasus adopted Statement of Financial Accounting Standards No.
131, "Disclosures about Segments of an Enterprise and Related
Information". The prior year's segment information has been restated to
present the Company's three reportable segments:
o Pegasus Electronic Distribution - provides services that enable
travel agents and individual travelers to electronically access
hotel room inventory information and conduct reservation
transactions;
o Pegasus Commission Processing - provides commission payment
processing services to the hotel industry and travel agencies; and
o Pegasus Business Intelligence - provides database marketing and
consulting services and is being expanded to provide data mining
and reporting services for benchmark analysis and strategic
planning for the hotel industry.
Pegasus is organized primarily on the basis of services provided. Segment
data includes a charge allocating all corporate costs to the operating
segments. Management evaluates performance of its segments based on
pretax income.
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The following table presents information about reported segments for the
three months ended June 30:
<TABLE>
<CAPTION>
Electronic Commission Business Reconciling
Distribution Processing Intelligence Items Total
------------ ----------- ------------ ----------- -----------
<S> <C> <C> <C> <C> <C>
1999
Net revenues $ 4,343,400 $ 4,424,701 $ 420,429 $ -- $ 9,188,530
Income (loss) before taxes 1,027,827 2,088,749 (1,059,748) (27,747) 2,029,081
1998
Net revenues 2,894,967 3,886,426 -- -- 6,781,393
Income (loss) before taxes (67,434) 1,075,479 (238,398) 612,537 1,382,184
</TABLE>
The following table presents information about reported segments for the
six months ended June 30:
<TABLE>
<CAPTION>
Electronic Commission Business Reconciling
Distribution Processing Intelligence Items Total
------------ ----------- ------------ ----------- -----------
<S> <C> <C> <C> <C> <C>
1999
Net revenues $ 8,307,452 $ 8,409,890 $ 843,684 $ -- $17,561,026
Income (loss) before taxes 2,190,165 3,788,168 (1,985,740) 468,549 4,461,142
1998
Net revenues 5,691,715 7,256,945 -- -- 12,948,660
Income (loss) before taxes (16,886) 1,574,173 (451,464) 1,223,053 2,328,876
</TABLE>
Reconciling items for the three and six months ended June 30, 1999 and
1998 include interest income earned on short-term investments.
Reconciling items for the three and six months ended June 30, 1999 also
include a write-off of the Company's investment in Intermezzo Systems,
Inc.
4. SECONDARY PUBLIC OFFERING
In May 1999, Pegasus completed a secondary public offering of common
stock. The effective date of the registration statement on Form S-3 was
May 6, 1999. Pegasus sold 2,300,000 shares of common stock at a price of
$38.88. After deducting the underwriters' discounts and offering
expenses, net proceeds to Pegasus were approximately $84.4 million.
5. MINORITY INTEREST INVESTMENT
In September 1998, Pegasus purchased a minority interest in Intermezzo
Systems, Inc., a developer of enterprise software solutions for the
hospitality industry. The Intermezzo Board of Directors elected to cease
operations in July 1999 and entered into an orderly plan of liquidation.
As a result, Pegasus wrote-off $1,100,110 in the second quarter
representing the Company's entire investment in Intermezzo.
8
<PAGE> 9
6. STOCK WARRANT
In May 1999, a customer exercised a warrant to purchase 345,723 shares of
Pegasus common stock at $7.20 per share. The warrant was issued in May
1997 as part of a five-year contract involving a wide range of Pegasus
services. At issuance, Pegasus used the Black-Scholes option pricing
model to value the warrant, and a $238,000 contract asset was recorded.
The contract asset is being amortized ratably over the five-year contract
period.
7. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In March 1998, 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 that certain costs related to the development or purchase
of internal-use software be capitalized and amortized over the estimated
useful life of the software. SOP 98-1 is effective for financial
statements for fiscal years beginning after December 15, 1998.
Accordingly, Pegasus will adopt SOP 98-1 in its 1999 annual financial
statements. Pegasus does not believe the adoption of SOP 98-1 will have a
material impact on the Company's results of operations or financial
condition.
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (FAS 133). FAS 133 requires that all
derivative instruments be recorded on the balance sheet at fair value.
Changes in the fair value of derivatives are recorded each period in
current earnings or other comprehensive income, depending on whether the
derivative is designated as part of a hedge transaction. FAS 133 is
effective for the Company's first quarter financial statements in fiscal
2001. Pegasus is not currently involved in derivative instruments or
hedging activities, and therefore, will measure the impact of this
statement as it becomes necessary.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
The following discussion contains certain forward-looking statements that
involve risks and uncertainties. Actual results and the timing of certain events
could differ materially from those discussed in the forward-looking statements
as a result of certain factors, including those set forth under the heading
"Risk Factors" in our filings with the Securities and Exchange Commission,
including our Form 10-K for the fiscal year ended December 31, 1998.
OVERVIEW
Pegasus is a leading provider of transaction processing and electronic commerce
services to the hotel industry worldwide. Pegasus is organized into three
businesses: Pegasus Electronic Distribution, Pegasus Commission Processing and
Pegasus Business Intelligence.
Pegasus Electronic Distribution. Pegasus Electronic Distribution includes our
GDS distribution service and Internet-based distribution services. These
services improve the efficiency and effectiveness of the
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hotel reservation process by enabling travel agents and individual travelers to
electronically access hotel room inventory information and conduct reservation
transactions.
Our GDS distribution service, formerly referred to as THISCO, provides an
electronic interface between hotel central reservation systems and the global
distribution systems that travel agents use to book hotel and airline
reservations. This interface enables the processing of hotel reservations as
well as the transmission of electronic status messages, which are used to update
room rates, features and availability information on global distribution system
databases.
Pegasus offers volume-based discounting for GDS distribution fees. The recent
consolidation in the hotel industry has resulted in a lower average fee per
transaction for the GDS distribution service. Pegasus expects this trend to
continue.
Our Internet-based distribution services provide online hotel reservation
capabilities to travelers via our TravelWeb.com website (www.travelweb.com) and
our private-label reservation service, formerly referred to as NetBooker. In
addition, Pegasus is developing services that will automate the hotel
reservation process for conventions and large meetings as well as for corporate
travel departments.
Pegasus Commission Processing. Pegasus Commission Processing, formerly referred
to as HCC, is the global leader in hotel commission payment processing. Pegasus
Commission Processing improves the efficiency and effectiveness of the
commission payment process for participating hotels and travel agencies by
consolidating payments and providing comprehensive transaction reports.
Pegasus Business Intelligence. Pegasus Business Intelligence, formerly referred
to as Pegasus IQ and Driving Revenue, provides database marketing and consulting
services and is being expanded to provide data mining and reporting services for
benchmark analysis and strategic planning for the hotel industry.
THREE MONTHS ENDED JUNE 30, 1999 AND 1998
Net revenues. Net revenues for the three months ended June 30, 1999 increased to
$9.2 million from $6.8 million for the three months ended June 30, 1998, an
increase of 35.5%. This increase in revenues was primarily driven by higher
transaction levels for Pegasus Electronic Distribution and Pegasus Commission
Processing as well as the acquisition of Driving Revenue in August 1998, which
provided the majority of Pegasus Business Intelligence revenues for the three
months ended June 30, 1999.
Pegasus Electronic Distribution revenues increased 50.0% for the three months
ended June 30, 1999 as compared to the same period in 1998. This increase
resulted primarily from a 33.3% increase in the number of hotel reservations
made through our GDS and Internet-based distribution services. Approximately one
half of the increase in net reservations was attributable to Bass Hotels and
Resorts, Inc., which began using our GDS distribution service in May 1998. In
addition, total electronic distribution revenue per transaction increased while
GDS revenue per transaction decreased as compared to the prior year quarter. The
overall increase in revenue per transaction was due to a higher percentage of
Internet transactions, which generate more revenue per transaction.
Pegasus Commission Processing revenues increased 13.9% for the three months
ended June 30, 1999 compared to the same period in 1998 as a result of a 15.1%
increase in the number of hotel commission transactions processed. The increase
in the number of transactions was due in part to an increase in the number of
hotel properties and travel agencies participating in Pegasus Commission
Processing. The value of commissions paid by Pegasus increased 17.3% for the
three months ended June 30, 1999 as
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compared to the same period in 1998 because of an increase in the number of
hotel commission transactions processed combined with an increase in the average
value of commissions processed. Net revenues arising from the increase in
commissions paid was somewhat offset by a reduction in the average fee received
from participating travel agencies for consolidating and remitting hotel
commission payments. Pegasus expects this trend to continue.
Pegasus Business Intelligence revenues were $420,000 for the three months ended
June 30,1999 and were due to the acquisition of Driving Revenue in August 1998.
Pegasus Business Intelligence revenues consisted of fees charged to hotels for
the development and maintenance of hotel databases and for consulting services.
Cost of services. Cost of services increased by $545,000, or 22.6%, to $3.0
million for the three months ended June 30, 1999 from $2.4 million for the three
months ended June 30, 1998. Cost of services increased due to additional
staffing primarily related to new business intelligence services. This increase
was offset by reduced costs associated with Pegasus Commission Processing as
certain functions that were previously outsourced are now performed in-house at
a lower cost.
Research and development. Research and development expenses were $618,000 for
the three months ended June 30, 1999, which is consistent with $625,000 for the
same period in 1998. Current period research and development expenses were
primarily related to the development of business intelligence services.
General and administrative expenses. General and administrative expenses
increased $304,000, or 29.3%, to $1.3 million for the three months ended June
30, 1999 from $1.0 million for the same period in 1998. This increase was
primarily due to higher office costs including rent, telephone, travel and
supplies associated with increased headcount. In addition, accounting and legal
expenses increased as a result of additional reporting and consulting services
necessary due to increasingly complex tax, legal and reporting issues associated
with our growth over the past year.
Marketing and promotion expenses. Marketing and promotion expenses increased
$531,000, or 45.1%, to $1.7 million for the three months ended June 30, 1999
from $1.2 million for the same period in 1998. Marketing and promotion expenses
increased primarily due to the promotion of our Internet-based distribution
services during the quarter as well as marketing our new business intelligence
services.
Depreciation and amortization. Depreciation and amortization expenses decreased
$203,000, or 26.7%, to $559,000 for the three months ended June 30, 1999 from
$762,000 for the same period in 1998. Depreciation and amortization decreased
primarily because goodwill and capitalized software associated with the purchase
accounting transaction that formed Pegasus was fully amortized as of the
beginning of the fourth quarter of 1998. This decrease was partially offset by
additional amortization of goodwill and software related to the acquisition of
Driving Revenue in August 1998.
Interest income. Interest income increased $480,000, or 73.5%, to $1.1 million
for the three months ended June 30, 1999 from $653,000 for the same period in
1998. Interest income increased as Pegasus had additional cash available for
short-term investment as a result of our secondary public offering of common
stock in May 1999. The increase was partially offset by a decline in the
prevailing interest rate level for short-term investments.
Write-off of minority interest investment. In September 1998, Pegasus purchased
a minority interest in Intermezzo. The Intermezzo Board of Directors elected to
cease operations in July 1999 and entered into
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an orderly plan of liquidation. Pegasus wrote-off $1.1 million in the second
quarter of 1999 representing our entire investment in Intermezzo.
Interest expense. Interest expense decreased $30,000, or 73.0%, to $11,000 for
the three months ended June 30, 1999 from $41,000 for the same period in 1998.
The expense reflects payments made under capital equipment leases, and the
decrease is due to the expiration of certain leases.
Income taxes. Income taxes for the three months ended June 30, 1999 reflect
federal, state and foreign income taxes payable. Income taxes for the three
months ended June 30, 1998 include only state and foreign income taxes payable
as the Company was able to realize the benefit of its federal net operating loss
carryforwards in 1998.
SIX MONTHS ENDED JUNE 30, 1999 AND 1998
Net revenues. Net revenues for the six months ended June 30, 1999 increased to
$17.6 million from $12.9 million for the six months ended June 30, 1998, an
increase of 35.6%. This increase in revenues was primarily driven by higher
transaction levels for Pegasus Electronic Distribution and Pegasus Commission
Processing as well as the acquisition of Driving Revenue in August 1998, which
provided the majority of Pegasus Business Intelligence revenues for the six
months ended June 30, 1999.
Pegasus Electronic Distribution revenues increased 46.0% for the six months
ended June 30, 1999 as compared to the same period in 1998. This increase
resulted primarily from an increase in the number of hotel reservations made
through our GDS and Internet-based distribution services. In addition, total
electronic distribution revenue per transaction increased while GDS revenue per
transaction decreased as compared to the prior year period. The overall increase
in revenue per transaction was due to a higher percentage of Internet
transactions, which generate more revenue per transaction.
Pegasus Commission Processing revenues increased 15.9% for the six months ended
June 30, 1999 compared to the same period in 1998 as a result of a 16.8%
increase in the number of hotel commission transactions processed. The increase
in the number of transactions was due in part to an increase in the number of
hotel properties and travel agencies participating in Pegasus Commission
Processing. The value of commissions paid by Pegasus increased 20.5% for the six
months ended June 30, 1999 as compared to the same period in 1998 because of an
increase in the number of hotel commission transactions processed combined with
an increase in the average value of commissions processed. Net revenues arising
from the increase in commissions paid was somewhat offset by a reduction in the
average fee received from participating travel agencies for consolidating and
remitting hotel commission payments. Pegasus expects this trend to continue.
Pegasus Business Intelligence revenues were $844,000 for the six months ended
June 30,1999 and were due to the acquisition of Driving Revenue in August 1998.
Pegasus Business Intelligence revenues consisted of fees charged to hotels for
the development and maintenance of hotel databases and for consulting services.
Cost of services. Cost of services increased by $942,000, or 20.6%, to $5.5
million for the six months ended June 30, 1999 from $4.6 million for the six
months ended June 30, 1998. Cost of services increased due to additional
staffing primarily related to new business intelligence services. This increase
was offset by reduced costs associated with Pegasus Commission Processing as
certain functions that were previously outsourced are now performed in-house at
a lower cost.
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Research and development. Research and development expenses were $1.2 million
for the six months ended June 30, 1999 and 1998. Current period research and
development expenses were primarily related to the development of business
intelligence services.
General and administrative expenses. General and administrative expenses
increased $582,000, or 27.8%, to $2.7 million for the six months ended June 30,
1999 from $2.1 million for the same period in 1998. This increase was primarily
due to higher office costs including rent, telephone, travel and supplies
associated with increased headcount. Pegasus also launched a new corporate
identity and branding strategy during the first quarter of 1999, which resulted
in additional costs for the transition to our new company logo. In addition,
accounting and legal expenses increased as a result of additional reporting and
consulting services necessary due to increasingly complex tax, legal and
reporting issues associated with our growth over the past year.
Marketing and promotion expenses. Marketing and promotion expenses increased
$553,000, or 22.9%, to $3.0 million for the six months ended June 30, 1999 from
$2.4 million for the same period in 1998. Marketing and promotion expenses
increased primarily due to the promotion of our Internet-based distribution
services during the period as well as marketing our new business intelligence
services.
Depreciation and amortization. Depreciation and amortization expenses decreased
$277,000, or 18.3%, to $1.2 million for the six months ended June 30, 1999 from
$1.5 million for the same period in 1998. Depreciation and amortization
decreased primarily because goodwill and capitalized software associated with
the purchase accounting transaction that formed Pegasus was fully amortized as
of the beginning of the fourth quarter of 1998. This decrease was partially
offset by additional amortization of goodwill and software related to the
acquisition of Driving Revenue in August 1998.
Interest income. Interest income increased $365,000, or 28.2%, to $1.7 million
for the six months ended June 30, 1999 from $1.3 million for the same period in
1998. Interest income increased as Pegasus had additional cash available for
short-term investment as a result of our secondary public offering of common
stock in May 1999. The increase was partially offset by a decline in the
prevailing interest rate level for short-term investments.
Interest expense. Interest expense decreased $59,000, or 67.0%, to $29,000 for
the six months ended June 30, 1999 from $88,000 for the same period in 1998. The
expense reflects payments made under capital equipment leases, and the decrease
is due to the expiration of certain leases.
Write-off of minority interest investment. In September 1998, Pegasus purchased
a minority interest in Intermezzo. The Intermezzo Board of Directors elected to
cease operations in July 1999 and entered into an orderly plan of liquidation.
Pegasus wrote-off $1.1 million in the second quarter of 1999 representing our
entire investment in Intermezzo.
Income taxes. Income taxes for the six months ended June 30, 1999 reflect
federal, state and foreign income taxes payable. Income taxes for the six months
ended June 30, 1998 include only state and foreign income taxes payable as the
Company was able to realize the benefit of its federal net operating loss
carryforwards in 1998.
13
<PAGE> 14
LIQUIDITY AND CAPITAL RESOURCES
Pegasus' principal sources of liquidity at June 30, 1999 included cash and cash
equivalents of $115.8 million, short-term investments of $17.6 million and
restricted cash of $2.3 million. Restricted cash represents funds for travel
agency commission checks that have not cleared the processing bank and are
returned to Pegasus. The portion of restricted cash amounts not remitted to
travel agents will be escheated to the appropriate state, as required. Pegasus
has financed its cash requirements for investments primarily through cash
generated from operations, sale of capital stock and capital lease financing.
Working capital increased to $136.9 million at June 30, 1999 from $44.4 million
at December 31, 1998. Cash provided by operating activities was $7.2 million for
the six months ended June 30, 1999 compared to $3.4 million for the same period
in 1998 due to our improved operating performance.
Capital expenditures consist of purchases of software, furniture and computer
equipment and were $1.7 million for the six months ended June 30, 1999 compared
to $797,000 for the same period in 1998.
In May 1999, Pegasus completed a secondary public offering of common stock,
raising net proceeds of $84.4 million. Pegasus is currently using the net
proceeds from this offering for working capital and other general corporate
purposes, with the remaining amount placed in short-term investments. In
addition, Pegasus may use the net proceeds to acquire complementary businesses,
products, services or technologies; however, we currently have no commitments or
agreements regarding any such transaction.
Pegasus believes that our existing cash and liquidity position combined with
expected operating cash flows are sufficient to adequately manage the operation
of the business in 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 only the last two digits to refer to a year. The
failure of these devices to interpret dates beyond the year 1999 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, Pegasus established internally
staffed project teams to address year 2000 issues related to services provided
to customers as well as any IT and non-IT internal systems supporting our
operations. Pegasus has tested and upgraded, if necessary, its systems and
processes to comply with the requirements of the year 2000 date transition.
Pegasus personnel have researched internal IT and non-IT hardware, software and
data issues related to dates and date range processing, and each product line
has undergone extensive internal and external testing. Any non-compliant
hardware or software discovered during testing has been upgraded or replaced.
This process included contacting material third-party suppliers and customers to
assess their year 2000 readiness. The following is a table showing our state of
year 2000 readiness based on management's assessment:
14
<PAGE> 15
STATE OF READINESS
Internal IT and Non-IT Systems and Equipment
<TABLE>
<CAPTION>
Percent Estimated
Phase Complete Completion Date
----- -------- ---------------
<S> <C> <C>
Awareness 100% Complete
Assessment of changes required 100% Complete
Remediation or replacement 100% Complete
Testing 100% Complete
Contingency planning 75% October 1999
</TABLE>
Suppliers, Customers and Third-Party Providers
<TABLE>
<CAPTION>
Percent Estimated
Phase Complete Completion Date
----- -------- ---------------
<S> <C> <C>
Awareness 100% Complete
Assessment questionnaires 100% Complete
Detail assessment review with third-party
providers 100% Complete
Contract review 100% Complete
Contingency planning 75% October 1999
Testing as applicable 90% December 1999
</TABLE>
Costs. During the six months ended June 30, 1999, the Company expensed
approximately $56,000 in labor costs associated with its year 2000 efforts. For
the years ended December 31, 1998 and 1997, Pegasus expensed approximately
$258,000 and $108,000, respectively, in labor costs associated with year 2000
efforts. Total labor costs for 1999 related to year 2000 efforts are expected to
be less than those incurred in 1998 and comparable to those incurred in 1997. In
addition, Pegasus anticipates incurring approximately $13,000 for the lease of
additional testing hardware in 1999. In 1998, Pegasus capitalized $48,000 of
computer equipment. 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 used to support the growth of the current systems.
Pegasus does not anticipate incurring a material amount of additional costs
related to the purchase of IT and non-IT hardware for the purpose of addressing
the year 2000 issue. Cash required to fund these matters is expected to be
generated from operations. To date, no IT development projects have been delayed
due to year 2000 remediation efforts.
Risks/Contingency Plans. Even though Pegasus is undertaking efforts to ensure
that all its systems and programs are year 2000 compliant, Pegasus has no
control over services, functions and data provided by third-party vendors and
others which may result in the inability to provide services. Pegasus has
contacted and is working with its material customers and vendors to verify their
degree of year 2000 compliance. Pegasus has requested end-to-end testing with
those systems that interface with our systems. However, Pegasus has no control
over year 2000 compliance for third parties. To date, Pegasus has received
responses from substantially all of its material third-party customers and
vendors. The extent to which third-party customers and vendors do not become
year 2000 compliant in a timely manner may have a material adverse effect on our
cash flow and results of operations.
15
<PAGE> 16
Pegasus derives nearly all revenues from processing electronic reservations or
consolidating hotel commissions electronically. Our inability or limitation of
our ability to process electronic reservations or consolidate hotel commissions
due to year 2000 problems would have a material impact on our revenues and cash
flow. Due to the electronic medium used by Pegasus to conduct the majority of
our business, any interruption or outage of telecommunications, electricity or
other basic utility services may also adversely impact our ability to do
business.
Pegasus 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 our cash flows and
results of operations.
Pegasus is currently developing contingency plans and determining the extent of
such plans.
PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS - In May 1999, Pegasus
issued and sold 345,723 shares to Bass Hotels and Resorts, Inc. at a
purchase price of $7.20 per share resulting in an aggregate purchase
price of $2,489,206 pursuant to the exercise of a warrant issued in
May 1997 to Holiday Hospitality Corporation, the predecessor of Bass.
The foregoing transaction did not involve any underwriters,
underwriting discounts or commissions, or any public offering, and
Pegasus believes that this transaction was exempt from the
registration requirements of the Securities Act of 1933, as amended,
by virtue of Section 4(2) thereof. On July 6, 1999, a Form S-3
Registration Statement was declared effective by the Securities and
Exchange Commission which covers 25,000 shares issued to Bass in
connection with the exercise of the warrant. The remainder of the
shares issued to Bass remain unregistered.
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 of Pegasus common stock.
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS - Pegasus held
its annual meeting of stockholders on Thursday May 13,1999. At the
annual meeting Pegasus stockholders took the following actions:
i) by a vote of 8,350,855 for and 914,060 withheld for each
candidate, the stockholders elected Robert B. Collier, Mark
C. Wells and Bruce W. Wolff as Class II directors for a term
of three years or until their respective successors are
elected and qualified; and
ii) by a vote of 5,006,204 for, 2,963,257 against, 30,983
abstaining and 1,264,471 non-votes, the stockholders
approved amendments to Pegasus' Amended and Restated 1997
Stock Option Plan that increase the number of shares of
common stock reserved for issuance under the plan and limit
the maximum number of options which may be granted to an
individual during a fiscal year to 500,000 shares.
16
<PAGE> 17
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
Exhibit 27 - Financial Data Schedule
(b) REPORTS ON FORM 8-K - Not applicable
17
<PAGE> 18
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.
August 11, 1999 /s/ JOHN F. DAVIS, III
------------------------------
John F. Davis, III,
President and Chief
Executive Officer
August 11, 1999 /s/ JEROME L. GALANT
------------------------------
Jerome L. Galant
Chief Financial Officer
(principal accounting officer)
18
<PAGE> 19
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
------- -----------------------
<S> <C>
27 - Financial Data Schedule
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM COMPANY'S
FORM 10-Q FOR THE SIX MONTHS ENDED JUNE 30, 1999 FILED AUGUST 11, 1999 WITH
SECURITIES AND EXCHANGE COMMISSION AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH 10-Q.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<CASH> 118,045
<SECURITIES> 17,623
<RECEIVABLES> 5,217
<ALLOWANCES> (86)
<INVENTORY> 0
<CURRENT-ASSETS> 145,117
<PP&E> 19,816
<DEPRECIATION> (15,616)
<TOTAL-ASSETS> 154,555
<CURRENT-LIABILITIES> 8,167
<BONDS> 0
0
0
<COMMON> 134
<OTHER-SE> 146,129
<TOTAL-LIABILITY-AND-EQUITY> 154,555
<SALES> 0
<TOTAL-REVENUES> 17,561
<CGS> 0
<TOTAL-COSTS> 5,516
<OTHER-EXPENSES> 1,230
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 29
<INCOME-PRETAX> 4,461
<INCOME-TAX> 1,707
<INCOME-CONTINUING> 2,754
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,754
<EPS-BASIC> 0.24
<EPS-DILUTED> 0.23
</TABLE>
