<PAGE>
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 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: 000-25279
CHEAP TICKETS, INC.
-------------------
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
Delaware 99-0338363
-------- ----------
(State or other jurisdiction (I.R.S. Employer
of incorporation) Identification No.)
1440 Kapiolani Blvd., Honolulu, Hawaii 96814
-------------------------------------- -----
(Address of principal executive offices) (Zip Code)
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(808) 945-7439
--------------
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. [X] Yes [ ] No
As of August 2, 1999, the Registrant had 21,483,171 shares of Common Stock,
$.001 par value per share, outstanding.
1
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INDEX
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<CAPTION>
Page
----
<S> <C>
PART I FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited) 3
- Balance sheets at December 31, 1998 and June 30, 1999 3
- Statements of operations for the three and six months ended
June 30, 1998 and 1999 4
- Statement of stockholders' equity for the six months ended
June 30, 1999 5
- Condensed statements of cash flows for the six months ended
June 30, 1998 and 1999 6
- Notes to financial statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 12
Item 3. Quantitative and Qualitative
Disclosure regarding Market Risk 19
PART II OTHER INFORMATION 20
Item 1. Legal Proceedings 20
Item 2. Changes in Securities and Use of Proceeds 20
Item 3. Defaults Upon Senior Securities 20
Item 4. Submission of Matters to a Vote of Security Holders 20
Item 5. Other Information 20
Item 6. Exhibits and Reports on Form 8-K 20
SIGNATURES 21
</TABLE>
2
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PART I
FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
CHEAP TICKETS, INC.
BALANCE SHEETS
(In thousands, except per share data)
<TABLE>
<CAPTION>
December 31, 1998 June 30, 1999
----------------- -------------
(unaudited)
<S> <C> <C>
Assets
Current Assets:
Cash and cash equivalents $ 2,974 $ 48,036
Marketable securities 4,935 23,400
Trade accounts and other receivables 924 3,077
Ticket inventories 286 370
Other current assets 726 1,077
--------- --------
Total current assets 9,845 75,960
Property and equipment, net 2,999 6,616
Other assets 381 157
--------- --------
$ 13,225 $ 82,733
========= ========
Liabilities and Stockholders' Equity
Current Liabilities:
Accounts payable $ 4,681 $ 13,536
Accrued salaries 399 1,283
Accrued vacation 421 540
Accrued expenses and other liabilities 222 322
Current installments of long-term debt 221 321
Current installments of capital lease obligations 288 911
Deferred revenue, current - 400
Income taxes payable 140 1,760
--------- --------
Total current liabilities 6,372 19,073
Long-term debt, excluding current installments 586 528
Capital lease obligations, excluding current installments 652 1,764
Deferred revenue, noncurrent - 1,400
Other noncurrent liabilities 94 79
--------- --------
Total liabilities 7,704 22,844
Mandatorily redeemable cumulative preferred stock, $1 par value
(aggregate involuntary liquidation preference of $4,250,
plus unpaid cumulative dividends). Issued and outstanding
425 shares at December 31, 1998 and none at
June 30, 1999 (Note 3). 4,136 -
---------- ---------
Stockholders' Equity:
Common Stock, $.001 par value. Authorized 70,000 shares;
Issued and outstanding 14,474 shares at December 31, 1998
and 21,483 shares at June 30, 1999 (Note 4). 10 22
Additional paid-in capital 1,247 55,969
Unearned compensation (696) (433)
Retained earnings 824 4,331
--------- --------
Total stockholders' equity 1,385 59,889
--------- --------
$ 13,225 $ 82,733
========= ========
</TABLE>
3
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CHEAP TICKETS, INC.
STATEMENTS OF OPERATIONS
(In thousands, except for per share data)
<TABLE>
<CAPTION>
Three months ended June 30, Six months ended June 30,
-------------------------- ------------------------
1998 1999 1998 1999
<S> <C> <C> <C> <C>
Non-published fares $45,722 $97,416 $ 76,171 $153,379
Published fare commissions and bonuses 2,491 5,154 4,440 9,720
-------- -------- --------- ---------
Net revenues 48,213 102,570 80,611 163,099
Cost of sales 39,016 83,028 64,975 130,880
-------- -------- --------- ---------
Gross profit 9,197 19,542 15,636 32,219
Selling, general and administrative expenses 8,128 14,739 14,558 25,896
-------- -------- --------- ---------
Net operating income 1,069 4,803 1,078 6,323
Other income (deductions):
Interest income 87 738 156 884
Interest expense (43) (58) (82) (94)
Other, net (22) 7 (17) 21
-------- -------- --------- ---------
Earnings before income taxes 1,091 5,490 1,135 7,134
Income taxes 447 2,251 465 2,925
-------- -------- --------- ---------
Net earnings 644 3,239 670 4,209
Preferred dividends (85) - (170) (79)
Accretion of mandatorily redeemable
cumulative preferred stock discount (44) - (88) (37)
Redemption of mandatorily redeemable
cumulative preferred stock - - - (586)
-------- -------- --------- ---------
Income available to common shares $ 515 $ 3,239 $ 412 $ 3,507
======== ======== ========= =========
Basic earnings per common share $ 0.04 $ 0.15 $ 0.03 $ 0.19
======== ======== ========= =========
Average common shares outstanding 14,474 21,367 14,661 18,217
======== ======== ========= =========
Diluted earnings per common share $ 0.03 $ 0.15 $ 0.02 $ 0.17
======== ======== ========= =========
Average diluted common shares outstanding 17,481 22,141 17,649 20,294
======== ======== ========= =========
</TABLE>
4
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CHEAP TICKETS, INC.
STATEMENT OF STOCKHOLDERS' EQUITY
(In thousands, except share data)
(Unaudited)
<TABLE>
<CAPTION>
Additional Total
Common Paid-In Unearned Retained Stockholders'
Stock Capital Compensation Earnings Equity
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1998 $ 10 $ 1,247 $ (696) $ 824 $ 1,385
Net earnings - - - 4,209 4,209
14-for-1 common stock split 4 (4) - - -
Accrual of dividends on mandatorily
redeemable preferred stock - - - (79) (79)
Accretion to mandatorily redeemable
cumulative preferred stock redemption price - - - (37) (37)
Redemption of mandatorily redeemable
cumulative preferred stock - - - (586) (586)
Exercise of common stock warrants 3 (1) - - 2
Sale of common stock under public offering,
net of expenses 4 54,944 - - 54,948
Exercise of stock options 1 2 - - 3
Amortization and forfeiture of stock option
compensation - (219) 263 - 44
----- -------- ------ ------- --------
Balance, June 30, 1999 $ 22 $ 55,969 $ (433) $ 4,331 $ 59,889
===== ======== ====== ======= ========
</TABLE>
5
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CHEAP TICKETS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
Six months ended June 30,
-------------------------
1998 1999
<S> <C> <C>
Cash flows from operating activities:
Net earnings $ 669 $ 4,209
Adjustments to reconcile net earnings to net cash provided
by operating activities:
Depreciation and amortization 270 585
Stock option compensation - 44
Amortization of discount on marketable securities - (58)
Changes in operating assets and liabilities 5,553 11,002
-------- --------
Net cash provided by operating activities 6,492 15,782
Cash flows from investing activities:
Capital expenditures (512) (2,167)
Purchase of marketable securities - (28,666)
Proceeds from sale of marketable securities - 10,255
-------- --------
Net cash used in investing activities (512) (20,578)
Cash flows from financing activities:
Redemption of mandatorily redeemable cumulative preferred stock - (4,839)
Proceeds from issuance of common stock, net of expenses paid - 54,953
Proceeds from issuance of long-term debt 307 236
Principal payments on long-term debt (74) (194)
Principal payments on capital lease obligations (66) (298)
-------- --------
Net cash provided by financing activities 167 49,858
Net increase in cash 6,147 45,062
Cash and cash equivalents at beginning of period 6,254 2,974
-------- --------
Cash and cash equivalents at end of period $ 12,401 $ 48,036
======== ========
Supplemental cash flow information:
Cash paid for:
Interest $ 82 $ 96
Income Taxes 15 1,365
Noncash investing and financing activities:
Acquisitions of new equipment through capital leases 3 2,033
</TABLE>
6
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CHEAP TICKETS, INC.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
The accompanying unaudited financial statements of Cheap Tickets, Inc.
("Cheap Tickets") have been prepared pursuant to the rules and regulations of
the Securities and Exchange Commission and reflect all normal recurring
adjustments which are, in the opinion of management, necessary for a fair
presentation for the periods reported. Certain information and note disclosures
normally included in annual financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted pursuant
to those rules or regulations, although management believes that the disclosures
made are adequate to make the information presented not misleading.
These financial statements should be read in conjunction with the financial
statements for the year ended December 31, 1998 and the notes thereto included
in Cheap Tickets' Registration Statement on Form S-1 filed with the Securities
and Exchange Commission, which became effective on March 18, 1999. The results
of operations for the three and six months ended June 30, 1999 are not
necessarily indicative of results expected for the full fiscal year or for any
future period.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ significantly from those
estimates. Material estimates that are particularly susceptible to significant
change relate to the determination of the valuation allowance for deferred tax
assets and the allowance for doubtful receivables. Management believes that such
allowances have been appropriately determined in accordance with generally
accepted accounting principles.
Revenue Recognition
Revenues consist of non-published fares, commissions and overrides on
published fares, and volume bonuses from a travel service network. Non-published
fares are fares that are bought by Cheap Tickets under negotiated net fare
contracts from various airline carriers and other travel service providers and
resold to consumers at fares determined by Cheap Tickets generally at a
significant discount off published fares. Cheap Tickets also sells travel
services at regular published fares and earns a commission on such sales.
Cheap Tickets recognizes revenues and commissions when earned, which is at
the time the reservation is ticketed and payment is received. Such revenues are
reported net of an allowance for cancellations and refunds. Due to the
restrictive nature of Cheap Tickets' sales, which are generally noncancelable
and nonrefundable, cancellations and refunds are not significant.
7
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Volume bonus and override revenues are recognized at the end of each
monthly or quarterly measurement period if the specified target has been
achieved.
New Pronouncements
In June 1998, FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and hedging activities. SFAS No.
133 requires the recognition of all derivative instruments as either assets or
liabilities in the statement of financial position and measurement of those
derivative instruments at fair value. In June 1999, FASB issued SFAS No.137
which deferred the effective date of SFAS No. 133 to all fiscal quarters of all
fiscal years beginning after June 15, 2000. Currently, Cheap Tickets does not
hold derivative instruments or engage in hedging activities. The adoption of
SFAS No. 133 is not expected to have a material effect on Cheap Tickets'
financial statements.
Effective January 1, 1999, Cheap Tickets implemented Statement of
Position (SOP) 98-1, "Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use," and SOP 98-5, "Reporting on the Costs of Start-Up
Activities," issued by the Accounting Standards Executive Committee (AcSEC) of
the American Institute of Certified Public Accountants (AICPA). The
implementation did not have a material effect on the financial statements.
The FASB issued SFAS No. 134 in October 1998 and SFAS No. 136 in June 1999
which do not apply to Cheap Tickets. In February 1999, the FASB issued SFAS No.
135, "Rescission of FASB Statement No. 75 and Technical Corrections," which
was effective shortly after issuance and did not have a material effect on Cheap
Tickets' financial statements.
2. Net Income Per Share
In accordance with the requirements of Statement of Financial Accounting
Standards No. 128, "Earnings Per Share," a reconciliation of the numerator and
denominator of basic and diluted EPS is provided as follows (in thousands,
except per share data).
<TABLE>
<CAPTION>
Three months ended June 30, Six months ended June 30,
--------------------------- ---------------------------
1998 1999 1998 1999
<S> <C> <C> <C> <C>
Numerator:
Income available to common shares $ 515 $ 3,239 $ 412 $ 3,506
--------------------------- ---------------------------
Denominator:
Shares 14,474 21,367 14,661 18,217
Effect of Dilutive Securities:
Common stock warrants 2,969 - 2,969 1,322
Stock options 38 774 19 755
--------------------------- ---------------------------
17,481 22,141 17,649 20,294
--------------------------- ---------------------------
Basic earnings per share: $ 0.04 $ 0.15 $ 0.03 $ 0.19
=========================== ===========================
Diluted earnings per share: $ 0.03 $ 0.15 $ 0.02 $ 0.17
=========================== ===========================
</TABLE>
Net income per share is computed using the weighted average number of common and
common equivalent shares outstanding during the period.
3. Mandatorily Redeemable Cumulative Preferred Stock
In July 1997, Cheap Tickets issued and sold 425,000 shares of mandatorily
redeemable cumulative preferred stock, with detachable warrants to purchase an
aggregate of 2,969,456 shares of common stock of Cheap Tickets at an aggregate
exercise price of $2,121, in exchange
8
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for cash consideration of $4,250,000.
The net proceeds of $3,875,482, after reflecting transaction costs of
$374,518, were allocated between the warrants and preferred stock based on their
relative fair values, resulting in an allocation of $510,652 and $3,364,830 to
the warrants and preferred stock, respectively. The value attributable to the
warrants was recorded as additional paid-in capital. The excess of the
redemption value of the preferred stock of $4,250,000 over the initial carrying
value of $3,364,830 was being accreted by periodic charges to retained earnings.
The accretion amounted to $174,132 for the year ended December 31, 1998 and
$87,066 and $36,657 for the six months ended June 30, 1998 and 1999,
respectively.
The preferred stock had a par value of $1 per share, was nonvoting and
accrued cumulative annual dividends of $.80 per share. Accrued dividends
amounted to $340,000 for the year ended December 31, 1998 and $170,000 and
$78,712 for the six months ended June 30, 1998 and 1999, respectively.
Undeclared cumulative dividends amounted to $510,000 as of December 31, 1998,
and were accrued as an addition to preferred stock in the accompanying balance
sheets.
By its terms, the preferred stock was required to be redeemed at the time
of an initial public offering of Cheap Tickets. The initial public offering of
Cheap Tickets occurred on March 19, 1999. The redemption price was equal to its
price of issuance, $4,250,000, plus accrued dividends of $589,000 at March 24,
1999, the date of redemption, unamortized accretion of approximately $587,000
was charged against retained earnings. Coincident with the redemption of the
preferred stock, the warrants were exercised and 2,969,375 shares were issued in
a cashless exercise.
4. Stockholders' Equity
Common Stock
In February 1999, Cheap Tickets increased its authorized common stock from
5,000,000 shares at $.01 par value to 70,000,000 shares at $.001 par value.
Cheap Tickets also effected a 14-for-one stock split. In these statements, all
per share accounts have been restated to reflect the stock splits.
Initial Public Offering
On March 19, 1999 Cheap Tickets completed an initial public offering of its
common stock in which 3,500,000 shares were issued at an offering price of $15
per share. The offering raised $47.7 million after underwriting discounts and
other related costs of issuance. Concurrently with the issuance of 3,500,000
shares in the offering, warrants for 2,969,375 shares were exercised.
In connection with the initial public offering, the underwriters had the
option to purchase an additional 525,000 shares of common stock. They exercised
this option on April 19, 1999. Net proceeds to Cheap Tickets were $7.3 million
after underwriting discounts and other costs of issuance.
9
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The total number of shares of common stock outstanding at June 30, 1999 was
21,483,171.
Preferred Stock
In February 1999, the authorized preferred stock of Cheap Tickets, Inc. was
increased from 5,000,000 shares at $1 par value to 10,000,000 shares at $.01 par
value. The Board of Directors has the authority to issue shares of preferred
stock in one or more series and to fix the rights, preferences, privileges, and
restrictions thereof, including dividend rights, preferences, privileges and
restrictions thereof, including dividend rights, conversion rights, voting
rights, terms of redemption, and liquidation preferences.
5. Stock Option Plans
Cheap Tickets' 1997 Stock Option Plan provided for the issuance of up to
1,979,642 shares of common stock. In 1998 Cheap Tickets granted options to
purchase up to 728,000 shares of common stock with exercise prices less than the
estimated market prices on the grant dates. The weighted-average grant-date fair
value of options granted in 1998 was $1.30. The estimated compensation cost for
these options amounted to $722,600 at the grant dates. Stock option compensation
expense, included in selling, general and administrative expenses, was $26,325
for the year ended December 31, 1998 and $500 and $43,903 for the six months
ended June 30, 1998 and 1999, respectively. The remaining unamortized
compensation cost of $696,275 and $433,240 at December 31, 1998 and June 30,
1999, respectively will be amortized over the future vesting periods of the
options. The granted options have a five-year vesting period and a ten-year
exercise period from the date of the grant. However, options to purchase up to
140,000 shares were fully vested upon Cheap Tickets' initial public offering of
its stock.
The following table summarizes activity under the stock option plan.
<TABLE>
<CAPTION>
Options Outstanding
-------------------
Average
Exercise
Shares Price
------ -----
<S> <C> <C>
Balance at December 31, 1997 .......... -- $ --
Options granted ....................... 728,000 0.31
-------
Balance at December 31, 1998 .......... 728,000 0.31
Options granted ....................... 52,000 25.69
Options exercised ..................... (15,120) 0.18
Options forfeited ..................... (54,600) 0.71
-------
Balance at June 30, 1999 (unaudited).... 710,280 $ 2.14
======= ========
</TABLE>
10
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At December 31, 1998, options for 660,800 shares have an exercise price of
$0.18 per share with a weighted average remaining contractual life of 9.4 years
and options for 67,200 shares have an exercise price of $1.57 per share with a
weighted-average remaining contractual life of 9.8 years. No options were
exercisable at December 31, 1998. Options for 234,416 shares were exercisable
at June 30, 1998.
At June 30, 1999, options for 612,080 shares have an exercise price of
$0.18 per share with a weighted-average remaining contractual life of 8.9 years;
options for 46,200 shares have an exercise price of $1.57 per share with a
weighted-average remaining contractual life of 9.3 years; and 52,000 shares have
an exercise price ranging from $11.93 per share to $33.75 per share with
weighted average remaining contractual lives of 9.1 to 10.0 years.
Cheap Tickets' 1999 Stock Incentive Plan was adopted by the Board of
Directors in February 1999 and approved by the stockholders prior to the initial
public offering. All grants subsequent to the initial public offering were and
will be made under the 1999 Stock Incentive Plan. Under this Plan, 1,260,000
shares of common stock plus an annual increase to be added on the first day of
Cheap Tickets' fiscal year beginning in 2000 equal to two percent of the number
of shares outstanding as of such date or a lesser number of shares determined by
the plan administrator of the 1999 Stock Incentive Plan were reserved for
issuance. The Plan requires that the exercise price be at least equal to the
fair market value of the common stock on the date of grant, and the term of the
option not exceed ten years. For all optionees holding less than 10% of the
voting power of all classes of Cheap Tickets' outstanding capital stock, an
exercise price equal to fair market value at date of grant will not create any
requirement for excess compensation charges.
Pursuant to the 1999 Stock Incentive Plan, the Board of Directors adopted
the 1999 non-employee Director Option Program. Under this program, each non-
employee director appointed to the Board received an option to acquire 1,500
shares of common stock at an exercise price per share equal to the then fair
market value of the common stock at the date of grant.
11
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Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the financial
statements and notes thereto included elsewhere herein.
Overview
Cheap Tickets is principally engaged in the sale of discount tickets for
domestic leisure air travel. A majority of its gross bookings have historically
come from the sale of non-published fares, which Cheap Tickets acquires from
airlines and resells to the public at a profit. Cheap Tickets purchases non-
published fares only when it resells them to customers, so that it has no
inventory carrying costs. On these fares, Cheap Tickets sets its resale prices
to meet the demands of leisure travelers who are looking for the lowest price.
Cheap Tickets also sells published fares for which it receives commissions from
the airlines. Sales of non-published fares generally carry higher margins as a
percentage of gross bookings than commissions on published fare bookings.
Cheap Tickets' revenues historically have been generated by ticket sales
through Cheap Tickets' four call centers and, to a lesser extent, through 12
walk-in retail stores. In October 1997, Cheap Tickets broadened its ticket
distribution by offering online booking at "www.cheaptickets.com." Internet
bookings accounted for approximately 9% of total gross bookings in 1998,
approximately 22% in the first three months of 1999, approximately 28% in the
second three months of 1999 and approximately 26% during the first six months of
1999. At June 30, 1999, Cheap Tickets had over 1.2 million registered online
users, with 783,000 registering in the first six months of 1999. Cheap Tickets
expects online gross bookings and online net revenues to represent an increasing
portion of gross bookings and net revenues in future periods.
Gross bookings represent the aggregate retail value of tickets sold under
non-published fares and published fares. The difference between gross bookings
and revenues as reported in Cheap Tickets' statement of operations derives
solely from the difference in revenue treatment accorded to sales of published
fares. With respect to published fares, Cheap Tickets records as revenue in its
statement of operations only the commissions earned by Cheap Tickets on the
sale of such fares. Gross bookings represents the retail value of the sales of
published fares. With respect to non-published fares, revenues as reported in
Cheap Tickets statement of operations is equivalent to gross bookings, which is
the retail value of such fares. Gross bookings are not required by generally
accepted accounting principles and should not be considered in isolation or as
a substitute for other information prepared in accordance with GAAP. Management
uses gross bookings as a key indicator of general business activity, success of
promotional efforts, capacity to handle customer demand and efficiency of
reservation agents. In addition, management believes that gross bookings
provide a useful comparison between historical periods, and year-to-year
changes in such information provide a useful measure of market acceptance of
Cheap Tickets products.
Net revenues consist of sales of non-published fares and commissions. Net
revenues from sales of non-published fares represent revenues from the sale of
tickets purchased from the airlines. Cheap Tickets' cost of sales consists of
the net fare cost paid to carriers to purchase non-published fares.
Commissions, including incentive overrides, are earned primarily on published
air fares sold and include certain other payments based on the volume of
transactions.
12
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Substantially all of Cheap Tickets' gross bookings represent sales of
airline tickets. For the year ended December 31, 1998 and the six-months ended
June 30, 1999, approximately 98% and 99%, respectively, of gross bookings arose
from airline ticket sales. The remaining gross bookings arose from sales of
cruise tickets, auto rentals, hotel reservations and other travel related
products. Cheap Tickets expects gross bookings from sources other than airline
ticket sales to increase in future periods.
Cheap Tickets' selling, general and administrative expenses include all
operating and corporate overhead. Major expense categories include
compensation, advertising, communications, credit card bank fees, occupancy and
delivery costs. Selling, general and administrative expenses also include
compensation charges related to the issuance of stock options.
Results of Operations
Three months ended June 30, 1999 and June 30, 1998
Net revenues. Net revenues for the three months ended June 30, 1999 were
the highest of any quarter in Cheap Tickets' history. Contributing to the
quarter's success were improved recognition of the Cheap Tickets' brand name
after its March 1999 initial public offering, a record quarter in Internet
bookings and a larger sales contribution from the fourth call center established
in May 1998.
Net revenues for the second quarter increased $54.4 million, or 112.7%, to
$102.6 million. Non-published fare sales increased $51.7 million, or 113.1%, to
$97.4 million, reflecting a significant increase in the number of non-published
fare tickets sold. Commissions increased $2.6 million, or 107.0%, to $5.1
million and decreased from 5.17% to 5.03% of net revenues. The $2.6 million
increase in commissions was primarily attributable to an increase in the number
of published fares sold and an improvement in bonus overrides for higher volumes
of gross bookings.
Net revenues through call centers and retail operations increased $27.9
million, or 61.5%, to $73.2 million. A fourth call center opened in May 1998
accounted for $16.5 million of the $27.9 million increase.
Net revenues from Internet sales increased $24.8 million, to $27.1 million.
Net revenues through the Internet represented 26.4% of net revenues in the
second quarter of 1999, compared with 4.7% in the second quarter of 1998.
Gross Profit. Gross profit for the second quarter of 1999 increased $10.3
million, or 112.5%, to $19.5 million, reflecting a comparable percentage
increase in net revenues. As a percentage of net revenues, gross profit
remained fairly constant at approximately 19.1% of net revenues.
Selling, General and Administrative Expenses. For the three months ended
June 30, 1999, selling, general and administrative expenses increased $6.6
million, or 81.3%, to $14.7 million, and decreased as a percentage of net
revenues from 16.9% to 14.4%. The decrease in selling, general and
administrative expenses as a percentage of net revenues was primarily
attributable to decreases in compensation, telephone and rent expense as a
percentage of net revenues owing to increased operating leverage. These
decreases were partially offset by increases in credit card charges, delivery
expense and other general and administrative expenses as a percentage of net
revenues. Other general and administrative expenses included consultants' fees
for the implementation of integrated voice response and intelligent call-routing
systems to increase reservation agents' productivity. In addition, advertising
expenses increased by $1.8 million, representing an increase from 1.2% to 2.3%
of net revenues. Advertising expenses targeted to increase Internet sales were
$1.1 million higher for the three months ended June 30, 1999, and overall brand
advertising, primarily through print media, increased by $700,000.
Net Earnings. Net earnings for the three months ended June 30, 1999 were a
historical high of $3.2 million, compared with net earnings of $644,000 for the
three months ended June 30, 1998. The increase reflected higher net revenues
and lower selling, general and administrative expenses as a percentage of net
revenues as a result of more favorable operating leverage.
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Six months ended June 30, 1999 and June 30, 1998
Net Revenues. Net revenues for the six months ended June 30, 1999
increased $82.5 million, or 102.3%, to $163.1 million. Non-published fare sales
increased $77.2 million, or 101.4%, to $153.4 million. The increase in non-
published fare sales reflected a significant increase in the number of non-
published tickets sold. Commissions increased $5.3 million, or 118.9%, to $9.7
million and increased from 5.5% to 6.0% of net revenues. The $5.3 million
increase in commissions reflected three factors: first, an increase in the
number of published fares sold; second, an improvement in bonus overrides as a
percentage of net revenues; and, third, an increase in commission rates. Gross
bookings of published fares decreased from 38.0% to 32.0% of total gross
bookings.
The increase in net revenues was caused by accelerating usage of Internet
commerce in the leisure travel market and improving recognition of the Cheap
Tickets brand name, particularly following Cheap Tickets' initial public
offering in March 1999.
Net revenues through call centers and retail operations increased $48.0
million, or 64.2%, to $122.8 million. Of this $48.0 million increase, $23.7
million reflected the effect of six full months of operations in 1999 of a new
call center that opened in late May 1998. Increased productivity from the
remainder of the call centers largely accounted for the rest of the increase.
Net revenues from Internet sales increased $35.5 million, to $38.9 million
for the six months ended June 30, 1999. Net revenues through the Internet
represented 23.9% of net revenues in 1999 compared with 4.2% for the same period
last year.
Gross Profit. Gross profit for the six months ended June 30, 1999 increased
$16.6 million, or 106.1%, to $32.2 million. As a percentage of net revenues,
gross profit increased from 19.4% to 19.8%. The percentage increase was
primarily attributable to commissions, which increased
14
<PAGE>
from 5.5% to 6.0% of net revenues. In addition, in the 1999 period, Cheap
Tickets did not benefit from the unusually high margins on non-published fares
enjoyed from a large supplier in 1998. This negative effect on gross profit was
offset by improved margins from better yield management on all fares for the six
months ended June 30, 1999.
Selling, General and Administrative Expenses. For the six months ended June
30, 1999, selling, general and administrative expenses increased $11.3 million,
or 77.9%, to $25.9 million, and decreased as a percentage of net revenues from
18.1% to 15.9%. The decrease in selling, general and administrative expenses as
a percentage of net revenues was primarily attributable to decreases in
compensation, telephone and rent expense as a percentage of net revenues. These
decreases were partially offset by increases, as a percentage of net revenues,
in credit card charges, delivery expense and other general and administrative
expense. In addition, advertising expenses increased by $2.8 million,
representing an increase from 1.7% to 2.6% of net revenues. Advertising expenses
targeted to increase Internet sales were $1.6 million higher for the first six
months of 1999, and overall brand advertising, primarily through print media,
increased by $1.2 million.
Net Earnings. For the six months ended June 30, 1999, net earnings
increased $3.5 million, or 528.9%, to $4.2 million. The increase reflected
higher net revenues, increased gross profit as a percentage of net revenues, and
lower selling, general and administrative expenses as a percentage of net
revenues as a result of more favorable operating leverage.
Seasonality
Cheap Tickets' business is seasonal due primarily to customers' leisure
travel patterns and changes in the availability of non-published fares. As a
result, Cheap Tickets typically has higher sales and gross profit in the second
and third quarters and lower sales and gross profit in the fourth quarter.
During periods of high-volume air travel, such as occur in the fourth quarter of
each year, Cheap Tickets historically has had access to fewer non-published
fares, and such fares on certain major routes may be blacked out or otherwise
unavailable. Online gross bookings may also tend to be seasonal and may decline
or grow less rapidly in the summer months. The seasonal sales cycle is fairly
predictable, but the cycle may shift year-to-year, corresponding to changes in
the economy or other factors affecting the market such as price wars. This could
lead to unusual volatility in revenues and earnings.
Liquidity and Capital Resources
15
<PAGE>
For the six months ended June 30, 1999, Cheap Tickets generated cash from
operating activities of $15.8 million, compared with $6.5 million for the six
months ended June 30, 1998. For the six months ended June 30, 1999, cash
generated from operating activities was comprised principally of net earnings
plus depreciation of $4.8 million and an increase in accounts payable of $8.9
million. For the six months ended June 30, 1998, cash generated from operating
activities was comprised principally of net earnings plus depreciation of
$940,000 and an increase in accounts payable of $5.0 million. The primary
account payable is the weekly settlement to the Airline Reporting Corporation
for airline tickets purchased, less commissions earned. This is generally a
significant balance, and the timing of the current payment relative to month-end
can cause fluctuations in month-end balances.
For the six months ended June 30, 1999, Cheap Tickets used cash from
investing activities of $20.6 million compared with $512,000 for the six months
ended June 30, 1998. Cash used in investing activities for the six months ended
June 30, 1999 included net purchases of short-term marketable securities for
$18.4 million. Capital expenditures for the six months ended June 30, 1999 and
1998 were $2.2 million and $512,000, respectively. For the six months ended
June 30, 1999, Cheap Tickets received net proceeds from the offering of $55.0
million after reduction of underwriters fees and other costs of issuance less
$4.8 million to redeem mandatorily redeemable preferred stock and accumulated
dividends.
At June 30, 1999 Cheap Tickets had on hand cash and cash equivalents of
$48.0 million and short-term marketable securities of $23.4 million. Cheap
Tickets' net working capital was $56.9 million. Cheap Tickets has available a
$3.0 million credit facility with a bank expiring on December 5, 1999. This
facility accrues interest at either: 1) the bank's base rate; or 2) LIBOR plus
an applicable margin at Cheap Tickets' option. There were no drawdowns against
this facility at June 30, 1999. Outstanding long-term debt, net of current
installments, was $528,000 and capital lease obligations were $1,764,000 at June
30, 1999.
Cheap Tickets believes that its current cash and cash equivalents, short
term marketable securities and anticipated cash flow from operations will be
sufficient to meet its anticipated cash needs for working capital, debt service
and capital expenditures, at least for the foreseeable future. Cheap Tickets has
budgeted approximately $9.0 million for capital expenditures in 1999, nearly all
of which was intended to be used for technological improvements and upgrades.
Approximately $4.2 million has been expended through June 30, 1999. If cash
generated from internal operations is not sufficient to satisfy Cheap Tickets'
liquidity requirements, Cheap Tickets may seek to increase available bank lines
or sell additional equity or debt securities. The sale of convertible debt or
equity securities could result in additional dilution to Cheap Tickets'
shareholders. There is no assurance that financing will be available in amounts
or on terms acceptable to Cheap Tickets, if at all.
Year 2000 Compliance
Overview
Cheap Tickets is taking steps to address potential Year 2000 problems. Cheap
Tickets has formed a project team from its systems and technology, finance,
telecom and operations departments. The project team is responsible for
implementing the following four-phase process: (1) identifying the computer
systems and products affected; (2) contacting vendors and suppliers; (3)
determining the Year 2000 compliance status of each system and product; and (4)
implementing any necessary changes. Although Cheap Tickets does not currently
expect the impact of the Year 2000 issue will be material to systems still under
evaluation, Cheap Tickets could discover (or fail to discover) Year 2000 issues
in the course of its evaluation process that would have a material and adverse
effect on Cheap Tickets' business, results of operations or financial condition
if not properly addressed.
Cheap Tickets currently has three types of computer systems or programs
which may be
16
<PAGE>
affected. They include: (1) reservations database systems, (2) PC/LAN systems
and (3) non-informational technology systems. The reservations database systems
involve the computer programs and products responsible for airline, cruise, car
and hotel reservations and other transactional systems. PC/LAN systems include
Cheap Tickets' personal computer network systems. Non-informational technology
systems include systems or hardware containing embedded technology such as micro
controllers.
Cheap Tickets has already completed the four phases for all of its systems
including SABRE reservations, TravelBase Accounting, Payroll, Credit Card
Processing Software, Credit Card Processor, PC/LAN Hardware, PC/LAN Software and
Telecommunications Systems.
Reservation Database Systems. The main supplier of the Cheap Tickets'
reservation database systems is SABRE. Currently, over 90% of Cheap Tickets'
computing transactions are processed through the SABRE systems. This includes
transactions involving airline reservations, booking, ticketing, car and hotel
rentals, cruises and accounting. SABRE has advised Cheap Tickets that it has a
Year 2000 implementation plan in place. Further, SABRE has advised Cheap Tickets
that it has already resolved Year 2000 issues for its main computer system--the
airlines reservations system. In turn, Cheap Tickets has implemented all changes
required by SABRE for Cheap Tickets to be Year 2000 compliant. There can be no
assurances that SABRE will be Year 2000 compliant and that the impact of SABRE's
non-compliance, if any, would not be material.
PC/LAN Systems. Cheap Tickets has completed the replacement of all of its
PC/LAN computing systems. All the new PC/LAN systems being installed, including
hardware, software, applications and operating systems, have been represented by
their vendors to be Year 2000 compliant. Cheap Tickets believes that any systems
that it has not yet replaced do not present any Year 2000 concerns because, to
Cheap Tickets' knowledge, these systems already are Year 2000 compliant. In
addition, Cheap Tickets is currently requiring that any new systems it purchases
meet Year 2000 compliance requirements. There can be no assurances that such
PC/LAN computing systems will be Year 2000 compliant and that the impact of such
non-compliance, if any, would not be material.
Non-Informational Technology Systems. Cheap Tickets has evaluated its non-
informational technology systems. Each of its operational centers has achieved
Year 2000 compliance for these systems. Cheap Tickets has not yet developed a
contingency plan in the event that any of its critical computer systems are not
Year 2000 compliant by January 1, 2000.
Based on the steps being taken and progress to date, management estimates
that the expenses for ensuring Year 2000 compliance of its computer products and
systems will not have a material adverse effect on operations or earnings, and
can be financed out of cash flow from operations. Despite such plans and Cheap
Tickets' assessment of current hardware and software, the assessment of Cheap
Tickets' current state of compliance may not be fully accurate, and Cheap
Tickets' plans for achieving full compliance with Year 2000 issues may not in
fact be fully successful. Cheap Tickets is also in the process of attempting to
verify that all of the products supplied by third-party vendors have either
resolved the Year 2000 issue or have a published plan to do so. In certain
cases, such as with SABRE, Cheap Tickets has relied in good faith on
representations and warranties regarding Year 2000 compliance provided to it by
third-party vendors of hardware and software, and on consultants. Such
representations and warranties may not be accurate in all material respects and
the advice or assessments of consultants may not
17
<PAGE>
be reliable. If third parties are not able to make their systems Year 2000
compliant in a timely manner, it could have a material and adverse effect on
Cheap Tickets' business, results of operations and financial condition. Cheap
Tickets has not developed a contingency plan to address the possibility that
SABRE is unable to achieve Year 2000 compliance and does not intend to do so.
Federal Aviation Administration Readiness. On July 21, 1999, the FAA
announced that all of its computer systems were fully Year 2000 compliant.
According to the FAA's announcement, compliance had been verified by an
independent contractor and that the FAA would continue to test its systems and
contingency plans through year end and through leap year day February 29, 2000.
The FAA's state of Year 2000 readiness could have a significant impact on air
travel on or about January 1, 2000 and for an uncertain period of time
thereafter. Air travel may be affected both by travelers' safety fears and by
actual disruption caused by lack of Year 2000 readiness.
Possible Air Traffic Disruption. Disruption of air traffic on or about
January 1, 2000, whether or not attributable to the state of FAA Year 2000
readiness, may have an adverse impact on Cheap Tickets. However, the effect, if
any, is uncertain. Fear by travelers of disruption could result in reduced
reservations for year-end flights and possibly less leisure travel generally at
year-end. In addition, if such fears develop, the airlines may lower prices
generally or engage in fare wars to attract customers. If the airlines did
engage in such behavior, Cheap Tickets' business could be hurt. However, if air
traffic is not disrupted, and airlines and the FAA, in fact, achieve Year 2000
readiness, air travel should return to normal levels shortly following January
1, 2000. In such a situation, the overall disruption to Cheap Tickets may be
limited to the holiday vacation period which includes January 1, 2000. On the
other hand, a breakdown of the air control system, or other breakdowns generally
resulting in reduced air traffic or less safe air travel, could have more
serious impact on the air travel business generally and could affect Cheap
Tickets' business, results of operations and financial condition more adversely.
Management has not drawn any conclusions about whether any such Year 2000 effect
will be experienced and, if so, how it will affect Cheap Tickets. In addition,
Cheap Tickets has not developed a contingency plan to address this situation and
does not intend to do so.
Effect on Other Entities. Finally, Year 2000 issues may impact other
entities with which Cheap Tickets does business, including, for example,
airlines and those responsible for maintaining telephone and Internet
communications. Accordingly, Cheap Tickets cannot predict the effect of the Year
2000 problem on such entities. If these other entities fail to take
preventive/or corrective actions in a timely manner, the Year 2000 issue could
have a material and adverse effect on Cheap Tickets' business, results of
operations and financial condition. Cheap Tickets has not yet developed a
contingency plan to address the possibility that other entities with which it
does business are unable to achieve Year 2000 compliance and does not intend to
do so.
Risks Associated with Forward Looking Statements
From time to time, Cheap Tickets may make certain statements that contain
"forward-looking" information or statements within the meaning of Section 27A of
the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended. Words such as "anticipate", "believe",
"expect", "estimate", "project", and similar expressions are intended to
identify such forward-looking statements. Forward-looking statements may be
made
18
<PAGE>
by management orally or in writing, including, but not limited to, in press
releases, as part of this "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contained in this Report, and in Cheap
Tickets' other filings with the Securities Exchange Commission. Although Cheap
Tickets believes that the expectations reflected in such forward-looking
statements are reasonable, it can give no assurance that such expectations will
prove to have been correct. Such forward-looking statements are subject to
certain risks, uncertainties and assumptions, including, without limitation
those identified below. Should one or more of these risks or uncertainties
materialize, or should any of the underlying assumptions prove incorrect, actual
results of current or future operations may vary materially from those
anticipated, estimated, or projected. Readers are cautioned not to place undue
reliance on these forward-looking statements, which speak only as of their
dates.
General
There are several risks and uncertainties that may affect the future
operating results, business and financial condition of Cheap Tickets, including,
without limitation: (1) the risk of reduction in consumer demand for Cheap
Tickets' products; (2) the risk of loss of one or more of the major airline
carriers with whom Cheap Tickets does business; (3) the risk that Cheap Tickets
may not be able to continue to provide its products at prices which are
competitive or that it can continue to market its products in a manner that
appeals to consumers even if price-competitive; (4) the risk that Cheap Tickets
may not be able to obtain its products on substantially similar terms, including
cost, in order to sustain its operating margins; (5) the risks associated with
the exercise of management's discretion in the use of proceeds from the initial
public offering; and (6) the risks inherent in legal proceedings. Readers are
encouraged to refer to Cheap Tickets' Registration Statement on Form S-1 for a
further discussion of Cheap Tickets' business and the risks and opportunities
attendant thereto.
Item 3: QUANTITATIVE AND QUALITATIVE
DISCLOSURE RE MARKET RISK
Not applicable.
19
<PAGE>
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
-----------------
On June 29, 1999, a former employee filed an action against Cheap
Tickets in California Superior Court alleging, among other causes of
action, that he was fraudulently induced to become and stay as an
employee, that he was improperly excluded from participation in various
management incentive plans, that he was improperly cut back on the
allocation of shares in Cheap Tickets' initial public offering, and
that Cheap Tickets was unjustly enriched by his management of the
Company's cruise division. As a result, the former employee claims
compensatory damages in varying amounts. The largest claim for
compensatory damages is for $20,000,000, representing the amount by
which the plaintiff claims to have enhanced the Cheap Tickets' public
offering by reason of his efforts as manager of the Company's cruise
division. The plaintiff also seeks unspecified punitive damages.
We believe that this lawsuit is without merit and intend to vigorously
contest this lawsuit. The lawsuit is in an early stage of litigation,
and it is too early to determine what, if any, liability we will have
with respect to the claims made in this lawsuit. The defense of such
litigation could also entail considerable cost and the diversion of
efforts of management, either of which could hurt our results of
operations. While an unfavorable outcome in these matters is possible,
we do not believe that the outcome of this lawsuit will have a material
adverse effect on our business, financial condition, or results of
operations.
In addition, Cheap Tickets may from time to time become a party to
various legal proceedings arising in the ordinary course of our
business. Any such proceeding against Cheap Tickets, even if not
meritorious, could result in the expenditure of significant financial
and managerial resources.
Item 2. Changes in Securities and Use of Proceeds
-----------------------------------------
Please refer to the discussion in notes 3 and 4 of the Financial
Statements set forth in Part I, item 1 and in the Section entitled
"Liquidity and Capital Resources" in Part I, Item 2.
Item 3. Defaults Upon Senior Securities
-------------------------------
Not applicable.
Item 4. Submission of Matters to a Vote of Security-Holders
---------------------------------------------------
Not applicable.
Item 5. Other Information
-----------------
Not applicable.
Item 6. Exhibits and Reports on Form 8-K filed during the six months ended June
-----------------------------------------------------------------------
30, 1999
--------
(a) Exhibits
--------
27.1 Financial Data Schedule
(b) Reports on Form 8-K
-------------------
The Registrant did not file any reports on Form 8-K during the
three months covered by this report.
20
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CHEAP TICKETS, INC.
(Registrant)
Date: August 2, 1999 /s/ Michael J. Hartley
----------------------
Michael J. Hartley
Chairman of the Board, Chief Executive Officer and
President (Principal Executive Officer)
Date: August 2, 1999 /s/ Dale K. Jorgenson
---------------------
Dale K. Jorgenson
Chief Financial Officer and Vice President
(Principal Financial Officer and Principal
Accounting Officer)
21
<PAGE>
EXHIBIT INDEX
Exhibit No. Description
-----------
27.1 Financial Data Schedule
22
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<PAGE>
<ARTICLE> 5
<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> 48,036
<SECURITIES> 23,400
<RECEIVABLES> 3,077
<ALLOWANCES> 0
<INVENTORY> 370
<CURRENT-ASSETS> 75,960
<PP&E> 8,666
<DEPRECIATION> 2,050
<TOTAL-ASSETS> 82,733
<CURRENT-LIABILITIES> 19,073
<BONDS> 2,292
0
0
<COMMON> 22
<OTHER-SE> 59,867
<TOTAL-LIABILITY-AND-EQUITY> 82,733
<SALES> 153,379
<TOTAL-REVENUES> 163,099
<CGS> 130,880
<TOTAL-COSTS> 25,896
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 94
<INCOME-PRETAX> 7,134
<INCOME-TAX> 2,925
<INCOME-CONTINUING> 4,209
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,209
<EPS-BASIC> .19
<EPS-DILUTED> .17
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