10-Q 1 a09-18786_110q.htm 10-Q

Table of Contents

 

 

 

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, 2009

 

OR

 

 

o

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 0-25581

 

PRICELINE.COM INCORPORATED

(Exact name of Registrant as specified in its charter)

 

Delaware

 

06-1528493

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer
Identification Number)

 

800 Connecticut Avenue

Norwalk, Connecticut 06854

(address of principal executive offices)

 

(203) 299-8000

(Registrant’s telephone number, including area code)

 

N/A

(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.  Yes x  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o  No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer x

 

Accelerated filer o

 

 

 

 

 

 

Non-accelerated filer o

 

Smaller reporting company o

 

(Do not check if a smaller reporting company)

 

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x

 

Number of shares of Common Stock outstanding at August 3, 2009:

 

Common Stock, par value $0.008 per share

 

42,271,708

(Class)

 

(Number of Shares)

 

 

 



Table of Contents

 

priceline.com Incorporated

Form 10-Q

 

For the Three Months Ended June 30, 2009

 

PART I - FINANCIAL INFORMATION

 

 

 

Item 1. Unaudited Consolidated Financial Statements

3

 

 

Consolidated Balance Sheets (unaudited) at June 30, 2009 and December 31, 2008

3

Consolidated Statements of Operations (unaudited) For the Three and Six Months Ended June 30, 2009 and 2008

4

Consolidated Statement of Changes in Stockholders’ Equity (unaudited) For the Six Months Ended June 30, 2009

5

Consolidated Statements of Cash Flows (unaudited) For the Six Months Ended June 30, 2009 and 2008

6

Notes to Unaudited Consolidated Financial Statements

7

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

29

 

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

60

 

 

Item 4. Controls and Procedures

61

 

 

PART II - OTHER INFORMATION

 

 

 

Item 1. Legal Proceedings

63

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

63

Item 4. Submission of Matters to a Vote of Security Holders

64

Item 6. Exhibits

65

 

 

SIGNATURES

66

 

2



Table of Contents

 

PART I — FINANCIAL INFORMATION

Item 1.  Unaudited Consolidated Financial Statements

priceline.com Incorporated

UNAUDITED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data)

 

 

 

 

 

December 31,

 

 

 

 

 

2008

 

 

 

June 30,

 

As Adjusted

 

 

 

2009

 

(See Note 1)

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

333,449

 

$

364,550

 

Restricted cash

 

1,283

 

2,528

 

Short-term investments

 

256,119

 

98,888

 

Accounts receivable, net of allowance for doubtful accounts of $7,715 and $8,429, respectively

 

150,045

 

92,328

 

Prepaid expenses and other current assets

 

37,278

 

23,463

 

Deferred income taxes

 

18,821

 

12,142

 

Total current assets

 

796,995

 

593,899

 

 

 

 

 

 

 

Property and equipment, net

 

29,669

 

29,404

 

Intangible assets, net

 

183,042

 

193,231

 

Goodwill

 

347,221

 

326,863

 

Deferred income taxes

 

130,224

 

153,955

 

Other assets

 

5,186

 

15,069

 

Total assets

 

$

1,492,337

 

$

1,312,421

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

77,168

 

$

46,290

 

Accrued expenses and other current liabilities

 

101,974

 

77,713

 

Deferred merchant bookings

 

41,718

 

29,664

 

Convertible debt (see Note 10)

 

297,878

 

317,910

 

Total current liabilities

 

518,738

 

471,577

 

 

 

 

 

 

 

Deferred income taxes

 

46,584

 

48,933

 

Other long-term liabilities

 

20,961

 

18,010

 

Total liabilities

 

586,283

 

538,520

 

 

 

 

 

 

 

Convertible debt (See Note 10)

 

58,602

 

75,075

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Common stock, $0.008 par value; authorized 1,000,000,000 shares, 48,937,460 and 47,664,766 shares issued, respectively

 

377

 

367

 

Treasury stock, 6,841,811 and 6,685,048 shares, respectively

 

(506,793

)

(493,555

)

Additional paid-in capital

 

2,217,085

 

2,176,556

 

Accumulated deficit

 

(852,111

)

(944,145

)

Accumulated other comprehensive loss

 

(11,106

)

(40,397

)

Total stockholders’ equity

 

847,452

 

698,826

 

Total liabilities and stockholders’ equity

 

$

1,492,337

 

$

1,312,421

 

 

See Notes to Unaudited Consolidated Financial Statements.

 

3



Table of Contents

 

priceline.com Incorporated

UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

 

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2009

 

2008
As Adjusted
(See Note 1)

 

2009

 

2008
As Adjusted
(See Note 1)

 

Merchant revenues

 

$

392,822

 

$

336,230

 

$

729,856

 

$

625,388

 

Agency revenues

 

204,485

 

173,249

 

324,711

 

283,181

 

Other revenues

 

6,434

 

4,497

 

11,232

 

8,586

 

Total revenues

 

603,741

 

513,976

 

1,065,799

 

917,155

 

 

 

 

 

 

 

 

 

 

 

Cost of revenues

 

298,503

 

260,251

 

552,231

 

482,327

 

Gross profit

 

305,238

 

253,725

 

513,568

 

434,828

 

 

 

 

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 

 

 

 

Advertising – Offline

 

11,053

 

9,928

 

21,819

 

21,959

 

Advertising – Online

 

90,107

 

72,860

 

158,223

 

130,661

 

Sales and marketing

 

20,691

 

19,930

 

39,110

 

36,263

 

Personnel, including stock-based compensation of $11,264, $9,077, $21,858 and $19,016, respectively

 

44,864

 

39,644

 

84,374

 

76,528

 

General and administrative

 

14,728

 

14,209

 

29,516

 

25,995

 

Information technology

 

4,697

 

5,136

 

9,225

 

9,286

 

Depreciation and amortization

 

9,723

 

11,064

 

19,084

 

21,417

 

Total operating expenses

 

195,863

 

172,771

 

361,351

 

322,109

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

109,375

 

80,954

 

152,217

 

112,719

 

 

 

 

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

 

 

 

 

Interest income

 

483

 

2,905

 

1,224

 

7,077

 

Interest expense

 

(6,505

)

(9,521

)

(13,310

)

(19,582

)

Foreign currency transactions and other

 

(3,880

)

(11

)

(63

)

(5,095

)

Total other income (expense)

 

(9,902

)

(6,627

)

(12,149

)

(17,600

)

 

 

 

 

 

 

 

 

 

 

Earnings before income taxes and equity in income (loss) of investees

 

99,473

 

74,327

 

140,068

 

95,119

 

Income tax expense

 

(32,495

)

(23,258

)

(48,036

)

(29,764

)

Equity in income (loss) of investees

 

33

 

(77

)

2

 

(166

)

Net income

 

67,011

 

50,992

 

92,034

 

65,189

 

Less: net income attributable to noncontrolling interests

 

 

1,154

 

 

1,575

 

Net income applicable to common stockholders of priceline.com Incorporated

 

$

67,011

 

$

49,838

 

$

92,034

 

$

63,614

 

Net income applicable to common stockholders per basic common share

 

$

1.61

 

$

1.29

 

$

2.23

 

$

1.65

 

Weighted average number of basic common shares outstanding

 

41,661

 

38,768

 

41,334

 

38,496

 

Net income applicable to common stockholders per diluted common share

 

$

1.38

 

$

1.00

 

$

1.92

 

$

1.28

 

Weighted average number of diluted common shares outstanding

 

48,479

 

49,948

 

47,924

 

49,585

 

 

See Notes to Unaudited Consolidated Financial Statements.

 

4



Table of Contents

 

priceline.com Incorporated

UNAUDITED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY

FOR THE SIX MONTHS ENDED JUNE 30, 2009

(In thousands)

 

 

 

 

 

 

 

 

 

 

 

Accumulated Other

 

 

 

 

 

 

 

 

 

Common Stock

 

Additional

 

Accumulated

 

Comprehensive

 

Treasury Stock

 

 

 

 

 

Shares

 

Amount

 

Paid-in Capital

 

Deficit

 

(Loss) Income

 

Shares

 

Amount

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2008 as adjusted

 

47,665

 

$

367

 

$

2,176,556

 

$

(944,145

)

$

(40,397

)

(6,685

)

$

(493,555

)

$

698,826

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

92,034

 

 

 

 

92,034

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized loss on marketable securities

 

 

 

 

 

(143

)

 

 

(143

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Currency translation adjustment

 

 

 

 

 

29,434

 

 

 

29,434

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

121,325

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Restricted stock forfeitures

 

(2

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Exercise of stock options and vesting of stock-based awards

 

774

 

6

 

6,492

 

 

 

 

 

6,498

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Repurchase of common stock

 

 

 

 

 

 

(157

)

(13,238

)

(13,238

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock-based compensation

 

 

 

21,858

 

 

 

 

 

21,858

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reclassification to convertible debt in mezzanine

 

 

 

10,236

 

 

 

 

 

10,236

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Conversion of debt

 

500

 

4

 

601

 

 

 

 

 

605

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Excess tax benefit on stock-based compensation

 

 

 

1,342

 

 

 

 

 

1,342

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, June 30, 2009

 

48,937

 

$

377

 

$

2,217,085

 

$

(852,111

)

$

(11,106

)

(6,842

)

$

(506,793

)

$

847,452

 

 

See Notes to Unaudited Consolidated Financial Statements.

 

5



Table of Contents

 

priceline.com Incorporated

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

 

 

Six Months Ended
June 30,

 

 

 

2009

 

2008
As Adjusted
(See Note 1)

 

OPERATING ACTIVITIES:

 

 

 

 

 

Net income

 

$

 92,034

 

$

 65,189

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Depreciation

 

6,969

 

7,216

 

Amortization

 

12,115

 

14,473

 

Provision for uncollectible accounts, net

 

1,810

 

4,552

 

Deferred income taxes

 

18,549

 

4,296

 

Stock-based compensation expense

 

21,858

 

19,016

 

Amortization of debt issuance costs

 

1,002

 

1,304

 

Amortization of debt discount

 

10,236

 

14,916

 

(Gain) loss on extinguishment of debt

 

(3,130

)

41

 

Equity in (income) loss of investees

 

(2

)

166

 

Changes in assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(55,322

)

(63,082

)

Prepaid expenses and other current assets

 

(751

)

(600

)

Accounts payable, accrued expenses and other current liabilities

 

59,668

 

64,116

 

Other

 

3,185

 

1,681

 

Net cash provided by operating activities

 

168,221

 

133,284

 

INVESTING ACTIVITIES:

 

 

 

 

 

Purchase of investments

 

(310,798

)

(102,855

)

Maturity of investments

 

162,045

 

135,203

 

Additions to property and equipment

 

(8,114

)

(7,027

)

Acquisitions and other equity investments, net of cash acquired

 

 

(531

)

Change in restricted cash

 

1,248

 

(1,623

)

Purchase of shares held by noncontrolling interest

 

 

(30,386

)

Net cash used in investing activities

 

(155,619

)

(7,219

)

FINANCING ACTIVITIES:

 

 

 

 

 

Payments related to conversion of senior notes

 

(36,505

)

(49,850

)

Repurchase of common stock

 

(13,238

)

(3,405

)

Proceeds from exercise of stock options

 

6,498

 

3,708

 

Excess tax benefit on stock-based compensation

 

1,342

 

1,077

 

Net cash used in financing activities

 

(41,903

)

(48,470

)

Effect of exchange rate changes on cash and cash equivalents

 

(1,800

)

8,114

 

Net increase/(decrease) in cash and cash equivalents

 

(31,101

)

85,709

 

Cash and cash equivalents, beginning of period

 

364,550

 

385,359

 

Cash and cash equivalents, end of period

 

$

333,449

 

$

 471,068

 

 

 

 

 

 

 

SUPPLEMENTAL CASH FLOW INFORMATION:

 

 

 

 

 

 

 

 

 

 

 

Cash paid during the period for income taxes

 

$

 29,372

 

$

 15,977

 

 

 

 

 

 

 

Cash paid during the period for interest

 

$

 2,297

 

$

 3,698

 

 

See Notes to Unaudited Consolidated Financial Statements.

 

6



Table of Contents

 

priceline.com Incorporated

Notes to Unaudited Consolidated Financial Statements

 

1.             BASIS OF PRESENTATION

 

Priceline.com Incorporated (“priceline.com” or the “Company”) is responsible for the Unaudited Consolidated Financial Statements included in this document.  The Unaudited Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and include all normal and recurring adjustments that management of the Company considers necessary for a fair presentation of its financial position and operating results.  The Company prepared the Unaudited Consolidated Financial Statements following the requirements of the Securities and Exchange Commission for interim reporting.  As permitted under those rules, the Company condensed or omitted certain footnotes or other financial information that are normally required by GAAP for annual financial statements.  These statements should be read in combination with the Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.

 

The Unaudited Consolidated Financial Statements include the accounts of the Company and its subsidiaries.  All intercompany accounts and transactions have been eliminated in consolidation. Investments in affiliates in which the Company does not have control, but has the ability to exercise significant influence, are accounted for by the equity method. The functional currency of the Company’s foreign subsidiaries is generally the respective local currency.  Assets and liabilities are translated into U.S. Dollars at the rate of exchange existing at the balance sheet date.  Income statement amounts are translated at the average exchange rates for the period.  Translation gains and losses are included as a component of “Accumulated other comprehensive loss” in the accompanying Unaudited Consolidated Balance Sheets.  Foreign currency transaction gains and (losses) are included in the Unaudited Consolidated Statement of Operations, principally in “Foreign currency transactions and other.”

 

Revenues, expenses, assets and liabilities can vary during each quarter of the year.  Therefore, the results and trends in these interim financial statements may not be the same as those for the full year.

 

The Company concluded its review of subsequent events for the second quarter on August 10, 2009, the date when the financial statements were issued.

 

Recent Accounting Pronouncements: SFAS 160 and FSP APB 14-1

 

On January 1, 2009, the Company adopted SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements” (“SFAS 160”).  SFAS 160 changes the accounting and reporting of noncontrolling interests (previously referred to as minority interests).  In connection with the Company’s acquisitions of Booking.com B.V. in July 2005 and Booking.com Limited in September 2004, key managers of these companies purchased shares of priceline.com International.  In addition, these key managers were granted restricted stock and restricted stock units in priceline.com International shares.  In September 2008, the Company repurchased all of the remaining outstanding shares underlying the noncontrolling interests so the adoption of SFAS 160 did not impact the Company’s Consolidated Balance Sheet as of December 31, 2008.  SFAS 160 is effective for the Company on a prospective basis, except for presentation and disclosure requirements that are applied retrospectively.  The impact on financial statement presentation for the Company is summarized in the tables below.

 

On January 1, 2009, the Company adopted FASB FSP No. APB 14-1, “Accounting for Convertible Debt Instruments that May be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“FSP APB 14-1”).  FSP APB 14-1 requires cash settled convertible debt, such as the Company’s convertible senior notes, to be separated into debt and equity components at issuance and a value assigned to each.  The value assigned to debt is the estimated fair value, as of the issuance date, of a similar bond without the conversion feature.  The difference between the bond cash proceeds and this fair value, representing the value assigned to the equity component, is recorded as a debt discount and amortized to interest expense over the life of the bond.  In addition, if the Company’s convertible debt is redeemed or converted prior to maturity and the fair value of the debt component immediately prior to extinguishment is different from the carrying value, a gain or loss on extinguishment is recognized.  This FSP also requires that deferred financing costs be allocated between debt (amortized to interest expense using the effective interest method) and equity based on the allocations between debt and equity at debt issuance.  Although FSP APB 14-1 has no impact on the Company’s actual past or future cash flows, it requires the Company to record a significant amount of non-cash interest expense as the debt discount is amortized. FSP APB

 

7



Table of Contents

 

14-1 requires retrospective application.  The impact on financial statement presentation for the Company is summarized in the tables below.  Refer to Note 10 for further information concerning the adoption of FSP APB 14-1.

 

Adjustments Related to Retrospective Adoption of New Accounting Pronouncements — Certain prior year amounts in the Company’s Unaudited Consolidated Financial Statements have been adjusted to reflect the retrospective adoption of FSP APB 14-1 and SFAS 160.  The impacts on the Unaudited Consolidated Balance Sheet as of December 31, 2008, the Unaudited Statement of Operations for the three and six months ended June 30, 2008, and the Unaudited Statement of Cash Flows for the six months ended June 30, 2008 are summarized below.

 

Unaudited Consolidated Balance Sheet as of December 31, 2008 (in thousands)

 

Financial statement line

 

As Reported

 

Adjustments
FSP APB 14-1

 

Adjustments
SFAS 160

 

As Adjusted

 

Deferred income taxes(1)

 

$

42,082

 

$

(29,940

)

$

 

$

12,142

 

Total current assets

 

623,839

 

(29,940

)

 

593,899

 

Other assets(2)

 

16,685

 

(1,616

)

 

15,069

 

Total assets

 

1,343,977

 

(31,556

)

 

1,312,421

 

Convertible debt(1)

 

392,985

 

(75,075

)

 

317,910

 

Total current liabilities

 

546,652

 

(75,075

)

 

471,577

 

Total liabilities

 

613,595

 

(75,075

)

 

538,520

 

Convertible debt(3)

 

 

75,075

 

 

75,075

 

Additional paid in capital(3)

 

2,177,000

 

(444

)

 

2,176,556

 

Accumulated deficit(4)

 

(913,033

)

(31,112

)

 

(944,145

)

Total stockholders’ equity

 

730,382

 

(31,556

)

 

698,826

 

Total liabilities and stockholders’ equity

 

1,343,977

 

(31,556

)

 

1,312,421

 

 


(1)   This represents an outstanding principal amount of $393.0 million less unamortized debt discount of $75.1 million.  Deferred income taxes were restated to include a reduction in the amount of $29.9 million that represents the deferred tax effect of the aforementioned debt discount.

 

(2)   The decrease in other assets resulted from the allocation of $3.6 million of deferred financing costs to equity, partially offset by lower amortization expense of $1.3 million and the reversal of a portion of costs previously written off in 2008 of $0.7 million upon debt conversion.

 

(3)   Upon retrospective application, the Company increased additional paid-in capital by $88.8 million which represents the estimated equity component of the Company’s convertible notes, and decreased additional paid-in capital by $3.6 million for the deferred financing costs allocated to the equity component.  Since all of the notes were convertible at December 31, 2008 at the option of the holder, and the terms of the notes require that the principal amount be settled in cash, the Company reclassified $75.1 million from permanent equity to mezzanine (reported as “convertible debt” between total liabilities and stockholders’ equity).  The impact of debt conversions during 2008 resulted in a net decrease to additional paid-in capital of $10.6 million.

 

(4)   The adoption resulted in an increase in non-cash interest expense of $26.1 million ($15.5 million net of tax), $28.2 million ($16.6 million net of tax) and $5.4 million ($3.2 million net of tax) for the years ended December 31, 2008, 2007 and 2006, respectively.  In addition, adoption resulted in an after-tax gain of $3.5 million for 2008 debt conversions and an after-tax reversal of $0.7 million for a portion of deferred financing costs originally written off in 2008 upon debt conversion.

 

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Unaudited Consolidated Statement of Operations for the Three Months Ended June 30, 2008

(in thousands, except per share data)

 

Financial statement line

 

As Reported

 

Adjustments
FSP APB 14-1

 

Adjustments
SFAS 160

 

As Adjusted

 

Interest expense(1)

 

$

(2,351

)

$

(7,170

)

$

 

$

(9,521

)

Total other income (expense) (2)

 

584

 

(7,211

)

 

(6,627

)

Income tax (expense) benefit

 

(26,211

)

2,953

 

 

(23,258

)

Equity in loss of investees and income attributable to minority interests(3)

 

(1,231

)

 

1,154

 

(77

)

Net income(1)(2)(3)

 

54,096

 

(4,258

)

1,154

 

50,992

 

Net income attributable to noncontrolling interests(3)

 

 

 

1,154

 

1,154

 

Net income applicable to common stockholders of priceline.com Inc.

 

54,096

 

(4,258

)

 

49,838

 

Net income applicable to common stockholders per basic common share

 

$

1.40

 

$

(0.11

)

$

 

$

1.29

 

Net income applicable to common stockholders per diluted common share

 

$

1.08

 

$

(0.08

)

$

 

$

1.00

 

 


(1)   Interest expense was $7.2 million higher due to amortization of debt discount of $7.4 million, partially offset by lower amortization of debt issuance costs of $0.2 million.  As a result, net income decreased by $4.3 million.

 

(2)   Includes a loss of $41 thousand on debt conversions.

 

(3)   The adoption of SFAS 160 resulted in a change in the presentation on the Unaudited Consolidated Statement of Operations.

 

Unaudited Consolidated Statement of Operations for the Six Months Ended June 30, 2008

(in thousands, except per share data)

 

Financial statement line

 

As Reported

 

Adjustments
FSP APB 14-1

 

Adjustments
SFAS 160

 

As Adjusted

 

Interest expense(1)

 

$

(5,023

)

$

(14,559

)

$

 

$

(19,582

)

Total other income (expense) (2)

 

(2,999

)

(14,601

)

 

(17,600

)

Income tax (expense) benefit

 

(35,729

)

5,965

 

 

(29,764

)

Equity in loss of investees and income attributable to minority interests(3)

 

(1,741

)

 

1,575

 

(166

)

Net income(1)(2)(3)

 

72,250

 

(8,636

)

1,575

 

65,189

 

Net income attributable to noncontrolling interests(3)

 

 

 

1,575

 

1,575

 

Net income applicable to common stockholders of priceline.com Inc.

 

72,250

 

(8,636

)

 

63,614

 

Net income applicable to common stockholders per basic common share

 

$

1.88

 

$

(0.23

)

$

 

$

1.65

 

Net income applicable to common stockholders per diluted common share

 

$

1.46

 

$

(0.18

)

$

 

$

1.28

 

 


(1)   Interest expense was $14.6 million higher due to amortization of debt discount of $15.0 million, partially offset by lower amortization of debt issuance costs of $0.4 million.  As a result, net income decreased by $8.6 million.

 

(2)   Includes a loss of $41 thousand on debt conversions.

 

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(3)   The adoption of SFAS 160 resulted in a change in the presentation on the Unaudited Consolidated Statement of Operations.

 

Unaudited Consolidated Statement of Cash Flows for the Six Months Ended June, 2008 (in thousands)

 

Financial statement line

 

As Reported

 

Adjustments
FSP APB 14-1

 

Adjustments
SFAS 160

 

As Adjusted

 

Net income

 

$

72,250

 

$

(8,636

)

$

1,575

 

$

65,189

 

Deferred income taxes

 

10,261

 

(5,965

)

 

4,296

 

Amortization of debt issuance costs

 

1,660

 

(356

)

 

1,304

 

Amortization of debt discount

 

 

14,916

 

 

14,916

 

Loss on extinguishment of debt

 

 

41

 

 

41

 

Equity in loss of investees and income attributable to minority interests

 

1,741

 

 

(1,575

)

166

 

Net cash provided by operating activities(1)

 

133,284

 

 

 

133,284

 

 


(1)   There is no overall impact on the Company’s actual past or future total operating, investing, or financing cash flows.  However, certain amounts within “net cash provided by operating activities” on the Unaudited Consolidated Statement of Cash Flows for the six months ended June 30, 2008 have been reclassified to conform to the presentation under these accounting pronouncements.

 

Other Recent Accounting Pronouncements

 

In November 2008, the FASB ratified Emerging Issues Task Force Issue No. 08-06, “Equity Method Investment Accounting Considerations” (“EITF 08-6”).  EITF 08-6 clarifies the accounting for certain transactions and impairment considerations involving entities that acquire or hold investments accounted for under the equity method.  EITF 08-6 is applied on a prospective basis.  The adoption of EITF 08-6 on January 1, 2009 did not have an impact on the Company’s Unaudited Consolidated Financial Statements.

 

On January 1, 2009, the Company adopted Financial Accounting Standards Board (“FASB”) Staff Position No. 141(R)-1, “Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies” (“FSP SFAS 141(R)-1”).  This FSP amends and clarifies FASB Statement of Financial Accounting Standards (“SFAS”) No. 141(R), “Business Combinations,” which the Company also adopted on January 1, 2009.  FSP SFAS 141(R)-1 requires assets acquired or liabilities assumed in a business combination to be recognized at fair value, at the acquisition date, if (1) the acquisition-date fair value can be determined during the twelve month measurement period or (2) during the twelve month measurement period it is probable that an asset existed or a liability had been incurred at the acquisition date and the asset or liability can be reasonably estimated.  Also, contingent consideration arrangements of an acquiree assumed by the acquirer in a business combination will be recognized at fair value at the date of acquisition, with subsequent changes in fair value recognized in earnings.  The FSP requires additional disclosures about recognized and unrecognized contingencies.  FSP SFAS 141(R)-1, issued April 2009, is effective for acquisitions made after December 31, 2008.  The adoption of SFAS 141(R) and FSP SFAS 141(R)-1 will change the Company’s accounting treatment for business combinations on a prospective basis.

 

On January 1, 2009, the Company adopted SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities — an Amendment of FASB Statement 133” (“SFAS 161”).  SFAS 161 provides new disclosure requirements for an entity’s derivative and hedging activities.  Refer to Note 7 for disclosures about the Company’s derivative instruments.

 

On January 1, 2008, the Company adopted certain provisions of SFAS No.157, “Fair Value Measurements” (“SFAS 157”).  SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements.  On January 1, 2009, the Company adopted the remaining provisions of SFAS 157 as it relates to nonfinancial assets and liabilities that are not recognized or disclosed at fair value on a recurring basis.  In April 2009, the FASB issued FSP No. SFAS 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (“FSP SFAS 157-4”).  FSP SFAS 157-4 is effective for interim reporting periods after June 15, 2009, with early adoption permitted for periods ending after March 15,

 

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2009.  The Company adopted FSP SFAS 157-4 effective for the three months ended March 31, 2009.  The adoption of SFAS 157 did not materially impact the Company’s Unaudited Consolidated Financial Statements.  See Note 7 for information on fair value measurements.

 

In April 2009, the FASB issued FSP No. SFAS 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments” (“FSP SFAS 107-1 and APB 28-1”).  FSP SFAS 107-1 and APB 28-1 expands the fair value disclosures currently required on an annual basis for financial instruments to interim reporting periods.  FSP SFAS 107-1 and APB 28-1 also requires entities to disclose the methods and significant assumptions used to estimate the fair value of financial instruments on an interim and annual basis and to highlight any changes from prior periods.  FSP SFAS 107-1 and APB 28-1 is effective for interim reporting periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009.  The Company adopted SFAS 107-1 and APB 28-1 effective for the three months ended March 31, 2009.  See Notes 7 and 10 for information on the fair value of financial instruments.

 

In April 2009, the FASB issued FSP No. SFAS 115-2 and SFAS 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments” (“FSP SFAS 115-2 and SFAS 124-2”).  FSP SFAS 115-2 and SFAS 124-2 applies only to debt securities and shifts the focus from an entity’s intent and ability to hold until recovery to its intent to sell.  If an entity intends to sell, or it is more-likely-than not that it will have to sell, impaired securities before recovery, the adjustment to fair value would be recognized through earnings.  If an entity does not intend to sell the impaired debt security but it is probable that the entity will not collect all amounts due, then only the impairment due to credit would be recognized in earnings and the remaining amount of the impairment would be recognized in equity, in other comprehensive income but separately disclosed from other gains or losses on available-for-sale securities.  The noncredit portion of the impairment for held-to-maturity securities would be amortized prospectively over the remaining life of the security.  The FSP is effective for interim reporting ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009, and applies to existing and new investments held as of the beginning of the interim period in which it is adopted.  The adoption of FSP SFAS 115-2 and SFAS 124-2, effective with the three months ended March 31, 2009, did not have an impact on the Company’s Unaudited Consolidated Financial Statements.

 

In May 2009, the FASB issued SFAS No. 165, “Subsequent Events” (“SFAS 165”), which requires entities to state in their periodic filings the date through which subsequent events were evaluated (either when statements were “issued” or “available to be issued”).  The date when “issued” is when the financial statements are widely distributed to shareholders or other users for general use in a format that complies with U.S. GAAP.  As a public entity, the Company is required to make this evaluation through the date that the financial statements are issued.  SFAS 165 is effective for interim or annual periods ending after June 15, 2009.  The Company adopted SFAS 165 for the six months ended June 30, 2009.

 

In June 2009, the FASB issued SFAS No. 168, “The FASB Accounting Standards Codification™ and the Hierarchy of Generally Accepted Accounting Principles” (“SFAS 168”).  Effective July 1, 2009, the FASB launched the Accounting Standards Codification ™ (“ASC” or “Codification”).  When effective, the Codification will be the single official source of authoritative, non-governmental U.S. GAAP.  The Codification will supersede all then-existing non-SEC accounting and reporting standards.  The Codification did not change U.S. GAAP but organized the accounting literature by topical areas in a user-friendly online research system.  The Codification is effective for all interim and annual periods ending after September 15, 2009.

 

In June 2009, a final consensus was reached on EITF Issue 09-1 “Accounting for Own-Share Lending Arrangements in Contemplation of Convertible Debt” (“EITF 09-1”).  The FASB ratified the consensus on July 1, 2009.  EITF 09-1 applies to equity classified arrangements and requires: (1) the share lender to record the fair value of the arrangement as issuance cost and to amortize the cost to interest expense over the duration of the arrangement; (2) to record a loss equal to the fair value of the shares if it is probable that the shares will not be returned or the share borrower will be unable to pay for the unreturned shares; and (3) to exclude from earnings per share calculations the loaned shares, unless there is an actual default.  Additionally, EITF 09-1 requires certain disclosures about the arrangement.  The EITF is effective for new arrangements issued in periods beginning on or after July 15, 2009.  For all other share-lending arrangements, EITF 09-1 is effective for fiscal years and interim periods within those years, beginning on or after December 15, 2009, with retrospective application for arrangements outstanding on the effective date.  Since the Company does not currently have any share lending arrangements, EITF 09-1 did not have an impact on the Company’s Unaudited Consolidated Financial Statements.

 

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Table of Contents

 

2.             SUBSEQUENT EVENT

 

On July 1, 2009, pricelinemortgage.com was dissolved.  In July, the Company received $8.9 million in cash for its 49% equity investment in pricelinemortgage.com.

 

3.             STOCK-BASED EMPLOYEE COMPENSATION

 

The Company has adopted stock compensation plans which provide for grants of share based compensation as incentives and rewards to encourage employees, officers, consultants and directors to contribute towards the long-term success of the Company.  Stock-based compensation cost included in personnel expenses in the Unaudited Consolidated Statements of Operations was approximately $11.3 million and $9.1 million and $21.9 million and $19.0 million for the three and six months ended June 30, 2009 and 2008, respectively.

 

The following table summarizes the activity of unvested restricted stock, restricted stock units and performance share units (“Share-Based Awards) during the six months ended June 30, 2009:

 

Share-Based Awards

 

Shares

 

Weighted Average
Grant Date Fair Value

 

 

 

 

 

 

 

Unvested at December 31, 2008

 

1,802,150

 

$

74.33

 

Granted

 

350,116

 

$

78.64

 

Vested

 

(551,792

)

$

26.70

 

Forfeited

 

(11,785

)

$

106.38

 

Unvested at June 30, 2009

 

1,588,689

 

$

91.59

 

 

As of June 30, 2009, there was approximately $77.0 million of total future compensation cost related to unvested Share-Based Awards to be recognized over a weighted-average period of 2.0 years.

 

During the three months ended June 30, 2009, the Company made grants of 3,250 restricted stock units (“RSUs”) that generally vest after three years.  The share based awards granted had a total grant date fair value of $0.4 million based upon the grant date fair value per share of $108.23.

 

During the three months ended March 31, 2009, the Company made broad-based grants of 299,680 RSUs that generally vest after three years.  The share based awards granted had a total grant date fair value of $24.8 million and a grant date fair value per share of $82.65.

 

Additionally, during the three months ended March 31, 2009, the Company granted an aggregate of 47,186 RSUs to certain executives.  The restricted stock units will be forfeited if the Company’s common stock does not achieve and maintain certain stock price thresholds during the six month period preceding the March 2012 vesting date.  If during such six month period the Company’s common stock closes at or above the stock price of $97.05, $104.69, or $113.03 for twenty (20) consecutive trading days, 50%, 75% or 100%, respectively, of the RSUs will be earned pursuant to the market price requirement.   Subject to certain exceptions related to a change in control and terminations other than for “cause,” or on account of death or disability, the executives must also continue their service through March 3, 2012 in order to receive any shares of the Company’s common stock.   The RSUs earned, if any, are payable in the Company’s common stock upon vesting.  Stock-based compensation expense related to an award with a market condition is recognized over the requisite service period regardless of whether the market condition is satisfied, provided that the requisite service period has been completed. The value of the Company’s stock on the date of grant was $82.65 per share.  The Company considered the “path dependent” nature of the RSUs and determined the grant date fair value by replicating the payout structure of the RSUs using a series of call options and cash-or-nothing binary call options (“Binary Options”).  Cash-or-nothing Binary Options provide the holder with the right to receive the strike price if the stock price exceeds the strike price as of the expiration date.  The fair value calculation included the following assumptions:  a 1.36% annualized risk-free interest rate, a calculated three year historical volatility of 55.95%, no dividends, and an expected term equal to the three year vesting period.  The award had a total grant date fair value of $2.4 million based on a grant date fair value of $51.11 per share.  The fair value of a grant subject to a market condition is generally lower than an award with only a service condition for vesting since the market condition may never be met.

 

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4.             NET INCOME PER SHARE

 

The Company computes basic net income per share by dividing net income by the weighted average number of common shares outstanding during the period. Diluted net income per share is based upon the weighted average number of common and common equivalent shares outstanding during the period.

 

Common equivalent shares related to stock options, restricted stock, restricted stock units and performance share units are calculated using the treasury stock method. Performance share units are included in the weighted average common equivalent shares based on the number of shares that would be issued if the end of the reporting period were the end of the performance period, if the result would be dilutive.

 

The Company’s convertible debt issues have net share settlement features requiring the Company upon conversion to settle the principal amount of the debt for cash and the conversion premium for cash or shares of the Company’s common stock.  The convertible notes are included in the calculation of diluted net income per share if their inclusion is dilutive under the treasury stock method.

 

A reconciliation of the weighted average number of shares outstanding used in calculating diluted earnings per share is as follows (in thousands):

 

 

 

For the Three Months
 Ended June 30,

 

For the Six Months
 Ended June 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

 

 

 

 

 

 

 

 

Weighted average number of basic common shares outstanding

 

41,661

 

38,768

 

41,334

 

38,496

 

Weighted average dilutive stock options, restricted stock, restricted stock units and performance share units

 

1,117

 

1,671

 

1,277

 

1,708

 

Assumed conversion of Convertible Senior Notes

 

5,701

 

9,509

 

5,313

 

9,381

 

Weighted average number of diluted common and common equivalent shares outstanding

 

48,479

 

49,948

 

47,924

 

49,585

 

Anti-dilutive potential common shares

 

5,504

 

5,650

 

5,853

 

5,742

 

 

Anti-dilutive potential common shares for the three and six months ended June 30, 2009 includes approximately 3.5 million shares and 4.0 million shares, respectively, which could be issued under the Company’s convertible debt if the Company’s stock price increases.  Under the treasury stock method, the convertible notes will generally have a dilutive impact on net income per share if the Company’s average stock price for the period exceeds the conversion price for the convertible notes.  As an example, at stock prices of $80 per share, $100 per share, $120 per share and $175 per share, common equivalent shares would include approximately 4.5 million, 5.4 million, 6.0 million and 6.9 million equivalent shares, respectively, related to the convertible notes (excluding the offsetting impact of the Convertible Spread Hedges — see Note 10).  The Conversion Spread Hedges increase the effective conversion price of the Company’s Convertible Senior Notes due September 30, 2011 and September 30, 2013 from $40.38 to $50.47 per share from the Company’s perspective and are designed to reduce potential dilution upon conversion of the Convertible Senior Notes at maturity.  Since the beneficial impact of the Conversion Spread Hedges is anti-dilutive, it is excluded from the calculation of net income per share.

 

5.             RESTRUCTURING

 

At June 30, 2009 and December 31, 2008, the Company had a restructuring liability of $0.5 million and $1.0 million, respectively, for the estimated remaining costs related to leased property vacated by the Company in 2000.  The Company estimates that, based on current available information, the remaining net cash outflows associated with its restructuring related commitments will be paid in 2009-2011. The current portion of the restructuring accrual in the amount of $0.3 million is recorded in “Accrued expenses and other current liabilities” and the $0.2 million non-current portion is recorded in “Other long-term liabilities” on the Company’s Unaudited Consolidated Balance Sheet as of June 30, 2009.

 

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6.             INVESTMENTS

 

The following table summarizes, by major security type, the Company’s marketable securities as of June 30, 2009:

 

(in thousands)

 

Amortized Cost

 

Gross Unrealized
Gains

 

Gross Unrealized
Losses

 

Market Value

 

 

 

 

 

 

 

 

 

 

 

Foreign government securities

 

$

180,807

 

$

 

$

(100

)

$

180,707

 

U.S. government securities

 

75,397

 

15

 

 

75,412

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

256,204

 

$

15

 

$

(100

)

$

256,119

 

 

Long-term investments amounting to approximately $0.3 million as of June 30, 2009, and $0.2 million as of December 31, 2008, were comprised of corporate notes with a maturity date greater than one year.  There were no material gains or losses related to long-term investments for the three or six months ended June 2009 or 2008.

 

The following table summarizes, by major security type, the Company’s short-term investments as of December 31, 2008:

 

(in thousands)

 

Amortized Cost

 

Gross Unrealized
Gains

 

Gross Unrealized
Losses

 

Market Value

 

 

 

 

 

 

 

 

 

 

 

Foreign government securities

 

$

64,027

 

$

 

$

(23

)

$

64,004

 

U.S. government securities

 

33,391

 

102

 

 

33,493

 

Corporate debt securities

 

1,392

 

 

(1

)

1,391

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

98,810

 

$

102

 

$

(24

)

$

98,888

 

 

7.             FAIR VALUE MEASUREMENTS

 

Effective January 1, 2008, the Company adopted SFAS 157, which defines fair value as the exchange price that would be received for an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date.  The standard describes three levels of inputs that may be used to measure fair value:

 

Level 1:      Quoted prices in active markets that are accessible by the Company at the measurement date for identical assets and liabilities.

Level 2:      These prices are not directly accessible by the Company.  Such prices may be based upon quoted prices in active markets or inputs not quoted on active markets, but corroborated by market data.

Level 3:      Unobservable inputs are used when little or no market data is available.

 

Financial assets and liabilities carried at fair value as of June 30, 2009 are classified in the table below in the categories described above:

 

(in thousands)

 

Level 1

 

Level 2

 

Total

 

Short-term investments

 

$

256,119

 

$

 

$

256,119

 

Long-term investments

 

 

267

 

267

 

Total assets at fair value

 

$

256,119

 

$

267

 

$

256,386

 

 

 

 

 

 

 

 

 

Foreign exchange derivative liabilities

 

$

 

$

2,314

 

$

2,314

 

 

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Financial assets and liabilities carried at fair value as of December 31, 2008 were classified in the table below in the categories described above:

 

(in thousands)

 

Level 1

 

Level 2

 

Total

 

Short-term investments

 

$

97,497

 

$

1,391

 

$

98,888

 

Long-term investments

 

 

206

 

206

 

Foreign exchange derivative assets

 

 

7,490

 

7,490

 

Total assets at fair value

 

$

97,497

 

$

9,087

 

$

106,584

 

 

Fair values for investments in U.S. Treasury and foreign governmental securities are considered “Level 1” valuations because the Company has access to quoted prices in active markets as of the measurement date.   Fair values for other investments are considered “Level 2” instrument valuations because they are obtained from professional pricing sources for these or comparable instruments, rather than direct observation of quoted prices in active markets.  As of June 30, 2009 and December 31, 2008, the Company did not have any “Level 3” assets or liabilities without observable market values that would require a high level of judgment to determine fair value.  The Company’s derivative instruments are valued using pricing models. Pricing models take into account the contract terms as well as multiple inputs where applicable, such as interest rate yield curve, option volatility and currency rates. Our derivative instruments are typically short-term in nature.

 

As of June 30, 2009 and December 31, 2008, the carrying value of our cash and cash equivalents approximated their fair value and consisted primarily of AAA-rated U.S. Treasury money market funds, foreign governmental securities, and bank deposits.  Other financial assets and liabilities, including restricted cash, accounts receivable, accounts payable, accrued expenses and deferred merchant bookings, are carried at cost which approximates their fair value because of the short-term nature of these items.  Refer to Note 6 for information on the carrying value of investments and Note 10 for the estimated fair value of the Company’s Senior Notes.

 

In the normal course of business, the Company is exposed to the impact of foreign currency fluctuations.  The Company limits these risks by following established risk management policies and procedures, including the use of derivatives.  The Company’s derivative instruments are typically short-term in nature.  The Company does not use derivatives for trading or speculative purposes.  All derivative instruments are recognized in the Unaudited Consolidated Balance Sheet at fair value.  Gains and losses resulting from changes in the fair value of derivative instruments which are not designated as hedging instruments for accounting purposes are recognized in the Unaudited Consolidated Statement of Operations in the period that the changes occur.  Changes in the fair value of derivatives designated as net investment hedges are recorded as currency translation adjustments to offset a portion of the translation adjustment of the foreign subsidiary’s net assets and are recognized in the Unaudited Consolidated Balance Sheet in “Accumulated other comprehensive loss.”

 

Derivatives Not Designated as Hedging Instruments — As of June 30, 2009, derivatives with a notional value of 20.0 million Euros and 5.0 million British Pounds Sterling are outstanding and are scheduled to mature by September 30, 2009.  As of December 31, 2008, derivatives with a notional value of 25.0 million Euros were outstanding.  Foreign exchange losses of $2.6 million and $0.8 million for the three and six months ended June 30, 2009, respectively, and foreign exchange losses of $0.1 million and $4.3 million for the three and six months ended June 30, 2008, respectively, were recorded in “Foreign currency transactions and other” in the Unaudited Consolidated Statement of Operations.  Foreign exchange derivative liabilities of $0.7 million at June 30, 2009 are recorded in “Accrued expenses and other current liabilities” and foreign exchange derivative assets of $7.5 million at December 31, 2008 were recorded in “Prepaid expenses and other current assets” in the Unaudited Consolidated Balance Sheets.  The settlement of derivative contracts resulted in a net cash inflow of $7.9 million for the six months ended June 30, 2009 and is classified within net cash provided by operating activities.  For foreign exchange contracts outstanding at June 30, 2009, a hypothetical 10% strengthening of foreign exchange rates relative to the U.S. Dollar, with all other variables held constant, would have resulted in a $4.4 million foreign exchange loss.

 

Derivatives Designated as Hedging Instruments — In May 2009, the Company entered into a forward currency contract for 36.7 million Euros to hedge a portion of its net investment in a foreign subsidiary against adverse changes in exchange rates.  This contract is scheduled to mature in November 2009.  Hedge ineffectiveness is assessed and measured based on changes in forward exchange rates.  At June 30, 2009, mark-to-market losses of $1.6 million are recorded in “Accumulated other comprehensive loss” as currency translation adjustments.  The derivative liability at June 30, 2009 of $1.6 million is recorded in “Accrued expenses and other current liabilities” in the Unaudited Consolidated Balance Sheet.

 

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8.             INTANGIBLE ASSETS AND GOODWILL

 

The Company’s intangible assets consist of the following:

 

 

 

June 30, 2009

 

December 31, 2008

 

 

 

 

 

(in thousands)

 

Gross
Carrying
Amount

 

Accumulated Amortization

 

Net
Carrying
Amount

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Net
Carrying
Amount

 

Amortization
Period

 

Weighted
Average
Useful Life

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supply and distribution agreements

 

$

203,141

 

$

(52,650

)

$

150,491

 

$

197,414

 

$

(42,217

)

$

155,197

 

13 years

 

13 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Technology

 

23,805

 

(19,383

)

4,422

 

23,099

 

(17,784

)

5,315

 

3 years

 

3 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Patents

 

1,489

 

(1,188

)

301

 

1,489

 

(1,170

)

319

 

15 years

 

15 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer lists

 

17,050

 

(13,002

)

4,048

 

17,801

 

(11,662

)

6,139

 

2 – 3 years

 

2 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Internet domain names

 

6,453

 

(2,310

)

4,143

 

6,453

 

(1,988

)

4,465

 

10 years

 

10 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Trade names

 

26,457

 

(6,973

)

19,484

 

27,071

 

(5,454

)

21,617

 

5-20 years

 

17 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other

 

471

 

(318

)

153

 

1,459

 

(1,280

)

179

 

1 – 15 years

 

7 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total intangible assets

 

$

278,866

 

$

(95,824

)

$

183,042

 

$

274,786

 

$

(81,555

)

$

193,231

 

 

 

 

 

 

Intangible assets with determinable lives are primarily amortized on a straight-line basis.  Intangible asset amortization expense was approximately $6.2 million and $7.5 million for the three months ended June 30, 2009 and 2008, respectively, and approximately $12.1 million and $14.5 million for the six months ended June 30, 2009 and 2008, respectively.

 

The annual estimated amortization expense for intangible assets for the remainder of 2009, the next four years and thereafter is expected to be as follows:

 

(in thousands)

 

 

 

2009

 

$

12,318

 

2010

 

22,269

 

2011

 

18,893

 

2012

 

17,792

 

2013

 

17,423

 

Thereafter

 

94,347

 

 

 

$

183,042

 

 

A substantial majority of the Company’s goodwill relates to its acquisitions of Booking.com Limited in 2004, Booking.com B.V. in 2005 and subsequent purchases of the noncontrolling interests in their parent company, priceline.com International.  The change in goodwill for the six months ended June 30, 2009 consists of the following:

 

(in thousands)

 

 

 

Balance at December 31, 2008

 

$

326,863

 

Adjustment to purchase price

 

4,236

 

Currency translation adjustments

 

16,122

 

Balance at June 30, 2009

 

$

347,221

 

 

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9.             OTHER ASSETS

 

Other assets at June 30, 2009 and December 31, 2008 consist of the following:

 

(in thousands)

 

June 30, 2009

 

December 31, 2008
As Adjusted

 

Investment in pricelinemortgage.com

 

$

 

$

8,918

 

Deferred debt issuance costs

 

3,698

 

4,700

 

Long-term investments

 

267

 

206

 

Other

 

1,221

 

1,245

 

Total

 

$

5,186

 

$

15,069

 

 

Investment in pricelinemortgage.com represented the Company’s 49% equity investment in pricelinemortgage.com and, accordingly, the Company recognized its pro rata share of pricelinemortgage.com’s operating results, not to exceed an amount that the Company believes represents the investment’s estimated fair value.  The Company recognized approximately $33,000 and $2,000 of income from its investment in pricelinemortgage.com in the three and six months ended June 30, 2009, respectively, and approximately $77,000 and $166,000 of losses from its investment in pricelinemortgage.com in the three and six months ended June 30, 2008, respectively.  The Company earned an insignificant amount of advertising fees from pricelinemortgage.com in the three and six months ended June 30, 2009 and 2008.  In July 2009, pricelinemortgage.com was dissolved and the Company received cash of $8.9 million for its proportionate share of the equity.  The Company’s investment of $8.9 million is reported as a current asset in “Prepaid expenses and other current assets” on the Unaudited Consolidated Balance Sheet at June 30, 2009.

 

Deferred debt issuance costs arose from the Company’s issuance of $100 million aggregate principal amount of 2.25% Notes in September 2004, $172.5 million aggregate principal amount of 0.5% Notes in September 2006, $172.5 million of aggregate principal amount 0.75% Notes in September 2006 and a $175 million revolving credit facility in September 2007.  Deferred debt issuance costs are being amortized using the effective interest rate method over the term of approximately five years, except for the 0.75% Notes, which are amortized over their term of seven years.  The period of amortization for the Company’s debt issue costs was determined at inception of the related debt agreements to be the stated maturity date or the first stated put date, if earlier.  Debt issuance costs written off in the six months ended June 30, 2009 related to early conversion of convertible debt amounted to $0.1 million.

 

Long-term investments amounting to approximately $0.3 million as of June 30, 2009 and $0.2 million as of December 31, 2008, were comprised of corporate notes with a maturity date greater than one year.

 

10.          DEBT

 

Revolving Credit Facility

 

In September 2007, the Company entered into a $175 million five-year committed revolving credit facility with a group of lenders, which is secured, subject to certain exceptions, by a first-priority security interest on substantially all of the Company’s assets and related intangible assets located in the United States.  In addition, the Company’s obligations under the revolving credit facility are guaranteed by substantially all of the assets and related intangible assets of the Company’s material direct and indirect domestic and foreign subsidiaries.  Borrowings under the revolving credit facility will bear interest, at the Company’s option, at a rate per annum equal to the greater of (a) JPMorgan Chase Bank, National Association’s prime lending rate and (b) the federal funds rate plus ½ of 1%, plus an applicable margin ranging from 0.25% to 0.75%; or at an adjusted LIBOR for the interest period in effect for such borrowing plus an applicable margin ranging from 1.25% to 1.75%.  Undrawn balances available under the revolving credit facility are subject to commitment fees at the applicable rate ranging from 0.25% to 0.375%.

 

The revolving credit facility provides for the issuance of up to $50.0 million of letters of credit as well as borrowings on same-day notice, referred to as swingline loans, which are available in U.S. Dollars, Euros, British Pounds Sterling and any other foreign currency agreed to by the lenders. The proceeds of loans made under the facility will be used for working capital and general corporate purposes.  As of June 30, 2009, there were no borrowings outstanding under the facility and the Company has issued approximately $2.3 million of letters of credit under the revolving credit facility.

 

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Convertible Debt

 

The $100 million aggregate principal amount of Convertible Senior Notes due January 15, 2025, with an interest rate of 2.25% (the “2.25% Notes”) are convertible, subject to certain conditions, into the Company’s common stock at a conversion price of approximately $37.95 per share.  The 2.25% Notes will be convertible if, on or prior to January 15, 2020, the closing sale price of the Company’s common stock for at least 20 consecutive trading days in the period of 30 consecutive trading days ending on the first day of a conversion period is more than 120% of the then current conversion price of the 2.25% Notes.  The 2.25% Notes are also convertible in certain other circumstances, such as a change in control of the Company.  In the event that all or substantially all of the Company’s common stock is acquired on or prior to January 15, 2010, in a transaction in which the consideration paid to holders of the Company’s common stock consists of all or substantially all cash, the Company would be required to make additional payments in the form of common shares to the holders of the 2.25% Notes of amounts ranging from $0 to $5.2 million depending upon the date of the transaction and the then current stock price of the Company.   In addition, the 2.25% Notes will be redeemable at the Company’s option beginning January 20, 2010, and the holders may require the Company to repurchase the 2.25% Notes for cash on January 15, 2010, 2015 or 2020, or in certain other circumstances. Interest on the 2.25% Notes is payable on January 15 and July 15 of each year.

 

In 2006, the Company issued in a private placement $172.5 million aggregate principal amount of Convertible Senior Notes due September 30, 2011, with an interest rate of 0.50% (the “2011 Notes”), and $172.5 million aggregate principal amount of Convertible Senior Notes due September 30, 2013, with an interest rate of 0.75% (the “2013 Notes”).  The 2011 Notes and the 2013 Notes are convertible, subject to certain conditions, into the Company’s common stock at a conversion price of approximately $40.38 per share. The 2011 Notes and the 2013 Notes are convertible, at the option of the holder, prior to June 30, 2011 in the case of the 2011 Notes, and prior to June 30, 2013 in the case of the 2013 Notes, upon the occurrence of specified events, including, but not limited to a change in control, or if the closing sale price of the Company’s common stock for at least 20 trading days in the period of the 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is more than 120% of the applicable conversion price in effect for the notes on the last trading day of the immediately preceding quarter. In the event that all or substantially all of the Company’s common stock is acquired on or prior to the maturity of the 2011 Notes or the 2013 Notes, in a transaction in which the consideration paid to holders of the Company’s common stock consists of all or substantially all cash, the Company would be required to make additional payments in the form of additional shares of common stock to the holders of the 2011 Notes and the 2013 Notes, collectively, in aggregate value ranging from $0 to approximately $40.0 million depending upon the date of the transaction and the then current stock price of the Company.  No additional payments are due at stock prices in excess of $100 per share.  As of June 30, 2011, with respect to the 2011 Notes, and as of June 30, 2013, with respect to the 2013 Notes, holders shall have the right to convert all or any portion of such security.  Neither the 2011 Notes nor the 2013 Notes may be redeemed by the Company prior to maturity. The holders may require the Company to repurchase the 2011 Notes and the 2013 Notes for cash in certain circumstances. Interest on the 2011 Notes and the 2013 Notes is payable on March 30 and September 30 of each year.

 

In 2006, the Company entered into hedge transactions relating to potential dilution of the Company’s common stock upon conversion of the 2011 Notes and the 2013 Notes (the “Conversion Spread Hedges”). Under the Conversion Spread Hedges, the Company is entitled to purchase from Goldman Sachs and Merrill Lynch approximately 8.5 million shares of the Company’s common stock (the number of shares underlying the 2011 Notes and the 2013 Notes) at a strike price of $40.38 per share (subject to adjustment in certain circumstances) in 2011 and 2013, and the counterparties are entitled to purchase from the Company approximately 8.5 million shares of the Company’s common stock at a strike price of $50.47 per share (subject to adjustment in certain circumstances) in 2011 and 2013.  The Conversion Spread Hedges increase the effective conversion price of the 2011 Notes and the 2013 Notes to $50.47 per share from the Company’s perspective and are designed to reduce the potential dilution upon conversion of the 2011 Notes and the 2013 Notes. If the market value per share of the Company’s common stock at maturity is above $40.38, the Conversion Spread Hedge will entitle the Company to receive from the counterparties net shares of the Company’s common stock based on the excess of the then current market price of the Company’s common stock over the strike price of the hedge (up to $50.47). Holders of the 2011 Notes and the 2013 Notes do not have any rights with respect to the Conversion Spread Hedges. The Conversion Spread Hedges are separate transactions entered into by the Company with the counterparties, are not part of the terms of the Notes and will not affect the holders’ rights under the 2011 Notes and the 2013 Notes. The Conversion Spread Hedges are exercisable at dates coinciding with the scheduled maturities of the 2011 Notes and 2013 Notes. The Conversion Spread Hedges do not immediately hedge against the associated dilution from conversions of the Notes prior to their

 

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stated maturities.  Therefore, upon conversion of the 2011 Notes or the 2013 Notes, the Company has delivered or will be obligated to immediately deliver any related conversion premium in shares of common stock or a combination of cash and shares.  However, the hedging counterparties will not be obligated to deliver the Company shares or cash that would offset the dilution associated with the early conversion activity until 2011 and 2013.  Because of this potential timing difference, the number of shares, if any, that the Company receives from its Conversion Spread Hedge could differ materially from the number of shares, if any, that it is required to deliver to holders of the Notes upon their early conversion.   This potential difference in timing can potentially make the hedges ineffective, which could negatively impact the Company’s future diluted shares outstanding and diluted earnings per share.

 

Convertible debt as of June 30, 2009 consists of the following:

 

(in thousands)

 

June 30, 2009

 

Outstanding
Principal
Amount

 

Unamortized
Debt
Discount

 

Carrying
Value

 

0.50% Convertible Senior Notes due September 2011

 

$

118,565

 

$

(17,696

)

$

100,869

 

0.75% Convertible Senior Notes due September 2013

 

146,000

 

(38,030

)

107,970

 

2.25% Convertible Senior Notes due January 2025

 

91,915

 

(2,876

)

89,039

 

Outstanding convertible debt

 

$

356,480

 

$

(58,602

)

$

297,878

 

 

Convertible debt as of December 31, 2008 consists of the following:

 

(in thousands)

 

December 31, 2008

 

Outstanding
Principal
Amount

 

Unamortized
Debt
Discount

 

Carrying
Value

 

0.50% Convertible Senior Notes due September 2011

 

$

134,565

 

$

(24,093

)

$

110,472

 

0.75% Convertible Senior Notes due September 2013

 

158,500

 

(45,286

)

113,214

 

2.25% Convertible Senior Notes due January 2025

 

99,920

 

(5,696

)

94,224

 

Outstanding convertible debt

 

$

392,985

 

$

(75,075

)

$

317,910

 

 

On January 1, 2009, the Company adopted FSP APB 14-1.  FSP APB 14-1 requires cash settled convertible debt, such as the Company’s convertible senior notes, to be separated into debt and equity components at issuance and a value to be assigned to each.  The value assigned to the debt component is the estimated fair value, as of the issuance date, of a similar bond without the conversion feature.  The difference between the bond cash proceeds and this estimated fair value, representing the value assigned to the equity component, is recorded as a debt discount.  Debt discount is amortized using the effective interest method over the period from origination or modification date through the earlier of the first stated put date or the stated maturity date.  The adoption of this FSP on January 1, 2009, required retrospective application for all prior periods presented (refer to Note 1 for information regarding the adjustments).

 

The Company estimated the straight debt borrowing rates at debt origination or modification (the 2011 Notes and 2013 Notes were structured requiring net cash settlement at issue in 2006 and the 2.25% Notes were modified to provide for net cash settlement in 2006) to be 7.75% for the 2011 Notes and 2.25% Notes and 8.0% for the 2013 Notes.  The yield to maturity was estimated at an at-market coupon priced at par.  The straight debt borrowing rate for the 2.25% Notes was based upon an effective maturity date of January 15, 2010 because on that date the 2.25% Notes will be redeemable at the Company’s option and the holders may require the Company to repurchase these notes.

 

During 2008, all $125 million aggregate principal amount of the Company’s 1% Convertible Senior Notes due August 2010 were converted.  The Company estimated the straight debt borrowing rate for these notes at modification (the 1.00% Convertible Senior Notes due 2010 (the “1% Notes”) were modified to provide for net cash settlement in 2006) to be 7.75%.  The yield to maturity was estimated at an at market coupon priced at par.  The straight debt borrowing rate for the 1% Notes was based upon an effective maturity date of August 1, 2008 because on that date this note was redeemable at the option of the Company or the holders.

 

Based upon the closing price of the Company’s common stock for the prescribed measurement periods during the three months ended June 30, 2009 and December 31, 2008, the contingent conversion thresholds on each of the Company’s convertible senior notes were exceeded.  As a result, the notes are convertible at the option of the holder as of June 30, 2009 and December 31, 2008 and, accordingly, have been classified as a current liability or

 

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convertible debt in mezzanine on the Company’s Unaudited Consolidated Balance Sheets as of those dates.  However, contingencies continue to exist regarding the holders’ ability to convert such notes in future quarters.  The determination of whether or not the notes are convertible must continue to be performed on a quarterly basis.  Consequently, the convertible debt may not be convertible in future quarters, and therefore may again be classified as long-term debt, if the contingent conversion thresholds are not met in such quarters.  In cases where holders decide to convert prior to the maturity date or first stated put date, the Company writes off the proportionate amount of remaining debt issuance costs to interest expense.  If the note holders exercise their option to convert, the Company would deliver cash to repay the principal amount of the notes and would deliver cash or shares of common stock, at its option, to satisfy the conversion value in excess of the principal amount.

 

Since all of the notes are convertible as of June 30, 2009 and December 31, 2008 at the option of the holder and terms of the notes require that the principal amount be settled in cash, the Company made a reclassification from permanent equity to mezzanine (shown as “convertible debt” between total liabilities and stockholders’ equity on the Unaudited Consolidated Balance Sheets) as required by EITF Topic No. D-98, “Classification and Measurement of Redeemable Securities.”  The amount reported as convertible debt in mezzanine equity plus the current liability for convertible debt represents the Company’s total principal outstanding at each reporting period.  The carrying value of the remaining permanent equity component reported in additional paid-in capital related to the convertible notes was a credit of $10.4 million at June 30, 2009, and a charge of $0.5 million at December 31, 2008.

 

As of June 30, 2009 and December 31 2008, the estimated fair value of the outstanding senior notes was approximately $1.0 billion and $742 million, respectively.  Fair value was estimated based upon actual trades at the end of the reporting period or the most recent trade values available, as well as the Company’s stock price at the end of the reporting period.  Substantially all of the market value of the Company’s debt in excess of the principal value relates to the conversion premium on the bonds.

 

For the three months ended June 30, 2009 and 2008, the Company recognized interest expense of $6.3 million and $9.3 million, respectively, related to convertible notes, comprised of $0.9 million and $1.3 million, respectively, for the contractual coupon interest, $5.0 million and $7.4 million, respectively, related to the amortization of debt discount and $0.4 million and $0.6 million, respectively, related to the amortization of debt issuance costs.  The effective interest rate for the three months ended June 30, 2009 and 2008 was 8.2% and 8.4%, respectively.  The remaining period for amortization of debt discount and debt issuance costs is the stated maturity dates for the 2011 Notes and 2013 Notes and January 2010 for the 2.25% Notes, which is the first stated put date.

 

For the six months ended June 30, 2009 and 2008, the Company recognized interest expense of $12.8 million and $18.9 million, respectively, related to convertible notes, comprised of $1.8 million and $2.7 million, respectively, for the contractual coupon interest, $10.2 million and $15.0 million, respectively, related to the amortization of debt discount and $0.8 million and $1.2 million, respectively, related to the amortization of debt issuance costs.  In addition, unamortized debt issuance costs written off to interest expense related to debt conversions in 2009 amounted to approximately $0.1 million.  The effective interest rate for both the six months ended June 30, 2009 and 2008 was 8.3%.

 

In addition, if the Company’s convertible debt is redeemed or converted prior to maturity, FSP APB 14-1 requires the recognition of a gain or loss on extinguishment.  The gain or loss is the difference between the fair value of the debt component immediately prior to extinguishment and its carrying value.  To estimate the fair value at each conversion date, the Company used an applicable LIBOR rate plus an applicable credit default spread based upon the Company’s credit rating at the respective conversion dates.

 

In the three months ended June 30, 2009, approximately $16.0 million aggregate principal amount of 2011 Notes were converted.  The Company delivered cash of $16.0 million to repay the principal amount and issued 248,451 shares in satisfaction of the conversion value in excess of the principal amount.  During the three months ended June 30, 2009, the Company recognized a gain of $0.3 million, ($0.2 million after tax) in “Foreign currency transactions and other” in the Unaudited Consolidated Statement of Operations.

 

In the six months ended June 30, 2009, approximately $16.0 million aggregate principal amount of 2011 Notes, $8.0 million aggregate principal amount of 2.25% Notes, and $12.5 million aggregate principal amount of 2013 Notes were converted.  The Company delivered cash of $36.5 million to repay the principal amount and delivered 499,874 shares in satisfaction of the conversion value in excess of the principal amount.  During the six months ended June 30, 2009, the Company recognized a gain of $3.1 million ($1.9 million after tax) in “Foreign currency transactions and other” in the Unaudited Consolidated Statement of Operations.

 

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Based on conversion notices received through August 7, 2009, notes with an outstanding principal amount of $43.5 million will be converted during the three months ended September 30, 2009.

 

11.          TREASURY STOCK

 

In the fourth quarter of 2005, the Company’s Board of Directors authorized the repurchase of up to $50 million of the Company’s common stock from time to time in the open market or in privately negotiated transactions.  In addition, in the third quarter of 2006, the Company’s Board of Directors authorized the repurchase of up to an additional $150 million of the Company’s common stock with a portion of the proceeds from the issuance of the 2011 Notes and the 2013 Notes. The Company’s Board of Directors has also given the Company the general authorization to repurchase shares of its common stock to satisfy employee withholding tax obligations related to stock-based compensation.

 

Under these programs, the Company repurchased 156,763 and 27,557 shares at an aggregate cost of $13.2 million and $3.4 million in the six months ended June 30, 2009 and 2008, respectively, to satisfy employee withholding taxes related to stock-based compensation.

 

The Company may make additional repurchases of shares under its stock repurchase program, depending on prevailing market conditions, alternate uses of capital and other factors. Whether and when to initiate and/or complete any purchase of common stock and the amount of common stock purchased will be determined in the Company’s complete discretion. As of June 30, 2009 there were approximately 6.8 million shares of the Company’s common stock held in treasury.

 

12.          INCOME TAXES

 

Income tax expense includes U.S. and international income taxes, determined using an estimate of the Company’s annual effective tax rate.  A deferred tax liability is recognized for all taxable temporary differences, and a deferred tax asset is recognized for all deductible temporary differences and operating loss and tax credit carryforwards.  A valuation allowance is recognized if it is more-likely-than not that some portion of the deferred tax asset will not be realized.

 

The Company recognizes income tax expense related to income generated outside of the United States based upon the applicable tax rates of the foreign countries in which the income is generated.  During the three and six months ended June 30, 2009 and 2008, the substantial majority of the Company’s foreign-sourced income has been generated in the Netherlands and the United Kingdom.  Income tax expense for the three and six months ended June 30, 2009 and 2008 differs from the expected tax expense at the U.S. statutory rate of 35%, primarily due to lower foreign tax rates and the foreign tax benefit of interest expense on intercompany debt, U.S. tax on certain foreign income, non-deductible expenses and state income taxes.

 

The Company has significant deferred tax assets, resulting principally from domestic net operating loss carryforwards (“NOLs”).  As required by SFAS No. 109, “Accounting for Income Taxes,” the Company periodically evaluates the likelihood of the realization of deferred tax assets, and reduces the carrying amount of these deferred tax assets by a valuation allowance to the extent it believes a portion will not be realized. The Company considers many factors when assessing the likelihood of future realization of the deferred tax assets, including its recent cumulative earnings experience by taxing jurisdiction, expectations of future income, the carryforward periods available for tax reporting purposes, and other relevant factors.  The deferred tax asset at June 30, 2009 and December 31, 2008 amounted to $149.0 million and $166.1 million, net of the valuation allowance recorded, respectively (refer to Note 1 for the impact of the adoption of FSP APB 14-1).  It is more-likely-than not that the remaining deferred tax assets will not be realized and, accordingly, a valuation allowance remains against those assets.  The valuation allowance may need to be adjusted in the future if facts and circumstances change, causing a reassessment of the amount of deferred tax assets more-likely-than not to be realized.  Despite growth in the Company’s domestic earnings during the three and six months ended June 30, 2009, the valuation allowance has not been reduced due to the inherent uncertainty and the likely negative potential impact the worldwide recession and other issues will have on the Company’s future domestic operating results and future realization of its deferred tax assets.

 

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Section 382 of the Internal Revenue Code imposes limitations on the availability of a company’s net operating losses after a more than 50 percentage point ownership change occurs.  The Section 382 limitation is based upon certain conclusions pertaining to the dates of ownership changes and the value of the Company on the dates of the ownership changes.  As a result of a study, it was determined that ownership changes, as defined in Section 382, occurred in 2000 and 2002.  The amount of the Company’s net operating losses incurred prior to each ownership change is limited based on the value of the Company on the respective dates of ownership change.  It is estimated that the effect of Section 382 will generally limit the total cumulative amount of net operating loss available to offset future taxable income to approximately $1.5 billion.  Pursuant to Section 382, subsequent ownership changes could further limit this amount.

 

The Company has recorded a deferred tax liability in the amount of $46.6 million and $48.9 million at June 30, 2009 and December 31, 2008, respectively, primarily related to the assignment of estimated fair value to certain purchased identifiable intangible assets associated with the acquisitions of Booking.com Limited, Booking.com B.V. and priceline.com Mauritius Company Limited (formerly known as the Agoda Company, Ltd.).

 

13.          COMMITMENTS AND CONTINGENCIES

 

Litigation Related to Hotel Occupancy and Other Taxes

 

The Company and certain third-party defendants are currently involved in approximately forty lawsuits brought by or against states, cities and counties over issues involving the payment of hotel occupancy and other taxes (i.e., state and local sales tax) and the Company’s “merchant” hotel business.  The Company is also involved in two consumer lawsuits relating to, among other things, the payment of hotel occupancy taxes and service fees.  In addition, more than forty-three municipalities, and at least two states, have initiated audit proceedings (including proceedings initiated by thirty-seven municipalities in California), issued proposed tax assessments or started inquiries relating to the payment of hotel occupancy and other taxes (i.e., state and local sales tax).  Additional state and local jurisdictions are likely to assert that the Company is subject to, among other things, hotel occupancy and other taxes (i.e., state and local sales tax) and could seek to collect such taxes, retroactively and/or prospectively.

 

In connection with some of these tax audits and assessments, the Company may be required to pay any assessed taxes, which amounts may be substantial, prior to being allowed to contest the assessments and the applicability of the ordinances in judicial proceedings.  This requirement is commonly referred to as “pay to play.”  For example, the City of San Francisco recently assessed the Company approximately $3.4 million (an amount that includes interest and penalties) relating to hotel occupancy taxes, which the Company paid in July 2009; the Company intends to pursue its challenge to the assessment in the courts.  Payment of these amounts, if any, is not an admission that the Company believes it is subject to such taxes and, even if such payments are made, the Company intends to continue to assert its position vigorously.

 

Litigation is subject to uncertainty and there could be adverse developments in these pending or future cases and proceedings.  An unfavorable outcome or settlement of pending litigation could encourage the commencement of additional litigation, audit proceedings or other regulatory inquiries.  In addition, an unfavorable outcome or settlement of these actions or proceedings could result in substantial liabilities for past and/or future bookings, including, among other things, interest, penalties, punitive damages and/or attorney fees and costs.  There have been, and will continue to be, substantial ongoing costs, which may include “pay to play” payments, associated with the Company defending its position in pending and any future cases or proceedings.  An adverse outcome in one or more of these unresolved proceedings could have a material adverse effect on the Company’s business and results of operations and could be material to the Company’s earnings or cash flows in any given operating period.

 

To the extent that any tax authority succeeds in asserting that the Company has a tax collection responsibility, or the Company determines that it has one, with respect to future transactions, the Company may collect any such additional tax obligation from its customers, which would have the effect of increasing the cost of hotel room reservations to the Company’s customers and, consequently, could make the Company’s hotel service less competitive (i.e., versus the websites of other online travel companies or hotel company websites) and reduce hotel reservation transactions; alternatively, the Company could choose to reduce the compensation for its services on “merchant” hotel transactions.  Either step could have a material adverse effect on the Company’s business and results of operations.

 

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The Company estimates that, since its inception through June 30, 2009, it has earned aggregate gross profit, including fees, from its entire U.S. “merchant” hotel business (which includes, among other things, the differential between the price paid by a customer for the Company’s service and the cost of the underlying room) of approximately $800 million.  This gross profit was earned in over a thousand taxing jurisdictions that the Company believes have aggregate tax rates (which may include hotel occupancy taxes, state and local taxes, among other taxes) associated with a typical transaction between a consumer and a hotel that generally range from approximately 6% to approximately 18%, depending on the jurisdiction.  In many of the judicial and other proceedings initiated to date, municipalities seek not only historical taxes that are claimed to be owed on the Company’s gross profit, but also, among other things, interest, penalties, punitive damages and/or attorney fees and costs.  To date, the majority of the taxing jurisdictions in which the Company facilitates the sale of hotel reservations have not asserted that taxes are due and payable on the Company’s U.S. “merchant” hotel business.  With respect to municipalities that have not initiated proceedings to date, it is possible that they will do so in the future or they will seek to amend their tax statutes and seek to collect taxes from the Company only on a prospective basis.   As a result of this litigation and other attempts by jurisdictions to levy similar taxes, the Company has established a reserve for the potential resolution of issues related to hotel occupancy and other taxes in the amount of approximately $18 million at June 30, 2009.  The reserve is based on the Company’s reasonable estimate and the ultimate resolution of these issues may be less or greater, potentially significantly, than the liabilities recorded.

 

A discussion of each of the legal and other proceedings referenced above can be found in the section titled “Legal Proceedings” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 and in the Form 10-Q for the three months ended March 31, 2009.  The following developments regarding such proceedings occurred during or after the three months ended June 30, 2009:

 

Statewide Class Actions and Putative Class Actions

 

A number of cities and counties have filed class actions or putative class actions on behalf of themselves and other allegedly similarly situated cities and counties within the same respective state against the Company and other defendants, including, but not in all cases, Lowestfare.com LLC and Travelweb LLC, both of which are subsidiaries of the Company, and Hotels.com, L.P.; Hotels.com GP, LLC; Hotwire, Inc.; Cheaptickets, Inc.; Travelport, Inc. (f/k/a Cendant Travel Distribution Services Group, Inc.); Expedia, Inc.; Internetwork Publishing Corp. (d/b/a Lodging.com); Maupintour Holding LLC; Orbitz, Inc.; Orbitz, LLC; Site59.com, LLC; Travelocity.com, Inc.; Travelocity.com LP; and Travelnow.com, Inc.  Each complaint alleges, among other things, that the defendants violated each jurisdiction’s respective hotel occupancy tax ordinance with respect to the charges and remittance of amounts to cover taxes under each ordinance.  Each complaint typically seeks compensatory damages, disgorgement, penalties available by law, attorneys’ fees and other relief.  Such actions include:

 

·

 

City of Los Angeles v. Hotels.com, Inc., et al.

·

 

City of Rome, Georgia, et al. v. Hotels.com, L.P., et al.

·

 

City of San Antonio, Texas v. Hotels.com, L.P., et al.

·

 

Lake County Convention and Visitors Bureau, Inc. and Marshall County v. Hotels.com, L.P., et al.

·

 

Louisville/Jefferson County Metro Government v. Hotels.com, L.P., et al.

·

 

County of Nassau, New York v. Hotels.com, LP, et al.

·

 

City of Jefferson, Missouri v. Hotels.com, LP, et al.

·

 

City of Gallup, New Mexico v. Hotels.com, L.P., et al.

·

 

City of Jacksonville v. Hotels.com, L.P., et al.

·

 

The City of Goodlettsville, Tennessee, et al. v. priceline.com Incorporated, et al.

·

 

The Township of Lyndhurst, New Jersey v. priceline.com Incorporated, et al.

·

 

County of Monroe, Florida v. Priceline.com, Inc. et al.

·

 

County of Genesee, MI et al. v. Hotels.com L.P. et al.

 

A discussion of each of the legal proceedings listed above can be found in the section titled “Legal Proceedings” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 and in the Form 10-Q for the three months ended March 31, 2009, or below.

 

The following developments regarding such legal proceedings occurred during or after the three months ended June 30, 2009:

 

City of San Antonio, Texas v. Hotels.com, L.P., et al.:  The parties are presently conducting discovery.  On March 30, 2009, both plaintiffs and defendants filed motions for summary judgment and the briefing on those motions was completed on May 13, 2009.  A trial date is set for October 5, 2009.  The court could issue a ruling on the summary judgment motions at any time and the Company believes the court is likely to do so before the October 2009 trial date.  While the Company is unable to estimate its ultimate liability in the event of an adverse decision on

 

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the merits, the Company estimates that its aggregate historical liability for hotel occupancy taxes (excluding State of Texas sales and other tax, which is not at issue in this proceeding) on its compensation earned in connection with its “merchant” hotel business since the Company’s inception through June 30, 2009 in the jurisdictions that are part of the certified class is approximately $3 million, excluding, among other things, any interest, penalties, punitive damages and/or attorney fees and costs, amounts which could increase, potentially significantly, the Company’s ultimate liability, if any.

 

Louisville/Jefferson County Metro Government v. Hotels.com, L.P., et al.:  On September 30, 2008, the court granted the defendants’ motion for reconsideration of its prior order denying the defendants’ motion to dismiss the claims brought by the Louisville/Jefferson County Metro Government, and dismissed all of that plaintiff’s claims with prejudice.  Louisville had previously amended its complaint to drop all class allegations.  The court also granted the defendants’ motion to dismiss the claims brought by the Lexington-Fayette Urban County Government.  The court dismissed all claims against the defendants with prejudice.  Both plaintiffs filed notices of appeal to the U.S. Court of Appeals for the Sixth Circuit.  Briefing was completed on the appeal on May 11, 2009, and oral argument is scheduled for October 14, 2009.

 

City of Gallup, New Mexico v. Hotels.com, L.P., et al.:  On January 8, 2009, the plaintiff filed a motion for class certification.  Briefing on plaintiffs’ class certification motion was completed on April 30, 2009.  Also on January 8, 2009, plaintiff filed a motion for leave to amend the complaint.  The court granted that motion on January 16, 2009.  On February 2, 2009, defendants answered the First Amended Complaint.  On July 7, 2009 the court entered an order certifying a class and defendants petitioned for permission to appeal the class certification order on July 22, 2009.

 

City of Jacksonville v. Hotels.com, L.P., et al.:  On April 8, 2009, defendants answered the plaintiff’s first amended complaint.  The parties are presently conducting discovery.

 

City of Goodlettsville, Tennessee, et al. v. priceline.com Incorporated, et al.:  The defendants’ motion to dismiss the complaint was denied on March 31, 2009.  On April 24, 2009, the defendants answered the complaint.  The parties are presently conducting discovery.

 

The Township of Lyndhurst, New Jersey v. priceline.com Incorporated, et al.:  On March 18, 2009, the United States District Court for the District of New Jersey granted defendants’ Motion to Dismiss the complaint with prejudice on the grounds that the plaintiff lacked standing to bring its claims.  On April 9, 2009, plaintiff filed a notice of appeal. On July 6, 2009, plaintiffs filed their appellate brief.  The defendants’ answering brief was filed on August 5, 2009; the Township’s reply brief is due August 19, 2009.

 

County of Monroe, Florida v. Priceline.com, Inc. et al:  On April 16, 2009, the plaintiff filed another class action complaint making the same substantive allegations made in its previous complaint that had been dismissed on procedural grounds.  On April 24, 2009, defendants moved to dismiss this complaint and the motion remains pending.

 

City of Rome, Georgia, et. al, v. Hotels.com, L.P., et. al.:  On July 10, 2009 the court lifted the stay it had entered to require plaintiffs to pursue administrative remedies.  In lifting the stay, the court relied on recent Georgia Supreme Court rulings that the administrative process in Georgia can be exhausted when a municipality issues a notice of assessment.

 

County of Genesee, MI, et al. v. Hotels.com LP, et al.:  On June 29, 2009, defendants filed a motion to dismiss the complaint.  Plaintiffs’ response is due August 14, 2009 and a hearing is set for August 21, 2009.

 

The Company intends to defend vigorously against the claims in all of the proceedings described above.

 

Actions Filed on Behalf of Individual Cities and Counties

 

Several cities, counties, municipalities and other political subdivisions across the country have filed actions relating to the collection of hotel occupancy taxes against the Company and other defendants, including, but not in all cases, Lowestfare.com LLC and Travelweb LLC, both of which are subsidiaries of the Company, and Hotels.com, L.P.; Hotels.com GP, LLC; Hotwire, Inc.; Cheaptickets, Inc.; Cendant Travel Distribution Services Group, Inc.; Expedia, Inc.; Internetwork Publishing Corp. (d/b/a Lodging.com); Maupintour Holding LLC; Orbitz, Inc.; Orbitz, LLC; Site59.com, LLC; Travelocity.com, Inc.; Travelocity.com LP; and Travelnow.com, Inc.  In each, the complaint alleges, among other things, that each of these defendants violated each jurisdiction’s respective hotel

 

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occupancy tax ordinance with respect to the charges and remittance of amounts to cover taxes under each ordinance.  Each complaint typically seeks compensatory damages, disgorgement, penalties available by law, attorneys’ fees and other relief.  Such actions include:

 

·

 

City of Findlay, Ohio v. Hotels.com, L.P., et al.

·

 

City of Chicago, Illinois v. Hotels.com, L.P., et al.

·

 

City of San Diego, California v. Hotels.com L.P., et al.

·

 

City of Atlanta, Georgia v. Hotels.com L.P., et al.

·

 

City of Charleston, South Carolina v. Hotel.com, et al.

·

 

Town of Mount Pleasant, South Carolina v. Hotels.com, et al.

·

 

City of Columbus, Ohio et al. v. Hotels.com, L.P., et al.

·

 

City of North Myrtle Beach, South Carolina v. Hotels.com, LP, et al.

·

 

Wake County v. Hotels.com, LP, et al.

·

 

City of Branson v. Hotels.com, LP, et al.

·

 

Dare County v. Hotels.com, LP, et al.

·

 

Buncombe County v. Hotels.com, LP, et al.

·

 

Horry County, et al. v. Hotels.com, LP, et al.

·

 

City of Myrtle Beach, South Carolina v. Hotels.com, LP, et al.

·

 

City of Houston, Texas v. Hotels.com, LP, et al.

·

 

City of Oakland, California v. Hotels.com, L.P., et al.

·

 

Mecklenburg County v. Hotels.com, LP, et al.

·

 

City of Baltimore, Maryland v. Priceline.com Inc., et al.

·

 

City Comms of Worchester, Maryland v. Priceline.com Inc., et al.

·

 

City of Bowling Green, KY v. Hotels.com L.P., et al.

 

A discussion of each of the legal proceedings listed above can be found in the section titled “Legal Proceedings” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 and in the Form 10-Q for the three months ended March 31, 2009.

 

The following developments regarding such legal proceedings occurred during or after the three months ended June 30, 2009:

 

City of Findlay v. Hotels.com, L.P., et al and City of Columbus, et al. v. Hotels.com, L.P., et al.:  On July 7, 2009, plaintiffs amended the complaint to add Franklin County Convention Authority as a plaintiff. On July 17, 2009, defendants moved to dismiss the new complaint.  The parties are currently engaged in expert discovery.

 

City of Atlanta, Georgia v. Hotels.com L.P., et al.:  On March 23, 2009, the Georgia Supreme Court reversed a lower court’s dismissal of the action for failure to exhaust administrative remedies, allowing the claim for declaratory relief to be returned to the lower court.  On April 7, 2009, the Georgia Supreme Court denied the Company’s and other defendants’ motion for reconsideration.  The Georgia Supreme Court later remanded the case to the lower court and a status conference was held on August 4, 2009.

 

City of Oakland, California v. Hotels.com, L.P., et al.:  On July 17, 2009, the U.S. Court of Appeals for the Ninth Circuit affirmed the dismissal of the case for failure to exhaust administrative remedies, but ruled that the action should have been dismissed without prejudice, rather than with prejudice.  The case was therefore remanded.  Upon remand, it is anticipated that the City will proceed with administrative proceedings asserting tax liability against the defendants.

 

City of Baltimore, Maryland v. Priceline.com, Inc., et al.:  On March 16, 2009, the defendants moved to dismiss the complaint.  On June 1, 2009, the court denied the motion.  The parties are proceeding with discovery.

 

County Commissioners of Worcester, Maryland v. Priceline.com, Inc., et al.:  On March 16, 2009, the defendants moved to dismiss the complaint.  On June 2, 2009, the court denied the motion.  On June 15, 2009, defendants filed a motion for reconsideration, which was denied on July 21, 2009.  The parties are proceeding with discovery.

 

City of Bowling Green, KY v. Hotels.com LP et al.:  On May 21, 2009, defendants moved to dismiss the complaint.  On June 30, 2009 plaintiffs answered the motion and on July 22, 2009, defendants submitted their reply.  A hearing on the motion is set for September 1, 2009.

 

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The following new actions were initiated on behalf of individual cities and counties during or after the three months ended June 30, 2009:

 

St. Louis County, Missouri v. Priceline.com, Inc., et al.:  On July 6, 2008, the County filed a complaint in the Circuit Court of St. Louis County, State of Missouri.  In addition to claims for declaratory relief and monetary damages with respect to the application of the County’s Tourism Tax and Hotel Tax, the complaint also asserted a claim for conversion. The defendants have not yet responded to the complaint.

 

The Village of Rosemont, Illinois v. Priceline.com, Inc., et al.:  On July 23, 2009, the Village of Rosemont, Illinois filed a complaint in the United States District Court for the Northern District of Illinois.  In addition to claims for injunctive relief and monetary damages with respect to the application of the Village Hotel Tax, the complaint also asserted claims for unjust enrichment and conversion.  The defendants have not yet responded to the complaint.

 

Ann Gannon v. Priceline.com, Inc., et al.:  On July 30, 2009, Ann Gannon, purportedly in her capacity as Palm Beach County Tax Collector and on behalf of Palm Beach County, Florida, filed a complaint in the Circuit Court of the 15th Judicial Circuit in and for Palm Beach County, Florida.  The Complaint seeks declaratory judgment and monetary damages relating to the County’s tourist development taxes. The defendants have not yet answered the complaint.

 

The Company intends to defend vigorously against the claims in all of the proceedings described above.

 

Judicial Actions Relating to Assessments Issued by Individual Cities and Counties

 

After administrative remedies have been exhausted, the Company may seek judicial review of assessments issued by an individual city, county or state.

 

Three judicial actions relating to assessments issued by individual cities and counties were pending during the three months ended June 30, 2009.

 

·

Priceline.com Inc. v. Indiana Dept. of Revenue

·

Priceline.com, Inc. et al. v. Broward County, Florida

·

Priceline.com, Inc. et al. v. City of Anaheim, California, et al.

·

Priceline.com, Inc. et.al. v. City of San Francisco, California, et al.

 

A discussion of each of the legal proceedings listed above can be found in the section titled “Legal Proceedings” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 and in the 10-Q for the three months ended March 31, 2009.

 

The following developments regarding such legal proceedings occurred during or after the three months ended June 30, 2009:

 

Priceline.com Inc. v. Indiana Dept. of Revenue:  On June 11, 2009, the Department of Revenue answered the complaint.  The parties are presently conducting discovery.

 

Priceline.com, Inc. et al. v. Broward County, Florida:  On May 13, 2009, the case was consolidated with other cases filed by online travel companies.  Plaintiff’s motion filed on February 23, 2009 seeking to dismiss state law counterclaims asserted by the County remains pending.

 

Priceline.com Inc. et al. v. City of Anaheim et al.:   On February 26, 2009, the City moved to dismiss the Company’s petition for writ of administrative mandamus and complaint for declaratory relief on the grounds that the Company had failed to “pay first” the challenged administrative tax assessment before filing its action.  On March 30, 2009, the court issued an order denying the motion.  On May 4, 2009, the case was consolidated with the City of Los Angeles case.  The parties are currently conducting discovery.  On July 15, 2009, the City filed a motion for denial of the Company’s petition for writ of administrative mandamus to overturn the decision of the tax hearing officer. Responsive briefing is due October 16, 2009.

 

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On May 22, 2009, the City filed a petition seeking appellate review of the order on the “pay first” issue; opposition and reply briefs followed.  On June 11, 2009, the Court of Appeal denied the City’s petition.  On June 18, 2009, the City filed a petition for review with California Supreme Court; an opposition was filed on July 9, 2009.  The City’s petition is pending.

 

In separate proceedings initiated on September 11, 2008 in the California Superior Court for the County of Orange, the Company, along with other online travel companies, challenged the City’s use of contingency fee counsel in transient occupancy tax proceedings.  On October 31, 2008, the court denied the petition.  The Company and the other online travel companies appealed that ruling to the California Court of Appeal, Fourth Appellate District; the parties’ briefing on the appeal was completed on May 12, 2009; no date has been set for oral argument.

 

Priceline.com; Inc. et al. v. City of San Francisco, California, et al.:  On October 31, 2008, the City and County of San Francisco issued an assessment which the Company appealed through the administrative process.  On May 15, 2009, the Company was assessed approximately $3.4 million, which includes interest and penalties, for hotel occupancy tax from January 1, 2000 to September 30, 2008. On June 11, 2009, the Company filed a petition to overturn the administrative determination and a complaint for declaratory relief in San Francisco Superior Court challenging the assessment. On July 16, 2009, the Company paid the assessment and charged the amount against its reserve for hotel occupancy and other taxes. On August 4, 2009, the Company filed an administrative refund claim.  The Company intends to pursue vigorously its refund claim and claims in the court.

 

The Company intends to prosecute vigorously its claims in these actions.

 

Consumer Class Actions

 

Two purported class actions brought by consumers against the Company were pending during the three months ended June 30, 2009.

 

·      Marshall, et al. v. priceline.com, Inc.

·      Chiste, et al. v. priceline.com Inc., et al.

 

A discussion of each of the legal proceedings listed above can be found in the section titled “Legal Proceedings” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 and in the form 10-Q for the period ended March 31, 2009.

 

The following developments regarding such legal proceedings occurred during or after the three months ended June 30, 2009:

 

Chiste, et al. v. priceline.com Inc., et al.:  Defendants moved to dismiss the complaint on March 6, 2009.  Briefing was completed on July 3, 2009.

 

The Company intends to defend vigorously against the claims in all of the proceedings described above.

 

Administrative Proceedings and Other Possible Actions

 

At various times the Company has also received inquiries or proposed tax assessments from municipalities and other taxing jurisdictions relating to the Company’s charges and remittance of amounts to cover state and local hotel occupancy and other related taxes.  Among others, the City of Philadelphia, Pennsylvania; Miami-Dade County, Florida; the City of Anaheim, California; the City of Phoenix, Arizona; the City of San Francisco, California; the City of Chicago, Illinois; Broward County, Florida and state tax officials from Wisconsin, Pennsylvania, and Texas, have begun formal or informal administrative procedures or stated that they may assert claims against the Company relating to allegedly unpaid state or local hotel occupancy or related taxes.

 

During the three months ended March 31, 2009, the Company received audit notices from 28 cities in the state of California. During and after the three months ended June 30, 2009, the Company received audit notices from five additional cities in the state of California.  The Company is engaged in audit proceedings in each of those cities.

 

Other Recent Developments

 

Although the Company is not a party to the action, on June 15, 2009 in Expedia, Inc. v. City of Columbus, the Georgia Supreme Court upheld a trial court’s injunction against Expedia requiring it to collect prospectively the City’s hotel occupancy tax calculated on the total room rate disclosed to the consumer by Expedia for the room

 

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reservation.  The court’s decision was based upon, among other things, the trial court’s factual finding that Expedia had contracted with hotels for the right to receive the customer’s tax payment on the hotel’s behalf when the customer reserved a hotel room on Expedia’s website and that the City had no adequate remedy to recover taxes owed by an entity other than an innkeeper or operator, and there had been no determination that Expedia is either an innkeeper or an operator.  The Georgia Supreme Court also held that the City had exhausted the administrative process by issuing its notice of assessment because neither the ordinance nor the enabling statute provided any other process or procedure for reviewing the written assessment.  The Company is assessing the potential applicability of this decision to the Company’s services.

 

On June 29, 2009, the City of New York amended its hotel occupancy tax ordinance, effective September 1, 2009, purporting to impose obligations and liability on third party intermediaries, including online travel companies, for tax on the amounts (including booking and service fees) charged by such intermediaries relating to a room reservation.  The hotel occupancy tax rate for New York City in the amended statute is 5.875%.  While the Company is evaluating the new ordinance and possible legal challenges to its validity and/or application, the Company intends to comply with it.

 

Litigation Related to Securities Matters

 

On March 16, March 26, April 27, and June 5, 2001, respectively, four putative class action complaints were filed in the U.S. District Court for the Southern District of New York naming priceline.com Inc. and five of its directors as defendants (01 Civ. 2261, 01 Civ. 2576, 01 Civ. 3590 and 01 Civ. 4956).  The complaints allege, among other things, that priceline.com and the individual defendants violated the federal securities laws by issuing and selling priceline.com common stock in priceline.com’s March 1999 initial public offering without disclosing to investors that some of the underwriters in the offering, including the lead underwriters, had allegedly solicited and received excessive and undisclosed commissions from certain investors. A complete description of these actions is contained in the Company’s annual report on Form 10-K for the year ended December 31, 2008.  Since the filing of such report, and after extensive negotiations, the parties reached a comprehensive settlement on or about March 30, 2009.  On April 2, 2009, plaintiffs filed a Notice of Motion for Preliminary Approval of Settlement.  On June 9, 2009, the Court granted the motion and scheduled the hearing for final approval for September 10, 2009.  This settlement was previously approved by a special committee of the priceline.com Board of Directors.  Pursuant to that settlement, the claims against the Company will be dismissed with prejudice in return for which the Company will pay approximately $0.3 million.

 

The Company intends to defend vigorously against the claims in all of the proceedings described in this Note 13.  The Company has accrued for certain legal contingencies where it is probable that a loss has been incurred and the amount can be reasonably estimated.  Except as disclosed, such amounts accrued are not material to the Company’s Unaudited Consolidated Balance Sheets and provisions recorded have not been material to the consolidated results of operations.  The Company is unable to estimate the potential maximum range of loss.

 

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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 our Unaudited Consolidated Financial Statements, including the notes to those statements, included elsewhere in this Form 10-Q, and the Section entitled “Special Note Regarding Forward Looking Statements” in this Form 10-Q.  As discussed in more detail in the Section entitled “Special Note Regarding Forward Looking Statements,” this discussion contains forward-looking statements, which involve risks and uncertainties.  Our actual results may differ materially from the results discussed in the forward-looking statements.  Factors that might cause those differences include, but are not limited to, those discussed in “Risk Factors.”

 

Overview
 

General.  We are a leading online travel company that offers our customers a broad range of travel services, including hotel rooms, car rentals, airline tickets, vacation packages, cruises and destination services. Internationally, we offer our customers hotel room reservations in 78 countries and 29 languages.  In the United States, we offer our customers a unique choice: the ability to purchase travel services in a traditional, price-disclosed manner or the opportunity to use our unique Name Your Own Price® service, which allows our customers to make offers for travel services at discounted prices.

 

We launched our business in the United States in 1998 under the priceline.com brand and have since expanded our operations to include, among others, the brands Booking.com and Active Hotels in Europe and Agoda in Asia.  Our principal goal is to be the leading worldwide online hotel reservation service.  At present, we derive substantially all of our revenues from the following sources:

 

·                  Transaction revenues from our Name Your Own Price® hotel room, rental car and airline ticket services, as well as our vacation packages service;

 

·                  Commissions earned from the sale of price-disclosed hotel room reservation, rental cars, cruises and other travel services;

 

·                  Customer processing fees charged in connection with the sale of both Name Your Own Price® and price-disclosed hotel room reservations and Name Your Own Price® airline tickets and rental car services;

 

·                  Transaction revenue from our price-disclosed merchant hotel room service;

 

·                  Global distribution system (“GDS”) reservation booking fees related to both our Name Your Own Price® airline ticket, hotel room and rental car services, and price-disclosed airline tickets and rental car services; and

 

·                  Other revenues derived primarily from selling advertising on our websites.

 

Over the last several years, our business has transitioned from one driven primarily by domestic results to one driven primarily by international results.  Prior to 2004, substantially all of our revenues were generated within the United States.  In September 2004, we acquired Booking.com Limited (formerly known as Active Hotels Ltd.), a U.K.-based online hotel service; in July 2005, we acquired Booking.com B.V., a Netherlands-based online hotel service (together with Booking.com Limited, “Booking.com”); and in November 2007, we acquired priceline.com Mauritius Company Limited (formerly known as the Agoda Company, Ltd.), an online hotel service with operations in Singapore and Thailand (“Agoda”).  During the three and six months ended June 30, 2009, our international business — the significant majority of which is currently generated by Booking.com — represented approximately 60% of our gross bookings (an operating and statistical metric referring to the total dollar value, inclusive of all taxes and fees, of all travel services purchased by our customers), and for full year 2008, contributed more than two-thirds of our consolidated operating income.  Given that our international business is primarily comprised of hotel reservation services, revenue earned in connection with the reservation of hotel room nights has come to represent a substantial majority of our gross profit.

 

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Worldwide recession is negatively affecting the broad travel market and, as a result, our business.  Since late 2007, global economic and financial market conditions have worsened markedly, creating uncertainty for consumers and pressuring consumer spending on travel.  Hotel operators have continued to report significant decreases in occupancy rates (a common metric that measures hotel customer usage) and average daily rates (“ADRs”) in the United States, Europe and Asia.  We believe the worldwide recession and these weakening travel market trends, including, without limitation, decreased consumer demand, further deterioration in ADRs and increases in cancellations, have had a negative impact on our business, particularly in Europe, and will continue to have a negative impact in the near term.  We believe that, to date, the positive trends impacting our domestic and international business largely overshadowed these negative influences.  We cannot predict the magnitude or duration of this worldwide recession, but our current limited visibility does not suggest any meaningful near-term improvement.

 

The hotel industry has recently experienced a significant decrease in occupancy rates and we have experienced slowing demand growth, an increase in reservation cancellation rates and declining ADRs — trends which have continued to deteriorate and for which we do not anticipate any near-term improvement.  While lower occupancy rates have historically resulted in hotel suppliers increasing their distribution of hotel room reservations through third-party intermediaries such as us, our remuneration for hotel transactions changes proportionately with room price, and therefore, lower ADRs generally have a negative effect on our hotel business and a negative effect on our gross profit.

 

We believe the current worldwide recession and lower ADRs are also responsible for the increase in the number of hotel cancellations, particularly at our international operations.  Our international operations distribute hotel room reservations primarily through an “agency” model where reservations are generally cancellable, as opposed to “merchant” models operated by us (principally in the U.S.) and our competition and through which reservations are paid for in advance and therefore less likely to be cancelled.  As ADRs decline, customers who have existing reservations may cancel those reservations and rebook at a lower rate, and in times of economic stress, travelers are more likely to cancel their vacation plans outright.  While decreasing ADRs and a worldwide recession make it relatively more attractive for consumers to make a cancellable agency reservation than a pre-paid reservation, our agency business will likely have higher cancellation rates compared to companies who offer predominantly merchant model hotel room reservations.

 

International Trends.  The size of the travel market outside of the United States is substantially greater than that within the United States.  Historically, Internet adoption rates and e-commerce adoption rates of international consumers have trailed those of the United States.  However, international consumers are rapidly moving to online means for purchasing travel.  Accordingly, recent international online travel growth rates have substantially exceeded, and are expected to continue to exceed, the growth rates within the United States.  In addition, the base of hotel suppliers in Europe is particularly fragmented compared to that in the United States, where the hotel market is dominated by large hotel chains.  We believe online reservation systems like ours may be more appealing to small chains and independent hotels more commonly found outside of the United States.  We believe these trends and factors have enabled us to become the top online hotel service provider in Europe.

 

As our international operations have become significant contributors to our results and international hotel bookings have become of increased importance to our earnings, we have seen, and expect to continue to see, changes in certain of our operating expenses and other financial metrics.  For example, because our international operations utilize online affiliate and search marketing as the principal means of generating traffic to their websites, our online advertising expense has increased significantly over recent years, a trend we expect to continue throughout the remainder of 2009 and beyond.  In addition, and as discussed in more detail below, we have seen the effects of seasonal fluctuations on our operating results change as a result of different revenue recognition policies that apply to our price-disclosed services (including our international hotel service) as compared to our Name Your Own Price® services.

 

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Another impact of the growing importance that our international operations represent to our business is our increased exposure to foreign currency exchange risk.  Because we are conducting a significant and growing portion of our business outside the United States and are reporting our results in U.S. Dollars, we face exposure to adverse movements in currency exchange rates as the financial results of our international operations are translated from local currency (principally the Euro and the British Pound Sterling) into U.S. Dollars upon consolidation.  Our international operations contributed approximately $197.6 million and $312.2 million to our revenues for the three and six months ended June 30, 2009, which compares to $164.5 million and $268.7 million for the same periods in 2008, respectively.  Excluding the unfavorable impact of foreign currency exchange rates, revenue attributable to our international operations increased by approximately 38% and 35% in the three and six months ended June 30, 2009, respectively compared to the same periods in 2008.  The U.S. Dollar generally weakened from when we acquired Booking.com B.V. in July 2005, until mid-2008, and as a result, the year-over-year growth rates in our international results, when reported in U.S. Dollars, were positively impacted by changes in foreign exchange rates.  Since mid-2008, the U.S. Dollar has strengthened against the Euro and the British Pound Sterling, which has caused a decrease in our net assets, revenues, operating expenses and it has become increasingly difficult for us to grow our gross bookings, revenues and earnings on a U.S. Dollar denominated basis.  If the U.S. Dollar weakens against the local currency, the translation of our foreign-currency-denominated balances will result in increased net assets, gross bookings, revenues, operating expenses, and net income.

 

As of June 30, 2009, derivatives not designated as hedging instruments with a notional value of 20.0 million Euros and 5.0 million British Pounds Sterling were outstanding.  Subsequent to June 30, 2009, we entered into additional derivatives with a notional value of 40.0 million Euros and 5.0 million British Pounds Sterling.  These contracts are all scheduled to mature in September 2009.  As of June 30, 2008, derivatives with notional values of 42.0 million Euros were outstanding.  Furthermore, our derivative instruments are not designed to hedge against currency fluctuation that could impact our foreign currency denominated gross bookings, revenue or gross profit.  In May 2009, we entered into a forward currency contract for 36.7 million Euros to hedge a portion of our net investment in a foreign subsidiary against adverse change in exchange rates.  Mark-to-market adjustments are recorded as currency translation adjustments.  This contract is scheduled to mature in November 2009.

 

Domestic Trends.  In June 2007, we eliminated processing fees for our price-disclosed airline ticket service, and in April 2008, we reduced processing fees for our domestic price-disclosed merchant hotel room service.  As a result, since those dates, we have had a pricing advantage against other major online travel agents with respect to these travel services.  Starting in March 2009, Expedia launched a promotion temporarily suspending air booking fees for bookings made through May 31, 2009, and later made such suspension permanent.  Later in March 2009, Travelocity matched the Expedia promotion and in April 2009, Orbitz followed.  As a result, we no longer have the price advantage that we have had against our major competitors on price-disclosed airline tickets since June 2007.  Similarly, in April 2009, each of Expedia and Orbitz temporarily reduced booking fees on hotel room reservations, and later made such reduction permanent, and we therefore no longer have a price advantage over those companies on price-disclosed merchant hotel rooms.  Our growth rates in these businesses may slow as a result of no longer having a price advantage.

 

While demand for online travel services continues to experience annualized growth, we believe that the domestic market share of third-party distributors, like priceline.com, has declined over the long term and that the growth of the domestic online market for travel services has slowed.  We believe the decline in market share is attributable, in part, to (1) a concerted initiative by travel suppliers to direct customers to their own websites in an effort to reduce distribution expenses and establish more direct control over their pricing, and (2) a price advantage in that the suppliers generally do not charge a processing fee.  However, with the recent elimination and reduction of processing and other fees by all of the major online travel companies, we believe that the domestic market share of third party distributors has stabilized and potentially increased.

 

In addition, recent decreases in domestic airline capacity, the threat of carrier bankruptcies and the emerging prospect of industry consolidation, as evidenced by the recent merger of Delta Air Lines and Northwest Airlines, could further reduce the amount of airline tickets available to us.  Furthermore, we have recently observed a year-over-year decline in passenger traffic and airfares across the airline industry, which we believe is principally due to the worldwide recession and higher oil prices in 2008.  Decreases in capacity and lower traveler demand

 

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negatively impact our domestic air business, which in turn has negative repercussions on our domestic hotel and rental car businesses.  In addition, recent decreases in rental car fleets have led to increases in retail rental car rates.   Higher retail rental car rates can negatively impact our retail rental car service, while decreases in rental car availability can negatively impact our Name Your Own Price® rental car service. We continue to believe that the market for domestic online travel services is an attractive market with continued opportunity for growth.

 

We also rely on fees paid to us by global distribution systems, or GDSs, for travel bookings made through GDSs for a portion of our gross profit and operating income.  Connectivity to a GDS does not guarantee us access to the content of a travel supplier such as an airline or hotel company.  We have agreements with a number of suppliers to obtain access to content, and are in continuing discussions with others to obtain similar access.  If we were denied access to a suppliers’ full content or had to incur service fees in order to access or book such content, our results could suffer.

 

In April 2009, the World Health Organization (WHO) issued a Disease Outbreak Notice confirming the infection of a number of people in Mexico and the United States by Swine Influenza H1N1.  Shortly thereafter, the WHO declared the swine flu a public health emergency of international concern and stated that containment of the outbreak is not feasible.  We are unable to predict the scope or duration of the swine flu outbreak or its impact on the travel industry generally, or our business in particular. However, concerns relating to the health risk posed by the swine flu could result in decreased demand for our travel services and an increase in cancellations of existing travel plans, either of which could adversely affect our business.

 

We believe that our success will depend in large part on our ability to maintain profitability, primarily from our hotel business, to continue to promote the Booking.com brand internationally, the priceline.com brand in the United States, the Agoda brand in Asia and, over time, to offer other travel services and further expand into other international markets. Factors beyond our control, such as worldwide recession, terrorist attacks, travel related health concerns including pandemics and epidemics such as H1N1 influenza (swine flu), avian bird flu and SARS, political instability, regional hostilities, increases in fuel prices, imposition of taxes or surcharges by regulatory authorities, travel related accidents, unusual weather patterns, including natural disasters such as hurricanes, tsunamis or earthquakes; or the withdrawal from our system of a major hotel supplier or airline, could adversely affect our business and results of operations and impair our ability to effectively implement all or some of the initiatives described above.  For example, recent civil unrest in Thailand, a key market for our Agoda business, has negatively impacted booking volumes and future civil or political unrest would further disrupt Agoda’s business.  We intend to continue to invest in marketing and promotion, technology and personnel within parameters consistent with attempts to improve operating results.  We also intend to broaden the scope of our business, and to that end, we explore strategic alternatives from time to time in the form of, among other things, mergers and acquisitions. Our goal is to improve volume and sustain gross margins in an effort to maintain profitability. The uncertain environment described above makes the prediction of future results of operations difficult, and accordingly, we cannot provide assurance that we will sustain revenue growth and profitability.

 

Seasonality.  Our Name Your Own Price® services are generally non-refundable in nature, and accordingly, we recognize travel revenue at the time a booking is generated.  However, we recognize revenue generated from our retail hotel services, including our international operations, at the time that the customer checks out of the hotel.  As a result, a meaningful amount of retail hotel bookings generated earlier in the year, as customers plan and reserve their spring and summer vacations, will not be recognized as revenue until future quarters. From a cost perspective, however, we expense the substantial majority of our advertising activities as they are incurred, which is typically in the quarter in which bookings are generated.  Therefore, if our retail hotel business continues to grow, we expect our quarterly results to become increasingly impacted by these seasonal factors.

 

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Results of Operations

 

Three and Six Months Ended June 30, 2009 compared to the Three and Six Months Ended June 30, 2008

 

Operating Metrics

 

Our financial results are driven by certain operating metrics that encompass the booking activity generated by our travel services.  Specifically, reservations of hotel room nights, rental car days and airline tickets capture the volume of units purchased by our customers.  Gross bookings is an operating and statistical metric that captures the total dollar value inclusive of taxes and fees of all travel services booked by our customers, and is widely used in the travel business.  International gross bookings reflect gross bookings generated principally by websites owned by, operated by, or dedicated to providing gross bookings for our international brands and operations, and domestic gross bookings reflect gross bookings generated principally by websites owned by, operated by, or dedicated to providing gross bookings by our domestic operations, in each case without regard to the location of the travel or the customer purchasing the travel.

 

Gross bookings resulting from hotel room night reservations, rental car days and airline tickets sold through our domestic and international operations for the three and six months ended June 30, 2009 and 2008 were as follows (numbers may not total due to rounding):

 

 

 

Three Months Ended June 30,
(in millions)

 

 

 

Six Months Ended June 30,
(in millions)

 

 

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Domestic

 

$

964

 

$

872

 

10.6

%

$

1,816

 

$

1,593

 

14.0

%

International

 

1,415

 

1,238

 

14.3

%

2,507

 

2,275

 

10.2

%

Total

 

$

2,379

 

$

2,110

 

12.8

%

$

4,323

 

$

3,869

 

11.7

%

 

Gross bookings resulting from hotel room night reservations, rental car days and airline tickets sold through our agency and merchant models for the three and six months ended June 30, 2009 and 2008 were as follows:

 

 

 

Three Months Ended June 30,
(in millions)

 

 

 

Six Months Ended June 30,
(in millions)

 

 

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agency

 

$

1,825

 

$

1,657

 

10.1

%

$

3,295

 

$

3,027

 

8.8

%

Merchant

 

555

 

453

 

22.4

%

1,028

 

842

 

22.2

%

Total

 

$

2,379

 

$

2,110

 

12.8

%

$

4,323

 

$

3,869

 

11.7

%

 

Gross bookings increased by 12.8% for the three months ended June 30, 2009, compared to the same period in 2008, despite year-over-year declines in average selling prices in all of our hotel and airline ticket services in most markets.  The increase in gross bookings was primarily attributable to 14.3% growth in our international gross bookings, virtually all of which relate to retail hotel room night reservations.  International gross bookings increased on a local currency basis by approximately 32.4% in the three months ended June 30, 2009, compared to the same period in 2008.  Domestic gross bookings increased by 10.6%, primarily due to growth in the sale of Name Your Own Price® hotel room night reservations, merchant price-disclosed hotel room night reservations, Name Your Own Price® rental car days and price-disclosed rental car days, partially offset by a decline in Name Your Own Price® airline tickets.

 

Gross bookings increased by 11.7% for the six months ended June 30, 2009, compared to the same period in 2008, despite year-over-year declines in average selling prices in all of our hotel and airline ticket services in most markets.  The increase in gross bookings was primarily attributable to 10.2% growth in our international gross bookings.  Domestic gross bookings increased by 14.0% for the six months ended June 30, 2009, compared to the same period in 2008, primarily due to growth in the sale of Name Your Own Price® hotel room night reservations,

 

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merchant price-disclosed hotel room night reservations, price-disclosed airline tickets and Name Your Own Price® rental car days, partially offset by a decline in Name Your Own Price® airline tickets.

 

Agency gross bookings increased 10.1% for the three months ended June 30, 2009, compared to the same period in 2008, due to growth in the sale of Booking.com hotel room night reservations and price-disclosed rental car days.  Agency gross bookings increased 8.8% for the six months ended June 30, 2009, compared to the same period in 2008, due to growth in the sale of Booking.com hotel room night reservations, price-disclosed airline ticket and price-disclosed rental car days.  Merchant gross bookings increased 22.4% and 22.2% for the three and six months ended June 30, 2009, respectively, compared to the same periods in 2008, due to an increase in the sale of Name Your Own Price® hotel room night reservations, domestic merchant price-disclosed hotel room night reservations and Agoda merchant price-disclosed hotel room night reservations, partially offset by a decline in Name Your Own Price® airline tickets.

 

 

 

Hotel Room
Nights

 

Rental
Car Days

 

Airline
Tickets

 

 

 

 

 

 

 

 

 

Three Months ended June 30, 2009

 

15.7 million

 

3.2 million

 

1.6 million

 

 

 

 

 

 

 

 

 

Three Months ended June 30, 2008

 

10.9 million

 

2.8 million

 

1.4 million

 

 

 

 

 

 

 

 

 

Six Months ended June 30, 2009

 

28.5 million

 

6.3 million

 

3.0 million

 

 

 

 

 

 

 

 

 

Six Months ended June 30, 2008

 

20.3 million

 

5.4 million

 

2.5 million

 

 

Hotel room night reservations sold increased by 44.0% and 40.5% for the three and six months ended June 30, 2009, respectively, over the same periods in 2008, due primarily to an increase in the sale of Booking.com agency room night reservations, as well as an increase in the sale of Name Your Own Price® room night reservations and Agoda and domestic price-disclosed room night reservations.

 

Rental car days sold increased by 15.0% and 15.2% for the three and six months ended June 30, 2009, respectively, over the same periods in 2008, due primarily to an increase in the sale of Name Your Own Price® rental car days, as well as an increase in price-disclosed rental car days.

 

Airline tickets sold increased by 13.9% and 20.4% for the three and six months ended June 30, 2009, respectively, over the same periods in 2008, due to an increase in the sale of price-disclosed airline tickets, partially offset by a decline in Name Your Own Price® airline tickets.

 

Revenues

 

We classify our revenue into three categories:

 

·                  Merchant revenues are derived from transactions where we are the merchant of record and, among other things, select suppliers and determine the price we will accept from the customer.  Merchant revenues include (1) transaction revenues representing the selling price of Name Your Own Price® hotel room reservations, rental cars and airline tickets and price-disclosed vacation packages; (2) transaction revenues representing the amount charged to a customer, less the amount charged by suppliers in connection with the hotel room reservations provided through our merchant price-disclosed hotel service; (3) customer processing fees charged in connection with the sale of Name Your Own Price® airline tickets, hotel room reservations and rental cars and merchant price-disclosed hotel reservations; and (4) ancillary fees, including GDS reservation booking fees related to certain of the services listed above.

 

·                  Agency revenues are derived from travel related transactions where we are not the merchant of record and where the prices of our services are determined by third parties. Agency revenues include travel commissions, customer processing fees and GDS reservation booking fees related to certain of the services listed above and are reported at the net amounts received, without any associated cost of

 

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revenue. In June 2007, we eliminated processing fees on the priceline.com price-disclosed airline ticket service.

 

·                  Other revenues are derived primarily from advertising on our websites.

 

We continue to experience a shift in the mix of our travel business from a business historically focused exclusively on the sale of domestic point-of-sale travel services to a business that includes significant sales of international point-of-sale hotel services, a significant majority of which are currently generated in Europe.  Because our domestic services include merchant Name Your Own Price® travel services, which are reported on a “gross” basis, while both our domestic and international retail travel services are primarily recorded on a “net” basis, revenue increases and decreases are impacted by changes in the mix of the sale of Name Your Own Price® and retail travel services and, consequently, gross profit has become an increasingly important measure of evaluating growth in our business.  Our international operations contributed approximately $197.6 million and $312.2 million to our revenues for the three and six months ended June 30, 2009, which compares to $164.5 million and $268.7 million for the same periods in 2008, respectively.  Revenue attributable to our international operations increased, on a local currency basis, by approximately 38% and 35%  in the three and six months ended June 30, 2009, respectively compared to the same periods in 2008.

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Merchant Revenues

 

$

392,822

 

$

336,230

 

16.8

%

$

729,856

 

$

625,388

 

16.7

%

Agency Revenues

 

204,485

 

173,249

 

18.0

%

324,711

 

283,181

 

14.7

%

Other Revenues

 

6,434

 

4,497

 

43.1

%

11,232

 

8,586

 

30.8

%

Total Revenues

 

$

603,741

 

$

513,976

 

17.5

%

$

1,065,799

 

$

917,155

 

16.2

%

 

Merchant Revenues

 

Merchant revenues for the three and six months ended June 30, 2009 increased 16.8% and 16.7%, respectively, compared to the same periods in 2008, primarily due to an increase in the sale of Name Your Own Price® hotel room night reservations and rental car days, partially offset by a decline in Name Your Own Price® airline tickets.

 

Agency Revenues

 

Agency revenues for the three and six months ended June 30, 2009 increased 18.0% and 14.7%, respectively, compared to the same periods in 2008, primarily as a result of growth in our international operations.

 

Other Revenues

 

Other revenues during the three and six months ended June 30, 2009 consisted primarily of advertising revenues.  Other revenues for the three and six months ended June 30, 2009 increased 43.1% and 30.8%, respectively, compared to the same periods in 2008, primarily as a result of higher online advertising revenues and increased traffic.

 

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Cost of Revenues and Gross Profit

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Cost of Revenues

 

$

298,503

 

$

260,251

 

14.7

%

$

552,231

 

$

482,327

 

14.5

%

% of Revenues

 

49.4

%

50.6

%

 

 

51.8

%

52.6

%

 

 

 

Cost of Revenues

 

For the three and six months ended June 30, 2009, cost of revenues consisted primarily of: (1) the cost of Name Your Own Price® hotel room reservations from our suppliers, net of applicable taxes, (2) the cost of Name Your Own Price® rental cars from our suppliers, net of applicable taxes; and (3) the cost of Name Your Own Price® airline tickets from our suppliers, net of the federal air transportation tax, segment fees and passenger facility charges imposed in connection with the sale of airline tickets.  Cost of revenues for the three and six months ended June 30, 2009 increased by 14.7% and 14.5%, respectively, compared to the same periods in 2008, due primarily to the increase in merchant revenue discussed above.  Merchant price-disclosed hotel revenues in the U.S. and at Agoda are recorded in merchant revenues net of the amounts paid to suppliers and therefore, there is no associated cost of revenues for merchant price-disclosed hotel revenues.

 

Agency revenues are recorded at their net amount, which are amounts received less amounts paid to suppliers, if any, and therefore, there are no costs of agency revenues.

 

Gross Profit

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Gross Profit

 

$

305,238

 

$

253,725

 

20.3

%

$

513,568

 

$

434,828

 

18.1

%

Gross Margin

 

50.6

%

49.4

%

 

 

48.2

%

47.4

%

 

 

 

Total gross profit for the three and six months ended June 30, 2009 increased by 20.3% and 18.1%, respectively, compared to the same periods in 2008, primarily as a result of increased revenue discussed above.  Total gross margin (gross profit expressed as a percentage of total revenue) increased during the three and six months ended June 30, 2009, compared to the same periods in 2008, because Name Your Own Price® revenues, which are recorded “gross” with a corresponding cost of revenue, represented a smaller percentage of total revenues compared to retail, price-disclosed revenues which are primarily recorded “net” with no corresponding cost of revenues.  Because Name Your Own Price® transactions are reported “gross” and retail transactions are primarily recorded on a “net” basis, we believe that gross profit has become an increasingly important measure of evaluating growth in our business.  Our international operations accounted for approximately $196.6 million and $310.5 million of our gross profit for the three and six months ended June 30, 2009, respectively, which compares to $163.6 million and $266.7 million for the same periods in 2008, respectively.  Gross profit attributable to our international operations increased, on a local currency basis, by approximately 38% and 35% in the three and six months ended June 30, 2009, respectively, compared to the same periods in 2008.

 

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Table of Contents

 

Operating Expenses

 

Advertising

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Offline Advertising

 

$

11,053

 

$

9,928

 

11.3

%

$

21,819

 

$

21,959

 

(0.6

)%

% of Total Gross Profit

 

3.6

%

3.9

%

 

 

4.2

%

5.1

%

 

 

Online Advertising

 

$

90,107

 

$

72,860

 

23.7

%

$

158,223

 

$

130,661

 

21.1

%

% of Total Gross Profit

 

29.5

%

28.7

%

 

 

30.8

%

30.0

%

 

 

 

Offline advertising expenses consist primarily of: (1) the expenses associated with domestic television, print and radio advertising; and (2) the cost for creative talent, production costs and agency fees for television, print and radio advertising.  For the three months ended June 30, 2009, offline advertising expenses were higher than in the same period in 2008 primarily as a result of increased television advertising.  For the six months ended June 30, 2009, offline advertising expenses were flat compared to the same period in 2008.  Online advertising expenses primarily consist of the costs of (1) search engine keyword purchases; (2) affiliate programs; (3) banner and pop-up advertisements; and (4) e-mail campaigns.  For the three and six months ended June 30, 2009, online advertising expenses increased over the same periods in 2008, primarily due to an increase in online advertising expenses to support increased price-disclosed agency hotel room night reservations booked by Booking.com as well as increased U.S. travel bookings, partially offset by the favorable impact of foreign currency exchange rates.  Our international operations rely primarily on online advertising, in particular keyword purchases and payments to affiliate advertisers, to support their businesses.

 

Sales and Marketing

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Sales and Marketing

 

$

20,691

 

$

19,930

 

3.8

%

$

39,110

 

$

36,263

 

7.9

%

% of Total Gross Profit

 

6.8

%

7.9

%

 

 

7.6

%

8.3

%

 

 

 

Sales and marketing expenses consist primarily of (1) credit card processing fees associated with merchant transactions; (2) fees paid to third-party service providers that operate the call centers for our priceline.com business; (3) provisions for credit card chargebacks; and (4) provisions for bad debt primarily related to agency hotel commission receivables.  For the three and six months ended June 30, 2009, sales and marketing expenses, which are substantially variable in nature, increased over the same periods in 2008, primarily due to increased credit card processing fees and call center costs associated with increased gross booking volumes, partially offset by decreased bad debt provision and the impact of foreign currency exchange rates.  Bad debt provision for the six months ended June 30, 2008 includes a charge of approximately $1.4 million associated with the bankruptcies of two of our airline suppliers and also included charges related to increased customer chargeback activity experienced by Agoda.

 

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Personnel

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Personnel

 

$

44,864

 

$

39,644

 

13.2

%

$

84,374

 

$

76,528

 

10.3

%

% of Total Gross Profit

 

14.7

%

15.6

%

 

 

16.4

%

17.6

%

 

 

 

Personnel expenses consist of compensation to our personnel, including salaries, bonuses, taxes, employee health benefits and stock-based compensation. For the three and six months ended June 30, 2009, personnel expenses increased over the same periods in 2008, due primarily to increased personnel expenses associated with headcount growth and increased stock-based compensation expense, partially offset by decreased employee performance bonus expense and the impact of foreign currency exchange rates.  Stock-based compensation expense was approximately $11.3 million and $9.1 million for the three months ended June 30, 2009 and 2008, respectively, and approximately $21.9 million and $19.0 million for the six months ended June 30, 2009 and 2008, respectively.

 

General and Administrative

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

General and Administrative

 

$

14,728

 

$

14,209

 

3.7

%

$

29,516

 

$

25,995

 

13.5

%

% of Total Gross Profit

 

4.8

%

5.6

%

 

 

5.7

%

6.0

%

 

 

 

General and administrative expenses consist primarily of: (1) fees for outside professionals, including litigation expenses; (2) occupancy expenses; and (3) personnel related expenses such as recruiting, training and travel expenses. General and administrative expenses increased during the three and months ended June 30, 2009, over the same periods in 2008, due to additional fees for outside professionals, including litigation expenses primarily related to hotel occupancy and other tax proceedings, and increased occupancy expenses associated with new Booking.com offices, partially offset by the favorable impact of foreign currency exchange rates.

 

Information Technology

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Information Technology

 

$

4,697

 

$

5,136

 

(8.5

)%

$

9,225

 

$

9,286

 

(0.7

)%

% of Total Gross Profit

 

1.5

%

2.0

%

 

 

1.8

%

2.1

%

 

 

 

Information technology expenses consist primarily of: (1) system maintenance and software license fees; (2) outsourced data center costs relating to our domestic and international data centers; (3) data communications and other expenses associated with operating our Internet sites; and (4) payments to outside consultants. For the three months ended June 30, 2009, the decrease in information technology expenses compared to the same period in 2008 was primarily associated with decreased information technology expenses related to our domestic operations.   For the six months ended June 30, 2009, information technology expenses were flat compared to the same period in 2008.

 

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Table of Contents

 

Depreciation and Amortization

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Depreciation and Amortization

 

$

9,723

 

$

11,064

 

(12.1

)%

$

19,084

 

$

21,417

 

(10.9

)%

% of Total Gross Profit

 

3.2

%

4.4

%

 

 

3.7

%

4.9

%

 

 

 

Depreciation and amortization expenses consist of:  (1) amortization of intangible assets with determinable lives; (2) amortization of internally developed and purchased software, (3) depreciation of computer equipment; and (4) depreciation of leasehold improvements, office equipment and furniture and fixtures.  For the three and six months ended June 30, 2009, depreciation and amortization expense decreased from the same periods in 2008 by $1.3 million and $2.3 million, respectively.  Amortization of acquired intangible assets for the six months ended June 30, 2009 decreased by $2.1 million, primarily due to fully amortizing certain intangibles during the nine months ended September 30, 2008.

 

Other Income (Expense)

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Interest Income

 

$

483

 

$

2,905

 

(83.4

)%

$

1,224

 

$

7,077

 

(82.7

)%

Interest Expense

 

(6,505

)

(9,521

)

(31.7

)%

(13,310

)

(19,582

)

(32.0

)%

Foreign Currency Transactions and Other

 

(3,880

)

(11

)

n/m

 

(63

)

(5,095

)

(98.8

)%

Total

 

$

(9,902

)

$

(6,627

)

49.4

%

$

(12,149

)

$

(17,600

)

(31.0

)%

 

For the three and six months ended June 30, 2009, interest income on cash and marketable securities decreased over the same periods in 2008, principally due to lower prevailing interest rates.  Interest expense decreased for the three and six months ended June 30, 2009, as compared to the same periods in 2008, primarily due to convertible debt conversions.  “Foreign currency transactions and other” includes foreign exchange losses of $2.6 million and $0.8 million for the three and six months ended June 30, 2009, respectively, and $0.1 million and $4.3 million for the three and six months ended June 30, 2008, respectively, related to foreign exchange derivative contracts.  Foreign exchange losses on transactions were approximately $1.5 million and $2.3 million for the three and six months ended June 30, 2009, respectively, compared to $0.2 million of gains and $0.7 million of losses for the three and six months ended June 30, 2008, respectively.  A gain of $0.3 million and $3.1 million for the three and six months ended June 30, 2009 resulted from convertible debt conversions.  See Note 1 to our Unaudited Consolidated Financial Statements for details about the adjustment to other income (expense) for the three and six months ended June 30, 2008.

 

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Table of Contents

 

Income Taxes

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Income Tax Expense

 

$32,495

 

$23,258

 

39.7

%

$48,036

 

$29,764

 

61.3

%

 

Income tax expense for the three and six months ended June 30, 2009 and 2008 differs from the expected tax provision at the U.S. statutory tax rate of 35%, principally due to lower foreign tax rates and the foreign tax benefit of interest expense on intercompany debt, U.S. tax on certain foreign income, non-deductible expenses and state income taxes.  Due to our significant net operating loss carryforwards, we do not expect to pay significant cash taxes on our U.S. federal taxable income for the foreseeable future.  We expect to make cash payments for international taxes, U.S. state income taxes and U.S. federal alternative minimum tax.  Income tax expense for the three and six months ended June 30, 2009 increased over the same periods in 2008, primarily due to increased earnings in 2009 and increased domestic earnings, which are taxed at a higher statutory rate than our foreign earnings.  See Note 1 to our Unaudited Consolidated Financial Statements for details about the adjustment to income tax expense for the three and six months ended June 30, 2008.

 

Equity in Income (Loss) of Investees

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Equity in Income (Loss) of Investees

 

$

33

 

$

(77

)

142.9

%

$

2

 

$

(166

)

101.2

%

 

Equity in income (loss) of investees for the three and six months ended June 30, 2009 and 2008 represents our pro rata share of pricelinemortgage.com’s net results. In July 2009, pricelinemortgage.com was dissolved, and we received $8.9 million in cash for our 49% equity investment in pricelinemortgage.com. We do not expect the dissolution of our investment in pricelinemortgage.com to materially impact future periods.

 

Noncontrolling Interests

 

 

 

Three Months Ended
June 30,

 

 

 

Six Months Ended
June 30,

 

 

 

 

 

($000)

 

%

 

($000)

 

%

 

 

 

2009

 

2008

 

Change

 

2009

 

2008

 

Change

 

Noncontrolling Interests

 

$

 

$

1,154

 

(100.0

)%

$

 

$

(1,575

)

(100.0

)%

 

In September 2008, we repurchased all of the remaining outstanding shares of priceline.com International and, as a result, there are no longer any noncontrolling interests in priceline.com International.  See Note 1 to our Unaudited Consolidated Financial Statements for further details.

 

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Table of Contents

 

Liquidity and Capital Resources

 

As of June 30, 2009, we had $589.6 million in cash, cash equivalents and short-term investments.  Approximately $264.2 million of our cash and cash equivalents and short-term investments are held by our international subsidiaries and are denominated primarily in Euros and, to a lesser extent, in British Pounds Sterling. Cash equivalents are primarily comprised of U.S. Treasury money market accounts and foreign government securities.  Short-term investments are primarily comprised of U.S. and foreign government securities.

 

All of our merchant transactions are structured such that we collect cash up front from our customers and then we pay most of our suppliers at a subsequent date.  We therefore tend to experience significant swings in supplier payables depending on the absolute level of our cost of revenue during the last few weeks of every quarter.  This can cause volatility in working capital levels and impact cash balances more or less than our operating income would indicate.

 

Net cash provided by operating activities for the six months ended June 30, 2009, was $168.2 million, resulting from net income of $92.0 million, non-cash items not affecting cash flows of $69.4 million and net favorable changes in working capital of $6.8 million.  The changes in working capital for the six months ended June 30, 2009, were primarily related to a $59.7 million increase in accounts payable, accrued expenses and other current liabilities principally offset by a $55.3 million increase in accounts receivable.  The increase in these working capital balances was primarily related to seasonality and increases in business volume.  Our bookings and revenues are generally higher in the second quarter of the year than in the fourth quarter of the year which results in higher accounts receivable, accounts payable and deferred merchant bookings at June 30 compared to December 31.  Our allowance for doubtful accounts has increased versus the prior year to reflect the potential for increased losses resulting from the worldwide recession and the related impact on our hotel partners.  Non-cash items were primarily associated with deferred income taxes, stock-based compensation expense, depreciation and amortization, primarily from acquisition-related intangible assets, amortization of debt discount and gain on conversions of our convertible notes.

 

Net cash provided by operating activities for the six months ended June 30, 2008, was $133.3 million, resulting from net income of $65.2 million, non-cash items not affecting cash flows of $66.0 million and $2.1 million of positive changes in working capital.  The changes in working capital for the six months ended June 30, 2008, were primarily related to a $64.1 million increase in accounts payable, accrued expenses and other current liabilities, partially offset by a $63.1 million increase in accounts receivable.  The increase in these working capital balances was primarily related to seasonal increases in business volume. Non-cash items were primarily associated with stock-based compensation expense, deferred taxes, depreciation and amortization, primarily related to acquisition-related intangible assets, and amortization of debt discount.

 

Net cash used in investing activities was $155.6 million for the six months ended June 30, 2009.  Investing activities were affected by $148.8 million net purchase of securities partially offset by a reduction in restricted cash of $1.3 million.   Net cash used in investing activities was $7.2 million for the six months ended June 30, 2008.  Investing activities were affected by $32.3 million of net redemptions of investments for the six months ended June 30, 2008, partially offset by a $1.6 million increase in restricted cash related to our international operations and acquisitions and other equity investments of $30.9 million.  Cash invested in purchases of property and equipment was $8.1 million and $7.0 million for the six months ended June 30, 2009 and 2008, respectively.

 

Net cash used in financing activities was approximately $41.9 million for the six months ended June 30, 2009.  The cash used in financing activities during the six months ended June 30, 2009 was primarily related to $36.5 million of principal paid upon the conversion of senior notes, $13.2 million of treasury stock purchases, partially offset by $6.5 million of proceeds from the exercise of employee stock options and $1.3 million of excess tax benefits from stock-based compensation.  Net cash used in financing activities was approximately $48.5 million for the six months ended June 30, 2008.  The cash used in financing activities during the six months ended June 30, 2008 was primarily related to $49.9 million paid to settle the principal amount of senior notes upon conversion, $3.4 million of treasury stock purchases, partially offset by $3.7 million of proceeds from the exercise of employee stock options and $1.1 million of excess tax benefits from stock-based compensation

 

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Table of Contents

 

Based upon the closing price of our common stock for the prescribed measurement periods during the three months ended June 30, 2009, the contingent conversion thresholds on each of our convertible senior note issues were exceeded.  As a result, the notes (aggregate principal amount $356.5 million) are convertible at the option of the holder as of June 30, 2009 and, accordingly, have been classified as a current liability or as convertible debt in mezzanine on our Unaudited Consolidated Balance Sheet as of that date.  We believe that worldwide recession has increased the likelihood that certain holders, such as investment funds seeking liquidity to fund investor withdrawals, will elect to convert our convertible senior notes prior to maturity. In the six months ended June 30, 2009, approximately $8.0 million aggregate principal amount of the 2.25% Notes, $16.0 million of the 2011 Notes and $12.5 million of the 2013 Notes were converted.  Based on conversion notices received through August 7, 2009, notes with an aggregate principal amount of $43.5 million will be converted during the three months ending September 30, 2009.  If holders elect to convert, we are required to settle the principal amount of the notes in cash and intend to satisfy any conversion premium in shares of common stock.  We would likely fund the repayment of the principal amount with existing cash, cash equivalents and short-term investments (totaling approximately $589.6 million at June 30, 2009) and borrowings under our revolving credit facility.

 

In September 2007, we entered into a $175 million five-year committed revolving credit facility with a group of lenders, which is secured, subject to certain exceptions, by a first-priority security interest on substantially all of our assets and related intangible assets located in the United States.  In addition, our obligations under the revolving credit facility are guaranteed by substantially all of the assets and related intangible assets of our material direct and indirect domestic and foreign subsidiaries.  Borrowings under the revolving credit facility will bear interest, at our option, at a rate per annum equal to the greater of (a) JPMorgan Chase Bank, National Association’s prime lending rate and (b) the federal funds rate plus ½ of 1%, plus an applicable margin ranging from 0.25% to 0.75%; or at an adjusted LIBOR for the interest period in effect for such borrowing plus an applicable margin ranging from 1.25% to 1.75%.  Undrawn balances available under the revolving credit facility are subject to commitment fees at the applicable rate ranging from 0.25% to 0.375%.

 

The revolving credit facility provides for the issuance of up to $50.0 million of letters of credit as well as borrowings on same-day notice, referred to as swingline loans, which are available in U.S. Dollars, Euros, British Pounds Sterling and any other foreign currency agreed to by the lenders. The proceeds of loans made under the facility will be used for working capital and general corporate purposes.  As of June 30, 2009, there were no borrowings outstanding under the facility and we have issued approximately $2.3 million of letters of credit under the revolving credit facility.

 

We believe that our existing cash balances and liquid resources will be sufficient to fund our operating activities, capital expenditures and other obligations through at least the next twelve months. However, if during that period or thereafter, we are not successful in generating sufficient cash flow from operations or in raising additional capital when required in sufficient amounts and on terms acceptable to us, we may be required to reduce our planned capital expenditures and scale back the scope of our business plan, either of which could have a material adverse effect on our future financial condition or results of operations. If additional funds were raised through the issuance of equity securities, the percentage ownership of our then current stockholders would be diluted.  There are no assurances that we will generate sufficient cash flow from operations in the future, that revenue growth or sustained profitability will be realized or that future borrowings or equity sales will be available in amounts sufficient to make anticipated capital expenditures, finance our strategies or repay our indebtedness.

 

Off-Balance Sheet Arrangements

 

As of June 30, 2009, we did not have any off-balance sheet arrangements that have, or are reasonably likely to have, a current or future effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.

 

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Table of Contents

 

SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS

 

Sections of this Form 10-Q including, in particular, our Management’s Discussion and Analysis of Financial Condition and Results of Operations above, contain forward-looking statements.  These forward-looking statements reflect the views of our management regarding current expectations and projections about future events and are based on currently available information and current foreign currency exchange rates.  These forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict; therefore, actual results may differ materially from those expressed, implied or forecasted in any such forward-looking statements.

 

Expressions of future goals and expectations or similar expressions including, without limitation, “may,” “will,” “should,” “could,” “expects,” “does not currently expect,” “plans,” “anticipates,” “intends,” “believes,” “estimates,” “predicts,” “potential,” “targets,” or “continue,” reflecting something other than historical fact are intended to identify forward-looking statements.  The factors described below in the section entitled “Risk Factors” could cause our actual results to differ materially from those described in the forward-looking statements.  Unless required by law, we undertake no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.  However, readers should carefully review the reports and documents we file from time to time with the Securities and Exchange Commission, particularly the Quarterly Reports on Form 10-Q and any Current Reports on Form 8-K.

 

Risk Factors

 

The following risk factors and other information included in this Quarterly Report should be carefully considered.  The risks and uncertainties described below are not the only ones we face.  Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations.  If any of the following risks occur, our business, financial condition, operating results and cash flows could be materially adversely affected.

 

The worldwide recession has adversely affected, and will likely continue to adversely affect, our business.

 

The worldwide recession is negatively affecting the broad travel market and, as a result, our business.  For example, hotels worldwide have continued to report significant decreases in occupancy rates and average daily rates (“ADRs”).  We believe that, to date, the positive trends impacting our domestic and international business largely overshadowed these negative influences.  The worldwide recession has weakened the fundamental demand for our services and could also cause an increase in the number of customers who cancel existing travel reservations with us.

 

Booking.com currently distributes hotel room reservations primarily through a retail agency model whereby we earn a commission from the hotel property when the customer checks out of the hotel.  This requires us to pursue collection of commissions relating to hotel room reservations from the hotel after the customer has completed his or her stay.  As a result of the worldwide recession, we have experienced an increase in delinquency rates, negatively impacting our business.  Bankruptcies or insolvencies of hotel suppliers could also have an adverse impact on our business, results of operations and financial condition.

 

We believe the worldwide recession and these weakening travel market trends, including, without limitation, decreased consumer demand, further deterioration in ADRs and increases in cancellations, had a negative impact on our business, particularly in Europe and Asia, and will continue to have a negative impact in the near term.  We cannot predict the magnitude or duration of this worldwide recession, but our current limited visibility does not suggest any meaningful near-term improvement.  In addition, the worldwide recession has dramatically restricted the willingness and ability of financial institutions to extend credit.  If we are not able to gain access to funds at an acceptable cost through the credit market, we may be limited, or unable, to pursue certain strategic alternatives such as acquisitions and share repurchases.

 

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Table of Contents

 

Our international operations face risks related to their growth rate and expansion.

 

Throughout 2006, 2007 and 2008, our international operations experienced significant year-over-year growth in their gross bookings (an operating and statistical metric referring to the total dollar value, inclusive of all taxes and fees, of all travel services purchased by our customers).  This growth rate has contributed significantly to our growth in revenue, gross profit and earnings per share.  Over time, we expect our international operations to experience a decline in their growth rate as the absolute level of their gross bookings grows larger.  We expect other factors to slow the growth rates of our international business, including, for example, the impact of the worldwide recession, the recent strengthening of the U.S. Dollar versus the Euro, further declines in hotel ADRs, further increases in cancellations, travel market conditions and the competitiveness of the market.  A decline in our international operations’ growth rate could have a negative impact on our future revenue and earnings per share growth rates and, as a consequence, our stock price.

 

The strategy of our international operations involves rapid expansion into countries in Europe, including eastern Europe, Asia, North America and South America and elsewhere, many of which have different customs, different levels of customer acceptance of the Internet and different legislation, regulatory environments, tax schemes and levels of political stability.  In addition, compliance with foreign legal, regulatory or tax requirements will place demands on our time and resources, and we may nonetheless experience unforeseen and potentially adverse legal, regulatory or tax consequences.  If our international operations are unsuccessful in rapidly expanding into other countries, our business, results of operations and financial condition would be adversely affected.

 

We are dependent on the leisure travel industry and certain travel suppliers.

 

Our financial prospects are significantly dependent upon our sale of leisure travel services.  Leisure travel, including the sale of hotel room reservations and leisure airline tickets, is dependent on personal discretionary spending levels. As a result, sales of leisure travel services tend to decline during general economic downturns and recessions.  Accordingly, the current worldwide recession has led to a weakening in the fundamental demand for our services and an increase in the number of customers who cancel existing travel reservations with us.  In addition, unforeseen events beyond our control, such as terrorist attacks, travel related health concerns including pandemics and epidemics such as H1N1 influenza (swine flu), avian bird flu and SARS, political instability, regional hostilities, increases in fuel prices, imposition of taxes or surcharges by regulatory authorities, travel related accidents and unusual weather patterns, including natural disasters such as hurricanes, tsunamis or earthquakes, also may adversely affect the leisure travel industry and our business and results of operations.  For example, recent civil unrest in Thailand, a key market for our Agoda business, has negatively impacted booking volumes and future civil or political unrest would further disrupt Agoda’s business.  Further, work stoppages or labor unrest at any of the major airlines could materially adversely affect the airline industry and, as a consequence, have a material adverse effect on our business, results of operations and financial condition.

 

During the three months ended June 30, 2009, Name Your Own Price® hotel room night reservations from our five largest hotel suppliers accounted for approximately 69.2% of total Name Your Own Price® hotel room night reservations, and sales of airline tickets from our five largest and two largest airline suppliers accounted for approximately 76.1% and 34.8% of total airline tickets sold, respectively. As a result, we are currently substantially dependent upon the continued participation of these suppliers in our system in order to maintain and continue to grow our total gross profit.

 

Our arrangements with the hotel, airline and rental car suppliers that participate in our system — either Name Your Own Price® or price-disclosed service — generally do not require them to provide any specific quantity of hotel room reservations, airline tickets or rental cars, or to make rooms, tickets or cars available for any particular route, in any geographic area or at any particular price.  During the course of our business, we are in continuous dialogue with our major suppliers about the nature and extent of their participation in our system. The significant reduction on the part of any of our major suppliers of their participation in our system for a sustained period of time or their complete withdrawal could have a material adverse effect on our business, results of operations and financial condition.

 

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Table of Contents

 

The hotel industry has recently experienced a significant decrease in occupancy rates, and we have experienced slowing demand growth, an increase in reservation cancellation rates and declining ADRs — trends which have continued to deteriorate and for which we do not anticipate any near-term improvement.  While lower occupancy rates have historically resulted in hotel suppliers increasing their distribution of hotel room reservations through third-party intermediaries such as us, our remuneration for hotel transactions changes proportionately with room price, and therefore, lower ADRs generally have a negative effect on our hotel business and a negative effect on our gross profit.

 

We believe the worldwide recession and lower ADRs are largely responsible for the increase in the number of hotel cancellations, particularly at our international operations.  Our international operations distribute hotel room reservations primarily through a retail agency model where reservations are generally cancellable, as opposed to merchant models operated by us (principally in the U.S.) and our competition and through which reservations are paid for in advance and therefore less likely to be cancelled.  As ADRs decline, customers who have existing reservations may cancel those reservations and rebook at a lower rate, and in times of economic stress, travelers are more likely to cancel their vacation plans outright.  While decreasing ADRs and a worldwide recession make it relatively more attractive for consumers to make a cancellable agency reservation than a pre-paid reservation, our agency business will likely have higher cancellation rates compared to companies who offer predominantly merchant model hotel room reservations.

 

In addition, certain hotels have begun initiatives to reduce margins received by third party intermediaries on retail merchant transactions, which is the primary method we employ to distribute retail hotel room reservations in the United States.  Many hotels distribute room reservations through their own websites and therefore might increase negotiated rates for merchant rate hotel room reservations sold through our merchant price-disclosed hotel service, decreasing the margin available to us.  While our merchant price-disclosed hotel agreements with our leading hotel suppliers provide for specified discounts, if one or more participating hotels were to require us to limit our merchant margins, upon contract renewal or otherwise, it could have a material adverse effect on our business, results of operations and financial condition.

 

With respect to our airline suppliers, the airline industry has experienced a shift in market share from full-service carriers to low-cost carriers that focus primarily on discount fares to leisure destinations and we expect this trend to continue.  Some low-cost carriers, such as Southwest, have not historically distributed their tickets through us or other third-party intermediaries.  In addition, certain airlines have significantly limited or eliminated sales of airline tickets through opaque channels, preferring to consistently show the lowest available price on their own website.  Certain airlines have also significantly reduced their domestic capacity, which reduces the number of airline tickets available to our customers.  Furthermore, we have recently observed a year-over-year decline in passenger traffic and airfares across the airline industry, which we believe is principally due to the worldwide recession and higher oil prices in 2008.  Decreases in capacity and lower traveler demand negatively impact our domestic air business, which in turn has negative repercussions on our domestic hotel and rental car businesses, and could have a material adverse effect on our business, results of operations and financial condition.  Decreased airfares can adversely impact our Name Your Own Price® airline ticket sales by reducing the amount of absolute dollar savings as compared to retail airline tickets.

 

We could be adversely affected by changes in the airline industry, and, in many cases, we will have no control over such changes or their timing.  Recently, there has been an emerging prospect of domestic airline industry consolidation, as evidenced by the recent merger between Delta Air Lines and Northwest Airlines.  If one of our major airline suppliers merges or consolidates with, or is acquired by, another company that either does not participate in the priceline.com system or that participates on substantially lower levels, the surviving company may elect not to participate in our system or to participate at lower levels than the previous supplier.  For example, in September 2005, US Airways and America West merged.  US Airways was a meaningful participant in our Name Your Own Price® system, but America West participated on a very limited basis.  The resulting entity participates in our Name Your Own Price® system, but at much lower levels than US Airways’ historical participation.

 

In addition, in the event that one of our major suppliers voluntarily or involuntarily declares bankruptcy and is subsequently unable to successfully emerge from bankruptcy, and we are unable to replace such supplier, our business would be adversely affected.  For example, in April 2008, Aloha Airlines and ATA Airlines each ceased

 

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operations and we experienced an increase in credit card chargebacks from customers with tickets on those airlines.  To the extent major U.S. airlines that participate in our system declare bankruptcy or cease operations, they may be unable or unwilling to honor tickets sold for their flights.  Our policy in such event is to direct customers seeking a refund or exchange to the airline, and not to provide a remedy ourselves. Because we are the merchant-of-record on sales of Name Your Own Price® airline tickets to our customers, however, we could experience a significant increase in demands for refunds or credit card chargebacks from customers, which could materially adversely affect our operations and financial results. In addition, because Name Your Own Price® customers do not choose their airlines, hotels or rental car companies, the bankruptcy of a major airline, hotel or rental car company, or even the possibility of such a bankruptcy, could discourage customers from using our Name Your Own Price® system to book travel.

 

The loss of any major airline participant in our Name Your Own Price® system could result in other major airlines electing to terminate their participation in the Name Your Own Price® system, which would further negatively impact our business, results of operations and financial condition.  In addition, fewer independent suppliers reduces opacity and competition among suppliers.  In such event, if we are unable to divert sales to other suppliers, our business, results of operations and financial condition may be adversely affected.

 

In addition, given the concentration of the airline industry, particularly in the domestic market, our competitors could exert pressure on other airlines not to supply us with tickets. Moreover, the airlines may attempt to establish their own buyer driven commerce service or participate or invest in other similar services.

 

United Airlines recently began requiring certain travel agents to cease using United’s merchant processing system for retail credit card transactions.  When accepting credit cards for payment, such agents will have to use their own merchant accounts and settle with United with cash.  By requiring such agents to act as merchant of record, United passes the credit card processing costs onto the travel agent.  United has not informed us that we must cease using United’s merchant processing system for credit card transactions, however, if United or another airline changes its policy with respect to us and requires us to act as merchant of record for retail airline ticket transactions, we will incur additional credit card processing costs and increased chargeback activity and expense, including chargeback expense in connection with the bankruptcy of any such airline.

 

If one of our major rental car suppliers merges or consolidates with, or is acquired by, another company that either does not participate in the priceline.com system or that participates on substantially lower levels, the surviving company may elect not to participate in our system or to participate at lower levels than the previous supplier.  The loss of any rental car supplier participant in our Name Your Own Price® system could result in other rental car suppliers electing to terminate or reduce their participation in the Name Your Own Price® system, which would negatively impact our business, results of operations and financial condition.  Furthermore, many major rental car companies are highly leveraged and the worldwide recession creates the potential for severe financial difficulty, including without limitation, the inability of a rental car company to refinance its debt, restructure its operations or emerge from a bankruptcy, any of which could lead to a reduction in rental car supply made available to us.  In addition, fewer independent suppliers reduces opacity and competition among suppliers.  In such event, if we are unable to divert sales to other suppliers, our business, results of operations and financial condition may be adversely affected.

 

In addition, recent decreases in rental car fleets have led to increases in retail rental car rates.   Higher retail rental car rates can negatively impact our retail rental car service, while decreases in rental car availability can negatively impact our Name Your Own Price® rental car service. Furthermore, if the industry is faced with a shortage of vehicles, rental car companies may reduce the number of car reservations they distribute through our service or increase the negotiated rates at which they are willing to provide car reservations.  In addition, rental car companies rely on auto manufacturers to provide new vehicles for their fleet.  Rental car companies have also historically relied on auto manufacturers and the wholesale used car market to dispose of their fleets of cars.  The worldwide recession has led to questions about the long term viability of the major U.S. auto manufacturers and is partially responsible for a change in the arrangements between rental car companies and automobile manufacturers.  Where manufacturers have historically supplied cars to rental car companies under a lease or another arrangement whereby the manufacturer would buy the car back when it is taken out of the fleet, manufacturers have begun to require the rental car companies purchase the cars for their fleets, which shifts the burden of risk of selling the car to the rental car company.  Tight credit markets negatively affect the used car market, making it difficult for auto

 

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manufacturers and rental car suppliers to dispose of their fleets.  If the rental car industry is faced with excess supply, rental car companies may lower retail rental car rates, which could be beneficial to our retail rental car business, but detrimental to our Name Your Own Price® business.  Because rental car days are typically less expensive than airline tickets or hotel room night reservations, a reduction in retail rental car rates has a disproportionately adverse effect on sales of Name Your Own Price® rental car days since customers may be less likely to accept the trade-offs associated with that service.  Any disruption in the supply of vehicles or the ability to dispose of vehicles by car rental companies could impact their ability to match their fleet supply with demand, which could adversely impact our business.

 

We are exposed to fluctuations in currency exchange rates.

 

As a result of the growth of our international operations, we are conducting a significant portion of our business outside the United States and are reporting our results in U.S. Dollars.  As a result, we face exposure to adverse movements in currency exchange rates as the financial results of our international operations are translated from local currency (principally the Euro and the British Pound Sterling) into U.S. Dollars upon consolidation.  For example, our international operations contributed approximately $197.6 million and $312.2 million to our revenues for the three and six months ended June 30, 2009, which compares to $164.5 million and $268.7 million for the same periods in 2008, respectively.  Revenue attributable to our international operations increased, on a local currency basis, by approximately 38% and 35% in the three and six months ended June 30, 2009, respectively compared to the same periods in 2008.

 

The U.S. Dollar generally weakened from when we acquired Booking.com B.V. in July 2005, until mid-2008, and as a result, the year-over-year growth rates in our international results, when reported in U.S. Dollars, were positively impacted by changes in foreign exchange rates during that period.  Since mid-2008, the U.S. Dollar has strengthened against the Euro and the British Pound Sterling, which caused a decrease in our net assets, revenues, operating expenses and it has become increasingly difficult for us to grow our gross bookings, revenues and earnings on a U.S. Dollar denominated basis.  If the U.S. Dollar weakens against the local currency, the translation of our foreign-currency-denominated balances will result in increased net assets, gross bookings, revenues, operating expenses, and net income.

 

Intense competition could reduce our market share and harm our financial performance.

 

We compete with both online and traditional sellers of the services we offer. The market for the services we offer is intensely competitive, and current and new competitors can launch new sites at a relatively low cost. We may not be able to effectively compete with industry conglomerates such as Expedia, Orbitz Worldwide or Sabre, which may have access to significantly greater and more diversified resources than we do.

 

We currently or potentially compete with a variety of companies with respect to each service we offer. With respect to our travel services, these competitors include, but are not limited to:

 

·                  Internet travel services such as Expedia, Hotels.com and Hotwire, which are owned by Expedia, and Venere, an Italian-based agency hotel reservation service provider that was acquired by Expedia in the third quarter of 2008; Travelocity and lastminute.com, which are owned by the Sabre Group; Orbitz.com, Cheaptickets, ebookers, HotelClub and RatesToGo, which are currently owned by Orbitz Worldwide; laterooms and asiarooms owned by Tui Travel, and Gullivers, octopustravel, Superbreak, hotel.de, Hotel Reservation Service, Ctrip, Rakuten and Wotif;

 

·                  travel suppliers such as airlines, hotel companies and rental car companies, many of which have their own branded websites to which they drive business;

 

·                  large online portal and search companies, such as AOL (including AOL Travel), Yahoo! (including Yahoo! Travel) and Google;

 

·                  traditional travel agencies, wholesalers and tour operators;

 

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·                  online travel search sites such as Mobissimo.com, FareChase.com, Kayak.com and SideStep.com (each sometimes referred to as “meta-search” sites) and travel research sites that have search functionality, such as TripAdvisor, Travelzoo and Cheapflights.com; and

 

·                  operators of travel industry reservation databases such as Galileo, Travelport, Amadeus and Sabre.

 

Certain of our major competitors have matched our elimination and/or reduction of processing fees associated with some of our travel services.  In June 2007, we eliminated processing fees for our price-disclosed airline ticket service, and in April 2008, we reduced processing fees for our domestic price-disclosed merchant hotel room service.  As a result, since those dates, we have had a pricing advantage against other major online travel agents with respect to these travel services.  Starting in March 2009, Expedia launched a promotion temporarily suspending air booking fees for bookings made through May 31, 2009, and later made such suspension permanent.  Later in March 2009, Travelocity matched the Expedia promotion and in April 2009, Orbitz followed.  As a result, we no longer have the price advantage that we have had against our major competitors on price-disclosed airline tickets since June 2007.  Similarly, in April 2009, each of Expedia and Orbitz temporarily reduced booking fees on hotel room reservations, and later made such reduction permanent, and we therefore no longer have a price advantage over those companies on price-disclosed merchant hotel room reservations.  In addition, in May 2009, Orbitz announced that a price guarantee program under which a customer who books a prepaid hotel stay will receive money back from Orbitz if another Orbitz customer books the exact same stay in terms of room type, travel dates and number of travelers.

 

In addition, in March 2009, Travelocity launched an opaque price-disclosed hotel booking service that allows customers to book rooms at a discount because, similar to our Name Your Own Price® hotel booking service, the name of the hotel is not disclosed until after purchase.  At this point, the number of hotels available through Travelocity’s opaque hotel service is limited.  However, Travelocity has experience with offering opaque price-disclosed hotel room reservations in Europe through its site, lastminute.com, and it is likely that it will use such experience to grow the number of opaque hotel room reservations it makes available.  If Travelocity is successful in growing its opaque hotel service, our share of the discount hotel market in the U.S. could decrease.  In addition, we would have to compete with Travelocity for access to hotel room supply and there is no guarantee that we would be able to maintain successfully the access to opaque hotel supply which we currently have.  If Travelocity’s opaque hotel service is successful, it may try to offer opaque airline tickets and/or rental cars, each of which would expose us to similar risks as the opaque hotel service.

 

Many airline, hotel and rental car suppliers, including suppliers with which we conduct business, are focusing on driving online demand to their own websites in lieu of third-party distributors such as us.  Certain suppliers have attempted to charge additional fees to customers who book airline reservations through an online channel other than their own website.  Furthermore, several low cost airlines, which are having increasing success in the marketplace, distribute their tickets exclusively through their own websites.  Suppliers who sell on their own websites typically do not charge a processing fee, and, in some instances, offer advantages such as web-only fares, bonus miles or loyalty points, which could make their offerings more attractive to consumers than models like ours.

 

We potentially face competition from a number of large Internet companies and services that have expertise in developing online commerce and in facilitating Internet traffic, including Amazon.com, AOL, MSN, Google.com and Yahoo!, which compete with us either directly or indirectly through affiliations with other e-commerce or off-line companies.  We also compete with “meta-search” companies, which are companies that leverage their search technology to aggregate travel search results across supplier, travel agent and other websites.  Some established search engine companies as well as start-ups are attempting to enter the online travel marketplace in this manner.  If Google, Yahoo! or other portals decide to refer significant traffic to these meta-search companies, it could result in more competition from supplier websites and higher customer acquisition costs for third-party sites such as ours.  Competition from these and other sources could have a material adverse effect on our business, results of operations and financial condition.

 

Many of our current and potential competitors, including Internet directories, search engines and large traditional retailers, have longer operating histories, larger customer bases, greater brand recognition and significantly greater financial, marketing, personnel, technical and other resources than priceline.com. Some of these

 

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competitors may be able to secure services on more favorable terms than we can. In addition, many of these competitors may be able to devote significantly greater resources to:

 

·                  marketing and promotional campaigns;

·                  attracting traffic to their websites;

·                  attracting and retaining key employees;

·                  securing vendors and supply; and

·                  website and systems development.

 

Increased competition could result in reduced operating margins, loss of market share and damage to our brand. There can be no assurance that we will be able to compete successfully against current and future competitors or that competition will not have a material adverse effect on our business, results of operations and financial condition.

 

Adverse application of state and local tax laws could have an adverse effect on our business and results of operation.

 

A number of jurisdictions have initiated lawsuits against on-line travel companies, including us, related to, among other things, the payment of hotel occupancy and other taxes (i.e., state and local sales tax).  In addition, a number of municipalities have initiated audit proceedings, issued proposed tax assessments or started inquiries relating to the payment of hotel occupancy and other taxes.  Please see Note 13 to our Unaudited Consolidated Financial Statements for a description of these pending cases and proceedings.  Additional state and local jurisdictions are likely to assert that we are subject to, among other things, hotel occupancy and other taxes (i.e., state and local sales tax) and could seek to collect such taxes, either retroactively or prospectively, or both.

 

In connection with some hotel occupancy tax audits and assessments, we may be required to pay any assessed taxes, which amounts may be substantial, prior to being allowed to contest the assessments and the applicability of the ordinances in judicial proceedings.  This requirement is commonly referred to as “pay to play.”  Payment of these amounts, if any, is not an admission that we believe that we are subject to such taxes and, even if such payments are made, we intend to continue to assert our position vigorously.

 

Litigation is subject to uncertainty and there could be adverse developments in these pending or future cases and proceedings.  An unfavorable outcome or settlement of pending litigation could encourage the commencement of additional litigation, audit proceedings or other regulatory inquiries.  In addition, an unfavorable outcome or settlement of these actions or proceedings could result in substantial liabilities for past and/or future bookings, including penalties, interest, costs and/or attorney fees.  There have been, and will continue to be, substantial ongoing costs, which may include “pay to play” payments, associated with defending our position in pending and any future cases or proceedings. An adverse outcome in one or more of these unresolved proceedings could have a material adverse effect on our business and results of operations and could be material to our earnings or cash flows in any given operating period.

 

To the extent that any tax authority succeeds in asserting that we have a tax collection responsibility, or we determine that we have one, with respect to future transactions, we may collect any such additional tax obligation from our customers, which would have the effect of increasing the cost of hotel room reservations to our customers and, consequently, could make our hotel service less competitive (i.e., versus the websites of other online travel companies or hotel company websites) and reduce hotel reservation transactions; alternatively, we could choose to reduce the compensation for our services on “merchant” hotel transactions.  Either step could have a material adverse effect on our business and results of operations.

 

We will continue to assess the risks of the potential financial impact of additional tax exposure, and to the extent appropriate, we will reserve for those estimates of liabilities.

 

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The worldwide recession increases the likelihood that holders of our convertible senior notes will elect to convert their notes prior to maturity.

 

In the past several quarters, the world financial markets — and in particular the world debt markets — have experienced major disruptions, causing investors to liquidate investment holdings in favor of the relative safety of cash and/or government backed securities.  The holders of our convertible senior notes are primarily hedge funds whose investment pools are subject to such investor demands for liquidity.  Given the worldwide recession, significant investor redemptions and withdrawals from hedge funds by their underlying investors have occurred and may continue to occur.  Accordingly, a potentially significant number of hedge funds that hold our convertible senior notes could be forced to convert their notes prior to maturity in order to meet these investor demands.  For example, during the period January 1, 2009 through August 7, 2009, we received conversion notices for approximately $80.0 million of our convertible senior notes. Any such conversion activity exposes us to several potential risks, including without limitation:

 

·                  Early conversions of a significant amount of our convertible senior notes would reduce our cash and investment balances.  We would likely fund any conversion obligations with existing cash and cash equivalents, short-term investments and borrowings under our revolving credit facility.  While we currently have sufficient cash and investment balances to fund early conversions, if a significant amount of convertible senior notes were to be converted, our cash and investment balances would be significantly reduced.

 

·                  In certain circumstances, our Conversion Spread Hedges could be ineffective.  In connection with the issuance in a private placement of $172.5 million aggregate principal amount of Convertible Senior Notes due September 30, 2011, with an interest rate of 0.50% (the “2011 Notes”), and $172.5 million aggregate principal amount of Convertible Senior Notes due September 30, 2013, with an interest rate of 0.75% (the “2013 Notes”), we purchased certain Conversion Spread Hedges that entitle us to purchase from Goldman Sachs and Merrill Lynch approximately 8.5 million shares of our common stock (the number of shares underlying the 2011 Notes and the 2013 Notes) at a strike price of $40.38 per share (subject to adjustment in certain circumstances) in 2011 and 2013, and the hedging counterparties are entitled to purchase from us approximately 8.5 million shares of our common stock at a strike price of $50.47 per share (subject to adjustment in certain circumstances) in 2011 and 2013.  We purchased the Conversion Spread Hedges in order to increase the effective conversion price of the 2011 Notes and the 2013 Notes to $50.47 per share from the stated conversion price of $40.38 per share, thereby reducing the potential dilution upon the expected conversion of the 2011 Notes and the 2013 Notes at their maturity dates.   The Conversion Spread Hedges do not immediately hedge against the associated dilution from conversions of our notes prior to their stated maturities.  Therefore, upon conversion of the 2011 Notes or the 2013 Notes, we have delivered or will be obligated to immediately deliver any related conversion premium in shares of our common stock or a combination of cash and shares.  However, our hedging counterparties will not be obligated to deliver us shares or cash that would offset the dilution associated with the early conversion activity until 2011 and 2013.  Because of this potential timing difference, the number of shares, if any, that we receive from our Conversion Spread Hedge could differ materially from the number of shares, if any, that we are required to deliver to holders of our notes upon their early conversion.  This potential difference in timing potentially makes the hedges ineffective, which could negatively impact our future diluted shares outstanding and diluted earnings per share.

 

·                  Early conversions of our convertible senior notes could result in gains or losses on debt extinguishment and would subject us to accelerated recognition of debt issuance expense.  We adopted FSP APB 14-1 effective January 1, 2009.  The FSP requires us to record a non-cash gain or loss if our convertible debt is converted prior to maturity and the fair value of the debt is different than its carrying value.   In addition, in connection with the issuance of our convertible senior notes, we incurred certain debt issuance costs that we carry on our balance sheet as “Other Assets.”  The current unamortized value of our debt issuance costs is $2.9 million.  These debt issuance costs are amortized over the period beginning with the date on which the notes were issued and ending on their stated maturity date or the first stated put date, if applicable.   However, in the event that some or all of our

 

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convertible senior notes are converted prior to their expected maturity date, we will be required to accelerate the expense of some or all of the carrying value of our debt issuance costs.  As a result, we would experience a significant increase in our interest expense for the period in which the acceleration occurs.  While such an expense would be non-cash in nature and would generally not be recurring, it could have a negative impact on our earnings for the period in which we recognize such an expense.

 

Our business could be negatively affected by changes in search engine algorithms and dynamics or termination of traffic-generating arrangements.

 

We utilize Internet search engines and other travel demand aggregation websites, principally through the purchase of travel-related keywords, to generate traffic to our websites.  Our international operations, in particular, rely to a significant extent upon Google to generate business and, to a much lesser extent, other search engines and other travel demand aggregation websites.  Search engines such as Google frequently update and change the logic which determines the placement and display of results of a user’s search, such that the placement of links to our sites, and particularly those of our international operations and their affiliates, can be negatively affected.  In a similar way, a significant amount of our international business is directed to our own websites through participation in pay-per-click advertising campaigns on Internet search engines whose pricing and operating dynamics can experience rapid change commercially, technically and competitively.  In addition, we purchase web traffic from a number of sources, including some operated by our competitors, in the form of pay-per-click arrangements that can be terminated with little or no notice.  If one or more of such arrangements is terminated, or if a major search engine, such as Google, changes its algorithms in a manner that negatively affects the search engine ranking of our brands or our third-party distribution partners or changes its pricing, operating or competitive dynamics in a negative manner, our business, results of operations and financial condition would be adversely affected.

 

In addition, our international operations rely on various third party distribution channels (i.e., affiliates) to distribute hotel room reservations.  Should one or more of such third parties cease distribution of our international operations’ reservations, or suffer deterioration in its search engine ranking, due to changes in search engine algorithms or otherwise, the business of our international operations could be negatively affected.

 

Our processing, storage, use and disclosure of personal data exposes us to risks of internal or external security breaches and could give rise to liabilities as a result of governmental regulation, conflicting legal requirements or differing views of personal privacy rights.

 

The security of data when engaging in electronic commerce is essential in maintaining consumer and supplier confidence in the priceline.com services. Substantial or ongoing security breaches whether instigated internally or externally on our system or other Internet based systems could significantly harm our business. We currently require customers who use certain of our services to guarantee their offers with their credit card, either online or, in some instances, through our toll-free telephone service. It is possible that advances in computer circumvention capabilities, new discoveries or other developments, including our own acts or omissions, could result in a compromise or breach of customer transaction data.

 

We cannot guarantee that our existing security measures will prevent security breaches or attacks. A party (whether internal, external, an affiliate or unrelated third party) that is able to circumvent our security systems could steal customer information or transaction data, proprietary information or cause significant interruptions in our operations. For instance, from time to time, we have experienced “denial-of-service” type attacks on our system that have made portions of our websites slow or unavailable for periods of time.  We may need to expend significant resources to protect against security breaches or to address problems caused by breaches, and reductions in website availability and response time could cause loss of substantial business volumes during the occurrence of any such incident.  These issues are likely to become more difficult as we expand the number of places where we operate and as the tools and techniques used in such attacks become more advanced.  Security breaches could result in negative publicity, damage our reputation, expose us to risk of loss or litigation and possible liability and subject us to regulatory penalties and sanctions. Security breaches could also cause customers and potential customers to lose confidence in our security, which would have a negative effect on the value of our brand.  Our insurance policies carry low coverage limits, and would likely not be adequate to reimburse us for losses caused by security breaches.

 

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Companies that we have acquired, such as our international operations, and that we may acquire in the future, may employ security and networking standards at levels we find unsatisfactory.  The process of enhancing infrastructure to attain improved security and network standards may be time consuming and expensive and may require resources and expertise that are difficult to obtain.  Such acquisitions increase the number of potential vulnerabilities, and can cause delays in detection of an attack, as well as the timelines of recovery from any given attack. Failure to raise any such standards that we find unsatisfactory could expose us to security breaches of, among other things, personal customer data and credit card information that would have an adverse impact on our business, results of operations and financial condition.

 

We also face risks associated with security breaches affecting third parties conducting business over the Internet. Consumers generally are concerned with security and privacy on the Internet, and any publicized security problems could inhibit the growth of the Internet and, therefore, the priceline.com service as a means of conducting commercial transactions.  Additionally, security breaches at third parties such as supplier or distributor systems upon which we rely could result in negative publicity, damage our reputation, expose us to risk of loss or litigation and possible liability and subject us to regulatory penalties and sanctions.  Some of our business is conducted with third party marketing affiliates, which may generate travel reservations through our infrastructure or through other systems.  A security breach at such a third party could be perceived by consumers as a security breach of our systems and could result in negative publicity, damage our reputation, expose us to risk of loss or litigation and possible liability and subject us to regulatory penalties and sanctions. In addition, such third parties may not comply with applicable disclosure requirements, which could expose us to liability.

 

In our processing of travel transactions, we receive and store a large volume of personally identifiable data.  This data is increasingly subject to legislation and regulations in numerous jurisdictions around the world, including the Commission of the European Union through its Data Protection Directive and variations of that directive in the member states of the European Union.  This government action is typically intended to protect the privacy of personal data that is collected, processed and transmitted in or from the governing jurisdiction.  We could be adversely affected if legislation or regulations are expanded to require changes in our business practices or if governing jurisdictions interpret or implement their legislation or regulations in ways that negatively affect our business, results of operations and financial condition.

 

In addition, in the aftermath of the terrorist attacks of September 11, 2001 in the United States, government agencies have been contemplating or developing initiatives to enhance national and aviation security, such as the Transportation Security Administration’s Computer-Assisted Passenger Prescreening System, known as CAPPS II.  These initiatives may result in conflicting legal requirements with respect to data handling.  As privacy and data protection has become a more sensitive issue, we may also become exposed to potential liabilities as a result of differing views on the privacy of travel data.  Travel businesses have also been subjected to investigations, lawsuits and adverse publicity due to allegedly improper disclosure of passenger information.  These and other privacy developments that are difficult to anticipate could adversely impact our business, results of operations and financial condition.

 

We rely on the performance of highly skilled personnel and, if we are unable to retain or motivate key personnel or hire, retain and motivate qualified personnel, our business would be harmed.

 

Our performance is largely dependent on the talents and efforts of highly skilled individuals. Our future success depends on our continuing ability to identify, hire, develop, motivate and retain highly skilled personnel for all areas of our organization.  In particular, the contributions of certain key senior management in the U.S. and Europe are critical to the overall management of the company.  In addition, because our European senior management’s noncontrolling ownership interest was repurchased in September 2008, it may become more difficult to retain these senior managers over time.  We cannot ensure that we will be able to retain the services of any members of our senior management or other key employees, the loss of whom could harm our business.

 

In addition, competition for well-qualified employees in all aspects of our business, including software engineers and other technology professionals, is intense both in the U.S. and abroad.  With the recent success of our international business and the increased profile of the Booking.com business and brand, competitors have increased their efforts to hire our international employees.  Our continued ability to compete effectively depends on our ability to attract new employees and to retain and motivate existing employees.  If we do not succeed in attracting well-

 

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qualified employees or retaining and motivating existing employees, our business would be adversely affected. We do not maintain any key person life insurance policies.

 

Our expansion places a significant strain on our management, technical, operational and financial resources.

 

We have rapidly and significantly expanded our international operations and anticipate expanding further to pursue growth of our service offerings and customer base. For example, the number of our employees worldwide has grown from less than 700 in the first quarter of 2007, to approximately 1,925 as of June 30, 2009, which growth is almost entirely comprised of hires by our international operations.  Such expansion increases the complexity of our business and places a significant strain on our management, operations, technical performance, financial resources and internal financial control and reporting functions.

 

There can be no assurance that we will be able to manage our expansion effectively.  Our current and planned personnel, systems, procedures and controls may not be adequate to support and effectively manage our future operations, especially as we employ personnel in multiple geographic locations.  We may not be able to hire, train, retain, motivate and manage required personnel, which may limit our growth, damage our reputation, negatively affect our financial performance, and harm our business.

 

Capacity constraints and system failures could harm our business.

 

We rely on certain third party computer systems and third party service providers, including the computerized central reservation systems of the airline, hotel and rental car industries to satisfy demand for airline tickets and domestic hotel room and rental car reservations. In particular, our domestic travel business is substantially dependent upon the computerized reservation systems of operators of global distribution systems for the travel industry. Any interruption in these third party services systems or deterioration in their performance could prevent us from booking airline, hotel and rental car reservations and have a material adverse effect on our business. Our agreements with some third party service providers are terminable upon short notice and often do not provide recourse for service interruptions. In the event our arrangement with any of such third parties is terminated, we may not be able to find an alternative source of systems support on a timely basis or on commercially reasonable terms and, as a result, it could have a material adverse effect on our business, results of operations and financial condition.

 

We depend upon Paymentech to process our U.S. credit card transactions, and e-clearing, WorldPay and others to process Agoda credit card transactions. If any of these providers were wholly or partially compromised, our cash flows could be disrupted until such a time as a replacement process could be put in place with a different vendor.  As we add complexity to our systems infrastructure by adding new suppliers and distribution, our total system availability could decline and our results could suffer.

 

A substantial amount of our computer hardware for operating our services is currently located at the facilities of SAVVIS in New Jersey, AT&T in New York City, Equinix Europe Ltd. in London, England, Global Switch Amsterdam B.V., TelecityRedbus in the Netherlands and certain other data centers. These systems and operations are vulnerable to damage or interruption from human error, floods, fires, power loss, telecommunication failures and similar events. They are also subject to break-ins, sabotage, intentional acts of vandalism and similar misconduct. Despite any precautions we may take, the occurrence of any disruption of service due to any such misconduct, natural disaster or other unanticipated problems at the SAVVIS facility, the AT&T facility, the Equinix Europe Ltd. facility, the TelecityRedbus and Global Switch Amsterdam B.V. facility, or other facilities could result in lengthy interruptions in our services. In addition, the failure by SAVVIS, Verizon, AT&T, Equinix Europe Ltd., Colt Telecom Group Limited, Verizon Business B.V., TrueServer B.V. or other communication providers to provide our required data communications capacity could result in interruptions in our service. Any system failure that causes an interruption in service or decreases the responsiveness of our services could impair our reputation, damage our brand name and have a material adverse effect on our business, results of operations and financial condition.

 

We do not have a completely formalized disaster recovery plan in every geographic region in which we conduct business.  In the event of certain system failures, we may not be able to switch to back-up systems immediately and the time to full recovery could be prolonged.  Like many online businesses, we have experienced

 

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system failures from time to time. In addition to placing increased burdens on our engineering staff, these outages create a significant amount of user questions and complaints that need to be addressed by our customer support personnel. Any unscheduled interruption in our service could result in an immediate loss of revenues that can be substantial and may cause some users to switch to our competitors. If we experience frequent or persistent system failures, our reputation and brand could be permanently harmed. We have been taking steps to increase the reliability and redundancy of our systems. These steps are expensive, may reduce our margins and may not be successful in reducing the frequency or duration of unscheduled downtime.

 

We use both internally developed systems and third-party systems to operate our services, including transaction processing, order management and financial systems. If the number of users of our services increases substantially, or if critical third-party systems stop operating as designed, we will need to significantly expand and upgrade our technology, transaction processing systems, financial and accounting systems and other infrastructure. We do not know whether we will be able to upgrade our systems and infrastructure to accommodate such conditions in a timely manner, and, depending on the third-party systems affected, our transactional, financial and accounting systems could be impacted for a meaningful amount of time before repair.

 

If our systems cannot be expanded to cope with increased demand or fails to perform, we could experience:

 

·                  unanticipated disruptions in service;

·                  slower response times;

·                  decreased customer service and customer satisfaction; or

·                  delays in the introduction of new services,

 

any of which could impair our reputation, damage our brands and materially and adversely affect our revenues.  While we do maintain redundant systems and hosting services for some of our business, it is possible that we could experience an interruption in our business, and we do not carry business interruption insurance sufficient to compensate us for losses that may occur.

 

Companies that we have acquired, such as our international operations, and that we may acquire in the future, may present known or unknown capacity/stability or other types of system challenges.  The process of enhancing infrastructure to attain improved capacity/scalability and other system characteristics may be time consuming and expensive and may require resources and expertise that are difficult to obtain.  Such acquisitions increase potential downtime, customer facing problems and compliance problems.  Failure to successfully make any such improvements to such infrastructures could expose us to potential capacity, stability, and system problems that would have an adverse impact on our business, results of operations and financial condition.

 

We are exposed to various counterparty risks.

 

We are party to derivative instruments to hedge our exposure to foreign currency exchange rate fluctuation, as well as potential dilution upon conversion of our convertible senior notes.  As of June 30, 2009, we are party to foreign currency contracts with a notional value of 20.0 million Euros and 5.0 million British Pounds Sterling.  The counterparties to these contracts are JPMorganChase and Morgan Stanley.  On the maturity dates of these contracts, the counterparties are potentially obligated to pay us the net settlement value.  The counterparties to our Conversion Spread Hedges are Goldman Sachs and Merrill Lynch.  Under the Conversion Spread Hedges, we are entitled to purchase from the counterparties approximately 8.5 million shares of our common stock (the number of shares underlying the 2011 Notes and the 2013 Notes) at a strike price of $40.38 per share (subject to adjustment in certain circumstances) and the counterparties are entitled to purchase from us approximately 8.5 million shares of our common stock at a strike price of $50.47 per share (subject to adjustment in certain circumstances).  The Conversion Spread Hedges increase the effective conversion price of the 2011 Notes and the 2013 Notes to $50.47 per share from our perspective and are designed to reduce the potential dilution upon conversion of the 2011 Notes and the 2013 Notes. If the market value per share of our common stock at maturity is above $40.38, the Conversion Spread Hedge will entitle us to receive from the counterparties net shares of our common stock based on the excess of the then current market price of our common stock over the strike price of the hedge (up to $50.47).  If any of the counterparties to these derivative instruments were to liquidate, declare bankruptcy or otherwise cease operations, it

 

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may not satisfy its obligations under these derivative instruments.  In such event, our fully diluted share count would be increased, which would negatively impact our fully diluted earnings per share.

 

Our financial results will be materially impacted by payment of cash income taxes in the future.

 

Due to our significant net operating loss carryforwards, we do not expect to pay cash taxes on our U.S. federal taxable income tax for the foreseeable future, except for U.S. alternative minimum tax.  However, we expect to pay international taxes on our foreign income.  We expect that our international operations will grow their pretax income at higher rates than the U.S. over the long term and, therefore, it is our expectation that our cash tax rate and cash tax payments will increase as our international business generates an increasing share of our pretax income.

 

Acquisitions could result in operating difficulties.

 

As part of our business strategy, in September 2004, we acquired Booking.com Limited, in July 2005, Booking.com B.V. and, in November 2007, Agoda.  We may enter into additional business combinations and acquisitions in the future.  Acquisitions may result in dilutive issuances of equity securities, use of our cash resources, incurrence of debt and amortization of expenses related to intangible assets acquired.  In addition, the process of integrating an acquired company, business or technology may create unforeseen operating difficulties and expenditures.  The acquisitions of Booking.com B.V., Booking.com Limited, and Agoda were accompanied by a number of risks, including, without limitation:

 

·                  the need to implement or remediate controls, procedures and policies appropriate for a larger public company at companies that prior to the acquisitions may have lacked such controls, procedures and policies;

·                  the difficulty of assimilating the operations and personnel of Booking.com Limited, which are principally located in Cambridge, England, Booking.com B.V., which are principally located in Amsterdam, The Netherlands, and Agoda, which are principally located in Singapore and Bangkok, Thailand, with and into our operations, which are headquartered in Norwalk, Connecticut;

·                  the potential disruption of our ongoing business and distraction of management;

·                  the difficulty of incorporating acquired technology and rights into our services and unanticipated expenses related to such integration;

·                  the failure to further successfully develop acquired technology resulting in the impairment of amounts currently capitalized as intangible assets;

·                  the impairment of relationships with customers of Booking.com B.V., Booking.com Limited and Agoda or our own customers as a result of any integration of operations;

·                  the impairment of relationships with employees of Booking.com B.V., Booking.com Limited and Agoda or our own business as a result of any integration of new management personnel;

·                  the potential unknown liabilities associated with Booking.com B.V., Booking.com Limited and Agoda.

 

We may experience similar risks in connection with any future acquisitions. We may not be successful in addressing these risks or any other problems encountered in connection with the acquisitions of Booking.com B.V., Booking.com Limited or Agoda, or that we could encounter in future acquisitions, which would harm our business or cause us to fail to realize the anticipated benefits of our acquisitions.  As of June 30, 2009, we had approximately $491.8 million assigned primarily to the intangible assets and goodwill of Booking.com B.V., Booking.com Limited and Agoda, and therefore, the occurrence of any of the risks identified above could result in a material adverse impact, including an impairment of these assets, which could cause us to have to record a charge for impairment.  Any such charge could adversely impact our operating results, which would likely cause our stock price to decline significantly.

 

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We may not be able to keep up with rapid technological and other changes.

 

The markets in which we compete are characterized by rapidly changing technology, evolving industry standards, consolidation, frequent new service announcements, introductions and enhancements and changing consumer demands. We may not be able to keep up with these rapid changes. In addition, these market characteristics are heightened by the emerging nature of the Internet and the apparent need of companies from many industries to offer Internet based services. As a result, our future success will depend on our ability to adapt to rapidly changing technologies, to adapt our services to evolving industry standards and to continually improve the performance, features and reliability of our service in response to competitive service offerings and the evolving demands of the marketplace. In addition, the widespread adoption of new Internet, networking or telecommunications technologies or other technological changes could require us to incur substantial expenditures to modify or adapt our services or infrastructure.

 

We rely on the value of the priceline.com and Booking.com brands, along with others, and the costs of maintaining and enhancing our brand awareness are increasing.

 

We believe that maintaining and expanding the priceline.com and Booking.com brands, and other owned brands, including Active Hotels, Agoda, Lowestfare.com, Rentalcars.com, Breezenet.com, MyTravelGuide.com and Travelweb, are important aspects of our efforts to attract and expand our user and advertiser base.  As our larger competitors spend increasingly more on advertising, we are required to spend more in order to maintain our brand recognition.  In addition, we have spent considerable money and resources to date on the establishment and maintenance of the priceline.com and Booking.com brands, and we will continue to spend money on, and devote resources to advertising, marketing and other brand building efforts to preserve and enhance consumer awareness of our brands. We may not be able to successfully maintain or enhance consumer awareness of these brands, and, even if we are successful in our branding efforts, such efforts may not be cost-effective. If we are unable to maintain or enhance customer awareness of our brands in a cost-effective manner, our business, results of operations and financial condition would be adversely affected.

 

Our outstanding convertible senior notes could result in substantial shareholder dilution.

 

Our convertible senior notes are convertible into shares of our common stock if certain specified conditions are met.  All of our convertible notes are currently convertible.  Upon conversion, the holder will receive cash for the principal amount of the note and cash or shares of our common stock or a combination of cash and shares of our common stock for the conversion value in excess of such principal amount.  If our stock trades above the conversion prices of the outstanding convertible notes, our diluted share count will increase by the net number of shares that would become issuable to the holders of our outstanding convertible notes and, as a consequence, have a dilutive impact on net income per share.  As an example, at stock prices of $80 per share, $100 per share, $120 per share and $175 per share, common equivalent shares would include approximately 4.5 million, 5.4 million, 6.0 million and 6.9 million equivalent shares, respectively, related to the remaining outstanding convertible notes (excluding the offsetting impact of the Conversion Spread Hedges described in Note 10 to our Unaudited Consolidated Financial Statements).  The Conversion Spread Hedges increase the effective conversion price of the 2011 Notes and the 2013 Notes from $40.38 to $50.47 per share, and reduce the dilution upon conversion of the 2011 Notes and the 2013 Notes.  Since the impact of the Conversion Spread Hedges is anti-dilutive it is excluded from the calculation of net income per share under GAAP until they are exercised upon maturity.

 

We will be subject to increased income taxes in the event that our foreign cash balances are remitted to the United States.

 

As of June 30, 2009, we held approximately $264.2 million of cash and short-term liquid investments outside of the United States.  To date, we have used our foreign cash to reinvest in our foreign operations.  It is our current expectation to continue to seek ways to make further investments in our foreign operations with our foreign cash.  If our foreign cash balances continue to grow and our ability to reinvest those balances diminishes, it will become increasingly likely that we will repatriate some of our foreign cash balances to the United States.  In such event, we would likely be subject to additional income tax expenses in the United States with respect to our

 

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unremitted foreign earnings.  We would not incur an increase in cash income taxes payable unless we repatriate the cash and no longer have net operating loss carryforwards available to offset the taxable income.

 

In addition, on May 4, 2009, U.S. President Barack Obama proposed significant changes to the U.S. international tax laws that would limit U.S. deductions for expenses related to un-repatriated foreign-source income and modify the U.S. foreign tax credit and “check-the-box” rules.  We cannot determine whether these proposals will be enacted into law or what, if any, changes may be made to such proposals prior to their being enacted into law.  If the U.S. tax laws change in a manner that increases our tax obligation, our results could suffer.

 

The unit profitability of our business has declined and could continue to decline, as we may be subject to, among other things, competitive pressure and loss or reduction of global distribution system fees.

 

In recent years, the amount of profit we make per airline ticket sold has declined and could continue to decline as we, among other things, experience pressure from suppliers to reduce our profit, strive to remain competitive with other online travel agencies and continue to be subject to reduction of global distribution system, or GDS, fees paid to us.  Historically, we have relied on fees paid to us by GDSs for travel bookings made through GDSs for a portion of our gross profit and a substantial portion of our operating income. We rebate certain GDS costs to certain suppliers (e.g., airlines, hotels, etc.) in exchange for contractual considerations such as those relating to pricing and availability, and expect to continue to do so in the future.  Suppliers put pressure on us to reduce our aggregate compensation and book through lower cost channels to receive full content and avoid penalties.  We have agreements with a number of suppliers to obtain access to content, and are in continuing discussions with others to obtain similar access.  If we were denied access to full content or had to impose service fees on our services, it could have a material adverse effect on our business, results of operations and financial condition.

 

Additionally, some travel suppliers are encouraging third-party travel intermediaries, such as us, to develop technology to bypass the traditional GDSs, such as enabling direct connections to the travel suppliers or using alternative global distribution methods.  Development of the technology to connect to such alternatives, or to enable direct connections to travel suppliers, requires the use of information technology resources and could cause us to incur additional operating expenses, increase the frequency/duration of system problems and delay other projects.

 

We face risks related to our intellectual property.

 

We regard our intellectual property as critical to our success, and we rely on trademark, copyright and patent law, trade secret protection and confidentiality and/or license agreements with our employees, customers, partners and others to protect our proprietary rights. If we are not successful in protecting our intellectual property, it could have a material adverse effect on our business, results of operations and financial condition.

 

While we believe that our issued patents and pending patent applications help to protect our business, there can be no assurance that:

 

·                  any patent can be successfully defended against challenges by third parties;

·                  pending patent applications will result in the issuance of patents;

·                  competitors or potential competitors of priceline.com will not devise new methods of competing with us that are not covered by our patents or patent applications;

·                  because of variations in the application of our business model to each of our services, our patents will be effective in preventing one or more third parties from utilizing a copycat business model to offer the same service in one or more categories;

·                  new prior art will not be discovered which may diminish the value of or invalidate an issued patent;

·                  a third party will not have or obtain one or more patents that prevent us from practicing features of our business or require us to pay for a license to use those features; or

·                  our operations do not or will not infringe valid, enforceable patents of third parties.

 

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There has been recent discussion in the press regarding the examination and issuance of so called “business method” patents. As a result, the United States Patent and Trademark Office has indicated that it intends to intensify the review process applicable to such patent applications. The new procedures are not expected to have a direct effect on patents already granted. We cannot anticipate what effect, if any, the new review process will have on our pending patent applications.  In addition, there has been recent discussion in various federal court proceedings regarding the patentability and validity of so called “business method” patents. The Court of Appeals for the Federal Circuit, in a recent order in In re Bilski, has questioned whether it should review its earlier decision affirming the patentability of so-called business method patents in State Street Bank v. Signature Financial.   We cannot anticipate what effect, if any, any new federal court decision will have on our issued patents or pending patent applications.

 

We pursue the registration of our trademarks and service marks in the U.S. and internationally. However, effective trademark, service mark, copyright and trade secret protection may not be available in every country in which our services are made available online. We have licensed in the past, and expect to license in the future, certain of our proprietary rights, such as trademarks or copyrighted material, to third parties. These licensees may take actions that might diminish the value of our proprietary rights or harm our reputation.

 

From time to time, in the ordinary course of our business, we have been subject to, and are currently subject to, legal proceedings and claims relating to the intellectual property rights of others, and we expect that third parties will continue to assert intellectual property claims, in particular patent claims, against us, particularly as we expand the complexity and scope of our business.  We endeavor to defend our intellectual property rights diligently, but intellectual property litigation is extremely expensive and time consuming, and has and is likely to continue to divert managerial attention and resources from our business objectives.  Successful infringement claims against us could result in significant monetary liability or prevent us from operating our business, or portions of our business.  In addition, resolution of claims may require us to obtain licenses to use intellectual property rights belonging to third parties, which may be expensive to procure, or possibly to cease using those rights altogether.  Any of these events could have a material adverse effect on our business, results of operations or financial condition.

 

Our business is exposed to risks associated with credit card fraud and chargebacks.

 

Our results have been negatively impacted by purchases made using fraudulent credit cards. Because we act as the merchant-of-record in a majority of our domestic transactions as well as those of Agoda, we may be held liable for accepting fraudulent credit cards on our websites as well as other payment disputes with our customers. Additionally, we are held liable for accepting fraudulent credit cards in certain retail transactions when we do not act as merchant of record.  Accordingly, we calculate and record an allowance for the resulting credit card chargebacks.  If we are unable to combat the use of fraudulent credit cards on our websites, our business, results of operations and financial condition could be materially adversely affected.

 

In addition, in the event that one of our major suppliers voluntarily or involuntarily declares bankruptcy, we could experience an increase in credit card chargebacks from customers with travel reservations with such supplier.  For example, airlines that participate in our system and declare bankruptcy or cease operations may be unable or unwilling to honor tickets sold for their flights.  Our policy in such event is to direct customers seeking a refund or exchange to the airline, and not to provide a remedy ourselves. Because we are the merchant-of-record on sales of Name Your Own Price® airline tickets to our customers, however, we could experience a significant increase in demands for refunds or credit card chargebacks from customers, which could materially adversely affect our operations and financial results.  For example, in April 2008, Aloha Airlines and ATA Airlines each ceased operations and we experienced an increase in credit card chargebacks from customers with tickets on those airlines.

 

Fluctuations in our financial results make quarterly comparisons and financial forecasting difficult.

 

Our revenues and operating results have varied significantly from quarter to quarter because our business experiences seasonal fluctuations, which reflect seasonal trends for the travel services offered by our websites. Traditional leisure travel bookings in the United States are higher in the second and third calendar quarters of the year as consumers take spring and summer vacations. In the first and fourth quarters of the calendar year, demand for travel services in the United States and Europe generally declines and the number of bookings flattens.  Furthermore, prior to introducing a retail travel option to our customers, substantially all of our business was

 

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conducted under the Name Your Own Price® system and accordingly, because those services are non-refundable in nature, we recognize travel revenue at the time a booking was generated.  We recognize revenue generated from our retail hotel service, however, including our international operations, at the time that the customer checks out of the hotel.  As a result, we have seen and expect to continue to see, that a meaningful amount of retail hotel bookings generated earlier in the year, as customers plan and reserve their spring and summer vacations, will not be recognized until future quarters.  This could result in a disproportionate amount of our annual earnings being recognized in later quarters.

 

Our results may also be affected by seasonal fluctuations in the supply made available to us by airlines, hotels and rental car suppliers. Our revenues and operating results may continue to vary significantly from quarter to quarter because of these factors. As a result, quarter-to-quarter comparisons of our revenues and operating results may not be meaningful. In addition, due to our limited operating history, a relatively new and unproven business model and an uncertain environment in the travel industry, it may be difficult to predict our future revenues or results of operations.  A significant change in the global economic environment, such as we are currently experiencing as a result of the worldwide recession, makes it more difficult to forecast future operating results.

 

Because of these fluctuations and uncertainties, our operating results may fail to meet the expectations of securities analysts and investors. If this happens, the trading price of our common stock would almost certainly be materially adversely affected.

 

Our stock price is highly volatile.

 

The market price of our common stock is highly volatile and is likely to continue to be subject to wide fluctuations in response to factors such as the following, some of which are beyond our control:

 

·                  quarterly variations in our operating results;

·                  operating results that vary from the expectations of securities analysts and investors;

·                  changes in expectations as to our future financial performance, including financial estimates by securities analysts and investors;

·                  changes in our capital structure;

·                  changes in market valuations of other Internet or online service companies;

·                  announcements of technological innovations or new services by us or our competitors;

·                  announcements by us or our competitors of price reductions, promotions, significant contracts, acquisitions, strategic partnerships, joint ventures or capital commitments;

·                  loss of a major supplier participant, such as an airline or hotel chain;

·                  changes in the status of our intellectual property rights;

·                  lack of success in the expansion of our business model geographically;

·                  announcements by third parties of significant claims or proceedings against us or adverse developments in pending proceedings;

·                  occurrences of a significant security breach;

·                  additions or departures of key personnel; and

·                  stock market price and volume fluctuations.

 

Sales of a substantial number of shares of our common stock could adversely affect the market price of our common stock by introducing a large number of sellers to the market. Given the volatility that exists for our shares, such sales could cause the market price of our common stock to decline significantly. In addition, fluctuations in our stock price and our price-to-earnings multiple may have made our stock attractive to momentum, hedge or day-trading investors who often shift funds into and out of stocks rapidly, exacerbating price fluctuations in either direction, particularly when viewed on a quarterly basis.

 

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The trading prices of Internet company stocks in general, including ours, have experienced extreme price and volume fluctuations. To the extent that the public’s perception of the prospects of Internet or e-commerce companies is negative, our stock price could decline further, regardless of our results. Other broad market and industry factors may decrease the market price of our common stock, regardless of our operating performance. Market fluctuations, as well as general political and economic conditions, such as a recession or interest rate or currency rate fluctuations, also may decrease the market price of our common stock.  Negative market conditions could adversely affect our ability to raise additional capital.

 

We are defendants in securities class action litigations. In the past, securities class action litigation often has been brought against a company following periods of volatility in the market price of its securities. To the extent our stock price declines or is volatile, we may in the future be the target of additional litigation. This additional litigation could result in substantial costs and divert management’s attention and resources.

 

We are party to legal proceedings which, if adversely decided, could materially adversely affect us.

 

We are a party to the legal proceedings described in Note 13 to our Unaudited Consolidated Financial Statements.  The defense of the actions described in Note 13 may increase our expenses and an adverse outcome in any of such actions could have a material adverse effect on our business and results of operations.

 

Regulatory and legal uncertainties could harm our business.

 

The services we offer through the priceline.com service are regulated by federal and state governments. Our ability to provide such services is and will continue to be affected by such regulations. The implementation of unfavorable regulations or unfavorable interpretations of existing regulations by courts or regulatory bodies could require us to incur significant compliance costs, cause the development of the affected markets to become impractical and otherwise have a material adverse effect on our business, results of operations and financial condition.

 

Item 3.    Quantitative and Qualitative Disclosures About Market Risk

 

We manage our exposure to interest rate risk and foreign currency risk through internally established policies and procedures and, when deemed appropriate, through the use of derivative financial instruments. We use foreign exchange derivative contracts to manage short-term foreign currency risk.

 

The objective of our policies is to mitigate potential income statement, cash flow and fair value exposures resulting from possible future adverse fluctuations in rates. We evaluate our exposure to market risk by assessing the anticipated near-term and long-term fluctuations in interest rates and foreign exchange rates. This evaluation includes the review of leading market indicators, discussions with financial analysts and investment bankers regarding current and future economic conditions and the review of market projections as to expected future rates. We utilize this information to determine our own investment strategies as well as to determine if the use of derivative financial instruments is appropriate to mitigate any potential future market exposure that we may face. Our policy does not allow speculation in derivative instruments for profit or execution of derivative instrument contracts for which there are no underlying exposures. We do not use financial instruments for trading purposes and are not a party to any leveraged derivatives.

 

We did not experience any material changes in interest rate exposures during the three months ended June 30, 2009.  Based upon economic conditions and leading market indicators at June 30, 2009, we do not foresee a significant adverse change in interest rates in the near future.

 

As of June 30, 2009, the carrying value of our debt is approximately $356.5 million.  We estimate that the market value of such debt was approximately $1.0 billion as of June 30, 2009.  Substantially all of the market value of our debt in excess of the carrying value is related to the conversion premium on the bonds.

 

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the U.S. Dollar (primarily Euros and British Pounds Sterling).  As a result, we face exposure to adverse movements in currency exchange rates as the financial results of our international operations are translated from local currency into U.S. Dollars upon consolidation.  If the U.S. Dollar weakens against the local currency, the translation of these foreign-currency-denominated balances will result in increased net assets, net revenues, operating expenses, and net income or loss.  Similarly, our net assets, net revenues, operating expenses, and net income or loss will decrease if the U.S. Dollar strengthens against local currency. Additionally, foreign exchange rate fluctuations on transactions denominated in currencies other than the functional currency result in gains and losses that are reflected in our Unaudited Consolidated Statement of Operations.  Our international operations are subject to risks typical of international business, including, but not limited to, differing economic conditions, changes in political climate, differing tax structures, other regulations and restrictions, and foreign exchange rate volatility.

 

From time to time, we enter into foreign exchange derivative contracts to minimize the impact of short-term foreign currency fluctuations on our consolidated operating results.  As of June 30, 2009, derivatives not designated as hedging instruments with a notional value of 20.0 million Euros and 5.0 million British Pounds Sterling were outstanding.  As of December 31, 2008, derivatives with a notional value of 25.0 million Euros were outstanding.   Subsequent to June 30, 2009, we entered into additional derivatives with a notional value of 40.0 million Euros and 5.0 million British Pounds Sterling.  Foreign exchange losses of $2.6 million and $0.1 million for the three months ended June 30, 2009 and 2008, respectively, were recorded in “Foreign currency transactions and other,” and related to foreign exchange derivative contracts.   In May 2009, we entered into a forward currency contract for 36.7 million Euros to hedge a portion of our net investment in a foreign subsidiary against adverse change in exchange rates.  Mark-to-market adjustments are recorded as currency translation adjustments.  This contract is scheduled to mature in November 2009.

 

Additionally, fixed rate investments are subject to unrealized gains and losses due to interest rate volatility.  To the extent that changes in interest rates and currency exchange rates affect general economic conditions, priceline.com would also be affected by such changes.

 

Item 4.    Controls and Procedures

 

Prior to filing this report, we carried out an evaluation, under the supervision and with the participation of our principal executive officer and principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures.  Based on this evaluation, our principal executive officer and principal financial officer concluded that as of June 30, 2009, our disclosure controls and procedures were effective in timely alerting them to material information required to be included in our periodic SEC reports.

 

In the second quarter of 2006, we started to implement a new financial accounting system at Booking.com B.V., which is expected to improve efficiency and support growth. The implementation, development and refinement of this financial accounting system is expected to occur in phases through the remainder of 2009 and will likely affect the processes that constitute the Company’s internal control over financial reporting.  This financial accounting system was implemented at Booking.com Ltd. in the first quarter of 2009.  As we continue with the system implementation, we will continue to review internal controls and may take further steps to ensure that internal controls are effective and integrated appropriately.

 

In November 2007, we acquired the Agoda Companies, and as a result of that acquisition, we have undertaken a review of their internal controls and intend to make changes, if necessary, that we believe to be appropriate to those internal controls as we integrate its business with ours. As we further integrate Agoda’s business, we will continue to review its internal controls and may take further steps to ensure that its internal controls are effective and integrated appropriately.

 

In March 2008, the Company initiated the implementation of an enterprise resource planning (“ERP”) system for its domestic operations. The implementation is expected to be completed over the next year and involves changes in systems that include internal controls.  We expect to review each system as it is being implemented and the controls affected by the implementation of the new systems, and are making appropriate changes to affected internal controls as we implement the new systems.  ERP systems are large and complex, however, and the possibility exists that our migration to the new ERP system could adversely affect the Company’s internal controls

 

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over financial reporting and procedures.

 

There was no change in the Company’s internal control over financial reporting during the quarter ended June 30, 2009 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

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PART II - OTHER INFORMATION

 

Item 1.    Legal Proceedings

 

A description of material legal proceedings to which we are a party is contained in Note 13 to our Unaudited Consolidated Financial Statements included in this Quarterly Report on Form 10-Q for the three months ended June 30, 2009.

 

Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

 

The following table sets forth information relating to repurchases of our equity securities during the three months ended June 30, 2009:

 

ISSUER PURCHASES OF EQUITY SECURITIES

 

Period

 

(a) Total Number of
Shares (or Units)
Purchased

 

(b) Average Price Paid
per Share (or Unit)

 

(c) Total Number of
Shares (or Units)
Purchased as Part of
Publicly Announced
Plans or Programs

 

(d) Maximum Number
(or Approximate Dollar
Value) of Shares (or
Units) that May Yet Be
Purchased Under the
Plans or Programs

 

April 1, 2009 – April 30, 2009

 

 

 

 

$

44,866,000

(1)

 

 

 

 

 

 

 

 

$

20,447,000

(2)

May 1, 2009 – May 31, 2009

 

865

(3)

$

102.34

 

 

$

44,866,000

(1)

 

 

 

 

 

 

 

 

$

20,447,000

(2)

June 1, 2009 – June 30, 2009

 

370

(3)

$

116.37

 

 

$

44,866,000

(1)

 

 

 

 

 

 

 

 

$

20,447,000

(2)

Total

 

1,235

(3)

$

106.54

 

 

$

65,313,000

 

 


(1)          Pursuant to a stock repurchase program announced on November 2, 2005, whereby the Company was authorized to repurchase up to $50,000,000 of its common stock.

 

(2)          Pursuant to a stock repurchase program announced on September 21, 2006, whereby the Company was authorized to repurchase up to $150,000,000 of its common stock.

 

(3)          Pursuant to a general authorization, not publicly announced, whereby the Company is authorized to repurchase shares of its common stock to satisfy employee withholding tax obligations related to stock-based compensation.

 

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Table of Contents

 

Item 4.  Submission of Matters to a Vote of Security Holders

 

We held our Annual Meeting of Stockholders on June 3, 2009. Listed below are descriptions of the matters voted on and the results of such meeting.

 

 

 

Number of Shares

 

 

 

 

 

 

 

For

 

Withheld

 

 

 

 

 

1.     Election of Directors

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Jeffery H. Boyd

 

33,348,998

 

1,280,598

 

 

 

 

 

Ralph M. Bahna

 

38,249,191

 

1,380,405

 

 

 

 

 

Howard W. Barker, Jr.

 

39,144,032

 

485,564

 

 

 

 

 

Jan L. Docter

 

37,796,588

 

1,833,008

 

 

 

 

 

Jeffrey E. Epstein

 

38,604,083

 

1,025,513

 

 

 

 

 

James M. Guyette

 

39,098,961

 

530,635

 

 

 

 

 

Nancy B. Peretsman

 

38,313,572

 

1,316,024

 

 

 

 

 

Craig W. Rydin

 

39,143,523

 

486,073

 

 

 

 

 

 

 

 

For

 

Against

 

Abstaining

 

 

 

2.     Ratification of selection of Deloitte & Touche LLP as independent registered public accounting firm, for fiscal year ending December 31, 2009

 

39,286,909

 

332,925

 

9,762

 

 

 

 

 

 

For

 

Against

 

Abstaining

 

Broker
Non–votes

 

3.     Approval of Company proposal concerning amendment to the Company’s certificate of incorporation regarding right of stockholders representing 25% of the Company’s outstanding shares of common stock to call special stockholder meetings

 

24,046,956

 

9,612,735

 

68,775

 

5,901,130

 

 

 

 

For

 

Against

 

Abstaining

 

Broker
Non–votes

 

4.     Approval of stockholder proposal concerning special stockholder meetings

 

13,191,692

 

18,835,333

 

1,701,441

 

5,901,130

 

 

64



Table of Contents

 

Item 6.  Exhibits

 

Exhibit
Number

 

Description

 

 

 

3.1(a)

 

Amended and Restated Certificate of Incorporation.

3.2(a)

 

Certificate of Amendment to Amended and Restated Certificate of Incorporation, dated June 13, 2003.

3.3(b)

 

Certificate of Amendment to Amended and Restated Certificate of Incorporation, dated June 3, 2009.

3.4

 

Amended and Restated Bylaws.

31.1

 

Certification of the Chief Executive Officer, pursuant to Section 302 of the Sarbanes—Oxley Act of 2002.

31.2

 

Certification of Chief Financial Officer, pursuant to Section 302 of the Sarbanes—Oxley Act of 2002.

32.1

 

Certification of Chief Executive Officer, pursuant to Section 906 of the Sarbanes—Oxley Act of 2002.

32.2

 

Certification of Chief Financial Officer, pursuant to Section 906 of the Sarbanes—Oxley Act of 2002.

 


(a)                      Previously filed as an exhibit to the Form S-3 (Registration Statement No. 333-190029) filed in connection with priceline.com’s registration of 1.00% Convertible Senior Notes due 2010 and Shares of Common Stock Issuable Upon Conversion of the Notes.

(b)                     Previously filed as an exhibit to the Form 8-K filed on June 5, 2009.

 

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Table of Contents

 

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.

 

 

 

 

 

PRICELINE.COM INCORPORATED

 

 

 

                      (Registrant)

 

 

 

 

 

 

 

 

Date:  August 10, 2009

 

By:

  /s/ Daniel J. Finnegan

 

 

 

Name:

Daniel J. Finnegan

 

 

 

Title:

Chief Financial Officer

 

 

 

 

(On behalf of the Registrant and
as principal financial officer)

 

66



Table of Contents

 

Exhibit Index

 

Exhibit
Number

 

Description

 

 

 

3.1(a)

 

Amended and Restated Certificate of Incorporation.

3.2(a)

 

Certificate of Amendment to Amended and Restated Certificate of Incorporation, dated June 13, 2003.

3.3(b)

 

Certificate of Amendment to Amended and Restated Certificate of Incorporation, dated June 3, 2009.

3.4

 

Amended and Restated Bylaws.

31.1

 

Certification of the Chief Executive Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2

 

Certification of Chief Financial Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1

 

Certification of Chief Executive Officer, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2

 

Certification of Chief Financial Officer, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 


(a)                      Previously filed as an exhibit to the Form S-3 (Registration Statement No. 333-190029) filed in connection with priceline.com’s registration of 1.00% Convertible Senior Notes due 2010 and Shares of Common Stock Issuable Upon Conversion of the Notes.

(b)                     Previously filed as an exhibit to the Form 8-K filed on June 5, 2009.