424B4 1 d117777d424b4.htm FINAL PROSPECTUS Final Prospectus
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Filed Pursuant to Rule 424(b)(4)
File No. 333-170640

PROSPECTUS

 

3,500,000 SHARES

 

LOGO

KAYAK Software Corporation

 

CLASS A COMMON STOCK

 

 

 

KAYAK Software Corporation is offering 3,500,000 shares of its Class A common stock. This is our initial public offering, and no public market exists for our shares.

 

We have two classes of authorized common stock, Class A common stock and Class B common stock. The rights of the holders of Class A common stock and Class B common stock are identical, except with respect to voting and conversion. Each share of Class A common stock is entitled to one vote per share. Each share of Class B common stock is entitled to ten votes per share and is convertible at any time into one share of Class A common stock. Upon completion of this offering, the holders of our Class B common stock shall be able to exercise in respect thereof not less than 98.9% of the voting power of KAYAK Software Corporation.

 

Moreover, all shares of our common stock and preferred stock outstanding immediately prior to completion of this offering will automatically be converted into shares of our Class B common stock and all outstanding options and warrants exercisable for shares of our common stock and preferred stock will automatically become options and warrants exercisable for shares of our Class B common stock upon completion of this offering.

 

 

 

Concurrently with this offering we will issue additional shares of Class A common stock in private placements to certain existing stockholders. We will not pay any underwriting discounts or commissions on the shares issued in these concurrent private placements. See “Concurrent Private Placements.”

 

We are an “emerging growth company” as defined in the Jumpstart Our Business Startups Act and will therefore be subject to reduced reporting requirements.

 

Our Class A common stock has been approved for listing on the NASDAQ Global Select Stock Market under the symbol “KYAK.”

 

 

 

Investing in our Class A common stock involves risks. See “Risk Factors” beginning on page 12.

 

 

 

PRICE $26.00 A SHARE

 

 

 

    

Price to

Public

   Underwriting
Discounts
and
Commissions
   Proceeds to
Company

Per share

   $26.00    $1.82    $24.18

Total

   $91,000,000    $6,370,000    $84,630,000

 

KAYAK Software Corporation has granted the underwriters the right to purchase an additional 525,000 shares of Class A common stock to cover over-allotments.

 

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 

The underwriters expect to deliver the shares of Class A common stock to purchasers on July 25, 2012.

 

 

 

MORGAN STANLEY

   DEUTSCHE BANK SECURITIES

 

 

 

PIPER JAFFRAY

   STIFEL NICOLAUS WEISEL    PACIFIC CREST SECURITIES

 

July 19, 2012


Table of Contents

LOGO


Table of Contents

TABLE OF CONTENTS

 

     Page  

Prospectus Summary

     1   

Risk Factors

     12   

Special Note Regarding Forward-Looking Statements

     29   

Use of Proceeds

     31   

Dividend Policy

     31   

Capitalization

     32   

Dilution

     34   

Selected Consolidated Financial and Operating Data

     36   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     39   

Business

     63   

Management

     76   
 

 

 

 

We have not authorized anyone to provide any information other than that contained or incorporated by reference in this prospectus or in any free writing prospectus prepared by or on behalf of us or to which we have referred you. We take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. We are offering to sell, and seeking offers to buy, shares of our Class A common stock only in jurisdictions where offers and sales are permitted. The information in this prospectus or any free-writing prospectus is accurate only as of its date, regardless of its time of delivery or of any sale of shares of our Class A common stock. Our business, financial condition, results of operations and prospects may have changed since that date.

 

Until August 14, 2012 (25 days after the commencement of this offering), all dealers that buy, sell or trade shares of our Class A common stock, whether or not participating in this offering, may be required to deliver a prospectus. This delivery requirement is in addition to the obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

 

For investors outside the U.S.: We have not and the underwriters have not done anything that would permit this offering, or possession or distribution of this prospectus, in any jurisdiction where action for that purpose is required, other than in the U.S. Persons outside the U.S. who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering of the shares of Class A common stock and the distribution of this prospectus outside of the U.S.

 

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PROSPECTUS SUMMARY

 

This summary highlights information contained elsewhere in this prospectus and does not contain all of the information that you should consider in making your investment decision. Before investing in our Class A common stock, you should carefully read this entire prospectus, including our consolidated financial statements and the related notes and the information set forth under the headings “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in each case included elsewhere in this prospectus. Some of the statements in this prospectus constitute forward-looking statements. See “Special Note Regarding Forward-Looking Statements” for more information.

 

KAYAK SOFTWARE CORPORATION

 

Overview

 

We are a technology-driven company committed to improving online travel. Cofounders of Expedia, Travelocity and Orbitz started KAYAK in 2004 to take a better approach to finding travel online. Our websites and mobile applications enable people to easily research and compare accurate and relevant information from hundreds of other travel websites in one comprehensive, fast and intuitive display. We also provide multiple filtering and sorting options, travel management tools and services such as flight status updates, pricing alerts and itinerary management. Once users find their desired flight, hotel or other travel products, KAYAK sends them to their preferred travel supplier or online travel agent website to complete their purchase, and in many cases, users may now complete hotel bookings directly through our websites and mobile applications.

 

KAYAK’s services are free for travelers. We offer travel suppliers and online travel agencies, or OTAs, an efficient channel to sell their products and services to a highly targeted audience focused on purchasing travel. We earn revenues by sending referrals to travel suppliers and OTAs and from a variety of advertising placements on our websites and mobile applications.

 

Since our commercial launch in 2005, KAYAK has experienced significant growth:

 

   

For the three months ended March 31, 2012, we generated $73.3 million of revenues, representing growth of 39% over the three months ended March 31, 2011;

 

   

For the three months ended March 31, 2012, we generated income from operations of $8.1 million as compared to a loss from operations of $12.0 million for the three months ended March 31, 2011. After adjusting for a $15.0 million impairment charge related to our decision to stop supporting the SideStep brand name, operating income for the three months ended March 31, 2012 increased by 174% over the same period in 2011.

 

   

For the three months ended March 31, 2012, we had Adjusted EBITDA of $13.2 million representing growth of 61% over the three months ended March 31, 2011. Adjusted Earnings Before Interest, Taxes, Depreciation and Amortization, or Adjusted EBITDA, is a non-generally accepted accounting principle metric used by management to measure our operating performance. See “—Summary Consolidated Historical Operating Data” for an additional description of Adjusted EBITDA and a reconciliation of Adjusted EBITDA to income (loss) from operations.

 

   

For the three months ended March 31, 2012, we processed 310 million user queries for travel information, representing growth of 45% over the three months ended March 31, 2011; and

 

   

KAYAK mobile applications have been downloaded over 15 million times since their introduction in March 2009. For the three months ended March 31, 2012, we had approximately 3 million downloads, representing growth of 43% over the three months ended March 31, 2011.

 

 

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As of June 30, 2012, we had 185 employees, and we had local websites in 15 countries outside the U.S., including the United Kingdom, Germany, France, Spain, Italy and Austria.

 

Our Industry

 

Market Opportunity

 

As a distribution and advertising platform, we participate in both the online travel market and the online travel advertising market.

 

Online Travel: A Large and Growing Market. The travel industry in the U.S., Europe, Latin America and Asia Pacific accounted for $910 billion in global expenditures in 2011, and is projected to increase 6% in 2012. Of this amount, approximately $284 billion, or 31%, was purchased online in 2011 representing a 16% compound annual growth rate, or CAGR, between 2005 and 2011. We believe that travel, with its research and information intensive nature, real time pricing, electronic fulfillment capabilities and thousands of travel options, is well suited for the online channel. Currently, online travel represents the largest category of e-commerce, with total sales exceeding the combined total of electronics, books, software, appliances and collectibles.

 

Key Online Travel Products. The two largest categories of online travel are airline ticket sales and hotel bookings. In 2011, airline ticket sales represented 53% of total online travel purchases, followed by hotel bookings at 26%. Hotel bookings are the fastest growing online travel category and are projected to grow 13% in 2012. Given the significant differentiation among hotels, travelers will typically spend considerable time online researching a hotel stay, making hotel bookings highly suitable for the online channel.

 

Online Travel Advertising: A Large Opportunity to Grow Share of Total Advertising Spend. Travel represents one of the largest advertising categories, with advertisers spending $33 billion globally on travel-related advertising in 2011. Of this amount, only $5 billion, or 16%, was spent online with the remainder being spent primarily on traditional media. We believe that travel advertising will continue to move from offline to online as travel purchases continue to move online. Online travel advertising can also be a more efficient advertising channel, as it enables advertisers to directly target individuals who are researching and planning travel. The online travel advertising market is expected to reach $9 billion by 2015, a CAGR of 14% between 2011 and 2015.

 

Challenges of Our Industry

 

Challenges for Consumers. Travel product pricing and availability change frequently, and information is often fragmented across hundreds of travel sites. Traditional travel websites can be slow and confusing and often lack comprehensive search results. These limitations can make it frustrating for people to find, purchase and manage their travel online. As a result, we believe that travelers continue to search multiple sites for the best prices and options to meet their travel needs.

 

Challenges for Travel Suppliers and OTAs. Travel suppliers and OTAs face two main challenges. One is to distribute their travel products to as many travelers as possible, while still maintaining their brand and owning the customer relationship. In distributing their travel inventory through third party sites, they lose the opportunity to cross sell or upsell additional products and to build brand loyalty. The second challenge they face is to advertise their services to the right audience at the right time, in a cost effective manner. The majority of travel advertising dollars is currently spent in offline media channels, including TV, radio, print and outdoor campaigns. Offline travel advertising can be expensive, and its effectiveness can be difficult to measure and track. Online advertising offers many improvements to traditional advertising, but can still suffer from audience fragmentation, generic advertising placements and complex pricing schemes.

 

 

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Our Strengths

 

We believe that KAYAK offers a better product for consumers, travel suppliers and OTAs.

 

KAYAK Provides a Fast, Intuitive and Comprehensive Travel Planning Experience. We use proprietary software and algorithms to quickly find, consolidate and sort travel information from hundreds of websites. We present these results through an intuitive interface, providing a single place for our users to plan their travel. Once a KAYAK user finds what they want to buy, we give them the flexibility to purchase directly from travel suppliers or OTAs, and in some cases, they can complete their bookings directly through our websites and mobile applications.

 

KAYAK is a Technology-Driven Company Focused on Rapid Innovation and the User Experience. We have invested significant time and resources building a technology platform that delivers the best user experience possible. The majority of our employees are either software engineers or technologists, and we believe we have one of the strongest technology teams in the travel industry. We strive to innovate faster than our competitors, and we release new code to our websites almost every week.

 

KAYAK’s Users are Loyal. We believe that our users are loyal to our brands, products and services. According to a March 2012 study conducted by a market research company on our behalf, KAYAK is a leading brand among the major online travel sites in the U.S. for attributes such as “Finds all the best prices in one place,” “Smarter way to search for travel online” and “Most comprehensive travel site.” In the first three months of 2012, 75% of our query volume was generated from people who directly visited our websites or used our mobile applications, and only 10% of our query volume was generated by users referred to us from general search engines.

 

KAYAK’s Proprietary Distribution and Advertising Platform is Optimized for the Travel Industry. We provide travel suppliers and OTAs with access to a valuable audience of people searching for travel information. Our query results include real-time pricing and availability information from travel suppliers and OTAs, from which a user can make a selection and be linked directly into the travel supplier’s or OTA’s purchase process, or in many cases, users may now complete hotel bookings directly through our websites and mobile applications. Our innovative platform allows advertisers to target their placements, create advertising content and link the user to the relevant page on the advertiser’s website, all based on the user’s query parameters.

 

KAYAK’s Unique Business Model is Highly Scalable. We designed our business model and technology platform to be highly scalable and cost efficient. Our software and systems have been designed from inception to handle significant growth in users and queries, without requiring significant re-engineering or major capital expenditures. In addition, we use a combination of our own proprietary software, public domain technologies and tiered pricing arrangements with third-party software providers so that as queries continue to grow, we do not incur proportionately higher software costs. Since all travel products are purchased by our users directly on the travel supplier’s or OTA’s website or through relationships with third party booking and fulfillment providers, we do not incur meaningful costs or overhead associated with fulfillment or customer service for those travel products. We have relatively low fixed operating costs, and the largest component of our variable operating cost is discretionary marketing.

 

The KAYAK Team Has Deep Industry Experience and Focus. Cofounders of Expedia, Travelocity and Orbitz formed KAYAK in 2004. Our team has extensive and longstanding relationships across the travel industry and, unlike general search engine companies, we focus on a single market category—online travel.

 

Our Growth Strategy

 

Continue to Improve and Expand Our Services. We are dedicated to offering people the best online travel planning experience. We will continue to improve and expand our offerings, adding new travel suppliers and

 

 

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OTAs to our query results, improving our search algorithms to enhance the speed and relevance of our query results, making the booking path easier for travelers and adding new features to our websites and mobile applications.

 

Expand Our Booking Path Capabilities. We believe that many consumers would prefer to complete their bookings without having to leave our websites and mobile applications. In March 2011, we added the capability for consumers to make hotel reservations through our U.S. website. We have since introduced this feature on our mobile applications, across other geographies, and on a limited basis, for airline tickets and rental cars. Consumers benefit from a more seamless user experience, and we benefit from an increase in transactions, which generate revenue at a higher average rate per transaction. We intend to further extend this capability for flights and rental cars.

 

Increase Consumer Awareness of Our Brands. We believe there is significant opportunity to increase the number of people who use our websites and mobile applications. In November 2009, we commenced a broad reach marketing program which resulted in our unaided awareness increasing to 32% for the month of March 2012 from 9% as of October 2009. We will continue to invest in broad reach marketing to increase our brand awareness and usage.

 

Grow Our Business Internationally. In 2011, we opened an office in Zurich, Switzerland to serve as headquarters for our European operations. We operate websites in 15 countries outside of the U.S., including Germany, the United Kingdom, France, Spain, Italy and Austria. We believe that the international opportunity for our services is sizable, and we intend to continue to invest in both head count and marketing in 2012 and 2013.

 

Extend our Leadership Position in Mobile Applications. Mobile devices represent an important growth area in both audience and query volume. We have seen rapid adoption of our KAYAK mobile applications. We plan to extend our leadership position in travel-related mobile applications through continued product development to enhance the loyalty to our brand, products and services.

 

Risks Associated with Our Business

 

We are subject to a number of risks, including risks that may prevent us from achieving our business objectives or may adversely affect our business, financial condition, results of operations, cash flows and prospects. You should carefully consider these risks, including all of the risks discussed in the section entitled “Risk Factors,” beginning on page 12 of this prospectus, before investing in our Class A common stock. Risks relating to our business include, among others:

 

   

we may be unable to maintain or establish relationships with travel suppliers and OTAs;

 

   

if travel suppliers or OTAs choose not to advertise with us or choose to reduce or even eliminate the fees they pay us, our financial performance could be materially adversely affected;

 

   

if we do not continue to innovate and provide tools and services that are useful to travelers, and if we are unable to retain or motivate key personnel or hire, retain and motivate qualified personnel we may not remain competitive, and our revenues and operating results could suffer;

 

   

we primarily depend on a single third party to provide our airfare query results;

 

   

competition from general search engine companies and other travel companies could adversely affect us;

 

   

we may be unable to maintain and increase KAYAK brand awareness and preference;

 

   

we have limited international experience and may be limited in our ability to expand into international markets; and

 

 

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as a result of our dual class stock, our management and other affiliates will have significant control over our common stock and could control our actions in a manner that conflicts with the interests of other stockholders.

 

Recent Developments

 

Although our results for the three months ended June 30, 2012 are not yet finalized, the following information reflects our expectations with respect to such results based on currently available information.

 

   

For the three months ended June 30, 2012, we expect to report $74.5 – $76.0 million of revenues, representing growth of 31% – 34% over the three months ended June 30, 2011. Revenue growth was driven primarily by an increase in user queries for travel information.

 

   

For the three months ended June 30, 2012, we expect to report income from operations of $13.4 – $14.4 million, representing growth of 133% – 151% over the three months ended June 30, 2011. These expected higher profits are the result of our increased revenues, along with better leverage in cost of revenues, marketing and general and administrative expenses, all of which declined as a percentage of revenues.

 

   

For the three months ended June 30, 2012, we expect to have Adjusted EBITDA of $18.3 – $19.3 million, representing growth of 64% – 73% over the three months ended June 30, 2011. Adjusted Earnings Before Interest, Taxes, Depreciation and Amortization, or Adjusted EBITDA, is a non-generally accepted accounting principle metric used by management to measure our operating performance. See “—Summary Consolidated Historical and Operating Data” for an additional description of Adjusted EBITDA and below for a reconciliation of Adjusted EBITDA to income from operations for the ranges presented above for the three months ended June 30, 2012 (estimated) and the three months ended June 30, 2011 (actual).

 

   

For the three months ended June 30, 2012, we processed 304 million user queries for travel information, representing growth of 33% over the three months ended June 30, 2011. We believe that the increase in our queries is primarily due to our investments in marketing, along with a growing loyal customer base.

 

   

For the three months ended June 30, 2012, our mobile applications were downloaded 2.3 million times, representing growth of 40% over the three months ended June 30, 2011.

 

The following table reconciles expected net income from operations to Adjusted EBITDA for the three months ended June 30, 2011 and 2012 and is unaudited:

     June 30, 2012           June 30, 2011  
(in thousands except per share amounts)    Low      High          

 

 
     (unaudited)           (unaudited)  

Income from operations

   $ 13,400       $ 14,400          $ 5,739   

Depreciation and amortization

     2,100         2,100            2,341   

Stock-based compensation

     2,800         2,800            3,054   
  

 

 

    

 

 

       

 

 

 

Adjusted EBITDA

   $ 18,300       $ 19,300          $ 11,134   
  

 

 

    

 

 

       

 

 

 

 

The data presented above reflects our estimates based solely upon information available to us as of the date of this prospectus, is not a comprehensive statement of our financial results or position as of or for the three months ended June 30, 2012, and has not been audited, reviewed or compiled by our independent registered

 

 

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public accounting firm, PricewaterhouseCoopers LLP. Accordingly, PricewaterhouseCoopers LLP does not express an opinion or any other form of assurance with respect thereto. Our actual second quarter results will not be available until after this offering is completed, and may differ materially from these second quarter estimates. Accordingly, you should not place undue reliance upon these preliminary estimates. For example, during the course of the preparation of the respective financial statements and related notes, additional items that would require material adjustments to be made to the preliminary estimated financial information presented above may be identified. There can be no assurance that these estimates will be realized, and estimates are subject to risks and uncertainties, many of which are not within our control. See “Risk Factors” and “Special Note Regarding Forward-Looking Statements”.

 

Corporate Information

 

Our principal executive offices are located at 55 North Water Street, Suite 1, Norwalk, CT 06854 and our telephone number at that address is (203) 899-3100. Our corporate website address is KAYAK.com. We do not incorporate the information contained on, or accessible through, our corporate website into this prospectus, and you should not consider it part of this prospectus. We were originally incorporated in Delaware in 2004 under the name Travel Search Company, Inc. We changed our name to Kayak Software Corporation in August 2004 and to KAYAK Software Corporation in December 2011.

 

Except where the context otherwise requires or where otherwise indicated, references herein to “KAYAK,” “we,” “our” and “us” refer to the operations of KAYAK Software Corporation and its consolidated subsidiaries. Our operations consist primarily of our flagship website KAYAK.com, which is part of a global family of websites that includes KAYAK.co.uk, swoodoo.com and checkfelix.com. We refer to these websites collectively as the KAYAK websites.

 

Market and Industry Data

 

Except as otherwise noted, all industry and market data in this prospectus were derived directly from data estimated and reported by PhoCusWright Inc. (PhoCusWright) or International Data Corporation (IDC), or were estimated by us using such data as the primary source. Industry publications, studies and surveys generally state that they have been prepared from sources believed to be reliable, although they do not guarantee the accuracy or completeness of such information. While we believe that each of these studies and publications is reliable, we have not independently verified such data, or any other industry or market data from third-party sources referenced in this prospectus.

 

Trademarks

 

KAYAK®, swoodooTM, checkfelix.com® and Search One and Done® are our key trademarks and are registered under applicable intellectual property laws. This prospectus contains references to our trademarks and service marks and to those belonging to other entities. Solely for convenience, trademarks and trade names referred to in this prospectus, including logos, artwork and other visual displays, may appear without the ® or TM symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the rights of the applicable licensor to these trademarks and trade names. We do not intend our use or display of other companies’ trade names, trademarks or service marks to imply a relationship with, or endorsement or sponsorship of us by, any other companies.

 

 

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THE OFFERING

 

Class A common stock offered by KAYAK Software Corporation

  

3,500,000 shares

Total Class A common stock to be outstanding after this offering

  

3,808,032 shares

Total Class B common stock to be outstanding after this offering

  

33,864,565 shares

Total common stock outstanding after this offering

  

37,672,597 shares

Over-allotment option of Class A common stock

  

525,000 shares

Concurrent Private Placements

  

Upon the closing of this offering, certain of our existing stockholders will have the right to purchase from us, in a concurrent private placement, up to an aggregate of 352,178 shares of Class A common stock. This right must be exercised, if at all, within five business days of the date on which we consummate the initial public offering.

 

Pursuant to the concurrent private placement automatic adjustment, we have also agreed that we will issue, without further consideration, 308,032 additional shares of Class A common stock to certain of our existing stockholders.

   See “Concurrent Private Placements.”
   We will not pay any underwriting discounts or commissions on the shares issued in these concurrent private placements.

Voting rights

   The holders of Class A common stock generally have rights, including as to dividends, identical to those of holders of Class B common stock, except that holders of Class A common stock are entitled to one vote per share, representing in the aggregate 1.1% of the combined voting power of all classes of voting stock, and holders of Class B common stock are generally entitled to ten votes per share, representing in the aggregate 98.9% of the combined voting power of all classes of voting stock. Holders of the Class A common stock and the Class B common stock generally vote together as a single class, except as required by law. See “Description of Capital Stock—Common Stock—Voting Rights.” The Class B common stock may be converted into Class A

 

 

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   common stock at the option of the holder at any time and shall convert automatically upon certain specified transfers. See “Description of Capital Stock—Common Stock—Conversion.”

Use of proceeds

   While we do not have any current specific plans for the net proceeds resulting from this offering, we expect to use the net proceeds from this offering for working capital and other general corporate purposes. We may also use a portion of the proceeds to expand our current business through acquisitions or investments in other strategic businesses, products or technologies. We have no commitments with respect to any such acquisitions or investments at this time.

Risk Factors

   See “Risk Factors” for a discussion of factors that you should consider carefully before deciding whether to purchase shares of our Class A common stock.

Proposed NASDAQ Global Select Market symbol

  

KYAK.

 

Except as otherwise indicated, all information in this prospectus:

 

   

assumes no exercise of the underwriters’ over-allotment option;

 

   

assumes the conversion of all shares of our common stock, Series A convertible preferred stock, Series A-1 convertible preferred stock, Series B convertible preferred stock, Series B-1 convertible preferred stock, Series C convertible preferred stock and Series D convertible preferred stock, collectively, our convertible preferred stock, outstanding as of June 30, 2012, into an aggregate of 33,864,565 shares of our Class B common stock and conversion of all options and warrants outstanding as of June 30, 2012, into options and warrants to purchase an aggregate of 9,345,896 shares of our Class B common stock; such conversions of preferred stock and preferred stock warrants will occur upon completion of this offering in accordance with the pre-existing terms of our convertible preferred stock and preferred stock warrants, and we will not be repurchasing any of such outstanding shares in connection with this offering;

 

   

assumes the issuance of 308,032 shares of Class A common stock to certain existing stockholders pursuant to the automatic adjustment described under “Concurrent Private Placements.”

 

   

excludes 103,904 shares of Class B common stock issuable upon the exercise of warrants outstanding as of March 31, 2012 and June 30, 2012 with a weighted average exercise price of $13.57 per share;

 

   

excludes shares of Class B common stock issuable upon the exercise of outstanding options, consisting of options to purchase 8,942,265 shares of Class B common stock outstanding as of March 31, 2012, with a weighted average exercise price of $10.65 per share, and options to purchase 9,241,992 shares of Class B common stock outstanding as of June 30, 2012, with a weighted average exercise price of $11.33 per share; 

 

   

excludes 1,100,000 shares of common stock reserved for issuance pursuant to future grants of awards under the 2012 Equity Incentive Plan as of the date of this prospectus;

 

   

excludes 1,300,000 shares of Class B common stock issuable upon exercise of options granted under our Third Amended and Restated 2005 Equity Incentive Plan between July 1, 2012 and the date of this prospectus;

 

 

 

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excludes 13,333 shares of Class B common stock issued upon the exercise of stock options between July 1, 2012 and the date of this prospectus; and

 

   

excludes the issuance of up to 352,178 shares of Class A common stock pursuant to the private placement purchase rights described under “Concurrent Private Placements.”

 

Unless indicated otherwise all references to “common stock” for periods after completion of this offering refer to our Class A common stock and Class B common stock on an aggregate basis.

 

 

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SUMMARY CONSOLIDATED HISTORICAL AND OPERATING DATA

 

The following summaries of our consolidated financial and operating data for the periods presented should be read in conjunction with “Selected Consolidated Financial and Operating Data,” “Capitalization,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes included elsewhere in this prospectus. The summary consolidated statements of operations data for the three-month periods ended March 31, 2011 and 2012, and the summary consolidated balance sheet data as of March 31, 2012 have been derived from our unaudited interim consolidated financial statements included elsewhere in this prospectus. In the opinion of management, the unaudited interim consolidated financial statements have been prepared on the same basis as the audited consolidated financial statements and include all adjustments necessary for the fair presentation of our financial position and results of operations for these periods. The summary consolidated statements of operations data for the years ended December 31, 2009, 2010, and 2011, have been derived from our audited financial statements included elsewhere in this prospectus. The historical results presented below are not necessarily indicative of the results to be expected for any future period.

 

(in thousands except share and per share amounts)   Years ended December 31,     Three Months ended
March 31,
 

Consolidated Statements of Operating Data:

  2009     2010     2011     2011     2012  

Revenues

  $ 112,698      $ 170,698      $ 224,534      $
52,674
  
  $
73,338
  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues (excludes depreciation and amortization)

    15,362        15,630        18,598       
4,945
  
    5,185   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Selling, general and administrative expenses:

         

Marketing

    57,389        91,721        111,018       
28,457
  
    41,249   

Personnel

    22,638        29,764        40,785       
10,039
  
    11,913   

Other general and administrative expenses

    6,568        9,967        16,400        4,217        4,832   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total selling, general and administrative expenses (excludes depreciation and amortization)

    86,595        131,452       
168,203
  
    42,713        57,994   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Depreciation and amortization

    5,380        6,821        8,486        2,061        2,050   

Impairment of intangible assets(1)

    —          —          14,980        14,980        —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from operations

    5,361        16,795        14,267       
(12,025

    8,109   

Other income (expense)

    (1,225     3,357        2,117       
632
  
    (175

Income tax expense (benefit)

    (2,776     12,120        6,681        (4,479     3,789   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

  $ 6,912      $ 8,032      $ 9,703      $
(6,914

  $
4,145
  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) per common share (after redeemable convertible preferred stock dividends)

         

Basic

  $ (0.92   $ (0.57   $ (0.28   $
(1.33

  $ 0.17   

Diluted

  $ (0.92   $ (0.57   $ (0.28   $
(1.33

  $
0.11
  

Weighted average shares outstanding:

         

Basic

    5,223,187        6,463,639        7,309,202       
7,397,372
  
    7,037,280   

Diluted

    5,223,187        6,463,639        7,309,202        7,397,372        37,331,889   

Unaudited pro forma:(2)

         

Net income per common share:

         

Basic

      $ 0.28        $ 0.12   

Diluted

      $ 0.26        $ 0.11   

Weighted average common shares:

         

Basic

        34,076,858          33,804,936   

Diluted

        37,740,386          37,331,889   

Other Data:

         

Adjusted EBITDA (3)

  $ 16,188      $ 32,119      $ 50,160      $
8,153
  
  $
13,157
  

Capital expenditures

  $ 2,269      $ 2,273      $ 4,260      $
491
  
  $ 500   

Queries (4)

    458,594        634,319        898,573       
214,219
  
   
310,315
  

 

 

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Consolidated Balance Sheet Data:

     
    March 31,
2012
    Pro Forma at
March 31,
2012(2)
    Pro Forma
as Adjusted(5)
 
    (unaudited)  

Cash and cash equivalents

  $ 35,385      $ 35,385      $ 118,881  

Working capital

    73,648        73,648        154,438   

Total assets

    291,948        291,948        372,738   

Total liabilities

    37,695        37,695        37,695   

Redeemable convertible preferred stock

    250,430        —          —     

Total stockholders’ equity (deficit)

    3,823        254,253        335,043  

 

  (1)   In January 2011, we determined that we would not support two brand names and URLs in the United States and decided that we would migrate all traffic from sidestep.com to KAYAK.com. As a result, our SideStep brand name and URL intangible assets were impaired, and we incurred a related write-down of $15.0 million in the first three months of 2011.
  (2)   The pro forma balances give effect to the conversion of all outstanding shares of our common stock and our redeemable convertible preferred stock into 33,805,623 shares of our Class B common stock.
  (3)   Earnings Before Interest, Taxes, Depreciation and Amortization, or EBITDA, is a metric used by management to measure operating performance. Adjusted EBITDA represents EBITDA excluding the impact of stock-based compensation expense and other income (expense), net. We present Adjusted EBITDA as a supplemental performance measure because we believe it facilitates operating performance comparisons from period to period and company to company by backing out potential differences caused by variations in capital structures (affecting other income (expense), net), tax positions (such as the impact on periods or companies of changes in effective tax rates), the age and book depreciation of fixed assets (affecting relative depreciation expense), the impact of acquisitions and the impact of stock-based compensation expense. Because Adjusted EBITDA facilitates internal comparisons of operating performance on a more consistent basis, we also use Adjusted EBITDA in measuring our performance relative to that of our competitors. Adjusted EBITDA is not a measurement of our financial performance under GAAP and should not be considered as an alternative to net income, operating income or any other performance measures derived in accordance with GAAP or as an alternative to cash flow from operating activities as a measure of our profitability or liquidity. We understand that although Adjusted EBITDA is frequently used by securities analysts, lenders and others in their evaluation of companies, Adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation, or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:
   

Adjusted EBITDA does not reflect our cash expenditures or future requirements for capital expenditures or contractual commitments;

   

Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;

   

although depreciation is a non-cash charge, the assets being depreciated will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements; and

   

other companies in our industry may calculate Adjusted EBITDA differently than we do, limiting its usefulness as a comparative measure.

 

The following table reconciles income (loss) from operations to Adjusted EBITDA for the periods presented and is unaudited:

 

     Years ended December 31,     Three Months
ended March 31,
 
     2009     2010     2011     2011     2012  

Income from operations

   $ 5,361      $ 16,795      $ 14,267      $ (12,025   $ 8,109   

Other income (expense), net

     (1,346     3,250        2,006       
611
  
   
(196

Depreciation and amortization

     5,380        6,821        8,486        2,061        2,050   

Impairment of intangible assets(1)

     —          —          14,980        14,980        —     
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

EBITDA

     9,395        26,866        39,739       
5,627
  
   
9,963
  

Stock-based compensation expense

     5,447        8,503        12,427        3,137        2,998   

Other (income) expense, net

     1,346        (3,250     (2,006     (611     196   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA

   $ 16,188      $ 32,119      $ 50,160      $ 8,153      $ 13,157   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
  (4)   Queries refer to user requests for travel information we process through our websites and mobile applications.
  (5)   Pro forma as adjusted basis reflects: (i) pro forma basis conversions as described above, (ii) the sale by us of 3,500,000 shares of Class A common stock in this offering and our receipt of the estimated net proceeds from that sale, based on the public offering price of $26.00 per share, and after deducting underwriting discounts and commissions and estimated offering expenses payable by us and (iii) the filing of our amended and restated certificate of incorporation.

 

 

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RISK FACTORS

 

Risks Related to Our Business and Industry

 

We may be unable to maintain or establish relationships with travel suppliers and OTAs, which could limit the information we are able to provide to travelers.

 

Our ability to attract users to our services depends in large part on providing a comprehensive set of query results. To do so, we maintain relationships with travel suppliers and OTAs to include their data in our query results. The loss of existing relationships with travel suppliers or OTAs, or an inability to continue to add new ones, may cause our query results to provide incomplete pricing, availability and other information important to travelers using our services. This deficiency could reduce traveler confidence in the query results we provide, making us less popular with travelers.

 

With respect to our flight and fare information, the willingness of airlines to participate in our query results can vary by carrier. Historically, Southwest Airlines has chosen not to include its pricing and availability information in our query results and those of other third parties. If we are unable to continue to display travel data from multiple airline carriers, it would reduce the breadth of our query results and the number of travelers using our services could decline, resulting in a loss of revenues and a decline in our operating results.

 

Recently, there have been a number of airline mergers, including the 2008 merger between Delta Air Lines and Northwest Airlines, the 2010 merger between United Airlines and Continental Airlines and the 2011 merger of AirTran Airlines and Southwest Airlines. If one of our airline travel suppliers merges or consolidates with, or is acquired by, another company with which we do not have a relationship, we may lose that airline as a participant in our query results or as an advertiser. We could also lose an airline’s participation in the event of an airline bankruptcy.

 

Approximately 9% of the hotels displayed on our websites are comprised of five hotel chains. A loss of any one of these brand name hotel chains as a travel supplier, or a loss of any one of these chains as a provider of travel information to OTAs, could have a negative impact on our business, results of operations and financial condition.

 

In addition, many of our agreements with travel suppliers and OTAs are short-term agreements that may be terminated on 30 days’ notice. We cannot guarantee that travel suppliers and OTAs will continue to work with us. We may also be unable to negotiate access, pricing or other terms that are consistent or more favorable than our current terms. A failure to retain current terms or obtain more favorable terms with our travel suppliers and OTAs could harm our business and operating results.

 

If travel suppliers or OTAs choose not to advertise with us, or choose to reduce or even eliminate the fees they pay us, our financial performance could be materially adversely affected.

 

Our current financial model depends almost entirely on fees paid by travel suppliers and OTAs for referrals from our query results and advertising placements. Since we do not have long-term contracts with most of the travel suppliers or OTAs who use our services, these travel suppliers or OTAs could choose to modify or discontinue their relationship with us with little to no advance notice to us. These changes may include a cessation in the provision of travel data to us, or a reduction in, or elimination of, our compensation.

 

During the three months ended March 31, 2012, our top ten travel suppliers and OTAs accounted for approximately 63% of our total revenues. In particular, for the three months ended March 31, 2012, Expedia and its affiliates, including its Hotels.com and Hotwire subsidiaries, accounted for 23% of our total revenues. Also during this period, each of Priceline and Orbitz and its affiliates, including its CheapTickets, HotelClub and ebookers subsidiaries, accounted for 10% of our total revenues. If our relationship with any of our top travel suppliers or OTAs were to end or otherwise be materially reduced, our revenues and operating results could experience significant decline.

 

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If we do not continue to innovate and provide tools and services that are useful to travelers, we may not remain competitive, and our revenues and operating results could suffer.

 

Our success depends on continued innovation to provide features and services that make our websites and mobile applications useful for travelers. Our competitors are constantly developing innovations in online travel-related services and features. As a result, we must continue to invest significant resources in research and development in order to continually improve the speed, accuracy and comprehensiveness of our services. If we are unable to continue offering innovative products and services, we may be unable to attract additional users or retain our current users, which could adversely affect our business, results of operations and financial condition.

 

We primarily depend on a single third party to provide our airfare query results, and a loss of this provider could limit our ability, or make it more difficult for us, to provide travelers with accurate flight information.

 

We license faring engine software from ITA Software, Inc., or ITA, under an agreement which expires on December 31, 2013. This faring engine software directly provided approximately 39% of our overall airfare query results for the first four months of 2012. Additionally, 16% of our overall airfare query results during such period were obtained from other sources which, in turn, utilized the ITA faring engine software. We have invested significant time and resources to develop proprietary software and practices to optimize the output from ITA’s software for our websites and mobile applications. In addition, we believe that alternative faring engine solutions currently do not provide the level of comprehensiveness and accuracy that ITA’s software provides.

 

Airline travel queries accounted for approximately 86% of the queries performed on our websites and mobile applications for the three months ended March 31, 2012, and distribution revenues from airline queries represented approximately 24% of our revenues for the three months ended March 31, 2012. We anticipate domestic airfare queries will continue to represent a significant portion of our overall queries for the foreseeable future. Thus, a loss of access to ITA’s software or enhancements or improvements to the software, or an adverse change in our costs associated with use of the ITA software, could have a significant negative effect on the comprehensiveness and/or speed of our query results, and on our revenues and operating results. Moreover, we believe that a significant number of travelers who use our websites and mobile applications for our non-air travel services first come to our site to conduct queries for airfare, and accordingly a loss, disruption or other negative impact on our airfare query results could also result in a significant decline in the use of, and financial performance of, our query services for non-air travel queries.

 

In the event we are not offered access to Google’s enhancements of or replacements to ITA software at competitive prices or at all, our ability to compete and operate our business effectively, and our financial performance, may be materially adversely affected.

 

On April 8, 2011, Google, Inc., or Google, entered into a consent decree agreeing to conditions on Google’s acquisition of ITA, and Google subsequently completed its acquisition of ITA. The consent decree stated Google’s intent to offer an online travel search product and Google has since launched hotel and flight search tools and services that directly compete with the tools and services we offer. Google’s flight search offering includes significantly increased speed on return of search results and, in the future, may include other enhancements or improvements in performance of the ITA software which may not be made available to us. Although the consent decree will provide us with the right to renew our existing ITA agreement on the same terms until October 2016, if ITA or Google limit our access to the ITA software or any improvements to the software, separately develop replacement software to which they claim we are not entitled or increase the price we pay for any improvements or replacement software and we are unable to replace ITA’s software with a comparable technology, we may be unable to operate our business effectively and our financial performance may suffer.

 

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Competition from general search engine companies could adversely affect us by reducing traffic to our website and mobile applications and by creating a competitive product that people choose over KAYAK when searching for travel online.

 

Large, established Internet search engines with substantial resources and expertise in developing online commerce and facilitating Internet traffic are creating, and are expected to create further, inroads into online travel, both in the U.S. and internationally. For example, in addition to its acquisition of ITA, Google has launched a travel search offering that displays hotel and airfare information and rates to travelers. Moreover, Microsoft acquired one of our competitors, Farecast.com, in 2008 and relaunched it as Bing Travel, a travel search engine which not only allows users to search for airfare and hotel reservations but also purports to predict the best time to purchase. These initiatives appear to represent a clear intention by Google and Microsoft to appeal more directly to travel consumers and travel suppliers by providing more specific travel-related search results, which could lead to more travelers using services offered by Google or Bing instead of those offered on our websites and mobile applications. For example, Google has launched the ability for users of its website to search for hotel and airfare pricing and availability, and as Google integrates such offerings with other Google services such as Google maps and weather information, then the number of users that visit our websites and our ability to attract advertising dollars could be negatively impacted. According to Experian Hitwise, in September 2010, approximately 30% of traffic to travel-related websites began with Google. Google or other leading search engines could choose to direct general searches on their respective websites to their own travel search service and/or materially improve search speed through hardware investments, which also could negatively impact the number of users that visit our websites and our ability to attract advertising dollars. If Google or other leading search engines are successful in offering services that directly compete with ours, we could lose traffic to our websites and mobile applications, which could have a material adverse effect on our business, results of operations and financial condition.

 

We may be unable to maintain and increase brand awareness and preference, which could limit our ability to maintain our current financial performance or achieve additional growth.

 

We rely heavily on the KAYAK brand. In our international markets we also rely on swoodoo and our other brands. Awareness, perceived quality and perceived differentiated attributes of our brands are important aspects of our efforts to attract and expand the number of travelers who use our websites and mobile applications. Since many of our competitors have more resources than we do, and can spend more advertising their brands and services, we are required to spend considerable money and other resources to preserve and increase our brand awareness. Should the competition for top-of-mind awareness and brand preference increase among online travel services, we may not be able to successfully maintain or enhance the strength of our brand. Even if we are successful in our branding efforts, such efforts may not be cost effective. If we are unable to maintain or enhance traveler and advertiser awareness of our brand cost effectively, our business, results of operations and financial condition would be adversely affected.

 

In November 2009, we began a broad-reach marketing campaign that included television commercials and signage advertising in major U.S. airports. We do not know if continued marketing investments will result in new or additional travelers visiting our websites or using our mobile applications. If we are unable to recover these additional costs through an increase in the number of travelers using our services, or if we discontinue our broad-reach campaign, we will likely experience a decline in our financial results.

 

We have registered domain names for websites that we use in our business, such as KAYAK.com, KAYAK.co.uk, swoodoo.com and checkfelix.com. If we lose the ability to use a domain name, we would be forced to incur significant expenses to market our services under a new domain name, which could substantially harm our business. In addition, our competitors could attempt to capitalize on our brand recognition by using domain names similar to ours. Domain names similar to ours have been registered in the U.S. and elsewhere, and in some countries the top level domain name “KAYAK” is owned by other parties. We may be unable to prevent third parties from acquiring and using domain names that infringe on, are similar to, or otherwise decrease the

 

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value of, our brand or our trademarks or service marks. Protecting and enforcing our rights in our domain names and determining the rights of others may require litigation, which could result in substantial costs and diversion of management attention.

 

Competition from other travel companies could result in a decrease in the amount and types of travel information we display, a loss of travelers using our products and services and a decrease in our financial performance.

 

We operate in the highly competitive online travel category. Many of our current and potential competitors, including general search engines, OTAs, travel supplier websites and other travel websites, have existed longer and have larger customer bases, greater brand recognition and significantly greater financial, marketing, personnel, technical and other resources than KAYAK. Some of these competitors may be able to secure services on more favorable terms. In addition, many of these competitors may be able to devote significantly greater resources to:

 

   

marketing and promotional campaigns;

 

   

attracting and retaining key employees;

 

   

securing participation of travel suppliers and access to travel information, including proprietary or exclusive content;

 

   

website and systems development; and

 

   

enhancing the speed at which their services return user search results.

 

In addition, consolidation of travel suppliers and OTAs could limit the comprehensiveness of our query results and the need for our services and could result in advertisers terminating their relationships with us.

 

Increased competition could result in reduced operating margins and loss of market share. 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.

 

Changes in general search engine algorithms and dynamics or termination of traffic-generating arrangements could result in a decrease in the number of people directed to our websites.

 

We use Internet search engines, principally through the purchase of travel-related keywords, to generate traffic to our websites. The purchase of travel-related keywords consists of anticipating what words and terms consumers will use to search for travel on general search engines and then bidding on those words and terms in the applicable search engine’s auction system. We bid against other advertisers for preferred placement on the applicable general search engine’s results page. Approximately 10% of our user queries during the three months ended March 31, 2012, resulted from searches initially entered on general search engine websites. Search engines, such as Google, frequently update and change the logic which determines the placement and ordering of results of a user’s search, which may reduce the effectiveness of the keywords we have purchased. If a major search engine, such as Google, changes its algorithms in a manner that negatively affects the search engine ranking of our websites, or changes its pricing, operating or competitive dynamics to our disadvantage, our business, results of operations and financial condition could be adversely affected. We also rely to a certain extent on advertisements that we place on websites other than general search engines. Approximately 6% of our user queries during the three months ended March 31, 2012 resulted from these traffic-generating arrangements. A loss of one or more of these traffic-generating arrangements as an advertising channel could result in fewer people using our services.

 

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We have limited international experience and may be limited in our ability to expand into international markets, which could result in significant costs to us and a limitation on our ability to achieve future financial growth.

 

We operate websites in 15 countries outside of the U.S., and we generated approximately 19% of our net revenues for the three months ended March 31, 2012 from our international operations. With the exception of our managing director for Europe, our senior management team is located in the U.S. and has limited international experience. We believe that international expansion will be important to our future growth, and therefore we currently expect that our international operations will increase. As our international operations expand, we will face increasing risks resulting from operations in multiple countries, including:

 

   

differences and unexpected changes in regulatory requirements and exposure to local economic conditions;

 

   

limits on our ability to enforce our intellectual property rights;

 

   

restrictions on the repatriation of non-U.S. investments and earnings back to the U.S., including withholding taxes imposed by certain foreign jurisdictions;

 

   

requirements to comply with a number of U.S. and international regulations, including the Foreign Corrupt Practices Act;

 

   

uncertainty over our ability to legally enforce our contractual rights; and

 

   

currency exchange rate fluctuations.

 

To the extent we are not able to effectively mitigate or eliminate these risks, our results of operations could be adversely affected. Furthermore, any failure by us to adopt appropriate compliance procedures to ensure that our employees and agents comply with applicable laws and regulations in foreign jurisdictions could result in substantial penalties or restrictions on our ability to conduct business in certain foreign jurisdictions.

 

Some of our plans for expansion include operating in international markets where we have limited operating experience. These markets may have different competitive conditions, traveler preferences and discretionary spending patterns than the U.S. travel market. As a result, our international operations may be less successful than our U.S. operations. Travelers in other countries may not be familiar with our brands, and we may need to build brand awareness in such countries through greater investments in advertising and promotional activity than we originally planned. In addition, we may find it difficult to effectively hire, manage, motivate and retain qualified employees who share our corporate culture. We may also have difficulty entering into new agreements with foreign travel suppliers and OTAs on economically favorable terms.

 

Our failure to manage growth effectively could harm our ability to attract and retain key personnel and adversely impact our operating results.

 

Our culture is important to us. We believe it has been a major contributor to our success. As we grow, however, we may have difficulty maintaining our culture or adapting it sufficiently to meet the needs of our operations. Failure to maintain our culture could negatively impact our operations and business results.

 

We have rapidly and significantly expanded our operations and anticipate expanding further to pursue our growth strategy. Our workforce worldwide has grown from fewer than 35 employees in 2006 to 185 employees and approximately 61 contractors as of June 30, 2012. Such expansion increases the complexity of our business and places a significant strain on our management, operations, technical performance, financial resources and internal control over financial 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 and negatively affect our financial performance and harm our business.

 

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We may not be able to expand our business model beyond providing travelers with travel query results and our attempts to do so could result in significant additional costs to us without a corresponding increase in our revenues.

 

We plan to expand our business model beyond helping travelers search for travel by offering additional services and tools, including assisted booking services through mobile applications and our websites. This growth strategy depends on various factors, including the willingness of travel suppliers and OTAs to participate in our assisted booking services, as well as travelers’ use of these other new services and a willingness to trust us with their personal information. These newly launched services may not succeed, and, even if we are successful, our revenues may not increase. These new services could also increase our operating costs and result in costs that we have not incurred in the past, including customer service.

 

We are dependent on the leisure travel industry and declines in leisure travel or discretionary spending generally could reduce the demand for our services.

 

Our financial prospects are significantly dependent upon leisure travelers using our services. Leisure travel, including leisure airline tickets, hotel room reservations and rental car reservations, is dependent on personal discretionary spending levels. Leisure travel services tend to decline, along with the advertising dollars spent by travel suppliers, during general economic downturns and recessions. The current worldwide economic conditions have led to a general decrease in leisure travel and travel spending, which has negatively impacted the demand for our services.

 

Events beyond our control also may adversely affect the leisure travel industry, with a corresponding negative impact on our business and results of operations. Natural disasters, including hurricanes, tsunamis, earthquakes or volcanic eruptions, as well as other natural phenomena, such as outbreaks of H1N1 influenza (swine flu), avian flu and other pandemics and epidemics, have disrupted normal leisure travel patterns and levels. The leisure travel industry is also sensitive to other events beyond our control, such as work stoppages or labor unrest at any of the major airlines, political instability, regional hostilities, increases in fuel prices, imposition of taxes or surcharges by regulatory authorities, travel related accidents and terrorist attacks, any of which could have an impact on our business and results of operations. Although the September 2001 terrorist attacks in the U.S. occurred before we were formed, those attacks had a dramatic and sustained impact on the leisure travel industry, and any future terrorist attack, whether on a small or large scale, could have a material and negative impact on our business and results of operations.

 

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

 

We believe our success has depended, and continues to depend, on the efforts and talents of our senior management and our highly skilled team members, including our software engineers. Our future success depends on our continuing ability to attract, develop, motivate and retain highly qualified and skilled employees. The loss of any of our senior management or key employees could materially adversely affect our ability to build on the efforts they have undertaken and to execute our business plan, and we may not be able to find adequate replacements. In particular, the contributions of certain key senior management in the U.S. are critical to our overall success. We cannot ensure that we will be able to retain the services of any members of our senior management or other key employees. We do not maintain any key person life insurance policies.

 

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. Our continued ability to compete effectively depends on our ability to attract new employees and to retain and motivate existing employees. Our software engineers and technology professionals are key to designing code and algorithms necessary to our business. If we do not succeed in attracting well-qualified employees or retaining and motivating existing employees, our business would be adversely affected.

 

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We process, store and use personal data which exposes us to risks of internal and external security breaches and could give rise to liabilities as a result of governmental regulation and differing personal privacy rights.

 

We may acquire personal or confidential information from travelers who use our websites and mobile applications. Substantial or ongoing security breaches to our system, whether resulting from internal or external sources, could significantly harm our business. 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 personal and confidential traveler information.

 

We cannot guarantee that our existing security measures will prevent security breaches or attacks. A party, whether internal or external, that is able to circumvent our security systems could steal traveler information or proprietary information or cause significant interruptions in our operations. In the past we have experienced “denial-of-service” type attacks on our system that have made portions of our website 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 could cause a loss of substantial business volume during the occurrence of any such incident. The risk of such security breaches is likely to increase as we expand the number of places where we operate and as the tools and techniques used in these types of 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 travelers and potential users 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.

 

Companies that we have acquired, 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 improve security and network standards may be time consuming and expensive and may require resources and expertise that are difficult to obtain. Acquisitions could also increase the number of potential vulnerabilities and could cause delays in detection of an attack, or the timelines of recovery from an attack. Failure to adequately protect against attacks or intrusions could expose us to security breaches of, among other things, personal user 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. People generally are concerned with security and privacy on the Internet, and any publicized security problems could inhibit the growth of our business. Additionally, security breaches at third parties upon which we rely, such as travel suppliers, 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.

 

We currently provide users with the option to complete certain hotel bookings directly through our websites and mobile applications. We also currently facilitate the purchase of airlines tickets through our mobile applications and assist users in completing transactions directly with travel suppliers. In connection with facilitating these transactions, we receive and store certain personally identifiable information, including credit card information. This information 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. Government regulation is typically intended to protect the privacy of personal information 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.

 

Litigation could distract management, increase our expenses or subject us to material money damages and other remedies.

 

We are involved in various legal proceedings, including, but not limited to, actions relating to breach of contract and intellectual property infringement that involve claims for substantial amounts of money or for other

 

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relief or that might necessitate changes to our business or operations. Please see the discussion regarding those matters in the section entitled “Business—Legal Proceedings.” Regardless of whether any claims against us are valid, or whether we are ultimately held liable or subject to payment of damages, claims may be expensive to defend and may divert management’s time away from our operations. If any legal proceedings were to result in an unfavorable outcome, it could have a material adverse effect on our business, financial position and results of operations. Any adverse publicity resulting from actual or potential litigation may also materially and adversely affect our reputation, which in turn could adversely affect our results.

 

Companies in the Internet, technology and media industries are frequently subject to allegations of infringement or other violations of intellectual property rights. We are currently subject to several patent infringement claims and may be subject to future claims relating to intellectual property rights. As we grow our business and expand our operations we may be subject to intellectual property claims by third parties. We plan to vigorously defend our intellectual property rights and our freedom to operate our business; however, regardless of the merits of the claims, intellectual property claims are often time-consuming and extremely expensive to litigate or settle, and are 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. 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 we may be required to cease using intellectual property altogether. Many of our agreements with travel suppliers, OTAs and other partners require us to indemnify these entities against third-party intellectual property infringement claims, which would increase our defense costs and may require that we pay damages if there were an adverse ruling in any such claims. Any of these events could have a material adverse effect on our business, results of operations or financial condition.

 

Acquisitions and investments could result in operating difficulties, dilution and other harmful consequences.

 

We have acquired a number of businesses in the past, including our acquisitions of SideStep, Inc., or SideStep, swoodoo AG, or swoodoo, and JaBo Software Vertrieb-und Entwicklung GmbH, or JaBo Software. We expect to continue to evaluate and enter into discussions regarding a wide array of potential strategic transactions. Any transactions that we enter into could be material to our financial condition and results of operations. The process of integrating an acquired company, business or technology may create unforeseen operating difficulties and expenditures. The areas where we face risks include:

 

   

diversion of management time and focus from operating our business to acquisition integration challenges;

 

   

implementation or remediation of controls, procedures and policies at the acquired company;

 

   

coordination of product, engineering and sales and marketing functions;

 

   

retention of employees from the businesses we acquire;

 

   

liability for activities of the acquired company before the acquisition;

 

   

litigation or other claims in connection with the acquired company; and

 

   

in the case of foreign acquisitions, the need to integrate operations across different cultures and languages and to address the particular economic, currency, political and regulatory risks associated with specific countries.

 

Our failure to address these risks or other problems encountered in connection with our past or future acquisitions and investments could cause us to fail to realize the anticipated benefits of such acquisitions or investments, incur unanticipated liabilities and harm our business generally.

 

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The requirements of being a public company may strain our resources and distract our management, which could make it difficult to manage our business, particularly after we are no longer an “emerging growth company”.

 

Following the completion of this offering, we will be required to comply with various regulatory and reporting requirements, including those required by the Securities and Exchange Commission, or the SEC. Complying with these reporting and other regulatory requirements will be time-consuming and will result in increased costs to us and could have a negative effect on our business, results of operations and financial condition.

 

As a public company, we will be subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and requirements of the Sarbanes-Oxley Act of 2002, as amended, or SOX. These requirements may place a strain on our systems and resources. The Exchange Act requires that we file annual, quarterly and current reports with respect to our business and financial condition. The SOX requires that we maintain effective disclosure controls and procedures and internal controls over financial reporting. To maintain and improve the effectiveness of our disclosure controls and procedures, we will need to commit significant resources, hire additional staff and provide additional management oversight. We will be implementing additional procedures and processes for the purpose of addressing the standards and requirements applicable to public companies. Sustaining our growth also will require us to commit additional management, operational and financial resources to identify new professionals to join our firm and to maintain appropriate operational and financial systems to adequately support expansion. These activities may divert management’s attention from other business concerns, which could have a material adverse effect on our business, financial condition, results of operations and cash flows.

 

As an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012 enacted on April 5, 2012, which we refer to as the JOBS Act, we may take advantage of certain temporary exemptions from various reporting requirements including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404 of SOX (and rules and regulations of the SEC thereunder, which we refer to as Section 404) and reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements. In addition, we have elected under the JOBS Act to delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies.

 

When these exemptions cease to apply, we expect to incur additional expenses and devote increased management effort toward ensuring compliance with them. We will remain an “emerging growth company” for up to five years, although we may cease to be an emerging growth company earlier under certain circumstances. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — JOBS Act” for additional information on when we may cease to be an emerging growth company. We cannot predict or estimate the amount of additional costs we may incur as a result of becoming a public company or the timing of such costs.

 

Fluctuations in our financial results make quarterly comparisons and financial forecasting difficult, which could make it difficult to manage our business.

 

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 products distributed through and advertised on our platform. Traditional leisure travel bookings in the U.S. and Europe are generally higher in the second and third calendar quarters of the year as travelers take spring and summer vacations. In the fourth quarter of the calendar year, demand for travel services in the U.S. and Europe generally declines. We have seen and expect to continue to see, that the most significant portion of our revenues will be earned in the second and third quarters. The current state of the global economic environment, combined with the seasonal nature of our business and our relatively limited operating history, makes forecasting future operating results difficult. Because our business is changing and evolving, our historical operating results may not be useful to you in predicting our

 

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future operating results. Advertising spending has historically been cyclical in nature, reflecting overall economic conditions as well as individual travel patterns. Our rapid growth has tended to mask the cyclicality and seasonality of our business. As our growth rate slows, the cyclicality and seasonality in our business will become more pronounced and cause our operating results to fluctuate.

 

Any significant disruption in service on our websites or in our computer systems, which are currently hosted primarily by third-party providers, could damage our reputation and result in a loss of users, which would harm our business and operating results.

 

Our brands, reputation and ability to attract and retain travelers to use our websites and mobile applications depend upon the reliable performance of our network infrastructure and content delivery processes. We have experienced interruptions in these systems in the past, including server failures that temporarily slowed down the performance of our websites and mobile applications, and we may experience interruptions in the future. Interruptions in these systems, whether due to system failures, computer viruses or physical or electronic break-ins, could affect the security or availability of our services on our websites and mobile applications and prevent or inhibit the ability of travelers to access our services. Problems with the reliability or security of our systems could harm our reputation, and damage to our reputation and the cost of remedying these problems could negatively affect our business, financial condition and results of operations.

 

Substantially all of the communications, network and computer hardware used to operate our website are located at facilities in Medford and Somerville, Massachusetts and, with respect to our swoodoo operations, Freiburg, Germany. We do not own or control the operation of these facilities. Our systems and operations are vulnerable to damage or interruption from fire, flood, power loss, telecommunications failure, terrorist attacks, acts of war, electronic and physical break-ins, computer viruses, earthquakes and similar events. The occurrence of any of the foregoing events could result in damage to our systems and hardware or could cause them to fail completely, and our insurance may not cover such events or may be insufficient to compensate us for losses that may occur. Our systems are not completely redundant, so a failure of our system at one site could result in reduced functionality for our travelers, and a total failure of our systems at both U.S. sites could cause our websites or mobile applications to be inaccessible by our travelers. Problems faced by our third-party web hosting providers with the telecommunications network providers with which they contract or with the systems by which they allocate capacity among their customers, including us, could adversely affect the experience of our travelers. Our third-party web hosting providers could decide to close their facilities without adequate notice. Any financial difficulties, such as bankruptcy reorganization, faced by our third-party web hosting providers or any of the service providers with whom they contract may have negative effects on our business, the nature and extent of which are difficult to predict. If our third-party web hosting providers are unable to keep up with our growing needs for capacity, this could have an adverse effect on our business. Any errors, defects, disruptions or other performance problems with our services could harm our reputation and have an adverse effect on our business, financial condition and results of operations.

 

Governmental regulation and associated legal uncertainties could limit our ability to expand our product offerings or enter into new markets and could require us to expend significant resources, including the attention of senior management, to review and comply with such regulations.

 

Many of the services we offer are regulated by federal and state governments, and our ability to provide these services is and will continue to be affected by government 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.

 

In particular, the Department of Transportation, or DOT, regulates the advertising and sale of air transportation. The DOT actively enforces its regulations and recently made significant changes to the regulations and standards that apply to air carriers and ticket agents. While we are neither an air carrier nor a

 

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ticket agent, to the extent we expand our business model in the air transportation area to facilitate bookings, we could become subject to DOT oversight, which would require us to incur significant compliance costs and may require us to change our business practices with respect to the display of airfare and airfare advertising.

 

In addition, our business strategy involves expansion into regions around the world, many of which have different legislation, regulatory environments, tax laws and levels of political stability. 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.

 

We assist with the processing of customer credit card transactions which results in us receiving and storing personally identifiable information. This information is increasingly subject to legislation and regulations in numerous jurisdictions around the world. This legislation and regulation is generally intended to protect the privacy and security of personal information, including credit card information, that is collected, processed and transmitted in or from the governing jurisdiction. We could be adversely affected if government regulations require us to significantly change our business practices with respect to this type of information.

 

If we are not successful in our ongoing arbitration disputes with Orbitz Worldwide, Inc., we may be required to pay money damages and cease offering certain advertising products.

 

We are currently a party to two arbitration disputes with Orbitz Worldwide, Inc., or Orbitz. In the first dispute, Orbitz contends that we violated certain exclusivity provisions by our display of certain core query results. We may be ordered to pay Orbitz damages in connection with certain limited displays, and we may be required to stop displaying certain suppliers, which could adversely impact our total revenues.

 

In the second arbitration, Orbitz contends that we violated our 2009 Promotion Agreement by failing to abide by certain exclusivity provisions relating to the display of certain hotel booking functionality on our websites. If we are not successful in defending against these claims, we may be forced to pay money damages to Orbitz, and we may be required to stop using certain third-party booking and fulfillment providers, which could adversely impact our total revenues.

 

Fluctuations in foreign currency exchange rates affect financial results in U.S. dollar terms and could negatively impact our financial results.

 

A portion of our revenues come from international operations. Revenues generated and expenses incurred by our international subsidiaries are often denominated in local currencies. As a result, our consolidated U.S. dollar financial statements are subject to fluctuations due to changes in exchange rates as the financial results of our international subsidiaries are translated from local currencies into U.S. dollars. Our financial results are subject to changes in exchange rates that impact the settlement of transactions in non local currencies.

 

Risks Related to Our Intellectual Property

 

We may not be able to adequately protect our intellectual property, which could harm the value of our brands and adversely affect our business.

 

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 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 our operations do not, or will not, infringe valid, enforceable third-party patents of third parties or that competitors will not devise new methods of competing with us that are not covered by our patents

 

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or patent applications. There can also be no assurance that our patent applications will be approved, that any patents issued will adequately protect our intellectual property, or that such patents will not be challenged by third parties or found to be invalid or unenforceable or that our patents will be effective in preventing third parties from utilizing a copycat business model to offer the same service in one or more categories. Moreover, we rely on intellectual property and technology developed or licensed by third parties, and we may not be able to obtain or continue to obtain licenses and technologies from these third parties at all or on reasonable terms.

 

Effective trademark, service mark, copyright and trade secret protection may not be available in every country in which our services are provided. The laws of certain countries do not protect proprietary rights to the same extent as the laws of the U.S. and, therefore, in certain jurisdictions, we may be unable to protect our proprietary technology adequately against unauthorized third party copying or use, which could adversely affect our competitive position. 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, even if we have agreements prohibiting such activity. Also to the extent third parties are obligated to indemnify us for breaches of our intellectual property rights, these third parties may be unable to meet these obligations. Any of these events could have a material adverse effect on our business, results of operations or financial condition.

 

Claims by third parties that we infringe their intellectual property rights could result in significant costs and have a material adverse effect on our business, results of operations or financial condition.

 

We are currently subject to various patent infringement claims. These claims allege, among other things, that our website technology infringes upon owned patent technology. If we are not successful in defending ourselves against these claims, we may be required to pay money damages, which could have an adverse effect on our results of operations. In addition, the costs associated with the loss of these claims could have an adverse effect on our results of operations. Please see the discussion regarding these claims in the section entitled “Business—Legal Proceedings.” We may be subject to future claims relating to our intellectual property rights. As we grow our business and expand our operations we expect that we will continue to be subject to intellectual property claims. Resolving intellectual property claims may require us to obtain licenses to use intellectual property rights belonging to third parties, which may be expensive to procure, or we may be required to cease using intellectual property altogether. Any of these events could have a material adverse effect on our business, results of operations or financial condition.

 

Confidentiality agreements with employees and others may not adequately prevent disclosure of trade secrets and other proprietary information.

 

A substantial amount of our processes and technologies is protected by trade secret laws. In order to protect these technologies and processes, we rely in part on confidentiality agreements with our employees, licensees, independent contractors and other advisors. These agreements may not effectively prevent disclosure of confidential information, including trade secrets, and may not provide an adequate remedy in the event of unauthorized disclosure of confidential information. In addition, others may independently discover our trade secrets and proprietary information, and in such cases we could not assert any trade secret rights against such parties. To the extent that our employees, contractors or other third parties with which we do business use intellectual property owned by others in their work for us, disputes may arise as to the rights in related or resulting know-how and inventions. Laws regarding trade secret rights in certain markets in which we operate may afford little or no protection to our trade secrets. The loss of trade secret protection could make it easier for third parties to compete with our products by copying functionality. In addition, any changes in, or unexpected interpretations of, the trade secret and other intellectual property laws in any country in which we operate may compromise our ability to enforce our trade secret and intellectual property rights. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and failure to obtain or maintain trade secret protection could adversely affect our business, revenue, reputation and competitive position.

 

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Our use of “open source” software could adversely affect our ability to offer our services and subject us to possible litigation.

 

We use open source software in connection with our development. From time to time, companies that use open source software have faced claims challenging the use of open source software and/or compliance with open source license terms. We could be subject to suits by parties claiming ownership of what we believe to be open source software, or claiming noncompliance with open source licensing terms. Some open source licenses require users who distribute software containing open source to make available all or part of such software, which in some circumstances could include valuable proprietary code of the user. While we monitor the use of open source software and try to ensure that none is used in a manner that would require us to disclose our proprietary source code or that would otherwise breach the terms of an open source agreement, such use could inadvertently occur, in part because open source license terms are often ambiguous. Any requirement to disclose our proprietary source code or pay damages for breach of contract could be harmful to our business, results of operations or financial condition, and could help our competitors develop products and services that are similar to or better than ours.

 

Risks Related to this Offering and Ownership of Our Class A Common Stock

 

Our securities have no prior market and an active trading market may not develop, which may cause our Class A common stock to trade at a discount from the initial public offering price.

 

Prior to this offering, there has been no public market for our Class A common stock. The initial public offering price for our Class A common stock was determined through negotiations between us and the representatives of the underwriters and may not be indicative of the market price of our Class A common stock after this offering. If you purchase shares of our Class A common stock, you may not be able to resell those shares at or above the initial public offering price. We cannot predict the extent to which investor interest in us will lead to the development of an active trading market on the NASDAQ Global Select Market or otherwise or how liquid that market might become. An active public market for our Class A common stock may not develop or be sustained after the offering. If an active public market does not develop or is not sustained, it may be difficult for you to sell your shares of Class A common stock at a price that is attractive to you, or at all.

 

Our stock price may be volatile or may decline regardless of our operating performance, and you may not be able to resell your shares at or above the initial public offering price and the price of our Class A common stock may fluctuate significantly.

 

After this offering, the market price for our Class A common stock is likely to be volatile, in part because our shares have not been traded publicly. In addition, the market price of our Class A common stock may fluctuate significantly in response to a number of factors, most of which we cannot control, including:

 

   

traveler preferences and competition from other travel sites;

 

   

changes in general economic or market conditions or trends in our industry or the economy as a whole and, in particular, in the leisure travel environment;

 

   

changes in key personnel;

 

   

entry into new geographic markets;

 

   

actions and announcements by us or our competitors or significant acquisitions, divestitures, strategic partnerships, joint ventures or capital commitments;

 

   

changes in operating performance and stock market valuations of other Internet companies;

 

   

investors’ perceptions of our prospects and the prospects of the online travel industry;

 

   

fluctuations in quarterly operating results, as well as differences between our actual financial and operating results and those expected by investors;

 

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the public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC;

 

   

announcements relating to litigation;

 

   

guidance, if any, that we provide to the public, any changes in this guidance or our failure to meet this guidance;

 

   

changes in financial estimates or ratings by any securities analysts who follow our Class A common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our Class A common stock;

 

   

the development and sustainability of an active trading market for our Class A common stock;

 

   

future sales of our Class A common stock by our officers, directors and significant stockholders; and

 

   

changes in accounting principles.

 

These and other factors may lower the market price of our Class A common stock, regardless of our actual operating performance. As a result, our Class A common stock may trade at prices significantly below the initial public offering price.

 

The stock markets, including the NASDAQ Global Select Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many Internet companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources and the attention of management could be diverted from our business.

 

Future sales of our Class A common stock, or the perception in the public markets that these sales may occur, may depress our stock price.

 

Sales of substantial amounts of our Class A common stock in the public market after this offering, or the perception that these sales could occur, could adversely affect the price of our Class A common stock and could impair our ability to raise capital through the sale of additional shares. Upon completion of this offering, we will have approximately 3,808,032 shares of Class A common stock outstanding, including the shares of Class A common stock issuable pursuant to the automatic adjustment, and approximately 33,864,565 shares of Class B common stock outstanding, and there will be approximately 33,864,565 shares of Class A common stock issuable upon conversion of such outstanding shares of Class B common stock. In addition, certain of our existing stockholders have the right to purchase additional shares of Class A common stock based on the initial public offering price as described under “Concurrent Private Placements.” Our shares of Class A common stock offered in this offering will be freely tradable without restriction under the Securities Act, except for any shares of our Class A common stock that may be held or acquired by our directors, executive officers and other affiliates, as that term is defined in the Securities Act, which will be restricted securities under the Securities Act. Restricted securities may not be sold in the public market unless the sale is registered under the Securities Act or an exemption from registration is available.

 

KAYAK, each of our officers, directors and substantially all of our other existing stockholders have agreed with the underwriters, subject to certain exceptions, not to dispose of or hedge any of the shares of our common stock or securities convertible into or exchangeable for shares of our common stock during the period from the date of this prospectus continuing through the date 180 days after the date of this prospectus, without the prior written consent of Morgan Stanley & Co. LLC, or Morgan Stanley. Collectively, the holders of our securities subject to these restrictions own approximately 33,702,796 shares of our Class B common stock and 308,032 shares of our Class A common stock, representing approximately 90.3% of our outstanding common stock, after giving effect to the offering and to the issuance of Class A common stock pursuant to the automatic adjustment. See “Underwriters” for a more detailed description of the terms of these “lock-up” arrangements. All of our

 

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shares of Class A common stock outstanding as of the date of this prospectus, and all of our shares of Class A common stock issuable upon conversion of the shares of Class B common stock outstanding as of the completion of this offering, may be sold in the public market by existing stockholders 180 days after the date of this prospectus, subject to applicable volume and other limitations imposed under federal securities laws. As a result, assuming that we issue and sell 3,500,000 shares of our Class A common stock in this offering and there are no further issuances of our securities, other than the issuance of 308,032 shares of Class A common stock pursuant to the automatic adjustment as part of the concurrent private placements, the holders of our securities subject to these restrictions will be entitled to sell approximately 90.3% of our total common stock 180 days after the date of this prospectus. See “Shares Eligible for Future Sale” for a more detailed description of the restrictions on selling shares of our common stock after this offering. Sales by our existing stockholders of a substantial number of shares in the public market, or the threat of a substantial sale, could cause the market price of our Class A common stock to decrease significantly.

 

In the future, we may also issue our securities in connection with investments or acquisitions. The amount of shares of our Class A common stock issued in connection with an investment or acquisition could constitute a material portion of our then-outstanding shares of our Class A common stock. Any issuance of additional securities in connection with investments or acquisitions may result in additional dilution to you.

 

If securities or industry analysts do not publish research or publish inaccurate or unfavorable research about our business, our stock price and trading volume could decline.

 

The trading market for our Class A common stock will depend in part on the research and reports that securities or industry analysts publish about us or our business. We do not currently have and may never obtain research coverage by securities and industry analysts. If no securities or industry analysts commence coverage of our company, the trading price for our Class A common stock would be negatively impacted. If we obtain securities or industry analyst coverage and if one or more of the analysts who cover us downgrades our Class A common stock or publishes inaccurate or unfavorable research about our business, our stock price would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which could cause our stock price and trading volume to decline.

 

Our internal controls over financial reporting may not be effective and our independent registered public accounting firm may not be able to certify as to their effectiveness, which could have a significant and adverse effect on our business and reputation.

 

We are not currently required to comply with SEC rules that implement Sections 302 and 404 of SOX, and are therefore not required to make a formal assessment of the effectiveness of our internal controls over financial reporting for that purpose. However, at such time as Section 302 is applicable to us, which we expect to occur immediately following effectiveness of this registration statement, we will be required to evaluate our internal controls over financial reporting. Furthermore, at such time as we cease to be an “emerging growth company”, as more fully described in these Risk Factors, we shall also be required to comply with Section 404. At such time, we may identify material weaknesses that we may not be able to remediate in time to meet the applicable deadline imposed upon us for compliance with the requirements of Section 404. In addition, if we fail to achieve and maintain the adequacy of our internal controls, as such standards are modified, supplemented or amended from time to time, we may not be able to ensure that we can conclude on an ongoing basis that we have effective internal controls over financial reporting in accordance with Section 404. We cannot be certain as to the timing of completion of our evaluation, testing and any remediation actions or the impact of the same on our operations. If we are not able to implement the requirements of Section 404 in a timely manner or with adequate compliance, our independent registered public accounting firm may issue an adverse opinion due to ineffective internal controls over financial reporting and we may be subject to sanctions or investigation by regulatory authorities, such as the SEC. As a result, there could be a negative reaction in the financial markets due to a loss of confidence in the reliability of our financial statements. In addition, we may be required to incur costs in improving our internal control system and the hiring of additional personnel. Any such action could negatively affect our results of operations and cash flows.

 

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We are an “emerging growth company” and we cannot be certain if the reduced disclosure requirements applicable to emerging growth companies will make our common stock less attractive to investors.

 

We are an “emerging growth company,” as defined in the JOBS Act, and we may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies” including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404 and reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements. In addition, we have elected under the JOBS Act to delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies. As a result, our financial statements may not be comparable to the financial statements of issuers who are required to comply with the effective dates for new or revised accounting standards that are applicable to public companies. We cannot predict if investors will find our Class A common stock less attractive if we rely on these exemptions. If some investors find our Class A common stock less attractive as a result, there may be a less active trading market for our Class A common stock and our stock price may be more volatile.

 

Our management and other affiliates have significant control of our common stock and could control our actions in a manner that conflicts with the interests of other stockholders.

 

After giving effect to the offering, our Class B common stock will have ten votes per share and our Class A common stock, which is the stock we are selling in this offering, will have one vote per share. We anticipate that our executive officers, directors and their affiliated entities together will beneficially own approximately 72.01% of our common stock, representing approximately 78.35% of the voting power of our outstanding capital stock, assuming the exercise of options, warrants and other common stock equivalents which are currently exercisable and held by these stockholders and further assuming no exercise of the underwriters’ over-allotment option. In addition, because of this dual class structure, our executive officers, directors and their affiliated entities will continue to be able to control all matters submitted to our stockholders for approval even if they come to own less than 50% of the outstanding shares of our common stock. As a result, these stockholders, acting together, will be able to exercise considerable influence over matters requiring approval by our stockholders, including the election of directors, and may not always act in the best interests of other stockholders. Such a concentration of ownership may have the effect of delaying or preventing a change in our control, including transactions in which our stockholders might otherwise receive a premium for their shares over then current market prices.

 

We do not expect to pay any cash dividends for the foreseeable future.

 

The continued operation and growth of our business will require substantial cash. Accordingly, we do not anticipate that we will pay any cash dividends on shares of our Class A common stock for the foreseeable future. Any determination to pay dividends in the future will be at the discretion of our board of directors and will depend upon our results of operations, financial condition, contractual restrictions relating to indebtedness we may incur, restrictions imposed by applicable law and other factors our board of directors deems relevant. Accordingly, if you purchase shares in this offering, realization of a gain on your investment will depend on the appreciation of the price of our Class A common stock, which may never occur. Investors seeking cash dividends in the foreseeable future should not purchase our Class A common stock.

 

Antitakeover provisions in our charter documents and Delaware law might discourage or delay acquisition attempts for us that you might consider favorable.

 

Our amended and restated certificate of incorporation and amended and restated by-laws to be in effect upon completion of this offering will contain provisions that may make the acquisition of us more difficult without the approval of our board of directors. These provisions, among other things:

 

   

authorize the issuance of undesignated preferred stock, the terms of which may be established and the shares of which may be issued without stockholder approval, and which may include supermajority

 

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voting, special approval, dividend or other rights or preferences superior to the rights of the holders of common stock;

 

   

prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders;

 

   

provide that only the chairperson of our board of directors, chief executive officer or a majority of the board of directors may call a special meeting of stockholders;

 

   

provide that our board of directors is expressly authorized to make, alter or repeal our amended and restated by-laws;

 

   

provide that vacancies on our board of directors may be filled only by a majority of directors then in office, even though less than a quorum; and

 

   

establish advance notice requirements for nominations for elections to our board of directors or for proposing matters that can be acted upon by stockholders at stockholder meetings.

 

These antitakeover provisions and other provisions under Delaware law may prevent new investors from influencing significant corporate decisions, could discourage, delay or prevent a transaction involving a change-in-control, even if doing so would benefit our stockholders. These provisions could also discourage proxy contests and make it more difficult for you and other stockholders to elect directors of your choosing and to cause us to take other corporate actions you desire.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

This prospectus, including the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” contains forward-looking statements concerning our business, operations and financial performance and condition as well as our plans, objectives and expectations for our business operations and financial performance and condition. Any statements that are not of historical facts may be deemed to be forward-looking statements. You can identify these statements by words such as “aim,” “anticipate,” “assume,” “believe,” “could,” “due,” “estimate,” “expect,” “goal,” “intend,” “may,” “objective,” “plan,” “potential,” “positioned,” “predict,” “should,” “target,” “will,” “would” and other similar expressions or words that convey uncertainty of future events or outcomes to identify these forward-looking statements. These statements are not guarantees of future performance or development and involve known and unknown risks, uncertainties and other factors that are in some cases beyond our control. All of our forward-looking statements are subject to risks and uncertainties that may cause our actual results to differ materially from our expectations. Factors that may cause such differences include, but are not limited to, the risks described under “Risk Factors,” including:

 

   

our ability to maintain or establish relationships with travel suppliers and OTAs;

 

   

our ability to remain competitive by continuing to innovate and provide tools and services that are useful to travelers;

 

   

our dependence on a single third party to provide our airfare query results;

 

   

competition from general search engines and other travel companies;

 

   

impact on us of changes in general search engine algorithms of major search engines, such as Google, or termination of our advertising arrangements with other travel-related websites;

 

   

our ability to maintain and increase brand awareness;

 

   

our ability to expand our business model beyond providing travelers with travel search results;

 

   

limitations on our ability to expand into and operate in international markets;

 

   

sensitivity of the leisure travel industry to general economic downturns and recessions, natural disasters and other natural phenomena;

 

   

our dependence upon key executive management or our ability to hire or retain additional personnel;

 

   

failure of our security measures to prevent internal or external security breaches of personal data processed, stored or used by us;

 

   

impact of litigation in which we currently are, or in the future may be, a party;

 

   

any significant disruption in service on our website or in our computer systems, which are currently hosted primarily by third-party providers;

 

   

governmental regulation and associated legal uncertainties;

 

   

our ability to adequately protect our intellectual property rights;

 

   

failure of our confidentiality agreements to effectively prevent disclosure of confidential information, including trade secrets, and to provide an adequate remedy in the event of unauthorized disclosure of confidential information; and

 

   

increased strains on our resources of being a public company.

 

We derive many of our forward-looking statements from our own operating budgets and forecasts, which are based upon many detailed assumptions. While we believe that our assumptions are reasonable, we caution that it is very difficult to predict the impact of known factors, and it is impossible for us to anticipate all factors that could affect our actual results. Important factors that could cause actual results to differ materially from our expectations, or cautionary statements, are disclosed under “Risk Factors” and “Management’s Discussion and

 

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Analysis of Financial Condition and Results of Operations” in this prospectus. All written and oral forward-looking statements attributable to us, or persons acting on our behalf, are expressly qualified in their entirety by the cautionary statements contained in this prospectus as well as other cautionary statements that are made from time to time in our other SEC filings and public communications. You should evaluate all forward-looking statements made in this prospectus in the context of these risks and uncertainties.

 

This prospectus also contains estimates and other statistical data made by independent parties and by us relating to market size and growth and other data about our industry. We obtained the industry and market data in this prospectus from our own research as well as from industry and general publications, surveys and studies conducted by third parties, some of which may not be publicly available. This data involves a number of assumptions and limitations and contains projections and estimates of the future performance of the industries in which we operate that are subject to a high degree of uncertainty. We caution you not to give undue weight to such projections, assumptions and estimates. While we believe that these publications, studies and surveys are reliable, we have not independently verified the data contained in them.

 

Potential investors and other readers are urged to consider these factors carefully in evaluating the forward-looking statements and are cautioned not to place undue reliance on the forward-looking statements. These forward-looking statements speak only as of the date of this prospectus. Unless required by law, we do not intend to update or revise any forward-looking statements publicly to reflect new information or future events or otherwise. You should, however, review the factors and risks we describe in the reports we will file from time to time with the SEC after the date of this prospectus. See “Where You Can Find Additional Information.”

 

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USE OF PROCEEDS

 

We estimate that the net proceeds we receive from this offering will be approximately $80.8 million based on the initial public offering price of $26.00 per share, after deducting the underwriting discounts and commissions and estimated offering expenses incurred by us. If the underwriters’ option to purchase additional shares in this offering from us is exercised in full, our estimated net proceeds will be approximately $93.5 million, after deducting the underwriting discounts and commissions and estimated offering expenses payable by us.

 

While we do not have any current specific plans for the net proceeds resulting from this offering, we expect to use the net proceeds for working capital and other general corporate purposes. We may also use a portion of the proceeds to expand our current business through acquisitions or investments in other strategic businesses, products or technologies. We have no commitments with respect to any such acquisitions or investments at this time. We will have broad discretion in the way we use the net proceeds, which will afford us significant flexibility to pursue our business strategies.

 

The primary purposes of this offering are to raise additional working capital, create a public market for our Class A common stock for the benefit of our current stockholders, allow us easier and quicker access to the public markets should we need more capital in the future, increase the profile and prestige of our company with existing and possible future travelers, vendors and strategic partners and make our stock more valuable and attractive to our employees and potential employees for compensation purposes.

 

We intend to invest the net proceeds in short- and intermediate-term interest-bearing obligations, investment-grade instruments, certificates of deposit or guaranteed obligations of the U.S. government, pending their use as described above.

 

DIVIDEND POLICY

 

We have never declared or paid any cash dividends on our capital stock. We do not expect to pay dividends on our capital stock for the foreseeable future. Instead, we anticipate that all of our earnings in the foreseeable future will be retained and used in the operation and growth of our business. Any future determination to pay dividends will be at the discretion of our board of directors, subject to compliance with applicable law and any contractual provisions, including under agreements for indebtedness that we may incur, that may restrict or limit our ability to pay dividends, and will depend upon, among other factors, our results of operations, financial condition, capital requirements and other factors that our board of directors deems relevant.

 

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CAPITALIZATION

 

The following table sets forth our cash and cash equivalents and capitalization at March 31, 2012:

 

   

on an actual basis;

 

   

on a pro forma basis to give effect to the conversion of all outstanding shares of our common stock and our redeemable convertible preferred stock into 33,805,623 shares of our Class B common stock; and

 

   

on a pro forma as adjusted basis to reflect: (i) the pro forma basis conversions set forth above, (ii) the sale by us of 3,500,000 shares of Class A common stock in this offering and our receipt of the estimated net proceeds from that sale, based on the initial public offering price of $26.00 per share, and after deducting underwriting discounts and commissions and estimated offering expenses payable by us, (iii) the issuance by us of 308,032 shares of Class A common stock, for no additional consideration, pursuant to the automatic adjustment described under “Concurrent Private Placements,” and (iv) the filing of our amended and restated certificate of incorporation.

 

You should read this table together with our consolidated financial statements and the related notes appearing elsewhere in this prospectus and the sections of this prospectus titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Use of Proceeds” and “Selected Consolidated Financial and Operating Data.”

 

     Actual      Pro
Forma
     Pro
Forma as
Adjusted
 
     (unaudited)  
    

(in thousands, except share and per
share amounts)

 

 

Cash and cash equivalents

   $ 35,385       $ 35,385       $ 118,881   
  

 

 

    

 

 

    

 

 

 

Redeemable Convertible Preferred Stock(1):

        

Series A redeemable convertible preferred stock, $0.001 par value: 6,600,000 shares authorized, issued and outstanding

   $ 9,801       $ —         $ —     

Series A-1 redeemable convertible preferred stock, $0.001 par value: 1,176,051 shares authorized, issued and outstanding

     2,380         —           —     

Series B redeemable convertible preferred stock, $0.001 par value: 4,989,308 shares authorized, issued and outstanding

     9,993         —           —     

Series B-1 redeemable convertible preferred stock, $0.001 par value: 2,138,275 shares authorized, issued and outstanding

     4,071         —           —     

Series C redeemable convertible preferred stock, $0.001 par value: 3,897,084 shares authorized, 3,855,180 shares issued and
outstanding

     15,544         —           —     

Series D redeemable convertible preferred stock, $0.001 par value: 8,075,666 shares authorized, 8,008,842 shares issued and
outstanding

     208,641         —           —     
  

 

 

    

 

 

    

 

 

 

Total redeemable convertible preferred stock

   $ 250,430       $ —         $ —     
  

 

 

    

 

 

    

 

 

 

 

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     Actual      Pro
Forma
     Pro
Forma as
Adjusted
 
    

(unaudited)

 
    

(in thousands, except share and per
share amounts)

 

Stockholders’ Equity:

        

Common Stock, $0.001 par value: 50,000,000 shares authorized, 7,037,967 shares issued and outstanding, actual; no shares authorized, issued and outstanding, on a pro forma and pro forma as adjusted basis

   $ 7       $ —         $ —     

Class A common stock, $0.001 par value: no shares authorized, issued and outstanding, actual; 150,000,000 shares authorized, no shares issued and outstanding, on a pro forma basis; and 150,000,000 shares authorized, 3,808,032 shares issued and outstanding on a pro forma as adjusted basis

     —           —           4   

Class B common stock, $0.001 par value: no shares authorized, issued and outstanding, actual; 50,000,000 shares authorized, 33,805,623 shares issued and outstanding, on a pro forma and pro forma as adjusted basis

     —           34         34   

Additional paid-in capital

     3,544         253,947         334,733   

Accumulated other comprehensive income

     177         177         177   

Accumulated earnings

     95         95         95   
  

 

 

    

 

 

    

 

 

 

Total stockholders’ equity

     3,823         254,253         335,043   
  

 

 

    

 

 

    

 

 

 

Total capitalization

   $ 254,253       $ 254,253       $ 335,043   
  

 

 

    

 

 

    

 

 

 

 

(1)   All redeemable convertible preferred stock assumes no shares authorized, no shares issued and no shares outstanding, on a pro forma and pro forma as adjusted basis.

 

In the table above, the number of shares outstanding as of March 31, 2012 does not include:

 

   

103,904 shares of Class B common stock issuable upon the exercise of outstanding warrants at a weighted average exercise price of $13.57 per share;

 

   

8,942,265 shares of Class B common stock issuable upon the exercise of options outstanding with a weighted average exercise price of $10.65 per share;

 

   

1,291,767 shares of Class B common stock reserved for issuance pursuant to future grants of awards under our Third Amended and Restated 2005 Equity Incentive Plan;

 

   

352,178 shares of Class A common stock issuable pursuant to the private placement purchase rights described under “Concurrent Private Placements.”

 

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DILUTION

 

Dilution is the amount by which the portion of the offering price paid by the purchasers of our Class A common stock in this offering exceeds the net tangible book value per share of our Class A common stock after the offering. Unless otherwise stated, the following descriptions in this section do not include the impact of dilution from the potential issuance of shares of Class A common stock pursuant to the concurrent private placement purchase rights and assumes no exercise of stock options or conversion of warrants outstanding as of March 31, 2012.

 

If you invest in our Class A common stock, you will be diluted to the extent the initial public offering price per share of our Class A common stock exceeds the net tangible book value per share of our Class A common stock and Class B common stock immediately after this offering. Our net tangible book value as of March 31, 2012 was approximately $81.4 million, or $11.57 per share of common stock. The net tangible book value per share represents the amount of our tangible net worth, or total tangible assets less total liabilities, divided by 7,037,967 shares of our common stock issued and outstanding as of that date.

 

The pro forma net tangible book value of our Class A common stock and Class B common stock as of March 31, 2012 was approximately $81.4 million, or $2.41 per share. Pro forma net tangible book value per share represents our total pro forma tangible assets less total pro forma liabilities, divided by 33,805,623 shares, the pro forma number of shares of Class A common stock and Class B common stock outstanding as of March 31, 2012, in each case after giving effect to the conversion of all outstanding convertible preferred stock into Class B common stock.

 

After giving effect to the issuance and sale of 3,500,000 shares of our Class A common stock to be sold by us in this offering and our receipt of the estimated net proceeds from such sale, based on the initial public offering price of $26.00 per share, after deducting the underwriting discounts and commissions and the estimated expenses of the offering and our issuance of 308,032 shares of Class A common stock for no consideration pursuant to the automatic adjustment as part of the concurrent private placements, our pro forma as adjusted net tangible book value per share as of March 31, 2012 would have been approximately $162.2 million, or $4.31 per share. This amount represents an immediate increase in pro forma as adjusted net tangible book value of $1.90 per share to existing stockholders and immediate dilution in pro forma as adjusted net tangible book value of $21.69 per share to new investors purchasing shares of our common stock in this offering.

 

The following table illustrates the per share dilution to new investors purchasing shares of our Class A common stock in this offering, without giving effect to the over-allotment option granted to the underwriters:

 

Initial public offering price per share

     $ 26.00   
    

 

 

 

Net tangible book value per share at March 31, 2012, before giving effect to this offering

   $ 11.57     

Decrease per share attributable to conversion of convertible preferred stock and warrants

   $ (9.16  
  

 

 

   

Pro forma net tangible book value before this offering

   $ 2.41     

Increase in pro forma net tangible book value per share attributable to new investors purchasing shares in this offering

   $ 1.90     

Pro forma as adjusted net tangible book value per share after giving effect to this offering

     $ 4.31   
    

 

 

 

Dilution per share to new investors

     $ 21.69   
    

 

 

 

 

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The following table summarizes as of March 31, 2012, after giving effect to this offering, based on the initial public offering price of $26.00 per share, the differences between existing stockholders and new investors with respect to the number of shares of common stock purchased from us, the total consideration paid to us and the average price per share paid before deducting underwriting discounts and commissions. This table assumes the issuance, for no consideration, of 308,032 shares of Class A common stock to existing stockholders pursuant to the automatic adjustment.

 

     Shares Purchased     Total Consideration     Average
Price Per
Share
 
(in thousands except share and per share amounts)    Number      Percent     Amount      Percent    

Existing stockholders

     34,113,655         90.7   $ 205,871         69.3   $ 6.03   

New investors

     3,500,000         9.3        91,000         30.7        26.00   
  

 

 

    

 

 

   

 

 

    

 

 

   

Total

     37,613,655         100   $ 296,871         100   $ 7.89   

 

The foregoing table does not reflect options outstanding under our stock option plans or stock options to be granted after the offering or the issuance of shares pursuant to the private placement purchase rights described above and under “Concurrent Private Placements.”

 

Following the offering, based on the number of options outstanding as of June 30, 2012, there will be 9,241,992 options outstanding with an average exercise price of $11.33 per share, 58,942 shares of Class B common stock outstanding resulting from option exercises occurring between April 1, 2012 and June 30, 2012, 103,904 warrants outstanding with an average exercise price of $13.57 per share and rights to purchase 352,178 shares of Class A common stock pursuant to the private placement purchase rights at an exercise price of $26.00 per share.

 

If the underwriters exercise their over-allotment option in full, our existing stockholders would own 34,113,655, or 89.4%, in the aggregate, and our new investors would own 4,025,000, or 10.6%, in the aggregate, of the total number of shares of our Class A and Class B common stock outstanding after this offering.

 

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SELECTED CONSOLIDATED FINANCIAL AND OPERATING DATA

 

The tables on the following pages set forth the consolidated financial and operating data as of and for the periods indicated. The consolidated statements of operations data presented below for the years ended December 31, 2007 and 2008 and the consolidated balance sheet data as of December 31, 2007, 2008, and 2009 have been derived from consolidated financial statements not included in this prospectus. The consolidated statements of operations data for the three-month periods ended March 31, 2011 and 2012 and the balance sheet data as of March 31, 2012 are derived from our unaudited interim consolidated financial statements included elsewhere in this prospectus, have been prepared on the same basis as the audited consolidated financial statements and include all adjustments, consisting of normal and recurring adjustments that we consider necessary for a fair presentation of the financial position and results of operations as of and for such periods. Operating results for the three months ended March 31, 2012 are not necessarily indicative of the results that may be expected for the full 2012 fiscal year and historical results presented below are not necessarily indicative of the results to be expected for any future period. You should read the consolidated financial data presented on the following pages in conjunction with our consolidated financial statements, the notes to our consolidated financial statements, “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.

 

Consolidated Statements of Operating Data:

(in thousands, except share and per share amounts)

 

    Years ended December 31,     Three Months ended
March 31,
 
     2007     2008     2009     2010     2011     2011     2012  

Revenues

  $ 48,444      $ 112,018      $ 112,698      $ 170,698      $ 224,534      $ 52,674      $ 73,338   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues (excludes depreciation and amortization)

    7,497        17,985        15,362        15,630        18,598        4,945        5,185   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Selling, general and administrative expenses:

             

Marketing

    33,624        56,841        57,389        91,721        111,018        28,457        41,249   

Personnel

    8,131        19,150        22,638        29,764        40,785        10,039        11,913   

Other general and administrative expenses

    2,346        5,743        6,568        9,967        16,400        4,217        4,832   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total selling, general and administrative expenses (excludes depreciation and amortization)

    44,101        81,734        86,595        131,452        168,203        42,713        57,994   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Depreciation and amortization

    1,485        5,214        5,380        6,821        8,486        2,061        2,050   

Impairment of intangible assets(1)

    —          —          —          —          14,980        14,980        —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from operations

    (4,639     7,085        5,361        16,795        14,267        (12,025     8,109   

Other income (expense)

    271        (1,569     (1,225     3,357        2,117        632        (175

Income tax expense (benefit)

    —          415        (2,776     12,120        6,681        (4,479     3,789   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

  $ (4,368   $ 5,101      $ 6,912      $ 8,032      $ 9,703      $ (6,914   $ 4,145   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) per common share (after redeemable convertible preferred stock dividends):

             

Basic

  $ (1.67   $ (1.37   $ (0.92   $ (0.57   $ (0.28   $ (1.33   $ 0.17   

Diluted

  $ (1.67   $ (1.37   $ (0.92   $ (0.57   $ (0.28   $ (1.33   $ 0.11   

Weighted average shares outstanding:

             

Basic

    3,860,114        4,831,777        5,223,187        6,463,639       
7,309,202
  
    7,397,372        7,037,280   

Diluted

    3,860,114        4,831,777        5,223,187        6,463,639        7,309,202        7,397,372        37,331,889   

Unaudited pro forma:(2)

             

Net income per common share:

             

Basic

          $ 0.28        $ 0.12   

Diluted

          $ 0.26        $ 0.11   

Weighted average common shares:

             

Basic

           
34,076,858
  
      33,804,936   

Diluted

            37,740,386          37,331,889   

Other Data:

             

Adjusted EBITDA(3)

  $ (1,415   $ 18,699      $ 16,188      $ 32,119      $ 50,160      $ 8,153      $ 13,157   

Capital expenditures

  $ 1,043      $ 1,092      $ 2,269      $ 2,273      $
4,260
  
  $ 491      $ 500   

Queries(4)

    238,449        434,540        458,594        634,319        898,573        214,219        310,315   

 

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Consolidated Balance Sheet Data:

(in thousands)

 

    December 31,     March 31,  
    2007     2008     2009     2010     2011     2012  

Cash and cash equivalents

  $ 25,061      $ 23,609      $ 15,950      $ 34,966      $ 35,127      $ 35,385   

Working capital

    27,984        38,453        36,019        58,629        65,560        73,648   

Total assets

    221,494        232,544        222,823        269,907        277,948        291,948   

Long-term obligations(5) and redeemable convertible preferred stock

    230,330        237,218        225,085        238,246        248,644        251,559   

Total stockholders’ equity (deficit)

    (23,609     (22,940     (21,780     (450     (1,724     3,823   

 

(1)   In January 2011, we determined that we would not support two brand names and URLs in the United States and decided that we would migrate all traffic from sidestep.com to KAYAK.com. As a result, our SideStep brand name and URL intangible assets were impaired and we incurred a related write-down of $15.0 million in the first three months of 2011.

 

(2)   Pro forma information gives effect to the conversion of all outstanding shares of our common stock and our redeemable convertible preferred stock into 33,805,623 shares of our Class B common stock.

 

(3)   Earnings Before Interest, Taxes, Depreciation and Amortization, or EBITDA, is a metric used by management to measure operating performance. Adjusted EBITDA represents EBITDA excluding the impact of stock-based compensation expense and other income (expense), net. We present Adjusted EBITDA as a supplemental performance measure because we believe it facilitates operating performance comparisons from period to period and company to company by backing out potential differences caused by variations in capital structures (affecting other income (expense), net), tax positions (such as the impact on periods or companies of changes in effective tax rates), the age and book depreciation of fixed assets (affecting relative depreciation expense), the impact of acquisitions and the impact of stock-based compensation expense. Because Adjusted EBITDA facilitates internal comparisons of operating performance on a more consistent basis, we also use Adjusted EBITDA in measuring our performance relative to that of our competitors. Adjusted EBITDA is not a measurement of our financial performance under GAAP and should not be considered as an alternative to net income, operating income or any other performance measures derived in accordance with GAAP or as an alternative to cash flow from operating activities as a measure of our profitability or liquidity. We understand that although Adjusted EBITDA is frequently used by securities analysts, lenders and others in their evaluation of companies, Adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation, or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:

 

   

Adjusted EBITDA does not reflect our cash expenditures or future requirements for capital expenditures or contractual commitments;

 

   

Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;

 

   

although depreciation is a non-cash charge, the assets being depreciated will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements; and

 

   

other companies in our industry may calculate Adjusted EBITDA differently than we do, limiting its usefulness as a comparative measure.

 

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The following table reconciles income (loss) from operations to EBITDA and Adjusted EBITDA for the periods presented and is unaudited:

 

    Years ended December 31,     Three months ended
March 31,
 
    2007     2008     2009     2010     2011     2011     2012  

Income (loss) from operations

  $ (4,639   $ 7,085      $ 5,361      $ 16,795      $ 14,267      $ (12,025   $ 8,109   

Other income (expense), net

    62        594        (1,346     3,250        2,006        611        (196

Depreciation and amortization

    1,485        5,214        5,380        6,821        8,486        2,061        2,050   

Impairment of intangible assets(1)

    —          —          —          —          14,980        14,980        —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

EBITDA

    (3,092     12,893        9,395        26,866        39,739        5,627        9,963   

Stock-based compensation

    1,739        6,400        5,447        8,503        12,427        3,137        2,998   

Other (income) expense, net

    (62     (594     1,346        (3,250     (2,006     (611     196   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA(3)

  $ (1,415   $ 18,699      $ 16,188      $ 32,119      $ 50,160      $ 8,153      $ 13,157   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(4)   Queries refer to user requests for travel information we process through our websites and mobile applications.

 

(5)   Long-term obligations includes current and long-term portions of debt, warrant liability and acquisition-related put liability.

 

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

You should read the following discussion together with our consolidated financial statements and the related notes included elsewhere in this prospectus. This discussion contains forward-looking statements about our business and operations. Our actual results may differ materially from those we currently anticipate as a result of many factors, including those we describe under “Risk Factors” and elsewhere in this prospectus. See “Special Note Regarding Forward-Looking Statements.”

 

Overview

 

We are a technology-driven company committed to improving online travel. Cofounders of Expedia, Travelocity and Orbitz started KAYAK in 2004 to take a better approach to online travel. Our websites and mobile applications enable people to easily research and compare accurate and relevant information, including pricing and availability, in one comprehensive, fast and intuitive display. Our software gathers information from multiple sources, including third party providers, travel suppliers and OTAs, and allows users to compare travel information from hundreds of websites. We request information from our data sources based on a user’s travel criteria, and display query results with the broadest set of websites that are relevant to such travel criteria. Once users find their desired flight, hotel or other travel product, KAYAK sends them to their preferred travel supplier or OTA website to complete their purchase, and in many cases, users may now complete hotel bookings directly through our websites and mobile applications. We also provide travel management tools and services such as flight status updates, pricing alerts and itinerary management.

 

How We Generate Revenues

 

KAYAK’s services are free for travelers. We earn distribution revenues by sending referrals to travel suppliers and OTAs and by facilitating bookings through our websites and mobile applications, and we earn advertising revenues from advertising placements on our websites and mobile applications. On the distribution side, travel suppliers and OTAs either pay us at the time of referral on a set cost per click, or CPC, basis or after a user completes a transaction on a supplier or OTA website or through the KAYAK booking feature on a fixed cost per acquisition, or CPA, basis or as a percentage of the transaction value.

 

Advertising revenues primarily come from payments for text-based sponsored links, graphical display advertisements and compare units. A “compare unit” is an advertising placement that, if selected by a KAYAK user, launches the advertiser’s website and initiates a query based on the same travel parameters provided on the KAYAK website. The major types of advertisers on our websites consist of OTAs, third party sponsored link providers, hotels, airlines and vacation package providers. Generally, our advertisers pay us on a CPC basis, which means advertisers pay us only when someone clicks on one of their advertisements, or on a cost per thousand impression basis, or CPM. Paying on a CPM basis means that advertisers pay us based on the number of times their advertisements appear on our websites. We believe that offering advertisers the ability to pay on a CPC or CPM basis provides advertisers the ability to choose the method of payment that best suits their needs and ultimately results in more advertisers choosing to advertise with us.

 

We generate a significant portion of our revenues from a few large customers. Expedia and its affiliated brands, including Hotels.com and Hotwire, together accounted for 23% of our total revenues for the three months ended March 31, 2012. We have separate contracts with respect to Expedia and each of its affiliated brands, each of which have varying terms and expiration dates. Orbitz and Priceline each accounted for approximately 10% of total revenues for the three months ended March 31, 2012. Our contract with Orbitz expires on December 31, 2013.

 

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Highlights and Trends

 

Revenue Growth

 

Our revenue for the three months ended March 31, 2012 was $73.3 million, a 39.2% increase over the three months ended March 31, 2011. Revenue for the year ended December 31, 2011 was $224.5 million, a 31.5% increase over the year ended December 31, 2010. These increases in revenue were primarily due to increased travel queries on our websites and mobile applications, which increased 44.9% for the first three months of 2012 and 41.7% for the full year 2011, respectively over the comparable periods in 2011 and 2010. We believe that traffic and queries on our websites and mobile applications will continue to increase as more people learn about our websites and our brand.

 

Brand Marketing

 

We began investing in brand advertising, including TV advertisements and billboards, in late 2009. For the three months ended March 31, 2012, and for the year ended December 31, 2011, we spent $20.9 million and $57.7 million on these activities, respectively. We believe that these investments contributed significantly to our revenue growth. Increasing brand awareness and usage is an important part of our growth strategy and we expect to continue to invest at this level or above in brand marketing for the foreseeable future.

 

International Expansion

 

Our revenues from international operations accounted for approximately 19.3% and 17.9% of our total revenue for the three months ended March 31, 2012, and the year ended December 31, 2011, respectively. We acquired swoodoo in May 2010 and checkfelix.com in April 2011. As a result of these acquisitions, and organic growth of the KAYAK brand, our international revenues grew to approximately $14.2 million during the first three months of 2012 from approximately $7.4 million during the first three months of 2011. We believe that these strategic acquisitions, along with the establishment of our European headquarters in Zurich, Switzerland, have strengthened our presence and team in Europe, and we plan to continue to invest in our international team and brands. We expect our revenues from international operations to increase at a rate faster than revenues from our U.S. operations.

 

Mobile Products

 

We offer several mobile applications that allow people to use our services from smart phones such as the iPhone, Blackberry and phones running on the Android operating system and tablet devices such as the iPad. These applications extend the availability of our services beyond traditional computers and allow users greater access to KAYAK’s services. Queries conducted on our mobile applications accounted for 16.9% and 14.1% of our total queries for the three months ended March 31, 2012, and the year ended December 31, 2011, respectively. However, we estimate that revenues from mobile applications were approximately 2% of total revenues during the three months ended March 31, 2012, as well as the year ended December 31, 2011. We believe mobile applications will continue to gain popularity, and we expect to continue to commit resources to improve the features, functionality and commercialization of our mobile applications. We also believe that over time mobile applications will begin to contribute meaningful revenue to our business.

 

Cash and Debt

 

We had cash and cash equivalents and marketable securities of $43.9 and $46.3 million as of March 31, 2012 and December 31, 2011, respectively, and no outstanding long- or short-term debt. Given the recent financial turmoil and low interest rates, we hold most of our funds as cash and cash equivalents or marketable securities, and the rest is invested in highly rated money market funds and commercial paper.

 

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Results of Operations

 

Our results of operations as a percentage of revenue and period-over-period variances are discussed below. All dollars and query amounts are presented in thousands.

 

Operating Metrics

 

Our operating results are affected by certain key metrics. These metrics help us to predict financial results and evaluate our business. These metrics consist of queries and revenue per thousand queries.

 

Queries and Revenue per Thousand Queries

 

Queries refer to user queries for travel information we process through our websites and mobile applications. We count a separate query each time a user requests travel information through one of our websites or mobile applications. Therefore, a user visit to one of our websites may result in no queries being counted, or in multiple queries being counted, depending on the activity of the user during that visit. On average, a user performs approximately 1.1 queries per visit to our websites.

 

We use revenue per thousand queries, or RPM, to measure how effectively we convert user queries to revenues. RPM is calculated as total revenues divided by total thousand queries.

 

We use query metrics to understand historical revenue performance, and to help in forecasting future revenues. In particular, RPM is a key operating statistic that we use in our analysis of past performance and in connection with our evaluation of potential changes to our business model and operating activities.

 

Revenues

 

         Three Months ended March 31,           % increase
(decrease)
 
     (Amounts in thousands (except RPM))     
     2011      2012     

Revenues

   $ 52,674       $ 73,338         39.2

Queries

     214,219         310,315         44.9

RPM

   $ 246       $ 236      

 

Revenues for the three months ended March 31, 2012 increased $20.7 million over the same period in 2011 primarily due to a 44.9% increase in query volume. We attribute the increase in query volume to a variety of factors, including our investment in marketing activities and our partnership with Bing Travel, which began in March 2011. The increase in query volume was partially offset by a reduction in RPM due to an increase in mobile queries, for which we earn revenue at a lower rate. Mobile queries were 16.9% of total queries in the first three months of 2012, as compared to 11.9% in the same period in 2011.

 

     Year ended December 31,      % increase
(decrease)
2009 to 2010
    % increase
2010 to 2011
 
     (Amounts in thousands (except RPM))       
     2009      2010      2011       

Revenues

   $ 112,698       $ 170,698       $ 224,534         51.5     31.5

Queries

     458,594         634,319         898,573         38.3     41.7

RPM

   $ 246       $ 269       $ 250         9.3     (7.1 )% 

 

 

Revenues for the year ended December 31, 2011 increased $53.8 million over the same period in 2010 primarily due to a 41.7% increase in query volume. We attribute the increase in query volume to a variety of

 

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factors including our investment in marketing activities, the acquisition of swoodoo in May 2010 and checkfelix.com in April 2011, and our partnership with Bing Travel which began in March 2011. The increase in query volume was partially offset by a reduction in RPM due to an increase in mobile queries, for which we earn revenue at a lower rate. Mobile queries were 14.1% of total queries in 2011, as compared to 8.2% in 2010.

 

Revenues for the year ended December 31, 2010 increased over the same period in 2009 primarily due to a 38.3% increase in website queries. These additional queries accounted for $43.2 million of the $58.0 million increase. During the same period average revenue per thousand queries increased 9.3%, primarily as a result of improved advertising sales. Our acquisition of swoodoo contributed $8.0 million to our revenues in 2010.

 

Cost of revenues (excludes depreciation and amortization)

 

Cost of revenues consists of fees we pay to third parties to process airfare queries and expenses associated with operating and maintaining our data centers. Additionally in 2009, these costs included advertising syndication expenses. Our syndication activities consisted of placing text-based advertisements on other websites in exchange for a portion of the total revenues that we receive from those advertisements. We included the portion of revenues remitted to our syndication partners in cost of revenues. We cancelled the majority of our advertising syndication contracts in April 2009 to focus on our core business, resulting in decreased cost as a percentage of revenues from 2009 to 2010.

      Three Months ended March 31,        
     (Dollar amounts in thousands)     % increase
(decrease)
 
     2011     2012    

Cost of revenues

   $ 4,945      $ 5,185        4.9

% of total revenues .

     9.4     7.1  

 

 

Our cost of revenues increased $0.2 million for the first three months of 2012 compared to the same period in 2011 due to higher air query fees partially offset by a decrease in data center costs. Air query fees increased $0.5 million in the first three months of 2012 compared to the same period in 2011 due to increased query volume. Data center costs decreased $0.3 million in the first three months of 2012 compared to the same period in 2011 due to reduced negotiated rates.

 

     Year ended December 31,                
     (Dollar amounts in thousands)      % increase
2009 to 2010
     % increase
2010 to 2011
 
     2009      2010      2011        

Cost of revenues

   $ 15,362       $ 15,630       $ 18,598         1.7%         19.0%   

% of total revenues

     13.6%         9.2%         8.3%         

 

Our cost of revenues increased $3.0 million in 2011 as compared to 2010, due to higher data center costs and air query fees. Data center costs increased $1.6 million for the year ended December 31, 2011 as compared to the same period in 2010 due to expenses incurred to process and improve overall query speed and efficiency. Additionally, our air query fees increased $1.3 million in 2011 compared to 2010 due to increased query volume, partially offset by a lower cost per query. Our air query fees have a tiered pricing structure whereby increased volume results in a lower overall cost per query.

 

Our cost of revenues were relatively flat for the year ended December 31, 2010 compared to the same period in 2009 due primarily to higher volume-driven air query fees of $1.6 million and data center costs of $0.7 million, partially offset by the elimination of advertising syndication costs of $2.2 million discussed above.

 

Selling, general and administrative expenses (excludes depreciation and amortization)

 

Selling, general and administrative expenses consist of marketing, technology, personnel and other costs, which are more fully described below.

 

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Marketing

 

Marketing consists of online marketing, brand marketing and other marketing expenses. Online marketing includes search engine fees and contextual advertising placements. Search engine fees are fees we pay to Google and Yahoo for our advertisements to appear on their result pages when users search certain travel-related keywords on the search engine’s website. We pay contextual advertisement fees to advertise on other travel-related websites. These advertisements generally consist of the placement of a KAYAK logo or a check-box next to the KAYAK name and often allow users who click on our contextual advertisements to launch a query on KAYAK using previously entered search parameters. Brand marketing expense includes TV, billboards and display advertisements, and creative development fees. Other marketing includes affiliate marketing, public relations, and other general marketing costs. Affiliate marketing refers to revenue sharing fees we pay to other travel-related websites that drive traffic to KAYAK through use of their own marketing resources. Under our affiliate marketing program, we provide our services through third party websites and pay them a percentage of any revenues received from these services.

 

     Three Months ended March 31,        
         (Dollar amounts in  thousands)         % increase
(decrease)
 
     2011     2012    

Brand marketing

   $ 14,927      $ 20,898        40.0%   

% of total revenues

     28.3     28.5  

Online marketing fees

   $ 11,498      $ 18,520        61.1%   

% of total revenues

     21.8     25.3  

Other marketing

   $ 2,032      $ 1,831        (9.9)%   

% of total revenues

     3.9     2.5  

Total marketing expense

   $ 28,457      $ 41,249        45.0%   

% of total revenues

     54.0     56.2  

 

Marketing expenses for the three months ended March 31, 2012 increased $12.8 million compared to the same period in 2011. The increase is primarily due to a $6.0 million increase in brand marketing which relates primarily to a $3.4 million incremental increase in Europe brand marketing expense. Additionally online marketing expense increased by $7.0 million. We believe these marketing investments were the primary contributor to our 44.9% increase in query growth in the first three months of 2012 as compared to the same period in 2011.

 

     Year ended December 31,                
     (Dollar amounts in thousands)      % increase
2009 to 2010
     % increase
2010 to 2011
 
     2009      2010      2011        

Brand marketing

   $ 15,418       $ 43,702       $ 57,715         183.4%         32.1%   

% of total revenues

     13.7%         25.6%         25.7%         

Online marketing fees

   $ 35,813       $ 41,663       $ 45,648         16.3%         9.6%   

% of total revenues

     31.8%         24.4%         20.3%         

Other marketing

   $ 6,158       $ 6,356       $ 7,655         3.2%         20.4%   

% of total revenues

     5.5%         3.7%         3.4%         

Total marketing expense

   $ 57,389       $ 91,721       $ 111,018         59.8%         21.0%   

% of total revenues

     50.9%         53.7%         49.4%         

 

Marketing expenses for the year ended December 31, 2011 increased $19.3 million compared to the same period in 2010. The $14.0 million increase in brand marketing relates primarily to a $12.9 million incremental investment in swoodoo, KAYAK Europe and checkfelix.com. Additionally, our online marketing expense increased by $4.0 million. As a percentage of revenue, marketing expenses decreased to 49.4% from 53.7% primarily due to efficiencies achieved in US marketing spend during 2011, as compared to the same period in 2010. For the year ended December 31, 2011, our total marketing spend for the US and Europe was $87.0 million and $24.0 million, respectively, compared to $84.0 million and $7.7 million, respectively, for the year ended December 31, 2010. We believe these marketing investments were the primary contributor to our 41.7% increase in query growth in 2011 as compared to 2010.

 

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Marketing expense for the year ended December 31, 2010 increased $34.3 million compared to the same period in 2009 primarily due to the initial launch of our KAYAK brand marketing campaign. We initiated a brand marketing campaign in November 2009, and for the year ended December 31, 2010, we incurred $39.0 million in KAYAK brand marketing expense. We expect to continue to invest in brand marketing going forward, as we are focused on increasing awareness of our brand and bringing more people to our websites and mobile applications.

 

Personnel

 

Personnel costs consist of wages and benefits paid to our employees, stock-based compensation charges and payroll taxes and recruiting costs. Stock-based compensation is a significant portion of our wage and benefit structure and generally increases as we hire additional people. Many other factors can impact the total stock-based compensation expense, including the strike price, volatility and expected life of the options, among other things. Please see the notes to our consolidated financial statements included elsewhere in this prospectus for more information on our stock options.

 

          Three Months ended March 31,            % increase  
      (Dollar amounts in thousands)     
     2011      2012      (decrease)  

Salaries, benefits and taxes

   $ 6,902       $ 8,915         29.2%   

% of total revenues

     13.1%         12.2%      

Stock-based compensation

   $ 3,137       $ 2,998         (4.4)%   

% of total revenues

     6.0%         4.1%      

Total personnel

   $ 10,039       $ 11,913         18.7%   

% of total revenues

     19.1%         16.2%      

 

Our salaries, benefits and taxes increased primarily due to a net increase of 40 employees, or 30.1%, as of March 31, 2012 compared to March 31, 2011. Stock compensation expense decreased in the first three months of 2012 compared to the first three months of 2011 due to options granted in prior years becoming fully vested.

 

     Year ended December 31,     

% increase

        
      (Dollar amounts in thousands)         % increase
2010 to 2011
 
     2009      2010      2011      2009 to 2010     

Salaries, benefits and taxes

   $ 17,473       $ 21,261       $ 28,358         21.7%         33.4%   

% of total revenues

     15.5%         12.5%         12.6%         

Stock-based compensation

   $ 5,165       $ 8,503       $ 12,427         64.6%         46.1%   

% of total revenues

     4.6%         5.0%         5.5%         

Total personnel

   $ 22,638       $ 29,764       $ 40,785         31.5%         37.0%   

% of total revenues

     20.1%         17.4%         18.2%         

 

Our salaries, benefits and taxes increased primarily due to wage increases for existing employees and a headcount increase of 11 employees as of December 31, 2011 compared to December 31, 2010. In 2011 we also awarded bonuses totaling $1.3 million to our cofounders as discussed in “Executive Compensation”. Stock compensation expense increased in 2011 compared to 2010 due to the additional grant of options to purchase 1,155,000 shares of our common stock and the increase in the fair market value of our common stock.

 

Salaries, benefits and taxes increased primarily due to a headcount increase of 40 employees between December 2009 and December 2010. Stock-based compensation increased in 2010 compared to 2009, due to the grant of 4,199,590 additional common stock options.

 

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Other general and administrative expenses

 

All other operating costs are classified as other general and administrative expenses. The largest items in this category of expenses are legal and accounting fees, technology costs, provision for doubtful accounts and facilities expenses. In 2009, general and administrative costs also included $0.3 million of stock-based compensation expense.

 

     Three Months ended
March 31,
     % increase  
     (Dollar amounts
in thousands)
    
     2011      2012      (decrease)  

Other general and administrative expenses

   $ 4,217       $ 4,832         14.6 % 

% of total revenues

     8.0%         6.6%      

 

Other general and administrative expenses increased $0.6 million for the three months ended March 31, 2012, compared to the same period in 2011, primarily due to a $0.2 million increase in travel costs as well as a $0.2 million increase in the provision for doubtful accounts.

 

     Year ended December 31,      % increase
2009 to 2010
    % increase
2010 to 2011
 
     (Dollar amounts in thousands)       
     2009      2010      2011       

Other general and administrative expenses

   $ 6,568       $ 9,967       $ 16,400         51.8     64.5

% of total revenues

     5.8%         5.8%         7.3%        

 

Other general and administrative expenses increased $6.4 million for the year ended December 31, 2011 compared to the same period in 2010 primarily due to a $2.9 million increase in legal and accounting fees, a $1.2 million increase in technology costs, and a $0.8 million increase in travel expenses. Legal and accounting fees increased due to activities associated with the formation of our European entity and litigation matters described in “Business — Legal Proceedings”.

 

Other general and administrative expenses increased $3.4 million from 2009 to 2010 primarily due to $1.5 million in acquisition-related and other legal and accounting fees, $1.2 million from the inclusion of swoodoo results beginning May 2010, and a $0.4 million increase in the provision for doubtful accounts.

 

Depreciation and amortization

 

Depreciation and amortization consists primarily of depreciation of computer equipment, software and website development and amortization of our trade names, customer relationships and other intangible assets.

 

     Three Months ended March 31,     % increase
(decrease)
 
     (Dollar amounts in thousands)    
     2011     2012    

Amortization

   $ 1,635      $ 1,415        (13.5 )% 

% of total revenues

     3.1     1.9  

Depreciation

   $ 426      $ 635        49.1

% of total revenues

     0.8     0.9  

Total depreciation and amortization

   $ 2,061      $ 2,050        (0.5 )% 

% of total revenues

     3.9     2.8  

 

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Depreciation and amortization remained relatively consistent during the three months ended March 31, 2012, compared to the same period in 2011.

 

     Years ended December 31,      % increase
2009 to 2010
     % increase
(decrease)
2010 to 2011
 
     (Dollar amounts in thousands)        
     2009      2010      2011        

Amortization

   $ 3,328       $ 4,619       $ 6,566         38.8%         42.2 %   

% of total revenues

     3.0%         2.7%         2.9%         

Depreciation

   $ 2,052       $ 2,202       $ 1,920         7.3%         (12.8)%   

% of total revenues

     1.8%         1.3%         0.9%         

Total depreciation and amortization

   $ 5,380       $ 6,821       $ 8,486         26.8%         24.4 %   

% of total revenues

     4.8%         4.0%         3.8%         

 

Depreciation and amortization increased $1.7 million during the year ended December 31, 2011, compared to the same period in 2010. The increase is primarily due to a $2.2 million increase in amortization and depreciation from acquired entities, partially offset by a $0.6 million decrease from SideStep assets that are now fully depreciated.

 

The inclusion of swoodoo in our results from May 2010 accounted for the $1.4 million increase in depreciation and amortization for the year ended December 31, 2010, compared to the same period in 2009.

 

Impairment of intangible assets

 

In January 2011, we determined that we would no longer support two brand names and URLs in the United States and decided to migrate all traffic from sidestep.com to KAYAK.com, resulting in a $15.0 million impairment charge.

 

Other income (expense)

 

For the three months ended March 31, 2012, we recorded a loss of $0.2 million as compared to a gain of $0.6 million for the same period in 2011. The decrease of $0.8 million is primarily related to no longer being obligated to buy back shares of common stock issued as part of the Swoodoo acquisition.

 

For the year ended December 31, 2011, we recorded a gain of $1.1 million related to our obligation to buy back shares of our common stock issued in connection with our acquisition of swoodoo in May 2010. We also recorded a $0.8 million gain related to the re-measurement of intercompany balances denominated in foreign currencies.

 

During 2010, we recorded a gain of $2.9 million related to our obligation to buy back shares of our common stock issued in connection with our acquisition of swoodoo in May 2010. In addition, we realized a gain of $0.5 million related to the sale of the TravelPost assets.

 

In 2009, we incurred a $1.0 million loss on the early extinguishment of debt.

 

Income tax expense (benefit)

 

Prior to December 31, 2009, we recorded a full valuation allowance against our net deferred tax assets, which consisted primarily of net operating loss carryforwards, due to the uncertainty of our ability to realize those assets. As such, we had nominal income tax expense. On December 31, 2009, we determined that it was more likely than not that we would be able to realize these assets and reversed the valuation allowance, resulting in a tax benefit for that year. In 2010, we incurred income tax expense of $12.1 million, including a $1.6 million increase to the

 

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valuation allowance, giving us an effective tax rate of 60.1%. Key effective tax rate drivers specific to 2010 were the sale of Travelpost, Inc., and an increase to the valuation allowance for state net operating losses incurred when we reduced our presence in California. In 2011, we incurred income tax expense of $6.7 million giving us an effective tax rate of 40.8%. The primary differences between the statutory rate and our effective tax rate include stock compensation from incentive stock options, state tax expense and differences in jurisdictional tax rates, as shown in the table below.

 

Provisions for income taxes compared with income taxes based on the federal statutory tax rate of 35% were as follows:

 

       December 31,  
       2009     2010     2011  

U.S. Statutory federal income tax rate

       35.0     35.0     35.0

State income taxes, net of federal benefits

       15.8     8.3     7.2

Compensation related to incentive stock options

       27.0     7.1     6.0

Gain on sale of TravelPost

       —          4.4     —     

Mark-to-market adjustments

       5.7     (4.8 )%      (2.6 )% 

Change to valuation allowance

       (149.1 )%      8.0     —     

Foreign rate differential

       —          —          (2.7 )% 

Other

       (1.5 )%      2.1     (2.1 )% 
    

 

 

   

 

 

   

 

 

 

Effective income tax rate

       (67.1 )%      60.1     40.8
    

 

 

   

 

 

   

 

 

 

 

For the twelve months ended December 31, 2011 and the three months ended March 31, 2012, our effective tax rate was 40.8% and 47.7%, respectively. The increase in the effective tax rate was principally a function of losses in Europe for which no benefit was recorded and the resolution of tax matters.

 

Quarterly Financial Data/Seasonality

 

The following table presents unaudited consolidated financial data for the trailing nine quarters ended March 31, 2012. The operating results are not necessarily indicative of the results for any subsequent quarter.

 

    2010
Quarters ended
    2011
Quarters ended
    2012
Quarter ended
 
   

 

   

 

   

 

   

 

   

 

   

 

   

 

   

 

   

 

 
    Mar 31     June 30     Sept 30     Dec 31    

  Mar 31  

   

June 30

   

Sept 30

   

Dec 31

   

Mar 31

 

Revenues

  $ 36,745      $ 43,721      $ 47,814      $ 42,418      $ 52,674      $ 56,753      $ 61,160      $ 53,947      $ 73,338   

Cost of revenues (excludes depreciation and amortization)

    4,048        3,772        3,810        4,000        4,945        4,684        4,151        4,818        5,185   

Selling, general, and administrative

                 

Marketing

    23,809        21,962        23,368        22,582        28,457        30,025        28,935        23,601        41,249   

Personnel

    6,615        7,101        7,271        8,777        10,039        9,800        10,286        10,660        11,913   

Other general and administrative expenses

    1,543        2,260        2,728        3,436        4,217        4,164        3,196        4,823        4,832   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total selling, general and administrative expenses (excludes depreciation and amortization)

    31,967        31,323        33,367        34,795        42,713        43,989        42,417        39,084        57,994   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Depreciation and amortization

    1,367        1,660        1,896        1,898        2,061        2,341        1,935        2,149        2,050   

Impairment of intangible assets

    —          —          —          —          14,980        —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from operations

  $ (637   $ 6,966      $ 8,741      $ 1,725      $ (12,025   $ 5,739      $ 12,657      $ 7,896      $ 8,109   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

Seasonal factors cause our profitability to fluctuate from quarter to quarter. Typically, our highest revenue quarters are the second and third quarters due to the fact that high travel seasons fall in these quarters.

 

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Additionally, our brand marketing expense fluctuates by quarter, and we invest in advance of high travel seasons, with our lightest spend in the third quarter. As a result of the above two factors, our operating income is typically highest in the second and third quarters.

 

In January 2011, we determined that we would not support two brand names and URLs in the United States and decided that we would migrate all traffic from sidestep.com to KAYAK.com. As a result, our SideStep brand name and URL intangible assets were impaired and we incurred a related impairment charge of $15.0 million in the first three months of 2011.

 

Acquisitions

 

In May 2010, in an effort to expand our European operations, we acquired all of the outstanding stated share capital of swoodoo in exchange for $6.8 million in cash, net, and 825,000 shares of our common stock. Pursuant to an option agreed to with the former swoodoo stockholders, in August 2011 we repurchased 685,219 of these shares at a price of €13.33 per share for a total of $13.2 million. We are no longer obligated to repurchase any additional shares.

 

In April 2011, we acquired all of the outstanding shares of JaBo Vertrieb-und Entwicklung GmbH, or JaBo Software, for $9.2 million in cash, net. JaBo Software operates checkfelix.com, a leading travel metasearch website in Austria.

 

Liquidity and Capital Resources

 

We have primarily funded our operations through the issuance of equity securities and cash flows from operations. Early in our history, we relied on cash provided from the sale of shares of our redeemable convertible preferred stock to fund our operations and raised $29.8 million prior to 2007. In 2007, we raised another $165.7 million through the sale of preferred stock and entered into $30.0 million of term loans to fund our acquisition of SideStep.

 

We began to generate cash flows from operations in late 2007 and have not required any additional financing to fund our operations. We repaid all outstanding principal and interest on the term loans in early 2009. We use our cash to fund operations, make capital expenditures and acquire complementary businesses from time to time. We also have not recorded U.S. income and foreign withholding taxes on the earnings of our foreign subsidiaries at March 31, 2012, because we intend to permanently reinvest those earnings.

 

As of March 31, 2012, we had cash and cash equivalents and marketable securities of $43.9 million that we expect to utilize, along with operating cash flows, to fund brand marketing, expansion in Europe and general corporate purposes. Included in this amount is $4.4 million of cash held by foreign subsidiaries that is not available to fund domestic operations and obligations without paying taxes upon its repatriation. Our operations currently provide us with most of our liquidity needs, and at this time we have nominal capital expenditure requirements. Our known material liquidity needs for periods beyond the next twelve months are described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Contractual Obligations”. We believe that cash from operations, together with our cash and short-term investment balance are sufficient to meet our ongoing capital expenditures, working capital requirements and other capital needs for at least the next twelve months.

 

Our liquidity could be negatively affected by a decrease in demand for our products and services. In addition, we may make acquisitions complementary to our business and may need to raise additional capital through future debt or equity financing to provide for greater flexibility to fund any such acquisitions. Additional financing may not be available at all or on terms favorable to us.

 

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The following table presents cash flow information for the stated periods:

 

     Year ended December 31,     Three Months
Ended March 31,

(unaudited)
 
     2009     2010     2011     2011     2012  
    

(Dollar amounts in thousands)

 

Cash flows from operating activities

   $ 12,616      $ 21,932      $ 32,899      $ 6,489      $ (2,494

Cash flows from investing activities

     6,964        (8,375     (33,848     (9,532     2,122   

Cash flows from financing activities

     (27,239     5,737        1,809        (664     139   

 

Cash flows from operating activities

 

Cash flows used in operating activities were $2.5 million for the three months ended March 31, 2012 as compared to cash flows from operating activities of $6.5 million for the three months ended March 31, 2011. Net income (loss) was $4.2 million and $(6.9) million for the three months ended March 31, 2012 and 2011, respectively. The increase in net income over the period is primarily related to a $15 million impairment in the first quarter of 2011. Non-cash charges decreased by $7.6 million in the first three months of 2012 compared to the first three months of 2011 due to an impairment of $15 million partially offset by $7.1 million in deferred taxes. Cash used for working capital was $10.8 million for the first three months of 2012 as compared to cash from working capital of $1.7 million in the first three months of 2011.

 

Cash flows from operating activities were $32.9 million for the year ended December 31, 2011 as compared to cash flows from operating activities of $21.9 million for the year ended December 31, 2010, an increase of $11.0 million. The increase in operating cash flows is primarily related to cash from working capital of $2.6 million as of December 31, 2011 as compared to cash used for working capital of $5.4 million as of December 31, 2010. The change in cash from working capital relates primarily to an increase in payables. Non-cash charges increased to $20.6 million for the year ended December 31, 2011 from $19.3 million for the year ended December 31, 2010, primarily due to a decrease in SideStep deferred tax liabilities. Net income also increased to $9.7 million in 2011 from $8.0 million in 2010.

 

Cash flows from operating activities were $21.9 million and $12.6 million in 2010 and 2009, including net income of $8.0 million and $6.9 million, respectively. The difference in net income was offset by non-cash charges, which were $10.7 million higher in 2010 than in 2009, primarily due to changes in net deferred tax assets, stock based compensation, and amortization from swoodoo intangible assets acquired in May 2010. Cash used for working capital was $5.4 million for 2010 as compared to $2.9 million in 2009, due to an increase in our accounts receivable, partially offset by accrued expenses. As of December 31, 2010 and 2009, accounts receivable, net were $30.2 million and $18.7 million, respectively, and the majority of this increase was due to an increase in sales over the same period. The increase in accrued expenses is primarily attributable to increases in tax, marketing, and technology related accruals for the year ended December 31, 2010.

 

Cash flows from investing activities

 

Cash provided by investing activities was $2.1 million for the three months ended March 31, 2012 compared to cash used in investing activities of $9.5 million for the same period in 2011. The increase in cash used in investing activities is primarily due to the maturities of marketable securities of $3.2 million and the decrease in purchases of marketable securities of $8.5 million from 2012 to 2011.

 

Cash used in investing activities was $33.8 million and $8.4 million for the years ended December 31, 2011 and 2010, respectively. The year ended December 31, 2011 included $13.2 million in cash used to repurchase shares related to the acquisition of swoodoo in 2010. Cash used in investing activities included the net purchase of $7.2 million in marketable securities in 2011, an increase of $4.3 million from 2010. Cash used for business combinations was $9.2 million in 2011 as compared to $6.8 million in 2010 as discussed in “—Acquisitions” and the notes to our consolidated financial statements.

 

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Cash used in investing activities was $8.4 million for the year ended December 31, 2010 compared to cash provided by investing activities of $7.0 million in 2009. Capital expenditures were $2.3 million in 2010 and 2009. During 2010, we had net purchases of marketable securities of $2.9 million, while in 2009 we had net sales of marketable securities of $9.2 million. In 2009, we sold marketable securities to generate cash used to pay down our term debt. During 2010, we acquired swoodoo for $6.8 million in cash, net, and received $3.6 million in cash from our sale of TravelPost.

 

Cash flows from financing activities

 

Cash provided by financing activities was $0.1 million for the three months ended March 31, 2012 compared to cash used for financing activities of $0.7 million for the same period in 2011. For the three months ended March 31, 2011, we incurred $0.9 million in cash expenses related to the initial public offering.

 

Cash provided by financing activities was $1.8 million for the year ended December 31, 2011 as compared to $5.7 million for the year ended December 31, 2010. Proceeds and tax benefits from the exercise of stock options increased to $3.3 million in 2011 from $0.7 million in 2010. Cash used in connection with the initial public offering during 2011 was $1.5 million. The year December 31, 2010 included proceeds of $3.7 million from the repayment of shareholder loans and proceeds of $1.4 million from the exercise of common stock warrants.

 

Cash provided by financing activities was $5.7 million for the year ended December 31, 2010 compared to cash used for financing activities of $27.2 million for the same period in 2009. The difference was due primarily to $25.3 million used to pay off term loans in 2009. Additionally, in 2009, we provided loans to our shareholders of $2.5 million. These loans, plus earlier loans, were repaid in 2010, resulting in cash proceeds of $3.7 million.

 

Contractual Obligations

 

Our contractual obligations as of December 31, 2011 were as follows:

 

     Amounts due by period
(Dollar amounts in thousands)
 
     Total      Less than
1 year
     1-3
years
     3-5
years
     More than
5 years
 

Operating lease obligations

   $ 6,301       $ 1,697       $ 2,228       $ 1,841       $ 535   

Content licensing and technology agreements

   $ 7,000       $ 7,000       $ —         $ —         $    —     

Total contractual cash obligations

   $ 13,301       $ 8,697       $ 2,228       $ 1,841       $ 535   

 

We lease our office and data center facilities under noncancelable leases that expire at various points through January 2016. See “Business—Facilities” for further discussion of our leased premises. We are also responsible for certain real estate taxes, utilities and maintenance costs on our office facilities. In addition, we have various content licensing and technology agreements that, if renewed, will continue to incur costs in future periods.

 

On April 3, 2012, we entered into a Products and Services Agreement with a technology provider. This agreement obligates us to make minimum future payments of $1.6 million per year for the next four years. On May 31, 2012, we entered into a lease agreement for office space for our international headquarters in Zurich, Switzerland. This lease agreement obligates us to make annual lease payments of CHF 0.2 million in 2012 and CHF 0.6 million in each of 2013 through 2017. On June 4, 2012, we entered into a lease agreement for office space in Stamford, Connecticut. This lease agreement obligates us to make annual lease payments between $0.8 and $0.9 million over the next 12 years.

 

Off-Balance Sheet Obligations

 

We had no off-balance sheet obligations as of March 31, 2012 or December 31, 2011.

 

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Critical Accounting Policies and Estimates

 

We prepare our Consolidated Financial Statements in accordance with accounting principles generally accepted in the U.S. To do so we make estimates and assumptions that affect our reported amounts of assets, liabilities, revenues and expenses, as well as related disclosure of contingent assets and liabilities. In some cases, we could reasonably have used different accounting policies and estimates. In addition, changes in the accounting estimates are reasonably likely to occur from period to period. Accordingly, actual results could differ materially from our estimates. To the extent that there are material differences between these estimates and actual results, our financial condition or results of operations will be affected. We base our estimates on past experience and other assumptions that we believe are reasonable under the circumstances, and we evaluate these estimates on an ongoing basis. We describe our significant accounting policies in Note 2 of our consolidated financial statements found elsewhere in this prospectus. We believe the following critical accounting estimates are the most significant areas of judgments and estimates used to prepare our financial statements.

 

Revenue Recognition

 

We generate revenue when we refer a user to a third-party website, either through our query results or through advertising placements on our websites and by facilitating transactions through our websites and mobile applications. We recognize revenue upon completion of the referral, provided that our fees are fixed and determinable, there is persuasive evidence of the arrangement and collection is reasonably assured, as follows:

 

Distribution Revenues. Revenues are recognized either when a user clicks on a link that refers them to a third-party provider or when the user completes a purchase with the third party provider, depending on terms of the contract. For certain hotels and car rental companies revenue is not earned until the user consumes the travel, in which case we recognize the revenue in the period in which the travel was consumed. Generally, we receive travel consumption reports from travel suppliers and OTAs on a monthly basis which report in detail travel consumed in the immediately prior month.

 

Advertising Revenues. Revenues are recognized when a user clicks on an advertisement that a customer has placed on our website or when we display an advertisement, regardless of whether the user clicks on the advertisement.

 

Stock-Based Compensation

 

Our stock-based compensation expense is estimated at the grant date based on an award’s fair value as calculated by the Black-Scholes option-pricing model and is recognized as expense over the requisite service period. The Black-Scholes model requires various highly judgmental assumptions including expected volatility and option life. If any of the assumptions used in the Black-Scholes model changes significantly, stock-based compensation expense may differ materially in the future from that recorded in the current period. In addition, we are required to estimate the expected forfeiture rate and only recognize expense for those shares expected to vest. We estimate the forfeiture rate based on historical experience. To the extent our actual forfeiture rate is different from our estimate, stock-based compensation expense is adjusted accordingly. Please see Note 13 to our consolidated financial statements found elsewhere in this prospectus for further information regarding our stock-based compensation.

 

Common Stock Valuations

 

For all option grants, the fair value of the common stock underlying the option grants was determined by our board of directors, with the assistance of management. The board of directors and management intended all options granted to be exercisable at a price per share not less than the per share fair value of our common stock underlying those options on the date of grant.

 

To make our estimates, we utilize guidance set forth in the 2004 AICPA Practice Aid, Valuation of Privately-Held Company Equity Securities Issued as Compensation, or the AICPA Guide. We recognize that the

 

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value of our stock changes between valuations and as such, consider other factors when determining the fair value of our stock for the purposes of determining stock compensation expense, such as:

 

Sales of our Common Stock. Sales of our common stock can be a strong indicator of the value of our stock, but do not necessarily determine the value. We consider the volume of shares sold in the transaction, the circumstances of the sale and the sophistication and independence of the buyer in order to determine whether or not the sale indicates a new fair value of our common stock.

 

Sales of our Convertible Preferred Stock. Sales of our convertible preferred stock can assist in estimating the fair value of our common stock. In order to determine the fair value of common after a sale of convertible preferred stock, we consider the volume of shares sold, circumstances of the sale, independence of the buyers and the value of the preferential rights associated with the class of convertible preferred stock sold.

 

Specific Events at KAYAK. In addition to the above factors, we consider significant events at KAYAK that may have impacted our value, such as launch of a new product, signing a significant new customer, significant change in management team, etc.

 

The following sets forth our option grants between January 1, 2009 and June 30, 2012, and discusses our methodology to determine the fair value of our common stock at each grant date.

 

In 2009, we issued options to purchase shares of our common stock at the following exercise prices:

 

Grant Date

   Options Granted      Exercise Price      Fair Value of
Common Stock
     Intrinsic Value  

February 26, 2009

     265,000       $ 15.50       $ 7.50       $ —     

May 19, 2009

     535,000       $ 7.50       $ 7.50       $ —     

July 7, 2009

     2,044,000       $ 7.50       $ 7.50       $ —     

July 22, 2009

     170,000       $ 7.50       $ 7.50       $ —     

November 13, 2009

     255,000       $ 7.50       $ 11.29       $ 3.79   

 

In February 2009, the board of directors determined the fair value of our common stock to be $15.50 based on the last sale of 626,664 shares of our common stock to an independent third party in April 2008. The purchaser of the stock was a sophisticated investor with no previous ownership in our company and which performed adequate due diligence to determine a fair value of $15.50 per share. There were no other significant transactions in our stock from April 2008 to February 2009 and as a result, the board of directors believed that this sale best represented the fair value of our common stock on that date. There was no significant change in our operating results or forecasts during this time period.

 

In early 2009, we estimated the fair value of our common stock as of December 31, 2008 using the market approach and the income approach, in order to assist the board of directors in assigning an exercise price to future stock grants. We believe both of these approaches were appropriate methodologies given our stage of development at that time. For the market approach, we utilized the guideline company method by analyzing a population of comparable companies and selected those technology companies that we considered to be the most comparable to us in terms of product offerings, revenues, margins and growth. We then used these guideline companies to develop relevant market multiples and ratios, which were applied to our corresponding financial metrics to estimate our total enterprise value. We relied on the following key assumptions for the market approach:

 

   

our projected revenues determined as of the valuation date based on our estimates; and

 

   

multiples of market value to expected future revenues, determined as of the valuation date, based on a group of comparable public companies. This group of comparable public companies includes companies in four categories: online travel, e-commerce, advertising and recent IPOs. We select companies from these categories that are similar to us in at least one of the following areas: size, growth, liquidity, profitability and leverage.

 

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For the income approach, we performed discounted cash flow analyses which utilized projected cash flows as well as a residual value, which were then discounted to the present value in order to arrive at our current equity value to arrive at an enterprise value. We relied on the following key assumptions for the income approach in addition to the management projections discussed above:

 

   

discount rate applied to forecasted future cash flows to calculate the present value of those cash flows; and

 

   

terminal value multiple applied to our last year of forecasted cash flows to calculate the residual value of our future cash flows.

 

In determining our enterprise value, we applied equal weighting to market and income approaches, as the indicated equity value under the scenarios was reasonably similar. In allocating the total enterprise value between preferred and common stock, we considered the liquidation preferences of the preferred stockholders and utilized the option-pricing method, or OPM, for calculating a range of values for the common stock, based on the likelihood of various liquidity scenarios. The OPM utilized a volatility factor of 80% based on the peer group above and applied a lack of marketability discount of 20%. We assumed a 30% likelihood of an initial public offering within one year, 10% likelihood of a strategic sale and 60% likelihood of remaining as a private company, which produced an indicated value of our common stock of $6.50—$8.48. We then chose the midpoint of the range to arrive at a common stock value of $7.50. This value was significantly lower than our last indicated value due to an overall decrease in public company comparable multiples of 50%, as well as to our lowered forecasted revenues and cash flows as a result of the poor economy.

 

Based on the results of the appraisal, the board of directors determined that the fair value of our common stock was $7.50 per share. There were no significant transactions involving our common stock or convertible preferred stock during 2009. On July 7, 2009, we entered into amended stock option agreements with certain of our employees pursuant to which we decreased the exercise price on options to purchase 2,044,000 shares of our common stock to $7.50 per share. In consideration for the lower exercise price these employees also agreed to restart the vesting of the options as of July 7, 2009.

 

During the fourth quarter of 2009, we increased our forecasted revenue and cash flows due to a strengthening in our results. Accordingly, we performed an updated valuation of our company as of October 31, 2009. This valuation again calculated an overall enterprise value, but relied on the income approach to calculate the value, as we believed that it best considered our expected high growth and profitability. The market approach was used to validate the results of the income approach, but no weight was assigned to it. In performing our calculations, we relied upon the methodologies described above as of October 31, 2009, however, with respect to our application of the market approach we used a multiple of projected EBITDA instead of revenues due to our recent demonstration of profitability.

 

The enterprise value was then allocated to the various classes of our stock using the OPM and applying a 70% volatility factor and 40% likelihood of an initial public offering within 12 months. We then applied a 20% discount to the value due to lack of marketability to arrive at an estimated fair value of our common stock of $11.29, which the board used to determine the exercise price of future stock option grants.

 

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In 2010, we issued options to purchase shares of our common stock at the following exercise prices:

 

Grant Date

   Options Granted      Exercise Price      Fair Value of
Common Stock
     Intrinsic Value  

February 11, 2010

     325,000       $ 11.29       $ 11.29       $ —     

April 29, 2010

     1,075,000       $ 13.00       $ 13.00       $ —     

July 22, 2010

     205,000       $ 13.00       $ 14.82       $ 1.82   

October 7, 2010

     140,000       $ 14.82       $ 17.60       $ 2.78   

October 20, 2010

     2,079,590       $ 14.82       $ 17.60       $ 2.78   

October 21, 2010

     40,000       $ 15.50       $ 17.60       $ 2.10   

November 15, 2010

     110,000       $ 16.50       $ 17.60       $ 1.10   

December 8, 2010

     235,000       $ 16.50       $ 17.60       $ 1.10   

 

On March 22, 2010, an independent third party investor purchased 769,230 shares of common stock (2.32% of outstanding common equivalents at that time) from existing investors at a price of $13.00 per share. The investor is an institutional investor who previously had no shares in KAYAK and who conducted appropriate due diligence. There were no other significant transactions involving our common stock or convertible preferred stock or significant changes to our business between March 22, 2010 and July 22, 2010. The board of directors concluded that this transaction established the fair value of our common stock which was the best representation of our common stock value at April 29, 2010.

 

We prepared a revised valuation as of July 31, 2010 and utilized the probability weighted expected return method, or PWERM, approach to allocate value to our common shares. The PWERM approach employs various market approach and income approach calculations depending upon the likelihood of a given liquidation scenario and we believed it to be appropriate given our preparations for an initial public offering. We assumed that there was a 40% likelihood of an initial public offering by mid-May 2011, a 30% probability of a strategic sale and 30% likelihood of remaining a private company. We calculated values under each scenario using financial projections as of July 31, 2010 as follows:

 

Initial Public Offering:

 

   

utilized the market approach using the same peer group for comparison as in the October 31, 2009 valuation;

 

   

applied a one-year forward multiple to projected revenues determined as of the valuation date;

 

   

arrived at an implied share price of $25.81 assuming conversion of all convertible preferred stock to common stock; and

 

   

applied a discount for lack of marketability of shares of 17% and discounted the value back to present value using a discount rate of 22% to arrive at a per share price of $18.42.

 

Strategic Sale:

 

   

utilized the market approach using the same peer group for comparison as in the October 31, 2009 valuation;

 

   

applied a multiple to trailing twelve months revenue based on recent representative transactions;

 

   

arrived at an implied enterprise value at the sale and allocated value to various classes of stock based on whether we believed those shares would convert to common stock or remain as convertible preferred stock; and

 

   

applied a discount for lack of liquidity of 3% and discounted the value back to present value using a discount rate of 22% to arrive at a price per common share of $14.72.

 

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Remain as Private Company:

 

   

utilized the income approach and a discount rate of 22% to calculate the present value of expected future cash flows to arrive at an enterprise value; and

 

   

allocated the enterprise value to various classes of shares using the OPM model using a volatility of 48.68% and applied a discount for lack of marketability of 33% to arrive at a price per common share of $10.11.

 

We then applied the probabilities of each liquidity scenario to their respective price per common share to arrive at a value per common share of $14.82.

 

The board of directors approved the issuance of options to purchase our common stock on September 17, 2010 using the fair value established by our valuation. The number of options approved exceeded the amount of available shares in our pool and as a result, we could not grant the options until the pool was increased. Because of the delay in communicating the grants to our employees, the options had a grant date of October 20, 2010. Because the grant date was so much later than the date at which the options were approved and because the possibility of an initial public offering or other liquidity event was increasingly likely, we determined that we should prepare a revised appraisal as of the grant date, which was completed in January 2011.

 

This valuation was performed using the same methodology as described above for our July 31, 2010 valuation; however, given our preparations for a potential initial public offering, the likelihood of an initial public offering scenario increased to 60%, while the probabilities of a strategic sale or remaining as a private company were each assumed to be 20%. We calculated values under each scenario using financial projections as of October 31, 2010 as follows:

 

Initial Public Offering:

 

   

utilized the market approach, but expanded the peer group to include more companies in e-commerce and media, along with technology companies that recently completed initial public offerings;

 

   

applied a 1.5 year forward multiple of EBITDA determined as of the valuation date;

 

   

arrived at an implied share price of $25.69 assuming conversion of all convertible preferred stock to common stock; and

 

   

applied a discount for lack of marketability of shares of 13% and discounted the value back to present value using a discount rate of 19% to arrive at a per share price of $20.34.

 

Strategic Sale:

 

   

utilized the market approach and applied a multiple to trailing twelve months revenue based on recent representative transactions;

 

   

arrived at an implied enterprise value at the sale and allocated value to various classes of stock based on whether we believed those shares would convert to common stock or remain as convertible preferred stock; and

 

   

applied a discount for lack of liquidity of 3% and discounted the value back to present value using a discount rate of 19% to arrive at a price per common share of $15.76.

 

Remain as a Private Company:

 

   

utilized the income approach and a discount rate of 19% to calculate the present value of expected future cash flows to arrive at an enterprise value; and

 

   

allocated the enterprise value to various classes of shares using the OPM model using a volatility of 59.45% and applied a discount for lack of marketability of 33% to arrive at a price per common share of $11.22.

 

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We then applied the probabilities of each scenario to their respective price per common share to arrive at a value per common share of $17.60.

 

In 2011, we issued options to purchase shares of our common stock at the following exercise prices:

 

Grant Date

   Options Granted      Exercise Price      Fair Value of
Common Stock
     Intrinsic Value  

January 25, 2011

     10,000       $ 17.60       $ 17.60       $ —     

March 2, 2011

     70,000       $ 20.00       $ 20.00       $ —     

June 7, 2011

     690,000       $ 21.00       $ 21.00       $ —     

August 16, 2011

     145,000       $ 25.50       $ 25.50       $ —     

October 4, 2011

     65,000       $ 25.50       $ 25.50       $ —     

December 14, 2011

     175,000       $ 20.14       $ 20.14       $ —     

 

We estimated the fair value of our stock at January 25, 2011 using the valuation prepared as of October 31, 2010. There were no significant transactions involving our stock between October 31, 2010 and January 25, 2011 that caused us to believe that this valuation was not still accurate.

 

Concurrent with the grant of options on March 2, 2011, we prepared a revised valuation of our common stock. The valuation was performed using the same methodology as at October 31, 2010; however, given our preparations for a potential IPO we increased the likelihood of an IPO scenario to 85%, while the probabilities of a strategic sale or remaining as a private company were assumed to be 10% and 5%, respectively. We calculated values under each scenario using financial projections as of January 31, 2011 as follows:

 

Initial Public Offering:

 

   

utilized the market approach, with a peer group that included companies in travel and advertising, e-commerce and media, along with technology companies that recently completed IPOs;

 

   

applied a 1.5-year forward multiple of EBITDA determined as of the valuation date;

 

   

arrived at a marketable, minority value of $22.96 per share; and

 

   

applied a discount for lack of marketability of shares of 8% and discounted the value back to present value using a discount rate of 17% to arrive at a per share price of $20.44.

 

Strategic Sale:

 

   

utilized the market approach and applied a multiple to trailing twelve months revenue based on recent representative transactions;

 

   

arrived at an implied enterprise value at the sale and allocated value to various classes of stock based on whether we believed those shares would convert to common stock or remain as convertible preferred stock; and

 

   

applied a discount for lack of liquidity of 3% and discounted the value back to present value using a discount rate of 17% to arrive at a price per common share of $18.75.

 

Remain as a Private Company:

 

   

utilized the income approach and a discount rate of 17% to calculate the present value of expected future cash flows to arrive at an enterprise value; and

 

   

allocated the enterprise value to various classes of shares using the OPM model using a volatility of 55.4% and applied a discount for lack of marketability of 29% to arrive at a price per common share of $12.24.

 

We then applied the probabilities of each scenario to their respective price per common share to arrive at a value per common share of $19.86.

 

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When determining the fair value of our common stock, management and the board of directors considered not only the valuation analysis, but also an offer from one of our investors to purchase a significant number of shares of common stock from another of our shareholders at a price of $20.00. Although the sale was not ultimately consummated, management and the board of directors considered the offer price to be representative of the fair value of our stock as validated by the valuation.

 

Prior to the grant of options on June 7, 2011, we prepared a revised valuation of our common stock. The valuation was performed using the same methodology as was used previously; however, given various uncertainties surrounding our IPO, we decreased the likelihood of the IPO scenario to 50%, while the probabilities of a strategic sale or remaining as a private company were assumed to be 20% and 30%, respectively. We calculated values under each scenario using financial projections as of April 30, 2011 as follows:

 

Initial Public Offering:

 

   

Utilized the market approach, with a peer group that included companies in travel and advertising, ecommerce and media, along with technology companies that recently completed IPOs;

 

   

Applied a 1.5 year forward multiple of EBITDA determined as of the valuation date;

 

   

Arrived at a marketable, minority value of $27.97 per share; and

 

   

Applied a discount for lack of marketability of shares of 7% and discounted the value back to present value using a discount rate of 16% to arrive at a per share price of $24.30.

 

Strategic Sale:

 

   

Utilized the market approach and applied a multiple to trailing twelve months revenue based on recent representative transactions;

 

   

Arrived at an implied enterprise value at the sale and allocated value to various classes of stock based on whether we believed those shares would convert to common stock or remain as convertible preferred stock; and

 

   

Applied a discount for lack of liquidity of 19% and discounted the value back to present value using a discount rate of 16% to arrive at a price per common share of $20.24.

 

Remain as a Private Company:

 

   

Utilized the income approach and a discount rate of 16% to calculate the present value of expected future cash flows to arrive at an enterprise value; and

 

   

Allocated the enterprise value to various classes of shares using the OPM model using a volatility of 56.7% and applied a discount for lack of marketability of 23% to arrive at a price per common share of $15.71.

 

We then applied the probabilities of each scenario to their respective price per common share to arrive at a value per common share of $20.91.

 

When determining the fair value of our common stock, management and the board of directors considered not only the valuation analysis, but also recent sales of our stock to current investors. On April 20, 2011, an individual who was not an employee of the Company sold 201,409 shares of common stock, 173,591 shares of Series A Preferred Stock and 225,000 shares of Series B-1 Preferred Stock to an existing investor at $17.75 per share. On May 13 and May 20, 2011, two Company executives sold a total of 400,000 shares of Series A Preferred Stock for $21.00 per share to an existing investor.

 

Based on the valuation, recent significant sales of stock and knowledge of our financial performance and condition, the board of directors determined the value of our common stock to be $21.00 per share.

 

 

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In August 2011, and in connection with our anticipated IPO, we engaged in discussions regarding an initial offering price range. Based on these discussions, the board of directors determined the fair value of our common stock based on the midpoint of the estimated price range at that time. As a result, the board of directors set the fair market value at $25.50, and options granted on August 16, 2011 and October 4, 2011 were granted with an exercise price equal to this amount.

 

Subsequent to setting a value in August 2011, market conditions deteriorated worldwide, and we elected at that time to delay the launch of our IPO pending a change in market conditions. Furthermore, because the value of equity securities of companies in our peer group declined significantly during this period, we elected to prepare a revised valuation of our common stock prior to the stock option grant on December 14, 2011. The valuation was performed using the same methodology as was used previously; however, we increased the likelihood of the IPO scenario to 75%, while the probabilities of a strategic sale or remaining as a private company were assumed to be 20% and 5%, respectively. We calculated values under each scenario using financial projections as of October 31, 2011 as follows:

 

Initial Public Offering:

 

   

Utilized the market approach, using the same peer group as in prior valuations, adjusting to include more companies that recently completed IPOs;

 

   

Applied a 1.5 year forward multiple of EBITDA determined as of the valuation date; and

 

   

Applied a discount for lack of marketability of shares of 7% and discounted the value back to present value using a discount rate of 15% to arrive at a price per common share of $20.49.

 

Strategic Sale:

 

   

Utilized the market approach and applied a multiple to trailing twelve months revenue based on recent representative transactions;

 

   

Arrived at an implied enterprise value at the sale and allocated value to various classes of stock based on whether we believed those shares would convert to common stock or remain as convertible preferred stock; and

 

   

Applied a discount for lack of liquidity of 15% and discounted the value back to present value using a discount rate of 15% to arrive at a price per common share of $20.34.

 

Remain as a Private Company:

 

   

Utilized the income approach and a discount rate of 15% to calculate the present value of expected future cash flows to arrive at an enterprise value; and

 

   

Allocated the enterprise value to various classes of shares using the OPM model with a volatility of 53% and applied a discount for lack of marketability of 22% to arrive at a price per common share of $14.08.

 

We then applied the probabilities of each scenario to their respective price per common share to arrive at a value per common share of $20.14. The decrease in the value per common share since October 4, 2011 reflected declines in the value of the equity securities in our peer group and the continued deterioration of worldwide capital markets. On December 14, 2011, the board of directors approved the grant of options to purchase shares of our common stock using the fair value established by this valuation.

 

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For the period from January 1, 2012 through June 30, 2012, we have issued options to purchase shares of our common stock at the following exercise prices:

 

Grant Date

   Options Granted      Exercise Price      Fair Value of
Common Stock
     Intrinsic Value  

February 7, 2012

     85,000       $ 20.14       $ 20.14       $   

April 10, 2012

     378,000       $ 25.50       $ 25.50       $   

May 3, 2012

     163,500       $ 26.50       $ 26.50       $   

 

The board of directors approved the issuance of options to purchase our common stock on February 7, 2012 using the fair value established by the valuation performed as of October 31, 2011. There were no significant transactions involving our stock between October 31, 2011 and February 7, 2012 that caused us to believe that this valuation was not still accurate.

 

We again performed a valuation of our common stock in late March 2012. The valuation was performed using the same methodology as was used previously; however, we increased the likelihood of the IPO scenario to 85%, while the probabilities of a strategic sale or remaining as a private company were 10% and 5%, respectively. We calculated values under each scenario using financial projections as of February 29, 2012 as follows:

 

Initial Public Offering:

 

   

Utilized the market approach, using the same peer group as in prior valuations, adjusting to include more companies that recently completed IPOs;

 

   

Applied a 1.5 year forward multiple of EBITDA determined as of the valuation date; and

 

   

Applied a discount for lack of marketability of shares of 8% and discounted the value back to present value using a discount rate of 13% to arrive at a price per common share of $23.30.

 

Strategic Sale:

 

   

Utilized the market approach and applied a multiple to trailing twelve months EBITDA based on recent representative transactions;

 

   

Arrived at an implied enterprise value at the sale and allocated value to various classes of stock based on whether we believed those shares would convert to common stock or remain as convertible preferred stock; and

 

   

Applied a discount for lack of liquidity of 14% and discounted the value back to present value using a discount rate of 13% to arrive at a price per common share of $21.91.

 

Remain as a Private Company:

 

   

Utilized an equal weighting of the income approach and a discount rate of 13% and the market multiple approach based on trailing twelve month revenue to calculate the present value of expected future cash flows to arrive at an enterprise value; and

 

   

Allocated the enterprise value to various classes of shares using the OPM model with a volatility of 51% and applied a discount for lack of marketability of 21% to arrive at a price per common share of $19.63.

 

In April 2012, we began preparing for the launch of our IPO. As a result of continuing discussions, our board of directors evaluated our March 2012 valuation discussed above, current market conditions and preliminary estimates of an IPO offering price. To arrive at the preliminary estimates of an IPO offering price, our advisors primarily focused on current market conditions and the value of comparable companies. This differs from our March 2012 valuation, in that our advisors reviewed a different set of comparable companies and in addition focused their analysis on a smaller subset of comparable companies that are more closely related to our

 

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business. In determining the fair market value of our common stock in April 2012, our board of directors considered all relevant information, including our March 2012 valuation and the preliminary estimates of an IPO offering price provided by our advisors. During this evaluation, our board of directors gave more weight to the approach used by our advisors because they believed it more accurately reflected the price at which our stock would be priced upon an IPO, and therefore selected $25.50 as the fair value as of April 10, 2012. Accordingly, options granted on April 10, 2012 were granted with an exercise price of $25.50.

 

In early May 2012, our board of directors discussed two potential price ranges for common stock in our anticipated IPO in light of market conditions prevailing at that time, and selected $26.50 as the fair value as of May 3, 2012. This price was selected primarily due to increases in the market value of comparable companies. Accordingly, options granted on this date had an exercise price of $26.50.

 

In July 2012, our board of directors again evaluated revised estimated price ranges prepared by our advisors in light of market conditions prevailing at that time to establish the price range set forth on the cover of the preliminary prospectus issued July 9, 2012. This revised price range, the midpoint of which was $23.50, resulted largely from market conditions prevailing as of the date of that prospectus, the decrease in valuation of comparable companies and the performance of recently completed public offerings.

 

Based upon our initial public offering price of $26.00 per share, the aggregate intrinsic value of outstanding options to purchase shares of our common stock as of March 31, 2012 would have been $137.3 million, of which $98.9 million related to vested options and $38.4 million to unvested options.

 

Income Taxes

 

We are subject to income taxes in the U.S. and some foreign jurisdictions. We use estimates and exercise significant judgment to calculate our deferred taxes, tax from uncertain tax positions, and the overall income tax provision/(benefit). As a result, ultimate settlement of our tax positions may differ from the amounts accrued and may result in an increase or decrease to income tax expense in our results of operations in the future.

 

Realization of the future tax benefits depends on many factors, including our ability to continue to generate taxable income within the net operating loss carryforward period. Prior to 2009, we did not have sufficient history of generating taxable income to support the assumption that it was more likely than not that future tax benefits would be realized and as such, a full valuation reserve was recorded against the net deferred tax asset. In 2009, based on historical and expected operating results, we determined that it was more likely than not that future tax benefits would be realized and released the valuation allowance of $3.9 million. In 2010, we recorded a valuation allowance against certain state deferred tax assets attributable to net operating losses as a result of a change in our state allocation. There was no significant change to the valuation allowance in 2011.

 

Our effective tax rate has differed from the statutory rate primarily due to the impact of state taxes, nondeductible stock compensation expense and lower tax rates outside the United States. Our 2011 effective tax rate was 40.8%.

 

Acquisitions

 

We account for acquisitions using the purchase method of accounting. In each case, we allocated the purchase price to the assets acquired, including intangible assets and liabilities assumed, based on estimated fair values at the date of the acquisition.

 

Recoverability of Intangible Assets, Including Goodwill

 

Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. When such events occur, we compare the carrying amounts of the assets to their undiscounted expected future cash flows. If this comparison indicates that there is

 

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impairment, the amount of the impairment is calculated as the difference between the carrying value and fair value. Goodwill is tested for impairment at least annually and whenever events or changes in circumstances indicate that goodwill may be impaired. Goodwill represents the excess of the cost of acquired business over the fair value of the assets acquired at the date of acquisition. Based on our most recent annual analysis, we believed that the fair values of our reporting units exceeded their carrying values by a significant amount and therefore no impairment of goodwill was recorded. Our goodwill is not deductible for tax purposes.

 

JOBS Act

 

On April 5, 2012, the JOBS Act was signed into law. The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies.

 

As defined in the JOBS Act, a public company whose initial public offering of common equity securities occurred after December 8, 2011 and whose annual gross revenues are less than $1.0 billion will, in general, qualify as an “emerging growth company” until the earliest of:

 

   

the last day of its fiscal year following the fifth anniversary of the date of its initial public offering of common equity securities;

 

   

the last day of its fiscal year in which it has annual gross revenue of $1.0 billion or more;

 

   

the date on which it has, during the previous three-year period, issued more than $1.0 billion in non-convertible debt; and

 

   

the date on which it is deemed to be a “large accelerated filer,” which will occur at such time as the company (a) has an aggregate worldwide market value of common equity securities held by non-affiliates of $700 million or more as of the last business day of its most recently completed second fiscal quarter, (b) has been required to file annual and quarterly reports under the Securities Exchange Act of 1934 for a period of at least 12 months, and (c) has filed at least one annual report pursuant to the Securities Act of 1934.

 

Under this definition, we will be an “emerging growth company” upon completion of this offering and could remain an emerging growth company until as late as December 31, 2017.

 

As an “emerging growth company” we have elected under the JOBS Act to delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies. As a result, our financial statements may not be comparable to the financial statements of issuers who are required to comply with the effective dates for new or revised accounting standards that are applicable to public companies. Additionally, we are in the process of evaluating the benefits of relying on the other reduced reporting requirements provided by the JOBS Act.

 

Subject to certain conditions set forth in the JOBS Act, if, as an “emerging growth company”, we choose to rely on such exemptions we may not be required to, among other things, (i) provide an auditor’s attestation report on our system of internal controls over financial reporting pursuant to Section 404, (ii) provide all of the compensation disclosure that may be required of non-emerging growth public companies under the Dodd-Frank Wall Street Reform and Consumer Protection Act, (iii) comply with any requirement that may be adopted by the PCAOB regarding mandatory audit firm rotation or a supplement to the auditor’s report providing additional information about the audit and the financial statements (auditor discussion and analysis), and (iv) disclose certain executive compensation related items such as the correlation between executive compensation and performance and comparisons of the CEO’s compensation to median employee compensation.

 

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Quantitative and Qualitative Disclosures about Market Risk

 

We are exposed to market risks in the ordinary course of our business. These risks primarily consist of foreign exchange and interest rate risks.

 

Foreign Exchange Risk

 

We transact business in various foreign currencies and have some international revenues and costs which are denominated in foreign currencies. This exposes us to foreign currency risk. At this time, our exposure is immaterial, given that the vast majority of our transactions, income and expenses are in U.S. dollars. If exchange rates were to fluctuate significantly, we would see higher gains or losses from transactions in the “General and Administrative” line of our statement of operations, and larger cumulative translation adjustments in the “Accumulated Other Comprehensive Income” category of our consolidated balance sheet. The volatility of exchange rate is dependent on many factors that we cannot forecast with reliable accuracy. At this time we do not, but we may in the future, enter into derivatives or other financial instruments in an attempt to hedge our foreign currency exchange risk. It is difficult to predict the impact hedging activities would have on our results of operations.

 

Interest Rate Risk

 

We invest our excess cash primarily in highly liquid debt instruments of the U.S. government and its agencies, municipalities in the U.S., debt instruments issued by foreign governments, time deposits, money market and other funds, and corporate debt securities. By policy, we limit the amount of credit exposure to any one issuer.

 

Investments in both fixed rate and floating rate interest earning securities carry a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to a rise in interest rates, while floating rate securities may produce less income than predicted if interest rates fall. Due in part to these factors, our income from investments may decrease in the future.

 

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BUSINESS

 

Overview

 

We are a technology-driven company committed to improving online travel. Cofounders of Expedia, Travelocity and Orbitz started KAYAK in 2004 to take a better approach to finding travel online. Our websites and mobile applications enable people to easily research and compare accurate and relevant information from hundreds of other travel websites in one comprehensive, fast and intuitive display. We also provide multiple filtering and sorting options, travel management tools and services such as flight status updates, pricing alerts and itinerary management. Once users find their desired flight, hotel or other travel products, KAYAK sends them to their preferred travel supplier or OTA website to complete their purchase, and in many cases, users may now complete hotel bookings directly through our websites and mobile applications.

 

KAYAK’s services are free for travelers. We offer travel suppliers and online travel agencies, or OTAs, an efficient channel to sell their products and services to a highly targeted audience focused on purchasing travel. We earn revenues by sending referrals to travel suppliers and OTAs and from a variety of advertising placements on our websites and mobile applications.

 

Since our commercial launch in 2005, KAYAK has experienced significant growth:

 

   

For the three months ended March 31, 2012, we generated $73.3 million of revenues, representing growth of 39% over the three months ended March 31, 2011;

 

   

For the three months ended March 31, 2012, we generated income from operations of $8.1 million as compared to a loss from operations of $12.0 million for the three months ended March 31, 2011. After adjusting for a $15.0 million impairment charge related to our decision to stop supporting the SideStep brand name, operating income for the three months ended March 31, 2012 increased by 174% over the same period in 2011;

 

   

For the three months ended March 31, 2012, we had Adjusted EBITDA of $13.1 million representing growth of 61% over the three months ended March 31, 2011. Adjusted Earnings Before Interest, Taxes, Depreciation and Amortization, or Adjusted EBITDA, is a non-generally accepted accounting principle metric used by management to measure our operating performance. See “—Summary Consolidated Historical Operating Data” for an additional description of Adjusted EBITDA and a reconciliation of Adjusted EBITDA to income (loss) from operations;

 

   

For the three months ended March 31, 2012, we processed 310 million user queries for travel information, representing growth of 45% over the three months ended March 31, 2011; and

 

   

KAYAK mobile applications have been downloaded over 15 million times since their introduction in March 2009. For the three months ended March 31, 2012, we had approximately 3 million downloads, representing growth of 43% over the three months ended March 31, 2011.

 

As of June 30, 2012, we had 185 employees, and we had local websites in 15 countries outside the U.S., including the United Kingdom, Germany, France, Spain, Italy and Austria.

 

Our Industry

 

Market Opportunity

 

As a distribution and advertising platform, we participate in both the online travel market and the online travel advertising market.

 

Online Travel: A Large and Growing Market

 

The travel industry in the U.S., Europe, Latin America and Asia Pacific accounted for $910 billion in global expenditures in 2011, and is projected to increase 6% in 2012. Online leisure and unmanaged business travel

 

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spend, or online travel spend, was approximately $284 billion of this amount, or 31%, with this category increasing at a 16% CAGR between 2005 and 2011. We believe that travel, with its research and information intensive nature, real-time pricing, electronic fulfillment capabilities and thousands of travel options, is well-suited for the online channel. Currently, online travel represents the largest category of e-commerce, with total sales exceeding the combined total of electronics, books, software, appliances and collectibles. Online travel spend is projected to increase 10% in 2012, growing to represent 33% of total travel purchases in 2012.

 

The online travel industry is composed of thousands of travel supplier and OTA websites, which compete for travel bookings. In 2011, travel supplier websites accounted for 63% of total online travel bookings, and the remaining 37% was provided by OTAs.

 

The Global Opportunity

 

In the U.S., the online travel market increased at a 9% CAGR from 2005 through 2011, reaching $105 billion in 2011, which was 39% of total U.S. travel spend. The U.S. online travel market is projected to grow 9% in 2012.

 

In Europe, the online travel market grew at a 20% CAGR from 2005 through 2011, reaching $107 billion in 2011, which was 35% of total European travel spend. The European online travel market is projected to grow 8% in 2012. The U.K., France and Germany collectively represent 66% of the overall European online travel market.

 

In Asia, the online travel market grew at a 25% CAGR from 2005 through 2011, reaching $62 billion in 2011, which represented 23% of total Asian travel spend. As Internet usage, broadband adoption and online payment capabilities continue to rapidly increase, the Asian online travel market is projected to grow 14% in 2012.

 

In Latin America, the online travel market grew at a 33% CAGR from 2008 through 2011, reaching $11 billion in 2011, which was 18% of total Latin American travel spend. A combination of factors, including strong economic gains, government initiatives, an expanding middle class and heightened awareness and adoption of technology, are transforming Latin America’s online travel market, which is expected to grow 29% in 2012.

 

Key Online Travel Products

 

The two largest categories of online travel are airline ticket sales and hotel bookings. In 2011, airline ticket sales represented 53% of total online travel purchases, followed by hotel bookings at 26%.

 

Airline tickets are the most common travel product researched and purchased online, with global online sales reaching 39% of overall global airline ticket sales in 2011. Online airfare sales are projected to grow 9% in 2012. There are hundreds of airlines in operation, and the large choice of flight combinations and pricing options, highly variable real-time pricing and the advent of e-ticketing make flights well suited to online research and purchasing. We believe that the combination of choice and variability leads to a lack of confidence among users in the accuracy and comprehensiveness of flight data. Users often search for flights multiple times and on multiple travel websites.

 

Hotel bookings are the fastest growing online travel category. Online hotel bookings are projected to grow 13% in 2012. Additionally, only 24% of 2011 hotel bookings occurred online. The hotel market is a highly fragmented travel category, with hundreds of thousands of properties worldwide. This often leaves potential travelers with hundreds of properties to choose from in any given city. Given the significant differentiation among hotels, travelers will typically spend considerable time online researching a hotel stay, making hotel bookings highly suitable for the online channel. We believe that the number of consumer choices combined with the predominately fixed nature of hotel operating costs, results in a willingness of hoteliers to pay a premium for quality referrals.

 

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Online Travel Advertising: A Large Opportunity to Grow Share of Total Advertising Spend

 

Online advertising is a large and growing market. The combined online and offline advertising spend for all products and services in 2011 was $631 billion. Of this amount, $83 billion, or 13%, was spent online. Furthermore, for the period from 2011 through 2015, online advertising is projected to grow at a 14% CAGR, as compared to the 5% CAGR projected for combined online and offline advertising.

 

Travel represents one of the largest advertising categories, with advertisers spending $33 billion globally on travel-related advertising in 2011. Of this amount, only $5 billion, or 16%, was spent online with the remainder being spent primarily on traditional media, up from $1.4 billion, or 5% of total travel advertising spend in 2005. This represents a 25% CAGR in online travel advertising spend between 2005 and 2011. We believe that travel advertising will continue to move from offline to online as travel purchases continue to move online. Online travel advertising can also be a more efficient advertising channel, as it enables advertisers to directly target individuals who are researching and planning travel. The online travel advertising market is expected to reach $9 billion by 2015, a CAGR of 14% between 2011 and 2015.

 

Key Trends in Mobile Travel Planning

 

Mobile phone adoption across the world continues to grow at a rapid pace, creating a strong marketplace for mobile travel applications. The percentage of leisure travelers using or likely to use a mobile phone to research travel products, such as hotel rooms or flights, increased from 39% in 2010 to 55% in 2011. Similarly, the percentage of travelers using or likely to use a mobile phone to book such travel products increased from 35% in 2010 to 38% in 2011. We expect that over time, an increasing number of people will use their mobile devices for travel research, planning and booking. Today, there are more than 2,000 travel-related applications available for the iPhone, Android and BlackBerry.

 

The opportunity for mobile advertising is large and growing. Global mobile advertising spend is expected to grow from $4 billion in 2011 to $18 billion in 2015, a 46% CAGR. We believe the mobile medium provides a unique opportunity for advertisers to reach travelers with immediately actionable, personalized and context-relevant travel offers.

 

Challenges of Our Industry

 

Challenges for Consumers

 

The Internet has dramatically increased the amount of information readily available to travelers. Planning travel online should be a quick and easy process. However, prices and availability change frequently, and information is often fragmented across hundreds of travel sites. Traditional travel websites can be slow and confusing and often lack comprehensive search results. A 2010 survey by Forrester Research Inc. showed increasing dissatisfaction among users with the online booking experience. Only 47% of U.S. online leisure travelers surveyed said they enjoy using the internet to plan and buy travel, down from 53% in 2007. The same survey showed that only 37% of U.S. online leisure travelers believed that travel websites clearly present choices and tradeoffs, down from 39% in 2008. These limitations can make it frustrating for people to find, purchase and manage their travel online. As a result, we believe that travelers continue to search multiple sites for the best prices and options to meet their travel needs.

 

Challenges for Travel Suppliers and OTAs

 

Travel suppliers and OTAs face two main challenges. One is to distribute their travel products to as many travelers as possible, while still maintaining their brand and owning the customer relationship. In distributing their travel inventory through third party sites, they lose the opportunity to cross sell or upsell additional products and to build brand loyalty. The second challenge they face is to advertise their services to the right audience at the right time, in a cost effective manner. The majority of travel advertising dollars is currently spent in offline media channels, including TV, radio, print and outdoor campaigns. Offline travel advertising can be expensive,

 

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and its effectiveness can be difficult to measure and track. Online advertising offers many improvements to traditional advertising, but can still suffer from audience fragmentation, generic advertising placements and complex pricing schemes. Many online advertising platforms do not solve this combination of problems effectively.

 

Our Strengths

 

KAYAK Provides a Fast, Intuitive and Comprehensive Travel Planning Experience

 

KAYAK creates a better way to shop for travel online. We use proprietary software and algorithms to quickly find, consolidate and sort travel information from hundreds of websites. We present these results through an intuitive interface, providing a single place for our users to plan their travel. During the first three months of 2012, 310 million user queries for travel information were processed through our websites and mobile applications. Once a KAYAK user finds what they want to buy, we give them the flexibility to purchase directly from travel suppliers or through OTAs, and in some cases, they can complete their bookings directly through our websites and mobile applications.

 

KAYAK is a Technology-Driven Company Focused on Rapid Innovation and the User Experience

 

We dedicate the majority of our attention to developing high performance technology. This technology powers our websites and mobile applications by rapidly searching through the large and complex range of travel industry data and presenting it in a clear and intuitive manner. Our proprietary technology detects and removes inaccurate prices or results in this data. Our ranking software algorithm also determines which results are likely to be the most relevant to the user. Our focus on technology is reflected in our employee base. The majority of our employees are either software engineers or technologists, and we believe we have one of the strongest technology teams in the travel industry. We strive to innovate faster than our competitors, and we release new code to our websites almost every week. Our mobile applications are examples of our development capabilities.

 

KAYAK’s Users are Loyal

 

We believe that our users are loyal to our brands, products and services. According to a March 2012 study conducted by TNS Custom Research, Inc. on our behalf, KAYAK is a leading brand among the major online travel sites in the U.S. for attributes such as “Finds all the best prices in one place,” “Smarter way to search for travel online” and “Most comprehensive travel search.” In the first three months of 2012, 75% of our query volume was generated from people who directly visited our websites, and only 10% of our query volume was generated by users referred to us from general search engines.

 

KAYAK’s Proprietary Distribution and Advertising Platform is Optimized for the Travel Industry

 

We provide travel suppliers and OTAs with access to a valuable audience of people searching for travel information. We also offer these travel companies multiple ways to reach this audience through both our query results and a variety of advertising placements.

 

On the distribution side, our query results include real-time pricing and availability information from travel suppliers, OTAs and technology providers. We query and display information in direct response to a KAYAK user’s query parameters. Our sorting and filtering tools allow users to narrow the query results to meet their specific travel plans. If a user then selects one of these results, we send them directly into the travel supplier’s or OTA’s purchase process or in many cases, users may complete hotel bookings directly through our websites or mobile applications.

 

On the advertising side, our innovative platform allows advertisers to target their placements, create advertising content and link the user to the relevant page on the advertiser’s website, all based on the user’s search parameters. As examples, an airline can limit its advertisements to appear only for the cities that it serves, or a

 

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hotelier can purchase advertisements only for dates where its occupancy rates are low. By dynamically creating the content of their advertisements based on these specific search parameters, the airline can include the cities the users searched in their advertisement and the hotelier can advertise a special rate to try to increase their occupancy. The same search parameters can be passed through to an advertiser after a potential traveler clicks on one of their advertisements. This lets the advertiser show the traveler products which meet his or her specific travel needs, without requiring the traveler to do additional work. We believe that our ability to pass a prospective traveler through to the relevant booking page increases the likelihood that a transaction will be completed.

 

KAYAK’s Unique Business Model is Highly Scalable

 

We designed our business model and technology platform to be highly scalable and cost efficient. Our software and systems have been designed from inception to handle significant growth in users and queries, without requiring significant re-engineering or major capital expenditures. In addition, we use a combination of our own proprietary software, public domain technologies and tiered pricing arrangements with third-party software providers so that as queries continue to grow, we do not incur proportionately higher software costs. Since all travel products are purchased by our users directly on the travel supplier’s or OTA’s website or through third-party booking and fulfillment providers, we do not incur meaningful costs or overhead associated with fulfillment or customer service for those travel products. We have relatively low fixed operating costs, and the largest component of our variable operating cost is discretionary marketing.

 

The KAYAK Team Has Deep Industry Experience and Focus

 

Cofounders of Expedia, Travelocity and Orbitz formed KAYAK in 2004. Our team has extensive and longstanding relationships across the travel industry and, unlike general search engine companies, we focus on a single market category—online travel. Our mission is to build the best assortment of tools and services to meet the needs of travelers. To accomplish our goal, we have assembled technology and business teams, which each include people that have worked together over many years. In addition to the strength of our management team, our investors include some of the most prominent venture capital and private equity firms, including Sequoia Capital, Accel Partners, General Catalyst Partners and Oak Investment Partners.

 

Our Growth Strategy

 

Continue to Improve and Expand Our Services

 

We are dedicated to offering people the best online travel planning experience. To provide the most comprehensive set of results, we maintain relationships with hundreds of travel suppliers and OTAs and regularly add new sources of travel information. We continue to develop better software and algorithms to reduce the time required to perform a query, enhance the relevance of the results and make the booking path easier for travelers. Additionally, we constantly review the feature set and design of our websites and mobile applications for areas of improvement, and we release new code to our websites on nearly a weekly basis. Examples of enhancements to our offering include the introduction of KAYAK on multiple mobile platforms, a trip management tool, KAYAK Explore, a map-based search feature and the ability for users to complete bookings directly through us.

 

Expand Our Booking Path Capabilities

 

We believe that many consumers would prefer to complete their bookings without having to leave our websites and mobile applications. In March 2011, we added the capability for consumers to make hotel reservations through our U.S. website. Since introducing our booking path capability, we have grown our share of hotel booking path clicks from 2% in March 2011 to 39% in the first three months of 2012. We have also introduced this feature on our mobile applications and across other geographies, and on a limited basis, for airline tickets and rental cars. Consumers benefit from a more seamless user experience, and we benefit from an increase in transactions, which generate revenue at a higher average rate per transaction. We intend to further extend this capability for flights and rental cars.

 

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Increase Consumer Awareness of Our Brands

 

We believe there is significant opportunity to increase the number of people who use our websites and mobile applications. According to studies conducted by TNS Custom Research, Inc. on our behalf, as of October 2009, only 9% of online travelers in the U.S. included KAYAK in an unprompted list of online travel sites, known as “unaided awareness.” Since that time, we commenced a broad reach marketing program, which resulted in our unaided awareness increasing to 32% for the month of March 2012. By comparison, the four highest rated travel brands in this category had an average unaided awareness of 49%, according to this survey. We will continue to invest in broad reach marketing to increase our brand awareness and usage.

 

Grow Our Business Internationally

 

We operate websites in 15 countries outside of the U.S., including Germany, the United Kingdom, France, Spain, Italy and Austria. We believe that the international opportunity for our services is sizable, and we intend to continue to invest in both headcount and marketing in 2012 and 2013. As part of this strategy, we acquired swoodoo, a leading German travel search company, in May 2010 and checkfelix.com, a leading Austrian travel search company, in April 2011. Furthermore, we established a team headquartered in Zurich, Switzerland to coordinate our European efforts.

 

Extend our Leadership Position in Mobile Applications

 

Mobile devices represent an important growth area in both audience and query volume. Smartphone adoption and usage are increasing quickly, and new touch screen devices like the Apple iPad provide opportunities for innovation in features and functionality. We have seen rapid adoption of our KAYAK mobile applications – with over 15 million downloads across several mobile platforms since the release of our first mobile application in March 2009. We believe that our leadership position in travel-related mobile applications, which we plan to extend through continued product development, will enhance the loyalty to our brand, products and services.

 

Our Brands – KAYAK, swoodoo, and checkfelix.com

 

We operate our websites and mobile applications under three brands: KAYAK, swoodoo and checkfelix.com. Each of these brands provides the same core set of free services including flight, hotel and other travel search, flight status updates, pricing alerts and itinerary management.

 

We use our KAYAK brand across multiple platforms including: KAYAK.com; local websites in 15 countries outside of the U.S.; a mobile website, m.KAYAK.com; and the KAYAK mobile smartphone applications currently available on the iPhone, iPad, Android, BlackBerry, Symbian and other platforms. KAYAK branded websites and mobile applications account for most of our query volume, and we will focus our future growth efforts on building the KAYAK brand in the U.S. and in key international markets and growing the swoodoo brand in Germany.

 

The SideStep brand, which we acquired in December 2007, was used for our sidestep.com website. In January 2011, we determined that we would not support two brand names and URLs in the United States and began redirecting traffic from sidestep.com to KAYAK.com. The swoodoo brand, which we acquired in May 2010, is used for our swoodoo.com website and the related mobile travel application, which is a leading travel search platform in Germany. We acquired JaBo Vertrieb-und Entwicklung GmbH, which supported the checkfelix.com brand, in April 2011. Checkfelix.com is a leading travel search platform in Austria.

 

Our Distribution and Advertising Platform

 

Our websites offer travel suppliers and OTAs an efficient and flexible platform to distribute their travel products through our query results and to advertise throughout our website. We also provide our services on a co-branded, revenue sharing basis through certain third party websites, such as Bing Travel. We are continuing the development of a distribution and advertising platform for our mobile applications.

 

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Distribution Revenues

 

We generate distribution revenues by sending qualified leads to travel suppliers and OTAs and by facilitating hotel bookings directly through our websites and mobile applications. After a user has entered a query on our website, reviewed the results, and decided what travel product they are interested in buying, we send the user directly into the travel supplier’s or OTA’s purchase process to complete the transaction, and in many cases, users may now complete hotel bookings directly through our websites and mobile applications. Travel suppliers and OTAs have the flexibility to pay us either when these qualified leads click on a query result or when they purchase a travel product on the travel supplier or OTA website. Booking and fulfillment providers pay us after a user completes a booking through the KAYAK websites or mobile applications. We separately negotiate and enter into our distribution agreements, and these agreements set forth the negotiated payment terms for the applicable travel supplier, OTA or booking and fulfillment providers. Travel suppliers and OTAs are generally able to select the payment terms in these agreements based on what best suit their needs.

 

Advertising Revenues

 

We have a proprietary advertising platform called the KAYAK Network, or KN. KN allows advertisers to target the placement and message of their advertisements to the search parameters entered by our users, such as the traveler’s origin, destination and desired travel dates. This technology allows advertisers to target their advertisements better, create more effective messages and to transfer users to their websites more efficiently. Our platform allows advertisers to limit placements to instances when the advertiser has an offer that is relevant to a user’s query. For example, an airline can ensure it only advertises when a user searches for a route offered by such airline, and a hotelier can ensure it only advertises to users who have searched for dates when the hotelier has low occupancy. We also enable advertisers to use a traveler’s search parameters to dynamically create targeted messages, and after the traveler clicks on an advertisement, we can pass the same search information through to the advertiser, thus increasing the likelihood of a purchase on their website.

 

Our platform gives advertisers flexibility in terms of placement types and payment structures. We offer a variety of advertising inventory including text-based sponsored links, graphical display advertisements, mobile advertisements and email-based placements. We also offer a variety of payment terms including cost per click, cost per impression, cost per acquisition or fixed fees.

 

Technology and Infrastructure

 

KAYAK is a technology-driven company. Our technology platform powers our websites and mobile applications by rapidly searching through the complex and fragmented range of travel industry data and presenting comprehensive and relevant travel query results to the user in a clear and intuitive manner.

 

Search Capabilities

 

Our software and systems have been designed from inception to handle significant growth in users and queries, without requiring significant re-engineering or major capital expenditures. In the first three months of 2012, we received and processed 310 million user queries for travel information.

 

When a travel query is entered on one of our websites or mobile applications, our technology platform analyzes the travel parameters, determines which websites and other travel databases have relevant travel information and then queries those multiple sources in parallel. Many of those sources operate with differing protocols, and therefore return results in slightly different ways and in differing time frames. Our platform gathers, prioritizes and standardizes this travel data. Our proprietary software then detects and eliminates inaccurate prices or results in this data, and our ranking software then determines which results are likely to be the most relevant and useful to the user. Our technology platform completes these processes and returns a comprehensive and relevant set of results within moments of receiving the travel query from the user.

 

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Website Design and Hosting

 

Reliability, speed and integrity are important to us. We have designed our websites and mobile applications using a combination of our own proprietary software and a variety of open source o